<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(Mark One)
[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 1997
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _____________________ to ________________
Commission file number 000-23667
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HOPFED BANCORP, INC.
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(Exact name of registrant as specified in its charter)
Delaware 61-1322555
- ------------------------------ ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2700 Fort Campbell Boulevard, Hopkinsville, KY 42240
- ----------------------------------------------- ---------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (502) 885-1171.
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
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(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. YES X NO
----- -----
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The registrant's voting stock is traded on the Nasdaq Stock Market. The
aggregate market value of the voting stock held by non-affiliates of the
registrant, computed by reference to the price ($17.75 per share) at which the
stock was sold on March 31, 1998, was approximately $63,379,161. For purposes
of this calculation, the term "affiliate" refers to all executive officers and
directors of the registrant and all stockholders beneficially owning more than
10% of the registrant's Common Stock.
As of the close of business on March 31, 1998, 4,033,625 shares of the
registrant's Common Stock were outstanding.
Documents Incorporated By Reference
Part II:
Annual Report to Stockholders for the year ended December 31, 1997.
Part III:
Portions of the definitive proxy statement for the 1998 Annual Meeting of
Stockholders .
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PART I
ITEM 1. BUSINESS
On February 6, 1998, HopFed Bancorp, Inc. ( the "Company") issued and
sold 4,033,625 shares of common stock, par value $.01 per share (the "Common
Stock"), in connection with the conversion of Hopkinsville Federal Savings Bank
(the "Bank") from a federal mutual savings bank to a federal stock savings bank
and the issuance of the Bank's capital stock to HopFed Bancorp, Inc. (the
"Company"). The conversion of the Bank, the acquisition of all of the
outstanding capital stock of the Bank by the Company and the issuance and sale
of the Common Stock are collectively referred to herein as the "Conversion."
HOPFED BANCORP, INC.
HopFed Bancorp, Inc. was incorporated under the laws of the State of
Delaware in May 1997 at the direction of the Board of Directors of the Bank for
the purpose of serving as a savings and loan holding company of the Bank upon
the acquisition of all of the capital stock issued by the Bank in the
Conversion. Prior to the Conversion, the Company did not engage in any material
operations. The Company has no significant assets other than the outstanding
capital stock of the Bank, up to 50% of the net proceeds of the Conversion
(after deducting amounts infused into the Bank and used to fund the Employee
Stock Ownership Plan ("ESOP") and a note receivable from the ESOP. The Company's
principal business is overseeing the business of the Bank and investing the
portion of the net Conversion proceeds retained by it. The Company has
registered with the Office of Thrift Supervision ("OTS") as a savings and loan
holding company. See "Regulation Regulation of the Company."
As a holding company, the Company has greater flexibility than the
Bank to diversify its business activities through existing or newly formed
subsidiaries or through acquisition or merger with other financial institutions,
although the Company currently does not have any plans, agreements, arrangements
or understandings with respect to any such acquisitions or mergers. The Company
is classified as a unitary savings and loan holding company and is subject to
regulation by the OTS.
The Company's executive offices are located at 2700 Fort Campbell
Boulevard, Hopkinsville, Kentucky 42240, and its main telephone number is (502)
885-1171.
HOPKINSVILLE FEDERAL SAVINGS BANK
The Bank is a federally chartered stock savings bank headquartered in
Hopkinsville, Kentucky, with branch offices in Hopkinsville, Murray, Cadiz and
Elkton, Kentucky. The Bank was incorporated by the Commonwealth of Kentucky in
1879 under the name Hopkinsville Building and Loan Association. In 1940, the
Bank converted to a federal mutual savings association and received federal
insurance of its deposit accounts. In 1983, the Bank became a federal mutual
savings bank and adopted its current corporate title.
The business of the Bank primarily consists of attracting deposits
from the general public and investing such deposits in loans secured by single
family residential real estate and investment securities, including U.S.
Government and agency securities and mortgage-backed securities. The Bank also
originates single-family residential/construction loans and multi-family and
commercial real estate loans, as well as loans secured by deposits and other
consumer loans. The Bank emphasizes the origination of residential real estate
loans with adjustable interest rates and other assets which are responsive to
changes in interest rates and allow the Bank to more closely match the interest
rate maturation of its assets and liabilities.
At December 31, 1997, the Bank's net loan portfolio comprised 30.08%
of total assets, and 78.7% of total loans were secured by one-to-four family
residential properties. At December 31, 1997, short-term investments and
investment securities represented 58.73% of total assets and mortgage-backed
securities represented 7.66% of total assets. At December 31, 1997,
nonperforming loans totaled 0.16% of total assets.
2
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MARKET AREA
The primary market area of the Bank consists of the adjacent counties
of Calloway, Christian, Todd and Trigg located in southwestern Kentucky. The
Bank's four-county market area reported a population of 122,301 in 1994. Median
household income levels in the counties of the Bank's market area are below
averages for the Commonwealth of Kentucky and the United States. The 1990
census estimated the income level for the Bank's market area in 1994 to be
approximately 90% of the state average and 69% of the national average. The
unemployment rates for the Bank's market area in December 1997 were reported by
the Pennyrile Area Development District (a government agency) at 5.1% for
Christian County, 5.3% for Calloway County, 5.6% for Trigg County and 4.3% for
Todd County.
The Bank is one of two thrift institutions headquartered in its market
area and there are six banks with headquarters in the Bank's market area. In
addition, a number of larger financial institutions have branch offices located
in the Bank's primary market area.
The market area's economy depends primarily on a number of industrial
facilities, including manufacturing operations for Dana Corporation Parish Frame
Division, Freudenberg Nonwovens, Phelps Dodge Magnet Wire Company, Thomas
Industries Lighting Fixtures, International Paper, Mitsubishi CNC Machining
Center & CNC Turning Center, Rockwell International Suspension Systems Company
U.S., Flynn Enterprises, ARDCO, Johnson Controls, Sun Chemical and Briggs and
Stratton. The market area is an agricultural community and is affected by
agriculture-related industries, including U.S. Tobacco, Southwestern Tobacco,
Wayne Feeds, Case Power and Equipment and Agri-Chem. The market area also
includes Fort Campbell Army Base, Murray State University, Western State
Hospital and Community College of the University of Kentucky, as well as
locally-owned companies which have achieved national recognition, including
Dunlap Sales, Kentucky Derby Hosiery and Gardner Wallcoverings.
National Capital's appraisal of the estimated pro forma market value
of the Common Stock to be sold in the Conversion included an analysis of the
Bank's primary market area and the prevailing economic conditions. In preparing
the appraisal, National Capital considered major employers and employment data,
the location of the Bank's lending operations, the Bank's deposit share and
market position, the current population and projected population growth, the
number of households, age distribution, median household income, building
permits and other housing data and occupancy rates.
LENDING ACTIVITIES
General. The Bank's total gross loan portfolio totaled $105.7 million
at December 31, 1997, representing 30.73% of total assets at that date.
Substantially all loans are originated in the Bank's market area. At December
31, 1997, $83.2 million, or 78.7% of the Bank's loan portfolio, consisted of
one-to-four family, residential mortgage loans. Other loans secured by real
estate include non-residential real estate loans, which amounted to $7.6
million, or 7.2% of the Bank's loan portfolio at December 31, 1997, and multi-
family residential loans, which were $2.4 million, or 2.2% of the Bank's loan
portfolio at December 31, 1997. The Bank also originates construction and
consumer loans. At December 31, 1997, construction loans were $5.2 million, or
4.9% of the Bank's loan portfolio, and consumer loans totaled $7.4 million, or
7.0% of the Bank's loan portfolio.
3
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Analysis of Loan Portfolio. Set forth below is selected data relating
to the composition of the Bank's loan portfolio by type of loan at the dates
indicated. At December 31, 1997, the Bank had no concentrations of loans
exceeding 10% of total loans other than as disclosed below.
<TABLE>
<CAPTION>
At December 31,
----------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
(Dollars in thousands)
Type of Loan:
- -------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Real estate loans:
One-to-four family
residential........... $83,229 78.7% $77,318 79.6% $70,417 81.5% $66,236 82.3% $56,259 81.3%
Multi-family
residential........... 2,359 2.2% 1,466 1.5% 492 0.6% 3,475 4.3% 1,391 2.0%
Construction............ 5,166 4.9% 5,389 5.6% 4,062 4.7% 3,748 4.7% 2,963 4.3%
Non-residential (1)..... 7,593 7.2% 5,467 5.6% 5,107 5.9% 1,626 2.0% 4,523 6.5%
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Total real estate loans. 98,347 93.0% 89,640 92.3% 80,078 92.7% 75,085 93.3% 65,136 94.1%
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Consumer loans:
Secured by deposits...... 3,081 2.9% 3,484 3.6% 3,324 3.8% 3,135 3.9% 2,459 3.6%
Other consumer loans..... 4,298 4.1% 4,004 4.1% 3,016 3.5% 2,296 2.8% 1,596 2.3%
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Total consumer loans.... 7,379 7.0% 7,488 7.7% 6,340 7.3% 5,431 6.7% 4,055 5.9%
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
105,726 100.0% 97,128 100% 86,418 100% 80,516 100% 69,191 100%
======== ======== ======== ======== ========
Less: Loans in process... 2,019 1,415 1,541 1,867 1,265
Allowance for loan
losses................. 237 217(2) 122 122 122
-------- -------- -------- -------- --------
Total.................... $103,470 $95,496 $84,755 $78,527 $67,804
======== ======== ======== ======== ========
</TABLE>
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(1) Consists of loans secured by first liens on residential lots and loans
secured by first mortgages on commercial real property.
(2) Increase in allowance for loan loss reflects $100,000 provision in 1996
based upon management's assessment of risks associated with the Bank's
increased loan growth and increased emphasis on consumer lending. See "--
Nonperforming Loans and Other Assets."
Loan Maturity Schedule. The following table sets forth certain information
at December 31, 1997 regarding the dollar amount of loans maturing in the Bank's
portfolio based on their contractual terms to maturity, including scheduled
repayments of principal. Demand loans, loans having no stated schedule of
repayments and no stated maturity, and overdrafts are reported as due in one
year or less.
<TABLE>
<CAPTION>
Due after Due after Due after
3 through 5 through 10 through Due after
Due during the year ending 5 years 10 years 15 years 15 years
December 31, after after after after
---------------------------- December 31, December 31, December 31, December 31,
1998 1999 2000 1997 1997 1997 1997 Total
---- ---- ---- ---- ---- ---- ---- ---------
(In thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
One-to-four family
residential............. $ 2,287 $1,031 $ 284 $2,234 $8,259 $17,549 $51,585 $ 83,229
Multi-family residential.. - - - - - 1,211 1,148 2,359
Construction.............. 5,166 - - - - - - 5,166
Non-residential........... - - - - - 2,771 4,822 7,593
Consumer.................. 3,745 664 1,081 1,497 86 - 306 7,379
--------- -------- -------- -------- -------- -------- -------- --------
Total.................... $11,198 $1,695 $1,365 $3,731 $8,345 $21,531 $57,861 $105,726
========= ======== ======== ======== ======== ======== ======== ========
</TABLE>
4
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The following table sets forth at December 31, 1997, the dollar amount of
all loans due one year or more after December 31, 1997 which had predetermined
interest rates and have floating or adjustable interest rates.
<TABLE>
<CAPTION>
Predetermined Floating or
Rate Adjustable Rate
------------------ ------------------
(In thousands)
<S> <C> <C>
One-to-four family residential............... $10,471 $70,471
Multi-family residential..................... -- 2,359
Construction -- --
Non-residential.............................. -- 7,593
Consumer..................................... 3,634 --
------------------ ------------------
Total....................................... $14,105 $80,423
================== ==================
</TABLE>
Scheduled contractual principal repayments of loans do not reflect the
actual life of such assets. The average life of loans is substantially less than
their contractual terms because of prepayments. In addition, due-on-sale
clauses on loans generally give the Bank the right to declare a loan immediately
due and payable in the event, among other things, that the borrower sells the
real property subject to the mortgage and the loan is not repaid. The average
life of mortgage loans tends to increase when current mortgage loan market rates
are substantially higher than rates on existing mortgage loans and, conversely,
decrease when current mortgage loan market rates are substantially lower than
rates on existing mortgage loans.
Originations, Purchases and Sales of Loans. The Bank generally has
authority to originate and purchase loans secured by real estate located
throughout the United States. Consistent with its emphasis on being a
community-oriented financial institution, the Bank conducts substantially all of
its lending activities in its market area.
The following table sets forth certain information with respect to the
Bank's loan origination activity for the periods indicated. The Bank has not
purchased or sold any loans in the periods presented.
Year Ended December 31,
---------------------------------
1997 1996 1995
---------- ---------- ---------
Loan originations:
One-to-four family residential....... $14,578 $16,209 $11,252
Multi-family residential............. 1,115 1,434 360
Construction......................... 6,302 5,340 3,607
Non-residential...................... 372 536 738
Consumer............................. 7,472 5,688 4,970
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Total loans originated.............. 29,839 29,207 20,927
---------- ---------- ---------
Loan principal reductions:
Loan principal repayments............ 21,865 18,372 14,698
---------- ---------- ---------
Net increase in loan portfolio........ $ 7,974 $10,835 $ 6,229
========== ========== =========
The Bank's loan originations are derived from a number of sources,
including existing customers, referrals by real estate agents, depositors and
borrowers and advertising, as well as walk-in customers. The Bank's solicitation
programs consist of advertisements in local media, in addition to occasional
participation in various community organizations and events. Real estate loans
are originated by the Bank's loan personnel. All of the Bank's loan personnel
are salaried, and the Bank does not compensate loan personnel on a commission
basis for loans originated. Loan applications are accepted at any of the Bank's
branches.
Loan Underwriting Policies. The Bank's lending activities are subject to
the Bank's written, non-discriminatory underwriting standards and to loan
origination procedures prescribed by the Bank's Board of Directors and its
management. Detailed loan applications are obtained to determine the ability of
borrowers to repay, and the more significant items on these applications are
verified through the use of credit reports, financial statements and
confirmations. All loans must be reviewed by the Bank's loan committee, which is
comprised of the Bank's lending officers and branch managers. Exceptions to the
Bank's underwriting standards must be approved
5
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by the loan committee. In addition, the full Board of Directors reviews all
loans on a monthly basis.
Generally, upon receipt of a loan application from a prospective borrower,
a credit report and verifications are ordered to confirm specific information
relating to the loan applicant's employment, income and credit standing. If a
proposed loan is to be secured by a mortgage on real estate, an appraisal of the
real estate is undertaken by an appraiser approved by the Bank's Board of
Directors and licensed or certified (as necessary) by the Commonwealth of
Kentucky. In the case of one-to-four family residential mortgage loans, except
when the Bank becomes aware of a particular risk of environmental contamination,
the Bank generally does not obtain a formal environmental report on the real
estate at the time a loan is made. A formal environmental report may be required
in connection with nonresidential real estate loans.
It is the Bank's policy to record a lien on the real estate securing a loan
and to obtain a title opinion from Kentucky counsel which provides that the
property is free of prior encumbrances and other possible title defects.
Borrowers must also obtain hazard insurance policies prior to closing and, when
the property is in a flood hazard area, pay flood insurance policy premiums.
Applications for real estate loans are underwritten and closed in
accordance with the Bank's own lending guidelines, which generally do not
conform to FHLMC and FNMA guidelines. Although such loans may not be readily
saleable in the secondary market, the Bank's management believes that, if
necessary, such loans may be sold to private investors.
The Bank is permitted to lend up to 100% of the appraised value of the real
property securing a mortgage loan. The Bank is required by federal regulations
to obtain private mortgage insurance on that portion of the principal amount of
any loan that is greater than 90% of the appraised value of the property. Under
its lending policies, the Bank will originate a one-to-four family residential
mortgage loan for owner-occupied property with a loan-to-value ratio of up to
95%. For residential properties that are not owner-occupied, the Bank generally
does not lend more than 80% of the appraised value. For all residential mortgage
loans, the Bank may increase its lending level on a case-by-case basis, provided
that the excess amount is insured with private mortgage insurance. The federal
banking agencies, including the OTS, have adopted regulations that would
establish new loan-to-value ratio requirements for specific categories of real
estate loans.
Under applicable law, with certain limited exceptions, loans and extensions
of credit outstanding by a savings institution to a person at one time shall not
exceed 15% of the institution's unimpaired capital and surplus. Loans and
extensions of credit fully secured by readily marketable collateral may comprise
an additional 10% of unimpaired capital and surplus. Applicable law additionally
authorizes savings institutions to make loans to one borrower, for any purpose,
in an amount not to exceed the lesser of $30.0 million or 30% of unimpaired
capital and surplus to develop residential housing, provided certain
requirements are satisfied. Under these limits, the Bank's loans to one
borrower were limited to $5.0 million at December 31,1997. At that date, the
Bank had no lending relationships in excess of the loans-to-one-borrower limit.
At December 31,1997, the Bank's largest lending relationship was $2.3 million.
The loans are to a local real estate developer and his business associate and
are primarily for the development of apartments, the purchase of lots for
residential construction, and construction of one-to-four residential housing.
All loans within this relationship were current and performing in accordance
with their terms at December 31,1997.
Interest rates charged by the Bank on loans are affected principally by
competitive factors, the demand for such loans and the supply of funds available
for lending purposes. These factors are, in turn, affected by general economic
conditions, monetary policies of the federal government, including the Federal
Reserve Board, legislative tax policies and government budgetary matters.
One-to-four family Residential Lending. The Bank historically has been and
continues to be an originator of one-to-four family residential real estate
loans in its market area. At December 31, 1997, one-to-four family residential
mortgage loans, totaled approximately $83.2 million, or 78.7% of the Bank's loan
portfolio. All loans originated by the Bank are maintained in its portfolio
rather than sold in the secondary market.
6
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The Bank primarily originates residential mortgage loans with adjustable
rates. As of December 31, 1997, 87.4% of one-to-four family mortgage loans in
the Bank's loan portfolio carried adjustable rates. Such loans are primarily
for terms of 25 years, although the Bank does occasionally originate adjustable
rate mortgages for 15 year and 20 year terms, in each case amortized on a
monthly basis with principal and interest due each month. The interest rates on
these mortgages are adjusted once per year, with a maximum adjustment of 1% per
adjustment period and a maximum aggregate adjustment of 5% over the life of the
loan. A borrower may also obtain a loan in which the maximum annual adjustment
is 0.5% with a higher initial rate. Prior to August 1, 1997, rate adjustments
on the Bank's adjustable rate loans were indexed to a rate which adjusted
annually based upon changes in an index based on the National Monthly Median
Cost of Funds, plus a margin of 2.75%. Because the National Monthly Median Cost
of Funds is a lagging index, which results in rates changing at a slower pace
than rates generally in the marketplace, the Bank has changed to a one-year
Treasury bill constant maturity, which the Bank believes reflects more current
market information and thus allows the Bank to react more quickly to changes in
the interest rate environment. The adjustable rate mortgage loans offered by
the Bank also provide for initial rates of interest below the rates that would
prevail when the index used for repricing is applied. Such initial rates, also
referred to as "teaser rates," often reflect a discount from the prevailing rate
greater than the 1.0% maximum adjustment allowed each year. As a result, the
Bank may not be able to restore the interest rate of a loan with a teaser rate
to its otherwise initial loan rate until at least the second adjustment period
that occurs at the beginning of the third year of the loan. Further, in a
rising interest rate environment, the Bank may not be able to adjust the
interest rate of the loan to the prevailing market rate until an even later
period because of the combination of the teaser discount and the 1% limitation
on annual adjustments.
The retention of adjustable rate loans in the Bank's portfolio helps reduce
the Bank's exposure to increases in prevailing market interest rates. However,
there are unquantifiable credit risks resulting from potential increases in
costs to borrowers in the event of upward repricing of adjustable-rate loans.
It is possible that during periods of rising interest rates, the risk of default
on adjustable rate loans may increase due to increases in interest costs to
borrowers. Further, although adjustable rate loans allow the Bank to increase
the sensitivity of its interest-earning assets to changes in interest rates, the
extent of this interest sensitivity is limited by the initial fixed-rate period
before the first adjustment and the lifetime interest rate adjustment
limitations. This risk is heightened by the Bank's practice of offering its
adjustable rate mortgages with a discount to its initial interest rate that is
greater than the annual increase in interest rates allowed under the terms of
the loan. Accordingly, there can be no assurance that yields on the Bank's
adjustable rate loans will fully adjust to compensate for increases in the
Bank's cost of funds. Finally, adjustable rate loans increase the Bank's
exposure to decreases in prevailing market interest rates, although the 1%
limitation on annual decreases in the loans' interest rates tend to offset this
effect.
The Bank also originates, to a limited extent, fixed-rate loans for terms
of 15 years. Such loans are secured by first mortgages on one-to-four family,
owner-occupied residential real property located in the Bank's market area.
Because of the Bank's policy to mitigate its exposure to interest rate risk
through the use of adjustable rate rather than fixed rate products, the Bank
does not emphasize fixed-rate mortgage loans. At December 31, 1997, only $10.5
million, or 9.9%, of the Bank's loan portfolio, consisted of fixed-rate mortgage
loans. To further reduce its interest rate risk associated with such loans, the
Bank may rely upon FHLB advances with similar maturities to fund such loans.
See "-- Deposit Activity and Other Sources of Funds -- Borrowing."
Neither the fixed rate or the adjustable rate residential mortgage loans of
the Bank are originated in conformity with secondary market guidelines issued by
FHLMC or FNMA. As a result, such loans may not be readily saleable in the
secondary market to institutional purchasers. However, such loans may still be
sold to private investors whose investment strategies do not depend upon loans
that satisfy FHLMC or FNMA criteria. Further, given its high liquidity, the
Bank does not currently view loan sales as a necessary funding source.
Construction Lending. The Bank engages in construction lending involving
loans to individuals for construction of one-to four- family residential housing
located within the Bank's market area, with such loans converting to permanent
financing upon completion of construction. Such loans are generally made to
individuals for construction primarily in established subdivisions within the
Bank's market area. The Bank mitigates its risk with construction loans by
imposing a maximum loan-to-value ratio of 95% for homes that will be owner-
occupied and 80% for homes being built on a speculative basis. At December 31,
1997, the Bank's loan portfolio included $5.2 million of loans secured by
properties under construction, including construction/permanent loans structured
to become permanent loans upon the completion of construction and interim
construction loans structured to be repaid in full upon completion of
construction and receipt of permanent financing.
7
<PAGE>
The Bank also makes loans to qualified builders for the construction of
one-to-four family residential housing located in established subdivisions in
the Bank's market area. Because such homes are intended for resale, such loans
are generally not converted to permanent financing at the Bank. All
construction loans are secured by a first lien on the property under
construction.
Loan proceeds are disbursed in increments as construction progresses and as
inspections warrant. Construction/permanent loans may have adjustable or fixed
interest rates and are underwritten in accordance with the same terms and
requirements as the Bank's permanent mortgages. Such loans generally provide
for disbursement in stages during a construction period of up to six months,
during which period the borrower is required to make payments of interest only.
The permanent loans are typically 25-year adjustable rate loans, with the same
terms and conditions otherwise offered by the Bank. Monthly payments of
principal and interest commence the month following the date the loan is
converted to permanent financing. Borrowers must satisfy all credit
requirements that would apply to the Bank's permanent mortgage loan financing
prior to receiving construction financing for the subject property.
Construction financing generally is considered to involve a higher degree
of risk of loss than long-term financing on improved, occupied real estate.
Risk of loss on a construction loan is dependent largely upon the accuracy of
the initial estimate of the property's value at completion of construction or
development and the estimated cost (including interest) of construction. During
the construction phase, a number of factors could result in delays and cost
overruns. If the estimate of construction costs proves to be inaccurate, the
Bank may be confronted at or prior to the maturity of the loan, with a project
having a value which is insufficient to assure full repayment. The ability of a
developer to sell developed lots or completed dwelling units will depend on,
among other things, demand, pricing, availability of comparable properties and
economic conditions. The Bank has sought to minimize this risk by limiting
construction lending to qualified borrowers in the Bank's market area, by
requiring the involvement of qualified builders, and by limiting the aggregate
amount of outstanding construction loans.
Multi-Family Residential and Non-Residential Real Estate Lending. The
Bank's multi-family residential loan portfolio consists of adjustable rate loans
secured by real estate. At December 31,1997, the Bank had $2.4 million of
multi-family residential loans, which amounted to 2.2% of the Bank's loan
portfolio at such date. The Bank's non-residential real estate portfolio
generally consists of adjustable rate loans secured by first mortgages on
residential lots and rental property. In each case, such property is located in
the Bank's market area. At December 31,1997, the Bank had approximately $7.6
million of such loans, which comprised 7.2% of its loan portfolio. Multi-family
residential real estate loans are underwritten with loan-to-value ratios up to
80% of the appraised value of the property. Non-residential real estate loans
are underwritten with loan-to-value ratios up to 65% of the appraised value for
raw land and 75% for land development loans. The Bank currently does not intend
to significantly expand multi-family residential or non-residential real estate
lending, but may do so if opportunities arise in the future.
Multi-family residential and non-residential real estate lending entails
significant additional risks as compared with one-to-four family residential
property lending. Multi-family residential and commercial real estate loans
typically involve larger loan balances to single borrowers or groups of related
borrowers. The payment experience on such loans typically is dependent on the
successful operation of the real estate project, retail establishment or
business. These risks can be significantly impacted by supply and demand
conditions in the market for the office, retail and residential space, and, as
such, may be subject to a greater extent to adverse conditions in the economy
generally. To minimize these risks, the Bank generally limits itself to its
market area or to borrowers with which it has prior experience or who are
otherwise known to the Bank. It has been the Bank's policy to obtain annual
financial statements of the business of the borrower or the project for which
multi-family residential real estate or commercial real estate loans are made.
Consumer and Other Lending. The consumer loans currently in the Bank's
loan portfolio consist of loans secured by savings deposits and other consumer
loans. Savings deposit loans are usually made for up to 90% of the depositor's
savings account balance. The interest rate is approximately 2.0% above the rate
paid on such deposit account serving as collateral, and the account must be
pledged as collateral to secure the loan. Interest generally is billed on a
quarterly basis. At December 31, 1997, loans on deposit accounts totaled $3.1
million, or 2.9% of the Bank's loan portfolio. Other consumer loans include
automobile loans, the amount and terms of which are determined by the loan
committee, and home equity and home improvement loans, which are made for up to
95% of the value of the property but require private mortgage insurance on 100%
of the value of the property. Following the Conversion, the Bank expects to
focus its loan portfolio growth activities in this area. To prepare for such
8
<PAGE>
growth activities, the Bank recently employed a new loan officer with 25 years
experience in mortgage and consumer lending.
Consumer loans may entail greater credit risk than do residential mortgage
loans, particularly in the case of consumer loans that 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
therefore 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 December 31, 1997, there were $23,000 of consumer loans
delinquent 90 days or more. There can be no assurance that delinquencies will
not increase in the future, particularly in light of the Bank's decision to
increase its efforts to originate a higher volume and greater variety of
consumer loans.
NONPERFORMING LOANS AND OTHER PROBLEM ASSETS
The Bank's nonperforming loans totaled 0.16% of total assets at December
31, 1997. Loans are placed on a non-accrual status when the loan is past due in
excess of 90 days and collection of principal and interest is doubtful. The
Bank places a high priority on contacting customers by telephone as a primary
method of determining the status of delinquent loans and the action necessary to
resolve any payment problem. The Bank's management performs quality reviews of
problem assets to determine the necessity of establishing additional loss
reserves.
Real estate acquired by the Bank as a result of foreclosure is classified
as real estate owned until such time as it is sold. The Bank generally tries to
sell the property at a price no less than its net book value, however, it will
consider slight discounts to the appraised value to expedite the return of the
funds to an earning status. When such property is acquired, it is recorded at
its fair value less estimated costs of sale. Any required write-down of the
loan to its appraised fair market value upon foreclosure is charged against the
allowance for loan losses. Subsequent to foreclosure, in accordance with
generally accepted accounting principles, a valuation allowance is established
if the carrying value of the property exceeds its fair value net of related
selling expenses.
The following table sets forth information with respect to the Bank's non-
performing assets at the dates indicated. No loans were recorded as
restructured loans within the meaning of SFAS No. 15 at the dates indicated.
<TABLE>
<CAPTION>
At December 31,
------------------------------------------------------------
1997 1996 1995 1994 1993
---------- ---------- ---------- --------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Accruing loans which are
contractually past due 90
days or more:
Residential real estate.... $140 $266 $133 $20 $80
Consumer................... 23 -- 1 17 --
---------- ---------- ---------- --------- ---------
Total.................... $163 $266 $134 $37 $80
---------- ---------- ---------- --------- ---------
Total nonperforming
loans.................... $163 $266 $134 $37 $80
========== ========== ========== ========= =========
Percentage of total loans... 0.16% 0.28% 0.16% 0.05% 0.12%
========== ========== ========== ========= =========
</TABLE>
At December 31,1997, the Bank had no loans accounted for on a nonaccrual
basis, no other non-performing assets and $41,700 of real estate owned.
9
<PAGE>
At December 31,1997, the Bank had no loans outstanding which were
classified as nonaccrual, 90 days past due or restructured but where known
information about possible credit problems of borrowers caused management to
have serious concerns as to the ability of the borrowers to comply with present
loan repayment terms and may result in disclosure as non-accrual, 90 days past
due or restructured. Also, the Bank had no impaired loans under SFAS 114/118.
As such, the impact of adopting these statements was not significant to the
Bank.
Federal regulations require savings institutions to classify their assets
on the basis of quality on a regular basis. An asset meeting one of the
classification definitions set forth below may be classified and still be a
performing loan. An asset is classified as substandard if it is determined to
be inadequately protected by the current retained earnings and paying capacity
of the obligor or of the collateral pledged, if any. An asset is classified as
doubtful if full collection is highly questionable or improbable. An asset is
classified as loss if it is considered uncollectible, even if a partial recovery
could be expected in the future. The regulations also provide for a special
mention designation, described as assets which do not currently expose a savings
institution to a sufficient degree of risk to warrant classification but do
possess credit deficiencies or potential weaknesses deserving management's close
attention. Such assets designated as special mention may include nonperforming
loans consistent with the above definition. Assets classified as substandard or
doubtful require a savings institution to establish general allowances for loan
losses. If an asset or portion thereof is classified loss, a savings
institution must either establish a specific allowance for loss in the amount of
the portion of the asset classified loss, or charge off such amount. Federal
examiners may disagree with a savings institution's classifications. If a
savings institution does not agree with an examiner's classification of an
asset, it may appeal this determination to the OTS Regional Director. The Bank
regularly reviews its assets to determine whether any assets require
classification or re-classification. At December 31, 1997, the Bank had
$866,000 in assets classified as special mention, $206,000 in assets classified
as substandard, no assets classified as doubtful and no assets classified as
loss. Special mention assets consist primarily of residential real estate loans
secured by first mortgages. This classification is primarily used by management
as a "watch list" to monitor loans that exhibit any potential deviation in
performance from the contractual terms of the loan.
Allowance for Loan Losses. In originating loans, the Bank recognizes that
credit losses will be experienced and that the risk of loss will vary with,
among other things, the type of loan being made, the creditworthiness of the
borrower over the term of the loan, general economic conditions and, in the case
of a secured loan, the quality of the security for the loan. It is management's
policy to maintain an adequate allowance for loan losses based on, among other
things, the Bank's and the industry's historical loan loss experience,
evaluation of economic conditions, regular reviews of delinquencies and loan
portfolio quality and evolving standards imposed by federal bank examiners. The
Bank increases its allowance for loan losses by charging provisions for possible
loan losses against the Bank's income.
Management will continue to actively monitor the Bank's asset quality and
allowance for loan losses. Management will charge off loans and properties
acquired in settlement of loans against the allowances for losses on such loans
and such properties when appropriate and will provide specific loss allowances
when necessary. Although management believes it uses the best information
available to make determinations with respect to the allowances for losses and
believes such allowances are adequate, future adjustments may be necessary if
economic conditions differ substantially from the economic conditions in the
assumptions used in making the initial determinations.
The Bank's methodology for establishing the allowance for loan losses takes
into consideration probable losses that have been identified in connection with
specific assets as well as losses that have not been identified but can be
expected to occur. Management conducts regular reviews of the Bank's assets and
evaluates the need to establish allowances on the basis of this review.
Allowances are established by the Board of Directors on a quarterly basis based
on an assessment of risk in the Bank's assets taking into consideration the
composition and quality of the portfolio, delinquency trends, current charge-off
and loss experience, loan concentrations, the state of the real estate market,
regulatory reviews conducted in the regulatory examination process and economic
conditions generally. Specific reserves will be provided for individual assets,
or portions of assets, when ultimate collection is considered improbable by
management based on the current payment status of the assets and the fair value
of the security. At the date of foreclosure or other repossession, the Bank
would transfer the property to real estate acquired in settlement of loans
initially at the lower of cost or estimated fair value and subsequently at the
lower of book value or fair value less estimated selling costs. Any portion of
the outstanding loan balance in excess of fair value less estimated selling
costs would be charged off against the allowance for loan losses. If, upon
ultimate
10
<PAGE>
disposition of the property, net sales proceeds exceed the net carrying value of
the property, a gain on sale of real estate would be recorded.
Banking regulatory agencies, including the OTS, have adopted a policy
statement regarding maintenance of an adequate allowance for loan and lease
losses and an effective loan review system. This policy includes an arithmetic
formula for determining the reasonableness of an institution's allowance for
loan loss estimate compared to the average loss experience of the industry as a
whole. Examiners will review an institution's allowance for loan losses and
compare it against the sum of: (i) 50% of the portfolio that is classified
doubtful; (ii) 15% of the portfolio that is classified as substandard; and (iii)
for the portions of the portfolio that have not been classified (including those
loans designated as special mention), estimated credit losses over the upcoming
12 months given the facts and circumstances as of the evaluation date. This
amount is considered neither a "floor" nor a "safe harbor" of the level of
allowance for loan losses an institution should maintain, but examiners will
view a shortfall relative to the amount as an indication that they should review
management's policy on allocating these allowances to determine whether it is
reasonable based on all relevant factors.
The following table sets forth an analysis of the Bank's allowance for loan
losses for the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------------------------------------
1997 1996 1995 1994 1993
--------- -------- -------- -------- ---------
<S> <C> <C> <C> <C> <C>
Balance at beginning of period........ $217 $ 122 $122 $122 $122
Loans charged off:
Real estate mortgage:
Residential......................... -- (5) -- -- --
--------- -------- -------- -------- ---------
Total charge-offs..................... -- (5) -- -- --
--------- -------- -------- -------- ---------
Recoveries -- -- -- -- --
--------- -------- -------- -------- ---------
Net loans charged off................. -- (5) -- -- --
--------- -------- -------- -------- ---------
Provision for loan losses............. 20 100 -- -- --
Balance at end of period.............. $237 $ 217 $122 $122 $122
========= ======== ======== ======== =========
Ratio of net charge-offs to average
loans outstanding during the period... 0% 0.0053% 0% 0% 0%
========= ======== ======== ======== =========
</TABLE>
The following table sets forth the breakdown of the allowance for loan
losses by loan category at the dates indicated. Management believes that the
allowance can be allocated by category only on an approximate basis. The
allocation of the allowance to each category is not necessarily indicative of
future losses and does not restrict the use of the allowance to absorb losses in
any category.
<TABLE>
<CAPTION>
At December 31,
-----------------------------------------------------------------------------------
1997 1996 1995
-------------------------- ------------------- ------------------------
Percent of Loans Percent of Loans Percent of Loans
in Each Category in Each Category in Each Category
Amount to Total Loans Amount to Total Loans Amount to Total Loans
--------- ---------------- --------- ----------------- -------- -----------------
<S> <C> <C> <C> <C> <C> <C>
One-to-four family......... $186 78.7% $163 79.6% $94 81.5%
Construction............... 6 4.9% 11 5.6% 5 4.7%
Multi-family residential... 12 2.2% 3 1.5% 1 0.6%
Non-residential............ 19 7.2% 23 5.6% 14 5.9%
Secured by deposits........ - 2.9% - 3.6% - 3.8%
Other consumer loans....... 14 4.1% 17 4.1% 8 3.5%
--------- --------- --------- ----------- -------- ---------
Total allowance for
loan losses.............. $237 100.0% $217 100.0% $122 100.0%
========= ========= ========= =========== ======== =========
</TABLE>
11
<PAGE>
<TABLE>
<CAPTION>
At December 31,
-----------------------------------------------------------------------
1994 1993
-------------------------------- -------------------------------------
Percent of Loans in Percent of Loans in
Each Category to Each Category to
Amount Total Loans Amount Total Loans
--------- ------------------- -------------- -------------------
(Dollars in thousands)
<S> <C> <C> <C> <C>
One-to-four family.......... $99 82.3% $94 81.3%
Construction................ 6 4.7% 5 4.3%
Multi-family residential.... 5 4.3% 3 2.0%
Non-residential............. 5 2.0% 15 6.5%
Secured by deposits......... -- 3.9% -- 3.6%
Other consumer loans........ 7 2.8% 5 2.3%
---------- ------------ ------------ ------------
Total allowance for
loan losses............... $122 100.0% $122 100.0%
========== ============ ============ ============
</TABLE>
INVESTMENT ACTIVITIES
General. The Bank is permitted under federal law to make certain
investments, including investments in securities issued by various federal
agencies and state and municipal governments, deposits at the FHLB of
Cincinnati, certificates of deposit in federally insured institutions, certain
bankers' acceptances and federal funds. It may also invest, subject to certain
limitations, in commercial paper rated in one of the two highest investment
rating categories of a nationally recognized credit rating agency, and certain
other types of corporate debt securities and mutual funds. Federal regulations
require the Bank to maintain an investment in FHLB stock and a minimum amount of
liquid assets which may be invested in cash and specified securities. From time
to time, the OTS adjusts the percentage of liquid assets which savings banks are
required to maintain. See "Regulation -- Regulation of the Bank -- Liquidity
Requirements."
The Bank makes investments in order to maintain the levels of liquid
assets required by regulatory authorities and manage cash flow, diversify its
assets, obtain yield and to satisfy certain requirements for favorable tax
treatment. The investment activities of the Bank consist primarily of
investments in Agency Securities and Mortgage-Backed Securities. Typical
investments include federally sponsored agency mortgage pass-through and
federally sponsored agency and mortgage-related securities. Investment and
aggregate investment limitations and credit quality parameters of each class of
investment are prescribed in the Bank's investment policy. The Bank performs
analyses on mortgage-related securities prior to purchase and on an ongoing
basis to determine the impact on earnings and market value under various
interest rate and prepayment conditions. Securities purchases must be approved
by the Bank's President. The Board of Directors reviews all securities
transactions on a monthly basis.
The principal objective of the Bank's investment policy is to earn as
high a rate of return as possible, but to consider also financial or credit
risk, liquidity risk and interest rate risk.
The Bank had classified securities with an amortized cost of $21.7
million and an approximate market value of $26.7 million at December 31, 1997 as
available for sale. Management of the Bank presently does not intend to sell
such securities and, based on the Bank's current liquidity level and the Bank's
access to borrowings through the FHLB of Cincinnati, management currently does
not anticipate that the Bank will be placed in a position of having to sell
securities with material unrealized losses.
Securities designated as "held to maturity" are those assets which the
Bank has both the ability and the intent to hold to maturity. Upon acquisition,
securities are classified as to the Bank's intent, and a sale would only be
effected due to deteriorating investment quality. The held to maturity
investment portfolio is not used for speculative purposes and is carried at
amortized cost. In the event the Bank sells securities from this portfolio for
other than credit quality reasons, all securities within the investment
portfolio with matching characteristics may be reclassified as assets available
for sale. Securities designated as "available for sale" are those assets which
the Bank may not hold to maturity and thus are carried at market value with
unrealized gains or losses, net of tax effect, recognized in retained earnings.
12
<PAGE>
Mortgage-Backed and Related Securities. Mortgage-backed securities
represent a participation interest in a pool of one-to-four family or multi-
family mortgages, the principal and interest payments on which are passed from
the mortgage originators through intermediaries that pool and repackage the
participation interest in the form of securities to investors such as the Bank.
Such intermediaries may include quasi-governmental agencies such as FHLMC, FNMA
and GNMA which guarantee the payment of principal and interest to investors. Of
the Bank's $26.4 million mortgage-backed security portfolio at December 31,
1997, approximately $20.8 million were originated through GNMA, approximately
$3.6 million were originated through FNMA and approximately $2.0 million were
originated through FHLMC. Mortgage-backed securities generally increase the
quality of the Bank's assets by virtue of the guarantees that back them, are
more liquid than individual mortgage loans and may be used to collateralize
borrowings or other obligations of the Bank.
Mortgage-backed securities typically are issued with stated principal
amounts and the securities are backed by pools of mortgages that have loans with
interest rates that are within a range and have similar maturities. The
underlying pool of mortgages can be composed of either fixed-rate or adjustable-
rate mortgage loans. Mortgage-backed securities generally are referred to as
mortgage participation certificates or pass-through certificates. As a result,
the interest rate risk characteristics of the underlying pool of mortgages,
i.e., fixed-rate or adjustable-rate, as well as prepayment risk, are passed on
to the certificate holder. The life of a mortgage-backed pass-through security
is equal to the life of the underlying mortgages.
The actual maturity of a mortgage-backed security varies, depending on
when the mortgagors prepay or repay the underlying mortgages. Prepayments of
the underlying mortgages may shorten the life of the investment, thereby
adversely affecting its yield to maturity and the related market value of the
Mortgage-backed security. The yield is based upon the interest income and the
amortization of the premium or accretion of the discount related to the
mortgage-backed security. Premiums and discounts on mortgage-backed securities
are amortized or accredited over the estimated term of the securities using a
level yield method. The prepayment assumptions used to determine the
amortization period for premiums and discounts can significantly affect the
yield of the mortgage-backed security, and these assumptions are reviewed
periodically to reflect the actual prepayment. The actual prepayments of the
underlying mortgages depend on many factors, including the type of mortgage, the
coupon rate, the age of the mortgages, the geographical location of the
underlying real estate collateralizing the mortgages and general levels of
market interest rates. The difference between the interest rates on the
underlying mortgages and the prevailing mortgage interest rates is an important
determinant in the rate of prepayments. During periods of falling mortgage
interest rates, prepayments generally increase, and, conversely, during periods
of rising mortgage interest rates, prepayments generally decrease. If the
coupon rate of the underlying mortgage significantly exceeds the prevailing
market interest rates offered for mortgage loans, refinancing generally
increases and accelerates the prepayment of the underlying mortgages.
Prepayment experience is more difficult to estimate for adjustable-rate
mortgage-backed securities.
The following table sets forth the carrying value of the Bank's
investment securities at the dates indicated.
<TABLE>
<CAPTION>
At December 31,
----------------------------------------------------
1997 1996 1995
---------------- ---------------- ----------------
(In thousands)
Securities available for sale:
<S> <C> <C> <C>
FHLB and FHLMC stock........................ $6,895 $5,110 $4,053
U. S. government and agency
securities (1)............................. 13,000 -- --
Mortgage-backed securities.................. 6,789 -- --
Other....................................... 15 15 --
Securities held to maturity:
U.S. government and agency
securities (1)............................. 31,988 77,962 80,990
Mortgage-backed securities.................. 19,578 17,984 17,563
------ ------ ------
Total investment securities................ $78,265 $101,071 $102,606
======= ======== ========
</TABLE>
- -------------------
(1) Primarily reflects debt securities purchased from the FHLB of Cincinnati.
13
<PAGE>
The following table sets forth information in the scheduled maturities,
amortized cost, market values and average yields for the Bank's investment
portfolio at December 31, 1997. At such date, all securities in the Bank's
investment portfolio, except for $4.0 million, were callable.
<TABLE>
<CAPTION>
One Year or Less One to Five Years Total Investment Portfolio
--------------------- --------------------- ----------------------------------
Carrying Average Carrying Average Carrying Market Average
Value Yield Value Yield Value Value Yield
----- ----- ----- ----- ----- ----- -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Securities held to
maturity (1)............... $5,000 5.60% $26,988 5.90% $31,988 $31,839 5.85%
====== ======= ======= =======
</TABLE>
(1) Excludes mortgage-backed securities. See Note 2 of Notes to Financial
Statements.
DEPOSIT ACTIVITY AND OTHER SOURCES OF FUNDS
GENERAL. Deposits are the primary source of the Bank's funds for
lending, investment activities and general operational purposes. In addition to
deposits, the Bank derives funds from loan principal and interest repayments,
maturities of investment securities and mortgage-backed securities and interest
payments thereon. Although loan repayments are a relatively stable source of
funds, deposit inflows and outflows are significantly influenced by general
interest rates and money market conditions. Borrowings may be used on a short-
term basis to compensate for reductions in the availability of funds, or on a
longer term basis for general corporate purposes. The Bank has access to borrow
from the FHLB of Cincinnati, and the Bank will continue to have access to FHLB
of Cincinnati advances. The Bank may rely upon retail deposits rather than
borrowings as its primary source of funding for future asset growth.
DEPOSITS. The Bank attracts deposits principally from within its
market area by offering competitive rates on its deposit instruments, including
money market accounts, passbook savings accounts, Individual Retirement
Accounts, and certificates of deposit which range in maturity from three months
to five years. Deposit terms vary according to the minimum balance required,
the length of time the funds must remain on deposit and the interest rate.
Maturities, terms, service fees and withdrawal penalties for its deposit
accounts are established by the Bank on a periodic basis. The Bank reviews its
deposit mix and pricing on a weekly basis. In determining the characteristics of
its deposit accounts, the Bank considers the rates offered by competing
institutions, lending and liquidity requirements, growth goals and federal
regulations. The Bank does not accept brokered deposits.
The Bank attempts to compete for deposits with other institutions in
its market area by offering competitively priced deposit instruments that are
tailored to the needs of its customers. Additionally, the Bank seeks to meet
customers' needs by providing convenient customer service to the community.
Substantially all of the Bank's depositors are Kentucky residents who reside in
the Bank's market area.
14
<PAGE>
Savings deposits in the Bank at December 31, 1997 were represented by
the various types of savings programs described below.
<TABLE>
<CAPTION>
Balance Percentage
Interest Minimum Minimum (In of Total
Rate* Term Category Amount thousands) Deposits
- ------- --------------------- ------------------------------ ------------- -------------- ---------------
<S> <C> <C> <C> <C>
-- % None Non-interest bearing $ 100 $1,963 0.61%
2.70%* None Demand/NOW accounts 1.500 9,484 2.96
2.75% None Passbook accounts 10 148,080 46.18
3.94%* None Money market deposit accounts 2,500 42,064 13.12
----------- -----------
201,591 62.87
----------- -----------
<CAPTION>
Certificates of Deposit
-----------------------
<S> <C> <C> <C> <C>
4.14% 3 months or less Fixed-term, fixed rate 500 25,506 7.95
5.15% Over 3 to 12-months Fixed-term, fixed-rate 500 59,980 18.71
5.55% Over 12 to 24-months Fixed-term, fixed-rate 500 21,539 6.72
5.53% Over 24 to 36-months Fixed-term, fixed-rate 500 9,564 2.98
5.83% Over 36 to 48-months Fixed-term, fixed-rate 500 1,814 0.57
6.25% Over 48 to 60-months Fixed-term, fixed rate 500 639 0.20
----------- -----------
119,042 37.13
----------- -----------
$320,633 100.00%
=========== ===========
</TABLE>
- ----------------
* Represents weighted average interest rate.
The following table sets forth, for the periods indicated, the average
balances and interest rates based on month-end balances for interest-bearing
demand deposits and time deposits.
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------------------------------------------------------------
1997 1996 1995
---------------------------- ----------------------------- -----------------------------
Interest-bearing Time Interest-bearing Time Interest-bearing Time
demand deposits demand deposits demand deposits
deposits -------- deposits -------- deposits --------
-------- -------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Average
balance.. $71,590 $123,429 $56,437 $133,400 $61,892 $130,460
Average
rate..... 3.51% 5.52% 3.58% 5.48% 3.32% 5.92%
</TABLE>
15
<PAGE>
The following table sets forth the change in dollar amount of deposits in
the various types of accounts offered by the Bank between the dates indicated.
<TABLE>
<CAPTION>
Balance at Increase Balance at Increase
December 31, % of (Decrease) from December 31, % of (Decrease) from
1997 Deposits December 31, 1996 1996 Deposits December 31, 1995
------------- -------- ----------------- ------------ -------- -----------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Non-interest bearing.... $ 1,963 0.61% $179 $1,784 0.97% $548
Demand and NOW
accounts.............. 9,484 2.96% 1,881 7,603 4.14% (25)
Money market............ 42,064 13.12% 5,124 36,940 20.09% 2,158
Passbook savings........ 148,080 46.18% 137,448 10,632 5.78% (565)
Other time deposits..... 119,042 37.13% (7,826) 126,868 69.02% (13,064)
---------- ---------- ---------- ----------- ---------- ------------
$320,633 100.00% $136,806 $183,827 100.00% $(10,948)
========== ========== ========== =========== ========== ============
(continued)
<CAPTION>
Balance at Increase Balance at
December 31, % of (Decrease) from December 31, % of
1995 Deposits December 31, 1994 1994 Deposits
----------- -------- ----------------- ---- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Non-interest bearing.... $1,236 0.63% $102 $1,134 0.61%
Demand and NOW
accounts.............. 7,628 3.92% 817 6,811 3.67%
Money market............ 34,782 17.86% (10,271) 45,053 24.26%
Passbook savings........ 11,197 5.75% (516) 11,713 6.31%
Other time deposits..... 139,932 71.84% 18,944 120,988 65.15%
---------- ---------- ---------- ----------- ----------
Total................. $194,775 100.00% $9,076 $185,699 100.00%
========== ========== ========== =========== ==========
</TABLE>
The following table sets forth the time deposits in the Bank classified by
rates at the dates indicated.
<TABLE>
<CAPTION>
At December 31,
-----------------------------------------------------------------
1997 1996 1995 1994
----------------- --------------- -------------- --------------
(In thousands)
<S> <C> <C> <C> <C>
2.01 - 4.00%....... $39 $38 $58 $21,603
4.01 - 6.00%....... 102,474 103,036 79,288 78,894
6.01 - 8.00%....... 16,529 23,794 60,586 20,491
-------- -------- -------- --------
Total............... $119,042 $126,868 $139,932 $120,988
======== ======== ======== ========
</TABLE>
The following table sets forth the amount and maturities of time deposits
at December 31, 1997.
<TABLE>
<CAPTION>
Amount Due
----------------------------------------------------------------------------------
Less Than One Year 1-2 Years 2-3 Years After 3 Years Total
-------------------- --------------- ------------- ------------- -------------
(In thousands)
<S> <C> <C> <C> <C> <C>
2.01 - 4.00%.................. $ 39 $ -- $ -- $ -- $ 39
4.01 - 6.00%.................. 78,875 17,775 4,596 1,228 102,474
6.01 - 8.00%.................. 6,571 3,765 4,968 1,225 16,529
-------- -------- --------- -------- --------
Total......................... $85,485 $ 21,540 $ 9,564 $ 2,453 $119,042
======== ======== ========= ======== ========
</TABLE>
16
<PAGE>
The following table indicates the amount of the Bank's certificates of
deposit of $100,000 or more by time remaining until maturity as of December 31,
1997.
<TABLE>
<CAPTION>
Maturity Period
Certificates of Deposits
- ------------------------------------------------------------ ----------------------------
(In thousands)
<S> <C>
Three months or less........................................ $1,934
Over three through six months............................... 2,025
Over six through 12 months.................................. 2,403
Over 12 months.............................................. 1,757
------
Total...................................................... $8,119
======
</TABLE>
Certificates of deposit at December 31, 1997 included approximately $8.1
million of deposits with balances of $100,000 or more, compared to $7.4 million
and $12.2 million at December 31, 1996 and 1995, respectively. Such time
deposits may be risky because their continued presence in the Bank is dependent
partially upon the rates paid by the Bank rather than any customer relationship
and, therefore, may be withdrawn upon maturity if another institution offers
higher interest rates. The Bank may be required to resort to other funding
sources such as borrowings or sales of its securities held available for sale if
the Bank believes that increasing its rates to maintain such deposits would
adversely affect its operating results. At this time, the Bank does not believe
that it will need to significantly increase its deposit rates to maintain such
certificates of deposit and, therefore, does not anticipate resorting to
alternative funding sources. The Bank has reduced such time deposits by 33.61%
since December 31, 1995. See Note 5 of Notes to Financial Statements.
The following table sets forth the deposit activities of the Bank for
the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
---------------------------------------------------------------
1997 1996 1995 1994
---- ---- ---- ----
(In thousands)
<S> <C> <C> <C> <C>
Deposits............................. $430,943 $ 149,771 $140,662 $136,357
Withdrawals.......................... (301,475) (167,560) (139,393) (129,749)
-------- -------- -------- --------
Net increase (decrease) before
interest credited................... 129,468 (17,789) 1,269 6,608
Interest credited.................... 7,338 6,841 7,807 5,907
-------- -------- -------- --------
Net increase (decrease) in savings
Deposits............................ $136,806 $ (10,948) $9,076 $12,515
======== ======== ======== ========
</TABLE>
In the unlikely event the Bank is liquidated after the Conversion,
depositors will be entitled to full payment of their deposit accounts prior to
any payment being made to the sole stockholder of the Bank, which is the
Company.
BORROWINGS. Savings deposits historically have been the primary source
of funds for the Bank's lending, investments and general operating activities.
The Bank is authorized, however, to use advances from the FHLB of Cincinnati to
supplement its supply of lendable funds and to meet deposit withdrawal
requirements. The FHLB of Cincinnati functions as a central reserve bank
providing credit for savings institutions and certain other member financial
institutions. As a member of the FHLB System, the Bank is required to own stock
in the FHLB of Cincinnati and is authorized to apply for advances. Advances are
pursuant to several different programs, each of which has its own interest rate
and range of maturities. The Bank has entered into a Cash Management Advance
program with FHLB. See Note 6 of Notes to Financial Statements. Advances from
the FHLB of Cincinnati are secured by FHLB investment securities.
SUBSIDIARY ACTIVITIES
As a federally chartered savings bank, the Bank is permitted to invest an
amount equal to 2% of its assets in subsidiaries, with an additional investment
of 1% of assets where such investment serves primarily community, inner-city and
community development purposes. Institutions meeting their applicable minimum
regulatory capital requirements may invest up to 50% of their regulatory capital
in conforming first mortgage loans to subsidiaries in which they own 10% or more
of the capital stock. The Bank does not have any subsidiaries.
17
<PAGE>
COMPETITION
The Bank faces significant competition both in originating mortgage and
other loans and in attracting deposits. The Bank competes for loans principally
on the basis of interest rates, the types of loans it originates, the deposit
products it offers and the quality of services it provides to borrowers. The
Bank also competes by offering products which are tailored to the local
community. Its competition in originating real estate loans comes primarily from
other savings institutions, commercial banks and mortgage bankers making loans
secured by real estate located in the Bank's market area. Commercial banks,
credit unions and finance companies provide vigorous competition in consumer
lending. Competition may increase as a result of the continuing reduction of
restrictions on the interstate operations of financial institutions.
The Bank attracts its deposits through its five offices primarily from
the local community. Consequently, competition for deposits is principally from
other savings institutions, commercial banks and brokers in the local community
as well as from credit unions. The Bank competes for deposits and loans by
offering what it believes to be a variety of deposit accounts at competitive
rates, convenient business hours, a commitment to outstanding customer service
and a well-trained staff. The Bank believes it has developed strong
relationships with local realtors and the community in general.
The Bank is a community and retail-oriented financial institution.
Management considers the Bank's branch network and reputation for financial
strength and quality customer service as its major competitive advantage in
attracting and retaining customers in its market area. A number of the Bank's
competitors have been acquired by statewide/nationwide banking organizations,
including Bank One, First City Bank (a wholly owned subsidiary of Area
Bancshares, Corp.) and NationsBank. While the Bank is subject to competition
from other financial institutions which may have greater financial and marketing
resources, management believes the Bank benefits by its community orientation
and its long-standing relationship with many of its customers.
EMPLOYEES
As of December 31, 1997, the Company and the Bank had 28 full-time
employees, none of whom were represented by a collective bargaining agreement.
Management considers the Bank's relationships with its employees to be good.
REGULATION
The Bank is chartered as a federal savings bank under the Home Owners'
Loan Act, as amended (the "HOLA"), which is implemented by regulations adopted
and administered by the OTS. As a federal savings bank, the Bank is subject to
regulation, supervision and regular examination by the OTS. The OTS also has
extensive enforcement authority over all savings institutions and their holding
companies, including the Bank and the Company. Federal banking laws and
regulations control, among other things, the Bank's required reserves,
investments, loans, mergers and consolidations, payment of dividends and other
aspects of the Bank's operations. The deposits of the Bank are insured by the
SAIF administered by the FDIC to the maximum extent provided by law ($100,000
for each depositor). In addition, the FDIC has certain regulatory and
examination authority over OTS-regulated savings institutions and may recommend
enforcement actions against savings institutions to the OTS. The supervision
and regulation of the Bank is intended primarily for the protection of the
deposit insurance fund and the Bank's depositors rather than for holders of the
Company's stock or for the Company as the holder of the stock of the Bank.
As a savings and loan holding company, the Company is registered with the
OTS and subject to OTS regulation and supervision under the HOLA. The Company
also is required to file certain reports with, and otherwise comply with the
rules and regulations of, the Commission under the federal securities laws.
The following discussion is intended to be a summary of certain statutes,
rules and regulations affecting the Bank and the Company. A number of other
statutes and regulations have an impact on their operations. The following
summary of applicable statutes and regulations does not purport to be complete
and is qualified in its entirety by reference to such statutes and regulations.
18
<PAGE>
REGULATION OF THE BANK
PROPOSED LEGISLATION. Legislation currently pending before the United
States Congress, if enacted, would have significant effects on the federal
thrift charter and on savings and loan holding companies. Among other things,
the proposed legislation would require a federal savings institution to maintain
10 percent of its assets in home mortgages or securities backed by residential
mortgages originated by the institution, would cause the future branching rights
of federal thrifts to be restricted in the same manner as those of commercial
banks, and would make the OTS a division of the Office of the Comptroller of the
Currency, the regulator of national banks. In addition, holding companies for
savings institutions generally would be treated for regulatory purposes as bank
holding companies and subject to the supervision of the Federal Reserve Board
(the "FRB"). However, the business activity powers of unitary savings and loan
holding companies that, like the Company, were in control of a single savings
institution on the date of enactment of the proposed legislation generally would
be grandfathered under the current proposal, and such grandfathered holding
companies would not become subject to regulation by the FRB for three years
after enactment.
The Company cannot predict whether or in what form the proposed
legislation will be enacted. However, based upon the provisions of the
currently pending legislation, the management of the Company does not believe
that the enactment of such legislation would have a material adverse effect on
its financial condition or results of operations.
BUSINESS ACTIVITIES. The Bank derives its lending and investment powers
from the HOLA and the regulations of the OTS thereunder. Under these laws and
regulations, the Bank may invest in mortgage loans secured by residential and
commercial real estate, commercial and consumer loans, certain types of
commercial paper and debt securities, and certain other assets. The Bank may
also establish service corporations that may engage in activities not otherwise
permissible for the Bank, including certain real estate equity investments and
securities and insurance brokerage. These investment powers are subject to
various limitations.
BRANCHING. Subject to certain limitations, OTS regulations currently
permit a federally chartered savings institution like the Bank to establish
branches in any state of the United States, provided that the federal savings
institution qualifies as a "domestic building and loan association" under the
Internal Revenue Code. See "-- Qualified Thrift Lender Test." The authority
for a federal savings institution to establish an interstate branch network
would facilitate a geographic diversification of the institution's activities.
However, recently proposed federal legislation could, if enacted, restrict the
Bank's ability to establish interstate branches other than by merger. See "--
Proposed Legislation."
REGULATORY CAPITAL. The OTS has adopted capital adequacy regulations
that require savings institutions such as the Bank to meet three minimum capital
standards: a "core" capital requirement of 3% of adjusted total assets, a
"tangible" capital requirement of 1.5% of adjusted total assets, and a "risk-
based" capital requirement of 8% of total risk-based capital to total risk-
weighted assets. In addition, the OTS has adopted regulations imposing certain
restrictions on savings institutions that have a total risk-based capital ratio
of less than 8%, a ratio of Tier 1 capital to risk-weighted assets of less than
4% or a ratio of Tier 1 capital to total assets of less than 4% (or 3% if the
institution is rated Composite 1 under the CAMEL examination rating system).
See "-- Prompt Corrective Regulatory Action."
The core capital, or "leverage ratio," requirement mandates that a
savings institution maintain core capital equal to at least 3% of its adjusted
total assets. "Core capital" includes common stockholders' equity (including
retained earnings), noncumulative perpetual preferred stock and related surplus,
minority interests in the equity accounts of fully consolidated subsidiaries and
certain nonwithdrawable accounts and pledged deposits and is generally reduced
by the amount of the savings institution's intangible assets, with limited
exceptions for permissible mortgage servicing rights ("MSRs"), purchased credit
card relationships and certain intangible assets arising from prior regulatory
accounting practices. Core capital is further reduced by the amount of a savings
institution's investments in and loans to subsidiaries engaged in activities not
permissible for national banks. At December 31, 1997, the Bank had no such
investments.
The risk-based capital standards of the OTS require maintenance of core
capital equal to at least 4% of risk-weighted assets and total capital equal to
at least 8% of risk-weighted assets. For purposes of the risk-based capital
requirement, "total capital" includes core capital plus supplementary capital,
provided that the amount of
19
<PAGE>
supplementary capital does not exceed the amount of core capital. Supplementary
capital includes preferred stock that does not qualify as core capital,
nonwithdrawable accounts and pledged deposits to the extent not included in core
capital, perpetual and mandatory convertible subordinated debt and maturing
capital instruments meeting specified requirements and a portion of the
institution's loan and lease loss allowance.
The risk-based capital requirement is measured against risk-weighted
assets, which equal the sum of each asset and the credit-equivalent amount of
each off-balance sheet item after being multiplied by an assigned risk weight,
which range from 0% to 100% as assigned by the OTS capital regulations based on
the risks the OTS believes are inherent in the type of asset. Comparable risk
weights are assigned to off-balance sheet assets.
The OTS risk-based capital regulation also includes an interest rate risk
("IRR") component that requires savings institutions with greater than normal
IRR, when determining compliance with the risk-based capital requirements, to
maintain additional total capital. The OTS has, however, indefinitely deferred
enforcement of its IRR requirements.
The following table sets forth the Bank's compliance with its regulatory
capital requirements at December 31, 1997.
<TABLE>
<CAPTION>
Capital
The Bank's Capital Requirements Excess Capital
--------------------- --------------------- ---------------------
Amount Percent Amount Percent Amount Percent
---------- --------- ---------- --------- ---------- ---------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Tangible capital.............. $16,613 4.88% $5,110 1.50% $11,503 3.38%
Core capital.................. $16,613 4.88% $10,221 3.00% $6,392 1.88%
Total risk-based capital...... $16,850 16.50% $8,172 8.00% $8,678 8.50%
</TABLE>
PROMPT CORRECTIVE REGULATORY ACTION. Under the Federal Deposit Insurance
Corporation Improvement Act of 1991 ("FDICIA"), the federal banking regulators
are required to take prompt corrective action in respect of depository
institutions that do not meet certain minimum capital requirements, including a
leverage limit and a risk-based capital requirement. All institutions,
regardless of their capital levels, are restricted from making any capital
distribution or paying any management fees that would cause the institution to
become undercapitalized. The federal banking regulators, including the OTS,
have issued regulations that classify insured depository institutions by capital
levels and provide that the applicable agency will take various prompt
corrective actions to resolve the problems of any institution that fails to
satisfy the capital standards.
Under the joint prompt corrective action regulations, a "well-capitalized"
institution is one that is not subject to any regulatory order or directive to
meet any specific capital level and that has or exceeds the following capital
levels: a total risk-based capital ratio of 10%, a Tier 1 risk-based capital
ratio of 6%, and a ratio of Tier 1 capital to total assets (`leverage ratio") of
5%. An "adequately capitalized" institution is one that does not qualify as
"well capitalized" but meets or exceeds the following capital requirements: a
total risk-based capital of 8%, a Tier 1 risk-based capital ratio of 4%, and a
leverage ratio of either (i) 4% or (ii) 3% if the institution has the highest
composite examination rating. An institution not meeting these criteria is
treated as "undercapitalized," "significantly undercapitalized," or "critically
undercapitalized" depending on the extent to which its capital levels are below
these standards. An institution that fails within any of the three
"undercapitalized" categories will be subject to certain severe regulatory
sanctions required by FDICIA and the implementing regulations. As of December
31, 1997, the Bank was "well-capitalized" as defined by the regulations.
FEDERAL DEPOSIT INSURANCE. The Bank is required to pay assessments, based
on a percentage of its insured deposits, to the FDIC for insurance of its
deposits by the SAIF. The FDIC has established a risk-based deposit insurance
assessment system for insured depository institutions, under which insured
institutions are assigned assessment risk classifications based upon capital
levels and supervisory evaluations.
In 1995 and 1996, institutions with SAIF-assessable deposits, like the
Bank, were required to pay higher deposit insurance premiums than institutions
with deposits insured by the Bank Insurance Fund (the "BIF"). In order to
recapitalize the SAIF and to address the insurance premium disparity, the
Deposit Funds Insurance Act of
20
<PAGE>
1996 (the "1996 Act") authorized the FDIC to impose a one-time special
assessment on all institutions with SAIF-assessable deposits in the amount
necessary to recapitalize the SAIF to the statutorily designated reserve ratio
of 1.25% of insured deposits. In view of the recapitalization of the SAIF, the
FDIC set the effective insurance assessment rates payable by SAIF-insured
institutions for 1997 at $0 to 0.27% of insured deposits, depending on an
individual institution's risk classification. In addition, SAIF-insured
institutions will be required, until December 31, 1999, to pay assessments to
the FDIC at the annual rate of approximately .066% of insured deposits to help
fund interest payments on certain bonds issued by the Financing Corporation
("FICO"), an agency of the federal government established to recapitalize the
predecessor to the SAIF. During this period, BIF member banks will be assessed
for payment of the FICO obligations at the annual rate of .013% of insured
deposits. After December 31, 1999, BIF and SAIF member institutions will be
assessed at the same rate for the FICO obligations.
The 1996 Act also provides that the FDIC may not assess regular insurance
assessments for the SAIF unless required to maintain or to achieve the
designated reserve ratio of 1.25%, except for such assessments on those
institutions that are not classified as "well-capitalized" or that have been
found to have "moderately severe" or "unsatisfactory" financial, operational or
compliance weaknesses. The Bank is classified as "well-capitalized" and has not
been found by the OTS to have such supervisory weaknesses.
QUALIFIED THRIFT LENDER TEST. The HOLA and OTS regulations require all
savings institutions to satisfy one of two Qualified Thrift Lender ("QTL") tests
or to suffer a number of sanctions, including restrictions on activities. To
qualify as a QTL, a savings institution must either (i) be deemed a "domestic
building and loan association" under the Internal Revenue Code (the "Code") by
maintaining at least 60% of its total assets in specified types of assets,
including cash, certain government securities, loans secured by and other assets
related to residential real property, educational loans, and investments in
premises of the institution or (ii) satisfy the HOLA's QTL test by maintaining
at least 65% of "portfolio assets" in certain "Qualified Thrift Investments."
For purposes of the HOLA's QTL test, portfolio assets are defined as total
assets less intangibles, property used by a savings institution in its business
and liquidity investments in an amount not exceeding 20% of assets. Qualified
Thrift Investments consist of (a) loans, equity positions or securities related
to domestic, residential real estate or manufactured housing, (b) 50% of the
dollar amount of residential mortgage loans subject to sale under certain
conditions, and (c) loans to small businesses, student loans and credit card
loans. In addition, subject to a 20% of portfolio assets limit, savings
institutions are able to treat as Qualified Thrift Investments 200% of their
investments in loans to finance "starter homes" and loans for construction,
development or improvement of housing and community service facilities or for
financing small business in "credit needy" areas.
A savings institution must maintain its status as a QTL on a monthly basis
in at least nine out of every 12 months. An initial failure to qualify as a QTL
results in a number of sanctions, including the imposition of certain operating
restrictions and a restriction on obtaining additional advances from its Federal
Home Loan Bank. If a savings institution does not requalify under the QTL test
within the three-year period after it fails the QTL test, it would be required
to terminate any activity not permissible for a national bank and repay as
promptly as possible any outstanding advances from its Federal Home Loan Bank.
In addition, the holding company of such an institution, such as the Company,
would similarly be required to register as a bank holding company with the
Federal Reserve Board. At December 31, 1997, the Bank qualified as a QTL.
SAFETY AND SOUNDNESS STANDARDS. FDICIA required the OTS, together with the
other federal bank regulatory agencies, to prescribe standards, by regulation or
guideline, relating to internal controls, information systems and internal audit
systems, loan documentation, credit underwriting, interest rate risk exposure,
asset growth, asset quality, earnings, stock valuation, and compensation, fees
and benefits and such other operational and managerial standards as the agencies
deem appropriate. The OTS and the federal bank regulatory agencies have adopted
guidelines prescribing safety and soundness standards pursuant to the statute.
The safety and soundness guidelines establish general standards relating to
internal controls and information systems, internal audit systems, loan
documentation, credit underwriting, interest rate exposure, asset growth, and
compensation, fees and benefits. In general, the guidelines require, among
other things, appropriate systems and practices to identify and manage the risks
and exposures specified in the guidelines. The guidelines prohibit excessive
compensation as an unsafe and unsound practice and describe compensation as
excessive when the amounts paid are unreasonable or disproportionate to the
services performed by an executive officer, employee, director or principal
stockholder.
In addition, pursuant to FDICIA, the OTS and the federal bank regulatory
agencies have proposed guidelines for asset quality and earnings standards.
Under the proposed standards, a savings institution would be
21
<PAGE>
required to maintain systems, commensurate with its size and the nature and
scope of its operations, to identify problem assets and prevent deterioration in
those assets as well as to evaluate and monitor earnings and ensure that
earnings are sufficient to maintain adequate capital and reserves. Management
believes that the asset quality and earnings standards, in the form proposed by
banking agencies, would not have a material effect on the operations of the
Bank.
LIMITATIONS ON CAPITAL DISTRIBUTIONS. OTS regulations impose limitations
upon capital distributions by savings institutions, such as cash dividends,
payments to repurchase or otherwise acquire its shares, payments to stockholders
of another institution in a cash-out merger and other distributions charged
against capital. A savings institution must give notice to the OTS at least 30
days before declaration of a proposed capital distribution to its holding
company, and capital distributions in excess of specified earnings or by certain
institutions are subject to approval by the OTS. A savings institution that has
capital in excess of all regulatory capital requirements before and after a
proposed capital distribution and that is not otherwise restricted in making
capital distributions, may, after prior notice but without the approval of the
OTS, make capital distributions during a calendar year equal to the greater of
(a) 100% of its net income to date during the calendar year plus the amount that
would reduce by one-half its "surplus capital ratio" (the excess capital over
its fully phased-in capital requirements) at the beginning of the calendar year,
or (b) 75% of its net income for the previous four quarters. Any additional
capital distributions would require prior OTS approval.
The OTS has proposed regulations that would simplify the existing
procedures governing capital distributions by savings institutions. Under the
proposed regulations, the approval of the OTS would be required only for capital
distributions by an institution that is deemed to be in troubled condition or
that is undercapitalized or would be undercapitalized after the capital
distribution. A savings institution would be able to make a capital
distribution without notice to or approval of the OTS if it is not held by a
savings and loan holding company, is not deemed to be in troubled condition, has
received either of the two highest composite supervisory ratings and would
continue to be adequately capitalized after such distribution. Notice would
have to be given to the OTS by any institution that is held by a savings and
loan holding company or that had received a composite supervisory rating below
the highest two composite supervisory ratings. An institution's capital rating
would be determined under the prompt corrective action regulations. See "--
Prompt Corrective Regulatory Action."
Under OTS regulations, the Bank would not be permitted to pay dividends on
its capital stock if its regulatory capital would thereby be reduced below the
amount then required for the liquidation account established for the benefit of
certain depositors of the Bank at the time of the Conversion. In addition,
under the OTC's prompt corrective action regulations, the Bank would be
prohibited from paying dividends if the Bank were classified as
"undercapitalized" under such rules. See "-- Prompt Corrective Regulatory
Action."
In addition to the foregoing, earnings of the Bank appropriated to bad debt
reserves and deducted for federal income tax purposes are not available for
payment of dividends or other distributions to the Company without payment of
taxes at the then current tax rate by the Bank on the amount of earnings removed
from the reserves for such distributions. See "Taxation."
TRANSACTIONS WITH AFFILIATES. The Bank is subject to restrictions imposed
by Sections 23A and 23B of the Federal Reserve Act on extensions of credit to,
and certain other transactions with, the Company and other affiliates, and on
investments in the stock or other securities thereof. Such restrictions prevent
the Company and such other affiliates from borrowing from the Bank unless the
loans are secured by specified collateral, and require such transactions to have
terms comparable to terms of arms-length transactions with third persons.
Further, such secured loans and other transactions and investments by the Bank
are generally limited in amount as to the Company and as to any other affiliate
to 10% of the Bank's capital and surplus and as to the Company and all other
affiliates to an aggregate of 20% of the Bank's capital and surplus. These
restrictions may limit the Company's ability to obtain funds from the Bank for
its cash needs, including funds for acquisitions and for payment of dividends,
interest and operating expenses.
22
<PAGE>
LOANS TO DIRECTORS, EXECUTIVE OFFICERS AND PRINCIPAL STOCKHOLDERS. The
Bank's ability to extend credit to its directors, executive officers, and 10%
stockholders, as well as to entities controlled by such persons, is governed by
the requirements of Sections 22(g) and 22(h) of the Federal Reserve Act and
Regulation O of the Federal Reserve Board thereunder. Among other things, these
provisions require that an institution's extensions of credit to insiders (a) be
made on terms that are substantially the same as, and follow credit underwriting
procedures that are not less stringent than, those prevailing for comparable
transactions with unaffiliated persons and that do not involve more than the
normal risk of repayment or present other unfavorable features and (b) not
exceed certain limitations on the amount of credit extended to such persons,
individually and in the aggregate, which limits are based, in part, on the
amount of the institution's capital. In addition, extensions of credit in
excess of certain limits must be approved by the institution's Board of
Directors.
RESERVE REQUIREMENTS. Pursuant to FRB regulations, all FDIC-insured
depository institutions must maintain average daily reserves against their
transaction accounts. No reserves are required to be maintained on the first
$4.7 million of transaction accounts, and reserves equal to 3% must be
maintained on the next $47.8 million of transaction accounts, plus reserves
equal to 10% on the remainder. These percentages are subject to adjustment by
the FRB. Because required reserves must be maintained in the form of vault cash
or in a non-interest-bearing account at a Federal Reserve Bank, the effect of
the reserve requirement is to reduce the amount of the institution's interest-
earning assets. As of December 31, 1997, the Bank met its reserve requirements.
LIQUIDITY REQUIREMENTS. The Bank is required by OTS regulation to maintain
an average daily balance of liquid assets (cash, certain time deposits, bankers'
acceptances, highly rated corporate debt and commercial paper, qualifying
mortgage-related securities and mortgage loans, securities of certain mutual
funds, and specified United Sates government, state or federal agency
obligations) equal to the monthly average of not less than a specified
percentage (currently 4%) of its net withdrawable accounts plus short-term
borrowings. The average daily liquidity ratio of the Bank for the month ended
December 31, 1997 was 65.36%.
FEDERAL HOME LOAN BANK SYSTEM. The Federal Home Loan Bank System consists
of 12 district Federal Home Loan Banks subject to supervision and regulation by
the Federal Housing Finance Board ("FHFB"). The Federal Home Loan Banks provide
a central credit facility primarily for member institutions. As a member of the
FHLB, the Bank is required to acquire and hold shares of capital stock in the
FHLB in an amount at least equal to 1% of the aggregate unpaid principal of its
home mortgage loans, home purchase contracts, and similar obligations at the
beginning of each year, or 1/20 of its advances (borrowings) from the FHLB,
whichever is greater. The Bank was in compliance with this requirement, with an
investment in FHLB stock at December 31, 1997 of $1,725,400. Long-term FHLB
advances may only be made for the purpose of providing funds for residential
housing finance. At December 31, 1997, the Bank had no total advances
outstanding from the FHLB.
REGULATION OF THE COMPANY
The Company is a savings and loan holding company under the HOLA and, as
such, is subject to OTS regulation, supervision and examination. In addition,
the OTS has enforcement authority over the Company and its non-savings
institution subsidiaries and may restrict or prohibit activities that are
determined to represent a serious risk to the safety, soundness or stability of
the Bank or any other subsidiary savings institution.
Under the HOLA, a savings and loan holding company is required to obtain
the prior approval of the OTS before acquiring another savings institution or
savings and loan holding company. A savings and loan holding company may not
(i) acquire, with certain exceptions, more than 5% of a non-subsidiary savings
institution or a non-subsidiary savings and loan holding company; or (ii)
acquire or retain control of a depository institution that is not insured by the
FDIC. In addition, while the Bank generally may acquire a savings institution by
merger in any state without restriction by state law, the Company could acquire
control of an additional savings institution in a state other than Kentucky only
if such acquisition is permitted under the laws of the target institution's home
state.
As a unitary savings and loan holding company, the Company generally will
not be subject to any restriction as to the types of business activities in
which it may engage, provided that the Bank continues to satisfy the QTL test.
See "-- Regulation and Supervision of the Bank -- Qualified Thrift Lender
Test." Legislation currently pending in the United States Congress would, if
enacted, restrict the business activities of unitary savings and loan holding
companies. See "Regulation of the Bank -- Proposed Legislation."
23
<PAGE>
Upon any non-supervisory acquisition by the Company of another savings
institution that is held as a separate subsidiary, the Company would become a
multiple savings and loan holding company and would be subject to limitations on
the types of business activities in which it could engage. The HOLA limits the
activities of a multiple savings and loan holding company and its non-insured
institution subsidiaries primarily to activities permissible for bank holding
companies under the Bank Holding Company Act, subject to the prior approval of
the OTS, and to other activities authorized by OTS regulation.
FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K, including all documents incorporated
herein by reference, contains forward-looking statements. Additional written or
oral forward-looking statements may be made by the Company from time to time in
filings with the Securities and Exchange Commission or otherwise. The words
"believe," "expect," "seek," and "intend" and similar expressions identify
forward-looking statements, which speak only as of the date the statement is
made. Such forward-looking statements are within the meaning of that term in
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. Such statements may include, but
are not limited to, projections of income or loss, expenditures, acquisitions,
plans for future operations, financing needs or plans relating to services of
the Company, as well as assumptions relating to the foregoing. Forward-looking
statements are inherently subject to risks and uncertainties, some of which
cannot be predicted or quantified. Future events and actual results could
differ materially from those set forth in, contemplated by or underlying the
forward-looking statements.
The Company does not undertake, and specifically disclaims, any obligation
to publicly release the results of revisions which may be made to forward-
looking statements to reflect the occurrence of anticipated or unanticipated
events or circumstances after the date of such statements.
24
<PAGE>
ITEM 2. PROPERTIES
The following table sets forth information regarding the Bank's offices at
December 31, 1997.
<TABLE>
<CAPTION>
Approximate
Square Footage of
Year Opened Owned or Leased Book Value (1) Office
------------- ----------------- ------------------- ---------------------
(In thousands)
<S> <C> <C> <C> <C>
MAIN OFFICE:
2700 Fort Campbell Boulevard
Hopkinsville, Kentucky 42240....... 1995 Owned $1,848 16,575
BRANCH OFFICES:
Downtown Branch Office
605 South Virginia Street
Hopkinsville, Kentucky............ 1997 Owned $ 176 756
Murray Branch Office
7th and Main Streets
Murray, Kentucky.................. 1969 Owned $ 70 4,800
Cadiz Branch Office (2)
67 Main Street
Cadiz, Kentucky................... 1974 Leased $ 3 600
Elkton Branch Office
West Main Street
Elkton, Kentucky.................. 1976 Owned $ 52 3,400
Real Estate Lot
Cadiz, Kentucky (2)............... 1996 Owned $ 158 2,200
------
$2,307
======
</TABLE>
(1) Represents the book value of land, building, furniture, fixtures and
equipment owned by the Bank.
(2) This branch office will be relocated to a new lot in Cadiz purchased by the
Bank. Construction of the new branch office is in progress.
ITEM 3. LEGAL PROCEEDINGS
From time to time, the Bank is a party to various legal proceedings
incident to its business. At December 31, 1997, there were no legal proceedings
to which the Company or the Bank was a party, or to which any of their property
was subject, which were expected by management to result in a material loss to
the Company or the Bank. There are no pending regulatory proceedings to which
the Company, the Bank or its subsidiaries is a party or to which any of their
properties is subject which are currently expected to result in a material loss.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
EXECUTIVE OFFICERS OF THE REGISTRANT
BRUCE THOMAS. Mr. Thomas, 60, has served as President and Chief
Executive Officer of the Bank since 1992. He has been an employee of the Bank
since 1962. Mr. Thomas also serves as President and Chief Executive Officer of
the Company.
PEGGY R. NOEL. Ms. Noel, 59, has served as Executive Vice President,
Chief Financial Officer and Chief Operations Officer of the Bank since 1990.
She has been an employee of the Bank since 1966. Ms. Noel also serves as Vice
President, Chief Financial Officer and Treasurer of the Company.
25
<PAGE>
BOYD M. CLARK. Mr. Clark, 52, has served as Senior Vice President --
Loan Administration of the Bank since 1995. Prior to his current position, Mr.
Clark served as First Vice President of the Bank. He has been an employee of
the Bank since 1973. Mr. Clark also serves as Vice President and Secretary of
the Company.
All officers serve at the discretion of the boards of directors of the
Company or the Bank. There are no known arrangements or understandings between
any office and any other person pursuant to which he or she was or is to be
selected as an officer.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
See "Market and Dividend Information" incorporated herein by reference
to the Company's Annual Report to Stockholders for the year ended December 31,
1997 (Exhibit No. 13) which is incorporated herein by reference.
ITEM 6. SELECTED FINANCIAL DATA
The information set forth under the caption "Selected Financial
Information and Other Data" in the Company's Annual Report to Stockholders for
the year ended December 31, 1997 (Exhibit No. 13) which is incorporated herein
by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information set forth under the caption "Management's Discussion
and Analysis of Financial Condition and Results of Operations" in the Company's
Annual Report to Stockholders for the year ended December 31, 1997 (Exhibit No.
13) which is incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information set forth under the caption "Management's Discussion
and Analysis of Financial Condition and Results of Operations Interest Rate
Sensitivity Analysis" in the Company's Annual Report to Stockholders for the
year ended December 31, 1997 (Exhibit No. 13) which is incorporated herein by
reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Bank's Financial Statements together with the related notes and the
report of York, Neel & Co. Hopkinsville, LLP, independent public accountants,
all as set forth in the Company's Annual Report to Stockholders for the year
ended December 31, 1997 (Exhibit No. 13) which are incorporated herein by
reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
26
<PAGE>
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors of the Company is omitted from this
Report as the Company will file a definitive proxy statement within 120 days
after the end of the fiscal year covered by this Form (the "Proxy Statement"),
and the information included therein under "Proposal I -- Election of Directors"
is incorporated herein by reference. Information regarding the executive
officers of the Company is included under separate caption in Part I of this
Form 10-K. Item 405 of Regulation S-K disclosure is omitted from this Report as
the Company will file the Proxy Statement and the Item 405 disclosure therein
under "Section 16(a) Beneficial Ownership Reporting Compliance" which is
incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information regarding executive compensation is omitted from this
Report as the Company will file the Proxy Statement, and the information
included therein under "Proposal I -- Election of Directors" which is
incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by this Item is omitted from this Report as the
Company will file the Proxy Statement, and the information included therein
under "Voting Securities and Principal Holders Thereof" and "Proposal I
Election of Directors" which is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this Item is omitted from this Report as the
Company will file the Proxy Statement, and the information included therein
under "Proposal I -- Election of Directors" which is incorporated herein by
reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) The following consolidated financial statements of the Company
included in the Annual Report to Stockholders for the year ended December 31,
1997, are incorporated herein by reference in Item 8 of this Report. The
remaining information appearing in the Annual Report to Stockholders is not
deemed to be filed as part of this Report, except as expressly provided herein.
1. Independent Auditor's Report.
2. Statements of Financial Condition - December 31, 1997 and 1996.
3. Statements of Income for the Years Ended December 31, 1997, 1996
and 1995.
4. Statements of Equity for the Years Ended December 31, 1997, 1996
and 1995.
5. Statements of Cash Flows for the Years Ended December 31, 1997,
1996 and 1995.
6. Notes to Financial Statements.
(a)(2) All schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are not
required under the related instructions or are inapplicable and therefore have
been omitted.
27
<PAGE>
(a)(3) The following exhibits either are filed as part of this Report or
are incorporated herein by reference:
Exhibit No. 2. Plan of Conversion of Hopkinsville Federal Savings
--------------------------------------------------
Bank. Incorporated herein by reference to Exhibit No. 2 to
----
Registrant's Registration Statement on Form S-1 (File No. 333-30215).
Exhibit No. 3.1. Certificate of Incorporation. Incorporated herein
----------------------------
by reference to Exhibit No. 3.1 to Registrant's Registration Statement
on Form S-1 (File No. 333-30215).
Exhibit No. 3.2. Bylaws. Incorporated herein by reference to Exhibit
------
No. 3.2 to Registrant's Registration Statement on Form S-1 (File No.
333-30215).
Exhibit No. 10.1. Employment Agreements by and between Hopkinsville
-------------------------------------------------
Federal Savings Bank and Bruce Thomas, Peggy Noel and Boyd Clark.
----------------------------------------------------------------
Incorporated herein by reference to Exhibit No. 10.1 to Registrant's
Registration Statement on Form S-1 (File No. 333-30215).
Exhibit No. 10.2. Employment Agreements by and between HopFed
-------------------------------------------
Bancorp, Inc. and Bruce Thomas, Peggy Noel and Boyd Clark.
---------------------------------------------------------
Incorporated herein by reference to Exhibit No. 10.2 to Registrant's
Registration Statement on Form S-1 (File No. 333-30215).
Exhibit No. 13. Annual Report to Stockholders
-----------------------------
Except for those portions of the Annual Report to Stockholders for the
year ended December 31, 1997, which are expressly incorporated herein
by reference, such Annual Report is furnished for the information of
the Commission and is not to be deemed "filed" as part of this Report.
Exhibit No. 21. Subsidiaries of the Registrant.
------------------------------
Exhibit No. 27. Financial Data Schedule (SEC use only)
-----------------------
(b) Not applicable.
(c) Exhibits to this Form 10-K are attached or incorporated by reference
as stated above.
(d) None.
28
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
behalf by the undersigned, thereunto duly authorized.
HOPFED BANCORP, INC.
(Registrant)
Date: April 15, 1998 By: /s/ Bruce Thomas
----------------
Bruce Thomas
President and
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities indicated and on the dates indicated.
DATE: SIGNATURE AND TITLE:
/s/ Bruce Thomas April 15, 1998
- ----------------
Bruce Thomas
Director, President and Chief Executive Officer
(Principal Executive Officer)
/s/ Peggy R. Noel April 15, 1998
- -----------------
Peggy R. Noel
Director, Vice President, Chief
Financial Officer and Treasurer
(Principal Financial and Accounting Officer)
/s/ WD Kelley April 15, 1998
- -------------
WD Kelley
Chairman of the Board
/s/ Boyd M. Clark April 15, 1998
- -----------------
Boyd M. Clark
Director, Vice President and Secretary
/s/ Clifton H. Cochran April 15, 1998
- ----------------------
Clifton H. Cochran
Director
/s/ Walton G. Ezell April 15, 1998
- -------------------
Walton G. Ezell
Director
<PAGE>
/s/ John Noble Hall, Jr. April 15, 1998
- ------------------------
John Noble Hall, Jr.
Director
/s/ Chester K. Wood April 15, 1998
- -------------------
Chester K. Wood
Director
2
<PAGE>
EXHIBIT 13
HOPFED BANCORP, INC.
[LOGO]
ANNUAL REPORT
1997
<PAGE>
HOPFED BANCORP, INC.
- --------------------------------------------------------------------------------
HopFed Bancorp, Inc., a Delaware corporation (the "Company"), was organized by
Hopkinsville Federal Savings Bank (the "Bank") for the purpose of serving as the
holding company of the Bank. On February 6, 1998, the Bank converted from mutual
to stock form as a wholly owned subsidiary of the Company. In conjunction with
the conversion, the Company issued and sold 4,033,625 shares of its common stock
(the "Common Stock") at a price of $10.00 per share (the "Purchase Price").
Accordingly, the financial statements and related data in this report as of
December 31, 1997 relate to the Bank.
The Company is classified as a unitary savings and loan holding company subject
to regulation by the Office of Thrift Supervision ("OTS") of the Department of
the Treasury. The primary activity of the Company is overseeing the business of
the Bank and investing the portion of the net proceeds retained by it from the
sale of Common Stock.
The Bank is a federal stock savings bank headquartered in Hopkinsville,
Kentucky, with branch offices in Hopkinsville, Murray, Cadiz and Elkton,
Kentucky. The Bank was incorporated in 1879 as a Kentucky chartered building
and loan association. In 1940, the Bank converted to a federal charter and
obtained federal insurance of accounts. In 1983, the Bank became a federal
mutual savings bank and adopted its current corporate title. The business of
the Bank primarily consists of attracting deposits from the general public and
investing such deposits in loans secured by one-to-four residential properties.
The executive offices of the Company and the Bank are located at 2700 Fort
Campbell Boulevard, Hopkinsville, Kentucky 42240. The telephone number is (502)
885-1171.
MARKET AND DIVIDEND INFORMATION
- --------------------------------------------------------------------------------
MARKET FOR THE COMMON STOCK
Since February 9, 1998, the Common Stock has been quoted on the Nasdaq Stock
Market under the symbol "HFBC." As of March 31, 1998, there were approximately
1,900 stockholders of record, excluding beneficial owners in nominee or street
name.
DIVIDEND POLICY
The Company currently intends, subject to the factors noted below, to declare
and pay quarterly dividends commencing after the first full calendar quarter
following completion of the conversion (i.e., after June 30, 1998). It is
currently anticipated that the annual amount of such dividend will be equal to
approximately 3% of the Purchase Price (which is equal to a quarterly dividend
of $0.075 per share). Dividends, when and if paid, will be subject to
determination and declaration by the Board of Directors in its discretion, which
will take into account the Company's consolidated financial condition and
results of operations, the Bank's regulatory capital requirements, tax
considerations, economic conditions, regulatory restrictions, other factors, and
there can be no assurance that dividends will be paid, or if paid, will continue
to be paid in the future. The payment of dividends by the Company will depend
in large part upon the Company's earnings on the proceeds from the conversion
and the receipt of dividends from the Bank, which is subject to various tax and
regulatory restrictions on the payment of dividends.
TABLE OF CONTENTS
- --------------------------------------------------------------------------------
Hopfed Bancorp, Inc................................Inside Front Cover
Market and Dividend Information....................Inside Front Cover
Letter to Stockholders..............................................1
Selected Financial Information And Other Data.......................2
Management's Discussion and Analysis of
Financial Condition and Results of Operations.....................4
Financial Statements...............................................18
Corporate Information..............................Inside Back Cover
<PAGE>
LETTER TO STOCKHOLDERS
- --------------------------------------------------------------------------------
To Our Stockholders,
Following an overwhelming positive response to our stock offering, we are
pleased to present this first Annual Report of HopFed Bancorp, Inc.
1997 was an important year in the history of Hopkinsville Federal Savings
Bank! After serving the local area for 118 years as a mutual institution, the
Board of Directors chose to convert to a stock savings bank. In May 1997,
HopFed Bancorp, Inc. was formed to be a publicly-held holding company for
Hopkinsville Federal Savings Bank. A total of 4,033,625 shares of common stock
of HopFed Bancorp, Inc. were sold in February 1998 at a purchase price of $10.00
per share.
Financial results for 1997 were as a mutual institution, as the stock
conversion was completed on February 6, 1998. The Bank experienced a profitable
year, earning $2.0 million, which was a return on average assets of 0.93% and a
return on average equity of 11.13%. In 1997, loans receivable, net increased to
$103.5 million, compared to $95.5 million in 1996.
Asset quality is important to your Board of Directors and Management. The
Bank continues to maintain high underwriting and investment standards. No loans
were charged off in 1997.
In 1997, the Bank continued its revised business strategy of repricing its
deposit liabilities so that its interest rates are more consistent with the
rates offered by other financial institutions in its market area. The Bank also
continued to emphasize the ongoing shift of funds from investments in mortgage-
backed and other securities to adjustable-rate mortgage loans depending upon
loan demand in the Bank's market area.
As a result of the Bank's business strategy, the Bank's interest rate
spread increased to 1.93% for the year ended December 31, 1997, from 1.35% and
0.84% for the years ended December 31, 1996 and 1995, respectively.
The Directors, Management and Employees of HopFed Bancorp, Inc. are looking
forward to our first year as a stock company and the opportunity to serve our
community as a locally owned financial institution. We are committed to meeting
the challenges of the financial services industry while maintaining our
tradition of first class service to our customers. Thank you for your trust and
support as we move forward to a new and exciting era in the history of your
Company.
Sincerely,
Bruce Thomas
President and Chief Executive Officer
1
<PAGE>
SELECTED FINANCIAL INFORMATION AND OTHER DATA
- --------------------------------------------------------------------------------
The following summary of selected financial information and other data does
not purport to be complete and is qualified in its entirety by reference to the
detailed information and Financial Statements and accompanying Notes appearing
elsewhere in this Report.
<TABLE>
<CAPTION>
Financial Condition and
Other Data At December 31,
------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
Total amount of: (Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Assets............................. $ 343,995 $ 204,398 $ 212,598 $ 202,128 $ 188,826
Loans receivable, net.............. 103,470 95,496 84,755 78,527 67,804
Cash and due from banks............ 1,264 1,452 1,303 1,578 1,106
Time deposits and
interest-bearing deposits
in FHLB ................... 5,945 2,000 12,550 38,200 24,425
Federal funds sold................. 151,095 500 7,948 1,330 10,465
Securities available for sale...... 26,699 5,125 4,053 2,955 2,859
Securities held to maturity:
FHLB securities ................ 31,988 77,962 80,990 63,002 64,982
Mortgage-backed securities...... 19,578 17,984 17,563 13,343 15,124
Deposits........................... 320,633 183,827 194,775 185,699 173,184
FHLB advances...................... -- 1,317 -- -- --
Total equity....................... 19,936 16,824 16,002 14,930 14,337
- -----------------------------------------------------------------------------------------------------------------------------------
Number of:
Real estate loans outstanding 2,198 2,151 2,074 2,026 1,932
Deposit accounts................. 21,277 23,778 25,473 24,648 24,492
Offices open..................... 5 5 5 5 5
<CAPTION>
Operating Data Year Ended December 31,
------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(In thousands)
<S> <C> <C> <C> <C> <C>
Interest income..................... $ 14,311 $ 13,220 $ 12,472 $ 10,434 $ 10,573
Interest expense.................... 9,350 9,757 10,009 7,740 7,449
------------ ------------ ----------- ----------- -------------
Net interest income before
provision for loan losses....... 4,961 3,463 2,463 2,694 3,124
Provision for loan losses........... 20 100 -- -- --
------------ ------------ ----------- ----------- -------------
Net interest income................. 4,941 3,363 2,463 2,694 3,124
Non-interest income................. 528 590 398 512 596
Non-interest expense................ 2,408 3,674(1) 2,246 2,339 2,226
------------ ------------ ----------- ----------- -------------
Income before income taxes.......... 3,061 279 615 867 1,494
Provision for income taxes.......... 1,038 84 203 287 502
------------ ------------ ----------- ----------- -------------
Net income.......................... $ 2,023 $ 195 (1) $ 412 $ 580 $ 992
============ ============ =========== =========== =============
</TABLE>
- --------------------
(1) Includes payment to the SAIF of a one-time deposit insurance special
assessment of $1.2 million ($812,000 net of tax) pursuant to legislation
enacted to recapitalize the Savings Association Insurance Fund ("SAIF").
See Note 13 of Notes to Financial Statements.
2
<PAGE>
Selected Quarterly Information (Unaudited)
<TABLE>
<CAPTION>
First Second Third Fourth
Quarter Quarter Quarter Quarter
----------------- ---------------- --------------- --------------
(In thousands)
<S> <C> <C> <C> <C>
Year Ended December 31, 1996:
Interest income $ 3,234 $ 3,330 $ 3,341 $ 3,315
Net interest income after provision for losses
on loans 673 839 920 931
Noninterest income 125 193 147 125
Noninterest expense 578 585 1,838 673
Net income (loss) 148 297 (506) 256
Year Ended December 31, 1997:
Interest income $ 3,271 $ 3,372 $ 3,368 $ 4,300
Net interest income after provision for losses
on loans 1,030 1,177 1,147 1,587
Noninterest income 125 145 134 124
Noninterest expense 616 547 562 683
Net income 358 512 477 676
</TABLE>
3
<PAGE>
Key Operating Ratios
<TABLE>
<CAPTION>
At or for the Year Ended
December 31,
-----------------------------------------------------------
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Performance Ratios
Return on average assets (net income divided by average
total assets).................................................. 0.93% 0.09% (1) 0.20%
Return on average equity (net income divided by
average total equity).......................................... 11.13% 1.19% (1) 2.64%
Interest rate spread (combined weighted average interest rate
earned less combined weighted average interest rate cost)...... 1.93% 1.35% 0.84%
Ratio of average interest-earning assets to average
interest-bearing liabilities................................... 109.17% 107.29% 107.36%
Ratio of non-interest expense to average total assets............ 1.10% 1.76% 1.07%
Ratio of net interest income after provision
for loan losses to non-interest expense........................ 205.19% 91.54% 109.66%
Efficiency ratio (noninterest expense divided by sum of net
interest income plus noninterest income)....................... 44.03% 92.94% 78.50%
Asset Quality Ratios
Nonperforming assets to total assets at end of period............ 0.05% 0.13% 0.06%
Nonperforming loans to total loans at end of period.............. 0.16% 0.28% 0.16%
Allowance for loan losses to total loans at end of period........ 0.23% 0.23% 0.14%
Allowance for loan losses to nonperforming loans at
end of period.................................................. 145.40% 81.58% 91.04%
Provision for loan losses to total loans receivable, net......... 0.02% 0.10% N/A (2)
Net charge-offs to average loans outstanding..................... N/A(2) 0.005% N/A (2)
Capital Ratios
Total equity to total assets at end of period.................... 5.80% 8.23% 7.53%
Average total equity to average assets........................... 8.33% 7.82% 7.41%
</TABLE>
- -------------------
(1) Includes the effect of the payment of the Bank in 1996 of a one-time
deposit insurance special assessment of $1.2 million to the SAIF.
Excluding the effect of the SAIF assessment, the Bank's return on average
assets would have been 0.48% and its return on average equity would have
been 6.15%.
(2) Ratio is not applicable because the Bank did not have any provision for
loan losses or net charge-offs for this period.
<TABLE>
<CAPTION>
Regulatory Capital Ratios December 31, 1997
--------------------------------
(Dollars in thousands)
<S> <C> <C>
Tangible capital............................................... $ 16,613 4.88%
Less: Tangible capital requirement........................... 5,110 1.50%
----------- --------
Excess....................................................... $ 11,503 3.38%
=========== ========
Core capital................................................... $ 16,613 4.88%
Less: Core capital requirement............................... 10,221 3.00
----------- --------
Excess....................................................... $ 6,392 1.88%
=========== ========
Total risk-based capital....................................... $ 16,850 16.50%
Less: Risk-based capital requirement.......................... 8,172 8.00
----------- --------
Excess....................................................... $ 8,678 8.50%
=========== ========
</TABLE>
4
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
- --------------------------------------------------------------------------------
GENERAL
The Company has only recently been formed and, accordingly, had no results
of operations at December 31, 1997. As a result, this discussion relates to the
financial condition and results of operations of the Bank. The principal
business of the Bank consists of accepting deposits from the general public and
investing these funds primarily in loans and in investment securities and
mortgage-backed securities. The Bank's loan portfolio consists primarily of
loans secured by residential real estate located in its market area.
The Bank has historically been profitable. For the year ended December 31,
1997, the Bank recorded net income of $2.0 million, a return on average assets
of 0.93% and a return on average equity of 11.13%. For the year ended December
31, 1996, the Bank recorded net income of $195,000, a return on average assets
of 0.09% and a return on average equity of 1.19%. In 1996, the Bank paid the
Federal Deposit Insurance Corporation ("FDIC") a special assessment of $1.2
million before taxes ($812,000 net of tax) to recapitalize the SAIF. Excluding
the effect of this one-time assessment in 1996, the Bank would have recorded net
income of $1,007,000, a return on average assets of 0.48% and a return on
average equity of 6.15%.
The Bank's net income is dependent primarily on its net interest income,
which is the difference between interest income earned on its loan, investment
securities and mortgage-backed securities portfolios and interest paid on
interest-bearing liabilities. Net interest income is determined by (i) the
difference between yields earned on interest-earning assets and rates paid on
interest-bearing liabilities ("interest rate spread") and (ii) the relative
amounts of interest-earning assets and interest-bearing liabilities. The Bank's
interest rate spread is affected by regulatory, economic and competitive factors
that influence interest rates, loan demand and deposit flows. To a lesser
extent, the Bank's net income also is affected by the level of non-interest
expenses such as compensation and employee benefits and FDIC insurance premiums.
The operations of the Bank and the entire thrift industry are significantly
affected by prevailing economic conditions, competition and the monetary, fiscal
and regulatory policies of governmental agencies. Lending activities are
influenced by the demand for and supply of housing, competition among lenders,
the level of interest rates and the availability of funds. Deposit flows and
costs of funds are influenced by prevailing market rates of interest, primarily
on competing investments, account maturities and the levels of personal income
and savings in the Bank's market area.
CURRENT BUSINESS STRATEGY
Until 1996, the Bank's primary focus was on asset growth by attracting
deposits. The Bank determined that deposits were the most suitable source of
funding for the Bank because of their relative stability and the opportunity for
the Bank to offer other income-producing products to its depositors. To attract
deposits, the Bank offered rates on accounts that were at or above then-
prevailing rates in its market area. As a result of this practice, the Bank's
total assets increased each year until it reached $212.6 million at December 31,
1995. This strategy substantially increased the Bank's interest expense and
reduced profitability.
The Bank, however, was unable to deploy the significant amount of funds
generated by this strategy solely through loan originations in its market area,
as reflected in the Bank's loan-to-deposit ratio of 43.5% at December 31, 1995.
As a result, the Bank invested these funds in securities, primarily U.S.
government and agency securities and mortgage-backed securities. See "--
Asset/Liability Management." The yields on these investments were significantly
less than the yields obtained by the Bank on its loan portfolio. The combined
lower weighted average yield on the Bank's interest-earning assets, when reduced
by the relatively high cost of the Bank's deposits due to the Bank's former
deposit pricing strategy, tended to depress the Bank's overall profitability.
For the year ended December 31, 1995, the Bank's interest rate spread was
0.84%. Although the Bank has been profitable in each of the past five years,
the reduced net yield was reflected in the Bank's return on average assets,
which was 0.20% for the year ended December 31, 1995. See "Selected Financial
Information and Other Data."
In 1996, the Bank revised its business strategy to emphasize increased
profitability over asset growth by attracting deposits on a less aggressive
basis through a reduction in overall deposit rates. This reduction caused a
deposit run-off during 1996 of approximately $10.9 million in higher-costing
deposits. This run-off contributed to a reduction in the Bank's total assets to
$204.4 million at December 31, 1996 from $212.6 million at December 31, 1995.
Deposits as a percentage of
5
<PAGE>
average assets decreased from 92.4% at December 31, 1995, to 87.8% at December
31, 1996. Deposits as a percentage of average assets were 147.0% at December 31,
1997, primarily as a result of subscriptions for Common Stock in the conversion.
In addition, the Bank continued its emphasis on the origination of adjustable
rate loans in its market area. In 1996, average loans increased $9.9 million, or
12.0%, from the 1995 average. In 1997, average loans increased $7.1 million, or
7.7%, from the 1996 average. Despite the Bank's reduced emphasis on deposit-
gathering, the Bank remains well positioned to meet its liquidity needs.
As a result of the Bank's revised business strategy, the Bank's interest
rate spread increased to 1.93% for the year ended December 31, 1997 and 1.35%
for the year ended December 31, 1996, compared to 0.84% for the year ended
December 31, 1995. During 1996, the Bank was required to pay a one-time deposit
insurance assessment of $1.2 million ($812,000 net of taxes) to the FDIC`. See
Note 13 of Notes to Financial Statements. This special assessment was imposed
on all SAIF-insured financial institutions in September 1996. Including this
special SAIF assessment, the Bank's net income, return on average assets and
return on average equity for 1996 were $195,000, 0.09%, and 1.19%, respectively.
Excluding the after-tax effect of this one-time assessment, the Bank's 1996 net
income, return on average assets and return on average equity would have been
$1,007,000, 0.48% and 6.15%, respectively, as compared to the Bank's 1995 net
income, return on average assets and return on average equity of $412,000, 0.20%
and 2.64%, respectively.
The Bank's profitability in the year ended December 31, 1997 also was
primarily attributable to its current business strategy. The Bank's net income,
return on average assets and return on average equity were $2.0 million, 0.93%
and 11.13%, respectively, for the year ended December 31, 1997. See "Selected
Financial Information and Other Data."
The Bank intends to continue to implement its revised business strategy by
further reducing its cost of deposits while continuing to emphasize mortgage
loans and diversifying its lending practice. However, the results to date which
are attributable to the Bank's current business strategy are not necessarily
indicative of future results.
ASSET/LIABILITY MANAGEMENT
Key components of a successful asset/liability strategy are the monitoring
and managing of interest rate sensitivity of both the interest-earning asset and
interest-bearing liability portfolios. The Bank has employed various strategies
intended to minimize the adverse affect of interest rate risk on future
operations by providing a better match between the interest rate sensitivity
between its assets and liabilities. In particular, the Bank's strategies are
intended to stabilize net interest income for the long-term by protecting its
interest rate spread against increases in interest rates. Such strategies
include the origination of adjustable-rate mortgage loans secured by one-to-four
family residential real estate, and, to a lesser extent, multi-family real
estate loans and the origination of other loans with interest rates that are
more sensitive to adjustment based upon market conditions than long-term, fixed-
rate residential mortgage loans. For the year ended December 31, 1997,
approximately $13.8 million of the one-to-four family residential loans
originated by the Bank (comprising 94.5% of such loans) had adjustable rates.
As discussed above, the Bank has used excess funds to invest in U.S.
government and agency securities and mortgage-backed securities. Such
investments have been made in order to manage interest rate risk, as well as to
diversify the Bank's assets, manage cash flow, obtain yields and maintain the
minimum levels of qualified and liquid assets required by regulatory
authorities.
The U.S. government and agency securities consist of notes issued by the
FHLB System and other government agencies. The securities generally are
purchased for a term of five years or less, and are fixed-term, fixed rate
securities, callable securities or securities which provide for interest rates
to increase at specified intervals to pre-established rates, and thus improve
the spread between the Bank's cost of funds and yield on investments. At
December 31, 1997, approximately $5.0 million of the securities were due in one
year or less and approximately $40.0 million were due in one to five years.
However, at December 31, 1997, approximately $41.0 million of the securities had
call provisions which authorize the issuing agency to prepay the securities at
face value at certain pre-established dates. If, prior to their maturity dates,
market interest rates decline below the rates paid on the securities, the
issuing agency may elect to exercise its right to prepay the securities. At
December 31, 1997, the Bank held approximately $36.0 million of securities which
are callable prior to December 31, 1998. The Bank currently anticipates that it
would seek to reinvest any funds available from a prepayment into those U.S.
government and agency securities or mortgage-backed securities which the Bank
believes to be the most appropriate investments at that time, assuming lending
opportunities are not then available. Notwithstanding their call feature, the
Bank believes that it has benefited from its investments in callable securities,
which have improved its portfolio yield over alternative fixed yield, fixed
maturity investments.
6
<PAGE>
Mortgage-backed securities entitle the Bank to receive a pro rata portion
of the cash flow from an identified pool of mortgages. Although mortgage-backed
securities generally offer lesser yields than the loans for which they are
exchanged, mortgage-backed securities present lower credit risk by virtue of the
guarantees that back them, are more liquid than individual mortgage loans, and
may be used to collateralize borrowings or other obligations of the Bank.
Further, since they are primarily adjustable rate, mortgage-backed securities
are helpful in limiting the Bank's interest rate risk. For more information
regarding the Bank's investment securities, see Note 2 of Notes to Financial
Statements.
INTEREST RATE SENSITIVITY ANALYSIS
The Bank's profitability is affected by fluctuations in interest rates. A
sudden and substantial increase in interest rates may adversely impact the
Bank's earnings to the extent that the interest rates on interest earning assets
and interest bearing liabilities do not change at the same speed, to the same
extent or on the same basis. As part of its effort to manage interest rate
risk, the Bank monitors its net portfolio value ("NPV"), a methodology adopted
by the OTS to assist the Bank in assessing interest rate risk.
Generally, NPV is the discounted present value of the difference between
incoming cash flows on interest-earning assets and other assets and outgoing
cash flows on interest-bearing liabilities and other liabilities. The
application of the methodology attempts to quantify interest rate risk as the
change in the NPV which would result from a theoretical 200 basis point (1 basis
point equals .01%) change in market rates. Both a 200 basis point increase in
market interest rates and a 200 basis point decrease in market interest rates
are considered.
The following table presents the Bank's NPV at December 31, 1997, as
calculated by the OTS, based on information provided to the OTS by the Bank.
<TABLE>
<CAPTION>
Net Portfolio Value NPV as % of PV of Assets
Change ---------------------------------------------------------------- ----------------------------------------------
In Rates $ Amount $ Change % Change NPV Ratio Change
- -------- -------- -------- -------- --------- ------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
+400 bp $ 43,408 $ 6,503 +18% 12.86% +221 bp
+300 bp 42,807 5,901 +16% 12.57% +192 bp
+200 bp 41,633 4,727 +13% 12.13% +148 bp
+100 bp 39,699 2,794 +8% 11.50% +85 bp
0 bp 36,905 10.65%
- -100 bp 34,137 -2,768 -8% 9.81% -84 bp
- -200 bp 32,026 -4,879 -13% 9.14% -151 bp
- -300 bp 29,793 -7,112 -19% 8.44% -221 bp
- -400 bp 27,520 -9,386 -25% 7.73% -292 bp
</TABLE>
Interest Rate Risk Measures: 200 Basis Point (bp) Rate Shock
Pre-Shock NPV Ratio: NPV as % of PV of Assets..................... 10.65%
Exposure Measure: Post-Shock NPV Ratio............................ 9.14%
Sensitivity Measure: Change in NPV Ratio.......................... -151 bp
The computation of prospective effects of hypothetical interest rate
changes are based on numerous assumptions, including relative levels of market
interest rates, loan prepayments and deposit decay rates, and should not be
relied upon as indicative of actual results. The computations do not
contemplate any actions the Bank could undertake in response to changes in
interest rates.
7
<PAGE>
The matching of assets and liabilities may be analyzed by examining the
extent to which such assets and liabilities are "interest rate sensitive" and by
monitoring an institution's interest rate sensitivity "gap." An asset or
liability is said to be interest rate sensitive within a specific period if it
will mature or reprice within that period. The interest rate sensitivity gap is
defined as the difference between the amount of interest-earning assets maturing
or repricing within a specific time period and the amount of interest-bearing
liabilities maturing or repricing within that time period. A gap is considered
positive when the amount of interest rate sensitive assets exceeds the amount of
interest rate sensitive liabilities, and is considered negative when the amount
of interest rate sensitive liabilities exceeds the amount of interest rate
sensitive assets. At December 31, 1997, the Bank had a positive one-year
interest rate sensitivity gap of 7.92% of total interest-earning assets.
Generally, during a period of rising interest rates, a negative gap position
would be expected to adversely affect net interest income while a positive gap
position would be expected to result in an increase in net interest income.
Conversely during a period of falling interest rates, a negative gap would be
expected to result in an increase in net interest income and a positive gap
would be expected to adversely affect net interest income.
The following table sets forth the amounts of interest-earning assets and
interest-bearing liabilities outstanding at December 31, 1997 which are expected
to mature or reprice in each of the time periods shown.
<TABLE>
<CAPTION>
Over One Over Five Over Ten
One Year or Through Five Through Ten Through Over Fifteen
Less Years Years Fifteen Years Years Total
----------- ------------ ----------- -------------- ------------ -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans:
One-to-four family............. $ 72,758 $ -- $ 2,021 $ 8,450 $ -- $ 83,229
Multi-family residential....... 2,359 -- -- -- -- 2,359
Construction................... 5,166 -- -- -- -- 5,166
Non-residential................ 7, 593 -- -- -- -- 7,593
Secured by deposits............ 3,081 -- -- -- -- 3,081
Other consumer................. 664 3,242 392 -- -- 4,298
Time deposits and interest
bearing deposits in FHLB.......... 5,945 -- -- -- -- 5,945
Federal funds sold................ 151,095 -- -- -- -- 151,095
Securities........................ 46,898 5,000 -- -- -- 51,898
Mortgage-backed securities........ 18,532 2,500 4,278 66 991 26,367
------------ ----------- ----------- ----------- ----------- ---------
Total.......................... $ 314,091 $ 10,742 $ 6,691 $ 8,516 $ 991 $ 341,031
------------ ----------- ----------- ----------- ----------- ---------
Interest-bearing liabilities:
Deposits.......................... $ 287,077 $ 33,556 -- -- -- $ 320,633
------------ ----------- ----------- ----------- ----------- ---------
Interest sensitivity gap............. $ 27,014 $ (22,814) $ 6,691 $ 8,516 $ 991 $ 20,398
============ ============ =========== =========== =========== =========
Cumulative interest sensitivity
gap............................... $ 27,014 $ 4,200 $ 10,891 $ 19,407 $ 20,398 $ 20,398
============ =========== =========== =========== =========== =========
Ratio of interest-earning assets to
interest-bearing liabilities...... 109.41% 32.01% N/A N/A N/A 106.36%
============ =========== =========== =========== =========== =========
Ratio of cumulative gap to
total interest-earning assets..... 7.92% 1.23% 3.19% 5.69% 5.98% 5.98%
============ =========== =========== =========== =========== =========
</TABLE>
The preceding table was prepared based upon the assumption that loans will
not be repaid before their respective contractual maturities, except for
adjustable rate loans which are classified based upon their next repricing date.
Further, it is assumed that fixed maturity deposits are not withdrawn prior to
maturity and that other deposits are withdrawn or repriced within one year.
Management of the Bank does not believe that these assumptions will be
materially different from the Bank's actual experience. However, the actual
interest rate sensitivity of the Bank's assets and liabilities could vary
significantly from the information set forth in the table due to market and
other factors.
The retention of adjustable-rate mortgage loans in the Bank's portfolio
helps reduce the Bank's exposure to changes in interest rates. However, there
are unquantifiable credit risks resulting from potential increased costs to
borrowers as a result of repricing adjustable-rate mortgage loans. It is
possible that during periods of rising interest rates, the risk of default on
adjustable-rate mortgage loans may increase due to the upward adjustment of
interest costs to the borrowers.
8
<PAGE>
AVERAGE BALANCE, INTEREST AND AVERAGE YIELDS AND RATES
The following table sets forth certain information relating to the Bank's
average interest-earning assets and interest-bearing liabilities and reflects
the average yield on assets and average cost of liabilities for the periods and
at the date indicated. Such yields and costs are derived by dividing income or
expense by the average monthly balance of assets or liabilities, respectively,
for the periods presented. Average balances are derived from month-end
balances. Management does not believe that the use of month-end balances
instead of daily balances has caused any material difference in the information
presented.
The table also presents information for the periods and at the date
indicated with respect to the difference between the average yield earned on
interest-earning assets and average rate paid on interest-bearing liabilities,
or "interest rate spread," which savings institutions have traditionally used as
an indicator of profitability. Another indicator of an institution's net
interest income is its "net yield on interest-earning assets," which is its net
interest income divided by the average balance of interest-earning assets. Net
interest income is affected by the interest rate spread and by the relative
amounts of interest-earning assets and interest-bearing liabilities. When
interest-earning assets approximate or exceed interest-bearing liabilities, any
positive interest rate spread will generate net interest income.
<TABLE>
<CAPTION>
At December 31, 1997
-----------------------------------------------
Weighted
Average Balance Average Yield/Cost
--------------- ------------------
(Dollars in thousands)
<S> <C> <C>
Interest-earning assets:
Loans receivable, net....................... $ 103,470 7.78%
Securities available for sale............... 26,699 5.17%
Securities held to maturity................. 51,566 6.03%
Time deposits and other interest-
bearing cash deposits................... 157,040 5.45%
--------------
Total interest-earning assets............ 338,775 6.23%
----------
Non-interest-earning assets.................... 5,220
--------------
Total assets................................ $ 343,995
==============
Interest-bearing liabilities:
Deposits.................................... $ 320,633 4.80%
Borrowings.................................. -- --%
--------------
Total interest-bearing
liabilities.............................. 320,633 4.80%
Non-interest-bearing liabilities............... 3,426 ----------
--------------
Total liabilities........................ 324,059
Retained earnings.............................. 16,613
Unrealized gain on securities available for sale
$ 3,323
--------------
Total liabilities and retained
earnings............................... $ 343,995
==============
Net interest income............................
Interest rate spread........................... 1.43%
---------
Net yield on interest-earning assets...........
Ratio of interest-earning assets
interest-bearing liabilities................ 105.66%
=========
</TABLE>
(Continued on following page)
9
<PAGE>
Year Ended December 31,
-------------------------------------
1997
-------------------------------------
Average Average
Balance Interest Yield/Cost
------- -------- ----------
(Dollars in thousands)
Interest-earning assets:
Loans receivable, net....... $ 99,126 $ 7,607 7.67%
Securities available for sale 11,405 412 3.61%
Securities held to maturity 75,307 4,706 6.25%
Time deposits and other
interest-bearing cash
deposits................. 27,233 1,586 5.82%
--------- --------
Total interest-earning
assets................. 213,071 14,311 6.72%
-------- ------
Non-interest-earning assets.... 5,119
---------
Total assets................ $218,190
=========
Interest-bearing liabilities:
Deposits................... $ 195,019 $ 9,341 4.79%
Borrowings................. 161 9 5.59%
--------- --------
Total interest-bearing
liabilities........... 195,180 9,350 4.79%
-------- ------
Non-interest-bearing liabilities 4,829
---------
Total liabilities....... 200,009
Retained earnings............. 15,510
Unrealized gain on securities
available for sale......... 2,671
---------
Total liabilities and
retained earnings..... $ 218,190
=========
Net interest income........... $ 4,961
========
Interest rate spread.......... 1.93%
Net yield on interest-earning =======
Assets..................... 2.33%
=======
Ratio of average interest-earning
assets to average interest-
bearing liabilities........ 109.17%
=======
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------------------------------------------------------------
1996 1995
--------------------------------------- ---------------------------------------
Average Average Average Average
Balance Interest Yield/Cost Balance Interest Yield/Cost
------- -------- ---------- ------- -------- ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable, net....... $ 92,066 $ 6,824 7.41% $ 82,212 $ 5,840 7.10%
Securities available for sale 4,372 151 3.45% 3,641 135 3.71%
Securities held to maturity 98,139 5,624 5.73% 85,149 4,364 5.13%
Time deposits and other
interest-bearing cash
deposits................. 9,459 621 6.57% 35,510 2,133 6.01%
---------- --------- --------- -------
Total interest-earning
assets................. 204,036 13,220 6.48% 206,512 12,472 6.04%
--------- ------- ------- ------
Non-interest-earning assets.... 5,310 4,206
---------- ---------
Total assets................ $ 209,346 $ 210,718
========== =========
Interest-bearing liabilities:
Deposits................... $ 189,837 $ 9,732 5.13% $ 192,352 $ 10,009 5.20%
Borrowings................. 329 25 7.59% -- -- --
---------- --------- ---------- ---------
Total interest-bearing
liabilities........... 190,166 9,757 5.13% 192,352 10,009 5.20%
--------- -------- --------- ------
Non-interest-bearing liabilities 2,816 2,758
---------- ----------
Total liabilities....... 192,982 195,110
Retained earnings............. 14,578 14,249
Unrealized gain on securities
available for sale......... 1,786 1,359
---------- ----------
Total liabilities and
retained earnings..... $ 209,346 $ 210,718
========== ==========
Net interest income........... $ 3,463 $ 2,463
========== =========
Interest rate spread.......... 1.35% 0.84%
======= =======
Net yield on interest-earning
Assets..................... 1.70% 1.19%
======= =======
Ratio of average
interest-earning
assets to average interest-
bearing liabilities........ 107.29% 107.36%
======= =======
</TABLE>
10
<PAGE>
Rate Volume Analysis
The following table sets forth certain information regarding changes
in interest income and interest expense of the Bank for the periods indicated.
For each category of interest-earning asset and interest-bearing liability,
information is provided on changes attributable to: (i) changes in volume
(changes in volume from year to year multiplied by the average rate for the
prior year) and (ii) change in rate (changes in the average rate from year to
year multiplied by the prior year's volume).
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------------------------------------------------------------
1997 vs. 1996 1996 vs. 1995
----------------------------------- ---------------------------------------
Increase Increase
(Decrease) due to (Decrease) due to
-------------------- ------------------------
Total Total
Increase Increase
Rate Volume (Decrease) Rate Volume (Decrease)
---- ------ ---------- ---- ------ ----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable........ $ 260 $ 523 $ 783 $ 284 $ 700 $ 984
Securities available for
sale................. 18 243 261 (11) 27 16
Securities held to
maturity............. 390 (1,308) (918) 594 666 1,260
Other interest-earning
assets............... (203) 1,168 965 53 (1,565) (1,512)
------- -------- -------- ------- --------- --------
Total interest-
earning assets..... $ 465 $ 626 $ 1,091 $ 920 $ (172) $ 748
------- -------- -------- ------- --------- --------
Interest-bearing liabilities:
Deposits................ $ (657) $ 266 $ (391) $ (146) $ (131) $ (277)
Borrowings.............. -- (16) (16) -- 25 25
------- -------- -------- ------- --------- --------
Total interest-
bearing liabilities $ (657) $ 250 $ (407) $ (146) $ (106) $ (252)
------- -------- -------- ------- --------- --------
Increase (decrease) in net
Interest income......... $ 1,122 $ 376 $ 1,498 $ 1,066 $ (66) $ 1,000
======= ======== ======== ======= ========= ========
</TABLE>
COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 1997 AND DECEMBER 31, 1996
The Bank's total assets increased by $139.6 million, from $204.4 million at
December 31, 1996 to $344.0 million at December 31,1997. Federal funds sold
increased from $500,000 at December 31, 1996 to $151.1 million at December 31,
1997, primarily due to funds received in connection with the conversion.
Securities held to maturity declined $44.4 million due to various issues
maturing. A portion of such funds was reinvested in securities available for
sale, which increased $21.6 million.
In 1997 the Bank continued to price its deposits less aggressively in an
effort to reduce its overall cost of funds. At December 31, 1997 deposits
increased to $320.6 million from $183.8 million at December 31, 1996, a net
increase of $136.8 million, primarily as a result of subscriptions for the
Common Stock in the conversion. The Bank's average cost of deposits for the year
ended December 31, 1997 was 4.79%, compared to 5.13% for the year ended December
31, 1996. Management intends to continually evaluate the investment alternatives
available to the Bank's customers, and adjusts the pricing on its deposit
products to more actively manage its funding costs while remaining competitive
in its market area.
The Bank's loan portfolio increased by $8.0 million during the year ended
December 31, 1997. Net loans totaled $103.5 million and $95.5 million at
December 31, 1997 and December 31, 1996, respectively. The increase in the loan
activity during the year ended December 31, 1997 was due to the Bank's efforts
to increase its loan originations using funds currently held in investment
securities. For the year ended December 31, 1997, the Bank's average yield on
loans was 7.67%, compared to 7.41% for the year ended December 31, 1996.
At December 31, 1997, the Bank's investments classified as "held to maturity"
were carried at amortized cost of $51.6 million and had an estimated fair market
value of $52.0 million, and its securities classified as "available for sale"
had an estimated fair market value of $26.7 million, including Federal Home Loan
Mortgage Corporation ("FHLMC") stock with an estimated fair market value of $5.2
million. See Note 2 of Notes to Financial Statements.
11
<PAGE>
The allowance for loan losses totaled $237,000 at December 31, 1997, an
increase of $20,000 from the allowance of $217,000 at December 31, 1996. The
ratio of the allowance for loan losses to loans was 0.23% at each of December
31, 1997 and 1996. Also at December 31, 1997, the Bank's non-performing loans
were $163,000, or 0.16% of total loans, compared to $266,000, or 0.28% of total
loans, at December 31, 1996, and the Bank's ratio of allowance for loan losses
to non-performing loans at December 31, 1997 and December 31, 1996 was 145.50%
and 81.58%, respectively. The determination of the allowance for loan losses is
based on management's analysis, performed on a quarterly basis. Various factors
are considered, 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 economic conditions. Although management believes its allowance
for loan losses is adequate, there can be no assurance that additional
allowances will not be required or that losses on loans will not be incurred.
The Bank has had minimal losses on loans in prior years. See Note 3 of Notes to
Financial Statements.
COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 1996 AND DECEMBER 31, 1995
The Bank's total assets decreased by $8.2 million, or 3.9%, from $212.6
million at December 31, 1995 to $204.4 million at December 31, 1996, primarily
as a result of a reduction in cash and maturing investments to fund deposit
withdrawals. At December 31, 1996, deposits decreased to $183.8 million from
$194.8 million at December 31, 1995, a net decrease of $11.0 million, or 5.6%.
To reduce its overall cost of funds, the Bank began to price deposits less
aggressively in 1996. The Bank's average cost of deposits for the year ended
December 31, 1996 was 5.13%, compared to 5.20% for the year ended December 31,
1995.
The Bank's loan portfolio increased by $10.7 million, or 12.7%, during the
year ended December 31, 1996. Net loans totaled $95.5 million and $84.8 million
at December 31, 1996 and 1995, respectively. The increase in the loan activity
during the year ended December 31, 1996 was primarily due to the Bank's efforts
to expand its loan originations and reduce the proportion of its interest-
earning assets not invested in loans. For the year ended December 31, 1996, the
Bank's average yield on loans was 7.41%, compared to 7.10% for the year ended
December 31, 1995.
At December 31, 1996, the Bank's investment portfolio included mortgage-
backed and U.S. government and agency securities classified as "held to
maturity" carried at amortized cost of $95.9 million and an estimated fair
market value of $95.8 million and equity securities classified as "available for
sale" with an estimated fair market value of $5.1 million, including FHLMC stock
with a fair market value of $3.5 million.
As part of the Bank's strategy to focus on profitability and loan growth, the
Bank funded the increase in its loan portfolio internally by reducing its time
deposits with other financial institutions from $7.0 million at December 31,
1995, to $2.0 million at December 31, 1996, reduced Federal funds sold from $7.9
million at December 31, 1995, to $500,000 at December 31, 1996, and eliminating
interest-bearing deposits in the FHLB, which were $5.6 million at December 31,
1995.
The allowance for loan losses totaled $217,000 at December 31, 1996, compared
to $122,000 at December 31, 1995. As of those dates, the Bank's non-performing
loans were $266,000 and $134,000, respectively, or 0.28% and 0.16% of total
loans, respectively. At December 31, 1996, the ratio of the allowance for loan
losses to loans was 0.23%, compared to 0.14% at December 31, 1995. The increase
in the ratio was primarily attributable to a $100,000 provision for loan losses
for the year ended December 31, 1996, as a result of the increase in the loan
portfolio.
Premises and equipment, net, remained unchanged at $2.3 million at December
31, 1996 and 1995. Land increased from $496,000 at December 31, 1995 to $571,000
at December 31, 1996, due to the Bank's purchase of a real estate lot in Cadiz,
Kentucky, for $75,000 in July 1996. The Bank intends to relocate its Cadiz
branch office to a building that will be constructed on the lot. See Note 4 of
Notes to Financial Statements.
The Bank's other assets increased $227,000 to $255,000 at December 31, 1996
from $28,000 at December 31, 1995 principally due to a $248,000 increase in the
Bank's prepaid federal income taxes in 1996. The prepayment arose from the
Bank's payments of its estimated tax payments during the first three quarters of
1996, which had been computed based upon taxable income without including the
tax effect of the tax deduction that arose in the fourth quarter of 1996 because
the Bank's one-time SAIF assessment in that quarter.
12
<PAGE>
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996
NET INCOME. The Bank's net income for the year ended December 31, 1997 was
$2.0 million compared to $195,000 for the year ended December 31, 1996. The
increase in net earnings for the year resulted primarily from an improvement in
the Bank's net yield on interest-earning assets and a decrease in the Bank's
SAIF insurance premiums, offset in part by an increase in income taxes.
NET INTEREST INCOME. Net interest income for the year ended December 31, 1997
was $5.0 million, compared to $3.5 million for the year ended December 31, 1996.
The increase in net interest income for the year ended December 31, 1997 was
primarily due to a lower cost of funds and a higher yield on interest-earning
assets. For the year ended December 31, 1997, the Bank's average yield on total
interest-earning assets was 6.72%, compared to 6.48% for the year ended December
31, 1996 and its average cost of interest-bearing liabilities was 4.79%,
compared to 5.13% for the year ended December 31, 1996. As a result, the Bank's
interest rate spread for the year ended December 31, 1997 was 1.93%, compared to
1.35% for the year ended December 31, 1996 and its net yield on interest-earning
assets was 2.33% for the year ended December 31, 1997, compared to 1.70% for the
year ended December 31, 1996.
INTEREST INCOME. Interest income increased by $1.1 million from $13.2 million
to $14.3 million, or by 8.3%, during the year ended December, 1997 compared to
1996. This increase primarily resulted from a continued strategic shift from
investment securities to higher-yielding loans. The average balance of
securities held to maturity declined $22.8 million, from $98.1 million at
December 31, 1996, to $75.3 million at December 31, 1997. Average time deposits
and other interest-bearing cash deposits increased $17.7 million, from $9.5
million at December 31, 1996 to $27.2 million at December 31, 1997. Overall,
average total interest-earning assets increased $8.9 million from December 31,
1996 to December 31, 1997. The strategic repositioning of the balance sheet into
higher-yielding assets resulted in an increase in the average yield on interest-
earning assets from 6.48% at December 31, 1996, to 6.72% at December 31, 1997.
In addition, the ratio of interest-earning assets to interest-bearing
liabilities increased from 107.29% for the year ended December 31, 1996 to
109.17% for the year ended December 31, 1997.
INTEREST EXPENSE. Interest expense decreased to $9.4 million for the year
ended December 31, 1997, compared to $9.8 million for 1996. The decrease was
primarily attributable to a lower cost of funds. The average cost of average
interest bearing liabilities declined from 5.13% for the year ended December 31,
1996 to 4.79% for the year ended December 31, 1997. Over the same period, the
average balance of deposits increased from $189.8 million for the year ended
December 31, 1996 to $195.0 million at December 31, 1997.
PROVISION FOR LOAN LOSSES. The allowance for loan losses is established
through a provision for loan losses based on management's evaluation of the risk
inherent in its loan portfolio and the general economy. Such evaluation
considers numerous factors including, general economic conditions, loan
portfolio composition, prior loss experience, the estimated fair value of the
underlying collateral and other factors that warrant recognition in providing
for an adequate loan loss allowance. The Bank determined that an additional
$20,000 provision for loan loss was required for the year ended December 31,
1997. For the year ended December 31, 1996, the Bank determined that a $100,000
provision was warranted.
NON-INTEREST EXPENSE. Total non-interest expense in the year ended December
31, 1997 was $2.4 million, compared to $3.7 million in 1996. A decrease in FDIC
deposit insurance premiums of $1.6 million offset increases in other non-
interest expenses.
INCOME TAXES. The Bank's effective tax rate for the year ended December 31,
1997 was 33.9%, compared to 30.3% for 1996. The increase in income tax expense
of $954,000 in 1997 compared to 1996 was due to an increase in income.
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 1996 AND 1995
NET INCOME. The Bank's net income for the year ended December 31, 1996 was
$195,000, compared to $412,000 for the year ended December 31, 1995. The
decrease in net earnings for the year resulted primarily from the special SAIF
assessment expense of $1.2 million, which negatively impacted net income by
$812,000 net of tax, for the year ended December 31, 1996. Excluding the one-
time special SAIF assessment, net income for the year ended December 31, 1996
would have been $1,007,000, an increase of $595,000, or 144.4% from net income
of $412,000 for the year ended December 31, 1995. The improvement in net income
from the year ended December 31, 1995 to December 31, 1996, was primarily the
result of the Bank's repositioning funds into higher yielding assets as well as
a decline in the cost of funds.
13
<PAGE>
NET INTEREST INCOME. Net interest income for the year ended December 31, 1996
was $3.5 million, compared to $2.5 million for the year ended December 31, 1995.
The increase in net interest income for the year ended December 31, 1996 was
primarily due to an increase in the Bank's interest income and a decline in the
Bank's overall cost of funds. The average balance of the loan portfolio
increased $9.9 million, from $82.2 million for the year ended December 31, 1995
to $92.1 million for the year ended December 31, 1996. The average yield on
loans increased from 7.10% to 7.41% over the same periods. At the same time, the
average balance of deposits decreased from $192.4 million for the year ended
December 31, 1995 to $189.8 million for the year ended December 31, 1996.
Further, the average cost of deposits declined from 5.20% to 5.13% for the same
period resulting from the Bank's decision to reprice deposits to improve
profitability. As a result, for the year ended December 31, 1996, the Bank's
interest rate spread and net yield on interest-earning assets were 1.35% and
1.70%, respectively, an increase from 0.84% and 1.19%, respectively, for the
year ended December 31, 1995.
INTEREST INCOME. Interest income increased by $748,000 from $12.5 million to
$13.2 million, or by 6.0%, during 1996 compared to 1995. This increase primarily
resulted from an increase in the average yield on the loan portfolio, which was
7.41% for 1996 compared to 7.10% for 1995, as well as an increase in the average
balance of loans to $92.1 million in 1996 compared to $82.2 million in 1995.
INTEREST EXPENSE. Interest expense decreased $252,000, or 2.5%, to $9.8
million for the year ended December 31, 1996 from $10.0 million for the year
ended December 31, 1995. The Bank's strategy of less aggressively pricing its
deposit products resulted in a decrease in its cost of funds as well as a
reduction in the level of interest-bearing liabilities due to an outflow of
higher cost deposits. At December 31, 1996, total deposits were $183.8 million,
compared to $194.8 million at December 31, 1995, a decrease of 5.6%.
PROVISION FOR LOAN LOSSES. The Bank determined that a provision for loan loss
of $100,000 was appropriate for the year ended December 31, 1996. The Bank
determined to increase the level of the provision for loan losses in view of the
$10.7 million, or 12.7%, increase in the Bank's loan portfolio; the character of
the loan portfolio, particularly the Bank's efforts to originate a higher volume
and greater variety of consumer loans which may entail greater credit risk than
residential mortgage loans; the $132,000 increase in non-performing loans during
the year; and management's assessment of loan losses. Due to minimal asset
quality problems, the Bank determined that a provision for loans loss was not
required for the year ended December 31, 1995.
NON-INTEREST INCOME. The $192,000 increase in non-interest income in the year
ended December 31, 1996 compared to the year ended December 31, 1995 was
primarily due to a $106,000 increase in loan fees due to higher loan
originations, as well as increases in NOW account fees and service charges.
NON-INTEREST EXPENSE. The $1.4 million increase in non-interest expense in
1996 compared to 1995 was primarily attributable to the $1.2 million special
SAIF assessment during 1996, as well as higher compensation and benefit
expenses. The one-time SAIF assessment was imposed on all savings institutions
in September 1996 and was payable in November 1996. See "Regulation --
Regulation of the Bank -- Federal Deposit Insurance."
INCOME TAXES. The Bank's effective tax rate for the year ended December 31,
1996 was 30.3%. The decrease in income tax expense of $119,000 in 1996 compared
to 1995 was due to the decrease in income in 1996 compared to 1995.
LIQUIDITY AND CAPITAL RESOURCES
The Company has no business other than that of the Bank and investing the net
Conversion proceeds retained by it. Management believes that the net proceeds
retained by the Company, earnings on such proceeds principal and interest
payments on the ESOP loan, together with dividends that may be paid from the
Bank to the Company following the Conversion, will provide sufficient funds for
its initial operations and liquidity needs; however, no assurance can be given
that the Company will not have a need for additional funds in the future. The
Bank is subject to certain regulatory limitations with respect to the payment of
dividends to the Company.
Capital Resources. At December 31, 1997, the Bank exceeded all regulatory
minimum capital requirements. For a detailed discussion of the OTS' regulatory
capital requirements, and for a tabular presentation of the Bank's compliance
with such requirements, see Note 13 of Notes to Financial Statements.
Liquidity. Liquidity management is both a daily and long-term function of
business management. If the Bank requires funds beyond its ability to generate
them internally, the Bank believes that it could borrow funds from the FHLB. At
December 31, 1997, the Bank had no outstanding advances from the FHLB. See Note
6 of Notes to Financial Statements.
14
<PAGE>
The Bank's primary sources of funds consist of deposits, repayment of loans
and mortgage-backed securities, maturities of investments and interest-bearing
deposits, and funds provided from operations. While scheduled repayments of
loans and mortgage-backed securities and maturities of investment securities are
predicable sources of funds, deposit flows and loan prepayments are greatly
influenced by the general level of interest rates, economic conditions and
competition. The Bank uses its liquidity resources principally to fund existing
and future loan commitments, to fund maturing certificates of deposit and demand
deposit withdrawals, to invest in other interest-earning assets, to maintain
liquidity, and to meeting operating expenses. Management believes that loan
repayments and other sources of funds will be adequate to meet the Bank's
liquidity needs for the immediate future.
In addition, the Bank is required to maintain minimum levels of liquid assets
as defined by OTS regulations. This requirement, which may be varied at the
direction of the OTS depending upon economic conditions and deposit flows, is
based upon a percentage of deposits and short-term borrowings. The required
minimum ratio is currently 4%. The Bank has historically maintained a level of
liquid assets in excess of regulatory requirements. The Bank's liquidity ratios
at December 31, 1997, 1996 and 1995 were 65.36%, 45.63% and 54.49%,
respectively.
A portion of the Bank's liquidity consists of cash and cash equivalents. At
December 31, 1997, cash and cash equivalents totaled $1.3 million. The level of
these assets depends upon the Bank's operating, investing and financing
activities during any given period.
Although the operating activities of the Bank have historically generated a
declining amount of cash flows, cash flows from operating activities increased
during the year ended December, 1997. For the years ended December 31, 1995,
1996 and 1997, such cash flows were $169,000, $112,000 and $2.4 million
respectively. The declines in 1995 and 1996 were primarily attributable to lower
net income as the Bank pursued a strategy of increasing its deposit base through
the payment of above-market interest rates. This higher interest expense was not
offset by the Bank's adjustable rate mortgage loans, which were offered at then-
lower market rates. Further, interest rates on the loans were adjusted based
upon a lagging interest rate index, while deposit rates were subject to
adjustment on a weekly basis. The Bank discontinued its deposit pricing strategy
in 1996, which contributed to the increase in the Bank's interest rate spread to
1.93% for 1997, from 1.35% for 1996 and 0.84% for 1995. However, the related
increase in cash flows from operating activities for 1996 was more than offset
by a decrease in net income as a result of the Bank's required payment of the
one-time SAIF assessment of $1.2 million. See Note 13 of Notes to Financial
Statements.
The Bank's cash flows from investing activities increased and became a net
source of funds as the Bank began to emphasize the investment of available funds
in loans rather than in securities held-to-maturity. The principal source of
the Bank's cash flows in this area has been proceeds from the maturities of
held-to-maturity securities, the volume of which reflects the Bank's prior
emphasis on investments in such securities over loans. These proceeds were a
source of cash flows of $11.8 million for 1994, $51.5 million for 1995, $44.0
million for 1996, and $50.3 million for 1997. At the same time, the Bank's
investment of cash in loans was $8.0 million in 1997, $10.8 million in 1996 and
$ 6.2 million in 1995, while purchases of held-to-maturity securities were $5.9
million in 1997, $41.4 million in 1996 and $73.7 million in 1995. Further, the
Bank has re-positioned the investment of its excess funds to enhance their
availability. For instance, the Bank's investment of funds in time deposits at
other banks has been reversed, from a net investment in 1994 to net withdrawals
from time deposits as they matured of $20.0 million in 1995, $5.0 million in
1996 and $0 in 1997. Funds not immediately invested in loans are sold on the
federal funds market, which permits the Bank to earn a favorable rate of
interest while maintaining daily access to such funds. Although the Bank
continues to acquire held-to-maturity securities using funds from loan
repayments and proceeds from maturities of similar securities, the Bank's
liquidity position avoids the need to consider the sale of such securities prior
to maturity to satisfy lending or other operational commitments. At December
31, 1997, in addition to the liquidity of its federal funds sold and other
assets, which were 65.36% of deposits and short-term borrowings, the Bank had
available an unused $10.1 million line of credit with the FHLB of Cincinnati.
The Bank's financing activities have changed from a provider of cash to a
user of cash, as the Bank has removed the emphasis on the growth of its deposit
base. As part of this strategy, which began during 1996, the Bank permitted the
run-off of higher-costing time deposits by offering only market rates of
interest on maturing deposits rather than above-market rates under its previous
pricing strategy. Prior to implementation of this strategy, time deposits
generated cash flows of $18.9 million in 1995. However, as a result of the
current strategy, cash was required to fund net withdrawals of time deposits in
amounts of $13.1 million in 1996 and $7.8 million in 1997. Because of the Bank's
ability to generate cash flows from its financing activities and the
availability of its other liquid assets, the Bank does not anticipate any
difficulty in funding future withdrawals of such time deposits as they come due.
15
<PAGE>
At December 31, 1997, the Bank had $857,000 in outstanding commitments to
originate loans. The Bank anticipates that it will have sufficient funds
available to meet its current loan origination commitments. Certificates of
deposit which are scheduled to mature in one year or less totaled $85.5 million
at December 31, 1997. Based on historical experience, management believes that
a significant portion of such deposits will remain with the Bank.
Another source of liquidity is net proceeds from the Conversion. Following
the completion of the Conversion, the Bank received 50% of the net proceeds from
the Conversion. These funds are expected to be used by the Bank for its
business activities.
IMPACT OF INFLATION AND CHANGING PRICES
The financial statements and notes thereto presented herein 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 considering the change in the relative purchasing power of money
over time and due to inflation. The impact of inflation is reflected in the
increased cost of the Bank's operations.
Unlike most industrial companies, nearly all the assets and liabilities of the
Bank are monetary in nature. As a result, changes in interest rates have a
greater impact on the Bank's performance than do the effects of general levels
of inflation. Interest rates do not necessarily move in the same direction or to
the same extent as the price of goods and services.
YEAR 2000 RISK ASSESSMENT AND ACTION PLAN
The Bank is aware of the current concerns throughout the business community
of reliance upon computer software that does not properly recognize the year
2000 in date formats, often referred to as the "Year 2000 Problem." The Year
2000 Problem is the result of software being written using two digits rather
than four digits to define the applicable year (i.e., "98" rather than "1998").
A failure by a business to properly identify and correct a Year 2000 Problem in
its operations could result in system failures or miscalculations. In turn,
this could result in disruptions of operations, including among other things, a
temporary inability to process transactions, or otherwise engage in routine
business transactions on a day-to-day basis.
Operations of the Bank depend upon the successful operation on a daily
basis of its computer software programs. The Bank relies upon software
purchased from third-party vendors rather than internally generated software.
In its analysis of the software, and based upon its ongoing discussions with
these vendors, a plan of action has been put in place by the Bank to minimize
its risk exposure to the Year 2000 Problem.
As part of the plan, an oversight management committee has been set up to
monitor vendor compliance, and identify systems and equipment crucial to the
Bank's operation. These systems are being tested to assure they will be able to
handle the Year 2000 event, thus minimizing risk to the Bank.
IMPACT OF NEW ACCOUNTING STANDARDS
Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities. In June 1996, the Financial Accounting
Standards Board ("FASB") issued Statement of Financial Accounting Standards No.
125, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities" ("SFAS 125"). SFAS 125 provides accounting and
reporting standards for transfers and servicing of financial assets and
extinguishments of liabilities based on consistent application of a financial-
components approach that focuses on control. Under that approach, after a
transfer of financial assets, an entity recognizes the financial and servicing
assets it controls and the liabilities it has incurred, derecognizes financial
assets when control has been surrendered, and derecognizes liabilities when
extinguished. This statement is effective for transfers and servicing of
financial assets and extinguishments of liabilities occurring after December 31,
1996, and is to be applied prospectively. Earlier or retroactive application is
not permitted. The Bank adopted the provisions of SFAS 125 in January 1997.
Based on the Bank's current operating activities, management does not believe
that the adoption of this statement will have a material impact on the Bank's
financial condition or results of operations.
Accounting For Earnings Per Share. In February 1997, the FASB issued
Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS
128"). SFAS 128 establishes standards for computing and presenting earnings per
share (EPS) and applies to entities with publicly held common stock or potential
common stock. This statement simplifies the standards for computing earnings
per share previously found in APB Opinion No. 15, "Earnings per share", and
makes them comparable to international EPS standards. It replaces the
presentation of primary EPS with a presentation of basic EPS and requires dual
presentation of basic and diluted EPS on the face of the income statement for
all entities with complex capital structures and
16
<PAGE>
requires a reconciliation of the numerator and denominator of the basic EPS
computation to the numerator and denominator of the diluted EPS computation.
SFAS 128 is effective for financial statements issued for periods ending after
December 15, 1997, including interim periods; earlier application is not
permitted. This statement requires restatement of all prior-period EPS data
presented. The Company will adopt the statement at fiscal year-end 1997. Basic
and diluted earnings per share under SFAS 128 would be identical to earnings per
share as presented in the financial statements and, therefore, will not have any
material effect on the Company.
Reporting of Comprehensive Income. In June 1997, the FASB issued
Statements of Financial Accounting Standards No. 130, "Reporting of
Comprehensive Income" ("SFAS 130"), which establishes standards for reporting
and display of comprehensive income and its components (revenues, expenses,
gains, and losses) in a full set of financial statements. This statement also
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.
This statement is effective for fiscal years beginning after December 15,
1997. Earlier application is permitted. Reclassification of financial statements
for earlier periods provided for comparative purposes is required. The Company
does not anticipate that adoption of SFAS 130 will have a material effect on the
Company.
Disclosure about Segments and Related Information. In June 1997, the FASB
issued Statement of Financial Accounting Standards No. 131, "Disclosures about
Segments of an Enterprise and Related Information" ("SFAS 131"), which
establishes standards for the way that public business enterprises report
information about operating segments in annual financial statements and requires
that those enterprises report selected information about operating segments in
interim financial reports issued to stockholders. This statement also
establishes standards for related disclosures about products and services,
geographic areas, and major customers. This statement requires the reporting of
financial and descriptive information about an enterprise's reportable operating
segments.
This statement is effective for financial statements for periods beginning
after December 15, 1997. In the initial year of application, comparative
information for earlier years is to be restated. The Company does not anticipate
that the adoption of SFAS 131 will have a material effect on the Company.
Pensions and Other Postretirement Benefits. The FASB recently issued Statement
of Financial Accounting Standards No. 132, "Employers' Disclosures about
Pensions and Other Postretirement Benefits" ("SFAS 132"), which changes current
financial-statement disclosure requirements from those that were required under
SFAS 87 "Employers' Accounting for Pensions," SFAS 88, "Employers' Accounting
for Settlements and Curtailments of Defined Benefit Pension Plans and for
Termination Benefits," and SFAS 106, "Employers' Accounting for Postretirement
Benefits Other Than Pensions."
Some of the more significant effects of SFAS 132 are that it: (i) standardizes
the disclosure requirements for pensions and other postretirement benefits and
presents them on one footnote; (ii) requires that additional information be
disclosed regarding changes in the benefit obligation and fair values of plan
assets; (iii) eliminates certain disclosures that are no longer considered
useful, including general descriptions of the plans; (iv) permits the
aggregation of information about certain plans; and (v) provides reduced
disclosure requirements for nonpublic entities.
SFAS 132 does not change the existing measurement or recognition provisions of
the above standards and is effective for fiscal years beginning after December
15, 1997, though early application is permitted. The Company has not yet adopted
SFAS 132 but does not expect that adoption will have a material impact on the
Company's financial statements.
FORWARD-LOOKING STATEMENTS
Management's discussion and analysis includes certain forward-looking
statements addressing, among other things, the Bank's prospects for earnings,
asset growth and net interest margin. Forward-looking statements are accompanied
by, and identified with, such terms as "anticipates," "believes," "expects,"
"intends," and similar phrases. Management's expectations for the Bank's future
involve a number of assumptions and estimates. Factors that could cause actual
results to differ from the expectations expressed herein include: substantial
changes in interest rates, and changes in the general economy; changes in the
Bank's strategies for credit-risk management, interest-rate risk management and
investment activities. Accordingly, any forward-looking statements included
herein do not purport to be predictions of future events or circumstances and
may not be realized.
17
<PAGE>
Independent Auditor's Report
To the Board of Directors
Hopkinsville Federal Savings Bank
We have audited the accompanying statements of financial condition of
Hopkinsville Federal Savings Bank as of December 31, 1997 and 1996, and the
related statements of income, equity, and cash flows for each of the three years
in the period ended December 31, 1997. These financial statements are the
responsibility of the Bank's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
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 audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Hopkinsville Federal Savings
Bank as of December 31, 1997 and 1996, and the results of its operations and its
cash flows for each of the three years in the period ended December 31, 1997 in
conformity with generally accepted accounting principles.
/s/ York, Neel & Co. -- Hopkinsville, LLP
Hopkinsville, Kentucky
March 20, 1998
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
STATEMENTS OF FINANCIAL CONDITION
DECEMBER 31, 1997 AND 1996
1997 1996
------------ -----------
ASSETS
Cash and due from banks $ 1,263,868 $ 1,451,727
Time deposits 2,000,000 2,000,000
Interest-earning deposits in
Federal Home Loan Bank 3,944,621 -
Federal funds sold 151,095,000 500,000
Securities available for sale 26,698,853 5,125,452
Securities held to maturity,
market value of $51,963,937 and
$95,761,674 for 1997 and 1996,
respectively 51,566,329 95,946,689
Loans receivable, net of
allowance for loan losses
of $237,444 and $217,444 for
1997 and 1996, respectively 103,470,161 95,495,890
Accrued interest receivable 1,183,808 1,290,408
Premises and equipment, net 2,333,475 2,332,876
Other assets 438,913 254,989
------------ ------------
Total assets $343,995,028 $204,398,031
============ ============
LIABILITIES AND EQUITY
Deposits:
Noninterest-bearing accounts $ 1,963,073 $ 1,784,472
Interest-bearing accounts:
Demand / NOW accounts 9,483,478 7,603,322
Money market accounts 42,064,189 36,939,552
Passbook savings 148,080,134 10,631,561
Other time deposits 119,041,727 126,868,459
------------ ------------
Total deposits 320,632,601 183,827,366
Advances from borrowers
for taxes and insurance 171,519 184,120
Federal income taxes payable:
Current 360,231 -
Deferred 1,963,852 1,659,063
Other borrowed funds - 1,317,000
Accrued expenses and
other liabilities 930,748 586,934
------------ ------------
Total liabilities 324,058,951 187,574,483
------------ ------------
Equity:
Retained earnings -
substantially restricted 16,613,308 14,590,739
Net unrealized appreciation on
available-for-sale securities,
net of tax of $1,711,729 in 1997
and $1,150,235 in 1996 3,322,769 2,232,809
------------ ------------
Total equity 19,936,077 16,823,548
------------ ------------
Total liabilities and equity $343,995,028 $204,398,031
============ ============
The accompanying notes are an integral
part of these financial statements.
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
1997 1996 1995
----------- ----------- -----------
Interest income:
Loans receivable $ 7,606,685 $ 6,823,842 $ 5,839,659
Securities available for sale 412,355 150,814 134,894
Securities held to maturity 4,705,678 5,623,854 4,364,389
Time deposits 1,586,451 621,041 2,133,061
----------- ----------- -----------
Total interest income 14,311,169 13,219,551 12,472,003
----------- ----------- -----------
Interest expense:
Deposits 9,340,884 9,731,511 10,009,266
Other borrowed funds 9,336 25,022 -
----------- ----------- -----------
Total interest expense 9,350,220 9,756,533 10,009,266
----------- ----------- -----------
Net interest income 4,960,949 3,463,018 2,462,737
Provision for loan losses 20,000 100,000 -
----------- ----------- -----------
Net interest income after
provision for loan losses 4,940,949 3,363,018 2,462,737
----------- ----------- -----------
Noninterest income:
NOW account fees 150,640 156,584 115,283
Loan fees 207,706 259,665 153,681
Service charges 82,807 112,251 77,163
Other 86,566 61,363 52,064
----------- ----------- -----------
Total noninterest income 527,719 589,863 398,191
----------- ----------- -----------
Noninterest expenses:
Salaries and benefits 1,479,118 1,261,090 1,204,204
Deposit insurance premium 120,084 1,701,758 426,172
Occupancy expense 211,986 215,101 176,757
Data processing 113,941 86,674 102,334
Other 482,716 409,043 336,402
----------- ----------- -----------
Total noninterest expense 2,407,845 3,673,666 2,245,869
----------- ----------- -----------
Income before income taxes 3,060,823 279,215 615,059
Income tax expense 1,038,254 84,681 203,059
----------- ----------- -----------
Net income $ 2,022,569 $ 194,534 $ 412,000
=========== =========== ===========
The accompanying notes are an integral
part of these financial statements.
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
STATEMENTS OF EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
Net Unrealized
Appreciation
On Available-
Retained For-Sale Total
Earnings Securities Equity
----------- -------------- -----------
BALANCE,
DECEMBER 31, 1994 $13,984,205 $ 945,962 $14,930,167
Net income, as restated 412,000 - 412,000
Net changes in unrealized
appreciation on
available-for-sale
securities, net of taxes
of $339,986 - 659,974 659,974
----------- ---------- -----------
BALANCE,
DECEMBER 31, 1995 14,396,205 1,605,936 16,002,141
Net income, as restated 194,534 - 194,534
Net changes in unrealized
appreciation on
available-for-sale
securities, net of taxes
of $322,935 - 626,873 626,873
----------- ---------- -----------
BALANCE,
DECEMBER 31, 1996 14,590,739 2,232,809 16,823,548
Net income 2,022,569 - 2,022,569
Net changes in unrealized
appreciation on
available-for-sale
securities, net of taxes
of $561,495 - 1,089,960 1,089,960
----------- ---------- -----------
BALANCE,
DECEMBER 31, 1997 $16,613,308 $3,322,769 $19,936,077
=========== ========== ===========
The accompanying notes are an integral
part of these financial statements.
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
1997 1996 1995
-------------- ------------- -------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 2,022,569 $ 194,534 $ 412,000
Adjustments to reconcile net
income to net cash provided by
operating activities:
Provision for loan losses 20,000 100,000 -
Depreciation 130,337 117,094 97,700
Accretion of investment
security discounts (48,539) (5,499) (4,233)
Deferred income taxes (244,697) 49,864 51,774
Stock dividend (118,500) (107,500) (97,700)
Gain on sale of equipment (4,741) (8,265) (400)
(Increase) decrease in:
Accrued interest receivable 106,600 (229,434) (267,530)
Other assets (142,190) (227,470) 23,561
Increase (decrease) in:
Current income taxes payable 360,231 - -
Accrued expenses and other liabilities 343,814 228,752 (46,386)
------------- ------------ ------------
Net cash provided by operating activities 2,424,884 112,076 168,786
------------- ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net decrease in time deposits - 5,000,000 20,000,000
Net (increase) decrease in interest-
bearing deposits in FHLB (3,944,621) 5,550,000 5,650,000
Net (increase) decrease in
federal funds sold (150,595,000) 7,448,000 (6,618,000)
Proceeds from maturities of
held-to-maturity securities 50,336,539 44,010,074 51,503,438
Purchases of held-to-maturity securities (5,909,005) (41,398,090) (73,707,447)
Proceeds from maturities of
available-for-sale securities 81,009 - -
Purchases of available-for-
sale securities (19,895,099) (15,000) -
Net increase in loans (8,036,005) (10,840,515) (6,228,670)
Purchases of premises/equipment (258,961) (108,724) (95,736)
Proceeds from sale of equipment 132,766 14,132 400
------------- ------------ ------------
Net cash provided by (used in)
investing activities (138,088,377) 9,659,877 (9,496,015)
------------- ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase (decrease) in demand
deposits, savings and NOW deposits 144,631,967 2,115,765 (9,868,232)
Net increase (decrease) in time deposits (7,826,732) (13,063,588) 18,943,928
Increase (decrease) in advance
payments by borrowers
for taxes and insurance (12,601) 7,567 (22,947)
Net increase (decrease) in
other borrowed funds (1,317,000) 1,317,000 -
------------- ------------ ------------
Net cash provided by (used in)
financing activities 135,475,634 (9,623,256) 9,052,749
------------- ------------ ------------
Increase (decrease) in cash
and cash equivalents (187,859) 148,697 (274,480)
Cash and cash equivalents, beginning of period 1,451,727 1,303,030 1,577,510
------------- ------------ ------------
Cash and cash equivalents, end of period $ 1,263,868 $ 1,451,727 $ 1,303,030
============= ============ ============
Interest paid $ 9,128,049 $ 9,557,312 $ 9,994,399
============= ============ ============
Income taxes paid $ 670,074 $ 285,991 $ 146,000
============= ============ ============
</TABLE>
The accompanying notes are an integral
part of these financial statements.
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Significant accounting policies of the Bank are as follows:
A. NATURE OF BUSINESS
Hopkinsville Federal Savings Bank (the "Bank") is a mutual savings bank
which was organized in 1879. Its principal business consists of accepting
deposits and residential mortgage loan originations in its primary market
area of Christian, Calloway, Todd and Trigg Counties, Kentucky. The Bank
is subject to the regulations of certain federal agencies and undergoes
periodic examinations by those regulatory authorities.
B. CASH AND CASH EQUIVALENTS
For the purpose of presentation in the statements of cash flows, cash and
cash equivalents are defined as those amounts included in the balance
sheet caption "cash and due from banks".
C. SECURITIES HELD TO MATURITY
Bonds, notes and debentures for which the Bank has the positive intent
and ability to hold to maturity are reported at cost, adjusted for
premiums and discounts that are recognized in interest income over the
period to maturity using the level yield method.
Declines in the fair value of individual held-to-maturity securities
below their cost that are other than temporary result in write-downs of
the individual securities to their fair value. The write-downs are
included in earnings as realized losses.
D. SECURITIES AVAILABLE FOR SALE
Available-for-sale securities consist of bonds, notes, debentures, and
certain equity securities not classified as trading securities nor as
held-to-maturity securities.
Unrealized holding gains and losses, net of tax, on available-for-sale
securities are reported as a net amount in a separate component of equity
until realized.
Gains and losses on the sale of available-for-sale securities are
determined using the specific identification method.
<PAGE>
Declines in the fair value of individual available-for-sale securities
below their cost that are other than temporary result in write-downs of
the individual securities to their fair value. The write-downs are
included in earnings as realized losses.
Premiums and discounts are recognized in interest income over the
period to maturity using the level yield method.
E. LOANS RECEIVABLE
Loans receivable are stated at unpaid principal balances, less the
allowance for loan losses and discounts.
Discounts on home improvement and consumer loans are recognized over the
lives of the loans using the interest method. Loan origination fee income
is recognized as received and direct loan origination costs are expensed
as incurred. Statement of Financial Accounting Standard ("SFAS") No. 91
requires the recognition of loan origination fee income over the life of
the loan and the recognition of certain direct loan origination costs
over the life of the loan. However, deferral of such fees and costs would
not have a material effect on the financial statements.
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 while the loan is classified as nonaccrual. Loans may be
returned to accrual status when all principal and interest amounts
contractually due (including arrearages) are reasonably assured of
repayment within an acceptable period of time, and there is a sustained
period of repayment performance by the borrower in accordance with the
contractual terms of interest and principal.
The Bank provides an allowance for loan losses and includes in operating
expenses a provision for loan losses determined by management.
Management's periodic evaluation of the adequacy of the allowance is
based on the Bank's past loan loss experience, known and inherent risks
in the portfolio, adverse situations that may affect the borrower's
ability to repay, the estimated value of any underlying collateral, and
current economic conditions. Management believes it has established the
allowance in accordance with generally accepted accounting principles and
has taken into account the views of its regulators and the current
economic environment.
<PAGE>
F. FORECLOSED REAL ESTATE
Real estate properties acquired through, or in lieu of, loan
foreclosure are carried at the lower of cost or fair value less cost to
sell. Costs of developing such real estate are capitalized, whereas
costs relating to holding the property are expensed. Valuations are
periodically performed by management, and any adjustments to value are
made through an allowance for losses.
G. INCOME TAXES
The Bank accounts for income taxes through the use of the asset and
liability method. Under the asset and liability method, deferred taxes
are recognized for the tax consequences of temporary differences by
applying enacted statutory rates applicable to future years to
differences between the financial statement carrying amounts and the
tax bases of existing assets and liabilities. The effect on deferred
taxes of a change in tax rates would be recognized in income in the
period that includes the enactment date.
H. PREMISES AND EQUIPMENT
Land is carried at cost. Land improvements, buildings, and furniture
and equipment are carried at cost, less accumulated depreciation and
amortization. Buildings and furniture and equipment are depreciated
generally by the straight-line method over the estimated useful lives
of the assets. The estimated useful lives used to compute depreciation
are as follows:
Land improvements 5-15 years
Buildings 40 years
Furniture and equipment 5-15 years
I. FINANCIAL INSTRUMENTS
In the ordinary course of business the Bank has entered into off-
balance-sheet financial instruments consisting of commitments to extend
credit, etc. Such financial instruments are recorded in the financial
statements when they are funded or related fees are incurred or
received.
J. FAIR VALUES OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used by the Bank in
estimating fair values of financial instruments as disclosed herein:
CASH AND SHORT TERM INSTRUMENTS. The carrying amounts of cash and
short term instruments approximate their fair
value.
<PAGE>
AVAILABLE-FOR SALE AND HELD-TO-MATURITY SECURITIES. Fair values for
securities are based on quoted market prices.
LOANS RECEIVABLE. For variable rate loans that reprice annually and
have no significant change in credit risk, fair values are based on
carrying values. Fair values for fixed rate mortgage loans and fixed
rate commercial loans are estimated using discounted cash flow
analyses, using interest rates currently being offered for loans with
similar terms to borrowers of similar credit quality.
J. FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED)
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 amounts of
variable rate, fixed-term money market accounts approximate their fair
values at the reporting date. Fair values for fixed rate certificates
of deposits (CD's) are estimated using a discounted cash flow
calculation that applies interest rates currently being offered on
certificates of deposit to a schedule of aggregated expected annual
maturities on time deposits.
ADVANCES FROM BORROWERS FOR TAXES AND LICENSES. The carrying amounts of
advances from borrowers approximate their fair value.
OTHER BORROWED FUNDS. The carrying amounts of other borrowed funds
approximate their fair values since such borrowings mature within 90
days.
ACCRUED INTEREST. The carrying amounts of accrued interest approximate
their fair values.
OFF-BALANCE-SHEET INSTRUMENTS. Off-balance-sheet lending commitments
approximate their fair values due to the short period of time before
the commitment expires.
K. ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ
from those estimates.
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
2. SECURITIES
Securities, which consist of debt and equity investments, have been classified
in the statements of financial condition according to management's intent. The
carrying amount of securities and their approximate fair values follow:
<TABLE>
<CAPTION>
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
AVAILABLE-FOR-SALE SECURITIES
December 31, 1997:
Restricted:
FHLB stock $ 1,725,400 $ - $ - $ 1,725,400
Intrieve 15,000 - - 15,000
----------- ----------- ---------- -----------
1,740,400 - - 1,740,400
----------- ----------- ---------- -----------
Unrestricted:
FHLMC stock 120,508 5,048,516 - 5,169,024
U.S. government
and agency
securities:
FHLB investment
securities 13,000,000 13,590 (13,140) 13,000,450
Mortgage-backed
securities:
GNMA 2,941,488 18,518 - 2,960,006
FNMA 1,888,484 - (18,489) 1,869,995
FHLMC 1,973,954 - (14,976) 1,958,978
----------- ----------- ---------- -----------
19,924,434 5,080,624 (46,605) 24,958,453
----------- ----------- ---------- -----------
$21,664,834 $5,080,624 $(46,605) $26,698,853
=========== =========== ========== ===========
December 31, 1996:
Restricted:
FHLB stock $ 1,606,900 $ - $ - $ 1,606,900
Intrieve 15,000 - - 15,000
----------- ----------- ---------- -----------
1,621,900 - - 1,621,900
Unrestricted:
FHLMC stock 120,508 3,383,044 - 3,503,552
----------- ----------- ---------- -----------
$ 1,742,408 $3,383,044 $ - $ 5,125,452
=========== =========== ========== ===========
</TABLE>
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
2. SECURITIES (CONTINUED)
The scheduled maturities of securities available for sale at December 31, 1997,
were as follows:
<TABLE>
<CAPTION>
Amortized Fair
Cost Value
----------- ------------
<S> <C> <C>
Due in one year or less $ - $ -
Due in one to five years 13,000,000 13,000,450
----------- -----------
13,000,000 13,000,450
Mortgage-backed securities 6,803,926 6,788,979
----------- -----------
$19,803,926 $19,789,429
=========== ===========
<CAPTION>
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
----------- ----------- ----------- -----------
HELD-TO-MATURITY SECURITIES
December 31, 1997:
<S> <C> <C> <C> <C>
U.S. government and agency securities:
FHLB investment
securities $31,988,246 $ 620 $ (149,486) $31,839,380
----------- ----------- ----------- -----------
Mortgage-backed
securities:
GNMA 17,814,021 520,959 (1,014) 18,333,966
FNMA 1,764,062 34,932 (8,403) 1,790,591
----------- ----------- ----------- -----------
19,578,083 555,891 (9,417) 20,124,557
----------- ----------- ----------- -----------
$51,566,329 $ 556,511 $ (158,903) $51,963,937
=========== =========== =========== ===========
December 31, 1996:
U.S. government and agency securities:
FHLB investment
securities $77,962,421 $ 38,984 $ (512,772) $77,488,633
----------- ----------- ----------- -----------
Mortgage-backed
securities:
GNMA 17,531,921 297,278 (3,430) 17,825,769
FNMA 452,347 - (5,075) 447,272
----------- ----------- ----------- -----------
17,984,268 297,278 (8,505) 18,273,041
----------- ----------- ----------- -----------
$95,946,689 $ 336,262 $ (521,277) $95,761,674
=========== =========== =========== ===========
</TABLE>
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
2. SECURITIES (CONTINUED)
The scheduled maturities of securities held-to-maturity at December 31, 1997,
were as follows:
Amortized Fair
Cost Value
------------- ------------
Due in one year or less $ 5,000,000 $ 4,992,970
Due in one to five years 26,988,246 26,846,410
------------ -----------
31,988,246 31,839,380
Mortgage-backed securities 19,578,083 20,124,557
------------ -----------
$ 51,566,329 $51,963,937
============ ===========
3.LOANS RECEIVABLE
The components of loans in the statements of financial
condition as of December 31 1997 and 1996 were as follows:
1997 1996
------------ -----------
Real estate loans:
One-to-four family $ 83,228,850 $77,317,997
Multi-family 2,359,742 1,466,486
Construction 5,165,962 5,388,959
Non-residential 7,593,053 5,466,414
------------ -----------
Total mortgage loans 98,347,607 89,639,856
------------ -----------
Consumer loans:
Loans secured by
deposits 3,080,749 3,484,074
Other consumer loans 4,298,236 4,004,177
------------ -----------
Total consumer loans 7,378,985 7,488,251
------------ -----------
105,726,592 97,128,107
Less:
Undisbursed portion
of mortgage loans (2,018,987) (1,414,773)
------------ -----------
Total loans 103,707,605 95,713,334
Less allowance for
loan losses (237,444) (217,444)
------------ -----------
$103,470,161 $95,495,890
============ ===========
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
3.LOANS RECEIVABLE (CONTINUED)
An analysis of the change in the allowance for loan losses for the years ended
December 31, 1997 and 1996 follows:
1997 1996
-------- ---------
Balance at beginning of year $217,444 $122,252
Loans charged off - (4,808)
Recoveries - -
-------- --------
Net loans charged off - (4,808)
Provision for loan
losses 20,000 100,000
-------- --------
Balance at end of year $237,444 $217,444
======== ========
4. PREMISES AND EQUIPMENT
Components of properties and equipment included in the statements of financial
condition as of December 31, 1997 and 1996 consisted of the following:
1997 1996
----------- -----------
Land $ 537,870 $ 570,566
Land improvements 73,661 82,511
Buildings 1,760,092 2,033,532
Furniture and equipment 500,152 644,309
Construction in progress 83,325 -
---------- ----------
2,955,100 3,330,918
Less accumulated
depreciation (621,625) (998,042)
---------- ----------
$2,333,475 $2,332,876
========== ==========
Depreciation expense was $130,337, $117,094, and $97,700 for the years ended
December 31, 1997, 1996, and 1995, respectively.
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
5. DEPOSITS
At December 31, 1997, the scheduled maturities of other time deposits were as
follows:
1998 $85,485,782
1999 21,539,354
2000 9,563,557
2001 1,812,113
2002 640,921
-----------
$119,041,727
============
The amount of other time deposits with a minimum denomination of $100,000 was
$8,118,952 and $7,374,548 at December 31, 1997 and 1996, respectively. Deposits
in excess of $100,000 are not federally insured.
Interest expense on deposits for the years ended December 31, 1997, 1996, and
1995 is summarized as follows:
1997 1996 1995
---------- ---------- -----------
Demand / NOW accounts $ 212,759 $ 207,088 $ 168,663
Money market accounts 1,619,467 1,625,405 1,755,073
Passbook savings 794,300 302,052 329,996
Other time deposits 6,714,358 7,596,966 7,755,534
---------- ---------- -----------
$9,340,884 $9,731,511 $10,009,266
========== ========== ===========
The Bank maintains clearing arrangements for its demand, NOW and money market
accounts with the Federal Home Loan Bank of Cincinnati. The Bank is required to
maintain certain cash reserves in its account to cover average daily clearings.
At December 31, 1997, average daily clearings were approximately $557,200.
6.OTHER BORROWED FUNDS
During 1996, the Bank entered into a Cash Management Advance (CMA) program with
the Federal Home Loan Bank. This program is a source of overnight liquidity to
address day-to-day cash needs. The program has a term of up to 90 days and
bears interest at a variable rate equal to the FHLB cost of funds (7.15% at
December 31, 1996). At December 31, 1996, the Bank could have borrowed up to
$25,000,000 under this program and the amount was collateralized by a FHLB
investment security. As of December 31, 1996, the amount owed on the advance was
$1,317,000. The amount was repaid in full during 1997. At December 31, 1997,
the Bank could borrow up to $10,100,000 under the CMA program and the amount
would be collateralized by
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
6. OTHER BORROWED FUNDS (CONTINUED)
FHLB investment securities. The balance owed at December 31, 1997 was zero.
7.FINANCIAL INSTRUMENTS
The Bank is a party to financial instruments with off-balance-sheet risk in the
normal course of business to meet the financing needs of its customers and to
reduce its own exposure to fluctuations in interest rates. These financial
instruments include commitments to extend credit and commercial letters of
credit. Those instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized in the statements of
financial condition. The contract or notional amounts of those instruments
reflect the extent of the Bank's involvement in particular classes of financial
instruments.
The Bank's exposure to credit loss in the event of nonperformance by the other
party to the financial instrument for commitments to extend credit and
commercial letters of credit is represented by the contractual notional amount
of those instruments. The Bank uses the same credit policies in making
commitments and conditional obligations as it does for on-balance-sheet
instruments.
Unless noted otherwise, the Bank does not require collateral or other security
to support financial instruments with credit risk.
COMMITMENTS TO EXTEND CREDIT. 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 some of the
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements. The
Bank's experience has been that most loan commitments are drawn upon by
customers. The Bank has offered standby letters of credit on a limited basis.
As of December 31, 1997, the Bank has not been requested to advance funds on any
of the standby letters of credit.
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
7.FINANCIAL INSTRUMENTS (CONTINUED)
The estimated fair values of the Bank's financial instruments were as follows at
December 31, 1997:
<TABLE>
<CAPTION>
Carrying Fair
Amount Value
-------------- --------------
<S> <C> <C>
Financial assets:
Cash and due from banks $ 1,263,868 $ 1,263,868
Time deposits 2,000,000 2,000,000
Interest-earning deposits
in FHLB 3,944,621 3,944,621
Federal funds sold 151,095,000 151,095,000
Securities available for sale 26,698,853 26,698,853
Securities held to maturity 51,566,329 51,963,937
Loans receivable 103,470,161 103,386,125
Accrued interest receivable 1,183,808 1,183,808
Financial liabilities:
Deposit liabilities (320,632,601) (320,581,341)
Advances from borrowers for
taxes and insurance (171,519) (171,519)
Off-balance-sheet assets (liabilities):
Commitments to extend credit (856,810)
Commercial letters of credit (350,194)
</TABLE>
The estimated fair values of the Bank's financial instruments
were as follows at December 31, 1996:
<TABLE>
<CAPTION>
Carrying Fair
Amount Value
------------- -------------
<S> <C> <C>
Financial assets:
Cash and due from banks $ 1,451,727 $ 1,451,727
Time deposits 2,000,000 2,000,000
Federal funds sold 500,000 500,000
Securities available for sale 5,125,452 5,125,452
Securities held to maturity 95,946,689 95,761,674
Loans receivable 95,495,890 95,216,624
Accrued interest receivable 1,290,408 1,290,408
Financial liabilities:
Deposit liabilities (183,827,366) (183,910,399)
Advances from borrowers for
taxes and insurance (184,120) (184,120)
Other borrowed funds (1,317,000) (1,317,000)
Off-balance-sheet assets (liabilities):
Commitments to extend credit (919,375)
Commercial letters of credit (499,030)
</TABLE>
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
8.SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT RISK
Most of the Bank's business activity is with customers located within the
western part of the Commonwealth of Kentucky. The majority of the loans are
collateralized by a one-to-four family residence. The Bank requires collateral
for all loans.
The distribution of commitments to extend credit approximates the distribution
of loans outstanding. The contractual amounts of credit-related financial
instruments such as commitments to extend credit and commercial 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 Bank had cash on deposit with financial institutions and federal funds sold
that exceeded the insurance coverage as of December 31, 1997 and 1996. The
carrying amount and bank balance of such items as of December 31, 1997 and 1996
was as follows:
1997 1996
------------- -----------
Carrying amount $157,805,353 $3,531,449
============ ==========
Bank balance $157,270,109 $2,720,454
Amount covered by insurance (366,906) (416,693)
------------ ----------
Amount not collateralized $156,903,203 $2,303,761
============ ==========
9. PENSION PLAN
Hopkinsville Federal Savings Bank has a noncontributory, defined benefit pension
plan covering substantially all of its employees who satisfy certain age and
service requirements. The benefits are based on years of service and the
employee's average earnings which are computed using the five consecutive years
prior to retirement that yield the highest average. Hopkinsville Federal's
funding policy is to contribute annually, actuarially determined amounts to
finance the plan benefits.
The following table, as restated (see footnote 15), sets forth the plan's funded
status and amounts recognized in the Bank's statements of financial condition at
December 31:
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
9. PENSION PLAN (CONTINUED)
<TABLE>
<CAPTION>
1997 1996 1995
------------ ---------- ----------
<S> <C> <C> <C>
Actuarial present value
of benefit obligations
at December 31:
Accumulated benefit obligation:
Vested $ 1,707,225 $1,497,089 $1,326,840
Nonvested 3,962 2,367 2,945
------------ ---------- ----------
$ 1,711,187 $1,499,456 $1,329,785
============ ========== ==========
Projected benefit obligation
for service rendered to date ($2,176,249) ($1,908,695) ($1,749,959)
Plan assets at fair value 1,421,158 1,414,661 1,260,431
------------ ---------- ----------
Projected benefit obligation
in excess of plan assets (755,091) (494,034) (489,528)
Unrecognized net obligation
existing at December 31 (56,262) (69,958) (77,953)
Unrecognized prior
service cost 120,514 138,747 156,980
Unrecognized net loss 572,126 298,457 267,194
------------ ---------- ----------
Accrued pension cost $ (118,713) $ (126,788) $ (143,307)
============ ========== ==========
</TABLE>
The components of net periodic pension cost for the years ended
December 31, were as follows:
<TABLE>
<CAPTION>
1997 1996 1995
------------ ---------- ----------
<S> <C> <C> <C>
Service cost $ 67,026 $ 79,562 $ 67,543
Interest cost on projected
benefit obligation 142,868 131,247 113,469
Actual return on assets (58,357) (84,117) (89,989)
Net amortization/deferral (42,181) (3,541) 12,497
------------ ---------- ----------
Net periodic pension cost $ 109,356 $ 123,151 $ 103,520
============ ========== ==========
</TABLE>
Assumptions used to develop the net periodic pension cost were:
1997 1996 1995
----- ----- -----
Discount rate 7.00% 7.50% 8.30%
Expected long-term rate of
return on assets 8.00% 8.00% 8.00%
Rate of increase in
compensation levels 4.50% 4.50% 4.50%
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
10. FEDERAL INCOME TAXES
The provision for income taxes for the years ended December 31, 1997, 1996, and
1995 consisted of the following:
1997 1996 1995
----------- ------- --------
Current $1,282,951 $34,817 $151,285
Deferred (244,697) 49,864 51,774
---------- ------- --------
$1,038,254 $84,681 $203,059
========== ======= ========
Total income tax expense for the years ended December 31, 1997, 1996 and 1995
differed from the amounts computed by applying the U.S. federal income tax rate
of 34 percent to income before income taxes as follows:
1997 1996 1995
----------- --------- ---------
Expected income tax
expense at federal
tax rate $1,040,680 $ 94,933 $209,120
Dividends received
deduction (11,716) (10,284) (8,122)
Other 9,290 32 2,061
---------- -------- --------
Total income
tax expense $1,038,254 $ 84,681 $203,059
========== ======== ========
Effective rate 33.9% 30.3% 33.0%
========== ======== ========
Deferred tax expense results from timing differences in the recognition of
income and expense for tax and financial reporting purposes. The source and tax
effect of these timing differences as of December 31, 1997, 1996, and 1995 are
as follows:
1997 1996 1995
------- ------- -------
FHLB stock dividends $ 40,116 $36,631 $33,262
Provision for bad-debts (45,762) 7,617 13,077
Pension cost (24,309) 5,616 5,251
Accrued interest
expense (192,947) - -
Accrued professional
fees (21,795) - -
Other - - 184
--------- ------- -------
$(244,697) $49,864 $51,774
========= ======= =======
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
10. FEDERAL INCOME TAXES (CONTINUED)
The components of deferred taxes as of December 31, 1997 and 1996 are
summarized as follows:
1997 1996
------------ ------------
Deferred tax liabilities:
FHLB stock dividends $ (327,352) $ (287,236)
Bad debt reserves (218,939) (264,701)
Unrealized appreciation
on securities
available for sale (1,699,721) (1,150,235)
----------- -----------
(2,246,012) (1,702,172)
----------- -----------
Deferred tax assets:
Pension cost 67,418 43,109
Accrued interest expense 192,947 -
Accrued professional fees 21,795 -
----------- -----------
282,160 43,109
----------- -----------
Net deferred tax liability $(1,963,852) $(1,659,063)
=========== ===========
Thrift institutions, in determining taxable income, have historically been
allowed special bad debt deductions based on specified experience formulae
or on a percentage of taxable income before such deductions. The bad debt
deduction based on the latter has been gradually reduced to 8%. During
August 1996, the President signed the Small Business Protection Act of 1996
that will, among other things, repeal the tax bad debt reserve method for
thrifts effective for taxable years beginning after December 31, 1995. As a
result, thrifts must recapture into taxable income the amount of their post-
1987 tax bad debt reserves over a six-year period beginning after 1995. This
recapture can be deferred for up to two years if the thrift satisfies a
residential loan portfolio test. The Bank is expected to recapture
approximately $878,800 of its tax bad debt reserves into taxable income over
six years as a result of this new law. The recapture will not have any
effect on the Bank's financial statements because the related tax expense
has already been accrued.
Because of such repeal, thrifts such as the Bank may only use the same tax
bad debt reserve that is allowed for banks. Accordingly, a thrift with
assets of $500 million or less may only add to its tax bad debt reserves
based upon its moving six-year average experience of actual loan losses
(i.e., the experience method). A thrift with assets greater than $500
million can no longer use the reserve method and may only deduct loan losses
as they actually arise (i.e., the specific
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
10. FEDERAL INCOME TAXES (CONTINUED)
charge-off method). The Bank expects to continue to use the reserve method.
The portion of a thrift's tax bad debt reserve that is not recaptured
(generally pre-1988 bad debt reserves) under this new law is only subject to
recapture at a later date under certain circumstances. These include stock
repurchase redemptions by the thrift or if the thrift converts to a type of
institution (such as a credit union) that is not considered a bank for tax
purposes. However, no further recapture would be required if the thrift
converted to a commercial bank charter or was acquired by a bank. The Bank
does not anticipate engaging in any transactions at this time that would
require the recapture of its remaining tax bad debt reserves. Therefore,
retained earnings at December 31, 1997 and 1996 includes approximately
$4,027,400 which represents such bad debt deductions for which no deferred
income taxes have been provided.
11. RELATED PARTIES
The Bank has entered into transactions with its directors and their
affiliates (related parties). The aggregate amount of loans to such related
parties at December 31, 1997 and December 31, 1996, was $263,792 and
$230,490, respectively. During 1997, new loans to such related parties
amounted to $55,760 and repayments amounted to $22,458. During 1996, new
loans to such related parties amounted to $55,976 and repayments amounted to
$44,323.
12. COMMITMENTS AND CONTINGENCIES
In the ordinary course of business, the Bank has various outstanding
commitments and contingent liabilities that are not reflected in the
accompanying financial statements.
The Bank had open loan commitments at December 31, 1997 and 1996 of $856,810
and $919,375, respectively. Of these amounts $147,000 and $268,600 as of
December 31, 1997 and 1996, respectively, were for fixed rate loans. The
interest rates for the fixed rate loan commitments ranged from 7.88% to
9.00% and 7.50% to 9.50% for December 31, 1997 and 1996, respectively.
13. REGULATORY MATTERS
The Financial Institutions Reform Recovery and Enforcement Act of 1989
("FIRREA"), which instituted major reforms in the operation and supervision
of the savings and loan industry, contains provisions for capital standards.
These standards
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
13. REGULATORY MATTERS (CONTINUED)
require savings institutions to have a minimum regulatory tangible capital
(as defined in the regulation) equal to 1.50% of adjusted total assets and a
minimum 3.00% core capital (as defined) of adjusted total assets.
Additionally, savings institutions are required to meet a total risk-based
capital requirement of 8.00%. The Bank is also subject to the provisions of
the Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA"). FDICIA includes significant changes to the legal and regulatory
environment for insured depository institutions,including reductions in
insurance coverage for certain kinds of deposits,increased supervision by
the Federal regulatory agencies,increased reporting requirements for insured
institutions,and new regulations concerning reporting on internal controls,
accounting and operations.
FDICIA's prompt corrective action regulations define specific capital
categories based on an institutions' capital ratios. The capital categories,
in declining order, are "well capitalized", "adequately capitalized",
"undercapitalized", "significantly undercapitalized", and "critically
undercapitalized." Institutions categorized as "undercapitalized" or worse
are subject to certain restrictions, including the requirement to file a
capital plan with OTS, and increased supervisory monitoring, among other
things. Other restrictions may be imposed on the institution either by the
OTS or by the FDIC, including requirements to raise additional capital, sell
assets, or sell the entire institution.
The following chart delineates the categories as defined in the FDICIA
legislation:
Tier I Risk- Total Risk-
Core Capital Based Capital Based Capital
-------------- -------------- --------------
"Well capitalized" 5.0% 6.0% 10.0%
"Adequately
capitalized" 4.0% 4.0% 8.0%
"Undercapitalized" Less than 4.0% Less than 4.0% Less than 8.0%
"Significantly
undercapitalized" Less than 3.0% Less than 3.0% Less than 6.0%
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
13. REGULATORY MATTERS (CONTINUED)
At December 31, 1997, the Bank's core, tier I risk-based, and total risk-
based capital ratios were 4.9%, 19.5%, and 16.5%, respectively. The
following is a calculation of the Bank's regulatory capital (in thousands)
at December 31, 1997:
Tier I Total
Risk- Risk-
GAAP Based Tangible Core Based
Capital Capital Capital Capital Capital
------- ------- --------- -------- --------
GAAP capital,
as reported $19,936 $19,936 $19,936 $19,936 $19,936
=======
Unrealized gains
on certain
available-for-
sale securities - (3,323) (3,323) (3,323)
General valuation
allowance - - - 237
------- ------- ------- -------
Regulatory capital $19,936 16,613 16,613 16,850
=======
Minimum capital
requirement % 1.50% 3.00% 8.00%
Minimum capital
requirement $ 5,110 10,221 8,172
------- ------- -------
Regulatory capital
excess $11,503 $ 6,392 $ 8,678
======= ======= =======
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
13. REGULATORY MATTERS (CONTINUED)
At December 31, 1996, the Bank's core, tier I risk-based, and total risk-
based capital ratios were 7.2%, 23.0%, and 20.3%, respectively. The
following is a calculation of the Bank's regulatory capital (in thousands)
at December 31, 1996:
Tier I Total
Risk- Risk-
GAAP Based Tangible Core Based
Capital Capital Capital Capital Capital
------- ------- --------- -------- --------
GAAP capital,
as reported $16,824 $16,824 $16,824 $16,824 $16,824
=======
Unrealized gains
on certain
available-for-
sale securities - (2,233) (2,233) (2,233)
General valuation
allowance - - - 217
------- ------- ------- -------
Regulatory capital $16,824 14,591 14,591 14,808
=======
Minimum capital
requirement % 1.50% 3.00% 8.00%
Minimum capital
requirement $ 3,032 6,065 5,846
------- ------- -------
Regulatory capital
excess $11,559 $ 8,526 $ 8,962
======= ======= =======
The OTS risk-based capital regulation also includes an interest rate risk
("IRR") component that requires savings institutions with greater than
normal IRR, when determining compliance with the risk-based capital
requirements, to maintain additional total capital. The OTS has, however,
indefinitely deferred enforcement of its IRR requirements. Under the
regulation, a savings institution's IRR is measured in terms of the
sensitivity of its "net portfolio value" to changes in interest rates. A
savings institution is considered to have a "normal" level of IRR exposure
if the decline in its net portfolio value after an immediate 200 basis point
increase or decrease in market interest rates is less than 2% of the current
estimated economic value of its assets. If the OTS determines in the future
to enforce the regulation's IRR requirements, a savings institution with a
greater than normal IRR would be required to
<PAGE>
HOPKINSVILLE FEDERAL SAVINGS BANK
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 1997, 1996 AND 1995
13. REGULATORY MATTERS (CONTINUED)
deduct from total capital, for purposes of calculating its risk-based
capital requirement, an amount equal to one half the difference between the
institution's measured IRR and 2%, multiplied by the economic value of the
institution's total assets. Management does not believe that this
regulation, when enforced, will have a material impact on the Bank.
The United States Congress has passed legislation that resulted in an
assessment on all Savings Association Insurance Fund ("SAIF") insured
deposits in order to recapitalize the SAIF Fund. This one-time assessment
amounted to approximately 66 basis points on SAIF assessable deposits held
as of March 31, 1995. The assessment was payable no later than November 30,
1996 and amounted to approximately $1.23 million for the Bank. Such amount
was charged to earnings at September 30, 1996.
14. SUBSEQUENT EVENT
Effective February 6, 1998, the Bank converted from a federally chartered
mutual savings bank to a federally chartered stock savings bank, as a
wholly-owned subsidiary of a holding company chartered under Delaware law
for the purpose of acquiring control of the Bank following consummation of
the Bank's conversion.
Costs associated with the conversion will be deducted from the proceeds of
the sale of stock. Conversion costs incurred through December 31, 1997
totaled $385,234 and zero at December 31, 1996. The net proceeds received
from the conversion were approximately $39,500,000.
At the time of conversion, the Bank will establish a liquidation account in
the amount equal to the Bank's net worth as of the latest practicable date
prior to conversion. The liquidation account will be maintained for the
benefit of eligible deposit account holders who maintain their deposit
accounts in the Bank after conversion.
In the event of a complete liquidation (and only in such an event) and prior
to any payment to stockholders, each eligible deposit account holder will be
entitled to receive a liquidation distribution from the liquidation account
in an amount proportionate to the depositor's current adjusted balance for
deposit accounts held before any liquidation. Except for the repurchase of
stock and payment of dividends by the Bank, the existence of the liquidation
account will not restrict the use or application of such net worth.
<PAGE>
The Bank may not declare or pay a cash dividend on or repurchase any of its
capital stock if the effect thereof would cause the Bank's net worth to be
reduced below the capital requirements imposed by the OTS.
<PAGE>
CORPORATE INFORMATION
- --------------------------------------------------------------------------------
DIRECTORS AND EXECUTIVE OFFICERS
<TABLE>
<S> <C> <C>
WD KELLEY BOYD M. CLARK WALTON G. EZELL
Chairman of the Board Vice President and Secretary Farmer
Retired of the Company and Senior
Vice President - Loan
Administration of the Bank
BRUCE THOMAS CLIFTON H. COCHRAN JOHN NOBLE HALL, JR.
President and Chief Executive Retired Retired
Officer of the Company and the Bank
PEGGY R. NOEL CHESTER K. WOOD
Vice President, Chief Financial Officer and Retired
Treasurer of the Company and Executive
Vice President, Chief Financial Officer and
Chief Operations Officer of the Bank
</TABLE>
- --------------------------------------------------------------------------------
MAIN OFFICE
2700 Fort Campbell Boulevard
Hopkinsville, KY 42240 (502/885-1171)
BRANCH OFFICES
Downtown Branch Office Murray Branch Office
605 South Virginia Street 7/th/ and Main Streets
Hopkinsville, KY 42240 (502/885-1171) Murray, KY 42071 (502/753-7921)
Cadiz Branch Office Elkton Branch Office
67 Main Street West Main Street
Cadiz, KY 42211 (502/522-6638) Elkton, KY 42220 (502/265-5628)
- --------------------------------------------------------------------------------
GENERAL INFORMATION
<TABLE>
<S> <C> <C>
INDEPENDENT ACCOUNTANTS ANNUAL MEETING ANNUAL REPORT ON FORM 10-K
York, Neel & Co.-- The 1998 Annual Meeting of A COPY OF THE COMPANY'S
Hopkinsville, LLP Stockholders will be held on May 27, 1997 ANNUAL REPORT ON FORM
1113 Bethel Street 1998 at 10:00 a.m. at Hopkinsville 10-K WILL BE FURNISHED
Hopkinsville, KY 42240 Federal Savings Bank, 2700 Fort WITHOUT CHARGE TO STOCK-
Campbell Boulevard, Hopkinsville, KY HOLDERS AS OF THE RECORD
DATE FOR THE 1998 ANNUAL
GENERAL COUNSEL TRANSFER AGENT MEETING UPON WRITTEN
Deatherage, Myers, Self & Lackey Registrar and Transfer Company REQUEST TO PEGGY R. NOEL,
701 South Main Street 10 Commerce Drive HOPFED BANCORP, INC., 2700
Hopkinsville, KY 42241 Cranford, NJ 07016 FORT CAMPBELL BOULEVARD,
HOPKINSVILLE, KY 42240
SPECIAL COUNSEL
Kutak Rock
1101 Connecticut Avenue, N.W.
Washington, D.C. 20036
</TABLE>
<PAGE>
EXHIBIT 21
SUBSIDIARIES OF THE REGISTRANT
------------------------------
Jurisdiction of
Percentage Owned Incorporation
----------------------- ---------------------
Hopkinsville Federal
Savings Bank 100% United States
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<S> <C> <C>
<PERIOD-TYPE> YEAR YEAR
<FISCAL-YEAR-END> DEC-31-1997 DEC-31-1996
<PERIOD-START> JAN-01-1997 JAN-01-1996
<PERIOD-END> DEC-31-1997 DEC-31-1996
<CASH> 1,263,868 1,451,727
<INT-BEARING-DEPOSITS> 5,944,621 2,000,000
<FED-FUNDS-SOLD> 151,095,000 500,000
<TRADING-ASSETS> 0 0
<INVESTMENTS-HELD-FOR-SALE> 26,698,853 5,125,452
<INVESTMENTS-CARRYING> 51,566,329 95,946,689
<INVESTMENTS-MARKET> 51,963,937 95,761,674
<LOANS> 103,707,605 95,713,334
<ALLOWANCE> 237,444 217,444
<TOTAL-ASSETS> 343,995,028 204,398,031
<DEPOSITS> 320,632,601 183,827,366
<SHORT-TERM> 0 1,317,000
<LIABILITIES-OTHER> 3,426,350 2,430,117
<LONG-TERM> 0 0
0 0
0 0
<COMMON> 0 0
<OTHER-SE> 19,936,077 16,823,548
<TOTAL-LIABILITIES-AND-EQUITY> 343,995,028 204,398,031
<INTEREST-LOAN> 7,606,685 6,823,842
<INTEREST-INVEST> 5,118,033 5,774,668
<INTEREST-OTHER> 1,586,451 621,041
<INTEREST-TOTAL> 14,311,169 13,219,551
<INTEREST-DEPOSIT> 9,340,884 9,731,511
<INTEREST-EXPENSE> 9,350,220 9,756,533
<INTEREST-INCOME-NET> 4,960,949 3,463,018
<LOAN-LOSSES> 20,000 100,000
<SECURITIES-GAINS> 0 0
<EXPENSE-OTHER> 2,407,845 3,673,666
<INCOME-PRETAX> 3,060,823 279,215
<INCOME-PRE-EXTRAORDINARY> 3,060,823 279,215
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> 2,022,569 194,534
<EPS-PRIMARY> 0 0
<EPS-DILUTED> 0 0
<YIELD-ACTUAL> 2.33 1.70
<LOANS-NON> 0 0
<LOANS-PAST> 163,000 266,000
<LOANS-TROUBLED> 0 0
<LOANS-PROBLEM> 866,000 0
<ALLOWANCE-OPEN> 216,444 122,252
<CHARGE-OFFS> 0 4,808
<RECOVERIES> 0 0
<ALLOWANCE-CLOSE> 237,444 217,444
<ALLOWANCE-DOMESTIC> 237,444 217,444
<ALLOWANCE-FOREIGN> 0 0
<ALLOWANCE-UNALLOCATED> 0 0
</TABLE>
