UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-------------------------------
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 1998
000-22929
Commission File No.
TALBOT BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
Maryland 52-2033630
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
18 East Dover Street, Easton, Maryland 21601
(Address of Principal Executive Offices) (Zip Code)
(410) 822-1400
Registrant's Telephone Number, Including Area Code
Former name, former address and former fiscal year, if
changed since last report.
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 the 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. X
The aggregate market value of the Corporation's voting stock held by
non-affiliates of the registrant as of March 22, 1999 was $52,002,752
The number of shares outstanding of the registrant's common stock, as of March
22, 1999 was 1,192,222.
<PAGE>
Documents Incorporated by Reference
Portions of Talbot Bancshares, Inc definitive Proxy Statement for its 1999
Annual Stockholders' Meeting, as filed with the Commission on March 26, 1999 are
incorporated by reference into Part III of this report. Portions of the Annual
Report to Stockholders for the year ended December 31, 1998 are incorporated by
reference into Parts I and II of this report. Except for parts of the Talbot
Bancshares, Inc. Annual Report expressly incorporated herein by reference, this
Annual Report in not to be deemed filed with the Securities and Exchange
Commission.
<TABLE>
<CAPTION>
FORM 10K INDEX
Page(s)
Part I
<S> <C> <C>
Item 1. Business 3
Item 2. Properties 13
Item 3. Legal Proceedings 14
Item 4. Submission of Matters to a Vote of Security Holders 14
Part II
Item 5. Market for Common Stock and Related Stockholder Matters 14
Item 6. Selected Financial Data 14
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
Item 7a. Quantitative and Qualitative Disclosures About Market Risk 14
Item 8. Financial Statements and Supplementary Data 14
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure 14
Part III
Item 10. Directors and Executive Officers of the Registrant 15
Item 11. Executive Compensation 15
Item 12. Security Ownership of Certain Beneficial Owners and Management 15
Item 13. Certain Relationships and Related Transactions
Part IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 16
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2
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PART I
ITEM 1. BUSINESS
GENERAL
Talbot Bancshares, Inc. (the "Company") is a Maryland corporation organized on
March 10, 1997 which became a registered bank holding company on May 1, 1997
under the Bank Holding Company Act of 1956, as amended (the "BHC Act"). The
Company engages in the business of banking through its sole subsidiary The
Talbot Bank of Easton, Maryland (the "Bank"), a commercial bank chartered under
the laws of the State of Maryland. The Company acquired the Bank under a Plan of
Reorganization and Share Exchange (the "Plan") proposed by management and
approved by the Bank's stockholders at their annual meeting held April 23, 1997.
Pursuant to the Plan each share of Bank stock was exchanged for two shares of
Company stock. The Bank's charter was not affected by the reorganization. The
Company has issued and outstanding 1,192,222 shares of common stock , par value
$0.01 per share ("Shares") held by 463 holders of record March 22, 1999.
The Bank currently accounts for substantially all of the Company's assets. The
deposits of the Bank are insured by the Federal Deposit Insurance Corporation
("FDIC"). The Company's and the Bank's main office is located in Talbot County,
Maryland, at 18 East Dover Street, Easton, Maryland 21601. The Bank commenced
operation in 1885 and is engaged in general commercial and retail banking
business serving individuals and businesses in Talbot and Dorchester Counties,
Maryland. The Bank currently operates four banking offices in Talbot County,
three in Easton, Maryland and one in Saint Michaels, Maryland. The Bank also
operates a branch in Dorchester County, Maryland in the city of Cambridge. At
December 31, 1998 the Company had total assets of $302 million, total loans of
$194 million and total deposits of $250 million.
The Bank owns 33% of the outstanding common stock of Eastern Shore Mortgage
Corporation, a Maryland corporation. Eastern Shore Mortgage Corporation ("ESMC")
is located in Easton, Maryland as of March 22, 1998. ESMC is in the process of
liquidation. During 1998 and previous years ESMC was engaged in mortgage banking
activities, primarily the origination of residential mortgage loans and the
subsequent sale of those loans to permanent investors. ESMC service area was
primarily the Eastern Shore of Maryland.
PRINCIPAL SERVICES
The Bank is an independent community bank providing service to businesses and
individuals in its market area. Services offered are essentially the same as
those offered by larger regional institutions which compete with the Bank.
Services provided to businesses include commercial checking, savings,
certificate of deposit and overnight investment sweep accounts. The Bank offers
all forms of commercial lending including secured and unsecured loans, working
capital loans, lines of credit, term loans, accounts receivable financing, real
estate acquisition development, construction loans and letters of credit. Direct
Deposit of payroll, PC banking and telephone banking services are also
available.
Services to individuals include checking accounts, various savings programs,
mortgage loans, home improvement loans, installment and other personal loans,
credit cards, personal lines of credit, automobile and other consumer financing,
safe deposit services, debit cards, 24 hour telephone banking, PC banking, and
24 hour automatic teller machine services through the HONOR network. The Bank
has a branch in Cambridge, Maryland offering full service banking 7 days per
week.
LENDING ACTIVITIES
The Company originates secured and unsecured loans for business purposes. It is
typical for commercial loans to be secured by real estate, accounts receivable,
inventory equipment or other assets of the business. Commercial loans generally
involve a greater degree of credit risk than one to four family residential
mortgage loans. Repayment is often dependent on the successful operation of the
business and may be affected by adverse conditions in the local economy or real
estate market. The financial condition and cash flow of commercial borrowers is
therefore, carefully analyzed during the loan approval process, and continues to
be monitored by obtaining business financial statements, personal financial
statements and income tax returns. The frequency of this on going analysis
depends upon the size and complexity of the credit and collateral which secures
the loan. It is also the Company's general policy to obtain personal guarantees
from the principals of the commercial loan borrowers.
The Company provides residential real estate construction loans to builders and
individuals for single family dwellings. Residential construction loans are
usually granted based upon "as completed" appraisals and are secured by the
property under construction. Additional collateral may be taken if loan to value
ratios exceed 75%. Site inspections are performed to determine
3
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pre-specified stages of completion before loan proceeds are disbursed. These
loans typically have maturities of six to twelve months and may be fixed or
variable rate. Permanent financing for individuals offered by the Company
includes fixed rate loans with three year balloons, or variable rate loans with
five year balloons. Permanent financing is often provided by third party lenders
for borrowers seeking longer term fixed rate loans.
The risk of loss associated with real estate construction lending is controlled
through conservative underwriting procedures such as loan to value ratios of 75%
or less, obtaining additional collateral when prudent, and closely monitoring
construction projects to control disbursement of funds on loans.
The Company originates fixed and variable rate residential mortgage loans. As
with any consumer loan, repayment is dependent on the borrower's continuing
financial stability which can be adversely impacted by job loss, divorce,
illness, or personal bankruptcy. Underwriting standards recommend loan to value
ratios of 75% based on appraisals performed by approved appraisers of the
Company. Title insurance protecting the Company's lien priority as well as fire,
and casualty insurance are required.
Commercial real estate loans are primarily those secured by office condominiums,
retail buildings, warehouses and general purpose business space. The risk
associated with these loans is reduced by low loan to value ratio standards as
well as the thorough financial analysis performed and the Company's knowledge of
the local economy in which it lends.
A variety of consumer loans are offered to customers including home equity
loans, credit cards and other secured and unsecured lines of credit and term
loans. Careful analysis of an applicant's creditworthiness is performed before
granting credit and on going monitoring of loans outstanding is performed in an
effort to minimize risk of loss by identifying problem loans early.
COMPETITIVE CONDITIONS
The Bank is subject to substantial competition in all aspects of its business.
The Bank competes principally with five other commercial banks which operate
offices in Talbot County, four of which have resources substantially greater
than the Bank's. In Dorchester County the Bank competes principally with seven
other commercial banks and one savings bank. The Bank also encounters
competition from consumer loan companies, brokerage firms, credit unions and
other nonbank institutions in both Talbot and Dorchester counties. The Bank
engages in traditional marketing activities such as advertising in local
newspapers, trade journals and other publications, and radio advertising.
Officers, Directors and employees of the Bank represent the bank through their
involvement on boards of nonprofit organizations and other community
organizations, as well as their participation in community events. The Bank also
relies on referrals from satisfied customers.
The following table sets forth deposit data for Talbot and Dorchester Counties
as of June 30, 1998, the most recent date for which comparative information is
available.
<TABLE>
<CAPTION>
Talbot County Deposits Total
- ---------------------------------------------------------------------------------------------------------------------------
(in thousands)
<S> <C> <C>
The Talbot Bank of Easton, Maryland $219,963 39.00%
St. Michaels Bank 111,254 19.73
NationsBank, National Association 71,746 12.72
Crestar Bank 57,107 10.12
Easton Bank & Trust 40,179 7.12
The First National Bank of Maryland 32,025 5.68
Farmers Bank 31,010 5.50
First Mariner Bank 718 .13
---------- --------
Total $564,002 100.00%
======== =======
</TABLE>
Source: FDIC DataBook
4
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<TABLE>
<CAPTION>
%of
Dorchester County Deposits Total
- ---------------------------------------------------------------------------------------------------------------------------
(in thousands)
<S> <C> <C>
The National Bank of Cambridge $126,122 33.94%
Bank of the Eastern Shore 86,216 23.20
NationsBank, National Association 32,258 8.71
Atlantic Bank 31,346 8.43
The First National Bank of Maryland 28,840 7.76
Hebron Savings Bank 28,253 7.60
Crestar Bank 19,792 5.32
Provident State Bank of Preston, Maryland 15,733 4.23
The Talbot Bank of Easton, Maryland 3,017 .81
-------- ------
Total $371,577 100.00%
======== =======
</TABLE>
Source: FDIC DataBook
SUPERVISION AND REGULATION
The following is a summary of the material regulations and policies applicable
to the Company and its subsidiaries and is not intended to be a comprehensive
discussion. Changes in applicable laws and regulations may have a material
effect on the business of the Company and Bank.
General
The Company is a bank holding company, registered with the Federal Reserve under
the BHC Act and as such is subject to the supervision, examination and reporting
requirements of the BHC Act and the regulations of the Federal Reserve Board
(the "FRB").
The Bank is a state chartered bank in Maryland and is a member of the Federal
Deposit Insurance Corporation (the "FDIC"). The Bank is subject to the
regulation, supervision, and reporting requirements of the FDIC, as well as the
Maryland Commissioner of Financial Regulation. The Bank is also subject to
numerous state and federal statutes and regulations that affect its business,
activities
Regulation of Bank Holding Companies
Under the BHC Act, the company may not directly or indirectly acquire the
ownership or control of five percent or more of the voting shares or
substantially all of the assets of any company, including a bank, without the
prior approval of the FRB. The BHC Act also restricts the types of businesses
and activities in which a bank holding company and its subsidiaries may engage.
Activities are generally limited to those which the FRB finds to be closely
related to, or incidental to, the business of banking.
Subsidiary banks of bank holding companies are subject to certain statutory
limits of the transfer of funds to the holding company or any of its nonbank
subsidiaries, whether in the form of loans or other extensions of credit,
investments in their securities and on the use of their securities as collateral
for loans to any borrower. Such transfers of a subsidiary bank to a holding
company or one of its nonbanking subsidiaries is limited in amount, and such
loans and extensions of credit are required to be collateralized in specified
amounts.
Under FRB policy, the Company is expected to act as a source of strength to its
subsidiary bank and the FRB may charge the bank holding company with engaging in
unsafe and unsound practices for failure to commit resources to a subsidiary
bank when required. In addition, under the Financial Institutions Reform,
Recovery and Enforcement Act of 1989 ("FIRREA"), depository institutions insured
by the FDIC can be held liable for any losses incurred by, or reasonably
anticipated to be incurred by, the FDIC in connection with (i) the default of a
commonly controlled FDIC-insured depository institution or (ii) any assistance
provided by the FDIC to a commonly controlled FDIC-insured depository
institution in danger of default. Accordingly in the event that any insured
subsidiary of the Company causes a loss to the FDIC, other insured subsidiaries
of the Company could be
5
<PAGE>
required to compensate the FDIC by reimbursing it for the estimated amount of
such loss. Such cross guaranty liabilities generally are superior in priority to
obligations of a financial institution to its stockholders and obligations to
other affiliates.
Capital Requirements
The Company is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements
can initiate certain mandatory, and possibly additional discretionary actions by
regulators, that if undertaken, could have a direct material effect on the
Company's financial statements. Under capital adequacy guidelines there are two
basic measures: a risk-based measure and a leverage measure.
The risk-based capital guidelines are established to make regulatory capital
requirements more sensitive to risk profiles of banks and bank holding companies
and to account for off balance sheet exposure. Assets and off balance sheet
items are assigned to broad risk categories, each with appropriate weights.
A banking organization's capital is divided into two tiers. "Tier 1", or core
capital, includes common equity, retained earnings, minority interest in the
equity accounts of consolidated subsidiaries, noncumulative perpetual preferred
stock, and a limited amount of cumulative perpetual preferred stock, less
goodwill and certain other intangible assets. "Tier 2", or supplementary
capital, includes, among other things, limited life preferred stock, hybrid
capital instruments, mandatory convertible securities, qualifying subordinated
debt, and the allowance for loan and lease losses, subject to certain
limitations, and less required deductions. "Total Capital" is the sum of Tier 1
and Tier 2 capital. The Tier 1 component must comprise at least 50% of
qualifying total capital. Regulatory guidelines require a minimum of total
capital to risk-adjusted assets ratio of 8 percent and a minimum Tier 1 capital
to risk weighted assets ratio of 4 percent. Institutions which meet or exceed a
Tier 1 ratio of 6 percent, a total capital ratio of 10 percent and a tier 1
leverage ratio of 5 percent are considered well capitalized by regulatory
standards.
Federal Deposit Insurance Corporation Improvement Act of 1991
In December 1991 , Congress enacted the Federal Deposit Insurance Corporation
Improvement Act of 1991 ("FDICIA"), which substantially revised the bank
regulatory and funding provisions of the Federal Deposit Insurance Act and made
significant revisions to several other federal banking statutes. FDICIA provides
for, among other things, (i) a recapitalization of the Bank Insurance Fund of
the FDIC (the "BIF") by increasing the FDIC's borrowing authority and providing
for adjustments in its assessment rates; (ii) annual on-site examinations of
federally-insured depository institutions by banking regulators; (iii) publicly
available annual financial condition and management reports for financial
institutions, including audits by independent accountants; (iv) the
establishment of uniform accounting standards by federal banking agencies; and
(v) the establishment of a "prompt corrective action" system of regulatory
supervision and intervention, based on capitalization levels, with more scrutiny
and restrictions placed on institutions with lower levels of capital.
FDICIA establishes a system of prompt corrective action to resolve the problems
of undercapitalized institutions. Under this system the federal banking
regulators are required to rate supervised institutions on the basis of five
capital categories: "well capitalized," "adequately capitalized,"
"undercapitalized," "significantly undercapitalized," and "critically
undercapitalized;" and to take certain mandatory actions, and are authorized to
take other discretionary actions, with respect to institutions in the three
undercapitalized categories. The severity of the actions will depend upon the
category in which the institution is placed. A depository institution is "well
capitalized" if it has a total risk based capital ratio of 10% of greater, a
Tier 1 risk based capital ratio of 6% of greater, and a leverage ratio of 5% or
greater and is not subject to any order, regulatory agreement, or written
directive to meet and maintain a specific capital level for any capital measure.
An "adequately capitalized" institution is defined as one that has a total risk
based capital ratio of 8% of greater, a Tier 1 risk based capital ratio of 4% or
greater and a leverage ratio of 4% or greater (or 3% or greater in the case of a
bank with a composite CAMEL rating of 1).
FDICIA generally prohibits a depository institution from making any capital
distribution, including the payment of cash dividends, or paying a management
fee to its holding company if the depository institution would thereafter be
undercapitalized. Undercapitalized depository institutions are subject to growth
limitations and are required to submit capital restoration plans. For a capital
restoration plan to be acceptable, the depository institution's parent holding
company must guarantee (subject to certain limitations) that the institution
will comply with such capital restoration plan.
Significantly undercapitalized depository institutions may be subject to a
number of other requirements and restrictions, including orders to sell
sufficient voting stock to become adequately capitalized and requirements to
reduce total assets and stop accepting
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<PAGE>
deposits from correspondent banks. Critically undercapitalized depository
institutions are subject to the appointment of a receiver or conservator,
generally within 90 days of the date such institution is determined to be
critically undercapitalized.
At December 31, 1997 the Bank had the necessary capital levels to be considered
"well capitalized."
Interstate Banking Legislation
The Reigle-Neal Interstate Banking and Branching Efficiency Act of 1994 was
enacted into law on September 29, 1994. The law provides that, among other
things, substantially all state law barriers tot he acquisition of banks by out
of state bank holding companies are eliminated effective September 29, 1995. The
law also permitted interstate branching by banks effective June 1, 1997, subject
to the ability of states to opt-out completely or to set an earlier effective
date. Maryland generally established an earlier effective date of September 29,
1995.
Effects of Monetary Policy
The Company and its bank subsidiary are effected by the ongoing and changing
monetary policies set forth by regulatory authorities including the FRB. Through
its powers the FRB can influence the supply of bank credit and affect the level
of economic activity. Changes in the discount rate and reserve requirements are
among the instruments used to influence the market. These influences can impact
the overall growth and distribution of bank loans, investments, and deposits,
and can also, affect the rates charged on loans and paid for deposits.
The monetary policies of the FRB have in the past and will continue to affect
the operating results of all financial institutions including Talbot Bancshares,
Inc., and its subsidiary.
Federal Securities Law
The Company's common stock is registered with the SEC under Section 12(g) of the
Securities and Exchange Act of 1934 , as amended (the "Exchange Act"). The
Company is subject to information, proxy solicitation, insider trading
restrictions and other requirements under the Exchange Act.
EMPLOYEES
At March 22, 1999 the Company and the Bank had 78 full-time employees and 5
part-time employees.
SEASONALITY
Seasonality does not have a material impact on the Company's operations.
RISK FACTORS
Regulatory Risks. The banking industry is subject to many laws and regulations.
Regulations protect depositors, not stockholders. The Maryland Division of
Financial Regulation, Federal Deposit Insurance Corporation and the Board of
Governors of the Federal Reserve System regulate the Company and the Bank.
Regulations and laws increase the Company's operating expenses, affect the
Company's earnings, and put the Company at a disadvantage with less regulated
competitors, such as finance companies, mortgage banking companies, and leasing
companies.
Exposure to Local Economic Conditions. Most of the loans made by the Bank are
made to Maryland borrowers. A decline in local economic conditions would affect
the Company's earnings.
Credit Risks and Inadequacy of Loan Loss Reserve. When borrowers default and do
not repay the loans made to them by the Bank, the Company loses money.
Experience shows that some borrowers either will not pay on time or will not pay
at all. In these cases, the Bank will cancel, or "write off," the defaulted loan
or loans. A "write off" reduces the Company's assets and affects the Company's
earnings. The Company anticipates losses by reserving what it believes to be an
adequate cushion so that it does not have to take a large loss at any one time.
However, actual loan losses cannot be predicted, and the Company's loan loss
reserve may not be sufficient.
7
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Interest Rate Risk. The Company's earnings depend greatly on its net interest
income, the difference between the interest earned on loans and investments and
the interest paid on deposits. If the interest rate paid on deposits is high and
the interest rate earned on loans and investments is low, net interest income is
small and the Company earns less. Because interest rates are established by
competition, the Company cannot completely control its net interest income.
Risks Associated with Real Estate Lending. The Bank makes many real estate
secured loans. Real estate loans are in demand when interest rates are low and
economic conditions are good. Even when economic conditions are good and
interest rates are low, these conditions may not continue. The Company may lose
money if the borrower does not pay a real estate loan. If real estate values
decrease, then the Company may lose more money when borrowers default.
No Assurance of Growth. The Company's ability to increase assets and earnings
depends upon many factors, including competition for deposits and loans, the
Company's branch and office locations, avoidance of credit losses, and hiring
and training of personnel. Many of these factors are beyond the Company's
control.
Competition. Other banks and non-banks, including savings and loan associations,
credit unions, insurance companies, leasing companies, small loan companies,
finance companies, and mortgage companies, compete with the Company. Some of the
Company's competitors offer services and products that the Company does not
offer. Larger banks and non-bank lenders can make larger loans and service
larger customers. Law changes now permit interstate banks which may increase
competition.
Increased competition may decrease the Company's earnings.
No Assurance of Cash or Stock Dividends. Whether dividends may be paid to
stockholders depends on the Company's earnings, its capital needs, law and
regulations, and other factors. The Company's payment of dividends in the past
does not mean that the Company will be able to pay dividends in the future.
Stock Not Insured. Investments in the shares of the Company's common stock are
not deposits that are insured against loss by the government.
Risk Involved in Acquisitions. Part of the Company's growth may come from buying
other banks and companies. A newly purchased bank or company may not be
profitable after the Company buys it and may lose money, particularly at first.
The new bank or company may bring with it unexpected liabilities or bad loans,
bad employee relations, or the new bank or company may lose customers.
Risk of Claims. Customers may sue the Company for losses due to the Company's
alleged breach of fiduciary duties, errors and omissions of employees, officers
and agents, incomplete documentation, the Company's failure to comply with
applicable laws and regulations, or many other reasons. Also, employees of the
Company conduct all of the Company's business. The employees may knowingly or
unknowingly violate laws and regulations. Company management may not be aware of
any violations until after their occurrence. This lack of knowledge will not
insulate the Company from liability. Claims and legal actions may result in
legal expenses and liabilities that may reduce the Company's profitability and
hurt its financial condition.
Developments in Technology. Financial services use technology, including
telecommunications, data processing, computers, automation, Internet-based
banking, debit cards, and "smart" cards. Technology changes rapidly. The
Company's ability to compete successfully with other banks and non-banks may
depend on whether it can exploit technological changes. The Company may not be
able to exploit technological changes and expensive new technology may not make
the Company more profitable.
Year 2000. The "Year 2000 Issue" describes the problems that may result from the
improper processing of dates and date-sensitive calculations beginning in the
Year 2000. Many existing computer programs use only two digits to identify the
year in the date field of a program. These programs could experience serious
malfunctions when the last two digits of the year change to "00" as a result of
identifying a year designated "00" as the Year 1900 rather than the Year 2000. A
system failure or other disruptions of operations could occur if the Company's
computer programs and other equipment identify a year designated "00" as the
Year 1900 rather than the Year 2000. The Company cannot be certain that its
computer programs and other equipment, and the computer programs and other
equipment of its customers, vendors, suppliers and even the government will be
Year 2000 compliant. Any systems failure, disruption, or other losses could
affect the Company's earnings.
Market for Common Stock. The Company's shares of common stock are not listed on
any exchange, and there is currently no organized trading market. Prices for the
Company's common stock may not be the actual value or the trading price in a
liquid trading market.
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Anti-Takeover Effects of Certain Charter and Bylaw Provisions. The Company's
Articles of Incorporation and Bylaws divide the Company's Board of Directors
into three classes and each class serves for a staggered three-year term. No
director may be removed except for cause, and then only by a vote of at least
two-thirds of the total eligible stockholder votes. In addition, Maryland law
contains anti-takeover provisions that apply to the Company. These provisions
may discourage or make it more difficult for another company to buy the Company
or may reduce the market price of the Company's common stock.
9
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<TABLE>
<CAPTION>
STATISTICAL INFORMATION
Investment Portfolio
December 31, 1998
(In Thousands)
1998
Book Taxable Equivalent
Held-to-Maturity Value Yield*
U.S. Treasury
<S> <C> <C>
Within one year $5,021 5.89%
One to five years 2,009 5.44
------ ----
Total 7,030 5.76%
------ -----
U.S. Government Agencies
Within one year 1,000 5.65
One to five years 2,000 6.33
------ ----
Total 3,000 6.10%
------ -----
State and Municipal
Within one year 1,542 7.31%
One to five years 324 6.74
Five through ten years 834 7.55
After ten years 160 6.59
------- ----
Total 2,860 7.28%
------- -----
Mortgage Backed
Within one year 286 6.65
One to five years 423 6.46
Five through ten years 39 7.99
After ten years 233 5.55
------ ----
Total 981 6.36%
------- -----
Total held-to-maturity $13,871
=======
Available-for-sale
U.S. Treasury
Within one year $ 6,056 6.00%
One to five years 19,595 6.14
Five to ten years 5,477 5.69
----- ----
Total 31,128 6.04%
------ -----
U.S. Government Agencies
Within one year 2,000 5.43%
One to five years 25,575 6.08
Five to ten years 5,926 5.41
----- ----
Total 33,501 5.55%
------ -----
State and Municipal
Within one year 630 5.98%
One to five years 846 6.26
Total 1,476 6.14%
----- -----
Mortgage Backed
Within one year 103 6.48%
After ten years 15 6.00
------ ----
Total 118 6.42%
------ -----
Federal Home Loan Bank Stock 801 N/A
Federal National Mortgage Association
Cumulative Preferred Stock 2,476 N/A
Total Available-for-Sale $69,500
</TABLE>
* Yields adjusted to reflect a tax equivalent basis assuming a federal tax rate
of 34%.
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<TABLE>
<CAPTION>
Maturities of Loan Portfolio
December 31, 1998
(In Thousands)
Maturing
Maturing After one Maturing
Within But Within After Five
One Year Five Years Years Total
- -------------------------------------------------------------------------------------------------------------------
Real Estate Construction
<S> <C> <C> <C> <C>
and land development $ 5,409 $3,331 $ - $ 8,740
Commercial, financial and agricultural 19,314 18,094 1,216 38,624
Mortgage 44,564 91,504 3,856 139,924
Consumer 3,173 3,725 177 7,075
-------- ------- ------ --------
Total $72,460 $116,654 $ 5,249 $194,363
======= ======== ======= ========
Classified by Sensitivities of Loans to Changes in Interest Rates
Fixed-Interest Rate Loans $52,084 $103,033 $2,317 $157,434
Adjustable-Interest Rate Loans 20,376 13,621 2,932 36,929
------- ------- ------ -------
Total $72,460 $116,654 $5,249 $194,363
======= ======== ====== ========
Analysis of the Allowance for Credit Losses
(In Thousands)
1998 1997 1996 1995 1994
--------- --------- --------- ------- ----
Balance, beginning of year $ 2,538 $ 2,728 $ 2,077 $ 1,868 $ 1,750
-------- -------- -------- -------- --------
Recoveries:
Real estate loans 27 5 11 5 33
Installment loans 33 34 48 34 57
Commercial and other 24 20 48 44 69
-------- -------- -------- -------- -------
84 59 107 83 159
-------- -------- -------- -------- ------
Provision 240 225 955 540 525
------- -------- ------- ------- -------
Loans charged-off:
Real estate loans (55) (137) (107) (120) (169)
Installment loans (32) (69) (67) (58) (104)
Commercial and other (193) (268) (237) (236) (293)
------ ------- ------ ------ -------
(280) (474) (411) (414) (566)
------ ------- ------ ------ -------
Balance, end of year $ 2,582 $ 2,538 $ 2,728 $ 2,077 $ 1,868
------- ------- ------- ------- -------
</TABLE>
The Company has established an allowance for credit losses, which is increased
by provisions charged against earnings and recoveries of previously charged off
debts. The allowance is decreased by current period charge-off of uncollectible
loans. Management evaluates the adequacy of the allowance for credit losses on a
quarterly basis and adjusts the provision for credit losses based upon this
analysis. The evaluation of the adequacy of the allowance for credit losses is
based upon a risk rating system of individual loans as well as collective
evaluation of smaller balance homogenous loans based on factors such as past
credit loss experience, local economic trends, and other factors which may
impact collectibility such as Year 2000. In 1996 management increased the
provision for credit losses due to concerns over local economic trends,
continuing high levels of charge-offs, and the rapid growth of the portfolio
including an increase in extensions of credit in excess of $500,000. Average
loans outstanding in 1996 increase over $17 million or 11.4%. Growth returned to
more modest levels in 1997 and stable economic conditions throughout the year
allowed management to significantly reduce the provision for credit losses to
$225 thousand, a decline of 76.4% for the year. In 1998, the Company once again
experienced significant growth in the average loans outstanding for the year,
however lower interest rates, favorable economic conditions, improvements in
nonperforming assets and overall good asset quality resulted in only a slight
increase in the provision for credit losses of 6.6% bringing it to $240,000 for
the year.
11
<PAGE>
<TABLE>
<CAPTION>
Allocation of the Allowance for Credit Losses
(In Thousands)
<S> <C> <C> <C> <C> <C>
December 31,
1998 1997 1996 1995 1994
--------------------------------------------------------------
Commercial Financial and Agricultural $767 $880 $883 $768 $711
Real Estate-Construction 92 100 71 69 66
Real Estate-Mortgage 1,004 944 936 984 725
Consumer 148 238 155 138 111
Unallocated 571 376 683 118 255
-------- ------ ------ ------ ------
$2,582 $2,538 $2,728 $2,077 $1,868
====== ====== ====== ====== ======
Average Balances, Yields and Rates
(In Thousands)
- -------------------------------------------------------------------------------------------------------------------
(dollars in thousands) 1998 1997 1996
- -------------------------------------------------------------------------------------------------------------------
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
- -------------------------------------------------------------------------------------------------------------------
Earning Assets
Investment Securities:
Taxable $ 60,352 $ 3,564 5.91% $53,900 $ 3,189 5.92% $ 54,325 $ 3,086 5.68%
Non-taxable 5,321 332 6.24 7,287 443 6.08 6,352 384 6.05
Loans 189,606 16,596 8.75 174,865 15,681 8.97 168,607 15,287 9.07
Federal Funds Sold 12,899 693 5.37 9,590 531 5.54 8,650 463 5.36
--------- ------- ---- --------- -------- ---- --------- -------- ----
Total earning assets 268,178 21,185 7.90% 245,642 19,844 8.08% 237,934 19,220 8.08%
-------- ------- ---- -------- ------- ---- -------- ------- ----
Non-interest earning
assets 10,999 10,008 9,450
--------- --------- ----------
Total assets $279,177 $255,650 $247,384
======== ======== ========
Interest bearing liabilities:
Demand $ 46,865 $ 1,468 3.13% $ 42,945 $ 1,334 3.11% $ 41,003 $ 1,250 3.05%
Savings 62,578 1,918 3.06 62,908 1,939 3.08 64,570 1,999 3.10
Time 99,617 5,474 5.50 88,326 4,859 5.50 83,226 4,661 5.60
-------- ------- ---- -------- ------- ---- --------- ------- ----
Interest bearing deposits 209,060 8,860 4.24 194,179 8,132 4.19 188,799 7,910 4.19
Borrowings 14,559 603 4.14 10,862 464 4.29 12,675 538 4.25
-------- -------- ---- -------- ------- ---- --------- ------- ----
Total interest bearing
liabilities 223,619 9,463 4.23% 205,041 8,596 4.19% 201,474 8,448 4.19%
-------- ------- ---- -------- ------ ---- -------- ------ ----
Non-interest bearing
liabilities 22,701 21,260 19,383
Stockholders' equity 32,857 29,349 26,527
--------- -------- ---------
Total liabilities and
stockholders' equity $279,177 $255,650 $247,384
======== ======== ========
Net interest spread $11,722 3.67% $11,248 3.89% $10,772 3.89%
Net interest margin 4.37% 4.58% 4.53%
</TABLE>
(1) All amounts are reported an a tax equivalent basis computed using the
statutory federal income tax rate exclusive of the alternative minimum
tax rate of 34% and nondeductible interest expense.
(2) Average loan balances include non-accrual loans.
(3) Loan fee income is included in interest income for each loan category and
yields are stated to include all.
12
<PAGE>
<TABLE>
<CAPTION>
Summary of Significant Ratios
<S> <C> <C> <C>
1998 1997 1996
-----------------------------------------------------
Return on average total assets 1.44% 1.44% 1.30%
Return on average total equity 12.22 12.52 12.14
Dividend payout ratio 28.53 27.78 25.74
Total average equity to total average assets ratio 11.77 11.93 10.72
Other statistical information required in this Item 1 is incorporated by
reference from the information appearing in the Company's Annual Report to
Stockholders for the year ended December 31, 1998, as follows:
DISCLOSURE REQUIRED BY GUIDE 3 REFERENCE TO 1998 ANNUAL REPORT
- ------------------------------ -------------------------------
(I) Distribution of Assets, Liabilities and Rate/Volume Analysis (page 4)
Stockholders' Equity; Interest Rates and Non-performing Assets (page 5)
Interest Differential
(II) Investment Portfolio Notes to Financial Statements, Note 4 - Investment in
Debt Securities - page 24
(III) Loan Portfolio Year
End Loan Data (page 7)
Non-performing Assets
(page 5)
(IV) Summary of Loan Loss Experience Allowance for Loan Losses (pages 4 and 5)
(V) Deposits Deposits (pages 8 and 9)
(VI) Return on Equity and Assets Return on Equity and Assets (page 15)
(VII) Short-Term Borrowings Other Interest Bearing Liabilities (page 9)
Notes to Financial Statements, Note 14 -Line of Credit (page 32)
</TABLE>
Item 2. PROPERTIES
The Company's and the Bank's main office is located at 18 East Dover Street,
Easton, Maryland. A second Easton office is located on Marlboro Road at Tred
Avon Square and the Third Easton office is located on Elliott Road in the
Carlton Business Park. The Saint Michaels office is located on Route 33 at Saint
Michaels Village.
The Bank owns three of the four banking offices it currently operates in Talbot
County. The Bank leases the office located on Route 33 in Saint Michaels
Village. The annual rent for this office which lease expires in 2001 is $32,400.
The Bank also owns the building at 21 Dover Street, Easton, Maryland which
contains its bookkeeping and loan services departments.
The Bank operates a branch in Cambridge, Maryland, located at 2745 Dorchester
Square Shopping Center pursuant to a lease agreement. The annual rent under this
lease agreement, which began in 1998, is $34,310 for year 1, $35,340 for year 2,
and $36,400 for year 3.
13
<PAGE>
Item 3. LEGAL PROCEEDINGS
There are no material pending legal proceedings other than the ordinary routine
litigation incidental to the business to which the Company, the Bank, or its
subsidiaries is party or to which any of their properties is subject. There are
also no material proceedings known to management to which any Director, officer,
or affiliate of the Company, any person holding beneficially in excess of five
(5) percent of the Company's Shares, or any associate of any such Director,
officer or security holder is a party.
Item 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
No matters were submitted to security holders for vote during the fourth quarter
of 1998. Information required for this Item for Executive Officers of the
Registrant is included in Item 10 -- "Directors and Executive Officers of the
Registrant" which is incorporated herein by reference.
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Incorporated by reference from Annual Report to Stockholders for the year ended
December 31, 1998 under "Managements Discussion and Analysis of Financial
Condition and Results of Operations - Recent Stock Prices and Dividends," page
14, and "Notes to Financial Statements - Regulatory Capital Requirements" on
pages 31 and 32. The Company has issued and outstanding 1,192,222 shares of
common stock, par value $0.01 per share ("Shares") held by 463 holders of record
March 22, 1999.
Item 6. SELECTED FINANCIAL DATA
Incorporated by reference from Annual Report to Stockholders for the year ended
December 31, 1998, page 15.
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Incorporated by reference from Annual Report to Stockholders for the year ended
December 31, 1998 under "Managements Discussion and Analysis of Financial
Condition and Results of Operations," pages 3 through 14. Reference is also made
to the information provided under the heading "Statistical Information in Part
I, Item I, incorporated by reference herein.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For information regarding the Market Risk of the Company's financial instruments
see "Managements Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity, Market Risk and Interest Rate Sensitivity" on pages 10
and 11 of the Annual Report to Stockholders for the year ended December 31,
1998. The Company's principal market risk exposure is to interest rates.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Incorporated by reference from the Annual Report to Stockholders for the year
ended December 31, 1998 under "Consolidated Financial Statements and Independent
Auditors' Report" on pages 16 through 37.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There were no changes in or disagreements with accountants on accounting and
financial disclosure.
14
<PAGE>
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
A listing of Directors of the Registrant is incorporated by reference from
Definitive Proxy Statement to Stockholders for the 1999 Annual Meeting under
"Election of Directors," pages 1 through 3.
A listing of Executive Officers of the Registrant is incorporated by reference
from the Definitive Proxy Statement to Stockholders for the 1999 Annual Meeting
under "Executive Officers, " pages 9 and 10.
Item 11. EXECUTIVE COMPENSATION
Incorporated by reference from the Definitive Proxy Statement to Stockholders
for the 1999 Annual Meeting under "Executive Compensation, Benefit Plans and
Executive Compensation Committee Report," pages 6 through 9, under "Performance
Graph," page 13, and the Director compensation discussion on page 4.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Incorporated by reference from the Definitive Proxy Statement to Stockholders
for the 1999 Annual Meeting under "Beneficial Ownership of Common Stock," pages
5 and 6.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Incorporated by reference from the Definitive Proxy Statement to Stockholders
for the 1999 Annual Meeting under "Election of Directors" page 3.
15
<PAGE>
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) (1),(2) FINANCIAL STATEMENTS
Consolidated Statements of Income -- Years Ended December 31, 1998,
1997, and 1996
Consolidated Balance Sheets at December 31, 1998, 1997 and 1996
Consolidated Statements of Changes in Stockholders' Equity -- Years
Ended December 31, 1998, 1997 and 1996
Consolidated Statements of Cash Flows -- Years Ended December 31,
1998, 1997 and 1996
Notes to Consolidated Financial Statements as of December 31, 1998,
1997 and 1996
Report of Independent Auditors
(3) Exhibits Required to be Filed by Item 601 of Regulation S-K
EXHIBIT INDEX
3.1 Articles of Incorporation of the Company is incorporated by reference
from the Company's Form 8-A, filed with the Commission on August 1,
1997 (File No. 000-22929)
3.2 Bylaws of the Company is incorporated by reference from the Company's
Form 8-A, filed with the Commission on August 1, 1997 (File No.
000-22929)
13 1998 Annual Report to Stockholders filed herewith.
21 List of Subsidiaries is incorporated by reference from the Company's
Form 8-K, filed with the Commission on August 25, 1997 (File No.
000-22929)
23 Consent of Independent Auditors filed herewith.
27 Financial Data Schedule is filed electronically herewith via EDGAR
(b) Reports on Form 8-K
None
(c) Exhibits required by Item 601 of Regulation S-K
See the Exhibits described in Item 14(a)(3) above.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and
Exchange Act of 1934, the Registrant has caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized on March 31, 1999.
<TABLE>
<CAPTION>
<S> <C>
Talbot Bancshares, Inc.
Date: March 24, 1999 By: /s/ W. Moorhead Vermilye
-----------------------------------------
W. Moorhead Vermilye
Date: March 24, 1999 By: /s/ Susan E. Leaverton
-----------------------------------------
Susan E. Leaverton, Secretary/Treasurer
(Principal Accounting and Financial Officer)
</TABLE>
DIRECTORS
/s/ Herbert L. Andrew, III
-------------------------------
Herbert L. Andrew, III
/s/ Jerome M. McConnell
-------------------------------
Jerome M. McConnell
/s/ Blenda W. Armistead
-------------------------------
Blenda W. Armistead
-------------------------------
Shari L. McCord
/s/ Lloyd L. Beatty, Jr.
-------------------------------
Lloyd L. Beatty, Jr.
-------------------------------
William H. Myers
/s/ Donald D. Casson
-------------------------------
Donald D. Casson
-------------------------------
David L. Pyles
/s/ Gary L. Fairbank
-------------------------------
Gary L. Fairbank
/s/ Christopher F. Spurry
-------------------------------
Christopher F. Spurry
/s/ Ronald N. Fox
-------------------------------
Ronald N. Fox
/s/ Richard C. Granville
-------------------------------
Richard C. Granville
/s/ W. Moorhead Vermilye
-------------------------------
W. Moorhead Vermilye
17
[TALBOT BANCSHARES LOGO]
1998
ANNUAL
REPORT
<PAGE>
FINANCIAL HIGHLIGHTS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
<TABLE>
<CAPTION>
Percent
Increase
Years ended December 31, 1998 1997 (Decrease)
- ----------------------------------------------------------------------------------------------------------------
<S><C>
For the Year
Interest income $ 21,048 $ 19,672 7.0%
Interest expense 9,463 8,596 10.1%
Net interest income 11,585 11,076 4.6%
Net income 4,015 3,674 9.3%
Cash dividends 1,131 1,010 12.0%
- ----------------------------------------------------------------------------------------------------------------
Average
Total assets $279,177 $255,650 9.2%
Total deposits 230,944 214,298 7.8%
Total loans 189,606 174,865 8.4%
Stockholders' equity 32,857 29,349 12.0%
- ----------------------------------------------------------------------------------------------------------------
At Year End
Total assets $302,254 $267,029 13.2%
Total deposits 249,929 224,914 11.1%
Total loans, net of unearned income 194,363 185,293 4.9%
Stockholders' equity 34,284 30,972 10.7%
- ----------------------------------------------------------------------------------------------------------------
Per Share
Diluted earnings $3.33 $3.06 8.8%
Cash dividends .95 .85 11.8%
Book value at year-end 28.76 26.04 10.4%
- ----------------------------------------------------------------------------------------------------------------
</TABLE>
TABLE OF CONTENTS
- ------------------------------------------------------------------------
FINANCIAL HIGHLIGHTS PAGE 1
LETTER TO SHAREHOLDERS PAGE 2
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS PAGE 3
SELECTED FINANCIAL DATA PAGE 15
CONSOLIDATED FINANCIAL STATEMENTS PAGE 16
INDEPENDENT AUDITORS' REPORT PAGE 37
DIRECTORS AND OFFICERS PAGE 38
DESCRIPTION OF BUSINESS AND EMPLOYEES PAGE 39
PAGE 1
<PAGE>
LETTER TO SHAREHOLDERS
Dear Shareholder,
Record earnings and exceptional growth are once again the highlight of this 1998
annual report. Talbot Bancshares, Inc. reported earnings for 1998 of $4,014,686
or $3.33 per share compared to $3,674,012 or $3.06 per share for 1997. This
represents an increase of 9.3% for the year. The company's return on average
assets was 1.44% for the second consecutive year and the return on stockholders'
equity was 12.22%.
Total assets were $302 million at December 31, 1998 an increase of 13.2% over
last year. This increase was the result of deposit growth of 11.1%. Deposits
totalled $250 million at year end. Loan growth continued at a rate of 4.9% for
the year, with total loans at December 31, 1998 equalling $194 million. Although
falling interest rates during the second half of 1998 caused a decline in the
overall yield on earning assets, volume increases enabled the Company to
increase net interest income.
Another source of increased income for the Company in 1998 was noninterest
income. Increasing 10.3% for the year, despite a $50,000 loss from an
unconsolidated subsidiary, we anticipate continued growth in this area.
Additionally, the Company's ability to control the growth of noninterest expense
in 1998 contributed to positive earnings. The Bank's efficiency ratio, which is
the measure of its noninterest expenses to net interest income plus noninterest
income, stood at 48.26% for 1998.
As I look back on 1998 I am reminded of the ever changing technological
environment in which we operate, its many benefits and complexities. Telephone
and PC Banking became a hit in 1998 as customers overwhelmingly accepted these
alternative delivery systems. During 1998 Tele-Bank received over 103,000 calls
providing customers immediate access to their accounts 24 hours per day. PC
Banking services introduced later in the year are gaining popularity with over
236 customers currently using the service. And of course the complexities can be
summed up in two words - "Year 2000". No discussion of technology would be
complete without mentioning the Year 2000. Much of our time and energy was
devoted to this issue in 1998 and we will continue our efforts in 1999 as we
complete the testing and validation phases of this complex project.
It is exciting to see the growth of this company year after year. In the last
ten years alone total assets have increased $140 million, or 86% and total
deposits have increased $106 million, or 74%. It is also gratifying that the
Talbot Bank remains the dominant financial institution in Talbot County. At June
30, 1998, based on FDIC deposit data, the Talbot Bank accounted for 39% of all
FDIC insured deposits in Talbot County. Our continuing reputation of providing
the highest level of customer service has enabled us to achieve this
extraordinary market position.
We look forward to 1999 and the new challenges it will present as we prepare
your company for the next millennium. Thank you for your continued support and
on behalf of the Board of Directors, management and staff we wish you well.
/s/ W. MOORHEAD VERMILYE
__________________________
W. MOORHEAD VERMILYE
President
PAGE 2
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
--------
OVERVIEW
The Company's net income for 1998 was $4.02 million compared to $3.67 million in
1997 and $3.22 million in 1996. Diluted earnings per share for 1998 were $3.33
compared to $3.06 and $2.72 for 1997 and 1996, respectively. All per share
items have been adjusted to reflect the two for one exchange effective May 1,
1997.
The Company experienced growth in total assets of 13.2% in 1998. Total asset
growth was comprised of growth in loans of 4.9% or $9.1 million, and growth in
investment securities of 35.6% or $21.9 million. Asset growth was funded through
increased deposits, primarily certificates of deposit. Growth in deposits
totalled 11.1% or $25 million. The return on average assets remained unchanged
at 1.44% for 1998 when compared to 1997. The return on average assets for 1996
was 1.30%. Return on average stockholders' equity declined from 12.52% one year
ago to 12.22% at December 31, 1998.
---------------------
RESULTS OF OPERATIONS
NET INTEREST INCOME
Net interest income is the excess of interest and fees earned on loans and the
investment portfolio, over interest paid to depositors. It is the most
significant component of the Company's earnings. Net interest income for 1998
was $11,585,000 compared to $11,076,000 for 1997 and $10,571,000 for 1996. This
represents an increase of 4.6% and 4.8% for 1998 and 1997, respectively.
The following table sets forth the major components of net interest income, on a
tax equivalent basis, as of December 31, 1998, 1997 and 1996.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------------------
(dollars in thousands) 1998 1997 1996
- ----------------------------------------------------------------------------------------------------------------------------------
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
- ----------------------------------------------------------------------------------------------------------------------------------
<S><C>
Earning Assets
Investment Securities:
Taxable $ 60,352 $ 3,564 5.91% $ 53,900 $ 3,189 5.92% $ 54,325 $ 3,086 5.68%
Non-taxable 5,321 332 6.24 7,287 443 6.08 6,352 384 6.05
Loans 189,606 16,596 8.75 174,865 15,681 8.97 168,607 15,287 9.07
Federal Funds Sold 12,899 693 5.37 9,590 531 5.54 8,650 463 5.36
-------- -------- ---- -------- ------- ---- --------- ------- ----
Total earning assets 268,178 21,185 7.90% 245,642 19,844 8.08% 237,934 19,220 8.08%
--------- --------- --------
Non-interest earning assets 10,999 10,008 9,450
--------- --------- ---------
Total assets $279,177 $255,650 $247,384
========= ========= =========
Interest bearing liabilities:
Demand $ 46,865 $ 1,468 3.13% $ 42,945 $ 1,334 3.11% $ 41,003 $ 1,250 3.05%
Savings 62,578 1,918 3.06 62,908 1,939 3.08 64,570 1,999 3.10
Time 99,617 5,474 5.50 88,326 4,859 5.50 83,226 4,661 5.60
--------- --------- --------- --------- --------- --------- --------- -------- ---------
Interest bearing deposits 209,060 8,860 4.24 194,179 8,132 4.19 188,799 7,910 4.19
Borrowings 14,559 603 4.14 10,862 464 4.29 12,675 538 4.25
--------- --------- --------- --------- --------- --------- --------- -------- ---------
Total interest bearing
liabilities 223,619 9,463 4.23% 205,041 8,596 4.19% 201,474 8,448 4.19%
--------- --------- --------
Non-interest bearing
liabilities 22,701 21,260 19,383
Stockholders' equity 32,857 29,349 26,527
--------- --------- ---------
Total liabilities and
stockholders' equity $279,177 $255,650 $247,384
========= ========= =========
Net interest spread $11,722 3.67% $11,248 3.89% $10,772 3.89%
========= ========= ========
Net interest margin 4.37% 4.58% 4.53%
</TABLE>
PAGE 3
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Net interest income on a fully tax equivalent basis increased $474 thousand or
4.2% in 1998. The increase is attributable to growth in the average balance of
interest earning assets of approximately $22.5 million or 9.2%. Growth in
average loans was $14.7 million or 65% of earning asset growth for the year. In
1998, 1997 and 1996 average loans represented approximately 71% of the Company's
average earning assets.
Declining interest rates and a competitive loan pricing environment in 1998
caused an overall decline in the yield on earning assets for the year. The
average yield on earning assets for 1998 was 7.90% compared to 8.08% for both
1997 and 1996. The average loan yield declined 22 basis points from 8.97% in
1997 to 8.75% in 1998 contributing a net decrease to net interest income of
$376,000 for 1998. Despite lower yields, increased volume of loans generated
additional interest income contributing a net increase to net interest income of
$1,291,000.
The average rate paid on interest bearing liabilities increased only 4 basis
points from 4.19% to 4.23% at December 31,1998. Overall interest expense
increased due to an increase in the average balances of interest bearing
deposits of $14,881,000 or 7.7%. The most significant deposit growth was in
certificates of deposits which accounted for $11,889,000 or 80% of the growth.
Jumbo certificates of deposit increased $8,384,000 which is attributable to a
municipal depositor. This increased volume in certificates of deposit resulted
in a net decrease in net interest income of $643,000. The average balance of
securities sold under agreements to repurchase increased $3,659,000 contributing
a net decrease in net interest income of $150,000.
The Company's net interest margin represents the tax equivalent net yield on
earning assets. For 1998 the net interest margin was 4.37% compared to 4.58% and
4.53% for 1997 and 1996, respectively.
The following Rate/Volume Variance Analysis identifies the portion of the
changes in net interest income which are attributable to changes in volume of
average balances or to changes in the yield on earning assets and rates paid on
interest bearing liabilities.
<TABLE>
<CAPTION>
1998 over(under) 1997 1997 over(under) 1996
---------------------------------- ---------------------------------
Total Caused By Total Caused By
---------------- ---------------
(dollars in thousands) Variance Rate Volume Variance Rate Volume
- -------------------------------------------------------------------------------------------------------------------------
<S><C>
Interest income from earning assets:
Federal funds sold $ 162 $ (15) $ 177 $ 68 $ 15 $ 53
Taxable investment securities 375 (6) 381 165 130 35
Non-taxable investment securities (111) 11 (122) (4) -- (4)
Loans 915 (376) 1,291 395 (166) 561
- -------------------------------------------------------------------------------------------------------------------------
Total interest income 1,341 (386) 1,727 624 (21) 645
- -------------------------------------------------------------------------------------------------------------------------
Interest expense on deposits and borrowed funds:
Interest bearing demand 134 (35) 169 84 32 52
Savings deposits (40) (12) (28) (60) (8) (52)
Time deposits 634 ( 9) 643 198 (83) 281
Securities sold under
agreements to repurchase 137 (13) 150 (74) 5 (79)
Short term borrowings 2 -- 2 -- -- --
- -------------------------------------------------------------------------------------------------------------------------
Total interest expense 867 (69) 936 148 (54) 202
- -------------------------------------------------------------------------------------------------------------------------
Net interest income $ 474 $(317) $ 791 $476 $ 33 $443
- -------------------------------------------------------------------------------------------------------------------------
</TABLE>
PROVISION AND ALLOWANCE FOR CREDIT LOSSES
The provision for credit losses is the amount management feels is necessary to
maintain the allowance for credit losses at a level sufficient to absorb
potential losses in the loan portfolio. Management's analysis of the adequacy of
the allowance for credit losses is based on a risk rating system further
impacted by general economic conditions, the year 2000 issue, loan performance
measures and historical trends. Reviews of individual problem loans or loan
relationships are performed to assess the potential loss exposure to the Company
and a specific reserve is established. Past credit loss experience and local
economic trends are considered in determining a loss percentage inherent in
smaller balance loans and homogenous loan
PAGE 4
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
pools. Management's evaluation of the adequacy of the allowance for credit
losses and the resulting provision are reviewed by the Board of Directors on a
quarterly basis.
The provision for credit losses was $240,000 in 1998 compared to $225,000 in
1997 and $955,000 in 1996. Net charge-offs in 1998 totalled $196,000 compared to
$415,000 in 1997 and $304,000 in 1996. Net charge-offs as a percentage of
average loans outstanding decreased to .10% in 1998 compared to .24% and .18% in
1997 and 1996, respectively. The allowance for credit losses as a percentage of
average loans was 1.36% at December 31, 1998 compared to 1.45% at December 31,
1997 and 1.62% at December 31, 1996. Management feels the allowance for credit
losses of $2,582,433 was adequate at December 31, 1998.
The following table sets forth a summary of the Company's loan loss experience
for the years ended December 31.
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
-------- -------- -------- -------- --------
(Dollars in thousands)
<S><C>
Balance, beginning of year $ 2,538 $ 2,728 $ 2,077 $ 1,868 $ 1,750
-------- -------- -------- -------- --------
Recoveries:
Real estate loans 27 5 11 5 33
Installment loans 33 34 48 34 57
Commercial and other 24 20 48 44 69
-------- -------- -------- -------- --------
84 59 107 83 159
-------- -------- -------- -------- --------
Provision 240 225 955 540 525
-------- -------- -------- -------- --------
Loans charged-off:
Real estate loans (55) (137) (107) (120) (169)
Installment loans (32) (69) (67) (58) (104)
Commercial and other (193) (268) (237) (236) (293)
-------- -------- -------- -------- --------
(280) (474) (411) (414) (566)
-------- -------- -------- -------- --------
Balance, end of year $ 2,582 $ 2,538 $ 2,728 $ 2,077 $ 1,868
-------- -------- -------- -------- --------
Average loans outstanding $189,606 $174,865 $168,607 $151,292 $144,039
======== ======== ======== ======== ========
Percentage of net charge-offs to average
loans outstanding during the year .10% .24% .18% .22% .28%
Percentage of allowance for loan losses
at year-end to average loans 1.36% 1.45% 1.62% 1.37% 1.30%
</TABLE>
Total non-performing assets of the Company decreased and represented .51% of
total loans, net of unearned income at December 31, 1998 compared to .75% one
year earlier. Past due loans also decreased at December 31, 1998, and
consisted primarily of well secured real estate loans.
The following table summarizes the past due and non-performing assets of the
Company as of December 31.
<TABLE>
<CAPTION>
1998 1997 1996
------ ----- -----
Non-performing assets: (Dollars in thousands)
<S><C>
Non-accrual loans $ 827 $1,282 $1,551
Other real estate and other assets owned 164 114 299
------ ----- -----
Total non-performing assets 991 1,396 1,850
Past due loans 671 1,422 654
------ ----- -----
Total non-performing assets and past due loans $1,662 $2,818 $2,504
====== ===== =====
Non-performing assets to total loans,
net of unearned income, at period end .51% .75% 1.08%
Non-performing assets and past due loans,
to total loans, net of unearned income, at period end .86% 1.52% 1.46%
</TABLE>
PAGE 5
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
NONINTEREST INCOME
Noninterest income increased approximately $74,000 or 10.3% in 1998 compared to
an increase of $139,000 or 24.2% in 1997. Excluding securities losses and losses
from an unconsolidated subsidiary, noninterest income in 1998 increased $129,762
or 18.1% over 1997. Sources of growth in noninterest income for the year were
increases in direct service charges assessed on deposit accounts ($88,000),
Automated Teller Machine (ATM) fees assessed on non-bank customers ($20,000),
and fees on sales of mutual funds, annuities and brokerage services ($18,000).
Losses from the Company's unconsolidated subsidiary, Eastern Shore Mortgage
Corporation, resulted from a decision to dissolve the subsidiary after
continuing operating losses. Operating expenses in excess of income and the
write down of the Company's investment based on the net realizable assets of the
subsidiary resulted in the loss for the year of approximately $50,000.
<TABLE>
<CAPTION>
Years Ended Change from Prior Year
------------ ----------------------------
1998/97 1997/96
---------------- --------------
1998 1997 1996 Amount Percent Amount Percent
- ---------------------------------------------------------------------------------------------------------------------------------
<S><C>
Service charges on deposit accounts $623,698 $536,801 $504,746 $86,897 16.2% $ 32,055 6.4%
Other service charges and fees 151,266 120,700 77,072 30,566 25.3% 43,628 56.6%
Gain (loss) on sale of securities (9,692) 5,519 (22,732) (15,211) (275.6)% 28,251 124.3%
Loss from unconsolidated
subsidiary (49,723) (8,681) (32,700) (41,042) (472.8)% 24,019 73.51%
Other noninterest income 71,322 59,023 47,827 12,299 20.8% 11,196 23.4%
- ---------------------------------------------------------------------------------------------------------------------------------
Total $786,871 $713,362 $574,213 $73,509 10.3% $139,149 24.2%
- ---------------------------------------------------------------------------------------------------------------------------------
</TABLE>
NONINTEREST EXPENSES
Total noninterest expense increased approximately $143,000 or 2.4% in 1998
compared to an increase of $610,000 or 11.7% in 1997. The primary factor
responsible for the increase in 1997 was the full year operating expenses
associated with the Cambridge branch which was opened in 1996. The increased
cost of salaries and benefits of $39,718 or 1.2% was approximately $85,000 less
than expected due to a reduction in the Company's liability under the frozen
defined benefit plan. Without this reduction salaries and benefits would have
increased approximately $125,000 or 3.7%. Furniture and equipment expense
increased approximately $22,000 or 7.6% due to increased depreciation expense
and maintenance cost of equipment. The Company made capital expenditures of
$151,678, $251,019 and $582,088 in 1998, 1997 and 1996, respectively. Data
processing and other operating expenses continued to increase due to the growth
of the Company.
<TABLE>
<CAPTION>
Years Ended Change from Prior Year
------------ ----------------------------
1998/97 1997/96
---------------- --------------
1998 1997 1996 Amount Percent Amount Percent
- ----------------------------------------------------------------------------------------------------------------------------------
<S><C>
Salaries and Employee benefits $3,421,405 $3,381,687 $3,111,577 $ 39,718 1.2% $270,110 8.7%
Occupancy expense 394,101 396,753 332,039 (2,652) (0.7)% 64,714 19.5
Furniture and equipment expense 306,890 285,208 280,133 21,682 7.6% 5,075 1.8
Data processing 331,979 320,430 272,899 11,549 3.6% 47,531 17.4
Other operating expenses 1,516,655 1,444,346 1,222,129 72,309 5.0% 222,217 18.2
- ----------------------------------------------------------------------------------------------------------------------------------
Total $5,971,030 $5,828,424 $5,218,777 $142,606 2.4% $609,647 11.7%
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
PAGE 6
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
INCOME TAXES
Income tax expense was $2,146,309 for 1998 compared to $2,062,055 for 1997 and
$1,751,184 for 1996. The effective tax rates on earnings were 34.8%, 35.9% and
35.2% respectively. The decline in the Company's overall effective tax rate in
1998 is primarily attributable to lower state income taxes resulting from a
change in the taxation of interest on U.S. Government and certain U.S.
Government Agency securities and bank qualified Maryland municipal securities.
Deferred tax assets and liabilities are recognized based on the differences
between financial statement and tax bases of assets and liabilities measured
using current tax rates. If it is likely that deferred tax assets will not be
fully realized a valuation allowance is provided against deferred tax assets.
Management feels that no such valuation allowance is necessary at December 31,
1998 and 1997. Deferred tax expense is measured by the change in net deferred
tax assets or liabilities for the period.
-------------------
FINANCIAL CONDITION
Asset and liability composition, asset quality, capital resources, liquidity and
market risk and interest sensitivity are all factors which are used to measure
the Company's financial condition.
ASSETS
Total assets increased 13.2% to $302,254,000 December 31, 1998 compared to an
increase of 5.5% for 1997. Average total assets increased 9.2% for 1998 compared
to an increase of 3.3% for 1997. The loan portfolio represents 71% of earning
assets and is the primary source of income for the Company. Funding for loans is
primarily provided by core deposits and short term borrowings. Total deposits
increased 11.1% to $249,929,000 at December 31, 1998 compared to a 4.6% increase
for 1997.
The following table sets forth the average balance of the components of average
earning assets as a percentage of total average earning assets as of December
31:
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
------ ------ ------ ------ ------
<S><C>
Investment Securities 24.49% 24.91% 25.50% 29.03% 30.61%
Loans 70.70 71.18 70.86 68.33 65.57
Federal funds sold 4.81 3.91 3.64 2.64 3.82
------ ------ ------ ------ ------
100.00% 100.00% 100.00% 100.00% 100.00%
====== ====== ====== ====== ======
</TABLE>
LOANS
Average loans increased 8.4% in 1998 compared to 3.7% growth experienced in
1997. Total loans, net of unearned income were $194,363,000 on December 31, 1998
an increase of $ 9,070,000 or 4.9% when compared to 1997.
The most significant component of loan growth in 1998 was commercial loans.
Commercial loans increased 23.21% or $7,276,000 totalling $38,624,000 at
December 31, 1998. A strong local economy and low interest rates were the basis
of this healthy lending environment for the year. Real estate construction loans
declined 8.36% for the year totalling $8,740,000 compared to $9,537,000 one year
ago. The decline in long term rates put pressure on real estate lending since
most borrowers were seeking long term fixed rate products. This made it
difficult to grow the residential loan portfolio. Real estate mortgage loans
grew a modest $2,731,000 or 1.99% for the year. In 1997 real estate loans
increased $14,470,000 or 11.8% when compared to 1996.
PAGE 7
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The table below sets forth the composition of the loan portfolio at December 31.
<TABLE>
<CAPTION>
1998 1997 1996 1995 1994
--------- --------- --------- --------- ---------
(Dollars in thousands)
<S><C>
Commercial, financial and agricultural $ 38,624 $ 31,348 $ 32,662 $ 28,054 $ 22,034
Real Estate--Construction 8,740 9,537 6,808 6,631 3,890
Real Estate--Mortgage 139,924 137,193 122,723 118,798 105,110
Consumer 7,075 7,215 9,508 8,801 12,191
--------- --------- --------- --------- ---------
Total Loans $194,363 $185,293 $171,701 $162,284 $143,225
========= ========= ========= ========= =========
</TABLE>
INVESTMENT SECURITIES
The investment portfolio is structured to provide liquidity for the Company and
also plays an important role in the overall management of interest rate risk.
The securities in the investment portfolio are classified as either held to
maturity or available for sale. Investment securities held to maturity are
stated at cost adjusted for amortization of premiums and accretion of discounts.
The Company has the intent and ability to hold such securities until maturity.
Investment securities available for sale are stated at estimated fair value
based on quoted market prices. They represent securities which may be sold as
part of the Company's asset/liability strategy or which may be sold in response
to changing interest rates. Net unrealized holding gains and losses on these
securities are reported as a separate component of stockholders' equity, net of
related income taxes. At December 31, 1998 the Company had classified 83% of the
portfolio as available for sale and 17% as held to maturity compared to 61% and
39% one year ago. The percentage of securities designated as available for sale
has increased since 1996 to support the anticipated growth and liquidity needs
of the Company.
The average balance of the investment portfolio increased $4,486,000 or 7.33%
for 1998 as result of strong deposit growth for the year. The increase in the
average balance of investment securities for 1997 was $510,000. Reinvestment of
maturities in the investment portfolio and new investments resulting from growth
were concentrated in U.S. Government Agency bonds whose earnings are exempt from
state income tax, resulting in higher after tax yields without affecting the
overall safety and liquidity of the portfolio. The Company does not generally
invest in structured notes or other derivative securities.
FEDERAL FUNDS SOLD
The Company invests excess cash balances in overnight investments, or federal
funds sold, with its correspondent banks. Federal funds sold are maintained at a
level necessary to meet the immediate liquidity needs of the Company. The
average balance of federal funds sold increased $3,309,000 to $12,899,000 for
1998 representing a 34.5% increase over 1997. In 1997 the average balance of
Federal Funds sold increased $940,000 to $9,590,000 an increase of 10.9% over
1996.
DEPOSITS
The Company utilizes core deposits to fund its earning assets. At December 31,
1998 and 1997 deposits provided funding for 86% and 87% of average earning
assets, respectively. Average deposits increased 7.8% in 1998 and 3.5% in 1997.
The average rate paid on interest bearing deposits increased 5 basis points to
4.24% for 1998 compared to 4.19% for 1997. This increase is the result of growth
in time deposits which have the highest overall rate. Rates paid on interest
bearing liabilities, as well as the overall deposit mix, remained essentially
unchanged from 1996 to 1997. During 1998 the average balance of certificates of
deposit $100,000 or more increased $8,384,000 or 30% compared to 1,606,000 or
6.1% in 1997 and $9,611,000 or 57.9% in 1996. The growth from 1996 through 1998
is primarily attributable to growth in deposits of counties and municipalities
in the Company's market area. Other certificates of deposit increased $2,907,000
or 4.8% while other interest and noninterest bearing deposits fluctuations were
not significant during the year. The Company does not accept brokered deposits,
nor does it rely on purchased deposits as a funding source for loans.
PAGE 8
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following table sets forth the average balances of deposits and the
percentage of each category to total deposits for the years ended December 31.
<TABLE>
<CAPTION>
Average Balances
---------------------------------------------------------------------
1998 1997 1996
----------- ------------------- ----------------
(Dollars in thousands)
<S><C>
Non interest-bearing demand $ 21,884 9.48% $ 20,119 9.39% $ 18,227 8.80%
Interest-bearing deposits
NOW and SuperNOW 46,865 20.29% 42,945 20.04% 41,003 19.81%
Savings 13,340 5.78% 12,931 6.03% 12,874 6.22%
Money Management 49,238 21.32% 49,977 23.32% 51,696 24.97%
CD's and other Time deposits
less than $100,000 63,415 27.46% 60,508 28.24% 57,014 27.54%
CD's $100,000 or more 36,202 15.67% 27,818 12.98% 26,212 12.66%
-------- -------- -------- -------- -------- ---------
$230,944 100.00% $214,298 100.00% $207,026 100.00%
======== ======== ======== ======== ======== =========
</TABLE>
The following table sets forth the maturity ranges of certificates of deposit
with balances of $100,000 or more on December 31, 1998 (in thousands):
Three months or less $26,702
Three through twelve months 6,162
Over twelve months 12,869
------
$45,733
======
OTHER INTEREST-BEARING LIABILITIES
Short term borrowings consist primarily of securities sold under agreement to
repurchase. These short term obligations are issued in conjunction with cash
management services for deposit customers. The average balance of these
borrowings increased $3,697,000 or 34% in 1998 following a decrease of
$1,813,000 or 14.3% in 1997. From time to time in order to meet short term
liquidity needs the Company may borrow from a correspondent bank under a federal
funds line of credit arrangement. The average borrowings for the year were
$2,300. There were no borrowings under this arrangement during 1997 or 1996.
The following table sets forth the Company's position with respect to short term
borrowings:
<TABLE>
<CAPTION>
1998 1997 1996
------------ ------------- ----------------
Interest Interest Interest
Balance Rate Balance Rate Balance Rate
- ---------------------------------------------------------------------------------------------------------------------------
(Dollars in thousands)
<S><C>
Federal funds purchased and securities sold
under agreements to repurchase:
Outstanding at year end $17,111 3.99% $10,264 4.41% $ 9,268 5.03%
Average outstanding for the year 14,559 4.17 10,862 4.29 12,675 4.25
Maximum outstanding at any month end 19,879 -- 14,301 -- 16,724 --
</TABLE>
The Company does not have any long term debt.
PAGE 9
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
-----------------
CAPITAL RESOURCES
The Company continues to maintain capital at levels in excess of those required
by the federal banking agencies. Total stockholders' equity was $34,284,000 at
December 31, 1998, 10.7% higher than the previous year. Average stockholders'
equity was $32,857,000 for 1998, an increase of 12.0% compared to 1997.
The Bank records unrealized holding gains(losses) on investment securities
available-for-sale as a separate component of stockholder's equity. As of
December 31, 1998, the portion of the Bank's investment portfolio designated as
"available-for-sale" had unrealized holding gains of $445,000, net of tax.
Management has established policies to monitor the investment portfolio in order
to prevent any material negative effect on capital.
The following table compares the Company's capital ratios to the regulatory
requirements:
<TABLE>
<CAPTION>
Regulatory
December 31, 1998 1997 Requirements
- --------------------------------------------------------------------------------------------------------------
($ in thousands)
<S><C>
Tier 1 capital $ 33,839 $ 30,841
Tier 2 capital 2,405 2,253
- --------------------------------------------------------------------------------------------------------------
Total capital, less deductions $ 36,244 $ 33,094
Risk-adjusted assets 192,214 $179,993
Risk-based capital ratios:
Tier 1 17.60% 17.13% 4.0%
Total capital 18.86% 18.39% 8.0%
- --------------------------------------------------------------------------------------------------------------
Total capital $ 33,839 $ 30,841
Total adjusted assets $302,724 $266,271
Leverage capital ratio 11.18% 11.58% 4.0%
- --------------------------------------------------------------------------------------------------------------
</TABLE>
Management knows of no trends or demands, commitments, events or uncertainties
which may materially affect capital.
-----------------------------------------------
LIQUIDITY, MARKET RISK AND INTEREST SENSITIVITY
Liquidity describes the ability of the Company to meet financial obligations
that arise during the normal course of business. Liquidity is primarily needed
to meet the borrowing and deposit withdrawal requirements of customers and to
fund current and planned expenditures. Liquidity is derived through increased
customer deposits, maturities in the investment portfolio,loan repayments and
income from earning assets. To the extent that deposits are not adequate to fund
customer loan demand, liquidity needs can be met in the short-term funds
markets. The Company has an arrangement with a correspondent bank whereby it has
a $10,000,000 line of credit available to meet any short-term needs (30 days)
which may not be funded by its large portfolio of readily marketable investments
that can be converted to cash if needed. The Bank is also a member of the
Federal Home Loan Bank of Atlanta which provides another source of liquidity.
There are no known trends or demands, commitments, events or uncertainties that
management is aware of which will materially affect the Company's ability to
maintain liquidity at satisfactory levels.
Market risk is the risk of loss arising from adverse changes in the fair value
of financial instruments due to changes in interest rates, exchange rates or
equity pricing. The Company's principal market risk is interest rate risk. The
Bank's interest rate sensitivity position is managed to maintain an appropriate
balance between the maturity and repricing characteristics of assets and
liabilities consistent with the Bank's liquidity analysis, growth and capital
adequacy goals. The board of directors has adopted an asset liability management
policy which requires management and the asset liability committee to closely
monitor the Bank's exposure to changes in interest rates. Actions which can be
taken to manage interest rate risk include changing the mix of floating and
fixed rate earning assets and funding sources, restructuring the investment
portfolio, Federal Home Loan Bank advances with appropriate rate/gap match, and
product marketing and development to attract new loans and deposits.
PAGE 10
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Management's primary tool for monitoring interest rate sensitivity is "gap"
analysis which summarizes the amount of interest sensitive assets and
liabilities which will reprice over various time intervals. The difference
between the volume of assets and liabilities repricing in each interval is the
interest sensitivity "gap". "Positive gap" occurs when more assets reprice in a
given time interval, while "negative gap" occurs when more liabilities reprice.
The Company had a positive gap position within the one year repricing interval.
Management has classified money management, savings and NOW accounts primarily
in the over 1 year interval because they have not historically repriced in
accordance with general changes in interest rates. The following table
summarizes the Company's interest sensitivity at December 31, 1998 based upon
contractual maturity if fixed rate or earliest repricing date if variable rate.
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------------------
3 Months Total Over 1 Year
3 Months Through Within and not
December 31, 1998 Immediate or Less 12 Months One Year Classified Total
- ----------------------------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
<S><C>
EARNING ASSETS:
Loans--net of unearned income $36,446 $18,898 $33,325 $88,669 $105,694 $194,363
Investment securities -- 8,475 19,321 27,796 55,575 83,371
Federal Funds Sold 12,403 -- -- 12,403 -- 12,403
- ----------------------------------------------------------------------------------------------------------------------------------
TOTAL EARNING ASSETS 48,849 27,373 52,646 128,868 161,269 290,137
- ----------------------------------------------------------------------------------------------------------------------------------
INTEREST-BEARING LIABILITIES:
Money management, Savings and NOW's -- -- 10,865 10,865 101,112 111,977
Certificates of deposit $100,000 and over -- 26,702 6,162 32,864 12,869 45,733
All other time deposits -- 11,774 15,496 27,270 39,466 66,736
Short-term borrowings 17,111 -- -- 17,111 -- 17,111
- ----------------------------------------------------------------------------------------------------------------------------------
TOTAL INTEREST-BEARING LIABILITIES 17,111 38,476 32,523 88,110 153,447 241,557
- ----------------------------------------------------------------------------------------------------------------------------------
NET NON-INTEREST BEARING LIABILITIES AND
AND OTHER FUNDING SOURCES -- -- -- -- 48,580 48,580
- ----------------------------------------------------------------------------------------------------------------------------------
NTEREST SENSITIVITY GAP
ASSET SENSITIVE (LIABILITY SENSITIVE) $31,738 $(11,103) $20,123 $40,758 $(40,758) $ --
- ----------------------------------------------------------------------------------------------------------------------------------
</TABLE>
In addition to gap analysis, the Bank utilizes a simulation model to quantify
the effect a hypothetical plus or minus 200 basis point change in rates would
have on net interest income and the fair value of capital. The model takes into
consideration the effect of call features of investments as well as prepayments
of loans in periods of declining rates. When actual changes in interest rates
occur the changes in interest earning assets and interest bearing liabilities
may differ from the assumptions used in the model. As of December 31, 1998 the
model produced the following sensitivity profile for net interest income and the
fair value of capital:
<TABLE>
<CAPTION>
Immediate Change in Rates
------------------------------------------------------------------------------
+200 Basis Points -200 Basis Points Policy Limit
- -----------------------------------------------------------------------------------------------------------------------
<S><C>
% Change in Net Interest Income 8.67% (11.46)% +/- 25%
% Change in Fair Value of Capital 10.01% (12.28)% +/- 15%
</TABLE>
PAGE 11
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
---------
Year 2000
This is a year 2000 readiness disclosure under the Year 2000 Information and
Readiness Disclosure Act of 1998.
The "Year 2000 Issue", which is common to most corporations, including banks, is
a general term used to describe the problems that may result from the improper
processing of dates and date-sensitive calculations as the Year 2000 approaches.
This issue is caused by the fact that many of the world's existing computer
programs use only two digits to identify the year in the date field of a
program. These programs could experience serious malfunctions when the last two
digits of the year change to "00" as a result of identifying a year designated
"00" as the year 1900 rather than the Year 2000.
The Company formed a Year 2000 Committee, which is comprised of a cross-section
of the Company's employees, in 1996. This Committee is leading the Company's
Year 2000 efforts to ensure that the Company is properly prepared for the Year
2000. The Company's Board of Directors has approved a plan submitted by the year
2000 Committee that was developed in accordance with guidelines set forth by the
Federal Financial Institutions Examination Council. This plan has five primary
phases related to internal Year 2000 compliance:
1. Awareness--this phase is ongoing and is designed to inform the
Company's Board of Directors (the "Board") and Executive management
("Management"), employees, customers and vendors of the impact of the
Year 2000 Issue. Since September 1997, the Board has been apprised of
the Company's efforts at their regular meetings. In addition, all
customers were updated with respect to the Company's Year 2000 efforts
through several mailings sent in 1998.
2. Assessment--during this phase an inventory was conducted of all known
Company processes that could reasonably be expected to be impacted by
the Year 2000 Issue and their related vendors, if applicable. The
identification process included information technology and
communication systems such as personal computers, local area networks
and servers, ATM modems, printers, copy machines, facsimile machines,
telephones and the operating systems and software for these systems. It
also included non-information technology systems, such as heating, air
conditioning and vault controls, alarm systems, surveillance systems,
time clocks, coin and currency counters, and postage meters. The
Company inventoried all the systems listed above in October 1997 and
performed an initial assessment of potential risks from either under or
nonperformance arising from incorrect processing and usage of dates
after December 31, 1999. All outside services and major vendor were
contacted to ascertain their individual levels of Year 2000 compliance.
From vendor responses and/or certifications of Year 2000 compliance the
Company determined that all vendors are aware of the issue and are
working toward compliance. The Company expects all vendors to be Year
2000 compliant prior to December 31, 1999.The assessment phase is
complete, although it is updated periodically as necessary.
3. Renovation and/or replacement--this phase includes programming code
enhancements, hardware and software upgrades, system replacements,
vendor certification and any other changes necessary to make any
hardware, software and other equipment Year 2000 compliant. The Company
does not perform in-house programming, and thus is dependent on
external vendors to ensure and modify, if needed, the hardware,
software or other services it provides to the Company for Year 2000
compliance. The Company's data processing for its core services
(deposit, loan and related support processing) is performed by Delmarva
Bank Data Processing Center, Inc.("Delmarva"). Delmarva reports its
Year 2000 compliance progress to the Company on a regular basis. These
reports indicate that they are on or ahead of schedule in all areas and
the Company expects Delmarva to be Year 2000 compliant prior to
December 31, 1999.
4. Validation--The next phase for the Company under the plan is to
complete a comprehensive testing of all known processes. Testing with
Delmarva was completed in August, 1998. All core systems tested
compliant. The Company has performed Year 2000 testing of all employee
computer work stations, and all were either upgraded or replaced with
compliant systems. The testing of the Company's mission critical
processes was substantially complete at December 31, 1998. The testing
of the remainder of the Company's processes is expected to be
substantially completed by March 31, 1999.
5. Implementation--this phase will occur when Year 2000 processing
commences. On some applications the Company is already entering dates
greater than December 31, 1999 into its systems. In these situations no
adverse events have been noted. The significant part of the
implementation phase will occur after December 31, 1999.
PAGE 12
<PAGE>
SELECTED FINANCIAL DATA
The Company has developed contingency plans for processes that do not process
information reliably and accurately after December 31, 1999, including a
contingency plan to provide operating alternatives for continuation of services
to the Bank's customers in the event of systems or communication failures at the
beginning of the Year 2000. The contingency plan was completed at December 31,
1998. Based on preliminary planning during development of the contingency plan,
management believes that the Company will be able to continue to operate in the
Year 2000 even if some systems fail. At the end of December 1999, we will
generate paper and spreadsheet backup of all customer and general ledger
accounts. Due to the size of the Bank, we believe that we would be able to
operate with all transactions processed manually until normal operations can be
restored. This procedure could require changing of schedules and hiring of
temporary staff. We expect this procedure, if necessary, to be short term and
not to materially increase our operating cost, however, if this procedure were
to continue for any extended period of time, or if we ultimately had to change
data service providers, the cost could be material.
Ultimately, the success of the Company's efforts to address the Year 2000 issue
depends to a large extent not only on the corrective measures that the Company
undertakes, but also on the efforts undertaken by businesses and other
independent entities who provide data to, or receive data from, the Company such
as borrowers, vendors or customers. In particular, the Company's credit risk
associated with its borrowers may increase as a result of problems such
borrowers may have resolving their own Year 2000 issues. The Company is also in
the process of assessing the Year 2000 readiness of significant borrowers and
depositors. Significant borrowers and depositors are commercial customers with
individual non-mortgage loans in excess of $300,000 or loan relationships in
excess of $750,000 if secured, $500,000 if unsecured. Surveys of each
significant borrower and depositor's awareness of the Year 2000 issue and their
ability to become compliant are being performed. This step is not expected to
require a significant amount of time or resources. Based on the survey
responses, Management is not aware of any material risks posed by the Year 2000
status of significant borrowers and depositors. From now until 2000, the Company
will endeavor to monitor the Year 2000 efforts of its borrowers and will
implement a course of action and procedures designed to reduce any increased
potential risk as a result of Year 2000 issues.
As of February 28, 1998 the following chart shows the current and projected
status of the Bank's Year 2000 compliance efforts:
Projected Projected
Phase 12/31/98 3/31/99 6/30/99
- ------------------------------------------------------------------------------
Awareness 100% -- --
Assessment 100% -- --
Renovation 95% 100% --
Validation 85% 90% 100%
The Company expensed $101,088 on Year 2000 costs for the year ended December 31,
1998 and $57,986 in 1997. Based on an analysis of projected expenses, the total
cost of the Year 2000 project is currently estimated at $280,000. Funding of the
Year 2000 project costs will come from normal operating cash flow, however, the
majority of expenses associated with the Year 2000 Issue are the cost of
existing personnel and will not have a material effect on the reported net
income for the Company. Should the Company have to resort to alternative
operating procedures due to major systems or communication failures at the
beginning of the Year 2000, the extra costs could be material. Other projects
have been delayed due to time spent on the Year 2000 project, however, these
have not had a material effect on the Company's financial condition or results
of operations.
Management of the Company believes that the potential effects on the Company's
internal operations of the Year 2000 Issue can and will be addressed prior to
the Year 2000. However, if required modifications or conversions are not made or
are not completed on a timely basis prior to the Year 2000, the Year 2000
scenarios foreseeable at this time would include the Company temporarily not
being able to process, in some combination, various types of customer
transactions. This could affect the ability of the Company to, among other
things, originate new loans, post loan payments, accept deposits or allow
immediate withdrawals, and, depending on the amount of time such a scenario
lasted, could have a material adverse effect on the Company.
Because of the serious implications of these scenarios, the primary emphasis of
the Company's Year 2000 efforts is to correct, with complete replacement if
necessary, any systems or processes whose Year 2000 test results are not
satisfactory prior to the Year 2000. Nevertheless, should one of the most
reasonably likely worst case scenarios occur in the Year 2000, the Company, as
noted above, has formalized a contingency plan that would allow for limited
transactions until the Year 2000 problems are fixed.
PAGE 13
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The costs of the Year 2000 project and the date on which the Company plans to
complete Year 2000 compliance are based on management's best estimates, which
were derived using numerous assumptions of future events such as the
availability of certain resources (including internal and external resources),
third party vendor plans and other factors. However, there can be no guarantee
that these estimates will be achieved at the cost disclosed or within the time
frame indicated, and actual results could differ materially from these plans.
Factors that might affect the timely and efficient completion of the Company's
Year 2000 project include, but are not limited to, vendors' abilities to
adequately correct or convert software and the effect on the Company's ability
to test its systems, the availability and cost of personnel trained in the Year
2000 area, the ability to identify and correct all relevant computer programs
and similar uncertainties.
Bank regulatory agencies have issued guidance under which they are assessing
Year 2000 readiness. The failure of a financial institution to take appropriate
action to address deficiencies in the Year 2000 project management process may
result in enforcement actions which could have a material adverse effect on such
institution, result in the imposition of civil money penalties or result in the
delay (or receipt of an unfavorable or critical evaluation of management of a
financial institution in connection with regulatory review) of applications
seeking to acquire other entities or otherwise expand the institution's
activities.
--------------------------
FORWARD LOOKING STATEMENTS
Portions of this annual report contain forward-looking statements within the
meaning of ThePrivate Securities LitigationReform Act of 1995. Such statements
are not historical facts and include expressions about the Company's confidence,
policies, and strategies, the Year 2000 issue, adequacy of capital levels, and
liquidity. Such forward-looking statements involve certain risks and
uncertainties, including general economic conditions, competition in the
geographic and business areas in which theCompany and its affiliates operate,
inflation, fluctuations in interest rates, legislation, and governmental
regulation. These risks and uncertainties are described in MOREdetail in the
Company's Form 10-K, under the heading "RiskFactors". Actual results may differ
materially from such forward-looking statements, and the Company assumes no
obligation to update forward-looking statements at any time.
---------------------------------
RECENT STOCK PRICES AND DIVIDENDS
The Company's stock is quoted on the OTC Bulletin Board(OTCBB) under the symbol
TABS and is traded infrequently. Price information listed on the OTCBB is based
upon the participation of market makers for the Company's stock. The following
table indicates cash dividends paid per share for each quarter of 1998, 1997 and
1996 and the ranges of representative sales prices for the stated periods.
<TABLE>
<CAPTION>
1998 1997 1996
--------------------- ------------------- ------------------
Price Range Price Range Price Range
------------ Dividends --------- Dividends --------- Dividends
High Low Paid High Low Paid High Low Paid
- --------------------------------------------------------------------------------------------------------------------------
<S><C>
First Quarter $50.00-45.50 $ .20 $26.00-25.00 $.15 $22.50-22.00 $.125
Second Quarter 51.50-50.00 .20 33.75-27.25 .15 23.00-22.00 .125
Third Quarter 53.25-51.00 .20 40.00-40.00 .15 25.00-23.50 .125
Fourth Quarter 54.50-53.00 .35 44.50-40.00 .40 25.00-24.50 .325
---- --- ----
$ .95 $.85 $ .70
==== === ====
</TABLE>
PAGE 14
<PAGE>
SELECTED FINANCIAL DATA
The following table sets forth certain selected financial data for the five
years ended December 31, 1998 and is qualified in its entirety by the detailed
information and financial statements, including notes thereto, included
elsewhere or incorporated by reference in this annual report. This data should
be read in conjunction with the financial statements and related notes thereto,
included elsewhere in this annual report and "Management's Discussion and
Analysis of Financial Condition and Results of Operations."
<TABLE>
<CAPTION>
Years Ended December 31,
1998 1997 1996 1995 1994
- ----------------------------------------------------------------------------------------------------------------------------------
($ in thousands, except per share data)
<S><C>
SUMMARY OF OPERATING RESULTS:
Total interest income $21,048 $19,672 $19,019 $17,435 $15,452
Total interest expense 9,463 8,596 8,448 8,207 7,178
------- ------- ------- ------- -------
Net interest income 11,585 11,076 10,571 9,228 8,274
Provision for credit losses 240 225 955 540 525
------- ------- ------- ------- -------
Net interest income after provision for credit losses 11,345 10,851 9,616 8,688 7,749
Noninterest income 787 713 574 617 633
Noninterest expense 5,971 5,828 5,219 5,083 4,887
------- ------- ------- ------- -------
Income before income taxes 6,161 5,736 4,971 4,222 3,495
Provision for income taxes 2,146 2,062 1,751 1,538 1,232
------- ------- ------- ------- -------
NET INCOME $ 4,015 $ 3,674 $ 3,220 $ 2,684 $ 2,263
======= ======= ======= ======= =======
PER SHARE DATA:
Diluted Net income $3.33 $3.06 $2.72 $2.27 $1.93
Dividends paid .95 .85 .70 .625 .50
Book value at end of period 28.76 26.04 23.54 21.32 18.86
Weighted average common shares(1) 1,207,028 1,199,130 1,185,410 1,180,154 1,175,958
OTHER DATA (AT YEAR END):
Total assets $302,254 $267,029 $253,184 $234,406 $231,700
Total deposits 249,929 224,914 215,101 195,447 193,364
Total loans, net of unearned income
and allowance for credit losses 191,781 182,756 168,972 160,207 141,358
Total stockholders' equity 34,284 30,972 27,920 25,193 22,204
RETURN ON EQUITY AND ASSETS:
Return on average total assets 1.44% 1.44% 1.30% 1.17% .99%
Return on average stockholders' equity 12.22% 12.52% 12.14% 11.25% 10.32%
Average stockholders' equity to average total assets 11.77% 11.48% 10.72% 10.37% 9.59%
</TABLE>
(1) The weighted average common shares includes the effect of dilution of stock
options outstanding at period end.
PAGE 15
<PAGE>
CONSOLIDATED BALANCE SHEETS
December 31, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
- -------------------------------------------------------------------------------------------------------------------------
<S><C>
ASSETS
Cash and due from banks (Notes 1 and 3) $ 8,003,809 $ 8,108,370
Federal funds sold 12,402,615 8,056,873
Investment securities: (Notes 1 and 4)
Available for sale--at fair value 69,500,252 37,329,801
Held to maturity--at amortized cost - fair value of
$13,962,764 (1998) and $24,256,659 (1997) 13,870,709 24,148,612
Loans, less allowance for credit losses (1998) $2,582,433
(1997) $2,537,920 (Notes 1 and 5) 191,780,928 182,755,512
Premises and equipment (Notes 1 and 6) 2,976,637 3,144,436
Accrued interest receivable on loans and investment securities 2,169,505 1,948,608
Deferred income taxes (Notes 1 and 12) 342,440 455,070
Other real estate (Note 1) 163,765 113,579
Other assets (Note 7) 1,043,083 968,278
------------ ---------
Total assets $302,253,743 $267,029,139
============ =========
LIABILITIES
Deposits: (Notes 4 and 8)
Noninterest-bearing demand $ 25,483,195 $ 23,695,553
NOW and Super NOW 50,206,909 51,159,113
Certificates of deposit, $100,000 or more 45,733,348 25,762,804
Other time and savings 128,505,823 124,296,189
------------ ---------
249,929,275 224,913,659
Securities sold under agreements to repurchase (Notes 1 and 4) 17,111,375 10,263,528
Accrued interest payable on deposits 483,148 388,199
Other liabilities (Note 9) 446,215 492,139
------------ ---------
Total liabilities 267,970,013 236,057,525
------------ ---------
COMMITMENTS (Notes 6, 9 and 16)
STOCKHOLDERS' EQUITY (Notes 10 and 13)
Common stock, par value $.01, authorized 25,000,000 shares;
issued and outstanding (1998) 1,192,202 shares;
(1997) 1,189,610 shares 11,922 11,896
Surplus 12,663,141 12,548,111
Retained earnings 21,163,696 18,280,376
Accumulated other comprehensive income (Notes 1 and 4) 444,971 131,231
------------ ---------
Total stockholders' equity 34,283,730 30,971,614
------------ ---------
Total liabilities and stockholders' equity $302,253,743 $267,029,139
============ =========
</TABLE>
The notes to consolidated financial statements are an integral part of these
statements.
PAGE 16
<PAGE>
CONSOLIDATED STATEMENTS OF INCOME
For the Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
1998 1997 1996
- --------------------------------------------------------------------------------------------------------------
<S><C>
INTEREST INCOME
Loans, including fees (Notes 1 and 5) $16,571,485 $15,659,584 $15,215,968
Interest and dividends on investment securities
Taxable 3,564,032 3,189,376 3,085,546
Tax-exempt 219,038 292,467 253,733
Federal funds sold 693,272 530,721 463,549
---------- -------- --------
Total interest income 21,047,827 19,672,148 19,018,796
---------- -------- --------
INTEREST EXPENSE
NOW and Super NOW accounts 1,468,201 1,333,672 1,249,532
Certificates of deposit, $100,000 or more 1,936,399 1,463,450 1,388,908
Other time and savings 5,455,539 5,334,401 5,271,092
Securities sold under agreements to repurchase 602,534 464,496 538,199
---------- -------- --------
Total interest expense 9,462,673 8,596,019 8,447,731
---------- -------- --------
NET INTEREST INCOME 11,585,154 11,076,129 10,571,065
PROVISION FOR CREDIT LOSSES (Notes 1 and 5) 240,000 225,000 955,000
---------- -------- --------
NET INTEREST INCOME AFTER PROVISION
FOR CREDIT LOSSES 11,345,154 10,851,129 9,616,065
NONINTEREST INCOME
Service charges on deposit accounts 623,698 536,801 504,746
Other service charges, commissions and fees 151,266 120,700 77,072
Gain (loss) on sale of securities (Note 4) (9,692) 5,519 (22,732)
Other operating income, net (Note 7) 21,599 50,342 15,127
---------- -------- --------
786,871 713,362 574,213
---------- -------- --------
NONINTEREST EXPENSES
Salaries and wages 2,559,543 2,490,013 2,313,247
Employee benefits (Notes 9, 10 and 11) 861,862 891,674 798,330
Occupancy expense (Note 6) 394,101 396,753 332,039
Furniture and equipment expense 306,890 285,208 280,133
Data processing 331,979 320,430 272,899
Other operating expenses 1,516,655 1,444,346 1,222,129
---------- -------- --------
5,971,030 5,828,424 5,218,777
---------- -------- --------
INCOME BEFORE INCOME TAXES 6,160,995 5,736,067 4,971,501
Federal and State income taxes (Note 12) 2,146,309 2,062,055 1,751,184
---------- -------- --------
NET INCOME $ 4,014,686 $ 3,674,012 $ 3,220,317
========== ======== ========
Basic earnings per common share (Notes 1 and 18) $ 3.37 $ 3.09 $ 2.72
========== ======== ========
Diluted earnings per common share $ 3.33 $ 3.06 $ 2.72
========== ======== ========
</TABLE>
The notes to consolidated financial statements are an integral part of these
statements.
PAGE 17
<PAGE>
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
Accumulated
Other Total
Common Retained Comprehensive Stockholders'
Stock Surplus Earnings Income Equity
- ------------------------------------------------------------------------------------------------------------------------------
<S><C>
Balances, January 1, 1996 $11,818 $12,330,752 $13,224,629 $(373,744) $25,193,455
Comprehensive income:
Net income -- -- 3,220,317 -- 3,220,317
Other comprehensive income, net of tax:
Unrealized gain on available for
sale securities, net of reclassification
adjustment of $(20,943) -- -- -- 230,331 230,331
-----------
Total comprehensive income 3,450,648
-----------
4,092 shares issued under 401(k) plan 40 96,744 -- -- 96,784
Exercise of stock options 4 7,796 -- -- 7,800
Cash dividends paid, $.70 per share -- -- (828,682) -- (828,682)
------- ----------- ----------- ----------- -----------
Balances, December 31, 1996 11,862 12,435,292 15,616,264 (143,413) 27,920,005
Comprehensive income:
Net income -- -- 3,674,012 -- 3,674,012
Other comprehensive income, net of tax:
Unrealized gain on available for
sale securities, net of reclassification
adjustment of $17,120 -- -- -- 274,644 274,644
-----------
Total comprehensive income -- -- -- -- 3,948,656
-----------
2,968 shares issued under 401(k) plan 30 105,023 -- -- 105,053
Exercise of stock options 4 7,796 -- -- 7,800
Cash dividends paid, $.85 per share -- -- (1,009,900) -- (1,009,900)
------- ----------- ----------- ----------- ----------
Balances, December 31, 1997 11,896 12,548,111 18,280,376 131,231 30,971,614
Comprehensive income:
Net income -- -- 4,014,686 4,014,686
Other comprehensive income, net of tax:
Unrealized gain on available for
sale securities, net of reclassification
adjustment of $(14,775) -- -- -- 313,740 313,740
-----------
Total comprehensive income -- -- -- -- 4,328,426
-----------
2,017 shares issued under 401(k) plan 20 101,761 -- -- 101,781
Exercise of stock options 6 13,269 -- 13,275
Cash dividends paid, $.95 per share -- -- (1,131,366) -- (1,131,366)
------- ----------- ----------- ----------- -----------
Balances, December 31, 1998 $11,922 $12,663,141 $21,163,696 $444,971 $34,283,730
======= =========== =========== =========== ===========
</TABLE>
The notes to consolidated financial statements are an integral part of these
statements.
PAGE 18
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
1998 1997 1996
- ---------------------------------------------------------------------------------------------------------------------------
<S><C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 4,014,686 $ 3,674,012 $ 3,220,317
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 501,229 453,830 472,441
Discount accretion on debt securities (65,608) (119,149) (88,246)
Discount accretion on matured debt securities 61,631 79,100 30,815
(Gain) loss on sale of securities 9,692 (5,519) 22,732
Provision for credit losses, net 44,513 (190,400) 651,005
Deferred income taxes (84,775) 108,745 ( 92,784)
(Gain) loss on disposal of premises and equipment 7,713 (15) 6,482
Loss on other real estate owned 18,124 19,061 13,500
Net changes in:
Accrued interest receivable (220,897) (120,478) (74,152)
Other assets (74,805) (143,405) (132,464)
Accrued interest payable on deposits 94,949 (4,890) 34,199
Other liabilities (45,924) (9,640) 41,836
----------- ----------- -----------
Net cash provided by operating activities 4,260,528 3,741,252 4,105,681
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES
Proceeds from sales of securities available for sale 9,054,240 5,954,000 4,976,911
Proceeds from maturities and principal payments
of securities available for sale 3,465,196 5,981,895 10,682,736
Purchases of securities available for sale (42,418,520) (16,911,099) (17,056,224)
Proceeds from maturities and principal payments
of securities held to maturity 14,327,204 8,329,268 10,841,694
Purchases of securities held to maturity (6,023,906) (1,709,507) (11,153,089)
Net increase in loans (9,291,576) (14,823,887) (11,843,709)
Purchase of loans -- (700,000) (198,000)
Proceeds from sale of loans -- 1,728,508 2,460,604
Purchase of premises and equipment (151,678) (251,019) (582,088)
Proceeds from sale of other real estate owned 153,337 308,380 --
Proceeds from sale of premises and equipment 19,203 20,000 --
----------- ----------- -----------
Net cash used in investing activities (30,866,500) (12,073,461) (11,871,165)
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES
Net increase in demand, NOW,
money market, and savings deposits 128,089 8,153,158 9,923,185
Net increase in certificates of deposit 24,887,527 1,659,061 9,731,264
Net increase (decrease) in securities sold
under agreement to repurchase 6,847,847 995,835 (3,678,554)
Proceeds from issuance of common stock 115,056 112,853 104,584
Dividends paid (1,131,366) (1,009,900) (828,682)
----------- ----------- -----------
Net cash provided by financing activities 30,847,153 9,911,007 15,251,797
----------- ----------- -----------
</TABLE>
PAGE 19
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
For the Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
1998 1997 1996
- -------------------------------------------------------------------------------------------------------
<S><C>
NET INCREASE IN CASH
AND CASH EQUIVALENTS 4,241,181 1,578,798 7,486,313
CASH AND CASH EQUIVALENTS AT
BEGINNING OF YEAR 16,165,243 14,586,445 7,100,132
----------- ----------- -----------
CASH AND CASH EQUIVALENTS AT
END OF YEAR $20,406,424 $16,165,243 $14,586,445
=========== =========== ===========
Supplemental cash flows information:
Interest paid $ 9,372,177 $ 8,600,909 $ 8,413,532
=========== =========== ===========
Income taxes paid $ 2,248,519 $ 1,956,219 $ 1,830,877
=========== =========== ===========
Transfers from loans to other real estate $ 221,647 $ 202,507 $ 165,000
=========== =========== ===========
</TABLE>
The notes to consolidated financial statements are an integral part of these
statements.
PAGE 20
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the Years Ended December 31, 1998, 1997 and 1996
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The consolidated financial statements include the accounts of Talbot Bancshares,
Inc. (the "Company") and its subsidiary, The Talbot Bank of Easton, Maryland
(the "Bank") with all significant intercompany transactions eliminated. The
investment in subsidiary is recorded on the Company's books on the basis of it's
equity in the net assets of the subsidiary. The accounting and reporting
policies of the Company conform to generally accepted accounting principles and
to prevailing practices within the banking industry. Certain reclassifications
have been made to amounts previously reported to conform with the
classifications made in 1998.
Nature of Operations
The Company, through its bank subsidiary, provides commercial banking services
from its locations in Talbot and Dorchester Counties, Maryland. Its primary
source of revenue is from providing commercial and real estate loans to
customers who are predominately small businesses, professionals and middle
income individuals located in the general Talbot County area of Maryland's
eastern shore.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Investment Securities Available for Sale
Investment securities available for sale are stated at estimated fair value
based on quoted market prices. They represent those securities which management
may sell as part of its asset/liability strategy or which may be sold in
response to changing interest rates, changes in prepayment risk or other similar
factors. The cost of securities sold is determined by the specific
identification method. Net unrealized holding gains and losses on these
securities are reported as a separate component of stockholders' equity, net of
related income taxes.
Investment Securities Held to Maturity
Investment securities held to maturity are stated at cost adjusted for
amortization of premiums and accretion of discounts. The Company intends and has
the ability to hold such securities until maturity. When securities are
transferred into the held to maturity category from available for sale, they are
accounted for at estimated fair value with any unrealized holding gain or loss
at the date of the transfer reported as a separate component of stockholders'
equity and amortized over the remaining life of the security as an adjustment of
yield.
Loans
Loans are stated at their principal amount outstanding net of any deferred fees
and costs. Interest income on loans is accrued at the contractual rate based on
the principal amount outstanding. Fees charged and costs capitalized for
originating loans are being amortized primarily on the interest method over the
term of the loan. A loan is placed on nonaccrual when it is specifically
determined to be impaired or when principal or interest is delinquent for 90
days or more. Any unpaid interest previously accrued on those loans is reversed
from income. Interest income generally is not recognized on specific impaired
loans unless the likelihood of further loss is remote. Interest payments
received on such loans are applied as a reduction of the loan principal balance.
Interest income on other nonaccrual loans is recognized only to the extent of
interest payments received.
Loans are considered impaired when it is probable that the Bank will not collect
all principal and interest payments according to the loan's contractual terms.
The impairment of a loan is measured at the present value of expected future
cash flows using the loan's effective interest rate, or at the loan's observable
market price or the fair value of the collateral if the loan is collateral
dependent.
Impaired loans do not include groups of smaller balance homogeneous loans such
as residential mortgage and consumer installment loans that are evaluated
collectively for impairment. Reserves for probable future credit losses related
to these loans are based upon historical loss ratios and are included in the
allowance for credit losses.
PAGE 21
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Allowance for Credit Losses
The allowance for credit losses is established through a provision for credit
losses charged to expense. Loans are charged against the allowance for credit
losses when management believes that the collectibility of the principal is
unlikely. The allowance, based on evaluations of the collectibility of loans and
prior loan loss experience, is an amount that management believes will be
adequate to absorb possible losses on existing loans that may become
uncollectible. The evaluations take into consideration such factors as changes
in the nature and volume of the loan portfolio, overall portfolio quality,
review of specific problem loans, and current economic conditions and trends
that may affect the borrowers' ability to pay.
Long-Lived Assets
Premises and equipment are stated at cost less accumulated depreciation.
Depreciation is computed under the straight-line and accelerated methods over
the estimated useful lives of the assets.
Long-lived assets are evaluated regularly for other-than-temporary impairment.
If circumstances suggest that their value may be impaired and the write-down
would be material, an assessment of recoverability is performed prior to any
write-down of the asset.
Other Real Estate
Other real estate represents assets acquired in satisfaction of loans either by
foreclosure or deeds taken in lieu of foreclosure. Properties acquired are
recorded at the lower of cost or fair value less estimated selling costs at the
time of acquisition with any deficiency charged to the allowance for credit
losses. Thereafter, cost incurred to operate or carry the properties as well as
reductions in value as determined by periodic appraisals are charged to
operating expense. Gains and losses resulting from the final disposition of the
properties are included in noninterest expense.
Repurchase Agreements
Repurchase agreements are securities sold to the Bank's customers, at the
customer's request, under a continuing "roll-over" contract that matures in one
business day. The underlying securities sold are U.S. Treasury notes or Federal
Agency bonds which are segregated from the Company's other investment securities
by the Bank's safekeeping agent.
Income Taxes
Deferred income taxes are provided under the liability method based on the
difference between the financial statement and tax bases of assets and
liabilities and are measured at the current statutory tax rates.
Cash and Cash Equivalents
For purposes of the statements of cash flows, the Company considers cash and due
from banks, and federal funds sold to be cash and cash equivalents.
Stock-Based Compensation
Stock-based compensation is recognized using the intrinsic value method. For
disclosure purposes, pro forma net income and earnings per share impacts are
provided as if the fair value method had been applied.
New Accounting Standards
In June 1996, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 125, "Accounting for Transfers and Servicing
of Financial Assets and Extinguishments of Liabilities" (SFAS 125), which
provides new accounting and reporting standards for sales, securitizations, and
servicing of receivables and other financial assets and extinguishments of
liabilities. SFAS 125 is effective for transactions occurring after December 31,
1996, except for the provisions relating to repurchase agreements, securities
lending and other similar transactions and pledged collateral, which were
delayed until after December 31, 1997 by SFAS 127, "Deferral of the Effective
Date of Certain Provisions of SFAS Statement No. 125, an amendment of SFAS
Statement No. 125." Adoption of SFAS 125 as of January 1, 1997 was not material;
SFAS 127 was adopted as required in 1998 and did not have a material financial
impact on the Company.
PAGE 22
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In June 1997, Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" (SFAS 130), was issued and establishes standards for
reporting and displaying comprehensive income and its components. SFAS 130
requires comprehensive income and its components, as recognized under the
accounting standards, to be displayed in a financial statement with the same
prominence as other financial statements. The Company adopted the standard, as
required, beginning in 1998. Adoption of this disclosure requirement did not
have a material financial impact on the Company
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 131, "Disclosures about Segments of an
Enterprise and Related Information" (SFAS 131), which establishes new standards
for reporting information about operating segments in annual and interim
financial statements. The standard requires descriptive information about the
way that operating segments are determined, the products and services provided
by the segments and the nature of differences between reportable years beginning
after December 15, 1997. Operating segments are defined under the standard based
on the availability and utilization of discrete financial information as well as
the necessity for this discrete financial information to meet certain
quantitative thresholds. Management believes that it has no reportable
components that qualify as an operating segment under SFAS 131 for the year
ended December 31, 1998.
In February 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No, 132, "Employers' Disclosures about Pension
and Other Postretirement Benefits - an amendment of FASB Statements No. 87, 88
and 106" (SFAS 132). This statement revises employers" disclosures about pension
and other postretirement benefit plans, but does not change the measurement or
recognition of those plans. It standardizes the disclosure requirements to the
extent practicable, requires additional information on changes in the benefit
obligations and fair values of plan assets that will facilitate financial
analysis and eliminates certain disclosures that are no longer as useful as they
were when Statements 87, 88 and 106 were issued. This statement is effective for
fiscal years beginning after December 15, 1997. Restatement of disclosures for
previous periods provided for comparative purposes is required unless the
information is not readily available, in which case the notes to the financial
statements should include all available information and a description of the
information not available. These disclosure requirements have been adopted for
the year ended December 31, 1998 and had no impact on the Company's financial
condition or results of operations.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Standards No. 133, "Accounting for Derivative Instrument and Hedging
Activities" (SFAS 133). The provisions of this statement require that derivative
instruments be carried at fair value on the balance sheet. The statement allows
derivative instruments to be used to hedge various risks and sets forth specific
criteria to be used to determine when hedge accounting can be used. The
statement also provides for offsetting changes in fair value or cash flows of
both the derivative and the hedged asset or liability to be recognized in
earnings in the same period; however, any changes in fair value or cash flow
that represent the ineffective portion of a hedge are required to be recognized
in earnings and cannot be deferred. For derivative instruments not accounted for
as hedges, changes in fair value are required to be recognized in earnings. The
provisions of this statement become effective for quarterly and annual reporting
beginning January 1, 2000, and allow for early adoption in any quarter after
June 1998. The Company will adopt SFAS 133 as required in 2000. It is expected
that adoption of this standard will have no material financial impact.
NOTE 2. FORMATION OF HOLDING COMPANY
Talbot Bancshares, Inc., a one-bank holding company, commenced operations on May
1, 1997 pursuant to a Plan of Reorganization and Share Exchange proposed by
management and approved by the stockholders on April 23, 1997. Under the plan
each outstanding share of Bank common stock was exchanged for two shares of
holding company common stock. The Bank continues its banking business under its
same name as a wholly owned subsidiary of the holding company.
Comparative data in the accompanying consolidated financial statements for 1996
are those of the Bank, the sole subsidiary and predecessor of the Company,
restated to reflect the exchange of shares.
NOTE 3. CASH AND DUE FROM BANKS
The Federal Reserve requires banks to maintain certain minimum cash balances
consisting of vault cash and deposits in the Federal Reserve Bank or in other
commercial banks. Such balances averaged approximately $2,954,000 and
$2,399,000 during 1998 and 1997, respectively.
PAGE 23
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 4. INVESTMENT SECURITIES
The amortized cost and estimated fair values of investment securities are as
follows:
<TABLE>
<CAPTION>
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
---------- ---------- ---------- ----------
<S><C>
Available for sale securities:
December 31, 1998:
U.S. Treasury securities $30,394,816 $733,314 $ -- $31,128,130
Obligations of U.S. Government agencies
and corporations 33,505,975 135,130 139,820 33,501,285
Obligations of states and political subdivisions 1,463,930 12,553 1,476,483
Federal Home Loan Bank Stock 801,100 -- -- 801,100
Federal National Mortgage Association Cumulative
Preferred Stock 2,475,675 -- -- 2,475,675
---------- ---------- ---------- ----------
68,641,496 880,997 139,820 69,382,673
Mortgage-backed securities 117,694 -- 115 117,579
---------- ---------- ---------- ----------
$68,759,190 $880,997 $139,935 $69,500,252
========== ========== ========== ==========
December 31, 1997:
U.S. Treasury securities $ 26,082,044 $ 308,276 $ -- $ 26,390,320
Obligations of U.S. Government agencies
and corporations 6,987,628 34,342 5,620 7,016,350
Obligations of states and political subdivisions 1,468,767 -- 1,736 1,467,031
Federal Home Loan Bank Stock 791,800 -- -- 791,800
Federal National Mortgage Association Cumulative
Preferred Stock 1,057,721 -- -- 1,057,721
---------- ---------- ---------- ----------
36,387,960 342,618 7,356 36,723,222
Mortgage-backed securities 606,834 439 694 606,579
---------- ---------- ---------- ----------
36,994,794 $ 343,057 $ 8,050 $ 37,329,801
========== ========== ========== ==========
Held to Maturity securities:
December 31, 1998:
U.S. Treasury securities $ 7,029,615 $ 53,225 $-- $ 7,082,840
Obligations of U.S. Government agencies
and corporations 3,000,000 9,980 -- 3,009,980
Obligations of states and political subdivisions 2,859,909 22,824 95 2,882,638
---------- ---------- ---------- ----------
12,889,524 86,029 95 12,975,458
Mortgage-backed securities 981,185 6,996 875 987,306
---------- ---------- ---------- ----------
$13,870,709 $ 93,025 $ 970 $13,962,764
========== ========== ========== ==========
December 31, 1997:
U.S. Treasury securities $ 9,974,130 $ 55,880 $ -- $ 10,030,010
Obligations of U.S. Government agencies
and corporations 7,022,192 21,593 13,193 7,030,592
Obligations of states and political subdivisions 4,950,894 38,621 7,038 4,982,477
---------- ---------- ---------- ----------
21,947,216 116,094 20,231 22,043,079
Mortgage-backed securities 2,201,396 15,251 3,067 2,213,580
---------- ---------- ---------- ----------
$ 24,148,612 $ 131,345 $ 23,298 $ 24,256,659
========== ========== ========== ==========
</TABLE>
PAGE 24
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The amortized cost and estimated fair values of investment securities by
contractual maturity at December 31, 1998 are as follows:
<TABLE>
<CAPTION>
Available for Sale Held to Maturity
------------------------ --------------------------
Estimated Estimated
Amortized Fair Amortized Fair
Cost Value Cost Value
---------- ---------- ---------- ----------
<S><C>
Due in one year or less $ 8,742,510 $ 8,788,582 $ 6,849,136 $ 6,898,276
Due after one year through five years 45,368,551 46,016,445 5,756,020 5,793,390
Due after five years through ten years 11,356,308 11,403,440 872,406 878,882
Due after ten years 15,046 15,010 393,147 392,216
---------- ---------- ---------- ----------
65,482,415 66,223,477 13,870,709 13,962,764
Investments in equity securities 3,276,775 3,276,775 -- --
---------- ---------- ---------- ----------
$68,759,190 $69,500,252 $13,870,709 $13,962,764
========== ========== ========== ==========
</TABLE>
The Company has pledged certain securities as collateral for obligations to
federal, state and local government agencies as follows:
<TABLE>
<CAPTION>
December 31, 1998 December 31, 1997
-------------------------- --------------------------
Estimated Estimated
Amortized Fair Amortized Fair
Cost Value Cost Value
---------- ---------- ---------- ----------
<S><C>
Available for sale $50,406,743 $51,163,509 $29,575,313 $29,911,985
Held to maturity 10,997,672 11,071,384 17,475,118 17,544,705
---------- ---------- ---------- ----------
$61,404,415 $62,234,893 $47,050,431 $47,456,690
========== ========== ========== ==========
</TABLE>
There were no obligations of states and political subdivisions whose carrying
value, as to any issuer, exceeded 10% of stockholders' equity at December 31,
1998 or 1997.
NOTE 5. LOANS AND ALLOWANCE FOR CREDIT LOSSES
The Company grants residential mortgage, consumer and commercial loans to
customers primarily in Talbot County, Maryland. The principal categories of the
loan portfolio at December 31 are summarized as follows:
<TABLE>
<CAPTION>
1998 1997
----------- ---------
<S><C>
Real estate loans:
Construction and land development $ 8,740,083 $ 9,536,900
Secured by farmland 4,962,831 3,979,047
Secured by residential properties 75,241,449 72,730,359
Secured by nonfarm, nonresidential properties 64,618,451 64,568,138
Loans to farmers (loans to finance agricultural production and other loans) 462,533 310,439
Commercial and industrial loans 31,600,515 26,139,229
Loans to individuals for household, family, and other personal expenditures 7,074,632 7,215,452
Obligations of States and political subdivisions in the United States, tax-exempt 1,546,268 869,364
All other loans 50,782 49,162
----------- ---------
194,297,544 185,398,090
Net deferred loan costs (fees) 65,817 (104,658)
----------- ---------
194,363,361 185,293,432
Allowance for credit losses (2,582,433) (2,537,920)
----------- ---------
$191,780,928 $182,755,512
=========== =========
</TABLE>
PAGE 25
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In the normal course of banking business, loans are made to officers and
directors and their affiliated interests. These loans are made on substantially
the same terms and conditions as those prevailing at the time for comparable
transactions with outsiders and are not considered to involve more than the
normal risk of collectibility. As of December 31, 1998 and 1997, such loans
outstanding, both direct and indirect (including guarantees), to directors,
their associates and policy making officers, totaled approximately $4,299,000
and $5,012,000, respectively. During 1998 and 1997, loan additions were
approximately $1,407,000 and $3,590,000, and loan deletions were approximately
$2,120,000 and $4,669,000, respectively.
The allowance for credit losses at December 31 is summarized as follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------- ------- -------
<S><C>
Balance, beginning of year $2,537,920 $2,728,320 $2,077,315
--------- ------- -------
Recoveries:
Real estate loans 26,543 4,603 11,442
Installment loans 33,456 34,290 48,226
Commercial and other 24,013 20,274 47,568
--------- ------- -------
84,012 59,167 107,236
--------- ------- -------
Provision 240,000 225,000 955,000
--------- ------- -------
Loans charged-off:
Real estate loans ( 54,586) (136,946) (106,538)
Installment loans (32,239) (69,625) (67,345)
Commercial and other (192,674) (267,996) (237,348)
--------- ------- -------
(279,499) (474,567) (411,231)
--------- ------- -------
Balance, end of year $2,582,433 $2,537,920 $2,728,320
========= ======= =======
</TABLE>
Information with respect to impaired loans and the related valuation allowance
as of December 31 is as follows:
<TABLE>
<CAPTION>
1998 1997
--------- -------
<S><C>
Impaired loans with valuation allowance $ 108,954 $ 587,315
Impaired loans with no valuation allowance 717,773 694,721
--------- -------
Total impaired loans $ 826,727 $1,282,036
========= =======
Allowance for loan losses related to impaired loans $ 78,928 $ 122,000
Allowance for loan losses related to other than impaired loans 2,503,505 2,415,920
--------- -------
Total allowance for loan losses $2,582,433 $2,537,920
========= =======
Interest income on impaired loans recorded on the cash basis $ 22,545 $ 18,988
========= =======
Average recorded investment in impaired loans for the year $1,152,944 $1,234,686
========= =======
</TABLE>
PAGE 26
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6. PREMISES AND EQUIPMENT
A summary of premises and equipment at December 31 is as follows:
1998 1997
--------- ---------
Land:
Dover Street $ 189,734 $ 189,734
Tred Avon 90,000 90,000
Elliott Road 172,905 172,905
Edgar Building 150,000 150,000
Premises:
Dover Street 921,454 911,628
Tred Avon 467,949 467,949
St. Michaels 70,875 70,875
Edgar Building 503,423 502,248
Elliott Road 435,532 435,532
Cambridge 248,222 213,445
Equipment:
Dover Street 1,042,489 1,030,781
Tred Avon 290,122 290,219
St. Michaels 218,500 217,903
Elliott Road 284,626 280,195
Cambridge 157,534 141,037
----------- ---------
5,243,365 5,164,451
Accumulated depreciation (2,266,728) (2,020,015)
----------- ---------
$2,976,637 $3,144,436
=========== =========
Depreciation expense totaled $292,561, $274,262 and $272,767 for the years ended
December 31, 1998, 1997 and 1996, respectively.
The Bank leases facilities under operating leases. Rental expense for the
years ended December 31, 1998, 1997, and 1996 was $49,555, $32,400 and $27,900,
respectively. Future minimum annual rental payments are approximately as
follows:
1999 $ 77,408
2000 82,403
2001 52,233
2002 15,117
2003 6,500
Thereafter 33,334
NOTE 7. INVESTMENT IN UNCONSOLIDATED SUBSIDIARY
The company has a 33% ownership interest in Eastern Shore Mortgage Corporation.
This investment is carried on the Company's books based on its proportionate
share of the net realizable assets of the corporation.
<TABLE>
<CAPTION>
December 31,
--------------------------------
1998 1997 1996
------- ------ ------
<S><C>
Balance, beginning of year $173,536 $182,217 $199,916
Additional paid-in capital -- -- 15,000
Equity in loss for the year (49,723) ( 8,681) (32,699)
-------- ------ ------
Balance, end of year $123,813 $173,536 $182,217
======== ====== ======
</TABLE>
The Company had $ 62,000 in outstanding letters of credit to Eastern Shore
Mortgage Corporation at December 31, 1998. Interest income on loans to Eastern
Shore Mortgage Corporation totaled approximately $38,700, $47,800 and $27,700
for 1998, 1997 and 1996, respectively.
PAGE 27
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 8. SIGNIFICANT DEPOSITS
The approximate maturities or earliest repricing interval of certificates of
deposit of $100,000 or more at December 31 are as follows:
1998 1997
---------- --------
Three months or less $26,702,000 $13,962,000
Three through twelve 6,162,000 3,857,000
Over twelve months 12,869,000 7,944,000
---------- --------
$45,733,000 $25,763,000
========== ========
NOTE 9. BENEFIT PLANS
401(k) Plan
The Company has a 401(k) Plan into which employees may direct up to 15% of their
compensation. Several investment options are available to Plan participants. The
Company makes matching contributions to the Plan in the form of its common
stock. These matching contributions amount to 100% of the first 3% of
participants' compensation and 50% of the next 2% and vest at the rate of 20%,
per year from the second to the sixth year of the employees' service. Company
contributions included in expense totaled $71,751 (1998), $76,117 (1997) and
$69,915 (1996).
Defined Benefit Pension Plan
Effective January 1, 1995, the Company froze its defined benefit pension plan so
that no future benefits will accrue after that date. The Plan covers
substantially all full-time employees with more than six months of service.
Projected benefits are based on the participants' compensation, years of service
and age at retirement and vest at the rate of 20% per year from the
participants' second to sixth year of service. The Company's policy has been to
fund the actuarially determined minimum annual required amount.
The following table sets forth the Plan's funded status and amounts recognized
in the Company's balance sheets at December 31:
<TABLE>
<CAPTION>
1998 1997
--------- -------
<S><C>
Change in benefit obligation
Benefit obligation at beginning of year $1,031,994 $1,042,433
Interest cost 74,409 69,304
Actuarial gain (2,273) 79,221
Benefits paid (11,338) (158,964)
--------- -------
Benefit obligation at end of year 1,092,792 1,031,994
--------- -------
Change in plan assets
Fair value of plan assets at beginning of year 940,765 934,380
Actual return on plan assets 143,458 140,628
Employer contribution 34,459 24,721
Benefits paid (11,338) (158,964)
--------- -------
Fair value of plan assets at end of year 1,107,344 940,765
--------- -------
Funded status 14,552 (91,229)
Unrecognized net actuarial loss (21,059) 53,297
Adjustment for minimum liability -- (53,297)
--------- -------
Prepaid (accrued) benefit cost $ (6,507) $ (91,229)
========= =======
</TABLE>
PAGE 28
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Components of net periodic benefit cost 1998 1997 1996
-------- --------- -------
<S><C>
Service cost -- -- --
Interest cost $74,409 $ 69,304 $ 73,728
Expected return on plan assets (71,375) (59,629) (62,797)
Amortization of prior service cost -- -- --
Recognized net actuarial loss -- -- --
-------- --------- -------
Net periodic benefit cost $ 3,034 $ 9,675 $ 10,931
======== ========= =======
</TABLE>
Assumptions used in the determination of pension information consisted of the
following:
<TABLE>
<CAPTION>
1998 1997 1996
-------- --------- ---------
<S><C>
Discount rate 7.25% 7.25% 7.50%
Expected return on plan asset 7.50 7.50 7.50
Rate of compensation increase N/A N/A N/A
</TABLE>
Profit Sharing Plan
Effective January 1, 1995, the Company adopted The Talbot Bank Profit Sharing
and Retirement Plan which covers substantially all full-time employees with more
than six months of service. The Bank makes discretionary contributions to the
Plan based on profits. Contributions included in expense totaled $100,000
(1998), $100,000 (1997) and $80,000 (1996).
NOTE 10. STOCK OPTION PLAN
During 1995, the Company adopted the Employee Stock Option Plan (the "1995
Plan"). Options granted under the 1995 Plan may be either incentive stock
options or nonqualified options. The terms of the options granted are at the
sole discretion of the Company's Board of Directors, and are not to exceed ten
years. The 1995 Plan provides that the Company may grant options for not more
than 40,000 shares of common stock to certain key employees of the Company.
Options which have been granted are immediately exercisable and were granted at
exercise prices not less than the fair market value of the stock at the date of
grant.
Following is a summary of changes in shares under option for the 1995 Plan for
the years indicated:
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------------------------------------------
1998 1997
--------------------------------- -----------------------------
Number Weighted Average Number Weighted Average
of Shares Exercise Price of Shares Exercise Price
-------- -------------- ------ -----------
<S><C>
Outstanding at beginning of year 38,000 $22.08 38,800 22.08
Granted -- -- -- --
Exercised (575) (23.09) (400) 19.50
Expired (25) -- (400) --
------ ------- ----- -----
Outstanding at end of year 37,400 $22.08 38,000 $22.08
====== =====
Weighted average fair value of options
granted during the year $-- $--
======= =====
</TABLE>
The following summarizes information about options outstanding at December 31,
1998:
<TABLE>
<CAPTION>
Options Outstanding and Exercisable
-------------------------------------------
Weighted Average
Remaining Weighted Average
Range of Exercise Prices Number Contract Life Exercise Price
-------------------- ------ --------------- --------------
<S><C>
19.50 - 25.00 37,400 7.26 22.08
</TABLE>
PAGE 29
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The fair value of each option grant is estimated on the date of grant using the
Black-Scholes option pricing model. The Black-Scholes option pricing model was
originally developed for use in estimating the fair value of traded options
which have different characteristics than the Company's employee stock options.
The model is also sensitive to changes in the subjective assumptions which can
materially affect the fair value estimate. As a result, management believes that
the Black-Scholes model may not necessarily provide a reliable single measure of
the fair value of employee stock options. No options were granted during 1998 or
1997.
The Company has adopted the disclosure-only provisions of Statement of Financial
Accounting Standards No. 123, Accounting for Stock-based Compensation (SFAS
123), but applies Accounting Principles Board Opinion No. 25 and related
interpretations in accounting for its Plan. No compensation expense related to
the Plan was recorded during the year ended December 31, 1996. If the Company
had elected to recognize compensation cost based on fair value at the grant
dates for awards under the Plan consistent with the method prescribed by SFAS
123, net income and earnings per share would have been changed to the pro forma
amounts as follows for the years ended December 31:
1998 1997 1996
--------- ------- -------
Net income $4,014,686 $3,674,012 $3,069,348
Diluted earnings per share 3.33 3.06 2.59
NOTE 11. DEFERRED COMPENSATION
During 1996, the Company adopted a supplemental deferred compensation plan
to provide retirement benefits to its President and Chief Executive Officer.
The plan calls for fixed annual payments of $20,000 to be credited to the
participant's account. The participant is 100% vested in amounts credited to his
account. Contributions to the plan were $20,000 in 1998, 1997 and 1996.
NOTE 12. INCOME TAXES
Income taxes included in the balance sheets as of December 31 are as follows:
<TABLE>
<CAPTION>
1998 1997
-------- -------
<S><C>
Federal income taxes currently payable $135,092 $ 126,198
State income taxes currently receivable (20,997) (68,476)
Deferred income tax benefits 342,440 455,070
</TABLE>
Components of income tax expense for each of the three years ended December 31
are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------- ------- -------
<S><C>
Currently payable:
Federal $2,020,753 $1,729,786 $1,560,516
State 210,331 223,524 283,452
--------- ------- -------
2,231,084 1,953,310 1,843,968
--------- ------- -------
Deferred income taxes (benefits):
Federal (69,414) 89,035 (75,966)
State (15,361) 19,710 (16,818)
--------- ------- -------
(84,775) 108,745 ( 92,784)
--------- ------- -------
$2,146,309 $2,062,055 $1,751,184
========= ======= =======
</TABLE>
PAGE 30
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
A reconciliation of tax computed at the statutory federal tax rates of 34% to
the actual tax expense for the three years ended December 31 follows:
<TABLE>
<CAPTION>
1998 1997 1997
---------- ------- -------
<S><C>
Tax at federal statutory rate 34.0% 34.0% 34.0%
Tax effect of:
Tax-exempt income (1.5) (1.6) (2.8)
Non-deductible expenses .1 .1 .5
Other .1 .6 --
State income taxes, net of federal benefit 2.1 2.8 3.5
---------- ------- -------
Income tax expense 34.8% 35.9% 35.2%
========== ======= =======
</TABLE>
The sources of deferred income taxes (benefits) and the tax effects of each for
the years ended December 31 are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
------------- ------------- --------------
<S><C>
Depreciation $(13,832) $ 17,322 $ 15,288
Provision for credit losses (92,684) 59,755 (250,788)
Income on loans 21,671 17,555 106,673
Pension expense 32,720 -- --
Other (32,650) 14,113 36,043
------------- ------------- --------------
$(84,775) $108,745 $(92,784)
============= ============= ==============
</TABLE>
Significant components of the Company's deferred tax assets and liabilities as
of December 31 are as follows:
<TABLE>
<CAPTION>
1998 1997
---------------- ---------------
<S><C>
Deferred tax assets:
Allowance for credit losses $686,386 $593,702
Loan interest 15,488 28,867
Provision for loss on other real estate 49,340 45,478
Pension expense 2,513 35,233
Loan fees 32,122 40,414
Deferred compensation 49,560 37,218
---------------- ---------------
Total deferred tax assets 835,409 780,912
---------------- ---------------
Deferred tax liabilities:
Depreciation 161,745 175,577
Other 51,275 67,697
Unrealized gains on available for sale securities 279,949 82,568
---------------- ---------------
Total deferred tax liabilities 492,969 325,842
---------------- ---------------
Net deferred tax assets $342,440 $455,070
================ ===============
</TABLE>
NOTE 13. REGULATORY CAPITAL REQUIREMENTS
The Company is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements
can initiate certain mandatory--and possibly additional discretionary--actions
by regulators, that, if undertaken, could have a direct material effect on the
Company's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Company must meet
specific capital guidelines that involve quantitative measures of the Company's
assets, liabilities, and certain off-balance sheet items as calculated under
regulatory accounting practices. The Company's capital amounts and
classification are also subject to qualitative judgements by the regulators
about components, risk weightings, and other factors.
PAGE 31
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Quantitative measures established by regulation to ensure capital adequacy
require the Company to maintain amounts and ratios (set forth in the table
below) of total and Tier 1 capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier 1 capital (as defined) to average
assets (as defined). Management believes as of December 31, 1998, that the
Company meets all capital adequacy requirements to which it is subject.
As of December 31, 1998, the most recent notification from the Federal Deposit
Insurance Corporation categorized the Bank as well capitalized under the
regulatory framework for prompt corrective action. To be categorized as well
capitalized the Bank must maintain minimum total risk-based, Tier 1 risk-based,
and Tier 1 leverage ratios as set forth in the table. There are no conditions or
events since that notification that management believes have changed the Bank's
category.
A comparison of the Company's capital as of December 31, 1998 and 1997 with the
minimum requirements is presented below:
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
---------------- ---------------- ----------------
Amount Ratio Amount Ratio Amount Ratio
-------- ----- -------- ----- --------- -----
<S><C>
As of December 31, 1998:
Total Capital (to Risk Weighted Assets):
Company $36,244,000 18.86% $15,377,000 8.00% $19,221,000 10.00%
The Talbot Bank 36,009,000 18.74 15,375,000 8.00 19,219,000 10.00
Tier 1 Capital (to Risk Weighted Assets):
Company 33,839,000 17.60 7,688,000 4.00 11,533,000 6.00
The Talbot Bank 33,604,000 17.49 7,687,000 4.00 11,531,000 6.00
Tier 1 Capital (to Average Assets):
Company 33,839,000 11.18 12,109,000 4.00 15,136,000 5.00
The Talbot Bank 33,604,000 11.10 12,108,000 4.00 15,135,000 5.00
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
---------------- ---------------- ----------------
Amount Ratio Amount Ratio Amount Ratio
-------- ----- -------- ----- --------- -----
As of December 31, 1997:
Total Capital (to Risk Weighted Assets)
Company $33,094,000 18.39% $14,399,000 8.00% $17,999,000 10.00%
The Talbot Bank 32,962,000 18.32 14,397,000 8.00 17,997,000 10.00
Tier 1 Capital (to Risk Weighted Assets)
Company 30,841,000 17.13 7,200,000 4.00 10,800,000 6.00
The Talbot Bank 30,709,000 11.53 7,200,000 4.00 10,798,000 6.00
Tier 1 Capital (to Average Assets)
Company 30,841,000 11.58 10,650,000 4.00 13,314,000 5.00
The Talbot Bank 30,709,000 11.53 10,650,000 4.00 13,313,000 5.00
</TABLE>
Bank and holding company regulations, as well as Maryland law, impose certain
restrictions on dividend payments by the Bank, as well as restricting extensions
of credit and transfers of assets between the Bank and the Company. At December
31, 1998, the Bank could have paid dividends to its parent company amounting to
approximately $7,900.000. There were no loans outstanding between the Bank and
the Company at December 31, 1998 and 1997.
NOTE 14. LINE OF CREDIT
The Bank has a $10,000,000 unsecured federal funds line of credit which is
available on a short-term basis. In addition, the bank has credit availability
of $40,000,000 from the Federal Home Loan Bank of Atlanta.
PAGE 32
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 15. DISCLOSURES ABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate that
value:
Cash and Cash Equivalents
For those short-term instruments, the carrying amount is a reasonable
estimate of fair value.
Investment Securities
For all investments in debt securities, fair values are based on quoted
market prices. If a quoted market price is not available, fair value is
estimated using quoted market prices for similar securities.
Loan Receivables
The fair value of categories of fixed rate loans, such as commercial loans,
residential mortgage, and other consumer loans is estimated by discounting the
future cash flows using the current rates at which similar loans would be made
to borrowers with similar credit ratings and for the same remaining maturities.
Other loans, including variable rates loans, are adjusted for differences in
loan characteristics.
Financial Liabilities
The fair value of demand deposits, savings accounts, and certain money
market deposits is the amount payable on demand at the reporting date. The fair
value of fixed-maturity certificates of deposit is estimated using the rates
currently offered for deposits of similar remaining maturities. These estimates
do not take into consideration the value of core deposit intangibles. The fair
value of securities sold under agreements to repurchase is estimated using the
rates offered for similar borrowings.
Commitments to Extend Credit and Standby Letters of Credit
The fair value of commitments is estimated using the fees currently charged
to enter into similar agreements, taking into account the remaining terms of the
agreements and the present creditworthiness of the counterparties.
The estimated fair values of the Bank's financial instruments, excluding
goodwill, as of December 31 are as follows:
<TABLE>
<CAPTION>
1998 1997
---------------------------- ----------------------------
Estimated Estimated
Carrying Fair Carrying Fair
Amount Value Amount Value
----------- ----------- --------- ---------
<S><C>
Financial assets:
Cash and cash equivalents $ 20,406,424 $ 20,406,000 $ 16,165,243 $ 16,165,000
Investment securities 83,370,961 83,463,000 61,478,413 61,586,000
Loans 194,363,361 192,000,000 185,293,432 182,819,000
Less: allowance for loan losses (2,582,433) -- (2,537,920) --
----------- ----------- --------- ---------
$295,558,313 $295,869,000 $260,399,168 $260,570,000
=========== =========== ========= =========
Financial liabilities:
Deposits $249,929,275 $247,638,000 $224,913,659 $224,863,000
Securities sold under agreements to repurchase 17,111,375 17,111,000 10,263,528 10,264,000
----------- ----------- --------- ---------
$267,040,650 $264,749,000 $235,177,187 $235,127,000
=========== =========== ========= =========
Unrecognized financial instruments:
Commitments to extend credit $ 44,189,000 $ 44,189,000 $ 48,301,000 $ 48,301,000
Standby letters of credit 2,754,000 2,754,000 5,497,000 5,497,000
----------- ----------- --------- ---------
$ 46,943,000 $ 46,943,000 $ 53,798,000 $ 53,798,000
=========== =========== ========= =========
</TABLE>
PAGE 33
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 16. FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
In the normal course of business, to meet the financial needs of its customers,
the Company is a party to financial instruments with off-balance sheet risk.
These financial instruments include commitments to extend credit and standby
letters of credit.
The Company's exposure to credit loss in the event of nonperformance by the
other party to these financial instruments is represented by the contractual
amount of the instruments. The Company uses the same credit policies in making
commitments and conditional obligations as it does for on-balance sheet
instruments.
The Company generally requires collateral or other security to support the
financial instruments with credit risk. The amount of collateral or other
security is determined based on management's credit evaluation of the
counterparty. The Company evaluates each customer's creditworthiness on a
case-by-case basis.
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amount does not necessarily
represent future cash requirements.
Commitments outstanding as of December 31 are as follows:
1998 1997
---------- --------
Commitments to extend credit $44,189,000 $48,301,000
Letters of credit 2,754,000 5,497,000
---------- --------
$46,943,000 $53,798,000
========== ========
NOTE 17. PARENT COMPANY FINANCIAL INFORMATION
Condensed financial information for Talbot Bancshares, Inc. (Parent Company
Only) is as follows:
Condensed Balance Sheets
December 31, 1998 and 1997
<TABLE>
<CAPTION>
` 1998 1997
---------- --------
<S><C>
Assets
Cash $ 31,058 $ 30,532
Securities purchased under agreement to resell 176,378 75,528
Investment in subsidiary 34,048,994 30,839,566
Other assets 27,300 25,988
---------- --------
Total assets $34,283,730 $30,971,614
========== ========
Liabilities -- --
Stockholders' equity
Common stock $ 11,922 $ 11,896
Surplus 12,663,141 12,548,111
Retained earnings 21,163,696 18,280,376
Accumulated other comprehensive income 444,971 131,231
---------- --------
Total stockholders' equity 34,283,730 30,971,614
---------- --------
Total liabilities and stockholders' equity $34,283,730 $30,971,614
========== ========
</TABLE>
PAGE 34
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Condensed Statements of Income
For the years ended December 31, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
---------- --------
<S><C>
Dividends from subsidiary $1,131,365 $ 891,283
Interest income 4,453 1,104
---------- --------
1,135,818 892,387
Operating expenses 23,425 12,986
---------- --------
Income before income tax benefit and
equity in undistributed income of subsidiary 1,112,393 879,401
Income tax benefit 6,605 3,055
---------- --------
Income before equity in undistributed income of subsidiary 1,118,998 882,456
Equity in undistributed income of subsidiary 2,895,688 2,791,556
---------- --------
Net income $4,014,686 $3,674,012
========== ========
</TABLE>
Condensed Statements of Cash Flows
For the years ended December 31, 1998 and 1997
<TABLE>
<CAPTION>
1998 1997
----------- ---------
<S><C>
Cash flows from operating activities:
Net income $ 4,014,686 $ 3,674,012
Adjustments to reconcile net income to cash provided
by operating activities:
Equity in undistributed income of subsidiary (2,895,688) (2,791,556)
Net increase in other assets (1,312) (25,988)
----------- ---------
Net cash provided by operating activities 1,117,686 856,468
----------- ---------
Cash flows from investing activities:
Purchase of securities order agreement to resell (100,850) (75,528)
----------- ---------
Net cash used by investing activities (100,850) (75,528)
----------- ---------
Cash flows from financing activities:
Proceeds from issuance of common stock 115,056 81,497
Dividends paid (1,131,366) (831,905)
----------- ---------
Net cash used by financing activities (1,016,310) (750,408)
----------- ---------
Net increase in cash and cash equivalents 526 30,532
Cash and cash equivalents at beginning of year 30,532 --
----------- ---------
Cash and cash equivalents at end of year $ 31,058 $ 30,532
=========== =========
</TABLE>
PAGE 35
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 18. EARNINGS PER COMMON SHARE
Basic earnings per share is arrived at by dividing net income available to
common stockholders by the weighted-average number of common shares outstanding
and does not include the impact of any potentially dilutive common stock
equivalents. The diluted earnings per share calculation method is arrived at by
dividing net income by the weighted-average number of shares outstanding,
adjusted for the dilutive effect of outstanding stock options and warrants. For
purposes of comparability, all prior-period earnings per share data has been
restated.
<TABLE>
<CAPTION>
1998 1997 1996
--------- ------- -------
<S><C>
Basic:
Net income (applicable to common stock) $4,014,686 $3,674,012 $3,220,317
Average common shares outstanding 1,190,705 1,187,814 1,183,252
Basic earnings per share $3.37 $3.09 $2.72
Diluted:
Net income (applicable to common stock) $4,014,686 $3,674,012 $3,220,317
Average common shares outstanding 1,190,705 1,187,814 1,183,252
Diluted effect of stock options 16,323 11,316 2,158
--------- ------- -------
Average common shares outstanding - diluted 1,207,028 1,199,130 1,185,410
Diluted earnings per share $ 3.33 $ 3.06 $ 2.72
</TABLE>
PAGE 36
<PAGE>
[STEGMAN & COMPANY LOGO]
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Talbot Bancshares, Inc.
Easton, Maryland
We have audited the accompanying consolidated balance sheets of Talbot
Bancshares, Inc. as of December 31, 1998 and 1997, and the related consolidated
statements of income, stockholders' equity, and cash flows for each of the three
years in the period ended December 31, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with 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 consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Talbot
Bancshares, Inc. as of December 31, 1998 and 1997, and the consolidated results
of its operations and cash flows for each of the three years in the period ended
December 31, 1998, in conformity with generally accepted accounting principles.
/s/ Stegman & Company
Baltimore, Maryland
January 15, 1999
PAGE 37
<PAGE>
BOARD OF DIRECTORS
TALBOT BANCSHARES, INC.
THE TALBOT BANK OF EASTON, MARYLAND
HERBERT L. ANDREW, III
Farmer
BLENDA W. ARMISTEAD
Investor
LLOYD L. BEATTY, JR.
Certified Public Accountant
Beatty, Satchell & Company, LLC
President, Darby Advisors, Inc.
DONALD D. CASSON
Certified Public Accountant &Real Estate Broker
GARY L. FAIRBANK
Owner, Fairbank Tackle
RONALD N. FOX
Investor
RICHARD C. GRANVILLE
President, Celeste Industries Corporation
JEROME M. MCCONNELL
Vice President, Talbot Bancshares, Inc.
Executive Vice President, The Talbot Bank
SHARI L. MCCORD
Owner, Chesapeake Travel Services, Inc.
WILLIAM H. MYERS
Chairman of the Board
Farmer
DAVID L. PYLES
Investor
CHRISTOPHER F. SPURRY
President, Spurry & Associates, Inc.
W. MOORHEAD VERMILYE
President, Talbot Bancshares, Inc.
President and CEO, The Talbot Bank
-------------------------------------------------
OFFICERS
TALBOT BANCSHARES, INC.
W. Moorhead Vermilye President
Jerome M. McConnell Vice President
Susan E. Leaverton Secretary/Treasurer
THE TALBOT BANK OF EASTON, MARYLAND
W. Moorhead Vermilye President & CEO
Jerome M. McConnell Executive Vice President
G. Rodney Taylor Senior Vice President
Susan E. Leaverton Vice President Finance
Robert J. Meade Vice President Human Resources
Bruce M. Burkhardt Vice President Operations
Linda S. Cheezum Vice President Lending
Robyn K. Gannon Vice President New Accounts
Mildred C. Bullock Vice President Bookkeeping
Nancy B. Chance Assistant Vice President
Deborah L. Danenmann Assistant Vice President
Valerie C. Pelkey Assistant Vice President
Laura P. Heikes Assistant Vice President
Dawn D. Henckel Assistant Vice President
Wanda W. Hutchison Assistant Vice President
J. Michael Lawrence Assistant Vice President
Jennifer W. Lister Assistant Vice President
Bonnie R. Meade Assistant Vice President
W. David Morse Assistant Vice President
Robin B. O'Brien Assistant Vice President
Donald E. Morris Commercial Banking Officer
Charles J. Selby Assistant Vice President
Parker K. Spurry Assistant Vice President
PAGE 38
<PAGE>
DESCRIPTION OF BUSINESS
Talbot Bancshares, Inc. (the "Company") is a bank holding company formed in 1997
and is based in Easton, Maryland. The Talbot Bank of Easton, Maryland (the
"Bank") is a commercial bank whose service areas are Talbot and Dorchester
Counties in Maryland. The Bank is the sole subsidiary of the Company. The Bank
commenced operations in 1885 and is chartered under the laws of the State of
Maryland. The Bank has three locations in Easton, one in St. Michaels and one in
Cambridge. As of December 31, 1998 the Company had total assets of $302 million,
total loans of $194 million and total deposits of $250 million.
Services provided to businesses include commercial checking, savings and related
depository services. The Bank offers all forms of commercial lending, including
lines of credit, term loans, accounts receivable financing, commercial and
construction real estate, and other forms of secured financing.
Services provided to individuals include checking accounts, various savings
programs, mortgage loans, home improvement loans, installment and other personal
loans, credit cards, personal lines of credit, automobile and other consumer
financing, safe deposit services, debit cards, 24 hour automated teller
machines, telephone banking and PCbanking.
-------------------------------------------------
EMPLOYEES
Nancy L. Bartlett Amy L. Hutchison N. Melissa Riggins
Barbara A. Bell Suzanne S. Jefferson Jacqueline D. Ruark
Lori A. Cain Tunisia C. Johns Christie D. Rush
Carol J. C. Callahan Linda N. Jones Maryilyn Russell
J. Kellee Cooper Patricia A. Jones Kay Schaar-Wagenblatt
Elizabeth H. Dise Beatrice T. Juliano Kristin Shaw
Stacey L. Dulin Sandra A. Kenton Misty M. Simms
Laura L. Edwards Stephanie D. Layton Terri M.Tarr
Dale E. Fike Kathryn V. Lister Paula I. Taylor
Penny A. Fontana George H. Lord, Jr. Samuel J. Townsend
Beverly A. Fort LaVonne D. Medford Nancy J. Urbanczk
Pamela E. Fox Stephanie L. Miller Margaret B. Voshell
Bonnie J. Freburger Cortney L. Moore Daphne L. Wagner
Jay B. Geib Donna L. Neal Laurie J. Walters
Michaele Ann Graves Cynthia S. Parks Deborah C. Watson
Robin L. Haddaway Donna D. Parks Karen L. Whitby
Kelly L. Haga-Hill Dawn A. Patrick Kendall B. Williams
Terry L. Hudson Yvonne W. Quimby Sandra G. Wilson
Rose M. Hurst Rose R. Rice Brenda L. Wooden
PAGE 39
<PAGE>
TALBOT BANK LOCATIONS
Main Office
18 East Dover Street
Easton, MD 21601
Tred Avon Square Branch
210 Marlboro Road
Easton, MD 21601
Elliott Road Branch
8275 Elliott Road
Easton, MD 21601
St. Michaels Branch
1013 S. Talbot Street
St. Michaels, MD 21663
Cambridge Branch
2745 Dorchester Square
Cambridge, MD 21613
ATM LOCATIONS
Memorial Hospital at Easton
219 S. Washington Street
Easton, MD 21601
Sailwinds Amoco
511 Maryland Avenue
Cambridge, MD 21613
Talbottown
218 N. Washington Street
Easton, MD21601
Chesapeake Bay Outfitters
100 N. Talbot Street
St. Michaels, MD21663
Phone (410) 822-1400 Fax (410) 820-7180
E-Mail: [email protected]
Website: http://talbot-bank.com
EXHIBIT 23
CONSENT OF INDEPENDENT AUDITORS
We hereby consent to the incorporation by reference in this Annual
Report on Form 10-K of Talbot Bancshares, Inc., for the year ended December 31,
1998 of our report dated January 15, 1999, relating to the consolidated
financial statements of Talbot Bancshares, Inc.
/S/ Stegman and Company
Baltimore, Maryland
March 25, 1999
18
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS AS OF AND FOR THE PERIOD ENDED DECEMBER 31, 1998, AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<CIK> 0001043056
<NAME> TALBOT BANCSHARES, INC.
<MULTIPLIER> 1,000
<CURRENCY> US$
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1997
<PERIOD-END> DEC-31-1998
<EXCHANGE-RATE> 1
<CASH> 8,004
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 12,403
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 69,500
<INVESTMENTS-CARRYING> 13,871
<INVESTMENTS-MARKET> 13,963
<LOANS> 194,363
<ALLOWANCE> 2,582
<TOTAL-ASSETS> 302,254
<DEPOSITS> 249,929
<SHORT-TERM> 17,111
<LIABILITIES-OTHER> 929
<LONG-TERM> 0
0
0
<COMMON> 12
<OTHER-SE> 34,272
<TOTAL-LIABILITIES-AND-EQUITY> 302,254
<INTEREST-LOAN> 16,572
<INTEREST-INVEST> 3,783
<INTEREST-OTHER> 693
<INTEREST-TOTAL> 21,048
<INTEREST-DEPOSIT> 8,860
<INTEREST-EXPENSE> 9,463
<INTEREST-INCOME-NET> 11,583
<LOAN-LOSSES> 240
<SECURITIES-GAINS> (10)
<EXPENSE-OTHER> 5,971
<INCOME-PRETAX> 6,161
<INCOME-PRE-EXTRAORDINARY> 4,015
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,015
<EPS-PRIMARY> 3.37
<EPS-DILUTED> 3.33
<YIELD-ACTUAL> 7.90
<LOANS-NON> 827
<LOANS-PAST> 671
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 4,949
<ALLOWANCE-OPEN> 2,538
<CHARGE-OFFS> 280
<RECOVERIES> 84
<ALLOWANCE-CLOSE> 2,582
<ALLOWANCE-DOMESTIC> 2,582
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 571
</TABLE>
