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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-KSB
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [Fee Required]
For the fiscal year ended March 31, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
[No Fee Required]
For the transition period from __________________ to __________________
COMMISSION FILE NUMBER 0-27170
CLASSIC BANCSHARES, INC.
(Exact Name of Small Business Issuer as Specified in its Charter)
Delaware 61-1289391
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
344 Seventeenth Street, Ashland, Kentucky 41101
(Address of principal executive offices) (Zip Code)
Issuer's telephone number, including area code: (606) 325-4789
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 $.01 per share
(Title of Class)
Check whether the Issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past twelve months (or for
such shorter period that the Issuer was required to file such reports), and (2)
has been subject to such requirements for the past 90 days. YES [X] NO [ ]
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of Issuer's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [X]
The Issuer had $10.4 million in gross income for the year ended March 31,
1998.
As of June 15, 1998, there were issued and outstanding 1,299,590 shares of
the Issuer's Common Stock. The aggregate market value of the voting stock held
by non-affiliates of the Issuer, computed by reference to the average of the
closing bid and asked price of such stock on the Nasdaq SmallCap Market as of
June 15, 1998 was approximately $15.1 million. (The exclusion from such amount
of the market value of the shares owned by any person shall not be deemed an
admission by the Issuer that such person is an affiliate of the Issuer.)
DOCUMENTS INCORPORATED BY REFERENCE
PART II of Form 10-KSB--Portions of Annual Report to Stockholders for the fiscal
year ended March 31, 1998. PART III of Form 10-KSB--Proxy Statement for the 1998
Annual Meeting of Stockholders.
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<PAGE>
PART I
Item 1. Business
General
Classic Bancshares, Inc. ("Classic" or the "Company") a Delaware
corporation, is a bank holding company which has as its primary wholly-owned
subsidiaries Classic Bank (formerly known as Ashland Federal Savings Bank), a
federal savings bank, and The First National Bank of Paintsville ("Paintsville
Bank"). The Company was organized in 1995 by Classic Bank for the purpose of
becoming the savings and loan holding company of Classic Bank in connection with
Classic Bank's conversion from mutual to stock form of organization (the
"Conversion") on December 28, 1995. Paintsville Bank became a subsidiary of the
company upon consummation of the Company's acquisition of First Paintsville
Bancshares, Inc. ("First Paintsville"), the former holding company of
Paintsville Bank, on September 30, 1996. See "--Recent Acquisition." Unless the
context otherwise requires, all references herein to Classic Bank, Paintsville
Bank or the Company include the Company, Classic Bank and Paintsville Bank on a
consolidated basis. References to the Company prior to September 30, 1996 refer
only to the Company and Classic Bank. References to the Company prior to
December 28, 1995 refer only to Classic Bank.
At March 31, 1998, the Company had total consolidated assets of $131.1
million, deposits of $104.9 million and stockholders' equity of $20.4 million.
On such date, the Company's assets consisted of all of the outstanding capital
stock of Classic Bank and Paintsville Bank and cash and cash equivalents. The
executive office of the Company is located at 344 Seventeenth Street, Ashland,
Kentucky 41101 and its telephone number is (606) 325-4789.
As community-oriented financial institutions, Classic Bank and Paintsville
Bank seek to serve the financial needs of communities in their respective market
areas. Their businesses involves attracting deposits from the general public and
using such deposits, together with other funds, to originate primarily one-to
four-family residential mortgage loans and, to a lesser extent, consumer,
commercial real estate, commercial business, multi-family and construction loans
in their respective market areas. Classic Bank and Paintsville Bank also invest
in mortgage-backed and related securities and investment securities and other
permissible investments. See "Investment Activities - Investment Securities" and
"Mortgage-Backed and Related Securities."
The Board of Directors has adopted a "community bank" oriented strategy
designed to provide planned and profitable growth, sustained profitability and
maintain safety and soundness. The principal elements of this strategy include
(i) attracting lower cost deposits through an increased emphasis on transaction
accounts, (ii) increasing the amount and type of consumer loan products offered,
(iii) expanding commercial real estate and commercial business lending
operations, (iv) increasing non-interest income through new product offerings
and aggressive pricing structures (v) enhancing traditional and non-traditional
branch locations, including the acquisition of other financial institutions to
the extent opportunities arise, (vi) improving operating efficiencies through
the utilization of technology and low cost delivery systems, (vii) reviewing on
an ongoing basis loan underwriting standards, asset quality and (viii)
maintaining a capital position that exceeds regulatory guidelines.
The Company, Classic Bank and Paintsville Bank are subject to comprehensive
regulation. See "Regulation."
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<PAGE>
Forward-Looking Statements
When used in this Form 10-KSB and in future filings by the Company with the
Securities and Exchange Commission (the "SEC"), in the Company's press releases
or other public or shareholder communications, and in oral statements made with
the approval of an authorized executive officer, the words or phrases "will
likely result," "are expected to," "will continue," "is anticipated,"
"estimate," "project" or similar expressions are intended to identify
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Such statements are subject to certain risks and
uncertainties, including changes in economic conditions in the Company's market
area, changes in policies by regulatory agencies, fluctuations in interest
rates, demand for loans in the Company's market area and competition, that could
cause actual results to differ materially from historical earnings and those
presently anticipated or projected. The Company wishes to caution readers not to
place undue reliance on any such forward-looking statements, which speak only as
of the date made. The Company wishes to advise readers that the factors listed
above could affect the Company's financial performance and could cause the
Company's actual results for future periods to differ materially from any
opinions or statements expressed with respect to future periods in any current
statements.
The Company does not undertake--and specifically declines any
obligation--to publicly release the result of any revisions which may be made to
any forward-looking statements to reflect events or circumstances after the date
of such statements or to reflect the occurrence of anticipated or unanticipated
events.
Acquisition
On September 30, 1996, the Company acquired First Paintsville, the former
holding company of Paintsville Bank, for $9.3 million in cash. In connection
with the acquisition of First Paintsville, the Company assumed approximately
$722,000 of long-term debt of First Paintsville. At September 30, 1996, First
Paintsville had total assets of $66.6 million, deposits of $52.8 million and
stockholders' equity of $10.2 million. Paintsville Bank engages in retail and
commercial banking, including one-to four-family, consumer and commercial
business lending, and provides trust services. Paintsville Bank also offers a
variety of certificate, savings, money market and checking accounts and credit
cards.
Market Area
Classic Bank serves primarily Boyd and Greenup Counties, Kentucky through
its main offices located at 344 Seventeenth Street in Ashland and two branch
offices located in Greenup and Boyd counties.
In connection with the adoption of its community bank-oriented strategy in
fiscal 1996, Classic Bank expanded its market area to include portions of
Lawrence and Carter Counties, Kentucky, Lawrence County, Ohio and Wayne and
Cabell Counties, West Virginia.
Paintsville Bank conducts its business through its main office and one
branch office located in Paintsville, Kentucky. Paintsville Bank's customer base
includes individuals and small to medium sized businesses located in its market
area. First Paintsville's market area includes Johnson County, Kentucky and
portions of Martin, Floyd, Magoffin and Lawrence Counties, Kentucky.
Historically, the regional economy in and around the Company's market area
has been based on the coal, oil and railroad industries and dependent upon a
small number of large employers. While the coal industry and some heavy industry
remain, the market area has experienced industrial decline during the
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<PAGE>
past several years due to layoffs and transfers of some of the operations of
these companies to other locations. The Company's primary market area also has a
significant medical community.
The economy of the Company's market area is in a period of transition from
a primarily industrial-based economy to a service- and retail-based economy. In
the past two years, the Company's market area has experienced increases in the
retail and service sectors which has somewhat offset the impact of job losses
and consolidations from heavy industry. Notwithstanding recent economic
diversification, the unemployment rate in the Company's market area continues to
exceed the rates for the Commonwealth of Kentucky and the United States.
Lending Activities
General. The principal lending activity of the Company is originating for
its portfolio mortgage loans secured by one- to four-family residences located
primarily in the Company's market area. To a lesser extent, the Company also
originates consumer, commercial business, commercial real estate, construction
and multi-family loans in its market area. At March 31, 1998, loans receivable,
net, totaled $90.1 million. See "Originations, Purchases and Sales of Loans and
Mortgage-Backed and Related Securities."
4
<PAGE>
Loan Portfolio Composition. The following table presents the composition of
the Company's loan portfolio in dollar amounts and in percentages (before
deductions for loans in process, deferred fees and discounts and allowances for
losses) as of the dates indicated.
<TABLE>
<CAPTION>
March 31,
1998 1997 1996
------------------------ ------------------------ -----------------------
Amount Percent Amount Percent Amount Percent
-------- --------- -------- --------- -------- ---------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Real Estate Loans
One- to four-family ........... $ 66,078 72.6% $ 62,413 75.3% $ 38,944 87.5%
Commercial .................... 8,970 9.9 6,877 8.3 2,509 5.7
Multi-family .................. 1,497 1.6 1,104 1.3 215 0.5
Construction .................. 426 0.5 832 1.0 1,132 2.5
-------- --------- -------- --------- -------- ---------
Total real estate loans ... 76,971 84.6 71,226 85.9 42,800 96.2
-------- --------- -------- --------- -------- ---------
Other Loans
Consumer Loans:
Deposit account .............. 526 0.6 433 0.5 389 0.9
Credit Card .................. 218 0.2 256 0.3 -- --
Installment .................. 5,380 5.9 5,452 6.6 -- --
Other ........................ 991 1.1 697 0.8 229 0.5
-------- --------- -------- --------- -------- ---------
Total consumer loans ...... 7,115 7.8 6,838 8.2 618 1.4
-------- ---------
Commercial business loans ..... 6,942 7.6 4,794 5.9 1,063 2.4
-------- --------- -------- --------- -------- ---------
Total other loans ......... 14,057 15.4 11,632 14.1 1,681 3.8
-------- --------- -------- --------- -------- ---------
Total loans ............... 91,028 100.0% 82,858 100.0% 44,481 100.0%
======== ========= ======== ========= ======== =========
Less
Loans in process .............. (29) (6) 504
Deferred fees and discounts ... (68) (323) (31)
Allowance for loan losses ..... (831) (801) 286
--------- -------- --------
Total loans receivable, net ... $ 90,100 $ 81,728 $ 43,722
========= ======== ========
<CAPTION>
March 31,
1995 1994
------------------------ ------------------------
Amount Percent Amount Percent
-------- --------- -------- ---------
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Real Estate Loans
One- to four-family ........... $ 35,005 96.9% $ 32,239 95.8%
Commercial .................... 630 1.7 805 2.4
Multi-family .................. 118 0.3 161 0.5
Construction .................. -- -- -- --
-------- --------- -------- ---------
Total real estate loans ... 35,753 98.9 33,205 98.7
-------- --------- -------- ---------
Other Loans
Consumer Loans:
Deposit account .............. 383 1.1 429 1.3
Credit Card .................. -- -- -- --
Installment .................. -- -- -- --
Other ........................ -- -- -- --
-------- --------- -------- ---------
Total consumer loans ...... 383 1.1 429 1.3
-------- --------- -------- ---------
Commercial business loans ..... -- -- -- --
-------- --------- -------- ---------
Total other loans ......... 383 1.1 429 1.3
-------- --------- -------- ---------
Total loans ............... 36,136 100.0% 33,634 100.0%
======== ========= ======== =========
Less
Loans in process .............. 97 167
Deferred fees and discounts ... (4) 42
Allowance for loan losses ..... 312 318
-------- --------
Total loans receivable, net ... $ 35,731 $ 33,107
======== ========
</TABLE>
5
<PAGE>
The following table shows the composition of the Company's loan portfolio
by fixed and adjustable rates at the dates indicated.
<TABLE>
<CAPTION>
March 31,
1998 1997 1996
------------------------ ------------------------ -----------------------
Amount Percent Amount Percent Amount Percent
-------- --------- -------- --------- -------- ---------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Fixed-Rate Loans:
Real estate:
One- to four-family ............ $ 33,253 36.5% $ 29,730 35.9% $ 15,013 33.8%
Commercial ..................... 3,348 3.7 2,627 3.2 721 1.6
Multi-family ................... 1,278 1.4 781 0.9 138 .3
Construction .................... 426 0.5 814 1.0 1,132 2.5
-------- --------- -------- --------- -------- ---------
Total real estate loans ..... 38,305 42.1 33,952 41.0 17,004 38.2
Consumer ........................ 6,161 6.8 6,154 7.4 567 1.3
-------- --------- -------- --------- -------- ---------
Commercial business ............. 2,649 2.9 1,395 1.7 51 .1
-------- --------- -------- --------- -------- ---------
Total fixed-rate loans ...... 47,115 51.8 41,501 50.1 17,622 39.6
Adjustable-Rate Loans:
Real estate:
One- to four-family ............ 32,825 36.1 32,683 39.4 23,931 53.8
Commercial ..................... 5,622 6.2 4,250 5.1 1,788 4.0
Multi-family ................... 219 0.2 323 0.4 77 .2
Construction ................... -- -- 18 -- -- --
-------- --------- -------- --------- -------- ---------
Total real estate loans ..... 38,666 42.5 37,274 44.9 25,796 58.0
-------- --------- -------- --------- -------- ---------
Consumer ........................ 954 1.0 684 0.8 51 .1
Commercial business ............. 4,293 4.7 3,399 4.2 1,012 2.3
-------- --------- -------- --------- -------- ---------
Total adjustable-rate loans . 43,913 48.2 41,357 49.9 26,859 60.4
-------- --------- -------- --------- -------- ---------
Total loans ................. 91,028 100.0% 82,858 100.0% 44,481 100.0%
========= ========= =========
Less:
Loans in process ................ (29) (6) 504
Deferred fees and discounts ..... (68) (323) (31)
Allowance for loan losses ....... (831) (801) 286
-------- -------- ---------
Total loans receivable, net .. 90,100 81,728 $ 43,722
======== ======== =========
<CAPTION>
March 31,
1995 1994
------------------------ ------------------------
Amount Percent Amount Percent
-------- --------- -------- ---------
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Fixed-Rate Loans:
Real estate:
One- to four-family ............ $ 11,811 32.7% $ 13,275 39.5%
Commercial ..................... 424 1.2 525 1.5
Multi-family ................... 34 .1 35 .1
Construction .................... -- -- -- --
-------- --------- -------- ---------
Total real estate loans ..... 12,269 34.0 13,835 41.1
Consumer ........................ 383 1.1 429 1.3
-------- --------- -------- ---------
Commercial business ............. 383 1.1 429 1.3
-------- --------- -------- ---------
Total fixed-rate loans ...... 12,652 35.1 14,264 42.4
Adjustable-Rate Loans:
Real estate:
One- to four-family ............ 23,194 64.2 18,964 56.4
Commercial ..................... 206 .5 280 .8
Multi-family ................... 84 .2 126 .4
Construction ................... -- -- -- --
-------- --------- -------- ---------
Total real estate loans ..... 23,484 64.9 19,370 57.6
-------- --------- -------- ---------
Consumer ........................ -- -- -- --
Commercial business ............. -- -- -- --
-------- --------- -------- ---------
Total adjustable-rate loans . 23,484 64.9 19,370 57.6
-------- --------- -------- ---------
Total loans ................. 36,136 100.0% 33,634 100.0%
========= =========
Less:
Loans in process ................ 97 167
Deferred fees and discounts ..... (4) 42
Allowance for loan losses ....... 312 318
-------- ---------
Total loans receivable, net .. $ 35,731 $ 33,107
======== =========
</TABLE>
6
<PAGE>
The following schedule illustrates the interest rate sensitivity of the
Company's loan portfolio at March 31, 1998. Mortgages which have adjustable or
renegotiable interest rates are shown as maturing in the period during which the
contract is due. The schedule does not reflect the effects of possible
prepayments or enforcement of due-on-sale clauses.
<TABLE>
<CAPTION>
Real Estate
------------------------------------------------------------------------------ ------- --------
Multi-family and
One- to Four-Family Commercial Construction Consumer
--------------------- ----------------------- ----------------------- ---------------------
Weighted Weighted Weighted Weighted
Average Average Average Average
Amount Rate Amount Rate Amount Rate Amount Rate
------- -------- --------- -------- --------- -------- ------- --------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Due
- -------------------
Within one year(1) 4,706 8.0% 456 9.6% $ 183 9.3% $ 2,339 9.6%
One to two years .. 563 9.3 47 10.5 -- -- 1,129 11.4
Two to three years 503 10.4 372 9.7 -- -- 1,481 10.8
Three to five years 1,916 8.5 1,405 8.0 -- -- 1,912 9.2
Five to ten years . 9,933 8.1 3,926 9.0 -- -- 254 10.8
Ten to 15 years ... 18,110 7.9 3,566 9.0 243 9.3 -- --
Over 15 years ..... 30,347 7.5 695 9.0 -- -- -- --
------- -------- --------- -------- --------- -------- ------- --------
Totals .......... $66,078 $ 10,467 $ 426 $ 7,115
======= ========= ========= =======
<CAPTION>
Commercial
------------------------------------------------------------------------------
Business Other Total
--------------------- ----------------------- -----------------------
Weighted Weighted Weighted
Average Average Average
Amount Rate Amount Rate Amount Rate
------- -------- --------- -------- --------- --------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Due
- -------------------
Within one year(1) 3,495 8.9% -- -- 11,179 8.7%
One to two years .. 215 9.3 -- -- 1,954 10.5
Two to three years 1,373 8.9 -- -- 3,729 9.9
Three to five years 1,229 9.3 -- -- 6,462 8.8
Five to ten years . 429 9.4 -- -- 14,542 8.4
Ten to 15 years ... 201 9.0 -- -- 22,120 8.1
Over 15 years ..... -- -- -- -- 31,042 7.5
------- -------- --------- -------- --------- --------
Totals .......... $ 6,942 -- $ 91,028
======= ========= ========
</TABLE>
- ----------
(1) Includes demand loans, loans having no stated maturity and overdraft loans.
The total amount of loans due after March 31, 1998 which have predetermined
interest rates is $47.1 million, while the total amount of loans due after such
date which have floating or adjustable interest rates is $43.9 million.
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<PAGE>
Under federal law, the aggregate amount of loans that Classic Bank and
Paintsville Bank are permitted to make to any one borrower is generally limited
to 15% of unimpaired capital and surplus (25% if the security for such loan has
a readily marketable value. At March 31, 1998, based on the above, Classic
Bank's and Paintsville Bank's regulatory loans-to-one borrower limits were
approximately $1.2 million and $1.3 million, respectively. On the same date,
neither institution had borrowers with outstanding balances in excess of this
amount. Classic Bank's largest dollar amount outstanding to one borrower or,
group of related borrowers, was $1.1 million. This loan represents permanent
financing of a medical office building and equipment located in the Company's
market area.
Paintsville Bank's largest dollar amount outstanding to one borrower or
group of related borrowers, was $769,000 which represents permanent financing
for a convenience store and operating capital for a coal company.
Both Classic Bank's and Paintsville Bank's President and Senior Vice
President have the authority to approve loans up to $250,000 and $200,000,
respectively. Loans of $250,000 or more up to 10% of Classic Bank's and
Paintsville Bank's respective capital require approval of the Loan Committee of
the Board of Directors of the respective institutions. Loans in excess of such
amount require approval of the Board of Directors of the institution.
All of the Company's lending is subject to its written underwriting
standards and to loan origination procedures. Decisions on loan applications are
made on the basis of detailed applications and property valuations (consistent
with the Board-established appraisal policy). The loan applications are designed
primarily to determine the borrower's ability to repay and the more significant
items on the application are verified through use of credit reports, financial
statements, tax returns or confirmations.
The Company requires a title opinion or other evidence of title on its
mortgage loans, as well as fire and extended coverage casualty insurance in
amounts at least equal to the principal amount of the loan or the value of
improvements on the property, depending on the type of loan. The Company also
requires flood insurance to protect the property securing its interest when the
property is located in a flood plain.
One- to Four-Family Residential Real Estate Lending. A significant portion
of the Company's lending program is the origination of loans secured by
mortgages on owner-occupied one- to four-family residences. Substantially all of
the Company's one- to four-family residential mortgage originations are secured
by properties located in its market area. In addition, substantially all
mortgage loans originated by the Company are retained and serviced by it. At
March 31, 1998, $66.1 million, or 72.6% of the Company's loan portfolio,
consisted of mortgage loans on one- to four-family residences, including a
number of loans secured by non-owner occupied properties.
Since the early 1980s, Classic Bank has offered adjustable-rate mortgage
("ARM") loans at rates and on terms determined in accordance with market and
competitive factors. Prior to April 1995, Classic Bank utilized a variety of ARM
loan products. Most of these loans provided for a 1.0% maximum annual cap and a
life-time cap of 5.0% over the initial rate and adjusted to a stated margin over
either the National Monthly Median Cost of Funds Index or the National Average
Interest Contract Rate on the Purchase of Previously Occupied Homes for All
Major Types of Lenders (collectively, the "Cost of Funds Indices"). Because
these indices generally react more slowly to changes in interest rates as
compared to other indices commonly used for ARMs (including those based on rates
paid on U.S. Treasury securities), during a period of rising interest rates, the
use of these lagging indices results in Classic Bank's adjustable-rate loans
repricing upward a slower rate which could result in a reduction in interest
rate spread. At March 31, 1998, Classic Bank had $11.5 million of ARM loans
representing 17.4% of the one- to four-family loan
8
<PAGE>
portfolio, which reprice based upon one of the Cost of Funds Indices. On the
same date, these loans had a weighted average yield of 6.5% and a weighted
average contractual term to maturity of 186 months.
Prior to April 1995, when competing lenders offered ARMs with interest
rates during the initial adjustment period (i.e., typically the first year of
the loan term) below that which would be indicated by reference to the
applicable index plus the stated margin (i.e., "teaser" rates), Classic Bank
would often respond not by matching the discounted rate for the initial
adjustment period but rather by discounting the interest rate for the entire
life of the loan. Effective April 1, 1995, Classic Bank discontinued this
practice of offering teaser rates for the entire loan term although it may from
time to time offer ARMs with initial rates below the fully indexed rates.
In order to increase the interest rate sensitivity of its ARMs, the Company
currently requires that ARM loans adjust in accordance with the one-year U.S.
Treasury Constant Maturity Index. At March 31, 1998, the Company had $20.1
million of ARM loans which reprice based upon this index. However, since these
loans generally provide for a 1.0 - 2.0% maximum annual cap and a lifetime cap
of 5.0 - 6.0% over the initial rate, the interest rates on these loans may not
be as rate sensitive as is the Company's cost of funds. Currently, none of the
ARM loans originated provide for a minimum interest rate or are convertible to
fixed-rate loans.
ARM loans decrease the risk to the Company associated with changes in
interest rates but may involve other risks, primarily because as interest rates
rise, the payment by the borrower may rise to the extent permitted by the terms
of the loan, thereby increasing the potential for default. At the same time, the
market value of the underlying property may be adversely affected by higher
interest rates.
The Company currently offers fixed-rate mortgage loans with maturities from
10 to 30 years. Interest rates and fees charged on these fixed-rate loans are
established on a regular basis according to market conditions. See
"Originations, Purchases and Sales of Loans and Mortgage-Backed Securities."
In underwriting one- to four-family residential real estate loans, the
Company currently evaluates both the borrower's ability to make principal,
interest and escrow payments, the value of the property that will secure the
loan and debt to income ratios. In earlier years, the Company's underwriting
standards placed more emphasis on the collateral securing the loan than on the
borrower's ability to make principal and interest payments. As a result, the
Company may experience a higher delinquency rate on loans originated during such
periods.
Currently, the Company will lend up to 90% (or up to 100% on a case-by-case
basis) of the lesser of the sales price or appraised value of the security
property on owner occupied one- to four-family loans. The loan-to-value ratio on
non-owner occupied, one- to four-family loans is generally 85% of the lesser of
the sales price or appraised value of the security property.
Residential loans do not include prepayment penalties, are non-assumable
and do not produce negative amortization. Properties securing one-to four-family
residential real estate loans made by the Company are appraised by independent
appraisers.
The Company's loans are currently underwritten comparable to Federal Home
Loan Mortgage Corporation ("FHLMC") guidelines. Under current policy, the
Company originates all mortgage loans for its portfolio.
9
<PAGE>
The Company's residential mortgage loans customarily include due-on-sale
clauses giving the Company the right to declare the loan immediately due and
payable in the event that, among other things, the borrower sells or otherwise
disposes of the property subject to the mortgage and the loan is not repaid.
Commercial and Multi-Family Real Estate Lending. The Company generally
focuses its commercial real estate lending efforts on borrowers (such as
professionals) who occupy some or all of the collateral property. At March 31,
1998, the Company had $9.0 million in commercial real estate loans representing
9.9% of the Company's total loan portfolio, and $1.5 million in multi-family
loans, or 1.6%, of the Company's total loan portfolio. At March 31, 1998, the
Company had one commercial real estate or multi-family loan with a book value in
excess of $500,000; such loan had a book value of $850,000 and was secured by a
medical office building.
The Company's commercial and multi-family real estate loan portfolio
includes or is anticipated to include loans secured by apartment buildings,
office and professional buildings, medical facilities, churches and other
non-residential building properties. The Company's commercial and multi-family
real estate loans are secured by properties located in the Company's market
area.
The Company's permanent commercial and multi-family real estate loans are
generally originated for maximum terms of 10 years and 15 years, respectively,
and have fixed or adjustable rates which are generally based on a specified
index plus a margin. Commercial and multi-family real estate loans are written
in amounts of up to 75% and 80%, respectively, of the appraised value of the
property.
Appraisals on properties serving multi-family and commercial real estate
loans originated by the Company are generally performed by an independent
appraiser prior to the time the loan is made. All appraisals on commercial and
multi-family real estate are reviewed by the Company's management. The Company's
underwriting procedures require verification of the borrower's credit history,
income and financial statements, banking relationships and references. The
Company generally requires personal guarantees on loans secured by multi-family
and commercial real estate.
Multi-family and commercial real estate loans generally present a higher
level of risk than loans secured by one- to four-family residences. This greater
risk is due to several factors, including the concentration of principal in a
limited number of loans and borrowers, the effects of general economic
conditions on income producing properties and the increased difficulty of
evaluating and monitoring these types of loans. Furthermore, the repayment of
loans secured by multi-family and commercial real estate is typically dependent
upon the successful operation of the related real estate project. If the cash
flow from the project is reduced (for example, if leases are not obtained or
renewed), the borrower's ability to repay the loan may be impaired. At March 31,
1998, the Company had no multi-family loans and no commercial real estate loans
which were 90 days or more delinquent.
The acquisition of Paintsville Bank has impacted the Company's commercial
real estate lending by increasing the volume of commercial real estate loans
originated.
Construction Lending. The Company originates a modest amount of
construction loans for the construction of residential and commercial real
estate. At March 31, 1998, the Company's construction loan portfolio totaled
$426,000, or 0.5% of its total loan portfolio.
Construction loans to individuals for the construction of their residences
are structured to convert to permanent loans at the end of the construction
phase, which typically run up to six months. These construction loans have rates
and terms comparable to one- to four-family loans offered by the Company,
10
<PAGE>
except that during the construction phase, the borrower pays interest only at a
specified margin over the prime rate. The maximum loan-to-value ratio of
owner-occupied, single-family construction loans is 80%. Residential
construction loans are underwritten pursuant to the same guidelines used for
originating permanent residential loans. At March 31, 1998, there were $54,000
gross residential construction loans outstanding.
From time to time, subject to market conditions, the Company originates
construction loans to builders of one- to four-family residences. Such loans
generally have terms of up to six months and require the payment of interest
only for the loan term. The maximum loan to value ratio on builder loans is 80%.
The Company generally limits loans to builders for the construction of homes for
sale to one home per builder. At March 31, 1998, the Company had $144,000
construction loans to builders of one- to four-family residences.
The Company also originates a limited number of loans for the construction
of commercial real estate on which the owner is the primary tenant. Such loans
typically carry adjustable rates and convert to a permanent loans following
completion of the construction period. Commercial real estate construction loans
are generally underwritten pursuant to the same guidelines utilized for
commercial real estate loans. At March 31, 1998, the Company's largest
construction loan was a $1.0 million outstanding loan commitment for the
construction of a hotel for a national franchise, of which $304,000 had been
funded.
The Company's construction loan agreements generally provide that loan
proceeds are disbursed in increments as construction progresses. The Company
reviews the progress of the construction of the project before disbursements are
made.
Construction loans are obtained principally through referrals from the
Company's and management's contacts in the business community as well as
existing and walk-in customers. The application process includes a submission to
the Company of accurate plans, specifications and costs of the project to be
constructed/developed. These items are used as a basis to determine the
appraised value of the subject property. Loans are based on the lesser of
current appraised value and/or the cost of construction (land plus building).
Construction lending is generally considered to involve a higher level of
credit risk than one- to four-family residential lending since the risk of loss
on construction loans is dependent largely upon the accuracy of the initial
estimate of the individual property's value upon completion of the project and
the estimated cost (including interest) of the project. If the cost estimate
proves to be inaccurate, the Company may be required to advance funds beyond the
amount originally committed to permit completion of the project. To the extent
the Company's construction lending increases in the future, there can be no
assurance that the Company will not experience an increase in delinquencies on
its construction loans.
Consumer Lending. At March 31, 1998, consumer loans totaled $7.1 million,
or 7.8% of the Company's total loan portfolio. In order to increase the yield
and interest rate sensitivity of its loan portfolio and as part of its community
bank-oriented strategy, the Company intends to increase the type and volume of
its consumer loans to include unsecured and secured consumer loans, with
emphasis on direct automobile financing and home equity lending. Consumer loan
terms will vary according to the type and value of collateral, length of
contract and creditworthiness of the borrower. During fiscal 1998, consumer
loans increased $277,000 as a result of the implementation of this strategy.
The Company offers MasterCard credit card accounts. At March 31, 1998, 234
credit card accounts had been issued, with an aggregate outstanding balance of
$218,000 and unused credit available
11
<PAGE>
of $351,000. The Company presently charges an annual membership fee of $20 for
its credit cards. The annual rate of interest on the credit cards adjusts
monthly based upon the prime rate.
The underwriting standards employed by the Company for consumer loans
include a determination of the applicant's payment history on other debts and
ability to meet existing obligations and payments on the proposed loan. Although
creditworthiness of the applicant is of primary consideration, the underwriting
process also includes a comparison of the value of the security, if any, in
relation to the proposed loan amount.
Consumer loans, other than loans secured by deposit accounts, may entail
greater credit risk than residential mortgage loans, particularly in the case of
consumer loans which are unsecured or are secured by rapidly depreciable assets,
such as automobiles. In such cases, any repossessed collateral for a defaulted
consumer loan may not provide an adequate source of repayment of the outstanding
loan balance as a result of the greater likelihood of damage, loss or
depreciation. In addition, consumer loan collections are dependent on the
borrower's continuing financial stability, and thus are more likely to be
affected by adverse personal circumstances. Furthermore, the application of
various federal and state laws, including bankruptcy and insolvency laws, may
limit the amount which can be recovered on such loans. At March 31, 1998, the
Company had $17,000 of non-performing consumer loans and no consumer assets
acquired by foreclosure. In view of the projected increase in the amount and
scope of the Company's consumer lending activities, there can be no assurance
that delinquencies in the consumer loan portfolio will not increase in the
future.
Commercial Business Lending. The Company makes secured and unsecured
commercial business loans to local businesses. At March 31, 1998, the Company's
commercial business loans totaled $6.9 million, or 7.6% of total loans. In
addition, on such date, the Company had $5.3 million of outstanding commercial
business loan commitments, of which $2.7 million were not yet funded.
The Company's commercial business loans generally have terms of up to ten
years and generally carry adjustable rates of interest over the prime rate. Such
loans are generally secured by inventory, accounts receivable and fixed assets.
Unlike residential mortgage loans, which generally are made on the basis of
the borrower's ability to make repayment from his or her employment and other
income, and which are secured by real property, the value of which tends to be
more easily ascertainable, commercial business loans are of higher risk and
typically are made on the basis of the borrower's ability to make repayment from
the cash flow of the borrower's business. As a result, the availability of funds
for the repayment of commercial business loans may be substantially dependent on
the success of the business itself. Further, the collateral, if any, securing
the loans may depreciate over time, may be difficult to appraise and may
fluctuate in value based on the success of the business.
Originations, Purchases and Sales of Loans
Loans are originated by the Company's staff of salaried loan officers
through marketing activities and referrals. The Company's ability to originate
loans is dependent upon customer demand for loans in its market and to a limited
extent, various marketing efforts. Demand is affected by both the local economy
and the interest rate environment. See "Market Area." Under current policy, all
loans originated by the Company are retained in the Company's portfolio.
12
<PAGE>
From time to time, in order to supplement loan originations, the Company
has acquired mortgage-backed and related securities which are held, depending on
the investment intent, in the "available-for-sale" portfolios. See "Investment
Activities - Mortgage-Backed and Related Securities" and Note 4 to the Notes to
Consolidated Financial Statements contained in Exhibit 13.
13
<PAGE>
The following table shows the loan origination, purchase, sale and
repayment activities for the periods indicated.
<TABLE>
<CAPTION>
Year Ended March 31,
-------------------------------------
1998 1997 1996
-------- -------- --------
(In Thousands)
<S> <C> <C> <C>
Originations by type:
Adjustable rate:
Real estate - one- to four-family ... $ 5,362 $ 7,916 $ 5,145
- multi-family ....... -- -- --
- commercial ......... 2,667 240 1,997
- construction ....... 156 31 --
Non-real estate - consumer .......... 690 205 75
- commercial business 11,159 1,144 1,855
-------- -------- --------
- other .............. -- 89 --
-------- -------- --------
Total adjustable-rate loans .. 20,034 9,625 9,072
-------- -------- --------
Fixed rate:
Real estate - one- to four-family ... 10,414 8,560 5,447
- multi-family ....... 572 655 106
- commercial ......... 1,465 832 591
- construction ....... 1,462 1,147 2,142
Non-real estate - consumer .......... 5,376 2,683 552
- commercial business 5,852 1,012 54
- other .............. -- 6 --
-------- -------- --------
Total fixed-rate loans ....... 25,141 14,895 8,892
-------- -------- --------
Total loans originated ....... 45,175 24,520 17,964
-------- -------- --------
Purchases:
Real estate - commercial ............. -- -- 25
Non-real estate - commercial ........ -- -- 250
-------- -------- --------
Total purchases .............. -- -- 275
Participations sold:
Real estate - commercial ............. -- -- 250
Non-real estate - commercial business -- -- 538
- other .............. -- -- --
-------- -------- --------
Total participations sold .... -- -- 788
Repayments:
Real estate - one- to four-family ... 12,338 7,807 6,558
- multi-family ....... 179 23 8
- commercial ......... 2,039 1,685 317
- construction ....... 2,024 1,655 1,010
Non-real estate - consumer .......... 5,789 2,799 392
- commercial business 14,863 531 559
- other .............. -- 12 --
-------- -------- --------
Total principal repayments ......... 37,232 14,512 8,844
-------- -------- --------
Increase (decrease) in other items, net 227 (108) (262)
Acquisition of Paintsville Bank ..... -- 28,477 --
-------- -------- --------
Net increase (decrease) ...... $ 8,170 $ 38,377 $ 8,345
======== ======== ========
</TABLE>
14
<PAGE>
Delinquencies and Non-Performing Assets
Delinquency Procedures. When a borrower fails to make a required payment on
a loan, the Company attempts to cure the delinquency by contacting the borrower.
The Company sends late notices on all loans past due (10 to 15 days depending on
the type of loan) and imposes late fees past the grace periods. Additional
written and verbal contacts may be made with the borrower between 30 and 90 days
after the due date. If the loan is contractually delinquent 90 days, the Company
initiates appropriate legal action for collection. The decision as to whether
and when to initiate legal action is based upon such factors as the amount of
the outstanding loan in relation to the original indebtedness, current value of
collateral (if secured), the extent and frequency of delinquency and the
borrower's ability and willingness to cooperate in curing delinquencies.
Generally, when a loan becomes delinquent 90 days or more, the Company will
place the loan on a non-accrual status and, as a result, previously accrued
interest income on the loan is taken out of current income. Future interest
income is recognized on a cash basis although many times any payment received
during the non-accrual period may be applied directly to the principal balance.
Loans placed on non-accrual are not placed back on an accruing basis until a
satisfactory payment history has been established (normally six payments). All
commercial loans made since January 1, 1997 carry a default rate clause which
increases the interest rate two percent upon the loan after the grace period (10
days).
Real estate acquired by the Company as a result of foreclosure or by deed
in lieu of foreclosure is classified as real estate owned until it is sold. When
property is acquired by foreclosure or deed in lieu of foreclosure, it is
recorded at the lower of cost or estimated fair value (as determined by
appraisal) less estimated selling costs. After acquisition, all costs incurred
in maintaining the property are expensed. Costs relating to the development and
improvement of the property are capitalized.
The following table sets forth loan delinquencies by type, by amount and by
percentage of type at March 31, 1998.
<TABLE>
<CAPTION>
Loans Delinquent For:
60 - 90 Days 90 Days and Over Total Delinquent Loans
----------------------------- ---------------------------- -----------------------------
Percent Percent Percent
of Loan of Loan of Loan
Number Amount Category Number Amount Category Number Amount Category
------ ------ -------- ------ ------ -------- ------ ------ --------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Real Estate:
One- to four-family. --- --- --- 12 309 0.5 12 309 0.5
Commercial.......... 1 5 --- --- --- --- 1 5 ---
Consumer.............. 6 11 0.2 3 17 0.2 9 28 0.4
Commercial............ 2 62 0.9 -- -- --- 2 62 0.9
--- --- ---- ---- ---- ------ --- ---- -----
9 78 0.1 15 326 0.4 24 404 0.4
</TABLE>
Classification of Assets. Federal regulations require that each savings
institution and national bank classify its own assets on a regular basis. In
addition, in connection with examinations of savings institutions and national
banks, examiners of the Office of Thrift Supervision (the "OTS") (for savings
institutions), the Office of the Comptroller of the Currency (the "OCC") (for
national banks) and the Federal Deposit Insurance Corporation ("FDIC") (for
savings institutions and national banks) have authority to identify problem
assets and, if appropriate, require them to be classified. There are three
classifications for problem assets: Substandard, Doubtful and Loss. Substandard
assets have one or more defined weaknesses and are characterized by the distinct
possibility that the institution will sustain some loss if the deficiencies are
not corrected. Doubtful assets have the weaknesses of Substandard assets, with
the additional characteristics that the weaknesses make collection or
liquidation in full on the basis of currently existing facts, conditions and
values questionable, and there is a high possibility of loss. An asset
classified Loss is considered uncollectible and of such little value that
continuance as an asset on the balance sheet
15
<PAGE>
of the institution is not warranted. Assets classified as Substandard or
Doubtful require the institution to establish prudent general allowances for
loan losses. If an asset or portion thereof is classified as a loss, the
institution charges off such amount against the loan loss allowance. Assets
which do not currently expose an institution to sufficient risk to warrant
classification of the aforementioned categories, but possess weaknesses are
required to be designated "Special Mention" by the institution's management.
On the basis of management's review of its assets, at March 31, 1998, the
Company had the following classified assets:
March 31, 1998
(In Thousands)
Substandard................................................... 963
Doubtful...................................................... 8
Loss.......................................................... ---
Special Mention............................................... 627
------
Total.................................................... $1,608
======
The Company's classified assets consist of non-performing loans and
foreclosed assets. As of the date hereof, these asset classifications are
materially consistent with those of the OTS, OCC and FDIC. When loans are
classified as a "loss," they are charged off against the loan loss allowance.
16
<PAGE>
Non-Performing Assets. The following table sets forth the amounts and
categories of non-performing assets in the loan portfolio. Loans are placed on
non-accrual status when the collection of principal and/or interest become
doubtful. For all years presented, the Company has had no troubled debt
restructurings (which involve forgiving a portion of interest or principal on
any loans or making loans at a rate materially less than that of market rates).
Foreclosed assets include assets acquired in settlement of loans.
<TABLE>
<CAPTION>
March 31,
----------------------------------------------------------
1998 1997 1996 1995 1994
------ ------ ------ ------ ------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C>
Non-accruing loans:
One- to four-family .................... $ 296 $ 465 $ 552 $ 447 $1,051
Multi-Family ........................... -- 32
Commercial real estate ................. -- 62 43 301 --
Consumer ............................... 12 -- -- -- --
------ ------ ------ ------ ------
Total ............................... 308 559 595 748 1051
Accruing loans delinquent 90 days or more:
One- to four-family .................... 13 57 -- 60 --
Commercial real estate ................. 7 90 -- -- --
Consumer ............................... 5 3 -- -- --
Credit Card ............................ -- 7 -- -- --
Foreclosed assets:
One- to four-family .................... 35 92 5 49 --
Commercial real estate ................. 194 244 -- -- --
Consumer ............................... -- 24 -- -- --
------ ------ ------ ------ ------
Total non-performing assets .............. $ 562 $1,076 $ 600 $ 857 $1,051
====== ====== ====== ====== ======
Total as a percentage of total assets .... 0.4% 0.8% 0.9% 1.4% 1.8%
====== ====== ====== ====== ======
</TABLE>
For the year ended March 31, 1998, gross interest income which would have
been recorded had the non-accruing loans been current in accordance with their
original terms amounted to $11,000. The amount that was included in interest
income on such loans was $12,000 for the year ended March 31, 1998. The average
balance of non-accrual loans for the year ended March 31, 1998 was $294,000. The
allowance for loan losses on non-accrual loans amounted to $23,000 at March 31,
1998.
At March 31, 1998, the Company's non-accruing loans included 11 loans
secured by single-family real estate totaling $296,000, two consumer loans
secured by autos totaling $12,000. At March 31, 1998, real estate owned included
a vacant lot totaling $194,000 and three loans secured by single-family real
estate totaling $35,000.
Management has revised the Company's underwriting guidelines and
implemented increased collection efforts in an attempt to minimize the level of
non-performing assets. No prediction can be made as to whether this effort will
be successful.
Other Assets of Concern. In addition to the non-performing assets set forth
in the table above, as of March 31, 1998, there were no loans or other assets
with respect to which known information about the
17
<PAGE>
possible credit problems of the borrowers or the cash flows of the security
properties have caused management to have concerns as to the ability of the
borrowers to comply with present loan repayment terms and which may result in
the future inclusion of such items in the non-performing asset categories.
Management considers non-performing and "of concern" assets in establishing
its allowance for loan losses.
Allowance for Loan Losses. The following table sets forth an analysis of
the allowance for loan losses.
<TABLE>
<CAPTION>
Year Ended March 31,
------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C>
Balance at beginning of period ............................ $801 $286 $311 $318 $349
---- ---- ---- ---- ----
Acquisition of Paintsville Bank ........................... -- 526 -- -- --
Charge-offs:
One- to four-family ..................................... 49 17 44 130 184
Multi-family ............................................ -- -- 149 -- --
Commercial real estate .................................. -- -- 21 19 --
Commercial business ..................................... 1 45 -- -- --
Consumer ................................................ 102 76 -- -- --
Credit cards ............................................ 21 15 -- -- --
---- ---- ---- ---- ----
Total charge-offs ................................... 173 153 214 149 184
---- ---- ---- ---- ----
Recoveries:
One- to four-family ..................................... -- 3 12 9 70
Multi-family ............................................ -- -- 9 -- --
Commercial Business ..................................... 26 17 -- -- --
Consumer ................................................ 16 16 -- -- --
Credit cards ............................................ 3 1 -- -- --
---- ---- ---- ---- ----
Total recoveries .................................... 45 37 21 9 70
Net charge-offs ........................................... 128 116 193 140 114
---- ---- ---- ---- ----
Additions charged to operations ........................... 158 105 168 133 83
---- ---- ---- ---- ----
Balance at end of period .................................. 831 $801 $286 $311 $318
==== ==== ==== ==== ====
Ratio of net charge-offs during the period to average loans
outstanding during the period ......................... 0.1% 0.2% 0.5% 0.4% 0.3%
==== ==== ==== ==== ====
Ratio of net charge-offs during the period to average non-
performing assets ..................................... 15.4% 9.6% 25.4% 17.5% 11.5%
==== ==== ==== ==== ====
</TABLE>
18
<PAGE>
The distribution of the allowance for loan losses at the dates indicated is
summarized as follows:
<TABLE>
<CAPTION>
March 31,
--------------------------------------------------------------------------------------------------------
1998 1997 1996
------------------------------- --------------------------------- --------------------------------
Percent Percent Percent
of Loans of Loans of Loans
Loan in Each Loan in Each Loan in Each
Amount of Amounts Category Amount of Amounts Category Amount of Amounts Category
Loan Loss by to Total Loan Loss by to Total Loan Loss by to Total
Allowance Category Loans Allowance Category Loans Allowance Category Loans
--------- -------- -------- --------- --------- ------- --------- --------- -------
(In thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
One- to four-family .. 221 66,078 72.6% 88 62,413 75.3% $ 59 $38,944 87.5%
Multi-family ......... 2 1,497 1.6 3 1,104 1.3 -- 215 0.5
Commercial real estate 45 8,970 9.9 67 6,877 8.3 4 2,509 5.7
Construction ......... -- 426 0.5 -- 832 1.0 -- 1,132 2.5
Consumer ............. 35 7,115 7.8 14 6,838 8.3 -- 618 1.4
Commercial business .. 52 6,942 7.6 22 4,794 5.8 -- 1,063 2.4
Unallocated .......... 476 -- -- 607 -- -- 223 -- --
------- ------- ----- ------- ------- ----- ------- ------- -----
Total ........... $ 831 91,028 100.0% $ 801 $82,858 100.0% $ 286 $44,481 100.0%
======= ===== ======= ======= ===== ======= ======= =====
<CAPTION>
March 31,
--------------------------------------------------------------------
1995 1994
------------------------------- ---------------------------------
Percent Percent
of Loans of Loans
Loan in Each Loan in Each
Amount of Amounts Category Amount of Amounts Category
Loan Loss by to Total Loan Loss by to Total
Allowance Category Loans Allowance Category Loans
--------- -------- -------- --------- --------- -------
(In thousands)
<S> <C> <C> <C> <C> <C> <C>
One- to four-family .. $ 47 $35,005 96.9% $--- $32,239 95.8%
Multi-family ......... -- 118 0.3 -- 161 0.5
Commercial real estate 75 630 1.7 -- 805 2.4
Construction ......... -- -- -- -- -- --
Consumer ............. -- 383 1.1 -- 429 1.3
Commercial business .. -- -- -- -- -- --
Unallocated .......... 190 -- -- 318 -- --
------- ------- ----- ------- ------- -----
Total ........... $ 312 $36,136 100.0% $ 318 $33,634 100.0%
======= ======= ===== ======= ======= =====
</TABLE>
19
<PAGE>
The allowance for loan losses is established through a provision for loan
losses charged to earnings based on management's evaluation of the risk inherent
in its entire loan portfolio and changes in the nature and volume of its loan
activity. Such evaluation, which includes a review of all loans of which full
collectibility may not be reasonably assured, considers the market value of the
underlying collateral, growth and composition of the loan portfolio, the
relationship of the allowance to outstanding loans, historical loss experience,
delinquency trends, prevailing and projected economic conditions and other
factors that warrant recognition in providing for an adequate allowance for loan
losses. In determining the general reserves under these policies, historical
charge-offs and recoveries, changes in the mix and levels of the various types
of loans, net realizable values, the current loan portfolio and current economic
conditions are considered.
While management believes that it uses the best information available to
determine the allowance for loan losses, unforeseen economic and market
conditions could result in adjustments to the allowance for loan losses, and net
earnings could be significantly affected, if circumstances differ substantially
from the assumptions used in making the final determination.
Investment Activities
General. Generally, the investment policy of the Company is to invest funds
among categories of investments and maturities based upon the asset/liability
management policies, investment quality, loan and deposit volume, liquidity
needs and performance objectives. The Company's securities are classified into
three categories: trading, held to maturity and available-for-sale. Securities
that are bought and held principally for the purpose of selling them in the near
term are classified as trading securities and are reported at fair value with
unrealized gains and losses included in trading account activities in the
statement of operations. Securities that the Company has the positive intent and
ability to hold to maturity are classified as held-to-maturity and reported at
amortized cost. All other securities not classified as trading or
held-to-maturity are classified as available-for-sale. At March 31, 1998, the
Company had no securities which were classified as trading. Available-for-sale
securities are reported at fair value with unrealized gains and losses included,
on an after-tax basis, in a separate component of retained earnings. At March
31, 1998, $26.0 million of investment securities or mortgage-backed and related
securities were classified as available-for-sale.
The Company must maintain minimum levels of investments and other assets
that qualify as liquid assets. Liquidity may increase or decrease depending upon
the availability of funds and comparative yields on investments in relation to
the return on loans. Historically, Classic Bank has maintained liquid assets at
levels significantly above the minimum requirements imposed by the regulations
and above levels believed adequate to meet the requirements of normal
operations, including potential deposit outflows. At March 31, 1998, the
liquidity ratio (defined as cash and other financial assets maturing within one
year) was 4.4%. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations - Asset/Liability Management" and "- Liquidity and
Capital Resources" contained in Exhibit 13.
Securities. National banks and federally chartered savings institutions
have the authority to invest in various types of liquid assets, including United
States Treasury obligations, securities of various federal agencies, certain
certificates of deposit of insured banks and savings institutions, certain
bankers' acceptances, repurchase agreements and federal funds. Subject to
various restrictions, national banks and federally chartered savings
institutions may also invest their assets in commercial paper, investment grade
corporate debt securities and mutual funds whose assets conform to the
investments that a federally chartered savings institution is otherwise
authorized to make directly.
20
<PAGE>
Prior to April 1995, the Company used investment securities to supplement
loan volume and to improve the yield on its interest-earning assets. Since the
Company's shift in business strategy in 1996 resulted in an increase in lending
activities (in part because loans generally carry higher yields than investment
securities), the Company has experienced a decline in the volume of investment
securities. However, the Company continues to invest in liquidity investments
and in high-quality investments, such as U.S. Treasury and agency obligations,
in order to supplement lending volume and provide collateral for FHLB borrowing
and public funds deposited with the Company. Investment securities may also be
used to adjust the term to repricing of the Company's assets. At March 31, 1998,
the Company's investment securities portfolio totaled $19.5 million. At March
31, 1998, the Company did not own any investment securities of a single issuer
which exceeded 10% of the Company's stockholders' equity, other than U.S.
government securities and federal agency obligations. See Note 4 of the Notes to
the Consolidated Financial Statements in Exhibit 13 for additional information
regarding the Company's investment securities portfolio.
The following table sets forth the composition of the Company's securities
at the dates indicated.
<TABLE>
<CAPTION>
March 31,
--------------------------------------------------------------------
1998(1) 1997(1) 1996(1)
------------------ ------------------ ------------------
Carrying % of Carrying % of Carrying % of
Value Total Value Total Value Total
------- ----- ------- ----- ------- -----
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Investment securities:
U.S. government securities ............................ 1,275 6.5 $ 1,503 6.2 $ 1,266 11.5
Federal agency obligations ............................ 7,826 40.2 14,815 60.7 4,415 39.9
Municipal bonds ....................................... 8,804 45.2 7,057 28.9 4,757 43.0
Other debt securities ................................. 272 1.4 -- -- -- --
FHLB and FRB stock ...................................... 1,297 6.7 1,015 4.2 621 5.6
------- ----- ------- ----- ------- -----
Total securities and FHLB stock .................... 19,474 100.0% $24,390 100.0% 11,059 100.0%
======= ===== ======= ===== ======= =====
Average remaining life of investment securities ......... 10 yrs. 7 yrs. 13 yrs.
Other interest-earning assets:
Interest-bearing deposits with banks .................. $ 410 26.6% $ 495 8.2% $ 6,649 100.0%
Federal Funds Sold and securities purchased
under agreement to resell ............................ 1,131 73.4 5,525 91.8 -- --
</TABLE>
- ----------
(1) At March 31, 1998, 1997 and 1996, all investment securities held by the
Company were classified as available for sale.
21
<PAGE>
The composition and maturities of the securities portfolio, excluding FHLB
stock, are indicated in the following table.
<TABLE>
<CAPTION>
March 31, 1998
----------------------------------------------------------------------------------------
Less Than 1 to 5 5 to 10 Over Total Securities
1 Year Years Years 10 Years -----------------------
Carrying Carrying Carrying Carrying Carrying Market
Value Value Value Value Value Value
------- ------- ------- ------- ------- -------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
U.S. government securities ......... $ 250 $ 1,025 -- -- $ 1,275 $ 1,275
Federal agency obligations ......... -- -- 997 6,829 7,826 7,826
Municipal bonds .................... 43 564 1,616 6,581 8,804 8,804
Corporate equity securities ........ -- -- -- 272 272 272
------- ------- ------- ------- ------- -------
Total securities ................... $ 293 $ 1,589 $ 2,613 $13,682 $18,177 $18,177
======= ======= ======= ======= ======= =======
Weighted average yield(1) .......... 5.3% 6.2% 5.4% 6.5% 6.3% 6.3%
</TABLE>
- ----------
(1) Yields have not been computed on a tax-equivalent basis.
See Note 4 of the Notes to the Consolidated Financial Statements contained
in Exhibit 13 for a discussion of the Company's securities portfolio.
Mortgage-Backed and Related Securities. In order to supplement loan and
investment activities, the Company has invested in mortgage-backed and related
securities.
Consistent with its asset/liability management strategy at March 31, 1998,
$3.3 million, or 42.3% of the Company's mortgage-backed and related securities
have adjustable interest rates. For information regarding the mortgage-backed
and related securities portfolio, see Note 4 of the Notes to the Consolidated
Financial Statements contained in Exhibit 13.
As of March 31, 1998, all of the mortgage-backed and related securities
owned by the Company were issued, insured or guaranteed either directly or
indirectly by a federal agency. As a result, the Company did not have any
mortgage-backed or related securities in excess of 10% of stockholders' equity
except for federal agency obligations.
In addition to its conventional mortgage-backed securities, from time to
time, the Company invests in collateralized mortgage obligations ("CMOs") and
real estate mortgage investment conduits ("REMICs"). CMOs and REMICs are
securities derived by reallocating the cash flows from mortgage-backed
securities or pools of mortgage loans in order to create multiple classes, or
tranches, of securities with coupon rates and average lives that differ from the
underlying collateral as a whole. The terms to maturity of any particular
tranche is dependent upon the prepayment speed of the underlying collateral as
well as the structure of the particular CMO or REMIC. As a result, the cash flow
and hence the value of CMOs and REMICs are subject to substantial change. At
March 31, 1998, the Company had $1.4 million of CMOs.
To assess price volatility, the Federal Financial Institutions Examination
Council ("FFIEC") adopted a policy in 1992 which requires an annual "stress"
test of mortgage derivative securities. This policy requires Classic Bank and
Paintsville Bank to annually test its CMOs and other mortgage-related securities
to determine whether they are high-risk or nonhigh-risk securities. Mortgage
derivative products with an average life or price volatility in excess of a
benchmark 30-year, mortgage-backed, pass-through security are considered
high-risk mortgage securities. Under the policy, savings institutions may
generally only invest in high-risk mortgage securities in order to reduce
interest rate risk. In addition, all high-risk
22
<PAGE>
mortgage securities acquired after February 9, 1992 which are classified as high
risk at the time of purchase must be carried in the institution's trading
account or as assets held for sale. At March 31, 1998, none of the Company's
mortgage-backed securities were classified as "high-risk."
The following table sets forth the contractual maturities of the Company's
mortgage-backed securities at March 31, 1998.
<TABLE>
<CAPTION>
March 31, 1998
--------------
Over 1 to 5 Over 5 to Over 10 to Over 20 Balance
Years 10 Years 20 Years Years Outstanding
------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C>
Federal Home Loan Mortgage
Corporation .............. $ 757 $ 263 $1,059 952 $3,031
FNMA ..................... -- -- -- 2,546 2,546
GNMA ..................... -- -- -- -- --
Other .................... -- -- -- 826 826
CMOs and REMICs .......... -- 1,010 418 -- 1,428
------ ------ ------ ------ ------
Total ............... $ 757 $1,273 $1,477 $4,324 $7,831
====== ====== ====== ====== ======
</TABLE>
At March 31, 1998, the dollar amount of all mortgage-backed and related
securities due after March 31, 1998, which had fixed interest rates and floating
or adjustable rates totaled $4.5 million and $3.3 million, respectively.
The market values of a portion of the Company's mortgage-backed and related
securities held-to-maturity have been from time to time lower than their
carrying values. However, for financial reporting purposes, such declines in
value are considered to be temporary in nature since they have been due to
changes in interest rates rather than credit concerns. See Note 4 of the Notes
to the Consolidated Financial Statements contained in Exhibit 13.
The following table sets forth the composition of the mortgage-backed
securities at the dates indicated.
<TABLE>
<CAPTION>
March 31,
-------------------------------------------------------------------
1998 1997 1996
------------------- ------------------- --------------------
Amortized Market Amortized Market Amortized Market
Cost Value Cost Value Cost Value
--------- ------ --------- ------ --------- ------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Mortgage-backed securities available for sale:
FHLMC ............................... $2,989 $3,031 $2,561 $2,521 $ 371 $ 365
FNMA ................................ 2,546 2,546 2,945 2,966 -- --
Other ............................... 828 826 417 411 484 480
CMOs/REMICs ......................... 1,442 1,428 2,017 1,987 2,021 1,995
------ ------ ------ ------ ------ ------
Total mortgage-backed securities $7,805 $7,831 $7,940 $7,885 $2,876 $2,840
====== ====== ====== ====== ====== ======
</TABLE>
23
<PAGE>
The following table shows mortgage-backed and related securities purchase,
sale and repayment activities for the periods indicated.
Year Ended March 31,
-----------------------------------
1998 1997 1996
------- ------- -------
(In Thousands)
Purchases:
Adjustable-rate(1) ................. $ -- $ 3,035 $ 488
Fixed-rate(1) ...................... 1,744 2,299 --
CMOs and REMICs .................... 438 -- 2,022
------- ------- -------
Total purchases ............. 2,182 5,334 2,510
------- ------- -------
Sales:
Adjustable-rate(1) ................. -- 2,255 156
Fixed-rate(1) ...................... -- 976 451
CMOs and REMICs .................... 1,012 -- 6,542
------- ------- -------
Total sales ................. 1,012 3,231 7,149
------- -------
Principal repayments ................. (1,285) (532) 659
Other increases (decreases), net ..... (20) (46) (3)
------- ------- -------
Net increase (decrease) ......... $ (135) $ 1,525 $(5,301)
======= ======= =======
- ----------
(1) Consists of pass-through securities.
Sources of Funds
General. The Company's primary sources of funds are deposits, payments
(including prepayments) of loan principal, interest earned on loans and
securities, repayments of securities, borrowings and funds provided from
operations. Borrowings may be used on a short-term basis to compensate for
seasonal reductions in deposits or deposit inflows at less than projected levels
and may be used on a longer-term basis to support expanded lending activities.
Deposits. The Company offers deposit accounts having a wide range of
interest rates and terms. The Company's deposits consist of passbook, money
market, various certificate and interest- and noninterest-bearing checking
accounts. In order to increase the volume of checking accounts, the Company
employed a new accounts specialist in fiscal 1996. The Company also cross
markets to current customers and utilizes newspaper and radio advertisements.
The Company currently relies primarily on competitive pricing policies and
customer service to attract and retain deposits. The Company has a contract with
a nationally recognized ATM network and added five new ATM locations during the
year in order to obtain access to automated teller machines and in order to
increase fees and attract customers.
The Company serves as a depository for public funds for various
municipalities and related entities. At March 31, 1998, the amount of public
funds on deposit with the Company was $1.1 million. These accounts are subject
to volatility depending on government funding needs and the Company's desire to
attract such funds.
From time to time, the Company offers "step up" certificates of deposits
which permit upward adjustments of interest rates depending on market conditions
but do not permit downward adjustments
24
<PAGE>
below the initial rate. At March 31, 1998 the Company had $1.9 million of "step
up" certificates of deposit with an average cost of 5.4%.
The Company currently manages the pricing of its deposits in keeping with
its asset/liability management, profitability and growth objectives. For
additional information regarding the Company's deposit accounts, see Note 7 of
the Notes to the Consolidated Financial Statements contained in Exhibit 13.
The following table sets forth the savings flows at the Company during the
periods indicated.
Year Ended March 31,
-------------------------------------------
1998 1997 1996
--------- --------- ---------
(Dollars in Thousands)
Opening balance ............... $ 100,519 $ 46,200 $ 48,510
Acquisition of Paintsville Bank -- 52,851 --
Deposits ...................... 507,555 217,612 15,671
Withdrawals ................... (506,091) (218,707) (19,587)
Interest credited ............. 2,944 2,563 1,606
--------- --------- ---------
Ending balance ................ $ 104,927 $ 100,519 $ 46,200
========= ========= =========
Net increase (decrease) ....... $ 4,408 $ 54,319 $ (2,310)
========= ========= =========
Percent increase (decrease) ... 4.4% 117.8% (4.8)%
========= ========= =========
The following table sets forth the dollar amount of savings deposits in the
various types of deposit programs offered as of the dates indicated.
<TABLE>
<CAPTION>
As of March 31,
------------------------------------------------------------------
1998 1997 1996
---------------- ------------------ -----------------
Percent Percent Percent
Amount of Total Amount of Total Amount of Total
------ -------- ------ -------- ------ --------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Deposits:
Non-interest bearing demand deposits.......... $10,152 9.7% $ 9,496 9.4% $ -- --
Interest bearing demand deposits - 2.7%(1).... 10,281 9.8 9,134 9.1 15 --
Savings Accounts - 3.0%(1).................... 10,722 10.2 11,552 11.5 2,683 5.8
Money Market Accounts - 3.6%(1)............... 9,331 8.9 9,599 9.5 5,494 11.9
------- ----- ------- ---- ------- -----
Total Deposits........................... $40,486 38.6% $39,781 39.5% 8,192 17.7%
======= ==== ======= ==== ===== ====
Certificates:
0.00 - 4.00%................................. 1,128 1.1 1,611 1.7 2,582 5.6
4.01 - 6.00%................................. 50,657 48.2 48,363 48.1 18,421 39.9
6.01 - 8.00%................................. 12,556 12.0 10,640 10.6 16,792 36.3
8.01 - 10.00%................................. 100 0.1 124 0.1 213 0.5
------- ----- ------- ---- ------- -----
Total Certificates............................ 64,441 61.4 60,738 60.5 38,008 82.3
------- ----- ------- ---- ------- -----
Total Deposits........................... 104,927 100.0% 100,519 100.0% 46,200 100.0%
======= ===== ======= ===== ====== =====
</TABLE>
- ----------
(1) Interest rate offered at March 31, 1998.
25
<PAGE>
The following table shows rate and maturity information for the Company's
certificates of deposit as of March 31, 1998.
<TABLE>
<CAPTION>
0.00- 4.01- 6.01- 8.01- Percent
4.00% 6.00% 8.00% or greater Total of Total
------ ------ ------ ---------- ----- --------
(Dollars in Thousands)
Certificate accounts maturing in quarter ending:
<S> <C> <C> <C> <C> <C>
June 30, 1998 ................. 1,118 14,015 4,654 -- 19,787 30.7%
September 30, 1998 ............ -- 11,931 1,897 -- 13,828 21.5
December 31, 1998 ............. -- 5,772 2,016 -- 7,788 12.1
March 31, 1999 ................ -- 6,581 1,474 100 8,155 12.7
June 30, 1999 ................. -- 4,160 909 -- 5,069 7.9
September 30, 1999 ............ -- 4,072 294 -- 4,366 6.7
December 31, 1999 ............. -- 1,249 445 -- 1,694 2.6
March 31, 2000 ................ -- 948 378 -- 1,326 2.1
June 30, 2000 ................. -- 472 429 -- 901 1.4
September 30, 2000 ............ 10 772 -- -- 782 1.2
December 31, 2000 ............. -- 225 25 -- 250 0.4
March 31,2001 ................. -- 80 -- -- 80 0.1
Thereafter .................... -- 380 35 -- 415 0.6
------ ------ ------ ------ ------ -----
Total ...................... 1,128 50,657 12,556 100 64,441 100.0%
====== ====== ====== ====== ====== =====
Percent of total ........... 1.8% 78.5% 19.5% .2% 100.0%
</TABLE>
The following table indicates the amount of the certificates of deposit and
other deposits by time remaining until maturity as of March 31, 1998.
<TABLE>
<CAPTION>
Maturity
----------------------------------------------------
Over Over
3 Months 3 to 6 6 to 12 Over
or Less Months Months 12 months Total
-------- ------ ------ --------- -----
(In Thousands)
<S> <C> <C> <C> <C> <C>
Certificates of deposit less than $100,000 .............. 11,741 9,887 11,483 12,302 45,413
Certificates of deposit of $100,000 or more ............. 7,781 3,240 4,348 2,581 17,950
Public funds ............................................ 265 701 112 -- 1,078
------ ------ ------ ------ ------
Total certificates of deposit ........................... 19,787 13,828 15,943 14,883 64,441
====== ====== ====== ====== ======
</TABLE>
For additional information regarding the composition of the Company's
deposits, see Note 7 of the Notes to the Consolidated Financial Statements
contained in Exhibit 13.
Borrowings. Other available sources of funds include advances from the FHLB
of Cincinnati and other borrowings. As members of the FHLB of Cincinnati,
Classic Bank and Paintsville Bank are required to own capital stock in the FHLB
of Cincinnati and are authorized to apply for advances from the FHLB of
Cincinnati. Each FHLB credit program has its own interest rate, which may be
fixed or variable, and range of maturities. The FHLB of Cincinnati may prescribe
the acceptable uses for these advances, as well as limitations on the size of
the advances and repayment provisions.
26
<PAGE>
FHLB borrowings are also used to fund loan demand and other investment
opportunities and to offset deposit outflows. At March 31, 1998, the Company had
no FHLB advances outstanding. See Note 9 of the Notes to the Consolidated
Financial Statements contained in Exhibit 13.
In connection with its acquisition of First Paintsville, the Company
assumed and refinanced $722,000 of 8 1/4% notes payable by First Paintsville to
a local community bank. Such notes are due to mature in December 2004.
The following table sets forth the maximum month-end balance and average
balance of the Company's borrowings for the periods indicated.
Year Ended March 31,
-----------------------------------
1998 1997 1996
------- ------- -------
(In Thousands)
Maximum Balance:
Repurchase agreements .............. $ 3,681 $ 5,285 --
Other borrowings
Treasury tax and loan note ...... 704 544 --
Notes payable ................... 650 700 --
FHLB advances ................... $ 8,378 $10,200 $ 7,975
Average Balance:
Repurchase agreements .............. 3589 2,517 --
Other borrowings
Treasury tax and loan note ...... 317 204 --
Notes payable ................... 613 340 --
FHLB advances ................... 5813 4,079 3,660
Weighted average interest rate ....... 6.0% 5.4% 5.9%
27
<PAGE>
The following table sets forth certain information as to the Company's
borrowings at the dates indicated.
<TABLE>
<CAPTION>
March 31,
------------------------------------
1998 1997 1996
------- ------- --------
(Dollars in Thousands)
<S> <C> <C> <C>
Repurchase agreements ...................... $ 3,522 $ 4,956 --
Other Borrowings
Treasury tax and loan note ............... 274 429 --
Notes payable ............................ 550 650 --
FHLB advances ............................ -- $ 4,750 $ --
------- ------- --------
Total Borrowings ........................... $4346 $10,785 $ --
======= ======= ========
Weighted average interest rate of repurchase
agreements ................................. 5.4% 5.1% --
Weighted average interest rate of
other borrowings ........................... 7.5% 6.3% --
</TABLE>
Trust Services
In order to generate fee income and provide a broad range of services to
its customers, Paintsville Bank provides a variety of trust services to its
customers. Such services include managing and investing trust assets, disbursing
funds as required by trust agreements and arranging for maintenance at two local
cemeteries. For fiscal 1998, gross trust fees were less than $1,000.
Subsidiary Activities
Federal Savings Associations. As a federally chartered savings bank,
Classic Bank is permitted by OTS regulations to invest up to 2% of its assets in
the stock of, or loans to, service corporation subsidiaries, and may invest an
additional 1% of its assets in service corporations where such additional funds
are used for inner-city or community development purposes. In addition to
investments in service corporations, federal institutions are permitted to
invest an unlimited amount in operating subsidiaries engaged solely in
activities which a federal savings association may engage in directly.
During fiscal 1998, Classic Bank had one wholly owned service corporation,
AFS Service Corporation (the "Subsidiary"). The Subsidiary, a Kentucky
corporation, was incorporated in 1978 for the purpose of acquiring the stock of
Intrieve, Inc. ("Intrieve") (formerly the Savings and Loan Data Corporation,
Inc.). During fiscal 1998, the Subsidiary was dissolved and the Intrieve Stock
sold.
National Banks. A national bank may establish an operating subsidiary to
engage in activities incidental to the business of banking. There are no
investment or geographic limitations on the establishment of a national bank
operating subsidiary. At March 31, 1998, Paintsville Bank had no subsidiaries.
28
<PAGE>
Competition
The Company faces strong competition both in originating real estate loans
and in attracting deposits. Competition in originating loans comes primarily
from commercial banks, credit unions mortgage bankers and other savings
institutions, which also make loans secured by real estate located in the
Company's primary market area. At March 31, 1998, there were seven savings
institutions, eight commercial banks and five credit unions located in Boyd,
Johnson and Greenup Counties, Kentucky. On that date, the Company's market share
of total loans in these counties was approximately 26.4%. The Company competes
for loans principally on the basis of the interest rates and loan fees it
charges, the types of loans it originates and the quality of services it
provides to borrowers.
Competition for deposits comes principally from commercial banks, credit
unions, mutual funds, securities firms and other savings institutions located in
the same communities. The ability of the Company to attract and retain deposits
depends on its ability to provide an investment opportunity that satisfies the
requirements of investors as to rate of return, liquidity, risk, convenient
locations and other factors. The Company competes for these deposits by offering
competitive rates, convenient business hours and a customer oriented staff. At
March 31, 1998, the Company's share of deposits in the above market area was
approximately 23.8%.
Employees
At March 31, 1998, the Company and its subsidiaries had a total of 54
full-time employees. None of the Company's employees are represented by any
collective bargaining agreement. Management considers its employee relations to
be good.
REGULATION
General
Classic Bank is a federally chartered savings association, the deposits of
which are federally insured and backed by the full faith and credit of the
United States Government. Accordingly, Classic Bank is subject to broad federal
regulation and oversight extending to all its operations. Classic Bank is a
member of the FHLB of Cincinnati and is subject to certain limited regulation by
the Federal Reserve Board. Classic Bank is a member of the Savings Association
Insurance Fund ("SAIF") and the deposits of Classic Bank are insured by the
FDIC. As a result, the FDIC has certain regulatory and examination authority
over Classic Bank.
Paintsville Bank is a national bank and its deposit accounts are insured by
the Bank Insurance Fund ("BIF") of the FDIC. As a national bank, Paintsville
Bank is required to file reports with the OCC concerning its activities and
financial condition and is required to obtain regulatory approvals prior to
entering into certain transactions, including mergers with, or acquisitions of,
other depository institutions. As a national bank, Paintsville Bank is required
to be a member of the Federal Reserve System. As the bank holding company of
Paintsville Bank, the Company is subject to supervision, examination and
regulation by the Federal Reserve Board.
Certain of these regulatory requirements and restrictions are discussed
below or elsewhere in this document.
29
<PAGE>
Federal Regulation of Savings Associations and National Banks
The OTS has extensive authority over the operations of savings
associations. As part of this authority, Classic Bank is required to file
periodic reports with the OTS and is subject to periodic examinations by the OTS
and the FDIC. The last regular OTS and FDIC examinations of Classic Bank were as
of September 30, 1996 and April 13, 1993, respectively. Under agency scheduling
guidelines, it is likely that another examination will be initiated in the near
future. When these examinations are conducted by the OTS and the FDIC, the
examiners may require Classic Bank to provide for higher general or specific
loan loss reserves. All savings associations are subject to a semi-annual
assessment, based upon the savings association's total assets, to fund the
operations of the OTS. Classic Bank's OTS assessment for the fiscal year ended
March 31, 1998 was $23,000.
The OTS also has extensive enforcement authority over all savings
institutions, including Classic Bank. This enforcement authority includes, among
other things, the ability to assess civil money penalties, to issue
cease-and-desist or removal orders and to initiate injunctive actions. In
general, these enforcement actions may be initiated for violations of laws and
regulations and unsafe or unsound practices. Other actions or inactions may
provide the basis for enforcement action, including misleading or untimely
reports filed with the OTS. Except under certain circumstances, public
disclosure of final enforcement actions by the OTS is required.
In addition, the investment, lending and branching authority of Classic
Bank is prescribed by federal laws and it is prohibited from engaging in any
activities not permitted by such laws. For instance, no savings institution may
invest in non-investment grade corporate debt securities. In addition, the
permissible level of investment by federal associations in loans secured by
non-residential real property may not exceed 400% of total capital, except with
approval of the OTS. Federal savings associations are also generally authorized
to branch nationwide. Classic Bank is in compliance with the noted restrictions.
Paintsville Bank is able to branch only within the county in which its principal
office is located. See "--Interstate Banking and Branching" for restrictions
applicable to interstate branching by Paintsville Bank.
The OCC has extensive authority over the operations of national banks. As
part of this authority, Paintsville Bank is required to file periodic reports
with the OCC and is subject to periodic examinations by the OCC. The last
regular examination of Paintsville Bank was as of June 30, 1997. All national
banks are subject to a semi-annual assessment, based upon the bank's total
assets, to fund the operations of the OCC. Paintsville Bank's assessment for the
fiscal year ended March 31, 1998 was $29,000.
The OCC also has extensive enforcement authority over all national banks,
including Paintsville Bank. This enforcement authority includes, among other
things, the ability to assess civil money penalties, to issue cease-and-desist
or removal orders and to initiate injunctive actions. In general, these
enforcement actions may be initiated for violations of laws and regulations and
unsafe or unsound practices. Other actions or inactions may provide the basis of
enforcement action, including misleading or untimely reports filed with the OCC.
Except under certain circumstances, public disclosure of final enforcement
actions by the OCC is required.
Classic Bank's and Paintsville Bank's general permissible lending limits
for loans to one borrower are equal to the greater of $500,000 or 15% of
unimpaired capital and surplus (except for loans fully secured by certain
readily marketable collateral, in which case each limit is increased to 25% of
unimpaired capital and surplus). At March 31, 1998, Classic Bank's lending limit
was $1.2 million. On such date,
30
<PAGE>
Classic Bank was in compliance with the loans-to-one-borrower limitation. At
March 31, 1998, Paintsville Bank's lending limit was $1.3 million. On such date,
Paintsville Bank was in compliance with this limit.
The OTS, as well as other federal banking agencies, has adopted guidelines
establishing safety and soundness standards on such matters as loan underwriting
and documentation, internal controls and audit systems, interest rate risk
exposure and compensation and other employee benefits. Any institution which
fails to comply with these standards must submit a compliance plan. A failure to
submit a plan or to comply with an approved plan will subject the institution to
further enforcement action. The OTS and the other federal banking agencies have
also proposed additional guidelines on asset quality and earnings standards. No
assurance can be given as to whether or in what form the proposed regulations
will be adopted. Paintsville Bank is subject to substantially similar guidelines
adopted by the OCC.
Insurance of Accounts and Regulation by the FDIC
Classic Bank is a member of the SAIF, and Paintsville Bank is a member of
the Bank Insurance Fund ("BIF"), both of which are administered by the FDIC.
Deposits are insured up to applicable limits by the FDIC and such insurance is
backed by the full faith and credit of the United States Government. As insurer,
the FDIC imposes deposit insurance premiums and is authorized to conduct
examinations of and to require reporting by FDIC-insured institutions. It also
may prohibit any FDIC-insured institution from engaging in any activity the FDIC
determines by regulation or order to pose a serious risk to the SAIF or the BIF.
The FDIC also has the authority to initiate enforcement actions against savings
associations and national banks, after giving the OTS or the OCC, as the case
may be, an opportunity to take such action, and may terminate the deposit
insurance if it determines that the institution has engaged in unsafe or unsound
practices or is in an unsafe or unsound condition.
The FDIC's deposit insurance premiums are assessed through a risk-based
system under which all insured depository institutions are placed into one of
nine categories and assessed insurance premiums based upon their level of
capital and supervisory evaluation. Under the system, institutions classified as
well capitalized (i.e., a core capital ratio of at least 5%, a ratio of Tier 1
or core capital to risk-weighted assets ("Tier 1 risk-based capital") of at
least 6% and a risk-based capital ratio of at least 10%) and considered healthy
pay the lowest premium while institutions that are less than adequately
capitalized (i.e., core or Tier 1 risk-based capital ratios of less than 4% or a
risk-based capital ratio of less than 8%) and considered of substantial
supervisory concern pay the highest premium. Risk classification of all insured
institutions is made by the FDIC for each semi-annual assessment period.
The FDIC is authorized to increase assessment rates, on a semiannual basis,
if it determines that the reserve ratio of the SAIF will be less than the
designated reserve ratio of 1.25% of SAIF insured deposits. In setting these
increased assessments, the FDIC must seek to restore the reserve ratio to that
designated reserve level, or such higher reserve ratio as established by the
FDIC. The FDIC may also impose special assessments on SAIF members to repay
amounts borrowed from the United States Treasury or for any other reason deemed
necessary by the FDIC.
In order to equalize the deposit insurance premium schedules for BIF and
SAIF insured institutions, the FDIC imposed a one-time special assessment on all
SAIF-assessable deposits pursuant to federal legislation enacted on September
30, 1996. Classic Bank's special assessment, which was $316,000, was paid in
November 1996, and included in federal deposit insurance expense for the fiscal
year ended March 31, 1997. Effective January 1, 1997, the premium schedule for
BIF and SAIF insured institutions ranged from 0 to 27 basis points. However,
SAIF-insured institutions are required to pay a Financing Corporation (FICO)
assessment, in order to fund the interest on bonds issued to resolve thrift
failures in the 1980s,
31
<PAGE>
equal to 6.48 basis points for each $100 in domestic deposits, while BIF-insured
institutions pay an assessment equal to 1.52 basis points for each $100 in
domestic deposits. The assessment is expected to be reduced to 2.43 no later
than January 1, 2000, when BIF insured institutions fully participate in the
assessment. These assessments, which may be revised based upon the level of BIF
and SAIF deposits will continue until the bonds mature in the year 2017.
Regulatory Capital Requirements of Federal Savings Associations
Federally insured savings associations, such as Classic Bank, are required
to maintain a minimum level of regulatory capital. The OTS has established
capital standards, including a tangible capital requirement, a leverage ratio
(or core capital) requirement and a risk-based capital requirement applicable to
such savings associations. These capital requirements must be generally as
stringent as the comparable capital requirements for national banks. The OTS is
also authorized to impose capital requirements in excess of these standards on
individual associations on a case-by-case basis.
The capital regulations require tangible capital of at least 1.5% of
adjusted total assets (as defined by regulation). Tangible capital generally
includes common stockholders' equity and retained income, and certain
noncumulative perpetual preferred stock and related income. In addition, all
intangible assets, other than a limited amount of purchased mortgage servicing
rights, must be deducted from tangible capital for calculating compliance with
the requirement. At March 31, 1998, Classic Bank did not have any intangible
assets.
The OTS regulations establish special capitalization requirements for
savings associations that own subsidiaries. In determining compliance with the
capital requirements, all subsidiaries engaged solely in activities permissible
for national banks or engaged in certain other activities solely as agent for
its customers are "includable" subsidiaries that are consolidated for capital
purposes in proportion to Classic's level of ownership. For excludable
subsidiaries the debt and equity investments in such subsidiaries are deducted
from assets and capital. The subsidiary of Classic Bank is an includable
subsidiary.
At March 31, 1998, Classic Bank had tangible capital of $7.9 million, or
11.5% of adjusted total assets, which is approximately $6.9 million above the
minimum requirement of 1.5% of adjusted total assets in effect on that date.
The capital standards also require core capital equal to at least 3% of
adjusted total assets. Core capital generally consists of tangible capital plus
certain intangible assets, including a limited amount of purchased credit card
relationships. As a result of the prompt corrective action provisions discussed
below, however, a savings association must maintain a core capital ratio of at
least 4% to be considered adequately capitalized unless its supervisory
condition is such to allow it to maintain a 3% ratio. At March 31, 1998, Classic
Bank had no intangibles which were subject to these tests.
At March 31, 1998, Classic Bank had core capital equal to $7.9 million, or
11.5% of adjusted total assets, which is $5.9 million above the minimum leverage
ratio requirement of 3% as in effect on that dates.
The OTS risk-based requirement requires savings associations to have total
capital of at least 8% of risk-weighted assets. Total capital consists of core
capital, as defined above, and supplementary capital. Supplementary capital
consists of certain permanent and maturing capital instruments that do not
qualify as core capital and general valuation loan and lease loss allowances up
to a maximum of 1.25% of risk-weighted assets. Supplementary capital may be used
to satisfy the risk-based requirement only to the extent
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of core capital. The OTS is also authorized to require a savings association to
maintain an additional amount of total capital to account for concentration of
credit risk and the risk of non-traditional activities. At March 31, 1998,
Classic Bank had no capital instruments that qualify as supplementary capital
and $319,000 of general loss reserves, which was less than 1.25% of
risk-weighted assets.
Certain exclusions from capital and assets are required to be made for the
purpose of calculating total capital. Such exclusions consist of equity
investments (as defined by regulation) and that portion of land loans and
nonresidential construction loans in excess of an 80% loan-to-value ratio and
reciprocal holdings of qualifying capital instruments.
In determining the amount of risk-weighted assets, all assets, including
certain off-balance sheet items, will be multiplied by a risk weight, ranging
from 0% to 100%, based on the risk inherent in the type of asset. For example,
the OTS has assigned a risk weight of 50% for prudently underwritten permanent
one- to four-family first lien mortgage loans not more than 90 days delinquent
and having a loan to value ratio of not more than 80% at origination unless
insured to such ratio by an insurer approved by the FNMA or FHLMC.
The OTS has adopted a final rule that requires every savings association
with more than normal interest rate risk exposure to deduct from its total
capital, for purposes of determining compliance with such requirement, an amount
equal to 50% of its interest-rate risk exposure multiplied by the present value
of its assets. This exposure is a measure of the potential decline in the net
portfolio value of a savings association, greater than 2% of the present value
of its assets, based upon a hypothetical 200 basis point increase or decrease in
interest rates (whichever results in a greater decline). Net portfolio value is
the present value of expected cash flows from assets, liabilities and
off-balance sheet contracts. The rule provides for a two quarter lag between
calculating interest rate risk and recognizing any deduction from capital. The
rule will not become effective until the OTS completes its evaluation of newly
adopted procedures by which savings associations may appeal an interest rate
risk deduction determination. Any savings association with less than $300
million in assets and a total capital ratio in excess of 12% is exempt from this
requirement unless the OTS determines otherwise. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations -Asset/Liability
Management" contained in Exhibit 13 to this Report and incorporated by reference
herein.
On March 31, 1998, Classic Bank had total capital of $8.3 million
(including $7.9 million in core capital and $319,000 in qualifying supplementary
capital) and risk-weighted assets of $36.8 million or total capital of 22.5% of
risk-weighted assets. This amount was $5.4 million above the 8.0% requirement in
effect on that date.
Regulatory Capital Requirements of National Banks
Paintsville Bank is subject to the capital regulations of the OCC. The
OCC's regulations establish two capital standards for national banks: a leverage
requirement and a risk-based capital requirement. In addition, the OCC may, on a
case-by-case basis, establish individual minimum capital requirements for a
national bank that vary from the requirements which would otherwise apply under
OCC regulations. A national bank that fails to satisfy the capital requirements
established under the OCC's regulations will be subject to such administrative
action or sanctions as the OCC deems appropriate.
The leverage ratio adopted by the OCC requires a minimum ratio of "Tier 1
capital" to adjusted total assets of 3% for national banks rated composite 1
under the CAMEL rating system for banks. National banks not rated composite 1
under the CAMEL rating system for banks are required to maintain
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a minimum ratio of Tier 1 capital to adjusted total assets of 4% to 5%,
depending upon the level and nature of risks of their operations. For purposes
of the OCC's leverage requirement, Tier 1 capital generally consists of the same
components as core capital under the OTS's capital regulations, except that no
intangibless, other than certain purchased mortgage servicing rights, and
purchased credit card receivables may be included in capital.
The risk-based capital requirements established by the OCC's regulations
require national banks to maintain "total capital" equal to at least 8% of total
risk-weighted assets. For purposes of the risk-based capital requirement, "total
capital" means Tier 1 capital (as described above) plus "Tier 2 capital" (as
described below), provided that the amount of Tier 2 capital may not exceed the
amount of Tier 1 capital, less certain assets. The components of Tier 2 capital
under the OCC's regulations generally correspond to the components of
supplementary capital under OTS regulations. Total risk-weighted assets
generally are determined under the OCC's regulations in the same manner as under
the OTS's regulations. At March 31, 1998, Paintsville Bank was in compliance
with its capital requirements. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Liquidity and Capital
Resources", contained in Exhibit 13 to this Report and incorporated by reference
herein, for additional information regarding Paintsville Bank's compliance with
its capital requirements.
The OCC has revised its risk-based capital requirements to permit the OCC
to require higher levels of capital for an institution in light of its interest
rate risk. In addition, the OCC has proposed that a bank's interest rate risk
exposure would be quantified using either the measurement system set forth in
the proposal or the institution's internal model for measuring such exposure, if
such model is determined to be adequate by the institution's examiner. Small
institutions that are highly capitalized and have minimal interest rate risk,
such as Paintsville Bank, would be exempt from the rule unless otherwise
determined by the OCC. Management of Paintsville Bank has not determined what
effect, if any, the OCC's proposed interest rate risk component would have on
Paintsville Bank's capital if adopted as proposed.
Prompt Corrective Action
The OTS and the FDIC are authorized and, under certain circumstances
required, to take certain actions against savings associations that fail to meet
their capital requirements. The OTS is generally required to take action to
restrict the activities of an "undercapitalized association" (generally defined
to be one with less than either a 4% core capital ratio, a 4% Tier 1
risked-based capital ratio or an 8% risk-based capital ratio). Any such
association must submit a capital restoration plan and until such plan is
approved by the OTS may not increase its assets, acquire another institution,
establish a branch or engage in any new activities, and generally may not make
capital distributions. The OTS is authorized to impose the additional
restrictions that are applicable to significantly undercapitalized associations.
As a condition to the approval of the capital restoration plan, any company
controlling an undercapitalized association must agree that it will enter into a
limited capital maintenance guarantee with respect to the institution's
achievement of its capital requirements.
Any savings association that fails to comply with its capital plan or is
"significantly undercapitalized" (i.e., Tier 1 risk-based or core capital ratios
of less than 3% or a risk-based capital ratio of less than 6%) must be made
subject to one or more of additional specified actions and operating
restrictions which may cover all aspects of its operations and include a forced
merger or acquisition of the association. An association that becomes
"critically undercapitalized" (i.e., a tangible capital ratio of 2% or less) is
subject to further mandatory restrictions on its activities in addition to those
applicable to significantly undercapitalized associations. In addition, the OTS
must appoint a receiver (or conservator
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with the concurrence of the FDIC) for a savings association, with certain
limited exceptions, within 90 days after it becomes critically undercapitalized.
Any undercapitalized association is also subject to the general enforcement
authority of the OTS and the FDIC, including the appointment of a conservator or
a receiver.
The OTS is also generally authorized to reclassify an association into a
lower capital category and impose the restrictions applicable to such category
if the institution is engaged in unsafe or unsound practices or is in an unsafe
or unsound condition.
The imposition by the OTS or the FDIC of any of these measures on Classic
Bank may have a substantial adverse effect on such Bank's operations and
profitability and the value of the Company's common stock. The Company's
shareholders do not have preemptive rights, and therefore, if the Company is
directed by the OTS or the FDIC to issue additional shares of Common Stock, such
issuance may result in the dilution in the percentage of ownership of current
stockholders of the Company.
The OCC has the authority to enforce such requirements against Paintsville
Bank.
Limitations on Dividends and Other Capital Distributions
OTS regulations impose various restrictions or requirements on associations
with respect to their ability to pay dividends or make other distributions of
capital. OTS regulations prohibit an association from declaring or paying any
dividends or from repurchasing any of its stock if, as a result, the regulatory
capital of the association would be reduced below the amount required to be
maintained for the liquidation account established in connection with its mutual
to stock conversion.
Generally, savings associations, such as Classic Bank, that before and
after the proposed distribution meet their capital requirements, may make
capital distributions during any calendar year equal to the greater of 100% of
net income for the year-to-date plus 50% of the amount by which the lesser of
the association's tangible, core or risk-based capital exceeds its capital
requirement for such capital component, as measured at the beginning of the
calendar year, or 75% of its net income for the most recent four quarter period.
However, an association deemed to be in need of more than normal supervision by
the OTS may have its dividend authority restricted by the OTS. Classic Bank may
pay dividends in accordance with this general authority.
Savings associations proposing to make any capital distribution need only
submit written notice to the OTS 30 days prior to such distribution. Savings
associations that do not, or would not, meet their current minimum capital
requirements following a proposed capital distribution, however, must obtain OTS
approval prior to making such distribution. The OTS may object to the
distribution during that 30-day period notice based on safety and soundness
concerns.
Paintsville Bank's ability to pay dividends is governed by the National
Bank Act and OCC regulations. Under such statute and regulations, all dividends
by a national bank must be paid out of current or retained net profits, after
deducting reserves for losses and bad debts. The National Bank Act further
restricts the payment of dividends out of net profits by prohibiting a national
bank from declaring a dividend on its shares of common stock until the surplus
fund equals the amount of capital stock or, if the surplus fund does not equal
the amount of capital stock, until one-tenth of Paintsville Bank's net profits
for the preceding half year in the case of quarterly or semi-annual dividends,
or the preceding two half-year periods in the case of annual dividends, are
transferred to the surplus fund. In addition, the prior approval of the OCC is
required for the payment of a dividend if the total of all dividends declared by
a national bank in any calendar year would exceed the total of its net profits
for the year combined with its net profits
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for the two preceding years, less any required transfers to surplus or a fund
for the retirement of any preferred stock.
The OCC has the authority to prohibit the payment of dividends by a
national bank when it determines such payment to be an unsafe and unsound
banking practice. In addition, Paintsville Bank would be prohibited by federal
statute and the OCC's prompt corrective action regulations from making any
capital distribution if, after giving effect to the distribution, Paintsville
Bank would be classified as "undercapitalized" under the OCC's regulations. See
"-- Prompt Corrective Action."
Liquidity
All savings associations, including Classic Bank, are required to maintain
an average daily balance of liquid assets equal to a certain percentage of the
sum of its average daily balance of net withdrawable deposit accounts and
borrowings payable in one year or less. For a discussion of what is included in
liquid assets, see "Management's Discussion and Analysis of Financial Condition
and Results of Operations Liquidity and Capital Resources", contained in Exhibit
13 to this Report and incorporated by reference herein. This liquid asset ratio
requirement may vary from time to time depending upon economic conditions and
savings flows of all savings associations. At the present time, the minimum
liquid asset ratio is 4%.
National banks are not subject to any prescribed liquidity requirements.
Accounting
An OTS policy statement applicable to all savings associations clarifies
and re-emphasizes that the investment activities of a savings association must
be in compliance with approved and documented investment policies and
strategies, and must be accounted for in accordance with GAAP. Under the policy
statement, management must support its classification of and accounting for
loans and securities (i.e., whether held for investment, sale or trading) with
appropriate documentation.
The OTS has adopted an amendment to its accounting regulations, which may
be made more stringent than GAAP by the OTS, to require that transactions be
reported in a manner that best reflects their underlying economic substance and
inherent risk and that financial reports must incorporate any other accounting
regulations or orders prescribed by the OTS. Classic Bank is in compliance with
these amended rules.
Paintsville Bank, as a national bank, is subject to similar requirements.
Qualified Thrift Lender Test
All savings associations, including Classic Bank, are required to meet a
qualified thrift lender ("QTL") test to avoid certain restrictions on their
operations. This test requires a savings association to have at least 65% of its
portfolio assets (as defined by regulation) in qualified thrift investments on a
monthly average for nine out of every 12 months on a rolling basis. As an
alternative, the savings association may maintain 60% of its assets in those
assets specified in Section 7701(a)(19) of the Internal Revenue Code. Under
either test, such assets primarily consist of residential housing related loans
and investments. At March 31, 1998, Classic Bank met the test and has always met
the test since its effectiveness.
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Any savings association that fails to meet the QTL test must convert to a
national bank charter, unless it requalifies as a QTL and thereafter remains a
QTL. If an association does not requalify and converts to a national bank
charter, it must remain SAIF-insured until the FDIC permits it to transfer to
the BIF. If such an association has not yet requalified or converted to a
national bank, its new investments and activities are limited to those
permissible for both a savings association and a national bank, and it is
limited to national bank branching rights in its home state. In addition, the
association is immediately ineligible to receive any new FHLB borrowings and is
subject to national bank limits for payment of dividends. If such association
has not requalified or converted to a national bank within three years after the
failure, it must divest of all investments and cease all activities not
permissible for a national bank. In addition, it must repay promptly any
outstanding FHLB borrowings, which may result in prepayment penalties. If any
association that fails the QTL test is controlled by a holding company, then
within one year after the failure, the holding company must register as a bank
holding company and become subject to all restrictions on bank holding
companies. See "-- Holding Company Regulation."
The QTL requirements do not apply to national banks.
Community Reinvestment Act
Under the Community Reinvestment Act ("CRA"), every FDIC insured
institution, including Classic Bank and Paintsville Bank, has a continuing and
affirmative obligation consistent with safe and sound banking practices to help
meet the credit needs of its entire community, including low- and
moderate-income neighborhoods. The CRA does not establish specific lending
requirements or programs for financial institutions nor does it limit an
institution's discretion to develop the types of products and services that it
believes are best suited to its particular community, consistent with the CRA.
The CRA requires the appropriate Federal regulator, in connection with the
examination of an insured institution, to assess the institution's record of
meeting the credit needs of its community and to take such record into account
in its evaluation of certain applications, such as a merger or the establishment
of a branch, by Classic Bank or Paintsville Bank. An unsatisfactory rating may
be used as the basis for the denial of an application by the OTS or the OCC.
The federal banking agencies, including the OTS and the OCC, recently
revised the CRA regulations and the methodology for determining an institution's
compliance with the CRA. Due to the heightened attention being given to the CRA
in the past few years, Classic Bank and Paintsville Bank may be required to
devote additional funds for investment and lending in its local community.
Classic Bank was examined for CRA compliance in May 1996 and received a
satisfactory rating. Paintsville Bank was examined for CRA compliance in August
1996 and received a satisfactory rating.
Transactions with Affiliates
Generally, transactions between a savings association or its subsidiaries
and its affiliates are required to be on terms as favorable to the association
as transactions with non-affiliates. In addition, certain of these transactions,
such as loans to an affiliate, are restricted to a percentage of the
association's capital. Affiliates of Classic Bank include the Company,
Paintsville Bank and any other company which is under common control with
Classic Bank. In addition, a savings association may not lend to any affiliate
engaged in activities not permissible for a bank holding company or acquire the
securities of most affiliates. Classic Bank's subsidiary is not deemed an
affiliate, however; the OTS has the discretion to treat a subsidiary of savings
associations as an affiliate on a case-by-case basis.
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Certain transactions with directors, officers or controlling persons are
also subject to conflict of interest regulations enforced by the OTS. These
conflict of interest regulations and other statutes also impose restrictions on
loans to such persons and their related interests. Among other things, such
loans must be made on terms substantially the same as for loans to unaffiliated
individuals.
Paintsville Bank is subject to virtually identical rules on transactions
with affiliates and loans to insiders.
Holding Company Regulation
General. Upon consummation of the acquisition of First Paintsville, the
Company, as the sole shareholder of Paintsville Bank, became a bank holding
company and registered as such with the Federal Reserve Board. Bank holding
companies are subject to comprehensive regulation by the Federal Reserve Board
under the Bank Holding Company Act, and the regulations of the Federal Reserve
Board. As a bank holding company, the Company is required to file reports with
the Federal Reserve Board and such additional information as the Federal Reserve
Board may require, and is subject to regular examinations by the Federal Reserve
Board. The Federal Reserve Board also has extensive enforcement authority over
bank holding companies, including, among other things, the ability to assess
civil money penalties, to issue cease and desist or removal orders and to
require that a holding company divest subsidiaries (including its bank
subsidiaries). In general, enforcement actions may be initiated for violations
of law and regulations and unsafe or unsound practices.
Under Federal Reserve Board policy, a bank holding company must serve as a
source of strength for its subsidiary banks. Under this policy the Federal
Reserve Board may require, and has required in the past, a holding company to
contribute additional capital to an undercapitalized subsidiary bank.
Under the Bank Holding Company Act, a bank holding company must obtain
Federal Reserve Board approval before: (i) acquiring, directly or indirectly,
ownership or control of any voting shares of another bank or bank holding
company if, after such acquisition, it would own or control more than 5% of such
shares (unless it already owns or controls the majority of such shares); (ii)
acquiring all or substantially all of the assets of another bank or bank holding
company; or (iii) merging or consolidating with another bank holding company.
The Bank Holding Company Act also prohibits a bank holding company, with
certain exceptions, from acquiring direct or indirect ownership or control of
more than 5% of the voting shares of any company which is not a bank or bank
holding company, or from engaging directly or indirectly in activities other
than those of banking, managing or controlling banks, or providing services for
its subsidiaries. The principal exceptions to these prohibitions involve certain
non-bank activities which, by statute or by Federal Reserve Board regulation or
order, have been identified as activities closely related to the business of
banking or managing or controlling banks. The list of activities permitted by
the Federal Reserve Board includes, among other things, operating a savings
institution, mortgage company, finance company, credit card company or factoring
company; performing certain data processing operations; providing certain
investment and financial advice; underwriting and acting as an insurance agent
for certain types of credit-related insurance; leasing property on a
full-payout, non-operating basis; selling money orders, travelers' checks and
United States Savings Bonds; real estate and personal property appraising;
providing tax planning and preparation services; and, subject to certain
limitations, providing securities brokerage services for customers. The Company
has no present plans to engage in any of these activities.
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Interstate Banking and Branching. On September 29, 1994, the Riegle-Neal
Interstate Banking and Branching Act of 1994 (the "Act") was enacted to ease
restrictions on interstate banking. Effective September 29, 1995, the Act allows
the Federal Reserve Board to approve an application of an adequately capitalized
and adequately managed bank holding company to acquire control of, or acquire
all or substantially all of the assets of, a bank located in a state other than
such holding company's home state, without regard to whether the transaction is
prohibited by the laws of any state. The Federal Reserve Board may not approve
the acquisition of the bank that has not been in existence for the minimum time
period (not exceeding five years) specified by the statutory law of the host
state. The Act also prohibits the Federal Reserve Board from approving an
application if the applicant (and its depository institution affiliates)
controls or would control more than 10% of the insured deposits in the United
States or 30% or more of the deposits in the target bank's home state or in any
state in which the target bank maintains a branch. The Act does not affect the
authority of states to limit the percentage of total insured deposits in the
state which may be held or controlled by a bank or bank holding company to the
extent such limitation does not discriminate against out-of-state banks or bank
holding companies. Individual states may also waive the 30% state-wide
concentration limit contained in the Act. The Commonwealth of Kentucky currently
provides for deposit concentration limits, reciprocal requirements and age
protection for new banks.
Effective June 1, 1997, the federal banking agencies became authorized to
approve interstate merger transactions without regard to whether such
transaction is prohibited by the law of any state, unless the home state of one
of the banks has opted out of the Act by adopting a law after the date of
enactment of the Act and prior to June 1, 1997 which applies equally to all
out-of-state banks and expressly prohibits merger transactions involving
out-of-state banks. Interstate acquisitions of branches are permitted only if
the law of the state in which the branch is located permits such acquisitions.
Interstate mergers and branch acquisitions are also subject to the nationwide
and statewide insured deposit concentration amounts described above.
The Act authorizes the OCC and FDIC to approve interstate branching de novo
by national and state banks, respectively, only in states which specifically
allow for such branching.
Dividends. The Federal Reserve Board has issued a policy statement on the
payment of cash dividends by bank holding companies, which expresses the Federal
Reserve Board's view that a bank holding company should pay cash dividends only
to the extent that the Company's net income for the past year is sufficient to
cover both the cash dividends and a rate of earning retention that is consistent
with the Company's capital needs, asset quality and overall financial condition.
The Federal Reserve Board also indicated that it would be inappropriate for a
company experiencing serious financial problems to borrow funds to pay
dividends. Furthermore, under the prompt corrective action regulations adopted
by the Federal Reserve Board, the Federal Reserve Board may prohibit a bank
holding company from paying any dividends if the holding company's bank
subsidiary is classified as "undercapitalized". See "-- Prompt Corrective
Action."
Bank holding companies are required to give the Federal Reserve Board prior
written notice of any purchase or redemption of its outstanding equity
securities if the gross consideration for the purchase or redemption, when
combined with the net consideration paid for all such purchases or redemptions
during the preceding 12 months, is equal to 10% or more of their consolidated
net worth. The Federal Reserve Board may disapprove such a purchase or
redemption if it determines that the proposal would constitute an unsafe or
unsound practice or would violate any law, regulation, Federal Reserve Board
order, or any condition imposed by, or written agreement with, the Federal
Reserve Board. This notification requirement
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does not apply to any company that meets the well-capitalized standard for
commercial banks, has a safety and soundness examination rating of at least a
"2" and is not subject to any unresolved supervisory issues.
Capital Requirements. The Federal Reserve Board has established capital
requirements for bank holding companies that generally parallel the capital
requirements for national banks. For bank holding companies with consolidated
assets of less than $150 million, compliance is measured on a bank-only basis.
See "-- Regulatory Capital Requirements of National Banks."
Federal Securities Law
The stock of the Company is registered with the SEC under the Securities
Exchange Act of 1934, as amended (the "Exchange Act"). The Company is subject to
the information, proxy solicitation, insider trading restrictions and other
requirements of the SEC's rules under the Exchange Act.
Company stock held by persons who are affiliates (generally officers,
directors and principal stockholders) of the Company may not be resold without
registration or unless sold in accordance with certain resale restrictions. If
the Company meets specified current public information requirements, each
affiliate of the Company is able to sell in the public market, without
registration, a limited number of shares in any three-month period.
Federal Reserve System
The Federal Reserve Board requires all depository institutions to maintain
noninterest-bearing reserves at specified levels against their transaction
accounts (primarily checking, NOW and Super NOW checking accounts). At March 31,
1998, Classic Bank and Paintsville Bank were in compliance with these reserve
requirements. The balances maintained to meet the reserve requirements imposed
by the Federal Reserve Board may be used to satisfy liquidity requirements that
may be imposed by the OTS. See "--Liquidity."
Savings associations, such as Classic Bank, are authorized to borrow from
the Federal Reserve Bank "discount window," but Federal Reserve Board
regulations require associations to exhaust other reasonable alternative sources
of funds, including FHLB borrowings, before borrowing from the Federal Reserve
Bank.
As a national bank, Paintsville Bank is a member of the Federal Reserve
System and owns stock in the Federal Reserve Bank of Cleveland in an amount
equal to 3% of Paintsville Bank's paid in capital and surplus (an additional 3%
will be subject to call by the Federal Reserve Bank of Cleveland). At March 31,
1998, Paintsville Bank was in compliance with this requirement.
Federal Home Loan Bank System
Classic Bank and Paintsville Bank are members of the FHLB of Cincinnati,
which is one of 12 regional FHLBs, that administers the home financing credit
function of savings associations. Each FHLB serves as a reserve or central bank
for its members within its assigned region. It is funded primarily from proceeds
derived from the sale of consolidated obligations of the FHLB System. It makes
loans to members (i.e., advances) in accordance with policies and procedures,
established by the board of directors of the FHLB, which are subject to the
oversight of the Federal Housing Finance Board. All advances from the FHLB are
required to be fully secured by sufficient collateral as determined by the FHLB.
In addition, all long-term advances are required to provide funds for
residential home financing.
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As members, Classic Bank and Paintsville Bank are required to purchase and
maintain stock in the FHLB of Cincinnati. At March 31, 1998, Classic Bank had
$715,000 in FHLB stock, which was in compliance with this requirement. On the
same date, Paintsville Bank had $276,000 in FHLB stock, which was also in
compliance with the requirement. In past years, Classic Bank and Paintsville
Bank have received substantial dividends on their FHLB stock. Over the past five
fiscal years such dividends paid to Classic Bank and Paintsville Bank have
averaged 6.4% and 6.9%, respectively, and were 7.1% and 7.1%, respectively, for
fiscal 1998.
Under federal law, the FHLBs are required to provide funds for the
resolution of troubled savings associations and to contribute to low- and
moderately priced housing programs through direct loans or interest subsidies on
advances targeted for community investment and low- and moderate-income housing
projects. These contributions have affected adversely the level of FHLB
dividends paid and could continue to do so in the future. These contributions
could also have an adverse effect on the value of FHLB stock in the future. A
reduction in value of Classic Bank's FHLB stock may result in a corresponding
reduction in Classic Bank's capital.
For the fiscal year ended March 31, 1998, dividends paid by the FHLB of
Cincinnati to Classic Bank and Paintsville Bank totaled $49,000 and $19,000,
respectively, compared to $44,000 and $8,000, respectively, of dividends
received in fiscal year 1997.
Change in Control Regulations
The Change in Bank Control Act (the "CIBC"), the Bank Holding Company Act
and the regulations of the Federal Reserve Board promulgated under those acts,
require that the consent of the Federal Reserve Board be obtained prior to any
person or company acquiring "control" of a bank holding company. Control is
conclusively presumed to exist if an individual or company acquires more than
25% of any class of voting stock of a bank holding company. Control is
rebuttably presumed to exist if the person acquires 10% or more of any class of
voting stock of a bank holding company if either (i) the bank holding company
has registered securities under Section 12 of the Exchange Act or (ii) no other
person will own a greater percentage of that class of voting securities
immediately after the transaction. The regulations provide a procedure to rebut
the rebuttable control presumption. Since the Company's Common Stock is
registered under Section 12 of the Exchange Act, any acquisition of 10% or more
of the Company's Common Stock will give rise to a rebuttable presumption that
the acquiror of such stock controls the Company, requiring the acquiror, prior
to acquiring such stock, to rebut the presumption of control to the satisfaction
of the Federal Reserve Board or obtain Federal Reserve Board approval for the
acquisition of control.
Federal and State Taxation
Federal Taxation. Prior to the enactment of recent legislation
(discussed below), savings associations such as Classic Bank that met certain
definitional tests relating to the composition of assets and other conditions
prescribed by the Internal Revenue Code of 1986, as amended (the "Code"), had
been permitted to establish reserves for bad debts and to make annual additions
thereto which could, within specified formula limits, be taken as a deduction in
computing taxable income for federal income tax purposes. The amount of the bad
debt reserve deduction for "non-qualifying loans" was computed under the
experience method. The amount of the bad debt reserve deduction for "qualifying
real property loans" (generally loans secured by improved real estate) could be
computed under either the experience method or the percentage of taxable income
method (based on an annual election).
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In August 1996, legislation was enacted that repealed the percentage of
taxable income method of accounting used by many thrifts to calculate their bad
debt reserve for federal income tax purposes. As a result, small thrifts such as
Classic Bank must recapture that portion of the reserve that exceeds the amount
that could have been taken under the experience method for post-1987 tax years.
The legislation also requires thrifts to account for bad debts for federal
income tax purposes on the same basis as commercial banks for tax years
beginning after December 31, 1995. The recapture will occur over a six-year
period, the commencement of which was delayed until the first taxable year
beginning after December 31, 1997 for institutions which met certain residential
lending requirements. The management of Classic Bank does not believe that the
legislation will have a material impact on Classic Bank.
In addition to the regular income tax, corporations, including savings
associations and national banks, generally are subject to a minimum tax. An
alternative minimum tax is imposed at a minimum tax rate of 20% on alternative
minimum taxable income, which is the sum of a corporation's regular taxable
income (with certain adjustments) and tax preference items, less any available
exemption. The alternative minimum tax is imposed to the extent it exceeds the
corporation's regular income tax and net operating losses can offset no more
than 90% of alternative minimum taxable income.
To the extent earnings appropriated to a savings association's bad debt
reserves for "qualifying real property loans" and deducted for federal income
tax purposes exceed the allowable amount of such reserves computed under the
experience method and to the extent of the association's supplemental reserves
for loan losses ("Excess"), such Excess may not, without adverse tax
consequences, be utilized for the payment of cash dividends or other
distributions to a shareholder (including distributions on redemption,
dissolution or liquidation) or for any other purpose (except to absorb bad debt
losses). As of March 31, 1998, Classic Bank's Excess for tax purposes totaled
approximately $1.9 million.
The Company and its subsidiaries file consolidated federal income tax
returns on a fiscal year basis using the accrual method of accounting. Savings
associations, such as Classic Bank, that file federal income tax returns as part
of a consolidated group are required by applicable Treasury regulations to
reduce their taxable income for purposes of computing the percentage bad debt
deduction for losses attributable to activities of the non-savings association
members of the consolidated group that are functionally related to the
activities of the savings association member.
Classic and its consolidated subsidiaries have been audited by the IRS with
respect to consolidated federal income tax returns through December 31, 1993.
With respect to years examined by the IRS, either all deficiencies have been
satisfied or sufficient reserves have been established to satisfy asserted
deficiencies. In the opinion of management, any examination of still open
returns (including returns of subsidiary and predecessors of, or entities merged
into, Classic) would not result in a deficiency which could have a material
adverse effect on the financial condition or results of operations of Classic
and its consolidated subsidiaries.
Kentucky Taxation. The Commonwealth of Kentucky imposes no income or
franchise taxes on savings institutions. Classic Bank is subject to an annual
Kentucky ad valorem tax. This tax is .1% of the financial institution's deposit
accounts, common stock and retained income, with certain deductions for amounts
borrowed by depositors and securities guaranteed by the U.S. Government or
certain of its agencies. Paintsville Bank is subject to a state franchise tax
equal to 1.1% of Paintsville Bank's average five year equity capital adjusted to
eliminate the effect of certain U.S. Government obligations held by Paintsville
Bank. The Company is subject to Kentucky income tax at a rate of 4% - 8.25% and
a Kentucky corporate licensing fee equal to .0021 times capital employed.
42
<PAGE>
Delaware Taxation. As a Delaware holding company, the Company is exempt
from Delaware corporate income tax but is required to file an annual report with
and pay an annual fee to the State of Delaware. The Company is also subject to
an annual franchise tax imposed by the State of Delaware.
Executive Officers Who Are Not Directors
The business experience of the executive officers who are not also
directors is set forth below.
Robert S. Curtis, age 48, is Executive Vice President and Senior Lending
Officer of Classic Bank, a position he has held since May 1995. Mr. Curtis is
also Senior Vice President of the Company, a position he has held since
September 1995. Mr. Curtis served as Vice President and Real Estate Lending
Division Manager of First American Company, a $225 million bank located in
Ashland, Kentucky from 1990 until May 1995. As Vice President and Real Estate
Lending Division Manager, Mr. Curtis was responsible for the bank's residential
real estate loan portfolio in excess of $35.0 million. Mr. Curtis was employed
by First American since 1973.
Lisah M. Frazier, age 29, is Vice President and Chief Financial Officer of
Classic Bank, a position she has held since August 1995. Ms. Frazier became Vice
President, Treasurer and Chief Financial Officer of the Company in September
1995. Prior to joining Classic Bank in August 1995, Ms. Frazier served as
Investment Coordinator of Trust Company of Kentucky, a subsidiary of Pikeville
National Company, a multi-bank holding company based in Pikeville, Kentucky from
June 1995 to August 1995. Prior to such time, Ms. Frazier served as Audit
Specialist in the internal Audit Department of Pikeville National Corporation
from 1993 to 1995. Ms. Frazier also served as Senior Auditor with Kelley,
Galloway & Company, an accounting firm located in Ashland, Kentucky from 1990 to
1993. Ms. Frazier is a Certified Public Accountant.
Item 2. Description of Properties
Classic Bank conducts its business at its office located at 344 Seventeenth
Street, Ashland, Kentucky and at two branch offices located in Greenup and Boyd
Counties. Classic Bank's 6,000 square foot headquarters office was acquired in
1963 and had a net book value of $363,000 at March 31, 1998. At March 31, 1998,
the total net book value of the Company's premises and equipment (including
land, building and leasehold improvements, and furniture, fixtures and
equipment) was approximately $4.5 million.
In June 1994, Classic Bank acquired the 1,200 square foot office building
and land located adjacent to its current office building at 1737 Carter Avenue
in Ashland, Kentucky for a purchase price of $90,000. At March 31, 1998, the
current book value of this building was approximately $88,000. Classic Bank's
improvements to this building totaled approximately $8,000. This building, which
is currently rented, is intended to be used for Classic Bank's future expansion.
In September 1996, Classic Bank purchased land for $182,500 on which it
constructed a branch facility which was completed in February 1998. In March
1997, Classic Bank purchased additional land for $250,000 on which it
constructed a branch facility which was completed in April 1998.
The Company's depositor and borrower customer files are maintained in-house
at Paintsville In-house data processing and computer equipment. The net book
value of the data processing and computer equipment utilized by the Company at
March 31, 1998 was approximately $369,000.
43
<PAGE>
Paintsville Bank's main office is located at 240 Main Street, Paintsville,
Kentucky. This 8,400 square foot building was acquired by Paintsville Bank in
1933, and had a net book value of $259,000 at March 31, 1998. Paintsville Bank
has a branch office located at 602 South Mayo Trail, Paintsville, Kentucky,
which is in a 2,200 square foot building acquired by Paintsville Bank in 1971.
Paintsville Bank also operates an administrative office at 404 Euclid Avenue,
Paintsville, Kentucky, in a 6,700 square foot building that was acquired by
Paintsville Bank in 1994. Approximately 45% of this building is leased to an
unaffiliated party. Rental income from this property is approximately $20,000
per year.
Item 3. Legal Proceedings
The Company, Classic Bank and Paintsville Bank are involved, from time to
time, as plaintiff or defendant in various legal actions arising in the normal
course of their businesses. While the ultimate outcome of these proceedings
cannot be predicted with certainty, it is the opinion of management, after
consultation with counsel representing the Company, Classic Bank and Paintsville
Bank in the proceedings, that the resolution of these proceedings should not
have a material effect on Company's financial condition or results of operations
on a consolidated basis.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of security holders, through the
solicitation of proxies or otherwise, during the quarter ended March 31, 1998.
PART II
Item 5. Market for Common Equity and Related Stockholder Matters
The information under the caption "Market Information" in the portions of
the Company's Annual Report to Stockholders for the year ended March 31, 1998
included as Exhibit 13 to this Report, is herein incorporated by reference.
Item 6. Management's Discussion and Analysis or Plan of Operation
The information under the caption "Management's Discussion and Analysis of
Financial Condition and Results of Operations" in the portions of the Company's
Annual Report to Stockholders for the year ended March 31, 1998 included as
Exhibit 13 to this Report, is herein incorporated by reference.
Item 7. Financial Statements and Supplementary Data
The consolidated financial statements and notes thereto contained in the
portions of the Company's Annual Report to Stockholders for the year ended March
31, 1998 included as Exhibit 13 to this Report, are incorporated herein by
reference.
Item 8. Changes In and Disagreements With Accountants on Accounting and
Financial Disclosure
There has been no changes in the Company's independent accountants during
the Company's two most recent fiscal years.
44
<PAGE>
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons; Compliance
with Section 16(a) of the Exchange Act
Directors
Information concerning directors of the Company is incorporated herein by
reference from the Company's definitive Proxy Statement for the Annual Meeting
of Stockholders to be held in 1998, a copy of which will be filed not later than
120 days after the close of the fiscal year.
Executive Officers
Information concerning the executive officers of the Company who are not
directors is incorporated by reference from Part I of this Form 10-KSB under the
caption "Executive Officers of the Registrant Who Are Not Directors."
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Exchange Act requires the Company's directors and
executive officers, and persons who own more than 10% of a registered class of
the Company's equity securities, to file with the SEC initial reports of
ownership and reports of changes in ownership of Common Stock and other equity
securities of the Company. Officers, directors and greater than 10% stockholders
are required by SEC regulations to furnish the Company with copies of all
Section 16(a) forms they file.
To the Company's knowledge, based solely on a review of the copies of such
reports furnished to the Company and written representations that no other
reports were required, during the fiscal year ended March 31, 1998, all Section
16(a) filing requirements applicable to its officers, directors and greater than
10 percent beneficial owners were met.
Item 10. Executive Compensation
Information concerning executive compensation is incorporated herein by
reference from the definitive Proxy Statement for the Annual Meeting of
Stockholders to be held in 1998, a copy of which will be filed not later than
120 days after the close of the fiscal year.
Item 11. Security Ownership of Certain Beneficial Owners and Management
Information concerning security ownership of certain beneficial owners and
management is incorporated herein by reference from the definitive Proxy
Statement for the Annual Meeting of Stockholders to be held in 1998, a copy of
which will be filed not later than 120 days after the close of the fiscal year.
45
<PAGE>
Item 12. Certain Relationships and Related Transactions
Information concerning certain relationships and related transactions is
incorporated herein by reference from the definitive Proxy Statement for the
Annual Meeting of Stockholders to be held in 1998, a copy of which will be filed
not later than 120 days after the close of the fiscal year.
Item 13. Exhibits and Reports on Form 8-K
(a) Exhibits
<TABLE>
<CAPTION>
Reference to
Prior Filing or
Regulation S-B Exhibit Number
Exhibit Number Document Attached Hereto
- ------------------------------------------------------------------------------------------
<S> <C> <C>
2 Plan of acquisition, reorganization, arrangement, None
liquidation or succession
3(a) Articles of Incorporation *
3(b) By-Laws *
4 Instruments defining the rights of security holders, *
including debentures
9 Voting Trust Agreement None
10 Material contracts:
1996 Stock Option and Incentive Plan **
1996 Recognition and Retention Plan **
Employment Agreement with David B. Barbour **
11 Statement regarding computation of per share None
earnings
13 Annual Report to Security Holders 13
16 Letter regarding change in certifying accountants None
18 Letter regarding change in accounting principles None
21 Subsidiaries of Registrant 21
22 Published report regarding matters submitted to vote None
of security holders
23 Consents of Experts and Counsel 23
24 Power of Attorney None
27 Financial Data Schedule 27
99 Additional Exhibits None
</TABLE>
- ----------
* Filed as exhibits to the Company's Form S-1 registration statement filed on
December 19, 1994 (File No. 33-87580) pursuant to Section 5 of the
Securities Act of 1933. All of such previously filed documents are hereby
incorporated herein by reference in accordance with Item 601 of Regulation
S-B.
** Filed as exhibits to the Company's Annual Report on Form 10-KSB for the
fiscal year ended March 31, 1996 (File No. 0-27170). All of such previously
filed documents are hereby incorporated herein by reference in accordance
with Item 601 of Regulation S-B.
46
<PAGE>
(b) Reports on Form 8-K
During the quarter ended March 31, 1998, the Company filed a Current Report
on Form 8-K on January 27, 1998, to report the announcement of quarterly
earnings and the declaration of a cash dividend.
47
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 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.
CLASSIC BANCSHARES, INC.
By: /s/ David B. Barbour
--------------------------------------------
David B. Barbour, President, Chief Executive
Officer and Director (Duly Authorized
Representative)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons in the capacities and on
the dates indicated.
/s/ David B. Barbour /s/ C. Cyrus Reynolds
- ----------------------------------- -----------------------------------
David B. Barbour, President, Chief C. Cyrus Reynolds, Chairman of the
Executive Officer and Director Board
(Principal Executive and Operating
Officer)
Date: June 26, 1998 Date: June 26, 1998
/s/ Robert B. Keifer, Jr. /s/ E. B. Gevedon, Jr.
- ----------------------------------- -----------------------------------
Robert B. Keifer, Jr., Director E. B. Gevedon, Jr., Director
Date: June 26, 1998 Date: June 26, 1998
/s/ /s/ John W. Clark
- ----------------------------------- -----------------------------------
Robert A. Moyer, Jr., Director John W. Clark, Director
Date: June 26, 1998 Date: June 26, 1998
/s/ David A. Lang /s/ Lisah M. Frazier
- ----------------------------------- -----------------------------------
David A. Lang, Director Lisah M. Frazier, Vice President,
Treasurer and Chief Financial
Officer (Principal Financial and
Accounting Officer)
Date: June 26, 1998 Date: June 26, 1998
/s/ /s/ Jeffrey P. Lopez
- ----------------------------------- -----------------------------------
Robert L. Bayes, Executive Vice Jeffrey P. Lopez, Director
President and Director
Date: June 26, 1998 Date: June 26, 1998
/s/ A. Bruce Addington
- -----------------------------------
A. Bruce Addington, Director
Date: June 26, 1998
<PAGE>
INDEX TO EXHIBITS
Number
13 Portions of Annual Report to Security Holders.................
21 Subsidiaries of the Registrant................................
23 Consent of Independent Auditors...............................
27 Financial Data Schedule.......................................
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Introduction
Classic Bancshares, Inc. (the "Company") is a Delaware corporation. The
Company is a bank holding company which has as its wholly-owned subsidiaries
Classic Bank and the First National Bank of Paintsville ("First National"). The
Company was organized in 1995 for the purpose of becoming the savings and loan
holding company of Classic Bank in connection with Classic Bank's conversion
from mutual to stock form of organization on December 28, 1995. First National
became a subsidiary of the Company upon consummation of the Company's
acquisition of First Paintsville Bancshares, Inc., the former holding company of
First National, on September 30, 1996. Financial and other information presented
herein after September 30, 1996 relates to consolidated information of the
Company, Classic Bank and First National. Financial and other information prior
to September 30, 1996 relates to the Company and Classic Bank only. Financial
and other information prior to December 28, 1995 relates only to Classic Bank.
As community-oriented financial institutions, Classic Bank and First
National seek to serve the financial needs of communities in their respective
market areas. Classic Bank is a federally chartered stock savings bank
headquartered in Ashland, Kentucky. Classic Bank currently serves the financial
needs of communities in its market area through its office located at 344
Seventeenth Street, Ashland, Kentucky 41101 and two branch offices located in
Greenup and Boyd Counties. First National is a nationally chartered bank
headquartered in Paintsville, Kentucky. First National serves the financial
needs of communities in its market area through its main office located at 240
Main Street, Paintsville, Kentucky 41240 and one branch office also located in
Paintsville. The deposits of Classic Bank and First National are insured up to
applicable limits by the Federal Deposit Insurance Corporation ("FDIC"). The
Company's business involves attracting deposits from the general public and
using such deposits, together with other funds, to originate one- to four-family
residential mortgages, commercial real estate, consumer, commercial business,
multi-family and construction loans primarily in the market area of its
subsidiaries. The Company also invests in mortgage-backed and related
securities, investment securities and other permissible investments.
Classic Bank's primary market area includes the Kentucky Counties of Boyd
and Greenup. The economic base in these counties has primarily been industrial
in nature and previously relied upon a small number of large employers
particularly in the steel and petroleum industries. Over the last several years,
diversification of the employment base to a more retail and service based
economy has resulted in a slowing of previously experienced declines in
population. Per capita income for both counties remains below the national
average but exceeds the state average. Unemployment has continued to decline as
a result of a continued shifting of the local employment base to the retail and
service sectors, although the unemployment rate continues to exceed the national
and state unemployment rate.
First National's market area includes Johnson County and portions of
Martin, Floyd, Magoffin and Lawrence Counties, Kentucky. Although the economy in
First National's market area was historically based on the manufacturing and
coal mining related industries, the economy in this area currently includes
retail, medical, government sectors and, to a lesser extent, manufacturing. Per
capita income for these counties is below the national average and the state
average. The unemployment rate exceeds the national and state unemployment rate.
The Company's revenues are derived principally from interest earned on
loans and, to a lesser extent, from interest earned on investments and
mortgage-backed and related securities. The operations of the Company are
influenced significantly by general economic conditions and by policies of
financial institution regulatory agencies, including the OTS, OCC, Federal
Reserve and the FDIC. The Company's cost of funds is influenced by interest
rates on competing investments and general market interest rates. Lending
activities are affected by the demand for financing of real estate and other
types of loans, which in turn is affected by the interest rates at which such
financings may be offered.
The Company's net interest income is dependent primarily upon the
difference or spread between the average yield earned on loans receivable, net
and investments and the average rate paid on deposits and borrowings, as well as
the relative amounts of such assets and liabilities. The Company is subject to
interest rate risk to the degree that its interest-bearing liabilities mature or
reprice at different times, or on a different basis, than its interest-earning
assets.
Management's discussion and analysis of financial condition and results of
operations are intended to assist in understanding the financial condition and
results of operations of the Company. The information contained in this section
should be read in conjunction with the financial statements and accompanying
notes contained elsewhere herein.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Forward-Looking Statements
When used in this Annual Report, the words or phrases "will likely result",
"are expected to", "will continue", "is anticipated", "estimate", "project" or
similar expressions are intended to identify "forward-looking statements" within
the meaning of the Private Securities Litigation Reform Act of 1995. Such
statements are subject to certain risks and uncertainties, changes in economic
conditions in the Company's market area, changes in policies by regulatory
agencies, fluctuations in interest rates, demand for loans in the Company's
market area and competition that could cause actual results to differ materially
from historical earnings and those presently anticipated or projected. The
Company wishes to caution readers not to place undue reliance on any such
forward-looking statements, which speak only as of the date made. The Company
wishes to advise readers that the factors listed above could affect the
Company's financial performance and could cause the Company's actual results for
future periods to differ materially from any opinions or statements expressed
with respect to future periods in any current statements.
The Company does not undertake -- and specifically declines any obligation
- -- to publicly release the result of any revisions which may be made to any
forward-looking statements to reflect events or circumstances after the date of
such statements or to reflect the occurrence of anticipated or unanticipated
events.
Business Strategy
The Company follows a "community bank" oriented strategy that is designed
to provide planned and profitable growth and sustained profitability while
maintaining the safety and soundness of the Company. The principal elements of
this strategy include (i) continued growth in lower cost deposits, through the
offering of transaction and other non-certificate accounts (ii) the offering of
different types of consumer loan products (iii) the expansion of commercial real
estate and commercial business lending operations (iv) increasing non-interest
income through new product offerings and aggressive pricing structures (iv)
enhancing traditional and non-traditional branch locations, including the
acquisition of other financial institutions to the extent opportunities arise,
(v) improving operating efficiencies through the utilization of technology and
low cost delivery systems, (vi) continuous review of loan underwriting standards
in order to maintain asset quality and (vii) maintenance of a capital position
that exceeds regulatory guidelines.
There are a number of financial and operational implications related to
this business strategy. First, commercial real estate, commercial business and
consumer loans are generally considered to carry a higher level of credit risk
than residential loans. The Company believes it has addressed such risks through
product loan underwriting standards and the experience of the Company's senior
officers in underwriting such loans. However, there can be no assurance that
increased provisions to the loan loss allowance will not be required. A second
implication of this business strategy is a reduction in liquidity, although
based on the availability of borrowings from the Federal Home Loan Bank of
Cincinnati ("FHLB") and other sources, the Company does not believe that it will
have any difficulties in meeting its liquidity needs. A third implication of
this business strategy is an increase in overhead expense, in the form of both
start-up costs and maintenance and administration.
During fiscal 1998, management focused on expanding loan and deposit
product lines, locations and technology in order to adapt to customer needs and
preferences. As a result, the Company successfully introduced a Dual Card, a
combination ATM and VISA check card that allows the customer to make purchases
that deduct directly from their checking account. The Company also completed the
construction of two new banking offices located in Greenup and Boyd Counties,
Kentucky. These banking locations include state-of-the-art drive-thru
facilities, drive-up automated teller machines, a full complement of deposit and
loan products and personalized customer service. In addition to these automated
teller machines, the Company added an additional automated teller machine
location in Greenup County, Kentucky, one in Magoffin County, Kentucky and one
in Cabell County, West Virginia. While the addition of these banking offices and
automated teller machine locations are costly, they are necessary to enable the
Company to be competitive and responsive to customers in that portion of its
market area. The addition of these locations and the expansion of deposit and
loan product lines are intended to position the Company to obtain lower cost
deposits through transaction accounts, increase loan yields through increased
consumer and commercial lending, and build the Company's customer base. With
these additional banking locations, improved technology and expanded product
lines in place, operating costs are anticipated to increase for the short term.
However, the Board of Directors and management of the Company feel that the
implementation of this strategy establishes a solid foundation for growth and
profitability in future periods.
The implementation of this strategy resulted in an increase in consumer
loans, commercial real estate loans and commercial business lending. During the
fiscal year, consumer loans increased by approximately $277,000, commercial real
estate loans increased by approximately $2.1 million and commercial business
loans increased by $2.1 million. Management is especially pleased that asset
quality was maintained as these types of loans increased. Non-performing assets
to total assets decreased to .4% at March 31, 1998 compared to .8% at March 31,
1997.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Year 2000
The Company's operations are heavily dependent on information technology
systems. As a result, the Company has put much effort in addressing potential
problems that could exist with the turn of the century. The Company has worked
with all of its suppliers of products and services, particularly information
technology systems, to identify and remedy any problems related to the Year
2000. Currently, the Company has identified costs of approximately $50,000 as a
result of Year 2000 compliance. In addition to the review of its own system, the
Company has not identified any major borrowers in the Company's loan portfolio
that will be unable to repay their loan as a result of Year 2000 problems.
Financial Condition
March 31, 1998 compared to March 31, 1997. Total assets decreased
approximately $500,000, or .2%, from $131.6 million at March 31, 1997 to $131.1
million at March 31, 1998. Loans increased $8.4 million, or 10.3%, from $81.7
million at March 31, 1997 to $90.1 million at March 31, 1998 as a result of
aggressive origination efforts and strong loan demand within the Company's
market area. Investment securities decreased $4.9 million from $24.4 million at
March 31, 1997 to $19.5 million at March 31, 1998 as a result of sales and calls
of $12.7 million offset by purchases of $7.0 million and an increase in the
market value of these available for sale securities. Cash and other interest
earning deposits decreased $5.2 million from $9.1 million at March 31, 1997 to
$3.9 million at March 31, 1998 in order to fund loan growth. Office property and
equipment increased approximately $1.2 million as a result of the construction
of two new banking offices.
Deposits increased $4.4 million, or 4.4%, from $100.5 million at March 31,
1997 to $104.9 million at March 31, 1998 as a result of increased marketing
efforts. Securities under agreement to repurchase decreased $1.5 million from
$5.0 million at March 31, 1997 to $3.5 million at March 31, 1998. The Company
had no Federal Home Loan Bank Advances at March 31, 1998 compared to $4.8
million at March 31, 1997.
The allowance for loan losses increased approximately $30,000 from $801,000
at March 31, 1997 to $831,000 at March 31, 1998 as a result of a provision for
fiscal 1998 of $158,000 offset by net charge-offs of $128,000.
Stockholder's equity was $20.4 million at March 31, 1998 as compared to
$19.4 million at March 31, 1997 as a result of net income for the period of $1.0
million.
March 31, 1997 compared to March 31, 1996. Total assets increased $65.5
million, or 99.1%, from $66.1 million at March 31, 1996 to $131.6 million at
March 31, 1997. Loans increased $38.0 million, or 87.0%, from $43.7 million at
March 31, 1996 to $81.7 million at March 31, 1997 as a result of the acquisition
of First National, aggressive origination efforts and Classic Bank's new
strategy to increase originations of commercial real estate, consumer and
commercial business loans. Mortgage-backed securities increased $5.1 million
from $2.8 million at March 31, 1996 to $7.9 million at March 31, 1997 as a
result of the inclusion of First National's securities and net purchases of $4.0
million. Investment securities increased $13.3 million from $11.1 million at
March 31, 1996 to $24.4 million at March 31, 1997 also as a result of the
inclusion of First National's securities. Cash and other interest earning
deposits increased $2.0 million from $7.1 million at March 31, 1996 to $9.1
million at March 31, 1997 as a result of the inclusion of First National's cash
and interest earning deposits. Office property and equipment increased $2.5
million as a result of the acquisition of First National and new purchases of
$1.1 million. The Company also recorded approximately $3.1 million in goodwill
in connection with the acquisition of First National.
Deposits increased $54.3 million, or 117.5%, from $46.2 million at March
31, 1996 to $100.5 million at March 31, 1997 as a result of the acquisition of
First National's deposits of $52.8 million and a net increase in deposits of
$1.5 million. Securities under agreement to repurchase increased 100% to $5.0
million at March 31, 1997 as a result of the acquisition of First National.
Federal Home Loan Bank advances increased 100% to $4.8 million at March 31,
1997. The proceeds from the advances were used to fund loan demand. The Company
also assumed and refinanced long-term debt in the acquisition of First National
which was $650,000 at March 31, 1997.
The allowance for loan losses increased $515,000, or 180.1%, from $286,000
at March 31, 1996 to $801,000 at March 31, 1997 as a result of the acquisition
of First National's allowance of $526,000 and a provision for fiscal 1997 of
$105,000 offset by net charge-offs of $116,000.
Stockholder's equity was $19.4 million at March 31, 1997 as compared to
$19.5 million at March 31, 1996. The decrease in equity was the result of the
purchase of shares for the Company's Recognition and Retention Plan, a decline
in the market value of available for sale securities, and the payment of
dividends during fiscal 1997 of $158,000 offset by net income for the period.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Results of Operations
The Company's results of operations depend primarily upon the level of net
interest income, which is the difference between the interest income earned on
its interest-earning assets such as loans and investments, and the costs of the
Company's interest-bearing liabilities, primarily deposits and borrowings.
Results of operations are also dependent upon the level of the Company's
noninterest income, including fee income and service charges, and affected by
the level of its noninterest expenses, including its general and administrative
expenses. Net interest income depends upon the volume of interest-earning assets
and interest-bearing liabilities and the interest rate earned or paid on them,
respectively.
Comparison of Operating Results for the Years Ended March 31, 1998 and March 31,
1997
Net Income. Net income increased by $377,000, or 63.7%, from $623,000 at
March 31, 1997 to $1.0 million at March 31, 1998. The increase was due to an
increase in net interest income of $1.2 million and increase in noninterest
income of $654,000 which were partially offset by an increase in the provision
for loan losses of $53,000, an increase in noninterest expenses of $1.2 million
and an increase in income tax expense of $176,000.
Net Interest Income. Net interest income increased $1.2 million, or 34.3%,
from $3.5 million at March 31, 1997 to $4.7 million at March 31, 1998 due to an
increase in interest income of $2.4 million offset by an increase in interest
expense of $1.2 million. The increase in interest income resulted primarily from
the inclusion of First National's earnings for the entire twelve month period
ended March 31, 1998 compared to the inclusion of only six months of earnings
for the twelve months ended March 31, 1997. The increase in interest income was
also the result of the increase in higher yielding loans through the
diversification of the loan portfolio in consumer and commercial lending. The
average balance of interest-earning assets increased from $93.4 million for
fiscal 1997 to $120.7 million for fiscal 1998. The increase in the average
balance of interest-earning assets was due primarily to the inclusion of First
National's interest-earning assets for the entire fiscal year 1998 compared to
only six months during fiscal 1997. Interest-earning assets also increased due
to an increase in loans. The average yield on interest-earning assets increased
from 7.7% at March 31, 1997 to 7.9% at March 31, 1998, due primarily to an
increase in higher yielding loans.
Interest expense increased $1.2 million from $3.6 million for fiscal 1997
to $4.8 million for fiscal 1998 primarily as a result of the inclusion of First
National's interest expense for the entire twelve month period ended March 31,
1998 compared to the inclusion of only six months of expense for the twelve
months ended March 31, 1997. The average balance of interest-bearing liabilities
increased from $75.0 million at March 31, 1997 to $101.2 million at March 31,
1998. The increase in the average balance of interest-bearing liabilities was
due primarily to the inclusion of First National's interest-bearing liabilities
for the entire fiscal year 1998 compared to only six months during fiscal 1997.
Interest-bearing liabilities also increased due to an increase in deposits. The
average rate paid on interest-bearing liabilities was 4.8% at March 31, 1998 and
1997.
Provision for Loan Losses. The provision for loan losses increased by
$53,000 from $105,000 for fiscal 1997 to $158,000 for fiscal 1998 based on
management's overall assessment of the loan portfolio. The increase was due
primarily to the inclusion of First National's provision for the entire fiscal
1998 compared to only six months of fiscal 1997. Management maintains the
allowance for loan losses based on the analysis of various factors, including
the market value of the underlying collateral, growth and composition of the
loan portfolio, the relationship of the allowance for loan losses to outstanding
loans, historical loss experience, delinquency trends and prevailing and
projected economic conditions. Although the Company maintains its allowance for
loan losses at a level it considers adequate to provide for losses, there can be
no assurance that such losses will not exceed the estimated amounts or that
additional substantial provisions for loan losses will not be required in future
periods. At March 31, 1998, the allowance for loan losses totaled $831,000, or
.9% of total loans and 249.6% of non-performing loans. The ratio of the
allowance for loan losses to non-performing loans increased at March 31, 1998
from the level of March 31, 1997 as a result of a decrease in non-performing
loans from $716,000 at March 31, 1997 to $333,000 at March 31, 1998.
Noninterest Income. Noninterest income increased approximately $654,000
from $219,000 for fiscal 1997 to $873,000 for fiscal 1998 due to increases of
$225,000 in service charges and other fees on deposits, and $431,000 in other
income offset by a decrease in net gains on sale of mortgage-backed and
investment securities of $3,000. The increase in service charges and other fees
on deposits is the result of the inclusion of First National's income for the
entire twelve month period for fiscal 1998 compared to the inclusion of income
for only six months during fiscal 1997, as well as, an increase due to
aggressive pricing strategies. The increase in other income is primarily the
result of a $370,000 gain recorded from the settlement of First National's
pension plan. The settlement of the pension plan is the result of merging First
National's plan into Classic Bank's plan thereby creating one pension plan for
the Company.
Noninterest Expense. Noninterest expense increased approximately $1.2
million, or 42.9%, from approximately $2.8 million for
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
the year ended March 31, 1997 to approximately $4.0 million for the year ended
March 31, 1998. Compensation and benefit expenses increased $780,000 from $1.1
million for the year ended March 31, 1997 to $1.8 million for the year ended
March 31, 1998 due to the net increase in the number of employees as a result of
the additional banking offices and the inclusion of First National's expenses
for the entire twelve month period in the current year compared to only six
months of expenses in the prior year.
Occupancy and equipment expense increased approximately $269,000 from
$285,000 for 1997 to $554,000 for 1998. The increase was due to the inclusion of
First National's expense for the entire twelve month period in 1998 compared to
the inclusion of expenses for only six months in 1997. The increase was also due
to an increase in depreciation expense as a result of improvements made to the
Company's facilities, the additional automated teller locations and the
construction of the additional banking offices. Loss on foreclosed real estate
decreased $25,000 from $47,000 for 1997 to $22,000 for 1998. The reduction
resulted from a significant write-down taken on foreclosed real estate in the
prior year.
Federal deposit insurance premiums decreased approximately $368,000 from
$401,000 for 1997 to $34,000 for 1998. The decrease was due to a one-time
assessment in 1997 of $316,000 charged to savings associations insured by the
Savings Association Insurance Fund (the SAIF) , which is administered by the
Federal Deposit Insurance Corporation. The remainder of the decrease was due to
a decrease on the rate paid on deposits from .23% to .06% as a result of the
recapitalization.
Other general and administrative expenses increased approximately $500,000,
or 45.5%, from $1.1 million for 1997 to $1.6 million for 1998. The increase
primarily resulted from the inclusion of First National's expenses for the
entire twelve month period for 1998 compared to only six months for 1997.
Specific increases included are an increase in the amortization of goodwill of
$62,000, an increase in printing and supplies of approximately $106,000, an
increase in ATM expense of $31,000 due to the increased number of locations, an
increase in advertising expense of $70,000 due to the introduction of new
product lines and the opening of the additional banking locations, and an
increase in directors fees of $26,000 due to inclusion of First National's
directors for the entire year.
Income Tax Expense. Income tax expense increased $176,000 due to higher
income before income taxes of $573,000.
Comparison of Operating Results for the Years Ended March 31, 1997 and March 31,
1996
Net Income. Net income increased by $330,000, or 112.6%, from $293,000 at
March 31, 1996 to $623,000 for the year ended March 31, 1997. The increase was
due to increases in net interest income of $2.0 million and in noninterest
income of $111,000 and a decrease in the provision for loan losses of $63,000,
which were partially offset by increases in noninterest expense of $1.6 million
and income taxes of $188,000.
Net Interest Income. Net interest income increased $2.0 million, or 126.9%,
from $1.6 million at March 31, 1996 to $3.5 million at March 31, 1997 due to an
increase in interest income of $2.7 million offset by an increase in interest
expense of $752,000. The increase in interest income resulted from the inclusion
of First National's interest income as well as an increase in Classic Bank's
loan yield caused by originations of higher yielding residential and
non-residential loans. The average balance of interest-earning assets increased
from $62.3 million for fiscal 1996 to $93.4 million for fiscal 1997. The
increase in the average balance of interest-earning assets was due primarily to
the inclusion of First National's interest-earning assets. The average yield on
interest-earning assets increased from 7.1% for the year ended March 31, 1996 to
7.7% for the year ended March 31, 1997 due to an increase in higher yielding
loans and investments as a result of the acquisition of Paintsville, as well as,
increased higher yielding loan originations.
Interest expense increased $752,000 from $2.9 million for fiscal 1996 to
$3.6 million for fiscal 1997 primarily as a result of the inclusion of First
National's interest expense for the six months ended March 31, 1997. The average
balance of interest-earning liabilities increased from $51.9 million at March
31, 1996 to $75.0 million at March 31, 1997 as a result of the inclusion of
First National's interest-bearing liabilities. However, the average rate paid on
interest-bearing liabilities decreased from 5.5% at March 31, 1996 to 4.8% at
March 31, 1997 as a result of the acquisition of lower cost deposits and a
decrease in the rates paid on FHLB borrowings. Average deposit costs fell
primarily as a result of the acquisition of a substantial amount of
non-certificate accounts, including transaction accounts, from First National as
well as the success of Classic Bank's efforts to increase its non-certificate
accounts.
Provision for Loan Losses. The provision for loan losses decreased by
$63,000 from $168,000 for fiscal 1996 to $105,000 for fiscal 1997 based on
management's overall assessment of the loan portfolio. The decrease was due to a
decrease in foreclosed assets as well as a decrease in charge-offs during the
year. Management maintains the allowance for loan losses based on the analysis
of various factors, including the market value of the
<PAGE>
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CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
underlying collateral, growth and composition of the loan portfolio, the
relationship of the allowance for loan losses to outstanding loans, historical
loss experience, delinquency trends and prevailing and projected economic
conditions. Although the Company maintains its allowance for loan loses at a
level it considers adequate to provide for losses, there can be no assurance
that such losses will not exceed the estimated amounts or that additional
substantial provisions for loan losses will not be required in future periods.
At March 31, 1997, the allowance for loan losses totaled $801,000, or 1.0%, of
total loans and 111.9% of non-performing loans. The ratio of the allowance for
loan losses to non-performing assets increased at March 31, 1997 from the level
of March 31, 1996. Non-performing assets increased from $600,000 at March 31,
1996 to $1.1 million at March 31, 1997 while the allowance also increased
$515,000 resulting in an increase in the ratio of the allowance for loan losses
to non-performing assets as compared to fiscal 1996. The increase in the
non-performing assets and the allowance are a result of the acquisition of First
National.
Noninterest Income. Noninterest income increased approximately $111,000
from $108,000 for fiscal 1996 to $219,000 for fiscal 1997, due to increases of
$78,000 in service charges and other fees on deposits, and $37,000 in other
income offset by a decrease in net gains on sale of mortgage-backed and
investment securities of $4,000. The increase in service charges and other fees
on deposits is the result of the inclusion of First National's income, as well
as, an increase in the service charges on deposits charged by Classic Bank. The
increase in other income is the result of the inclusion of First National's
other income for the six month period ended March 31, 1997.
Noninterest Expense. Noninterest expense increased approximately $1.6
million, or 133.3%, from approximately $1.2 million for the year ended March 31,
1996 to approximately $2.8 million for the year ended March 31, 1997.
Compensation and benefits expenses increased $675,000 from $425,000 for the year
ended March 31, 1996 to $1.1 million for the year ended March 31, 1997 due to
the net increase in the number of employees as a result of the acquisition of
First National and the inclusion of First National's compensation expenses for
the six months ended March 31, 1997. The increase also resulted from an increase
in employee benefits as a result of the establishment of the Recognition and
Retention plan.
Occupancy and equipment expense increased approximately $189,000 from
$96,000 for 1996 to $285,000 for 1997. The increase was due to an increase in
depreciation expense as a result of improvements made to the Company's
facilities, as well as, the inclusion of First National's expenses for the six
month period ended March 31, 1997. Losses on foreclosed real estate increased to
$47,000 for 1997 as compared to a gain on foreclosed real estate of $24,000 for
1996. The loss resulted from a significant write-down taken on foreclosed real
estate during the year.
Federal deposit insurance premiums increased approximately $290,000 from
$111,000 for 1996 to $401,000 for 1997. The increase was due to a one-time
assessment of $316,000 charged to savings associations insured by the Savings
Association Insurance Fund (the "SAIF"), which is administered by the Federal
Deposit Insurance Corporation. A recapitalization plan for the SAIF was enacted
by Congress in September 1996 resulting in the one-time assessment. The increase
in premiums due to the one-time assessment was offset by a decrease in the rate
paid on deposits from .23% to .06% during the last quarter of fiscal 1997.
Other general and administrative expenses increased approximately $534,000,
or 97.8%, from $546,000 for 1996 to $1.1 million for 1997. The increase resulted
from an increase in data processing of $130,000 as the result of a one-time
restructuring charge, an increase in directors fees and retirement of $33,000,
and amortization of goodwill of $62,000. The remainder of the increase was due
to the inclusion of First National's expenses for the six months ended March 31,
1997, an increase in printing and office supplies as a result of the
implementation of new products, and increased costs relative to operations as a
public company.
Income Tax Expense. Income tax expense increased $188,000 due to higher
income before income taxes of $518,000.
Analysis of Net Interest Income
Net interest income represents the difference between interest earned on
interest-earning assets and interest paid on interest-bearing liabilities. Net
interest income depends on the volumes of interest-earning assets and
interest-bearing liabilities and the interest rates earned or paid on them.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
The following table presents for the periods indicated 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. No tax equivalent adjustments were made.
All average balances are monthly average balances.
<TABLE>
<CAPTION>
Year Ended March 31,
======================================= ======================================
1998 1997
======================================= ======================================
Average Interest Average Interest
Outstanding Earned/ Outstanding Earned/
Balance Paid Yield/Rate Balance Paid Yield/Rate
-------- -------- --------- -------- -------- ---------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Interest-Earning Assets:
Loans receivable (1) $ 88,074 $ 7,415 8.4% $ 63,606 $ 5,224 8.2%
Mortgage-backed securities 8,653 550 6.4 4,961 329 6.6
Investment securities 21,388 1,384 6.5 16,910 1,146 6.8
Interest-earning deposits 405 18 4.4 2,781 170 6.1
Federal funds sold 1,029 59 5.7 4,353 223 5.1
FHLB stock and FRB stock 1,165 81 7.0 813 58 7.1
-------- -------- --------- -------- -------- ---------
Total interest-earning assets(1) $120,714 9,507 7.9 $ 93,424 7,150 7.7
-------- -------- --------- -------- -------- ---------
Interest-Bearing Liabilities
Savings accounts and
interest-bearing demand $ 20,149 581 2.9 $ 11,544 331 2.9
Money market deposits 7,847 235 3.0 6,893 204 3.0
Certificate accounts 62,876 3,398 5.4 49,382 2,683 5.4
FHLB advances 5,813 339 5.8 4,079 223 5.5
Other short-term borrowings 3,906 206 5.3 2,721 134 4.9
Long-term debt 613 53 8.6 340 28 8.2
-------- -------- --------- -------- -------- ---------
Total interest-bearing liabilities $101,195 4,812 4.8 $ 74,959 3,603 4.8
-------- -------- --------- -------- -------- ---------
Net interest income $ 4,695 $ 3,547
======== ========
Net interest rate spread 3.1% 2.9%
=== ===
Net earning assets $ 19,519 $ 18,465
======== ========
Net yield on average interest-
earning assets 3.9% 3.8%
=== ===
Average interest-earning assets to
average interest-bearing liabilities 1.19x 1.25x
==== ====
<CAPTION>
Year Ended March 31,
=======================================
1996
=======================================
Average Interest
Outstanding Earned/
Balance Paid Yield/Rate
-------- -------- ---------
(Dollars in Thousands)
<S> <C> <C> <C>
Interest-Earning Assets:
Loans receivable (1) $ 39,487 $ 2,895 7.3%
Mortgage-backed securities 6,057 439 7.2
Investment securities 11,448 774 6.8
Interest-earning deposits 4,670 265 5.7
Federal funds sold -- -- --
FHLB stock and FRB stock 598 41 6.9
-------- -------- ---------
Total interest-earning assets(1) $ 62,260 4,414 7.1
-------- -------- ---------
Interest-Bearing Liabilities
Savings accounts and
interest-bearing demand $ 2,773 90 3.2
Money market deposits 6,096 203 3.3
Certificate accounts 39,377 2,310 5.9
FHLB advances 3,660 248 6.8
Other short-term borrowings -- -- --
Long-term debt -- -- --
-------- -------- ---------
Total interest-bearing liabilities $ 51,906 2,851 5.5
-------- -------- ---------
Net interest income $ 1,563
========
Net interest rate spread 1.6%
===
Net earning assets $ 10,354
========
Net yield on average interest-
earning assets 2.5%
===
Average interest-earning assets to
average interest-bearing liabilities 1.20x
====
</TABLE>
The following table presents the weighted average rate earned on loans,
investments and other interest-earning assets, and the weighted average rates
paid on deposits and the resultant interest rate spread at the date indicated.
<TABLE>
<CAPTION>
March 31, 1998
--------------
<S> <C>
Weighted average rate:
Loans receivable............................................................................................ 8.4%
Mortgage-backed securities.................................................................................. 6.4
Investment securities....................................................................................... 6.3
FHLB stock and FRB stock.................................................................................... 7.3
Other interest-earning assets............................................................................... 5.8
Combined weighted average yield on interest-earning assets............................................. 7.9
Weighted average rate paid on:
Savings accounts and interest-bearing demand................................................................ 2.8
Money market accounts....................................................................................... 3.5
Certificate accounts........................................................................................ 5.5
Repurchase agreements....................................................................................... 5.4
Term Treasury Tax & Loan deposits........................................................................... 5.4
Long-term debt.............................................................................................. 8.5
Combined weighted average rate paid on interest-bearing liabilities.................................... 4.8
Interest rate spread........................................................................................ 3.1
</TABLE>
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
The following table presents the dollar amount of changes in interest
income and interest expense for major components of interest-earning assets and
interest-bearing liabilities. It distinguishes between the changes related to
outstanding balances and those due to the changes in interest rates. For each
category of interest-earning assets and interest-bearing liabilities,
information is provided on changes attributable to (i) changes in volume (i.e.,
changes in volume multiplied by old rate) and (ii) changes in rate (i.e.,
changes in rate multiplied by old volume). For purposes of this table, changes
attributable to both rate and volume, which cannot be segregated, have been
allocated proportionately to the change due to volume and the change due to
rate.
<TABLE>
<CAPTION>
Year Ended March 31,
===================================== ====================================
1998 vs. 1997 1997 vs. 1996
===================================== ====================================
Increase Increase
(Decrease) (Decrease)
Due to Total Due To Total
---------------------- Increase ---------------------- Increase
Volume Rate (Decrease) Volume Rate (Decrease)
------ ---- ---------- ------ ---- ----------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable $ 2,014 $ 177 $ 2,191 $ 1,938 $ 391 $ 2,329
Mortgage-backed securities 238 (17) 221 (76) (34) (110)
Investment securities 302 (64) 238 372 -- 372
Other (290) (3) (293) 125 20 145
------- ------- ------- ------- ------- -------
Total interest-earning assets $ 2,264 $ 93 $ 2,357 $ 2,359 $ 377 $ 2,736
======= ======= ======= ======= ======= =======
Interest-bearing liabilities:
Savings accounts and interest
bearing demand $ 250 $ -- $ 250 $ 250 $ (9) $ 241
Money market accounts 31 -- 31 22 (21) 1
Certificate accounts 715 -- 715 560 (187) 373
FHLB advances 98 18 116 26 (51) (25)
Other short-term borrowings 57 15 72 134 -- 134
Long-term debt 22 3 25 28 -- 28
------- ------- ------- ------- ------- -------
Total interest-bearing liabilities $ 1,173 $ 36 $ 1,209 $ 1,020 $ (268) $ 752
======= ======= ======= ======= ======= =======
Net interest income $ 1,148 $ 1,984
======= =======
</TABLE>
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Asset/Liability Management
The Company's profitability, like that of many financial institutions, is
dependent to a large extent upon its net interest income, which is the
difference between its interest income on interest-earning assets, such as loans
and investments, and its interest expense on interest-bearing liabilities, such
as deposits. When interest-bearing liabilities mature or reprice more quickly
than interest-earning assets in a given period, a significant increase in market
rates of interest could adversely affect net interest income. Similarly, when
interest-earning assets mature or reprice more quickly than interest-bearing
liabilities, falling interest rates could result in a decrease in net interest
income. Finally, a flattening of the "yield curve" (i.e., a decline in the
difference between long- and short-term interest rates) could adversely impact
net interest income to the extent that the Company's assets have a longer
average term than its liabilities.
The Company is also subject to interest rate risk to the extent that the
value of its net assets fluctuates with interest rates. In general, the value of
most of the Company's assets decline in the event of an increase in interest
rates.
The Company has an Asset/Liability Committee, comprised of the Company's
chief executive officer, executive vice-president, chief financial officer, and
two non-employee directors to meet periodically to review the Company's interest
rate risk position and product mix and to make recommendations for adjustments
to the Company's Board of Directors. Management also monitors the Company's
interest rate risk position on a monthly basis and also reviews the Company's
portfolio, earnings, liquidity, asset quality, formulates investment strategies
and oversees the timing and implementation of transactions to assure attainment
of the Board's objectives in the most effective manner.
The Company has an asset/liability management policy. The principal goals
of this policy are to enhance the Company's net interest margin while managing
its interest rate position. Depending upon market conditions, the Company may
place more emphasis on enhancing the net interest margin rather than better
matching the interest rate sensitivity of the Company's assets and liabilities.
As a result and in view of the need to enhance the Company's interest rate
spread, despite the Board and management's efforts to more effectively manage
the Company's interest rate risk in the future, the Company's results of
operations and net portfolio values will remain significantly vulnerable to
increases in interest rates and declines in the difference between long- and
short-term interest rates.
The principal elements of the asset/liability management policy are as
follows. First, the Company requires that ARM loans be indexed to changes in
rates paid on U.S. Treasury securities rather than one of the Cost of Funds
Indices. Management believes that U.S. Treasury securities are significantly
more interest rate sensitive than the Cost of Funds Indices and that therefore,
ARMs indexed to such securities will be more interest rate sensitive than ARM
loans originated by the Company in the past. Second, management intends to
continue to increase the Company's commercial real estate, consumer and
commercial business loans, subject to market conditions. In general, such loans
carry shorter terms to maturity and/or repricing, are more interest rate
sensitive and generate higher levels of noninterest income than most of the
Company's current assets. Third, management intends to use marketing and other
initiatives to increase the Company's transaction and other non-certificate
deposit accounts. Management believes that such accounts generally carry lower
costs and are more interest rate resistant than the Company's certificates of
deposit. There can be no assurance as to whether or when any or all of the
elements of the asset/liability management program will be successfully
implemented.
Net Portfolio Value ("NPV") analysis provides a quantification of interest
rate risk. In essence, this approach calculates the difference between the
present value of liabilities, expected cash flows from assets and cash flows
from off balance sheet contracts under different interest rate environments. The
following table sets forth, as of March 31, 1998, the estimated changes in the
Company's NPV (i.e., the present value of expected cash flows from assets,
liabilities and off-balance sheet contracts) in the event of the specified
instantaneous changes in interest rates.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
================================================================================
Net Portfolio Equity
================================================================================
Change in
Interest Rates Amount of Percent of
(Basis Points) Estimated NPV Change Change
- -------------- ------------- ------ ------
(Dollars in Thousands)
+400 $ 15,347 $-9,626 -39%
+300 17,793 -7,180 -29
+200 20,305 -4,668 -19
+100 22,687 -2,286 - 9
0 24,973
-100 26,928 1,955 + 8
-200 28,136 3,163 +13
-300 29,748 4,775 +19
-400 32,216 7,243 +29
Certain assumptions were employed by the Company in preparing the previous
table. These assumptions relate to interest rates, loan prepayment rates varied
by the categories and rate environment, deposit decay rates varied by the
categories and rate environment and the market values of certain assets under
the various interest rate scenarios. It was also assumed that delinquency rates
will not change as a result of changes in interest rates although there can be
no assurance that this will be the case. In the event that interest rates do
change in the designated amounts, there can be no assurance that the Company's
assets and liabilities would perform as set forth above. In addition, a change
in Treasury rates in the designated amounts accompanied by a change in the shape
of the Treasury yield curve would cause significantly different changes to the
NPV than indicated above.
Liquidity & Capital Resources
The Company's principal sources of funds are deposits and borrowings,
amortization and prepayment of loan principal and mortgage-backed securities,
maturities of investment securities and operations. While scheduled loan
repayments and maturing investments are relatively predictable, deposit flows
and early loan repayments are more influenced by interest rates, floors and caps
on loan rates, general economic conditions and competition. The Company
generally manages the pricing of its deposits to be competitive and to increase
core deposit relationships, but has from time to time decided not to pay deposit
rates that are as high as those of its competitors and, when necessary, to
supplement deposits with longer term and/or less expensive alternative sources
of funds.
The primary investing activities of the Company are originating loans and,
to a lesser extent, purchasing mortgage-backed and investment securities. During
the fiscal years ended March 31, 1998, 1997 and 1996, mortgage loan originations
totaled $45.2 million, $24.5 million and $15.4 million, respectively. Purchases
of mortgage-backed and investment securities totaled $9.4 million, $15.7 million
and $7.4 million during each of the fiscal years ended March 31, 1998, 1997 and
1996, respectively. A substantial portion of loan originations and purchases of
mortgage-backed securities and other investments were funded by proceeds of loan
repayments, the maturity or sale of securities, and FHLB advances.
The primary financing activities of the Company are deposits and, to a
lesser extent, borrowings. During the fiscal years ended March 31, 1998 and
1997, the Company experienced an increase in deposits of $4.4 million and $54.3
million and during the fiscal years ended March 31, 1996, a decrease in deposits
of $2.3 million was experienced. During the fiscal years ended March 31, 1998,
1997 and 1996, the Company's net financing activity (proceeds less repayments)
with the FHLB totaled $0 million, $4.8 million and $0 million, respectively.
The Company's most liquid assets are cash and cash equivalents, which
consist of short-term highly liquid investments with original maturities of less
than three months that are readily convertible to known amounts of cash and
interest-bearing deposits. The level of these assets is dependent on the
Company's operating, financing and investing activities during any given period.
At March 31, 1998, cash and cash equivalents totaled $3.6 million.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Liquidity management is both a daily and long-term responsibility of
management. The Company adjusts its investments in liquid assets based upon
management's assessment of (i) expected loan demand, (ii) expected deposit
flows, (iii) yields available on interest-earning deposits and investment
securities, and (iv) the objectives of its asset/liability management program.
Excess liquidity is invested generally in interest-earning overnight deposits
and short- and intermediate-term U.S. Government and agency obligations and
mortgage-backed securities of short duration. If the Company requires funds
beyond its ability to generate them internally, Classic Bank and First National
have additional borrowing capacity with the FHLB of Cincinnati which is, in the
opinion of management, adequate to provide any funds needed.
The Company anticipates that it will have sufficient funds available to
meet current loan commitments. At March 31, 1998, the Company had outstanding
loan commitments totaling $5.4 million.
As a federally chartered savings bank, Classic is required to maintain a
minimum level of regulatory capital. As a nationally chartered bank, First
National is subject to the capital regulation of the OCC. At March 31, 1997,
Classic and First National exceeded all of their capital requirements on a fully
phased-in basis. See Note 20 to the Notes to the Consolidated Financial
Statements for information regarding regulatory capital levels and requirements
for each institution.
Impact of New Accounting Standards
See Note 1 of the Notes to the Consolidated Financial Statements for
information regarding the effect of implementing new accounting standards.
Impact of Inflation and Changing Prices
The Company's Consolidated Financial Statements and Notes have been
prepared in accordance with generally accepted accounting principles, which
require the measurement of financial position and operating results in terms of
historical dollars without consideration for changes in the relative purchasing
power of money over time due to inflation. The impact of inflation can be found
in the increased cost of the Company's operations. Nearly all the assets and
liabilities of the Company are financial, unlike most industrial companies. As a
result, the Company's performance is directly impacted by changes in interest
rates, which are indirectly influenced by inflationary expectations. The
Company's ability to match the financial assets to the financial liabilities in
its asset/liability management will tend to minimize the change of interest
rates on the Company's performance. Changes in investment rates do not
necessarily move to the same extent as changes in the price of goods and
services.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
Smith, Goolsby
Artis & Reams, P.S.C.
R. MILTON GOOLSBY, C.P.A.
JOHN W. ARTIS, C.P.A.
C. ALAN REAMS, C.P.A.
LARRY J. WITHERS, C.P.A.
STEPHEN W. KANOUSE, C.P.A.
DELMAR H. FRALEY, C.P.A.
RODNEY M. ROBINETTE, C.P.A.
-----------
G. DALE SWENTZEL, C.P.A.
STUART T. BLEVINS, C.P.A.
DAVID K. WHALEY, C.P.A.
SHARON K. KRETZER, C.P.A.
THERESA C. LYONS, C.P.A.
CERTIFIED PUBLIC ACCOUNTANTS
P.O. BOX 551 1330 CARTER AVE.
ASHLAND, KENTUCKY 41105-0551
(606) 329-1171 FAX# (606) 325-0590
Board of Directors
Classic Bancshares, Inc. and Subsidiaries
Ashland, Kentucky
INDEPENDENT AUDITOR'S REPORT
We have audited the accompanying consolidated statements of financial condition
of Classic Bancshares, Inc. and Subsidiaries as of March 31, 1998 and 1997, and
the related consolidated statements of income, changes in stockholders' equity
and cash flows for each of the three years in the period ended March 31, 1998.
These financial statements are the responsibility of the Corporation's
management. Our responsibility is to express an opinion on these financial
statements.
We conducted our audits in accordance with generally accepted auditing
standards. 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 audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Classic Bancshares,
Inc. and Subsidiaries, as of March 31, 1998 and 1997, and the results of their
operations and their cash flows for each of the three years in the period ended
March 31, 1998, in conformity with generally accepted accounting principles.
/s/ Smith, Goolsby Artis & Reams, P.S.C.
Ashland, Kentucky
May 29, 1998
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
MARCH 31, 1998 AND 1997
<TABLE>
<CAPTION>
============= =============
1998 1997
============= =============
<S> <C> <C>
Assets
Cash and due from banks $ 2,383,995 $ 3,107,130
Interest-bearing deposits with banks 116,846 202,179
Federal fund sold and securities purchased under agreements to resell 1,131,414 5,525,000
Certificates of deposit in other financial institutions 293,000 293,000
Securities available for sale 18,176,807 23,374,597
Mortgage-backed and related securities available for sale 7,830,714 7,884,835
Loans, net of allowance for loan losses of $830,535 in
1998 and $801,180 in 1997 90,100,000 81,727,685
Real estate acquired in the settlement of loans 229,390 336,337
Accrued interest receivable 851,767 690,186
Federal Home Loan Bank and Federal Reserve Bank stock 1,297,150 1,015,400
Premises and equipment, net 4,468,002 3,297,016
Cost in excess of fair value of net assets aquired, net of accumulated amortization 2,902,869 3,026,389
Other assets 1,338,572 1,074,481
------------- -------------
Total Assets $ 131,120,526 $ 131,554,235
------------- -------------
Liabilities
Non-interest bearing demand deposits $ 10,152,498 $ 9,484,567
Savings, NOW, and money market demand deposits 30,333,654 30,296,677
Other time deposits 64,440,515 60,738,229
------------- -------------
Total deposits 104,926,667 100,519,473
Securities sold under agreements to repurchase 3,521,799 4,955,766
Advances from Federal Home Loan Bank -- 4,750,000
Other short-term borrowings 273,697 428,954
Accrued expenses and other liabilities 402,090 287,836
Accrued interest payable 390,409 217,731
Accrued income taxes -- 90,588
Long-term debt 550,000 650,000
Deferred income taxes 648,802 284,087
------------- -------------
Total Liabilities 110,713,464 112,184,435
------------- -------------
Commitments
Stockholders' Equity
Preferred stock $.01 par value; authorized, 100,000 shares - none issued --
--Common stock $.01 par value; authorized 1,700,000 shares; issued
and outstanding, 1,322,500 shares 13,225 13,225
Additional paid-in capital 12,753,789 12,689,158
Retained earnings, substantially restricted 8,853,606 8,172,085
Net unrealized gain (loss) on securities available for sale 297,125 (58,614)
Unearned ESOP shares (834,970) (918,660)
Unearned RRP shares (371,879) (486,055)
Minimum pension liability adjustment (9,954) (11,376)
Treasury stock, at cost (293,880) (29,963)
------------- -------------
Total Stockholders' Equity 20,407,062 19,369,800
------------- -------------
Total Liabilities and Stockholders' Equity $ 131,120,526 $ 131,554,235
============= =============
</TABLE>
NOTE: The accompanying notes are an integral part of these consolidated
financial statements.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEARS ENDED MARCH 31, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
========== ========== ==========
1998 1997 1996
========== ========== ==========
<S> <C> <C> <C>
Interest Income
Loans $7,414,430 $5,223,732 $2,894,721
Securities 1,384,484 1,203,541 814,845
Mortgage-backed securities 550,442 329,010 438,501
Federal funds sold and securities purchased
under agreements to resell 59,425 222,718 20,485
Other interest 98,529 170,645 245,406
---------- ---------- ----------
Total Interest Income 9,507,310 7,149,646 4,413,958
---------- ---------- ----------
Interest Expense
Deposits 4,213,728 3,217,704 2,603,140
Federal Home Loan Bank advances 343,630 222,806 247,988
Securities sold under repurchase agreements 194,219 129,751 --
Long-term debt 52,955 28,520 --
Other short-term borrowings 7,454 4,295 --
---------- ---------- ----------
Total Interest Expense 4,811,986 3,603,076 2,851,128
---------- ---------- ----------
Net Interest Income 4,695,324 3,546,570 1,562,830
Provision for loss on loans 157,500 105,000 168,000
---------- ---------- ----------
Net interest income after provision for loss on loans 4,537,824 3,441,570 1,394,830
---------- ---------- ----------
Noninterest Income
Service charges 344,295 118,646 --
Gain on sale of securities 29,167 32,245 36,306
Gain from settlement of pension plan 370,622 -- --
Other income 128,731 68,273 72,109
---------- ---------- ----------
Total Noninterest Income 872,815 219,164 108,415
---------- ---------- ----------
Noninterest Expenses
Employee compensation and benefits 1,830,387 1,050,870 425,182
Occupancy and equipment expense 554,302 284,893 95,760
Federal deposit insurance premiums 33,923 401,430 111,342
Advertising 142,047 71,687 52,774
Data processing 133,715 187,659 57,676
Franchise taxes 137,728 50,822 55,131
Directors fees and benefits 116,823 91,724 58,440
Amortization of goodwill 123,520 61,590 --
Other operating expenses 921,492 617,047 322,133
---------- ---------- ----------
Total Noninterest Expense 3,993,937 2,817,722 1,178,438
---------- ---------- ----------
Income Before Income Taxes 1,416,702 843,012 324,807
Income tax expense 396,216 220,393 32,175
---------- ---------- ----------
Net Income $1,020,486 $ 622,619 $ 292,632
========== ========== ==========
Basic earnings per share $ .87 $ .52 N/A
========== ==========
Diluted earnings per share $ .83 $ .51 N/A
========== ==========
Basic weighted average common shares outstanding 1,170,607 1,194,169
========== ==========
Diluted weighted average common shares outstanding 1,224,888 1,206,935
========== ==========
</TABLE>
NOTE: The accompanying notes are an integral part of these consolidated
financial statements.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED MARCH 31, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
Minimum
Additional Unearned Unearned Pension
Common Paid-In Retained ESOP RRP Liability
Stock Capital Earnings Shares Shares Adjustment
------- ----------- ---------- ---------- --------- ----------
<S> <C> <C> <C> <C> <C> <C>
Balances, April 1, 1995 $7,415,121 $ $ $
Net income for the year
ended March 31, 1996 292,632
Common stock issued in
conversion, net of costs 13,225 12,704,127
Contribution for unearned
ESOP shares (1,058,000)
ESOP shares earned 6,771 52,900
Change in unrealized gain
(loss) on available for sale
securities, net of applicable
deferred income taxes of $59,418
Excess of minimum pension
liability over recognized
prior service cost on
directors retirement plan (12,798)
------- ----------- ---------- ---------- --------- -------
Balances, March 31, 1996 13,225 12,710,898 7,707,753 (1,005,100) (12,798)
Net income for the year
ended March 31, 1997 622,619
Cash dividends paid
($.13 per share) (158,287)
ESOP shares earned 15,213 86,440
Shares repurchased for
Recognition and Retention
Plan - 52,900 shares, of
which 2,550 shares were
unallocated at March 31,
1997 ($11.75 per share) (36,953) (554,659)
RRP shares earned 68,604
Change in minimum pension
liability adjustment 1,422
Changes in unrealized gain
(loss) on available for sale
securities, net of applicable
deferred income taxes of $74,644
------- ----------- ---------- ---------- --------- -------
Balances, March 31, 1997 $13,225 $12,689,158 $8,172,085 ($918,660) ($486,055) ($11,376)
Net income for the year
ended March 31, 1998 1,020,486
Cash dividends paid
($.28 per share) (338,965)
ESOP shares earned 49,796 83,690
RRP shares earned 110,283
RRP shares forfeited 337 3,893
Tax benefit from RRP 14,498
Purchased 20,000
treasury shares
Change in minimum
pension liability adjustment 1,422
Changes in unrealized gain
(loss) on available for sale
securities, net of applicable
deferred income taxes of $183,259
------- ----------- ---------- ---------- --------- -------
Balances, March 31, 1998 $13,225 $12,753,789 $8,853,606 ($834,970) ($371,879) ($9,954)
======= =========== ========== ========== ========= =======
<CAPTION>
Net
Unrealized
Gain (Loss)
on Securities
Treasury Available
stock For Sale Total
---------- -------- -----------
<S> <C> <C> <C>
Balances, April 1, 1995 $ ($29,056) $7,386,065
Net income for the year
ended March 31, 1996 292,632
Common stock issued in
conversion, net of costs 12,717,352
Contribution for unearned
ESOP shares (1,058,000)
ESOP shares earned 59,671
Change in unrealized gain
(loss) on available for sale
securities, net of applicable
deferred income taxes of $59,418 115,341 115,341
Excess of minimum pension
liability over recognized
prior service cost on
directors retirement plan (12,798)
---------- -------- -----------
Balances, March 31, 1996 86,285 19,500,263
Net income for the year
ended March 31, 1997 622,619
Cash dividends paid
($.13 per share) (158,287)
ESOP shares earned 101,653
Shares repurchased for
Recognition and Retention
Plan - 52,900 shares, of
which 2,550 shares were
unallocated at March 31,
1997 ($11.75 per share) (29,963) (621,575)
RRP shares earned 68,604
Change in minimum pension
liability adjustment 1,422
Changes in unrealized gain
(loss) on available for sale
securities, net of applicable
deferred income taxes of $74,644 (144,899) (144,899)
---------- -------- -----------
Balances, March 31, 1997 ($29,963) ($58,614) $19,369,800
Net income for the year
ended March 31, 1998 1,020,486
Cash dividends paid
($.28 per share) (338,965)
ESOP shares earned 133,486
RRP shares earned 110,283
RRP shares forfeited (4,230) --
Tax benefit from RRP 14,498
Purchased 20,000
treasury shares (259,867) (259,867)
Change in minimum
pension liability adjustment 1,422
Changes in unrealized gain
(loss) on available for sale
securities, net of applicable
deferred income taxes of $183,259 355,739 355,739
---------- -------- -----------
Balances, March 31, 1998 ($293,880) $297,125 $20,407,062
========== ======== ===========
</TABLE>
NOTE: The accompanying notes are an integral part of these consolidated
financial statements.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED MARCH 31, 1998, 1997 AND 1996
<TABLE>
<CAPTION>
============ ============ ============
1998 1997 1996
============ ============ ============
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income $ 1,020,486 $ 622,619 $ 292,632
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 423,166 196,515 57,801
Provision for loan losses 157,500 105,000 168,000
Provision for loss on foreclosed real estate 50,000 43,500 --
Loss (gain) on sale of mortgage-backed securities 7,392 22,664 (53,099)
Loss (gain) on sale of investment securities (36,599) (54,909) 16,793
Net amortization (accretion) of mortgage-backed
and investment securities 27,756 31,564 2,823
Federal Home Loan Bank stock dividend (68,200) (52,200) (40,900)
Deferred income tax expense (benefit) 181,456 66,942 (8,148)
Loss (gain) on sale of foreclosed real estate (34,354) 1,377 (24,112)
Loss on disposal of equipment and software 53,053 -- --
Gain on pension plan settlement (370,622) -- --
ESOP shares earned 133,486 101,653 59,671
RRP shares earned 110,283 68,604 --
Amortization of goodwill 123,520 61,590 --
Decrease (increase) in:
Accrued interest receivable (161,581) 51,406 (51,780)
Other assets 91,409 141,976 (100,731)
Increase (decrease) in:
Accrued interest payable 172,678 (74,269) 27,076
Accrued income taxes (90,588) 90,588 --
Other liabilities 114,254 (175,062) 127,631
------------ ------------ ------------
NET CASH PROVIDED BY
OPERATING ACTIVITIES 1,904,535 1,249,558 473,657
------------ ------------ ------------
INVESTING ACTIVITIES
Investment securities:
Available for sale:
Proceeds from sales, maturities and calls 12,709,539 14,405,708 6,880,500
Purchased (7,024,383) (10,606,627) (4,850,000)
Mortgage-backed securities:
Available for sale:
Proceeds from sale 1,004,375 3,230,925 7,175,371
Principal payments 1,285,360 265,709 686,543
Purchased (2,182,572) (5,044,048) (2,509,776)
Purchased Federal Home Loan Bank stock (22,800) -- --
Purchased Federal Reserve Bank stock (190,750) -- --
Loans:
Originations and principal payments, net (8,581,515) (10,331,284) (8,744,300)
Purchased -- -- (275,000)
Proceeds from sale of participating interest -- -- 788,000
Certificates of deposit with other banks:
Proceeds from maturities -- 290,000 501,266
Proceeds from sale of foreclosed real estate 143,000 16,000 133,162
Purchased premises and equipment (1,560,273) (1,078,086) (451,184)
Proceeds from sale of equipment and fixtures 33,950 -- --
Purchased software (89,838) (131,844) --
Cash and cash equivalents aquired in purchase of Bank subsidiary
in excess of cash invested -- 4,411,002 --
------------ ------------ ------------
NET CASH USED BY
INVESTMENT ACTIVITIES (4,475,907) (4,572,545) (665,418)
------------ ------------ ------------
</TABLE>
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED MARCH 31, 1998, 1997 AND 1996 (CONTINUED)
<TABLE>
<CAPTION>
============ ============ ============
1998 1997 1996
============ ============ ============
<S> <C> <C> <C>
FINANCING ACTIVITIES
Net change in deposits $ 4,407,194 $ 1,479,663 ($ 2,309,277)
Federal Home Loan Bank borrowings 25,507,000 18,200,000 3,175,000
Repayment of Federal Home Loan Bank borrowings (30,257,000) (13,450,000) (7,975,000)
Long-term borrowings -- 700,000 --
Repayment of long-term borrowings (100,000) (50,000) --
Decrease in securities sold under agreements to repurchase (1,433,967) (327,477) --
Decrease in term treasury tax and loan borrowings (155,257) (138,490) --
Shares purchased for RRP -- (621,575) --
Dividends Paid (338,965) (158,287) --
Sale of common stock, net of costs -- 11,659,352
Treasury shares purchased (259,687) -- --
------------ ------------ ------------
NET CASH PROVIDED (USED) BY FINANCING
ACTIVITIES (2,630,682) 5,633,834 4,550,075
------------ ------------ ------------
Net change in cash and cash equivalents (5,202,054) 2,310,847 4,358,314
Cash and cash equivalents, Beginning of year 8,834,309 6,523,462 2,165,148
------------ ------------ ------------
Cash and cash equivalents, End of year $ 3,632,255 $ 8,834,309 $ 6,523,462
============ ============ ============
Additional cash flows and supplementary information
Cash paid during the year for:
Interest on deposits and borrowings $ 1,728,553 $ 1,113,691 $ 1,217,000
Income taxes $ 321,472 $ 62,862 --
Assets aquired in settlement of loans $ 51,700 $ 37,904 $ 72,500
Net unrealized gain (loss) on securities available for sale $ 355,739 $ 144,899 $ 115,341
Common stock issued to ESOP leveraged with an employer loan -- -- $ 1,058,000
Liabilities assumed and cash paid in acquisition of
First Paintsville Bancshares -- $ 69,660,895 --
Fair value of assets received -- $ 66,572,916 --
Amount assigned to goodwill -- $ 3,087,979 --
</TABLE>
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A. Organization
Classic Bancshares, Inc. (the "Corporation") was organized as a
savings and loan holding company primarily for the purpose of
acquiring and owning all of the outstanding common stock of Classic
Bank (formerly Ashland Federal Savings Bank).
As more fully described in Note 3, on September 30, 1996, Classic
Bancshares, Inc. became a bank holding company upon its acquisition of
100% of the outstanding common stock of First National Bank of
Paintsville (First National).
Classic Bank and First National (the "Banks") conduct a general
commercial banking business in eastern Kentucky which consists of
attracting deposits from the general public and using those funds,
together with other funds, to originate residential, consumer and
nonresidential loans, primarily in their market area.
The Banks' revenues are derived principally from interest earned on
loans and to a lesser extent, from interest earned on investments and
service fees on loans and deposit accounts. The operations of the
Banks are influenced significantly by general economic conditions and
by policies of financial institutions regulatory agencies. The Banks'
cost of funds are influenced by interest rates on competing
investments and general market rates. Lending activities are affected
by the demand for financing real estate and other types of loans,
which in turn is affected by the interest rates at which such
financing may be offered.
The Banks' net interest income is dependent primarily upon the
difference or spread between the average yield earned on loans and
investments and the average rate paid on deposits, as well as the
relative amounts of such assets and liabilities. The Banks, like most
financial institutions, are subject to interest rate risk to the
degree that their interest-bearing liabilities mature or reprice at
different times, or on a different basis, than their interest earning
assets.
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. On an ongoing basis, management reviews its
estimates, including those related to litigation and environmental
liabilities, based on currently available information. Changes in
facts and circumstances may result in revised estimates.
The following is a summary of the Corporation's significant accounting
policies which have been consistently applied in the preparation of
the accompanying consolidated financial statements.
B. Principles of Consolidation
The consolidated financial statements include the accounts of the
Corporation and the Banks. All significant intercompany balances and
transactions have been eliminated.
C. Investment Securities and Mortgage-Backed and Related Securities
The Corporation accounts for investment and mortgage-backed securities
in accordance with Statement of Financial Accounting Standards
("SFAS") No. 115 "Accounting for Certain Investments in Debt and
Equity Securities." SFAS No. 115 requires that investment securities
be categorized as held-to-maturity, trading, or available-for-sale.
Securities classified as held-to-maturity are carried at cost only if
the Corporation has the positive intent and ability to hold these
securities to maturity. Trading securities and securities
available-for-sale are carried at fair value with resulting unrealized
gains or losses recorded to operations or stockholders' equity,
respectively. Investment and mortgage-backed securities are classified
according to management's intent upon acquisition. The Corporation's
stockholders' equity reflected net unrealized gains of $297,125 at
March 31, 1998, and net unrealized losses of $58,614 at March 31,
1997. Realized gains and losses on sales of securities are recognized
using the specific identification method.
During the fourth quarter of 1995, the Financial Accounting Standards
Board allowed financial statement preparers a one-time opportunity to
reassess the classifications of securities accounted for under SFAS
No. 115. As a result of this reassessment, Classic Bank reclassified
$9.7 million of held-to-maturity securities and mortgage-backed and
related securities to available for sale securities. In connection
with this reclassification, gross unrealized gains of $411,655 and
gross unrealized losses of $41,371 were recorded.
Mortgage-backed and related securities are subject to prepayment,
which affects the yield and effective maturity of the investment. The
Banks do not purchase mortgage-backed and related securities with
significant premiums in order to minimize the effects of prepayments.
D. Loans Receivable and Allowance for Loan Losses
Loans receivable, net are stated at unpaid principal balances, less
the allowance for loan losses, plus or minus net deferred loan
origination costs or fees, and the undisbursed portion of loans in
process.
Interest is accrued as earned unless the collectibility of the loan is
in doubt. Uncollectible interest on loans that are contractually past
due is charged off, or an allowance is established based on
management's periodic evaluation. The allowance is established by a
charge to interest income equal to all interest previously accrued,
and income is subsequently recognized only to the extent that cash
payments are received until, in management's judgment, the borrower's
ability to make periodic interest and principal payments has returned
to normal, in which case the loan is returned to accrual status.
It is the Corporation's policy to establish an allowance for loan
losses for the purpose of absorbing losses associated with the loan
portfolio. All actual loan losses are charged to the related allowance
and all recoveries are credited to it. Additions to the allowance for
loan losses are provided by charges to operations based on various
factors, including the market value of the underlying collateral,
growth and composition of the loan portfolio, the relationship of the
allowance for loan losses to outstanding loans, historical loss
experience, delinquency trends and prevailing and projected economic
conditions. Management evaluates the carrying value of loans
periodically in order to evaluate the adequacy of the allowance. While
management uses the best information available to make these
evaluations, future adjustments to the allowance may be necessary if
the assumptions used in making the evaluations require material
revision.
The Corporation accounts for impaired loans in accordance with SFAS
No. 114, "Accounting by Creditors for Impairment of a Loan". SFAS No.
114 requires that impaired loans be measured based upon the present
value of expected future cash flows discounted at the loan's effective
interest rate or, as an alternative, at the loans observable market
price or fair value of the collateral.
Under SFAS No. 114, a loan is defined as impaired when, based on
current information and events, it is probable that a creditor will be
unable to collect all amounts due according to the contractual terms
of the loan agreement. In applying the provisions of SFAS No. 114, the
Corporation considers its investment in one-to-four-family residential
loans and consumer installment loans to be homogeneous and therefore
excluded from separate identification for evaluation of impairment.
With respect to the Corporation's investment in multi-family and
nonresidential loans, and its evaluation of any impairment thereon,
such loans are collateral dependent and as a result are carried as a
practical expedient at the lower of cost or fair value.
At March 31, 1998 and 1997, the Corporation had no loans that would be
defined as impaired under SFAS No. 114.
E. Loan Origination Fees
Loan fees are accounted for in accordance with Statement of Financial
Accounting Standards ("SFAS") No. 91. SFAS No. 91 requires loan
origination fees and
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
E. Loan Origination Fees (continued)
certain related direct loan origination costs be offset and the
resulting net amount be deferred and amortized over the contractual
life of the related loans as an adjustment to the yield on such loans,
using the level yield method.
F. Foreclosed Real Estate
Real estate properties acquired through, or in lieu of, loan
foreclosure are to be sold and are initially recorded at fair value at
the date of foreclosure establishing a new cost basis.
After foreclosure, valuations are periodically performed by management
and the real estate is carried at the lower of carrying amount or fair
value less cost to sell. Revenue and expenses from operations and
changes in the valuation allowance are included in loss on foreclosed
real estate. The historical average holding period for such properties
is six months.
G. Premises and Equipment
Land is carried at cost. Bank premises, furniture and equipment, and
leasehold improvements are carried at cost, less accumulated
depreciation and amortization computed principally by the
straight-line method over estimated useful lives of the assets,
estimated to be ten to fifty years for buildings and five to ten years
for furniture, fixtures and equipment.
H. Goodwill and Other Intangibles
Goodwill resulting from the acquisition of First National totaled
approximately $3.1 million and is being amortized over a twenty-five
year period using the straight-line method. Management periodically
evaluates the carrying value of these intangible assets in relation to
the continuing earnings capacity of the acquired assets and assumed
liabilities.
In March 1995, the FASB issued SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be
Disposed Of." SFAS No. 121 provides guidance on when to recognize and
how to measure impairment losses of long-lived assets and certain
identifiable intangibles and how to value long-lived assets to be
disposed of. The Corporation adopted SFAS No. 121 effective April 1,
1996, as required, without material effect on consolidated financial
condition or results of operations.
I. Federal Income Taxes
The Corporation accounts for federal income taxes in accordance with
SFAS No. 109, "Accounting for Income Taxes." Pursuant to the
provisions of SFAS No. 109, a deferred tax liability or deferred tax
asset is computed by applying the current statutory tax rates to net
taxable or deductible temporary differences between the tax basis of
an asset or liability and its reported amount in the financial
statements that will result in taxable or deductible amounts in future
periods. Deferred tax assets are recorded only to the extent that the
amount of net deductible temporary differences or carryforward
attributes may be utilized against current period earnings, carried
back against prior years' earnings, offset against taxable temporary
differences reversing in future periods, or utilized to the extent of
management's estimate of future taxable income. A valuation allowance
is provided for deferred tax assets to the extent that the value of
net deductible temporary differences and carryforward attributes
exceeds management's estimates of taxes payable on future taxable
income. Deferred tax liabilities are provided on the total amount of
net temporary differences taxable in the future.
The Corporation's principal temporary differences between pretax
financial income and taxable income result primarily from the
different methods of accounting for deferred loan origination fees,
Federal Home Loan Bank stock dividends, the general loan loss
allowance, and certain components of retirement expense. A temporary
difference is also recognized for depreciation expense computed using
accelerated methods for federal income tax purposes.
J. Earnings Per Share
Effective December 31, 1997, the Corporation began presenting earnings
per share pursuant to the provisions of SFAS No. 128, "Earnings Per
Share." In accordance with the Statement, the March 31, 1997 earnings
per share presentation has been restated to conform to SFAS No. 128.
Earnings per share for March 31, 1996, the year of conversion, are not
meaningful and accordingly are not presented.
Basic earnings per share is calculated based on the weighted average
number of common shares outstanding during the respective periods.
Diluted earnings per share is computed taking into consideration
common shares outstanding and dilutive potential common shares to be
issued under the Corporation's stock option plan and recognition and
retention plan. Weighted average common shares deemed outstanding for
purposes of computing diluted earnings per share gives effect to
incremental shares from assumed stock option exercises and vesting
requirements of the recognition and retention plan totaling 54,281 and
12,766 for the years ended March 31, 1998 and 1997, respectively.
K. Impact of Recent Accounting Pronouncements
In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers
of Financial Assets, Servicing Rights, and Extinguishment of
Liabilities," that provides accounting guidance on transfers of
financial assets, servicing of financial assets, and extinguishment of
liabilities. SFAS No. 125 introduces an approach to accounting for
transfers of financial assets that provides a means of dealing with
more complex transactions in which the seller disposes of only a
partial interest in the assets, retains rights or obligations, makes
use of special purpose entities in the transaction, or otherwise has
continuing involvement with the transferred assets. The new accounting
method, referred to as the financial components approach, provides
that the carrying amount of the financial assets transferred be
allocated to components of the transaction based on their relative
fair values. SFAS NO. 125 provides criteria for determining whether
control of assets has been relinquished and whether a sale has
occurred.
If the transfer does not qualify as a sale, it is accounted for as a
secured borrowing. Transactions subject to the provisions of SFAS No.
125 include, among others, transfers involving repurchase agreements,
securitizations of financial assets, loan participations, factoring
arrangements and transfers of receivables with recourse.
An entity that undertakes an obligation to service financial assets
recognizes either a servicing asset or liability for the servicing
contract (unless related to a securitization of assets, and all the
securitized assets are retained and classified as held-to-maturity). A
servicing asset or liability that is purchased or assumed is initially
recognized at its fair value. Servicing assets and liabilities are
amortized in proportion to and over the period of estimated net
servicing income or net servicing loss and are subject to subsequent
assessments for impairment based on fair value.
SFAS No. 125 provides that a liability is removed from the balance
sheet only if the debtor either pays the creditor and is relieved of
its obligation for the liability or is legally released from being the
primary obligor.
SFAS No. 125 is effective for transfers and servicing of financial
assets and extinguishment of liabilities occurring after December 31,
1997, and is to be applied prospectively. Earlier or retroactive
application is not permitted. Management adopted SFAS No. 125,
effective January 1, 1998, without material adverse effect on the
Corporation's consolidated financial position or results of
operations.
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income." SFAS No. 130 establishes standards for reporting and display
of com-prehensive income and its components (revenue, expenses, gains
and losses) in a full set of general-purpose financial statements.
SFAS No. 130 requires that all items that are required to be
recognized under accounting standards as components of comprehensive
income be reported in a financial statement that is displayed with the
same prominence as other financial statements. It does not require a
K.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
K. Impact of Recent Accounting Pronouncements (continued)
specific format for that financial statement but requires that an
enterprise display an amount representing total comprehensive income
for the period in that financial statement.
SFAS No. 130 requires that an enterprise (a) classify items of other
comprehensive income by their nature in a financial statement and (b)
display the accumulated balance of other comprehensive income
separately from retained earnings and additional paid-in capital in
the equity section of a statement of financial position. SFAS No. 130
is effective for fiscal years beginning after December 15, 1997.
Reclassification of financial statements for earlier periods provided
for comparative purposes is required. SFAS No. 130 is not expected to
have a material impact on the Corporation's consolidated financial
statements.
In June 1997, the FASB issued SFAS No. 131, "Disclosure about Segments
of an Enterprise and Related Information." SFAS No. 131 significantly
changes the way that public business enterprises report information
about operating segments in annual financial statements and requires
that those enterprises report selected information about reportable
segments in interim financial reports issued to shareholders. It also
establishes standards for related disclosures about products and
services, geographic areas and major customers. SFAS No. 131 uses a
"management approach" to disclose financial and descriptive
information about the way that managementorganizes the segments within
the enterprise for making operating decisions and assessing
performance. For many enterprises, the management approach will likely
result in more segments being reported. In addition SFAS No. 131
requires significantly more information to be disclosed foreach
reportable segment than is presently being reported in annual
financial statements and also requires that selected information be
reported in interim financial statements. SFAS No. 131 is effective
for fiscal years beginning after December 15, 1997. SFAS No. 131 is
not expected to have a material impact on the Corporation's
consolidated financial statements.
L. Financial Instruments
Other off-balance-sheet instruments. In the ordinary course of
business the Banks have entered into off-balance-sheet financial
instruments consisting of commitments to extend credit, commitments
under credit-card arrangements, and standby letters of credit. Such
financial instruments are recorded in the financial statements when
they are funded or related fees are incurred or received.
M. Fair Values of Financial Instruments
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments",
requires that the Corporation disclose estimated fair values for its
financial instruments. In accordance with SFAS No. 107, fair values
are based on estimates using present value and other valuation
techniques in instances where quoted prices are not available. These
techniques are significantly affected by the assumptions used,
including discount rates and estimates of future cash flows. As such,
the derived fair value estimates cannot be substantiated by comparison
to independent markets and, further, may not be realizable in an
immediate settlement of the instruments. SFAS No. 107 also excludes
certain items from its disclosure requirements. Accordingly, the
aggregate fair value amounts presented do not represent, and should
not be construed to represent, the underlying value of the
Corporation.
The following methods and assumptions were used by the Corporation in
estimating fair values of financial instruments as disclosed in Note
13:
Cash and cash equivalents - The carrying amounts of cash and
short-term instruments approximate their fair value.
Certificates of deposit with other financial institutions - For
certificates of deposit with a remaining term of 90 days or less, the
fair values are based on carrying amounts. The fair values for other
certificates of deposit are estimated Using discounted cash flow
analysis, based on interest rates currently being offered by financial
institutions with similar credit quality.
Securities available for sale - Fair values for investment securities,
excluding restricted equity securities, are based on quoted market
prices. The carrying values of restricted equity securities (Federal
Home Loan Bank and Federal Reserve Bank stock) represents redemption
value and approximates fair value.
Mortgage-backed and related securities available for sale - Fair
values for mortgage-backed and related securities are based on quoted
market prices or dealer quotes.
Loans - The fair values for loans are estimated using discounted cash
flow analysis, based on interest rates currently being offered for
loans with similar terms to borrowers of similar credit quality. Loan
fair value estimates include judgments regarding future expected loss
experience and risk characteristics. Fair values for impaired loans
are estimated using discounted cash flow analysis or underlying
collateral values, where applicable.
Accrued interest receivable and payable - The carrying amounts of
accrued interest approximate their fair values.
Deposit liabilities - The fair values disclosed for demand deposits
are, by definition, equal to the amount payable on demand at the
reporting date (that is, their carrying amounts). The carrying amount
of variable-rate, fixed-term money market accounts and certificates of
deposit approximate their fair values at the reporting date. Fair
values for fixed-rate certificates of deposit are estimated using a
discounted cash flow calculation that applies interest rates currently
being offered on certificates to a schedule of aggregated expected
monthly maturities on time deposits.
Federal Home Loan Bank advances - The fair value of FHLB advances was
estimated by discounting the expected future cash flows using current
interest rates for advances with similar terms and remaining
maturities.
Short-term borrowings - The carrying amounts of borrowings under
repurchase agreements and other short-term borrowings approximates
their fair value.
Long-term debt - The fair value of long-term debt was estimated by
discounting the expected future cash flows using current interest
rates for loans with similar terms and remaining maturities.
Off-balance-sheet instruments - Fair values for off-balance sheet
lending commitments are based on fees currently charged to enter into
similar agreements, taking into account the remaining terms of the
agreements and the counterparties credit standing. The fair value of
such off-balance-sheet instruments are immaterial and, therefore, not
disclosed.
N. Cash and Cash Equivalents
For the purposes of reporting consolidated cash flows, the Corporation
considers cash, balances with banks, federal funds sold, securities
purchased under agreements to resell and interest-bearing cash
deposits in other depository institutions with initial maturities of
three months or less to be cash equivalents.
O. Advertising Costs
Advertising costs are expensed when incurred.
P. Reclassifications
Certain presentations of accounts previously reported have been
reclassified in these consolidated financial statements. Such
reclassifications had no effect on net income or retained income as
previously reported.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 2: CONVERSION
Classic Bank (formerly Ashland Federal) converted from a federally
chartered mutual savings and loan association to a federally chartered
stock savings bank on December 28, 1995, and issued all of its common stock
to the Corporation. Concurrently with the conversion, the Corporation
issued 1,322,500 shares of Corporation common stock par value $.01, at
$10.00 per share. Net proceeds of the Corporation's stock issuance, after
costs, were approximately $12,700,000.
NOTE 3: ACQUISITION
On September 30, 1996, the Corporation acquired 100% of the common stock of
First Paintsville Bancshares, Inc. utilizing the purchase method of
accounting. First Paintsville was dissolved upon consummation of the
transaction, with First Paintsville's banking subsidiary, First National
Bank of Paintsville, continuing operations as a wholly-owned subsidiary of
the Corporation. The fair value of First National's assets at September 30,
1996 totaled approximately $66.6 million.
The results of First National's operations subsequent to September 30,
1996, are included in the consolidated financial statements. The
Corporation paid $10,208,010 in cash, with $3,087,979 excess of the fair
value of liabilities assumed over assets received, assigned to goodwill.
Presented below are unaudited pro-forma condensed consolidated results of
operations for the years ended March 31, 1997 and 1996 assuming the
acquisition had occurred at the beginning of the fiscal year ended March
31, 1996.
1997 1996
---- ----
(In thousands except per share amounts)
Net interest income $ 4,772 $ 3,964
Net income $ 670 $ 671
Basic earnings per share $ .57 N/A
Diluted earnings per share $ .55 N/A
NOTE 4: INVESTMENT AND MORTGAGE BACKED SECURITIES
Investment securities and mortgage-backed securities have been classified
in the consolidated statements of financial condition according to
management's intent. The amortized cost, gross unrealized gains, gross
unrealized losses and estimated fair values of investment securities at
March 31, 1998 and 1997 are as follows:
<TABLE>
<CAPTION>
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Available-for-sale
March 31, 1998:
U.S. Treasury securities $ 1,253,186 $ 21,539 -- $ 1,274,725
U.S. Gov't Agency Securities 7,754,365 71,772 (30) 7,826,107
Obligations of state and
political subdivisions 8,495,245 319,859 (11,629) 8,803,475
Corporate equity securities 250,000 22,500 -- 272,500
------------ ------------ ------------ ------------
$ 17,752,796 $ 435,670 ($ 11,659) $ 18,176,807
============ ============ ============ ============
March 31, 1997:
U.S. Treasury securities $ 1,501,368 $ 8,746 ($ 7,622) $ 1,502,492
U.S. Gov't Agency Securities 14,962,533 29,329 (177,088) 14,814,774
Obligations of state and
political subdivisions 6,944,587 168,887 (56,143) 7,057,331
------------ ------------ ------------ ------------
$ 23,408,488 $ 206,962 ($ 240,853) $ 23,374,597
============ ============ ============ ============
</TABLE>
The amortized cost, gross unrealized gains, gross unrealized losses, and
estimated fair values of mortgage-backed securities at March 31, 1998 and
1997 are as follows:
<TABLE>
<CAPTION>
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Available-for-sale
March 31, 1998:
FNMA $ 2,545,621 $ 4,851 ($ 5,292) $ 2,545,180
FHLMC 2,988,949 45,135 (2,779) 3,031,305
Other 827,735 897 (2,488) 826,144
REMICS
FHLMC and FNMA 1,442,232 6,270 (20,417) 1,428,085
------------ ------------ ------------ ------------
$ 7,804,537 $ 57,153 ($ 30,976) $ 7,830,714
============ ============ ============ ============
March 31, 1997:
FNMA $ 2,945,324 $ 20,982 $ -- $ 2,966,306
FHLMC 2,560,410 -- (39,642) 2,520,768
Other 417,436 -- (6,075) 411,361
REMICS
FHLMC and FNMA 2,016,584 -- (30,184) 1,986,400
------------ ------------ ------------ ------------
$ 7,939,754 $ 20,982 ($ 75,901) $ 7,884,835
============ ============ ============ ============
</TABLE>
Gross realized gains and gross realized losses on the sale of
available-for-sale investment and mortgage-backed securities were $39,859
and $10,692, respectively for the year ended March 31, 1998, $86,212 and
$53,967, respectively for the year ended March 31, 1997, and $169,432 and
$133,126, respectively for the year ended March 31, 1996.
The amortized cost and estimated fair value of investment and
mortgage-backed securities at March 31, 1998 and 1997 by contractual term
to maturity are shown below. Actual maturities may differ from contractual
maturities because borrowers may have the right to call or prepay
obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
1998 1997
---------------------- ----------------------
Estimated Estimated
Amortized Fair Amortized Fair
Cost Value Cost Value
--------- --------- --------- ---------
(In Thousands)
<S> <C> <C> <C> <C>
Due in one year or less $ 293 $ 293 $ 1,244 $ 1,250
Due after one year through five years 1,564 1,589 5,687 5,694
Due after five years through ten years 2,584 2,613 8,249 8,167
Due after ten years 13,062 13,410 8,228 8,264
------- ------- ------- -------
Total investment securities 17,503 17,905 23,408 23,375
Corporate equity securities 250 272 -- --
Mortgage-backed securities-not
due at a single maturity date 7,805 7,831 7,940 7,885
------- ------- ------- -------
TOTAL $25,558 $26,008 $31,348 $31,260
======= ======= ======= =======
</TABLE>
Securities carried at approximately $9,905,321 at March 31, 1998 and
$10,178,275 at March 31, 1997, were pledged to secure deposits of public
funds and for other purposes required or permitted by law.
The amortized cost of mortgage-backed securities includes unamortized
premiums of $75,778 and $93,848 and unearned discounts of $45,348 and
$50,605 at March 31, 1998 and 1997, respectively.
Mortgage-backed securities with adjustable rates totaled $3,317,486 and
$3,362,760 at March 31, 1998 and 1997, respectively.
Accrued interest receivable includes $334,666 and $340,857, at March 31,
1998 and 1997, respectively, related to investment and mortgage-backed
securities.
<PAGE>
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CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 5: LOANS RECEIVABLE
The components of loans in the consolidated statements of financial
condition were as follows:
March 31
1998 1997
------- -------
(In Thousands)
Real estate loans:
One-to-four family $66,078 $62,413
Commercial 8,970 6,877
Multi-family 1,497 1,104
Construction 426 832
Consumer Loans:
Secured by deposits 526 433
Credit card 218 256
Installment 5,380 5,452
Other 991 697
Commercial loans 6,942 4,794
------- -------
Total loans receivable 91,028 82,858
Less:
Undisbursed loans in process 29 6
Unearned discounts and loan origination costs 68 323
Allowance for loan losses 831 801
------- -------
Total loans receivable, net $90,100 $81,728
======= =======
Loans with adjustable rates totaled $43.4 million and $41.4 million at
March 31, 1998 and 1997, respectively.
Accrued interest receivable includes $502,094 and $332,296 at March 31,
1998 and 1997, respectively, related to loans receivable.
Activity in the allowance for loan losses is summarized as follows for the
years ended March 31:
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Balance at beginning of year $ 801,180 $ 286,384 $ 311,785
Provision for losses 157,500 105,000 168,000
Allowance resulting from
acquisition -- 525,887 --
Charge-offs (174,874) (154,610) (214,291)
Recoveries 46,729 38,519 20,890
--------- --------- ---------
Balance at end of year $ 830,535 $ 801,180 $ 286,384
========= ========= =========
</TABLE>
The following is a summary of non-performing loans at March 31:
1998 1997 1996
---- ---- ----
(In Thousands)
Accruing loans past due 90 days
or more $ 25 $157 $--
Nonaccrual loans 308 559 595
Total non-performing loan
balances at year end $333 $716 $595
Non-performing loans as a
percentage of loans .37% .88% 1.36%
In the normal course of business and subject to normal credit policies, the
Banks make loans to officers, directors, their immediate family and
business interests of such persons. At March 31, 1998 and 1997, the
balances of loans to such parties were as follows:
1998 1997
------------ ------------
Aggregate amount of indebtedness
at beginning of year $ 3,717,313 $ 766,823
Beginning balance of acquired Bank -- 1,700,581
New loans 12,107,872 2,510,053
Repayments (11,085,259) (1,260,144)
------------ ------------
Aggregate amount of indebtedness
at end of year $ 4,739,926 $ 3,717,313
============ ============
NOTE 6: PREMISES AND EQUIPMENT
Premises and equipment at March 31, 1998 and 1997 by major classifications
are as follows:
1998 1997
---------- ----------
Land $ 912,037 $ 885,750
Buildings and improvements 3,015,646 1,993,679
Furniture and equipment 2,325,100 2,205,458
Automobiles 99,404 119,886
TOTAL 6,352,187 5,204,773
Less: Accumulated depreciation 1,884,185 1,907,757
---------- ----------
$4,468,002 $3,297,016
========== ==========
Depreciation expense charged to operations for the years ended March 31,
1998, 1997 and 1996 totaled $309,267, $167,378 and $57,801, respectively.
NOTE 7: DEPOSITS
The aggregate amount of short-term jumbo certificates of deposit each with
a minimum denomination of $100,000 or more was approximately $18,445,335
and $13,604,925 at March 31, 1998 and 1997, respectively.
At March 31, 1998, the scheduled maturities of certificates of deposit were
as follows for the years ending March 31:
1999 $49,557,934
2000 12,454,738
2001 2,012,996
2002 129,642
2003 and thereafter 285,205
-----------
$64,440,515
Interest expense on deposits is summarized as follows for the years ended
March 31:
1998 1997 1996
------ ------ ------
(In Thousands)
Certificates of deposit $3,398 $2,683 $2,310
NOW accounts and money
market demand accounts 387 169 203
Passbook and club accounts 429 366 90
------ ------ ------
$4,214 $3,218 $2,603
====== ====== ======
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 8: LONG-TERM DEBT
Long-term debt at March 31, 1998 and 1997 consisted of a note payable, due
in quarterly installments of $25,000, plus interest at prime. The note
dated September 30, 1996 is uncollateralized and matures September 30,
2003. The interest rate at March 31, 1998 was 8.50%.
Scheduled principal payments for the years ending March 31, are as follows:
1999 $ 100,000
2000 100,000
2001 100,000
2002 100,000
2003 and thereafter 150,000
----------
$ 550,000
==========
NOTE 11: ADVANCES FROM FEDERAL HOME LOAN BANK
Advances from the Federal Home Loan Bank of Cincinnati, Ohio, at March 31,
1997, consisting of fixed rate advances collateralized by a blanket pledge
of one-to-four-family residential mortgage loans totaling $7.125 million,
as well as the Federal Home Loan Bank stock of Classic Bank are summarized
as follows:
Balance
Interest Rate Maturity Date March 31, 1997
------------- ------------- --------------
5.90% 6-18-97 $1,500,000
6.20% 9-18-97 1,500,000
5.89% 12-17-97 1,000,000
6.35% 3-17-98 750,000
----------
$4,750,000
==========
NOTE 10: SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Securities sold under agreements to repurchase at March 31, 1998 and 1997
totaled $3,521,799 and $4,955,766, respectively.
Information concerning securities sold under agreements to repurchase is
summarized as follows:
1998 1997
---------- ----------
Average balance during the year $3,623,720 $2,516,580
Average interest rate durint the year 5.36% 5.10%
Maximum month-end balance during the year $4,250,304 $5,285,466
U.S. Government Agency and municipal securities underlying the agreements
at year-end:
Carrying value $4,107,866 $5,044,000
Estimated fair value $4,161,067 $5,039,100
Securities sold under agreements to repurchase at March 31, 1998 and 1997
had a maturity of one day.
NOTE 11: OTHER BORROWINGS
Other borrowings at March 31, 1998 and 1997 consist of term treasury tax
and loan deposits and are generally repaid within one to twenty days from
the date of the transaction. Securities with a carrying value of $1,846,100
and $1,483,816 and a market value of $1,884,230 and $1,485,109, were
pledged at March 31, 1998 and 1997, respectively, as collateral for
treasury tax and loan deposits.
NOTE 12: INCOME TAXES
The provision for income taxes consists of:
Years Ended March 31,
---------------------------------------
1998 1997 1996
-------- -------- --------
Currently payable - Federal $200,262 $152,626 $ 38,194
- State -- 825 2,129
Deferred - Federal 181,456 66,942 ( 8,148)
-------- -------- --------
$381,718 $220,393 $ 32,175
Federal tax benefit from RRP
credited to paid in capital 14,498 -- --
-------- -------- --------
$396,216 $220,393 $ 32,175
======== ======== ========
The following tabulation reconciles the federal statutory tax rate to the
effective rate of taxes provided for income taxes:
Years Ended March 31,
----------------------------------
1998 1997 1996
------ ------ ------
Tax at statutory rate 34.0% 34.0% 34.0%
Tax exempt income (10.6) (12.5) (30.6)
Non-deductible expenses 4.6 4.6 5.8
State income taxes -- -- .7
------ ------ ------
28.0% 26.1% 9.9%
====== ====== ======
The components of the Corporation's net deferred tax asset (liability) as
of March 31, 1998 and 1997, are summarized as follows:
1998 1997
--------- ---------
Deferred tax assets:
Loans and loan loss allowance $ 174,090 $ 171,030
AMT credit carryfoward 53,202 78,810
Net unrealized loss on available-
for-sale securities 30,195
Retirement and incentive programs 41,041 --
Foreclosed real estate 37,501 32,489
Other assets 15,251 29,075
--------- ---------
321,085 341,599
--------- ---------
Deferred tax liabilities:
Federal Home Loan Bank stock dividends (177,854) (154,666)
Premises and equipment (348,995) (349,234)
Retirement and incentive programs (264,195) (95,368)
Accretion on securities (10,736) (4,323)
Deferred loan origination costs (12,303) (13,308)
Net unrealized gain on available-
for-sale securities (153,064) --
Other liabilities (2,740) (8,787)
--------- ---------
(969,887) (625,686)
--------- ---------
Net deferred tax asset (liability) ($648,802) ($284,087)
========= =========
The Corporation had available at March 31, 1998, alternative minimum tax
credit carryforwards for tax purposes of approximately $53,202 which may be
carried forward indefinitely and used to reduce federal income taxes.
In computing federal income taxes, savings institutions, such as Classic
Bank, are allowed a statutory bad debt deduction of otherwise taxable
income of 8%, subject to limitations based on aggregate loans and savings
balances. Due to the limitation based on the level of deposits outstanding
and retained earnings, the Bank's bad debt deduction for the years 1998,
1997 and 1996 was limited to net charge-offs under the experience method.
As of March 31, 1998, appropriations of retained earnings representing bad
debt deductions were approximately $1,869,000. If these tax bad debt
deductions are used for purposes other than loan losses, the amount used
will be subject to Federal income taxes at the prevailing corporate rates.
<PAGE>
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CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 12: INCOME TAXES (continued)
The provisions of SFAS No. 109 require the Bank to establish a deferred tax
liability for the tax effect of the tax bad debt reserves over the base
year amounts. The Bank's base year tax bad debt reserves are approximately
$1,869,000. The estimated deferred tax liability on such amount is
approximately $635,000 which has not been recorded in the accompanying
consolidated financial statements.
NOTE 13: FINANCIAL INSTRUMENTS
The Banks are parties to financial instruments with off-balance-sheet risk
in the normal course of business to meet the financing needs of their
customers. These financial instruments include commitments to extend credit
and standby letters of credit. Those instruments involve, to varying
degrees, elements of credit and interest-rate risk in excess of the amount
recognized in the consolidated statements of financial condition. The
contract or notional amounts of those instruments reflect the extent of the
Banks' involvement in particular classes of financial instruments.
The Banks' exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit,
standby letters of credit, and financial guarantees written is represented
by the contractual notional amount of those instruments. The Banks use the
same credit policies in making commitments and conditional obligations as
they do for on-balance-sheet instruments.
Commitments to Extend Credit and Financial Guarantees. Commitments to
extend credit are agreements to lend to a customer as long as there is no
violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not
necessarily represent future cash requirements. The Banks' experience has
been that approximately 80 percent of loan commitments are drawn upon by
customers. The Banks evaluate each customer's credit worthiness on a
case-by-case basis. The amount of collateral obtained, if it is deemed
necessary by the Banks upon extension of credit, is based on management's
credit evaluation of the counter-party. Collateral held varies but may
include certificates of deposit and accounts receivable; inventory,
property, plant, and equipment; and income-producing commercial properties.
Standby letters of credit and financial guarantees written are conditional
commitments issued by the Banks to guarantee the performance of a customer
to a third party. Those guarantees are primarily issued to support public
and private borrowing arrangements, including commercial paper, bond
financing, and similar transactions. Standby letters of credit extend for
one year and are automatically renewed unless notification is given to the
third party of the Banks' intent to cancel. The credit risk involved in
issuing letters of credit is essentially the same as that involved in
extending loan facilities to customers. The Banks hold pledged certificates
of deposit and personal guarantees as collateral supporting those letters
of credit for which collateral is deemed necessary. The extent of
collateral held for letters of credit at March 31, 1998, varies from zero
percent to 100.0%; the average amount collateralized is 75 percent.
The Banks have not been required to perform on any financial guarantees
during the past three years. The Banks have not incurred any losses on
their commitments in either 1998, 1997 or 1996.
Based on the methods and assumptions set forth in Note 1, the estimated
fair value of the Corporation's financial instruments as of March 31, 1998
and 1997 are as follows:
March 31
1998 1997
------------------- -------------------
Carrying Fair Carrying Fair
Value Value Value Value
----- ----- ----- -----
(In Thousands)
Financial Assets:
Cash and due from banks $ 2,501 $ 2,501 $ 3,309 $ 3,309
Federal funds sold and
securities purchased under
agreements to resell 1,131 1,131 5,525 5,525
Certificates of deposit with
other financial institutions 293 293 293 292
Securities available-for-sale 18,177 18,177 23,375 23,375
Mortgage-backed securities
available-for-sale 7,831 7,831 7,885 7,885
Federal Home Loan Bank and
Federal Reserve Bank stock 1,297 1,297 1,015 1,015
Loans receivable, net 90,100 87,897 81,727 79,359
Accrued interest receivable 852 852 690 690
Financial Liabilities:
Certificates of deposit $64,441 $64,618 $60,738 $60,843
Other deposit accounts 40,486 40,486 39,781 39,781
Securities sold under
agreements to repurchase 3,522 3,522 4,956 4,956
Advances from the Federal
Home Loan Bank -- -- 4,750 4,751
Other short-term borrowings 274 274 429 429
Accrued interest payable 390 390 218 218
Long-term debt 550 550 650 650
A summary of the notional amounts of the Banks' financial instruments with
off-balance-sheet risk at March 31, 1998, follows:
Notional
Amount
------
(In Thousands)
Commitments to extend credit $4,745
Credit card arrangements 351
Standby letters of credit 340
------
$5,436
======
Commitments to extend credit at March 31, 1998 included $4,138,000 of
adjustable rate loan commitments and unused credit lines.
NOTE 14: COMMITMENTS AND CONTINGENCIES
In the ordinary course of business, the Banks have various outstanding
commitments and contingent liabilities that are not reflected in the
accompanying consolidated financial statements.
NOTE 15: SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT
All of the Banks' loans, commitments and standby letters of credit have
been granted to customers in the Banks' market area. Investments in state
and municipal securities primarily involve government entities within the
Banks' market area. The concentration of credit by type of loan are set
forth in Note 5.
The distribution of commitments to extend credit approximates the
distribution of loans outstanding. Standby letters of credit were granted
primarily to commercial borrowers.
The contractual amounts of credit-related financial instruments such as
commitments to extend credit and letters of credit represent the amounts of
potential accounting loss should the contract be fully drawn upon, the
customer default and the value of any existing collateral become worthless.
The Banks' credit policies and procedures for credit commitments and
financial guarantees are the same as those for extension of credit that are
recorded on the consolidated statements of financial condition. Because
these instruments have
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 15: SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT (coninued)
fixed maturity dates and because many of them expire without being drawn
upon, they do not generally present any significant liquidity risk to the
Bank.
The Corporation had deposits with other financial institutions which
exceeded the federally insured limits at March 31, 1998 by approximately
$311,800. The Corporation does not have a policy for requiring collateral
on such deposits.
NOTE 16: BENEFIT PLANS
Classic Bank participates in the Pentegra multi-employer pension plan. This
non-contributory defined benefit plan covers all eligible employees meeting
certain service and age requirements. The plan operates on a fiscal year
ending June 30, and it is the policy of the Bank to fund the normal cost of
the plan. Contributions to the plan for the years ended March 31, 1998,
1997 and 1996 were $6,185, $15,055 and $12,219, respectively. The data
available from the plan administrators is not sufficient to determine the
Bank's share of the pension plan's accumulated benefit obligation or the
net assets attributable to the Bank.
First National Bank had a non-contributory defined benefit pension plan
covering all eligible First National employees. The plan's benefit formula
was the projected unit credit cost method which encompassed future salary
levels and participants years of service. Effective July 1, 1997, First
National's defined benefit plan was terminated and its plan assets were
merged into the Corporation's Pentegra multi-employer pension plan
resulting in a settlement gain of $370,622 or $244,611 after tax. All
eligible employees of First National became participants in the
Corporation's multi-employer pension plan. Prepaid pension expense of
$777,045, representing the excess of the fair value of pension plan assets
over the accrued actuarial pension liability at July 1, 1997, is included
in other assets in the consolidated statement of financial condition at
March 31, 1998. First National was not required to make contribution to the
multi-employer plan for the year ended March 31, 1998.
Net pension costs for First National Bank's single-employer plan include
the following components from the date of its acquisition (September 30,
1996) through March 31, 1997.
Service cost $ 0
Interest cost 25,630
Actual return on assets (89,133)
Net amortization, deferral and other 48,554
--------
Net pension cost (gain) ($14,949)
========
The following table sets forth the First National Bank's plan funded status
and amounts recognized in the consolidated statements of financial
condition at March 31, 1997:
Actuarial present value of benefit obligations:
Vested $ 572,654
Non-vested 10,421
-----------
Accumulated benefit obligation $ 583,075
===========
Projected benefit obligation $ 747,425
Plan assets at fair value 1,240,286
-----------
Projected benefit obligation less
than plan assets 492,861
Unrecognized net gain (86,438)
-----------
Prepaid pension cost recognized in the
consolidated statement of financial condition $ 406,423
===========
The unrecognized gains were being amortized on a straight-line basis over
the career working lifetimes of all participants. A discount rate of 7.0%
was used to compute the actuarial present value of the accumulated and
projected benefit obligations. The assumed rate of return on plan assets
was 7.0%. The assumed rate of increase in future compensation levels was
4.0%.
Non-employee directors of Classic Bank and Classic Bancshares, Inc. are
eligible to participate in a retirement plan which provides benefits equal
to approximately one-half of the monthly compensation paid to active
directors for a period not to exceed the earlier of the number of months a
participant served as director, or the participant's death. Directors must
have a minimum of ten years of continuous service and serve until age 65 to
participate in the directors retirement plan.
The following table sets forth the directors' retirement plan's funded
status and amounts recognized in the consolidated financial statements at
March 31, 1998, 1997 and 1996:
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Actuarial present value of benefit obligations:
Vested accumulated benefits ($ 50,460) ($ 62,684) ($ 45,148)
Non-vested accumulated benefits (57,356) (40,204) (14,522)
--------- ----------- ---------
Total accumulated benefits (107,816) (102,888) (59,670)
Unrecognized prior service cost being
recognized over 10 years 35,056 40,899 46,742
Unrecognized net obligation being
recognized over 10 years 9,954 11,376 12,798
Unrecognized net loss being recognized
over 10 years 36,393 40,437 --
Adjustment to recognize minimum
liability (81,403) (92,712) (59,540)
--------- ----------- ---------
Accrued pension cost ($107,816) ($102,888) ($ 59,670)
========= =========== =========
Net pension cost includes the
following components:
Service costs - benefits earned
during year $ 5,626 $ 5,739 $ 3,752
Interest cost on benefit obligation 7,202 6,071 4,090
Amortization of prior service cost,
net obligation and net loss 5,843 5,843 5,843
Other (2,248) (179) (1,650)
--------- ----------- ---------
Net pension cost $ 16,423 $ 17,474 $ 12,035
========= =========== =========
</TABLE>
A discount rate of 7% was used in determining net pension cost.
Effective September 30, 1995, Classic Bank entered into a non-qualified
supplemental executive retirement agreement (agreement) with the Bank's
chief executive officer which provides for the payment of a monthly
supplemental retirement benefit equal to up to 24% of his average monthly
compensation during the three highest 12-month periods in the ten years
prior to retirement. Such benefit shall be payable upon normal retirement
at age 65 or under certain circumstances, after age 55, if his termination
is without cause. Upon the officer's death, 50% of the amount payable under
the agreement shall be payable to his spouse until her death.
The following table sets forth the supplemental executive retirement plan's
funded status and amounts recognized in the consolidated financial
statements at March 31, 1998 and 1997, and 1996:
<TABLE>
<CAPTION>
1998 1997 1996
-------- -------- --------
<S> <C> <C> <C>
Accumulated vested benefit obligation ($14,758) ($ 8,405) ($ 3,713)
======== ======== ========
Projected benefit obligation (36,007) ($20,756) ($ 9,699)
Overaccrual (3,601) (8,236) (8,236)
-------- -------- --------
Accrued retirement cost ($39,608) ($28,992) ($17,935)
======== ======== ========
Net retirement cost includes the
following components:
Service cost - benefits earned
during the year $ 11,217 $ 9,699 $ 9,699
Interest cost 1,468 635 --
Other (2,069) 723 --
</TABLE>
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 16: BENEFIT PLANS (continued)
1998 1997 1996
--------- --------- ---------
Overaccrual -- -- 8,236
--------- --------- ---------
Net retirement cost $ 10,616 $ 11,057 $ 17,935
========= ========= =========
Discount rate 7.0% 7.0% 7.0%
Rate of increase in future
compensation levels 5.0% 5.0% 5.0%
In conjunction with the stock conversion, the Corporation established an
Employee Stock Ownership Plan (ESOP) which covers substantially all
employees. The ESOP borrowed $1,058,000 from the Corporation and purchased
105,800 common shares, equal to 8% of the total number of shares issued in
the conversion. The Banks make scheduled discretionary contributions to the
ESOP sufficient to service the debt. Shares are allocated to participants'
accounts under the shares allocated method. The cost of shares not
committed to be released and unallocated shares is reported as a reduction
of stockholders' equity. Dividends on unallocated ESOP shares are recorded
as a reduction of debt and accrued interest; dividends on allocated ESOP
shares are recorded as a reduction of retained earnings. Allocated ESOP
shares become outstanding for earnings-per-share computations. Compensation
expense is recorded based on the average fair market value of the ESOP
shares when committed to be released. The expense under the ESOP for the
years ended March 31, 1998, 1997 and 1996 was $133,485, $101,653 and
$59,671, respectively.
The ESOP shares at March 31, 1998 and 1997 are as follows:
1998 1997
---------- ----------
Allocated shares 22,303 13,934
Unearned shares 83,497 91,866
---------- ----------
Total ESOP shares 105,800 105,800
========== ==========
Fair value of unearned shares $1,669,940 $1,228,708
========== ==========
On July 29, 1996, stockholders of the Corporation approved the 1996
Recognition and Retention Plan ("RRP"). Under the RRP, restricted stock
awards of up to 4% of the common stock sold in the conversion may be
awarded to the directors, officers and key employees of the Corporation and
its subsidiaries. The Corpo-ration completed the funding of the plan in
September 1996 by purchasing 52,900 shares of common stock in the open
market at a total cost of $621,575, which reduced consolidated stockholders
equity. An initial award of 48,798 restricted shares was granted on July
29, 1996, of which 2,808 shares were subsequently forfeited under terms of
the plan due to termination of service. On February 1, 1997, an additional
award of 4,000 restricted shares was granted. Ungranted RRP shares (2,910)
are included in treasury stock at cost.
The holders of the restricted shares have all of the rights of a
shareholder, except that they cannot sell, assign, pledge or transfer any
of the restricted shares during the restricted period. The restricted
shares vest at a rate of 20% on each anniversary of the grant date. RRP
expense of $110,284 and $68,604 was recorded for the year ended March 31,
1998, and 1997, respectively.
During the fiscal year ended March 31, 1998, the Corporation adopted a
401(k) Savings and Profit Sharing Plan covering substantially all
employees. Total expense under this plan was $9,058 for the year ended
March 31, 1998.
NOTE 17: STOCK OPTION PLAN
On July 29, 1996, stockholders of the Corporation approved the 1996 Stock
Option and Incentive Plan ("SOP"). Under the 1996 SOP 132,250 shares were
reserved for issuance to officers, directors, and key employees of the
Corporation and its subsidiaries. During the year ended March 31, 1997,
options to purchase 112,447 and 19,750 shares were awarded to officers,
directors and key employees at $10.8125 and $13.375 per share,
respectively, the common stock's fair value on the grant dates. The options
vest with the grantees at the rate of 20% per year, on each anniversary
date of the grants and are available for exercise, subject to the vesting
schedule, for up to ten years from the grant date.
A summary of the status of the Corporation's stock option plan as of March
31, 1998 and 1997, and changes during the periods ending on those dates is
presented below:
<TABLE>
<CAPTION>
1998 1997
----------------------- -------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
------ -------- ------ ---------
<S> <C> <C> <C> <C>
Options outstanding at
beginning of year 126,524 $ 11.21 0 --
Granted 0 -- 132,197 11.20
Exercised 0 -- 0 --
Forfeited 0 -- (5,673) $ 10.81
------- -------
Options outstanding at
end of year 126,524 126,524 $ 11.21
======= =======
Eligible for exercise at
year end 25,305 $ 11.21 0
------- -------
</TABLE>
March 31, 1998 Options Outstanding
Average Average
Range of Number Remaining Option
Exercise Price Outstanding Life (Years) Price
-------------- ---------------- ------- -----
$10.81 To $13.38 126,524 8.7 $11.21
During the fiscal year ended March 31, 1997, the Corporation adopted SFAS
No. 123, "Accounting for Stock-Based Compensation," which contains a
fair-value based method for valuing stock-based compensation that entities
may use, which measures compensation cost at the grant date based on the
fair value of the award. Compensation is then recognized over the service
period, which is usually the vesting period. Alternatively, SFAS No. 123
permits entities to continue to account for stock options and similar
equity instruments under Accounting Principles Board ("APB") Opinion No.
25, "Accounting for Stock Issued to Employees." Entities that continue to
account for stock options using APB Opinion No. 25 are required to make pro
forma disclosures of net earnings and earnings per share, as if the
fair-value based method of accounting defined in SFAS No. 123 had been
applied.
The Corporation utilizes APB Opinion No. 25 and related interpretations in
accounting for its stock option plan. Accordingly, no compensation cost has
been recognized for the plan. Had compensation cost for the Corporation's
stock option plan been determined based on the fair value at the grant
dates for awards under the plan consistent with the accounting method
utilized in SFAS No. 123, the Corporation's net earnings and earnings per
share would have been reduced to the pro forma amounts indicated below:
March 31
-----------------------------------
1998 1997
------------- -------------
Net earnings
As reported $ 1,020,486 $ 622,619
Pro forma $ 960,365 $ 587,783
Earnings per share
Basic:
As reported $ .87 $ .52
Pro forma $ .82 $ .49
Diluted:
As reported $ .83 $ .51
Pro forma $ .78 $ .49
The fair value of each option grant is estimated on the date of grant using
a binomial option-pricing model with the following weighted average
assumptions used for grants awarded in fiscal year 1997: dividend yield
3.0%; expected volatility of 30.0%; risk free interest rate or 6.63%; and
expected lives of 7 years.
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 18: REGULATORY CAPITAL REQUIREMENTS
Classic Bank is subject to minimum regulatory capital standards promulgated
by the Office of Thrift Supervision (the "OTS"). First National Bank is
subject to the regulatory capital requirements of the Federal Deposit
Insurance Corporation (the "FDIC"). 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 each of the Bank's financial statements. Under
capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Banks must meet specific capital guidelines that
involve quantitative measures of the Banks' assets, liabilities, and
certain off-balance-sheet items as calculated under regulatory accounting
practices. The Banks' 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 First National to maintain minimum amounts and ratios (set forth in
the table below) 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). As of March 31, 1998 and 1997,
management believes that First National meets all capital adequacy
requirements to which it is subject.
Based on regulatory filings as of March 31, 1998, First National is
categorized as well capitalized under the regulatory framework for prompt
corrective action. To be categorized as well capitalized the Bank must
maintain minimum total risk-based, Tier I risk-based, and Tier I leverage
ratios as set forth in the table. There are no conditions or events since
that date that management believes have changed the institution's category.
First National's actual capital amounts and ratios are also presented in
the table.
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
As of March 31, 1998:
Total Capital
(to Risk Weighted
Assets) $8,925 23.2% $3,077 8.0% $3,847 10.0%
Tier I Capital
(to Risk Weighted
Assets) $8,444 22.0% $1,539 4.0% $2,308 6.0%
Tier I Capital
(to Average Assets) $8,444 12.4% $2,726 4.0% $3,408 5.0%
As of March 31, 1997:
Total Capital
(to Risk Weighted
Assets) $7,852 21.9% $2,863 8.0% $3,579 10.0%
Tier I Capital
(to Risk Weighted
Assets) $7,404 20.7% $1,432 4.0% $2,147 6.0%
Tier I Capital
(to Average Assets) $7,404 11.2% $2,644 4.0% $3,305 5.0%
</TABLE>
The minimum capital standards of the OTS generally require the maintenance
of regulatory capital sufficient to meet each of three tests, hereinafter
described as the tangible capital requirement, the core capital requirement
and the risk-based capital requirement. The tangible capital requirement
provides for minimum tangible capital (defined as stockholders' equity less
all intangible assets) equal to 1.5% of adjusted total assets. The core
capital requirement provides for minimum core capital (tangible capital
plus certain forms of supervisory goodwill and other qualifying intangible
assets) equal to 3.0% of adjusted total assets. An OTS proposal, if adopted
in present form, would increase the core capital requirement to a range of
4.0% - 5.0% of adjusted total assets for substantially all savings
associations. Management anticipates no material change to Classic Bank's
excess regulatory capital position as a result of this proposed change in
the regulatory capital requirement. The risk-based capital requirement
currently provides for the maintenance of core capital plus general loss
allowances equal to 8.0% of risk-weighted assets. In computing
risk-weighted assets, Classic Bank multiplies the value of each asset on
its statement of financial condition by a defined risk-weighting factor,
e.g., one-to-four family residential loans carry a risk-weighted factor of
50%.
Based on regulatory filings as of March 31, 1998, Classic Bank is
categorized as well capitalized under the framework for prompt corrective
action. To be categorized as "well-capitalized", Classic Bank must maintain
minimum capital ratios as set forth in the following table. There are no
conditions or events since that date that management believes have changed
the Bank's category.
As of March 31, 1998 and 1997 management believes that Classic Bank meets
all capital adequacy requirements to which it is subject.
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
March 31, 1998
Tangible capital $7,936 11.5% $1,034 1.5% $3,447 5.0%
Core capital $7,936 11.5% $2,068 3.0% $4,136 6.0%
Risk-based capital $8,255 22.4% $2,942 8.0% $3,677 10.0%
March 31, 1997
Tangible capital $7,602 12.0% $ 949 1.5% $3,163 5.0%
Core capital $7,602 12.0% $1,898 3.0% $3,795 6.0%
Risk-based capital $7,922 25.6% $2,471 8.0% $3,089 10.0%
</TABLE>
The Corporation is not subject to any regulatory restrictions on the
payment of dividends to its stockholders. The Office of Thrift Supervision
("OTS") regulations provide that a savings institution, such as Classic
Bank, which meets fully phased-in capital requirements and is subject only
to "normal supervision" may pay out, as a dividend, 100 percent of net
income to date over the calendar year and 50 percent of surplus capital
existing at the beginning of the calendar year without supervisory
approval, but with 30 days prior notice to the OTS. Any additional amount
of capital distributions would require prior regulatory approval. A savings
institution failing to meet current capital standards may only pay
dividends with supervisory approval.
First National is also subject to regulatory restrictions on the payment of
dividends to the Corporation. At March 31, 1998, approximately $1,138,750
of First National's retained earnings was potentially available for
distribution to the Corporation.
At the time of conversion, a liquidation account was established in an
amount equal to Classic Bank's net worth as reflected in the latest
statement of condition used in its final conversion offering circular. The
liquidation account is maintained for the benefit of eligible deposit
account holders who maintain their deposit account in the Bank after
conversion. In the event of a complete liquidation (and only in such
event), each eligible deposit account holder will be entitled to receive a
liquidation distribution from the liquidation account in the amount of the
then current adjusted subaccount balance for deposit accounts then held,
before any liquidation distribution may be made to stockholders. Except for
the repurchase of stock and payment of dividends, the existence of the
liquidation account will not restrict the use or application of net worth.
The initial balance of the liquidation account was $7,398,000.
NOTE 19: LEGISLATIVE DEVELOPMENTS
The deposit accounts for Classic Bank and of other savings associations are
insured by the FDIC through the Savings Association Insurance Fund
("SAIF"). The reserves of the SAIF were below the level required by law,
because a significant portion of the assessments paid into the fund were
used to pay the cost of prior thrift failures. The deposit accounts of
commercial banks such as First National are
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 19: LEGISLATIVE DEVELOPMENTS (continued)
insured by the FDIC through the Bank Insurance Fund ("BIF"), except to the
extent such banks have acquired SAIF deposits. The reserves of the BIF met
the level required by law in May 1995. As a result of the respective
reserve levels of the fund, deposit insurance assessments paid by healthy
savings associations exceeded those paid by healthy commercial banks by
approximately $.19 per $100 in deposits in 1995. In 1996, no BIF
assessments were required for healthy commercial banks except for a $2,000
minimum fee.
Legislation was enacted to recapitalize the SAIF that provided for a
special assessment totaling $.657 per $100 of SAIF deposits held at March
31, 1995, in order to increase SAIF reserves to the level required by law.
Classic Bank held $48.1 million in deposits at March 31, 1995, resulting
in an assessment of approximately $316,258, or $208,730 after tax, which
was charged to operations in the year ended March 31, 1997.
A component of the recapitalization plan provides for the merger of the
SAIF and BIF on January 1, 2000. However, the SAIF recapitalization
legislation currently provides for an elimination of the thrift charter or
of the separate federal regulations of thrifts prior to the merger of the
deposit insurance funds. As a result, Classic Bank would be regulated as a
bank under federal laws which would subject it to the more restrictive
activity limits imposed on national banks.
NOTE 20: CONDENSED FINANCIAL INFORMATION -
PARENT COMPANY ONLY
The following condensed statements of financial condition as of March 31,
1998 and 1997, and the related condensed statements of operations and cash
flows for the years ended March 31, 1998, 1997 and for the period from
December 28, 1995 through March 31, 1996 for Classic Bancshares, Inc.
should be read in conjunction with the consolidated financial statements
and notes thereto:
Statements of Financial Condition March 31, 1998 March 31, 1997
- --------------------------------- -------------- --------------
Assets
Cash and temporary investments $ 139,250 $ 1,085,874
Securities available for sale 272,500 --
Accrued interest receivable -- 7,070
Note receivable - ESOP 895,625 925,750
Equity in net assets of Bank Subsidiaries 11,720,771 10,535,325
Other assets 162,683 239,436
------------ ------------
Total Assets $ 13,154,829 $ 12,793,455
============ ============
Liabilities
Notes payable 550,000 650,000
Accounts payable and accrued expenses 35,436 122,046
Deferred income taxes 7,913 --
Accrued income taxes -- 90,588
------------ ------------
Total Liabilities 593,349 862,634
------------ ------------
Stockholders' Equity
Common stock 13,225 13,225
Additional paid-in capital 12,667,512 12,667,174
Retained earnings 1,366,622 685,100
Net unrealized gain on available for
sale securities 14,850 --
Treasury stock (293,880) (29,963)
Unearned ESOP shares (834,970) (918,660)
Unearned RRP shares (371,879) (486,055)
------------ ------------
Total Stockholders' Equity $ 12,561,480 $ 11,930,821
------------ ------------
Total Liabilities and Stockholders' Equity $ 13,154,829 $ 12,793,455
============ ============
Period From
December 28, 1995
Year ended March 31, Through
Statements of Operations 1998 1997 March 31, 1996
---------- ---------- --------------
Income
Equity in undistributed earnings
of bank subsidiaries $1,101,757 $ 222,881 $ 188,399
Dividends from bank subsidiaries 45,000 387,018 --
Interest and dividend income 89,902 204,633 79,014
---------- ---------- ----------
Total Income 1,236,659 814,532 267,413
---------- ---------- ----------
Expenses
Salaries and benefits 16,189 -- --
Interest expense 53,012 28,520 --
Legal and accounting fees 49,525 47,315 15,336
Corporate management fees 57,360 30,420 7,605
Printing and supplies 24,633 29,462 --
Other professional services 35,363 22,088 --
Other expenses 44,337 26,206 8,488
---------- ---------- ----------
Total Expenses 280,419 184,011 31,429
---------- ---------- ----------
Income Before Income Taxes 956,240 630,521 235,984
Federal and state income
tax benefit (expense) 64,246 (7,902) (15,216)
---------- ---------- ----------
Net Income $1,020,486 $ 622,619 $ 220,768
========== ========== ==========
<TABLE>
<CAPTION>
Period from
December 28, 1995
Year ended March 31, Through
Statements of Cash Flows 1998 1997 March 31, 1996
------------ ------------ --------------
<S> <C> <C> <C>
Operating Activities
Net income $ 1,020,486 $ 622,619 $ 220,768
Adjustments to reconcile net
income to net cash provided
by operating activities:
Depreciation 553 -- --
Equity in undistributed net
income of subsidiaries (1,101,757) (222,882) (188,399)
Earned RRP shares 110,283 68,604
Deferred income taxes 263 9,494 (9,494)
Decrease (increase) in:
Accrued interest receivable 7,070 6,821 (13,891)
Other assets 82,835 (134,048) (105,388)
Increase (decrease) in:
Accounts payable and accrued
expenses (86,610) 51,944 70,102
Accrued income taxes (90,588) 65,628 24,960
------------ ------------ ------------
Net Cash Provided (Used) by
Operating Activities (57,465) 468,180 (1,342)
------------ ------------ ------------
Investing Activities:
Loan origination to ESOP -- -- (1,058,000)
Repayment on loan receivable
from ESOP 66,125 66,125 66,125
Purchased equipment (6,632) -- --
Purchased Classic Bank -- -- (5,300,676)
Purchased First National Bank -- (10,208,010) --
Dividend distribution from
Classic Bank in excess of
current year's earnings -- 5,523,982 --
Purchased securities
available for sale (250,000) -- --
------------ ------------ ------------
Net Cash Used by Investing
Activities (190,507) (4,617,903) (6,292,551)
------------ ------------ ------------
Financing Activities
Net proceeds from common stock
offering -- -- $ 11,659,352
Proceeds from borrowings -- 700,000 --
Repayment of borrowings (100,000) (50,000) --
RRP shares purchased -- (621,575) --
Dividends paid (338,965) (158,287) --
Treasury shares purchased (259,687) (--) --
------------ ------------ ------------
Net Cash Provided (Used) by
Financing Activities (698,652) (129,862) 11,659,352
------------ ------------ ------------
Net Increase (Decrease) in Cash
and Cash Equivalents (946,624) (4,279,585) 5,365,459
Cash and Cash Equivalents at
Beginning of Year 1,085,874 5,365,459 --
------------ ------------ ------------
Cash and Cash Equivalents at
End of Year $ 139,250 $ 1,085,874 $ 5,365,459
============ ============ ============
</TABLE>
<PAGE>
================================================================================
CLASSIC BANCSHARES, INC. AND SUBSIDIARIES
================================================================================
STOCK LISTING
The Company's common stock is traded over the counter and is listed on the
Nasdaq Small-Cap Market under the symbol "CLAS." At June 15, 1998, there were
1,299,590 shares of the Company's common stock issued and outstanding and there
were 240 holders of record and approximately 790 beneficial holders. The
Company's common stock began trading on December 28, 1995. The price range of
the Company's common stock for each quarter for fiscal 1997 and fiscal 1998:
<TABLE>
<CAPTION>
=================================== ============ ============= ===============
FISCAL 1997 HIGH LOW DIVIDENDS
=================================== ============ ============= ===============
<S> <C> <C> <C>
First Quarter ..............................$11.375 $10.375 N/A
Second Quarter ..............................$12.125 $10.375 N/A
Third Quarter ..............................$12.125 $11.250 $ .06
Fourth Quarter ..............................$13.875 $11.625 $ .07
<CAPTION>
=================================== ============ ============= ===============
FISCAL 1998 HIGH LOW DIVIDENDS
=================================== ============ ============= ===============
<S> <C> <C> <C>
First Quarter ..............................$15.000 $12.250 $ .07
Second Quarter ..............................$16.250 $13.750 $ .07
Third Quarter ..............................$17.250 $15.000 $ .07
Fourth Quarter ..............................$21.500 $16.063 $ .07
</TABLE>
The stock price information set forth in the table above was provided by the
National Association of Securities Dealers, Inc. High, low and closing prices
and daily trading volume are reported in most major newspapers. The closing
price of the Company's common stock on March 31, 1998 was $20.00.
The Company declared and paid a cash dividend of $.28 per share during fiscal
1998. The Board of Directors intends to continue the payment of quarterly cash
dividends, dependent on the results of operations and financial condition of the
Company, tax considerations, industry standards, economic conditions, regulatory
restrictions, general business practices and other factors. The Company's
ability to pay dividends is dependent on the dividend payments it receives from
its subsidiaries, Classic Bank and First National, which are subject to
regulations and continued compliance with all regulatory capital requirements.
See Note 18 of the Notes to the Consolidated Financial Statements for
information regarding limitations of the subsidiaries ability to pay dividends
to the Company.
MARKET MAKERS
Capital Resources, Inc.
Friedman, Billings, Ramsey & Co.
Herzog, Heine, Geduld, Inc. Co.
J.J.B. Hilliard, W.L. Lyons Co.
Tucker Anthony, Inc. Lyons Co.
<PAGE>
================================================================================
DIRECTORS AND OFFICERS
================================================================================
CLASSIC BANK*
DIRECTORS
C. CYRUS REYNOLDS
Chairman of the Board
Property Valuation Administrator, Boyd County, Kentucky
DAVID B. BARBOUR
President and Chief Executive Officer
EVERETT B. GEVEDON, JR.
Real Estate Consultant
ROBERT B. KEIFER, JR.
Retired Group Vice President,
Ashland Petroleum, Inc.
JACK R. PATTERSON
President,
General Heating and Air Conditioning, Inc.
DARRELL HANEY
President and Chief Executive Officer,
Hanco Supply, Inc.
RICHARD C. LAYMAN
Secretary and Treasurer,
Ashland Fabricating and Welding Company
OFFICERS
DAVID B. BARBOUR
President and Chief Executive Officer
ROBERT S. CURTIS
Executive Vice President and Senior Lending Officer
LISAH M. FRAZIER
Vice President and Chief Financial Officer
KEVIN E. ASHLEY
Vice President
G. ANDREW GREENE
Assistant Vice President/Loan Officer
DEBRA L. MARTIN
Assistant Vice President
TERESA L. HALL
Assistant Vice President
FIRST NATIONAL BANK OF PAINTSVILLE
DIRECTORS
DAVID B. BARBOUR
Chairman of the Board
ROBERT L. BAYES
President and Chief Executive Officer
LINDSEY ABLE
President, Jeffco Oil Company, Inc.
DEWEY L. BOCOOK, JR.
President, Bocook Engineering, Inc.,
ROBERT W. WITTEN
President, Triple W. Fuels, Inc.
Operater, Classic Dry Cleaners
N. ROGER JURICH, M.D.
Family Practice, Prestonsburg, KY
WADE H. MAY
Owner, May's Carpet
DEBORAH L. TRIMBLE
Chief Executive Officer,
Paul B. Hall Regional Medical Center
PAUL L. WILLIAMS
Superintendent, Paintsville Independent Schools
EVERETT B. GEVEDON, JR.
Real Estate Consultant
OFFICERS
ROBERT L. BAYES
President and Chief Executive Officer
WARREN D. WATTS
Executive Vice President and Senior Lending Officer
CLAY D. SPRADLIN
Senior Vice President and Chief Financial Officer
KELLY SHEPHERD
Senior Vice President and Cashier
CONNIE D. BAYES
Vice President
ROBERT DANIEL
Vice President
DARLENE MICHELLE MEEK
Vice President
TERESA J. HALL
Assistant Vice President
HOY C. WITTEN
Assistant Vice President
BETTY S. WEBB
Assistant Cashier
* Jack R. Patterson, Richard C. Layman, and Darrell Haney were appointed to
the Board of Directors in April 1998.
** A. Bruce Addington was appointed to the Board of Directors in April 1998.
<PAGE>
================================================================================
DIRECTORS AND OFFICERS
================================================================================
CLASSIC BANCSHARES, INC.**
DIRECTORS
C. CYRUS REYNOLDS
Chairman of the Board
Property Valuation Administrator, Boyd County, Kentucky
DAVID B. BARBOUR
President and Chief Executive Officer
ROBERT L. BAYES
President and Chief Executive Officer,
First National Bank of Paintsville
Executive Vice President, Classic Bancshares, Inc.
JOHN W. CLARK
President and Chief Executive Officer,
John W. Clark Oil Co., Inc.
EVERETT B. GEVEDON, JR.
Real Estate Consultant
ROBERT B. KEIFER, JR.
Retired Group Vice President,
Ashland Petroleum, Inc.
DAVID A. LANG
Kentucky Region Director,
American Electric Power
JEFFREY P. LOPEZ, M.D.
President,
Ashland Radiation Oncology, Inc.
and Tri-State Regional Cancer Center
ROBERT A. MOYER, JR.
Chairman and Chief Executive Officer,
RAM Technologies, Inc.
A. BRUCE ADDINGTON
Vice President,
Addington Enterprises, Inc.
OFFICERS
DAVID B. BARBOUR
President and Chief Executive Officer
ROBERT L. BAYES
Executive Vice President
ROBERT S. CURTIS
Senior Vice President
LISAH M. FRAZIER
Vice President, Treasurer and Chief Financial Officer
LYNETTE F. SPEAKS
Secretary
LADONNA W. LEMASTER
Internal Auditor
[PHOTO]
Left to right: David B. Barbour and
C. Cyrus Reynolds
[PHOTO]
Left to right: Lisah M. Frazier,
Robert S. Curtis and Robert L. Bayes
C. Cyrus Reynolds
<PAGE>
================================================================================
STOCKHOLDER INFORMATION
================================================================================
CORPORATE OFFICE
344 Seventeenth Street
Ashland, KY 41101
ANNUAL MEETING
The Annual Meeting of Stockholders
will be held at 3:00 P.M., Eastern Standard Time,
on July 27, 1998 at the corporate headquarters of RAM
Technologies, Inc., 1516 Bath Avenue
Ashland, Kentucky 41101
ANNUAL REPORT ON FORM 10-KSB
A copy of the Company's Annual Report on
Form 10-KSB as filed with the Securities and
Exchange Commission may be obtained
without charge upon written request to
David B. Barbour, President and Chief Executive Officer,
Classic Bancshares, Inc.,
344 Seventeenth Street, Ashland, Kentucky 41101,
or by calling (606) 325-4789. The report may also be
obtained from EDGAR via the Internet.
REGISTRATION/TRANSFER AGENT
Communications regarding change of address,
transfer of stock and lost certificates should be sent to:
Fifth Third Bank
Corporate Trust Administration
38 Fountain Square Plaza
Cincinnati, ON 45263
INDEPENDENT ACCOUNTANTS
Smith, Goolsby, Artis & Reams, P.S.C.
1330 Carter Avenue
Ashland, KY 41101
GENERAL COUNSEL
Rose, Short & Pitt
Community Trust Bank Building
Suite 1117
1544 Winchester Avenue
Ashland, KY 41101
SPECIAL COUNSEL
Silver, Freedman & Taff, L.L.P.
Suite 700 East
1100 New York Avenue, NW
Washington, DC 2005
EXHIBIT 21
SUBSIDIARIES OF REGISTRANT
<PAGE>
SUBSIDIARIES OF THE REGISTRANT
<TABLE>
<CAPTION>
State of
Percentage Incorporation
of or
Parent Subsidiary Ownership Organization
------ ---------- --------- ------------
<S> <C> <C> <C>
Classic Bancshares, Inc. Classic Bank 100% Federal
Classic Bancshares, Inc. The First National Bank of Paintsville 100% Federal
Classic Bank AFS Service Corporation 100% Kentucky
(Dissolved during
Fiscal 1998)
</TABLE>
EXHIBIT 23
CONSENT OF INDEPENDENT AUDITORS
<PAGE>
INDEPENDENT AUDITORS' CONSENT
The Board of Directors
Classic Bancshares, Inc.
Ashland, Kentucky
We hereby consent to incorporation by reference in the Registration Statements
on Form S-8 (Nos. 333-09385, and 333-09409 and 333-43481) of our report dated
May 29, 1998, relating to the consolidated financial statements of Classic
Bancshares, Inc. and subsidiaries as of March 31, 1998 and 1997 and for each of
the years in the three-year period ended March 31, 1998, which report appears in
the Annual Report on Form 10-KSB of Classic Bancshares, Inc. for the fiscal year
ended March 31, 1998.
/s/ SMITH, GOOLSBY, ARTIS & REAMS, P.S.C.
June 22, 1998
Ashland, Kentucky
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
The scheudle contains summary information extracted from the annual report
on Form 10-KSB for the year ended March 31, 1998 and is qualified in its
entirety.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> MAR-31-1998
<PERIOD-START> APR-01-1997
<PERIOD-END> MAR-31-1998
<CASH> 2,384
<INT-BEARING-DEPOSITS> 117
<FED-FUNDS-SOLD> 1,131
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 18,177
<INVESTMENTS-CARRYING> 18,177
<INVESTMENTS-MARKET> 18,177
<LOANS> 90,100
<ALLOWANCE> 831
<TOTAL-ASSETS> 131,121
<DEPOSITS> 104,927
<SHORT-TERM> 3,796
<LIABILITIES-OTHER> 1,141
<LONG-TERM> 550
13
0
<COMMON> 0
<OTHER-SE> 20,394
<TOTAL-LIABILITIES-AND-EQUITY> 131,121
<INTEREST-LOAN> 7,414
<INTEREST-INVEST> 1,934
<INTEREST-OTHER> 158
<INTEREST-TOTAL> 9,506
<INTEREST-DEPOSIT> 4,214
<INTEREST-EXPENSE> 598
<INTEREST-INCOME-NET> 4,695
<LOAN-LOSSES> 158
<SECURITIES-GAINS> 29
<EXPENSE-OTHER> 3,994
<INCOME-PRETAX> 1,417
<INCOME-PRE-EXTRAORDINARY> 1,020
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,020
<EPS-PRIMARY> .87
<EPS-DILUTED> .83
<YIELD-ACTUAL> 7.9
<LOANS-NON> 308
<LOANS-PAST> 404
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 801
<CHARGE-OFFS> 173
<RECOVERIES> 45
<ALLOWANCE-CLOSE> 831
<ALLOWANCE-DOMESTIC> 831
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 476
</TABLE>
