<PAGE>
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON NOVEMBER 12, 1998
REGISTRATION NO. 333-63363
================================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
PRE-EFFECTIVE AMENDMENT NO. 3
FORM S-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
-------------------------------------------
INNES STREET FINANCIAL CORPORATION
(Exact name of Registrant as specified in its charter)
<TABLE>
<S> <C> <C>
NORTH CAROLINA 6036 56-2101799
(State or other jurisdiction (Primary Standard Industrial (I.R.S. Employer
of incorporation or organization) Classification Code Number) Identification Number)
</TABLE>
401 WEST INNES STREET
SALISBURY, NORTH CAROLINA 28144
(704) 633-2341
(Address, including zip code, and telephone number, including
area code, of Registrant's principal executive offices)
______________________
RONALD E. BOSTIAN, PRESIDENT
Innes Street Financial Corporation
Post Office Box 1929
401 West Innes Street
Salisbury, North Carolina 28145-1929
(704) 633-2341
(Name and address, including zip code, and telephone number,
including area code, of agent for service)
COPIES TO:
EDWARD C. WINSLOW III
JEAN C. BROOKS
Brooks, Pierce, McLendon,
Humphrey & Leonard, L.L.P.
2000 Renaissance Plaza
Post Office Box 26000
Greensboro, North Carolina 27420
____________________
APPROXIMATE DATE OF COMMENCEMENT OF THE PROPOSED SALE TO THE PUBLIC:
As soon as practicable after this Registration Statement becomes effective.
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box: [ X ]
_______________________
CALCULATION OF REGISTRATION FEE
<TABLE>
<CAPTION>
================================================================================================
TITLE OF EACH CLASS PROPOSED MAXIMUM PROPOSED MAXIMUM AMOUNT OF
OF SECURITIES TO BE AMOUNT TO OFFERING PRICE AGGREGATE REGISTRATION
REGISTERED BE REGISTERED PER SHARE OFFERING PRICE FEE
- ------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Common Stock, no par value... 2,248,250/(1)/ $10.00 $22,482,500 $6,632.93
================================================================================================
</TABLE>
(1) The estimated maximum number of shares to be registered is based upon 15%
above the maximum of the valuation range of Citizens Bank, FSB and the
Registrant, as established by an independent appraisal, divided by the
proposed offering price per share.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF
THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A)
MAY DETERMINE.
================================================================================
<PAGE>
INNES STREET FINANCIAL CORPORATION
CROSS-REFERENCE SHEET
Pursuant to Item 501(b) of Regulation S-K
Item Caption or Location
Number in Prospectus
- ------ ------------------------------------------
1 Forepart of the Front Cover Page
Registration Statement and
Outside Front Cover Page
of Prospectus
2 Inside Front and Outside Inside Front Cover Page; Table of
Back Cover Pages of Contents; Outside Back Cover Page
Prospectus
3 Summary Information, Risk Summary; Selected Financial and Other Data
Factors and Ratio of of The Bank; Risk Factors
Earnings to Fixed Charges
4 Use of Proceeds Summary; Use of Proceeds
5 Determination of Offering Summary; The Conversion
Price
6 Dilution Not Applicable
7 Selling Security Holders Not Applicable
8 Plan of Distribution Summary; Use of Proceeds; The Conversion
9 Description of Securities Dividend Policy; Description of Capital
to be Registered Stock; Restriction on Acquisition of The
Company
10 Interests of Named Experts Not Applicable
and Counsel
11 Information with Respect Summary; Selected Financial and Other Data
to the Registrant of The Bank; Innes Street Financial
Corporation; Citizens Bank, FSB; Dividend
Policy; Market for Common Stock;
Management's Discussion and Analysis of
Financial Condition and Results of
Operations; Business of The Company;
Business of The Bank; Management of The
Bank; Financial Statements
12 Disclosure of Commission Not Applicable
Position on
Indemnification for
Securities Act Liabilities
<PAGE>
PROSPECTUS
UP TO 2,248,250 SHARES OF COMMON STOCK
INNES STREET FINANCIAL CORPORATION
(PROPOSED HOLDING COMPANY FOR CITIZENS BANK, FSB)
401 WEST INNES STREET
POST OFFICE BOX 1929
SALISBURY, NORTH CAROLINA 28145-1929
(704) 633-2341
================================================================================
Citizens Bank, FSB (the "Bank") is converting from a federally-chartered
mutual savings bank to a federally-chartered stock savings bank. As part of the
Conversion, the Bank will become a wholly owned subsidiary of Innes Street
Financial Corporation (the "Company"). The Company was incorporated on July 6,
1998 at the direction of the Bank, and upon completion of the Conversion will
own all of the shares of the Bank. The Common Stock of the Company is being
offered to the public in accordance with a Plan of Conversion. The Plan of
Conversion must be approved by a majority of the votes eligible to be cast by
members of the Bank and by the Office of Thrift Supervision. The Offering will
not go forward if the Bank does not receive these approvals and the Company does
not sell at least a minimum number of shares.
================================================================================
TERMS OF THE OFFERING
An independent appraiser has estimated the market value of the converted Bank to
be between $14,450,000 and $19,550,000, which establishes the number of shares
to be offered at a price of $10.00 per share. Subject to the approval of the
OTS, up to 2,248,250 shares, an additional 15% above the maximum number of
shares, may be offered. Based on these estimates, the Company is making the
following offering of shares of Common Stock:
<TABLE>
<CAPTION>
Adjusted
Minimum Midpoint Maximum Maximum
------- -------- ------- -------
<S> <C> <C> <C> <C>
Price per share $ 10.00 $ 10.00 $ 10.00 $ 10.00
Number of shares 1,445,000 1,700,000 1,955,000 2,248,250
Estimated Offering expenses $ 866,000 $ 920,000 $ 973,000 $ 1,034,000
Estimated Net Proceeds $13,584,000 $16,080,000 $18,577,000 $21,448,500
Estimated Net Proceeds per share $ 9.40 $ 9.46 $ 9.50 $ 9.54
</TABLE>
PLEASE REFER TO RISK FACTORS BEGINNING ON PAGE 15 OF THIS DOCUMENT.
THESE SECURITIES ARE NOT DEPOSITS OR ACCOUNTS AND ARE NOT INSURED OR GUARANTEED
BY THE FEDERAL DEPOSIT INSURANCE CORPORATION, ANY OTHER GOVERNMENT AGENCY, THE
COMPANY OR THE BANK. AN INVESTMENT IN THE COMMON STOCK MAY LOSE VALUE.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION, THE OFFICE OF THRIFT
SUPERVISION, NOR ANY STATE SECURITIES REGULATOR HAS APPROVED OR DISAPPROVED
THESE SECURITIES OR DETERMINED IF THIS PROSPECTUS IS ACCURATE OR COMPLETE. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
TRIDENT SECURITIES, INC. WILL USE ITS BEST EFFORTS TO ASSIST THE COMPANY IN
SELLING AT LEAST THE MINIMUM NUMBER OF SHARES BUT DOES NOT GUARANTEE THAT THIS
NUMBER WILL BE SOLD. ALL FUNDS RECEIVED FROM SUBSCRIBERS WILL BE HELD IN AN
INTEREST BEARING SAVINGS ACCOUNT AT THE BANK UNTIL THE COMPLETION OR TERMINATION
OF THE CONVERSION.
FOR INFORMATION ON HOW TO SUBSCRIBE, CALL THE STOCK INFORMATION CENTER AT (704)
638-5816.
TRIDENT SECURITIES, INC.
The date of this Prospectus is November 17, 1998.
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
Page
----
<S> <C>
Questions and Answers About the Stock Offering......................................... 4
Summary................................................................................ 6
Selected Financial and Other Data of the Bank.......................................... 11
Recent Developments.................................................................... 13
Risk Factors........................................................................... 15
Innes Street Financial Corporation..................................................... 21
Citizens Bank, FSB..................................................................... 22
Use of Proceeds........................................................................ 22
Dividend Policy........................................................................ 24
Market for Common Stock................................................................ 24
Capitalization......................................................................... 25
Pro Forma Data......................................................................... 27
Historical and Pro Forma Capital Compliance............................................ 32
Stock Purchases by Directors and Executive Officers.................................... 33
Management's Discussion and Analysis of Financial Condition and Results of Operations.. 34
Business of the Company................................................................ 45
Business of the Bank................................................................... 45
Taxation............................................................................... 66
Supervision and Regulation............................................................. 68
Management of the Company.............................................................. 74
Management of the Bank................................................................. 75
Description of Capital Stock........................................................... 85
Restrictions on Acquisition of the Company............................................. 87
Certain Provisions of the Articles of Incorporation and Bylaws of the Company.......... 90
The Conversion......................................................................... 91
Legal Opinions......................................................................... 107
Experts................................................................................ 107
Registration Requirements.............................................................. 107
Additional Information................................................................. 107
Glossary............................................................................... A-1
Financial Statements................................................................... F-1
</TABLE>
This document contains forward-looking statements which involve risks and
uncertainties. The Company's actual results may differ significantly from the
results discussed in the forward-looking statements. Factors that might cause
such a difference include, but are not limited to, those discussed in "Risk
Factors" beginning on page 15 of this document.
Please see the Glossary beginning on page A-1 for the meaning of
capitalized terms that are not defined in this document.
2
<PAGE>
CITIZENS BANK, FSB
SALISBURY, NORTH CAROLINA
3
<PAGE>
QUESTIONS AND ANSWERS ABOUT THE STOCK OFFERING
Q. WHAT IS A MUTUAL TO STOCK CONVERSION?
A. The Conversion is a legal change in the Bank's form of organization.
Currently, the Bank operates as a federally-chartered mutual savings bank
with no stockholders. As a result of the Conversion, it will become a
federally-chartered stock savings bank. As part of the Conversion, a
holding company called Innes Street Financial Corporation will be organized
under the laws of the State of North Carolina to acquire all the Bank's
stock issued in the Conversion. The Company will offer for sale shares of
its Common Stock and will use a portion of the proceeds from the Offering
to purchase the Bank's stock.
Q. WHAT IS THE PURPOSE OF THE CONVERSION AND THE OFFERING?
A. As a stock savings bank operating through a holding company structure, the
Bank will have the ability to plan and develop long-term growth strategies
and improve its future access to capital markets. The stock offering will
increase the Bank's capital and the amount of funds available for lending
and investment activities. This provides greater flexibility to diversify
operations and expand into other geographic markets if the Bank elects to
do so. If the Company's earnings are sufficient in the future,
stockholders might also receive dividends and benefit from the possible
long-term appreciation of the Company's stock price.
Q. HOW MANY SHARES OF STOCK WILL BE SOLD?
A. Between 1,445,000 and 1,955,000 shares of Common Stock will be sold, all at
a price of $10.00 per share. The number of shares to be sold may be
increased to 2,248,250 shares without further notice to you, subject to
receipt of approval of the OTS, if market or financial conditions change
prior to completion of the Conversion.
Q. HOW DO I PURCHASE THE STOCK?
A. You must complete and return the original Order Form to the Company and the
Bank together with your payment or your authorization for withdrawal of the
payment amount from an account you have with the Bank, on or before 12:00
noon, Eastern Time, December 15, 1998. See pages 101 to 103.
Q. HOW MUCH STOCK MAY I PURCHASE?
A. The minimum purchase is 50 shares (or $500). The maximum purchase per
eligible depositor in the Subscription Offering is 60,000 shares (or
$600,000) (subject to certain exceptions). In certain instances, your
purchase might be grouped together with purchases by persons with other
accounts with whom you are affiliated or related, or with whom you are
acting in concert, and in that event the aggregate purchases may not exceed
60,000 shares (or $600,000) (subject to certain exceptions).
If shares are sold in a Community Offering, the maximum number of shares
that may be purchased by any party in the Community Offering is 60,000
shares (or $600,000) (subject to certain exceptions). As with the
Subscription Offering, in certain circumstances your purchase may be
combined with the number of shares purchased by other parties with whom
such party is affiliated or related and in that event the aggregate
purchases may not exceed 60,000 shares (or $600,000) (subject to certain
exceptions). See pages 104 to 106.
4
<PAGE>
Q. WHAT HAPPENS IF THERE ARE NOT ENOUGH SHARES TO FILL ALL ORDERS?
A. You might not receive any or all of the shares you want to purchase. If
the Offering is oversubscribed, shares of the Common Stock will be
allocated based upon a formula set forth in the Plan of Conversion and in
accordance with OTS regulations. See pages 96 to 99.
Q. WHO WILL RECEIVE SUBSCRIPTION RIGHTS?
A. The Common Stock will be offered on a priority basis to the following
persons:
. ELIGIBLE ACCOUNT HOLDERS - Persons who had a savings account (including
all types of demand deposit accounts) with a balance of at least $50.00
with the Bank on December 31, 1996. (The Bank's employee stock
ownership plan ("ESOP") will have priority over Eligible Account
Holders if more than 1,955,000 shares are sold, to the extent of any
shares sold over 1,955,000 and up to the number of shares subscribed
for by the ESOP). Any remaining shares will be offered to:
. ESOP - The Bank's employee stock ownership plan. Any remaining shares
will be offered to:
. SUPPLEMENTAL ELIGIBLE ACCOUNT HOLDERS - Persons who had a savings
account (including all types of demand deposit accounts) with a balance
of at least $50.00 with the Bank on September 30, 1998. Any remaining
shares will be offered to:
. OTHER MEMBERS - Other depositors of the Bank as of October 30, 1998.
If the above persons do not subscribe for all of the shares, the remaining
shares will be offered to employees, officers and directors of the Bank who
are not Eligible Account Holders, Supplemental Eligible Account Holders or
Other Members and to certain members of the general public with preference
given to people who live in Rowan and Iredell Counties, North Carolina.
See pages 96 to 99.
Q. WHAT PARTICULAR FACTORS SHOULD I CONSIDER WHEN DECIDING WHETHER OR NOT TO
BUY THE STOCK?
A. In order to make an informed investment decision, you should read this
entire Prospectus, particularly the section entitled "RISK FACTORS"
beginning on page 15.
Q. AS A DEPOSITOR OR BORROWER MEMBER OF THE BANK, WHAT WILL HAPPEN IF I DO NOT
PURCHASE ANY STOCK?
A. You presently have voting rights while the Bank is in the mutual form;
however, once the Bank converts to the stock form you will lose your voting
rights unless you purchase stock. You are not required to purchase stock.
Your deposit account, certificate accounts and any loans you may have with
the Bank will not be affected. See pages 92 to 95.
Q. WHO CAN HELP ANSWER ANY OTHER QUESTIONS I MAY HAVE ABOUT THE STOCK
OFFERING?
A. In order to make an informed investment decision, you should read this
entire document. In addition, a representative from Trident Securities
will be available to assist you at the following location:
STOCK INFORMATION CENTER
INNES STREET FINANCIAL CORPORATION
401 WEST INNES STREET
POST OFFICE BOX 1829
SALISBURY, NORTH CAROLINA 28145-1829
(704) 638-5816
5
<PAGE>
SUMMARY
This summary highlights selected information from this document and may not
contain all the information that is important to you. To understand the stock
offering fully, you should read carefully this entire document, including the
financial statements and the notes to the financial statements of the Bank.
INNES STREET FINANCIAL CORPORATION
Innes Street Financial Corporation was incorporated on July 6, 1998 as a
North Carolina corporation to be the holding company for the Bank. The Company
is not an operating company and has not engaged in any significant business to
date. The holding company structure will provide greater flexibility in terms
of operations, expansion and diversification. The Company's office is located
at 401 West Innes Street, Post Office Box 1929, Salisbury, North Carolina 28145-
1929. See page 22.
CITIZENS BANK, FSB
The Bank, which has been in operation since 1907, converted from a North
Carolina-chartered mutual savings bank to a federally-chartered mutual savings
bank effective September 2, 1998. The Bank offers a variety of financial
services to meet the needs of the communities it serves from its three full
service offices located in Salisbury, Statesville and Rockwell, North Carolina.
The Bank is a member of the FHLB system and its deposits are federally insured
by the FDIC under the SAIF to the maximum amount permitted by law. The Bank
emphasizes residential mortgage lending, primarily originating one-to-four-
family mortgage loans in its primary market area, consisting of communities
within a 10-mile radius of its offices and includes portions of Rowan and
Iredell Counties, North Carolina. The Bank also makes home equity loans,
nonresidential loans, multi-family residential loans, construction and
development loans, commercial loans and consumer loans. The Bank sells a
portion of its loan production into the secondary market to reduce its interest
rate risk exposure. At June 30, 1998, the Bank had total assets of $192.7
million, deposits of $159.8 million, and equity of $15.6 million. See pages 45
to 66.
THE STOCK OFFERING
The Company is offering between 1,445,000 and 1,955,000 shares of Common
Stock at $10.00 per share. Subject to approval by the OTS, the number of shares
to be sold may be increased to 2,248,250 shares without future notice if market
or financial conditions change prior to completion of the Conversion.
STOCK PURCHASES
The Company is first offering its shares of Common Stock in a Subscription
Offering. Depositors as of certain eligibility dates will receive subscription
rights. The shares of Common Stock will be offered on a priority basis as
follows: Eligible Account Holders, the Bank's ESOP, Supplemental Eligible
Account Holders, Other Members and directors, officers and employees of the Bank
who do not qualify in the above-listed categories. Any remaining shares may be
offered in a Community Offering or in a Syndicated Community Offering. See pages
96 to 99.
SUBSCRIPTION RIGHTS
You may not sell or assign your subscription rights. Any transfer of
subscription rights is prohibited by law. All persons exercising their
subscription rights will be required to certify that they are purchasing shares
solely for their own account and that they have no agreement or understanding
regarding the sale or transfer of shares. The Bank intends to pursue any and
all legal and equitable remedies in the event the Bank becomes aware of the
transfer of subscription rights. The Bank will reject orders that are
determined to involve the transfer of such rights. See page 106.
6
<PAGE>
THE OFFERING RANGE AND DETERMINATION OF THE PRICE PER SHARE
The Offering range is based on an independent appraisal of the pro forma
market value of the Common Stock by Ferguson & Company ("Ferguson"), an
appraisal firm experienced in the appraisal of savings institutions. The pro
forma market value of the shares is the Bank's market value after giving effect
to the sale of shares in this Offering. Ferguson has estimated that in its
opinion as of October 16, 1998, such value ranged between $14,450,000 and
$19,550,000 (with a midpoint of $17,000,000) (the "Estimated Valuation Range").
The appraisal was based in part upon the Bank's financial condition and
operations and the effect of the additional capital raised by the sale of Common
Stock in this Offering. The $10.00 price per share was determined by the Bank's
Board of Directors. The appraisal will be updated prior to the consummation of
the Conversion. If the updated pro forma market value of the Common Stock is
either below $14,450,000 or above $22,482,500, the Company will notify you and
you will have the opportunity to modify or cancel your order. See pages 99 to
101.
TERMINATION OF THE OFFERING
The Subscription Offering will terminate at 12:00 noon, Eastern Time, on
December 15, 1998. The Community Offering, if any, may terminate at any time
without notice but no later than January 29, 1999, without approval by the OTS.
The Subscription Offering and the Community Offering may not be extended beyond
December 17, 2000. See pages 96 to 99.
BENEFITS TO MANAGEMENT FROM THE OFFERING
Employment Agreement. As a part of the Conversion, the Bank will enter
into an employment agreement with Ronald E. Bostian, President and Chief
Executive Officer of the Bank. The agreement will provide for an initial annual
base salary of $147,528 and for an initial term of employment of three years.
The employment agreement provides that in the event of a change in control of
the Bank or the Company, the acquiror will be bound by the terms of the
employment agreement for a period of three years beginning on the date of the
change in control and during such time the nature of Mr. Bostian's compensation,
duties or benefits cannot be diminished except as set forth in the agreement.
See page 79.
Severance Plan. Also, in connection with the Conversion, the Bank will
adopt a Severance Plan for the benefit of all of its employees. The Severance
Plan provides for severance pay for the Bank's employees in the event of an
employee's termination under certain circumstances following a change in control
of the Bank or the Company. Any officer of the Bank who at the time of a change
in control is a party to an employment agreement is not covered by the Severance
Plan. See page 80.
ESOP. The Bank's full-time employees will participate in an ESOP, which is
a form of retirement plan that will purchase up to 8% of the Common Stock issued
in the Conversion. The Company intends to use up to 8% of the proceeds of the
Offerings to make a loan to the ESOP to enable the ESOP to purchase up to 8% of
the shares of Common Stock to be issued in the Conversion, estimated to be
between 115,600 and 156,400 shares assuming the issuance of between 1,445,000
and 1,955,000 shares. The amount loaned to the ESOP to enable such purchases is
estimated to range from $1,156,000 (if 1,445,000 shares are issued) to
$1,564,000 (if 1,955,000 shares are issued). Shares purchased by the ESOP and
pledged as security for the loan will be held in a suspense account for
allocation among participants as the loan is repaid. Contributions to the ESOP
and shares released from the suspense account in an amount proportional to the
repayment of the ESOP loan will be allocated among ESOP participants on the
basis of relative compensation in the year of allocation. Employees
participating in the ESOP will be entitled to instruct the ESOP trustees as to
the voting of all shares allocated to their respective accounts and held in the
ESOP. The unallocated shares held in the suspense account, and all allocated
shares for which voting instructions are not received will be voted by the
trustees in their discretion, subject to the provisions of the ERISA. See page
80.
7
<PAGE>
MRP. Following the Conversion, subject to approval by the Company's
stockholders, the Bank intends to implement a management recognition plan (the
"MRP"). At any time following approval of the MRP by the Company's
stockholders, the Company and the Bank expect to contribute sufficient funds to
the MRP Trust to enable the MRP Trust to purchase a number of shares equal to
4% of the number of shares issued in the Conversion. Such shares would be
provided by the issuance of authorized but unissued shares of Common Stock or
shares purchased by the MRP Trust in the open market. If shares are acquired in
the open market, the funds for such purchase may be provided from the proceeds
of the Offerings. To the extent that the MRP acquires authorized but unissued
shares of Common Stock after the Conversion, the interests of existing
shareholders will be diluted by up to approximately 4%.
Under the MRP, directors and executive officers of the Bank will be
entitled to receive awards of restricted stock at no cost to them, except for
any federal and state taxes due on such award. Assuming the issuance of
1,955,000 shares in the Conversion and receipt of stockholder approval, 78,200
shares would be issued pursuant to the MRP and the estimated aggregate value of
such MRP shares would be $782,000 based on the $10.00 Purchase Price. The MRP
provides that each recipient will be entitled to all voting and other
stockholder rights with respect to shares which have been awarded under the MRP.
The Boards of Directors of the Bank and the Company have decided to adopt the
MRP no sooner than 12 months after the Conversion at which time such plan will
be presented to the stockholders of the Company for their approval. See pages
81 to 82.
Option Plan. Subject to approval by the Company's stockholders, the
Company anticipates implementing a stock option plan (the "Option Plan"), which
will benefit the Bank's directors and certain employees. The Company will
reserve for the Option Plan a number of shares equal to 10% of the number of
shares issued in the Conversion. However, some or all of the shares issued
upon the exercise of options granted under the Option Plan may be purchased in
the open market at the time of exercise. The exercise price of the options
granted under the Option Plan will be equal to the market price of the Common
Stock on the date of the grant. Assuming the issuance of 1,955,000 shares in
the Conversion and receipt of shareholder approval, 195,500 shares would be
reserved for issuance under the Option Plan. Of those shares, the Company
anticipates that 58% (113,390 shares) would be issued to directors and executive
officers and 42% (82,110 shares) would be issued to other employees of the
Company and the Bank.
The Option Plan will provide that the Company's Board of Directors will
have the discretionary authority to authorize cash payments to the holders of
unexercised options, both vested and unvested, equal to the amount of dividends
which would have been paid on shares subject to options if the options had been
exercised. No such payment may be made in connection with dividends or other
distributions which result in a reduction in the option exercise price. If an
optionee receives such a cash payment with respect to any unvested option, and
if such option is later forfeited, the optionee must repay any cash payment made
with respect to the forfeited option. The Boards of Directors of the Bank and
the Company have decided to adopt the Option Plan no sooner than 12 months after
the Conversion at which time such plan will be presented to the stockholders of
the Company for their approval. See pages 82 to 85.
8
<PAGE>
The following table summarizes the benefits executive officers, directors
and other employees of the Company and the Bank may receive in connection with
the Conversion. The table assumes (i) the issuance of 1,955,000 shares (the
maximum of the Estimated Valuation Range) in the Conversion; (ii) that the ESOP
purchases 156,400 shares (8% of the shares offered at the maximum of the
Estimated Valuation Range) at $10.00 per share; (iii) that the MRP is approved
by the stockholders of the Company no sooner than 12 months following the
Conversion, the MRP Trust purchases 78,200 shares (4% of the number of shares
offered at the maximum of the Estimated Valuation Range), and the market value
of the MRP shares on the date of award is $10.00 per share; and (iv) that the
Option Plan is approved by the stockholders of the Company no sooner than 12
months following the Conversion and that 195,500 options are awarded under the
Option Plan, which is 10% of the number of shares offered at the maximum of the
Estimated Valuation Range.
<TABLE>
<CAPTION>
ESTIMATED ESTIMATED
ESTIMATED NUMBER NUMBER OF SHARES
NUMBER OF OF MRP PURCHASED BY THE
SHARES PERCENTAGE SHARES PERCENTAGE OF DOLLAR VALUE OF ESOP AND
SUBJECT OF OPTIONS TO BE TOTAL MRP MRP SHARES ON ALLOCATED TO
RECIPIENT TITLE TO OPTION ISSUED GRANTED/1/ SHARES ISSUED DATE OF GRANT/2/ PARTICIPANTS
<S> <C> <C> <C> <C> <C> <C> <C>
Malcolm B. Blankenship, Jr. Director 5,865 3.0% 7,820 10.0% $ 78,200 0
James W. Duke Director 5,865 3.0% 7,820 10.0% 78,200 0
Harold C. Earnhardt Vice 5,865 3.0% 7,820 10.0% 78,200 0
Chairman
K.V. Epting, Jr. Director 5,865 3.0% 7,820 10.0% 78,200 0
Gordon P. Hurley Director 5,865 3.0% 3,910 5.0% 39,100 0
Bobby A. Lomax Director 5,865 3.0% 7,820 10.0% 78,200 0
Ronald E. Bostian Chairman, 39,100 20.0% 15,640 20.0% 156,400 --
President,
and Chief
Executive
Officer
Jeffrey C. Chisholm Senior Vice 19,550 10.0% 9,775 12.5% 97,775 --
President
and Chief
Lending
Officer
Dianne E. Hawkins Vice 19,550 10.0% 9,775 12.5% 97,775 --
President,
Treasurer,
and
Controller
Other Employees 82,110 42.0% 0 0.0% 0
------- ----- ------ ----- -------- ----------
Total 195,500 100.0% 78,200 100.0% $782,000 156,400/2/
======= ===== ====== ===== ======== ==========
<CAPTION>
ESTIMATED
OF SHARES HELD
BY THE ESOP AND
ALLOCATED TO
RECIPIENT TITLE PARTICIPANTS
<S> <C> <C>
Malcolm B. Blankenship, Jr. Director 0
James W. Duke Director 0
Harold C. Earnhardt Vice 0
Chairman
K.V. Epting, Jr. Director 0
Gordon P. Hurley Director 0
Bobby A. Lomax Director 0
Ronald E. Bostian Chairman, --
President,
and Chief
Executive
Officer
Jeffrey C. Chisholm Senior Vic --
President
and Chief
Lending
Officer
Dianne E. Hawkins Vice --
President,
Treasurer,
and
Controller
Other Employees
-------------
Total $1,564,000/2/
=============
</TABLE>
_______________________________
(1) The recipients of MRP shares will be entitled to all voting and other
stockholder rights with respect to shares which have been awarded under the
MRP.
(2) The MRP shares will be awarded at no cost to the recipients, except for any
federal or state taxes due on such awards.
(3) The number and the value of shares allocated to the ESOP accounts of each
of the executive officers and other employees cannot be determined at this
time. Contributions to the ESOP and shares released from the suspense
account in an amount proportional to the repayment of the ESOP loan will be
allocated among ESOP participants on the basis of relative compensation in
the year of allocation.
9
<PAGE>
OFFICERS' AND DIRECTORS' COMMON STOCK PURCHASES AND BENEFICIAL OWNERSHIP
The directors and executive officers of the Company and of the Bank and
their associates currently anticipate subscribing for Common Stock in the
aggregate amount of $3,270,000, or 327,000 shares. As a result, such persons
anticipate subscribing for 22.63% to 16.73% of the shares of Common Stock issued
in the Conversion based upon the 1,445,000 shares (minimum of the Estimated
Valuation Range) and 1,955,000 shares (maximum of the Estimated Valuation
Range), respectively. In addition, purchases by the ESOP, allocations under the
MRP, and the exercise of stock options issued under the Option Plan, will
increase the number of shares beneficially owned by directors, officers and
employees. Assuming (i) implementation of the MRP and the Option Plan, (ii) the
open market purchase of shares on behalf of the MRP, (iii) the purchase by the
ESOP of 8% of the Common Stock sold in the Offerings, and (iv) the exercise of
stock options equal to 10% of the number of shares of Common Stock issued in the
Conversion, directors, officers and employees of the Company and the Bank would
have voting control, on a fully diluted basis of 44.63% and 38.73% of the Common
Stock, based on the issuance of the 1,445,000 shares (minimum of the Estimated
Valuation Range) and 1,955,000 shares (maximum of the Estimated Valuation
Range), respectively. See pages 19 to 20 and 33 to 34.
USE OF THE PROCEEDS FROM THE SALE OF COMMON STOCK
The Company will use the proceeds from the Offerings as follows:
. 50% of the net proceeds will be used to purchase all the capital stock
of the Bank.
. 8% of the gross proceeds will be loaned to the ESOP to fund its purchase
of Common Stock.
. The balance will be retained as a possible source of funds for the
payment of dividends to shareholders, the repurchase of stock, and for
other general corporate purposes. The Company will initially invest
these proceeds primarily in interest-earning deposits, U.S. government,
federal agency and other marketable securities and mortgage-backed
securities.
The Company and the Bank have no present intention to file consolidated tax
returns which will preserve for the Company the ability to use a portion of the
proceeds to make a return of capital in the future. However, the Company has
not made any decision to pay such a return of capital. In accordance with OTS
policy, the Company and the Bank will take no actions in furtherance of the
payment of a return of capital, including filing a private letter ruling request
with the IRS regarding the tax free nature of a possible one time cash
distribution to the Company's stockholders, for a period of one year following
the Conversion.
In addition to general corporate purposes, net proceeds received by the
Bank will be available for continued expansion of the retail banking franchise
through new branch openings or deposit or branch acquisitions, continued growth
in the loan portfolio and investments consisting primarily of U.S. government
and federal agency obligations, interest-earning deposits and other marketable
securities. See pages 22 to 23.
DIVIDENDS
After the Conversion, the Board of Directors of the Company will have the
authority to declare dividends on the Common Stock, subject to statutory and
regulatory requirements. The Company currently anticipates paying quarterly
cash dividends on the Common Stock of $0.05 per share (or an annual rate of
$0.20 per share, which is equal to 2% of the Purchase Price for the Common Stock
in the Conversion). In addition, the Board of Directors may determine from
time to time to pay special, nonrecurring cash dividends. No assurances can be
given that any dividends will in fact be paid on the Common Stock. See page
24.
10
<PAGE>
MARKET FOR THE COMMON STOCK
The Company has never issued its Common Stock to the public. Consequently,
there is no established market for the Common Stock. An active and liquid
public trading market for the securities of any issuer, including the Common
Stock of the Company, depends upon the presence in the marketplace of both
willing buyers and willing sellers of the securities at any given time. The
Company expects the Common Stock to be quoted on the Nasdaq Small-Cap Market,
under the symbol "ISFC" subject to certain conditions which it believes will be
met, including a minimum market capitalization and minimum number of market
makers and stockholders of record. If the Common Stock does not qualify for
quotation on the Nasdaq Small-Cap Market, the Company expects it to be quoted on
the OTC Electronic Bulletin Board. Trident Securities is expected to make a
market in the Common Stock following consummation of the Conversion and will
assist the Company in seeking to encourage at least two additional market makers
to establish and maintain a market in the Common Stock. Making a market
involves maintaining bid and ask quotations and being able, as principal, to
effect transactions in reasonable quantities at those quoted prices, subject to
various securities laws and other regulatory requirements. Due to the amount of
Common Stock to be issued in the Conversion, the Company cannot assure investors
that the conditions for quotation on the Nasdaq Small-Cap Market or the OTC
Electronic Bulletin Board will be satisfied or that an active and liquid trading
market for the Common Stock will develop or be maintained. See "RISK FACTORS."
See pages 25 to 26.
IMPORTANT RISKS IN OWNING THE COMPANY'S COMMON STOCK
Before you decide to purchase Common Stock in the Offering, you should read
carefully the "Risk Factors" section beginning on page 15 of this document.
SELECTED FINANCIAL
AND OTHER DATA OF THE BANK
Set forth below are summaries of historical financial and other data of the
Bank. The selected financial and other data at and for the years ended
September 30, 1993 through September 30, 1997 have been derived from the audited
financial statements of the Bank. The selected financial and other data at and
for the nine months ended June 30, 1998 and 1997 were derived from unaudited
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) necessary for a fair presentation of financial
condition and results of operations for the unaudited periods presented here
have been included. The results of operations and other data presented for the
nine months ended June 30, 1998 are not necessarily indicative of the results of
operations that may be expected for the fiscal year ending September 30, 1998.
This information is derived in part from, and should be read in conjunction
with, the Financial Statements and Notes to Financial Statements of the Bank
presented elsewhere herein and with the section of this Prospectus entitled
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS."
11
<PAGE>
<TABLE>
<CAPTION>
At or for the Nine Months
Ended June 30, At or for the Year Ended September 30,
------------------------------ ----------------------------------------------
1998 (7) 1997 (7) 1997 (7) 1996 (7) 1995 (7)
---------- ---------- -------- -------- --------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C>
Financial condition data:
Total assets $ 192,716 $ 200,781 $ 199,616 $ 190,233 $ 202,170
Investments /(1)/ 26,486 33,149 34,752 25,866 29,641
Loans receivable, net /(2)/ 159,710 161,601 159,458 159,491 168,396
Deposits 159,819 158,248 160,493 146,450 159,309
Equity 15,611 14,344 14,629 13,557 13,454
Operating data:
Interest income $ 10,455 $ 10,376 $ 13,902 $ 13,690 $ 14,324
Interest expense 6,962 7,380 9,872 9,983 9,956
------------- ------------ ---------- ----------
Net interest income 3,493 2,996 4,030 3,707 4,368
Provision for loan losses - - - - -
------------- ------------ ---------- ---------- -----------
Net interest income after
provision for loan losses 3,493 2,996 4,030 3,707 4,368
Non-interest income 285 334 416 388 434
Non-interest expense 2,238 2,194 2,959 3,982 (8) 2,910
------------- ------------ ---------- ---------- -----------
Income before income taxes 1,540 1,136 1,487 113 1,892
Income tax expense 572 431 520 11 743
------------- ------------ ---------- ---------- -----------
Income before cumulative effect of a
change in accounting principle 968 705 967 102 1,149
Cumulative effect on prior years of
changing to a different method of
accounting for income taxes - - - - -
============= ============ ========== ========= ===========
Net income $ 968 $ 705 $ 967 $ 102 $ 1,149
============= ============ ========== ========= ===========
Other selected data:
Number of outstanding loans 3,725 3,654 3,620 3,631 3,721
Number of deposit accounts 9,496 10,090 9,989 10,030 10,607
Number of full-service offices open 3 3 3 3 3
Return on average assets /(3)/ 0.67% 0.48% 0.49% 0.(8) 0.56%
Return on average equity /(3)/ 8.35% 6.59% 6.70% 0.(8) 8.64%
Average equity to average assets 7.97% 7.27% 7.30% 7.29% 6.48%
Interest rate spread /(4)/ 2.06% 1.70% 1.70% 1.54% 1.82%
Net yield on average interest-
earning assets /(5)/ 2.47% 2.09% 2.09% 1.94% 2.16%
Average interest-earning assets
to average interest-bearing liabilities 108.43% 107.45% 107.52% 107.70% 107.12%
Ratio of non-interest expense to
average total assets /(3)/ 1.54% 1.49% 1.50% 2.(8) 1.42%
Non-performing assets to total assets /(6)/ 0.07% 0.14% 0.17% 0.07% 0.02%
Non-performing loans to total gross loans /(6)/ 0.08% 0.13% 0.21% - -
Allowance for loan losses to total loans 0.77% 0.76% 0.77% 0.76% 0.72%
Allowance for loan losses to
non-performing loans /(6)/ 942% 449% 351% 935% 2,480%
Provision for loan losses to total
loans receivable, net /(3)/ - - - - -
Net charge-offs(recoveries) to average
loans outstanding - - - - (0.01)%
Equity to total assets 8.10% 7.14% 7.33% 7.13% 6.65%
<CAPTION>
At or for the Year Ended September 30,
--------------------------------------
1994 (7) 1993 (7)
---------- --------
(Dollars in Thousands)
<S> <C> <C>
Financial condition data:
Total assets $ 200,712 $ 172,384
Investments /(1)/ 39,742 21,871
Loans receivable, net /(2)/ 156,297 145,533
Deposits 159,480 155,412
Equity 12,305 9,954
Operating data:
Interest income $ 11,952 $ 11,772
Interest expense 6,786 6,837
---------------- ----------
Net interest income 5,166 4,935
Provision for loan losses - -
---------------- ----------
Net interest income after
provision for loan losses 5,166 4,935
Non-interest income 675 861
Non-interest expense 2,798 2,539
---------------- ----------
Income before income taxes 3,043 3,257
Income tax expense 1,206 1,210
---------------- ----------
Income before cumulative effect of a
change in accounting principle 1,837 2,047
Cumulative effect on prior years of
changing to a different method of
accounting for income taxes 514 -
================ ==========
Net income $ 2,351 $ 2,047
================ ==========
Other selected data:
Number of outstanding loans 3,588 3,498
Number of deposit accounts 10,667 11,206
Number of full-service offices open 3 3
Return on average assets /(3)/ 1.33% 1.30%
Return on average equity /(3)/ 20.66% 22.26%
Average equity to average assets 6.43% 5.83%
Interest rate spread /(4)/ 2.65% 2.77%
Net yield on average interest-
earning assets /(5)/ 3.01% 3.27%
Average interest-earning assets
to average interest-bearing liabilities 105.97% 104.79%
Ratio of non-interest expense to
average total assets /(3)/ 1.58% 1.61%
Non-performing assets to total assets /(6)/ 0.08% 0.10%
Non-performing loans to total gross loans /(6)/ 0.07% 0.01%
Allowance for loan losses to total loans 0.77% 0.83%
Allowance for loan losses to
non-performing loans /(6)/ 763% 736%
Provision for loan losses to total
loans receivable, net /(3)/ - -
Net charge-offs(recoveries) to average
loans outstanding 0.01% (0.05)%
Equity to total assets 6.13% 5.77%
</TABLE>
- --------------------------------------------------------------
(1) Includes interest-bearing bank deposits, overnight and term fed funds-sold,
certificates of deposit, FHLB stock and investment securities.
(2) "Loans receivable, net" represents gross loans less net deferred loan fees,
undisbursed loan funds and allowances for loan losses.
(3) Annualized for the nine months ended June 30, 1998 and 1997.
(4) The interest rate spread represents the difference between the weighted-
average yield on interest-earning assets and the weighted-average cost of
interest-bearing liabilities.
(5) The net yield on average interest-earning assets represents net interest
income as a percentage of average interest-earning assets.
(6) Non-performing assets include nonaccrual loans and accruing loans past due
90 days or more and foreclosed real estate.
(7) Ratios are derived from monthly balances except for ratios derived from
period-end balances and are annualized where appropriate. Management does
not believe the use of month-end balances has caused a material difference
in the information provided.
(8) Excluding the one-time SAIF special assessment of $1,074,702 the return on
average assets, the return on average equity, and the ratio of non-interest
expense to average total assets would be 0.39%, 5.30%, and 1.49%,
respectively.
12
<PAGE>
RECENT DEVELOPMENTS
The following summary of selected financial information and other data does
not purport to be complete and is qualified in its entirety by reference to the
detailed information and financial statements and accompanying notes appearing
elsewhere in this Prospectus. Selected financial information as of September
30, 1997 has been derived from the audited financial statements of the Bank.
Selected financial information as of September 30, 1998 and for the three months
ended September 30, 1998 and 1997 has been derived from unaudited financial
information. In the opinion of management, such information reflects all
adjustments (which consist only of normal, recurring accruals), necessary for a
fair presentation of the selected financial information and other data. The
results of operations for the three months ended September 30, 1998 are not
necessarily indicative of the results which may be expected for any other
period.
<TABLE>
<CAPTION>
At September 30,
----------------------------
1998 1997
----------------------------
(Dollars in Thousands)
<S> <C> <C>
FINANCIAL CONDITION DATA:
Total Assets $190,058 $199,616
Investments/(1)/ 24,254 34,752
Loans receivable, net 159,248 159,458
Deposits 161,549 160,493
Borrowings 10,000 22,000
Equity 15,972 14,629
</TABLE>
<TABLE>
<CAPTION> For the Three Months For the Year
Ended September 30, Ended September 30,
---------------------------- ----------------------------
1998 1997 1998 1997
---------------------------- ----------------------------
(Dollars in Thousands)
<S> <C> <C> <C> <C>
OPERATING DATA:
Interest income $ 3,459 $ 3,526 $ 13,914 $ 13,902
Interest expense 2,225 2,492 9,187 9,872
-------- -------- -------- --------
Net interest income 1,234 1,034 4,727 4,030
Provision for loan losses - - - -
-------- -------- -------- --------
Net interest income after provision for loan losses 1,234 1,034 4,727 4,030
Non-interest income 136 82 421 416
Non-interest expense 818 765 3,056 2,959
-------- -------- -------- --------
Income before income taxes 552 351 2,092 1,487
Income tax expense 187 89 758 520
-------- -------- -------- --------
Net income $ 365 $ 262 $ 1,334 $ 967
======== ======== ======== ========
</TABLE>
<TABLE>
<S> <C> <C> <C> <C>
Key Performance Ratios
Return on average costs/(4)/ 0.76% 0.52% 0.69% 0.49%
Return on average equity/(4)/ 8.91% 7.02% 8.50% 6.70%
Interest rate spread/(5)/ 2.28% 1.73% 2.12% 1.70%
Net yield on interest earning assets/(6)/ 2.67% 2.11% 2.52% 2.09%
Average equity to average assets 8.53% 7.40% 8.11% 7.30%
Non-interest expense to average assets/(4)/ 1.70% 1.52% 1.58% 1.50%
</TABLE>
13
<PAGE>
<TABLE>
<CAPTION>
At the Three Months
---------------------------------
Ended September 30,
1998 1997
----------------------------------
(Dollars in Thousands)
<S> <C> <C>
ASSET QUALITY RATIOS:
Non-performing assets to total assets/(3)/ 0.11% 0.17%
Net chargeoffs (recoveries) to average loans outstanding - -
Allowance for loan losses to total loans 0.77% 0.77%
Allowance for loan losses to non-performing loans 613% 351%
REGULATORY CAPITAL
Tangible 8.35% 7.28%
Total risk-based 16.79% 15.67%
Tier 1 risk-based 15.59% 14.45%
OTHER DATA:
Number of outstanding loans 3,730 3,620
Number of deposit accounts 9,418 9,989
Number of full-service offices 3 3
</TABLE>
/(1)/ Includes interest-bearing bank deposits, overnight and term fed funds-
sold, certificates of deposits, FHLB stock and investment
securities.
/(2)/ "Loans receivable, net" represents gross loans less net deferred loans
fees, undisbursed loan funds and allowances for loan losses.
/(3) /Non-performing assets include nonaccrual loans and accruing loans
past due 90 days or more and foreclosed real estate.
/(4)/ Annualized for the three months ended September 30, 1998 and
1997.
/(5)/ The interest rate spread represents the difference between weighted-
average yield on interest-earning assets and the weighted-average cost
of interest-bearing liabilities.
/(6)/ The net yield on average interest-earning assets represents net
interest income as a percentage of average interest-earning assets.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RECENT DEVELOPMENTS
COMPARISON OF FINANCIAL CONDITION AT SEPTEMBER 30, 1998 AND 1997
Total assets of the Bank decreased by $9.6 million from September 30, 1997,
and totaled $190.1 million at September 30, 1998. Investments decreased $10.5
million to $24.3 million at September 30, 1998 from $34.8 million at September
30, 1997 primarily due to a decrease in borrowings. Deposits increased by $1.0
million to $161.5 million at September 30, 1998 from $160.5 million at
September 30, 1997. Borrowings decreased by $12.0 million from $22.0 million at
September 30, 1997 to $10.0 million at September 30, 1998. Equity increased by
$1.3 million to $16.0 million at September 30, 1998, which is primarily
attributable to the Bank's earnings during the twelve months ended September 30,
1998.
COMPARISON OF RESULTS OF OPERATION FOR THE THREE MONTHS SEPTEMBER 30, 1998 AND
1997
Net earnings totaled approximately $365,000 for the three months ended
September 30, 1998, as compared to $262,000 during the same quarter of 1997.
Return on average assets and return on average equity for the three months ended
September 30, 1998 were 0.76% and 8.93% on an annualized basis as compared to
0.52% and 7.02%, respectively, for the three-month period ended September 30,
1997.
14
<PAGE>
Net interest income increased 18.5% to $1.2 million during the three months
ended September 30, 1998 as compared to $1.0 million during the three months
ended September 30, 1997. This increase was a result of the $12.0 million
dollar decrease in borrowings along with an increase in interest rate
spread.
Non-interest income increased $54,000 from $82,000 during the three months
ended September 30, 1997 to $136,000 during the three months ended September 30,
1998 primarily due to an increase in gains on sale of loans. Non-interest
expense increased $53,000 from $765,000 during the three months ended September
30, 1997 to $818,000 during the three months ended September 30, 1998 primarily
due to increases in professional expenses and charitable contributions.
Comparison of Operating Results for the Years Ended September 30, 1998 and 1997
Net Income. Net income was $1,333,701 for the year ended September 30, 1998
compared to $967,232 a year earlier. Net interest income, other income and
operating expenses increased.
Net Interest Income. Net interest income was $4.73 million for the year
ended September 30, 1998 compared to $4.03 million for the year ended September
30, 1997, an increase of 17.4%. This increase was primarily due to a decrease in
interest expense on borrowings of $703,764 as a result of a planned $12.0
million decrease in outstanding borrowings.
Provision for Losses. No provision for loan losses was made in either the
year ended September 30, 1998 or the year ended September 30, 1997. In the
opinion of management based on its review and evaluation of loss exposure in the
loan portfolio, no provisions were required.
Other Income. Other income increased from $415,561 for the year ended
September 30, 1997 to $420,953 for the year ended September 30, 1998, primarily
due to increase in gains on sales of loans offset by a decline in servicing fee
income.
Operating Expenses. Operating expenses increased from $2.96 million for the
year ended September 30, 1997 to $3.06 million for the year ended September 30,
1998. The increase was primarily due to an increase in professional expenses
and data processing expenses.
Income Taxes. The provision for income taxes increased from $519,711 for
the year ended September 30, 1997 to $758,545 for the year ended September 30,
1998 as a result of higher income.
RISK FACTORS
THE FOLLOWING FACTORS, IN ADDITION TO THE INFORMATION PRESENTED ELSEWHERE
IN THIS PROSPECTUS, SHOULD BE CONSIDERED BY INVESTORS BEFORE DECIDING WHETHER TO
PURCHASE THE COMMON STOCK OFFERED HEREBY.
GEOGRAPHIC CONCENTRATION OF CREDIT RISK AND ORIGINATION POLICY OF THE BANK
The Bank has no significant concentration of credit risk other than that a
substantial portion of its loan portfolio (98.9%) is secured by real estate,
either as primary or secondary collateral, located in Rowan and Iredell
Counties, North Carolina, the Bank's primary market area. The economy of the
Bank's primary market area is generally stable and diverse, however, no
assurances can be given that such favorable economic conditions will continue.
Accordingly, this geographic concentration of credit risk could have a material
adverse effect on the Bank's financial condition and results of operations to
the extent there is a material deterioration in that area's economy and real
estate values. The lending strategy of the Bank has been directed toward the
reduction of credit, collateral, and interest rate risks. This strategy has
resulted in a high level of asset quality as evidenced by the low level of non-
performing assets. There have been no loan charge-offs during the forty-five
month period ended June 30, 1998 and non-performing loans as a percent of total
gross loans have been at 0.21% or less. Adjustable rate loans have been
emphasized as part of this strategy to reduce or minimize interest rate risk.
Adjustable rate loans comprise 67% of the loan portfolio, net of deferred loan
fees and undisbursed loan funds. This risk-averse lending strategy has resulted
in high asset quality, but a yield on loans below industry standards.
Strict underwriting standards and avoidance of mortgages on nonresidential
and multi-family properties along with commercial and consumer loans have been
an integral part of this strategy. Although this strategy has been the Board's
policy in the past, it is the intent of the Board to consider and evaluate the
possibilities of diversifying the loan portfolio to enhance yield. In order to
diversify its operations and generate higher yielding loans, the Bank may be
required to hire experienced personnel to originate additional loan products.
See " BUSINESS OF THE BANK - Market Area" and "BUSINESS OF THE BANK - Lending
Activities."
INTEREST RATE RISK
The Bank's financial condition and operations are influenced significantly
by general economic conditions, the related monetary and fiscal policies of the
federal government and government regulations. Deposit flows and the cost of
funds are influenced by interest rates of competing investments and general
market interest rates. Lending activities are affected by the demand for
mortgage financing and for consumer and other types of loans, which in turn is
affected by the interest rates at which such financing may be offered and by
other factors affecting the supply of housing and the availability of funds.
The Bank's profitability depends largely on its net interest income, which is
the difference between the interest income received from its interest-earning
assets and the interest expense incurred in connection with its interest-bearing
liabilities.
Changes in the level of interest rates also affect the volume of loans
originated or purchased by the Bank and, thus, the amount of loan and commitment
fees, as well as the market value of the Bank's investment securities and other
interest-earning assets. Changes in interest rates can also affect the average
life of loans. Decreases in interest rates may result in increased prepayments
of loans, as borrowers refinance to reduce borrowing costs.
15
<PAGE>
When this occurs, the Bank is subject to reinvestment risk to the extent that it
is not able to reinvest such prepayments at rates which are comparable to the
rates on maturing loans or securities. Moreover, volatility in interest rates
can also result in disintermediation, or flow of funds away from banks into
direct investments such as U.S. Government and corporate securities which,
because of the absence of federal insurance premiums and reserve requirements,
generally pay higher rates of return than banks.
The Bank has attempted to mitigate interest rate risk by originating
adjustable rate mortgage loans. At June 30, 1998, out of $160.9 million total
gross loans, net of deferred loan fees and undisbursed loan funds, in the Bank's
portfolio, $107.7 million, or 67%, were adjustable. Furthermore, the Bank's
adjustable loans contain periodic and lifetime interest rate adjustment limits
which, in a rising rate environment, may prevent such loans from repricing to
market interest rates. While management anticipates that adjustable rate
mortgage loans will better offset the adverse effects of an increase in interest
rates as compared to fixed-rate mortgages, the increased mortgage payments
required of adjustable rate mortgage borrowers in a rising interest rate
environment could potentially cause an increase in delinquencies and defaults.
The Bank has not historically had an increase in such delinquencies and defaults
on adjustable rate mortgage loans, but no assurance can be given that such
delinquencies or defaults would not occur in the future. The marketability of
the underlying property also may be adversely affected in a high interest rate
environment. Moreover, the Bank's ability to originate or purchase adjustable
rate mortgage loans is affected by changes in the level of interest rates and by
market acceptance of terms of such loans. When the yield curve is relatively
flat, as it currently is, borrowers generally tend to favor fixed rate loans
over adjustable rate loans to hedge against future increases in interest rates.
The Bank's results of operations would be adversely affected by a material
prolonged increase in market interest rates. At June 30, 1998, assuming, for
example, an instantaneous 200 basis point increase in market interest rates, the
Bank's net portfolio value ("NPV") (the present value of expected cash flows
from assets, liabilities, and off-balance sheet contracts) would decrease
approximately $2.41 million, or 13.01%. See "MANAGEMENT'S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS--Asset and Liability
Management."
COMPETITION
The Bank's market area is a highly competitive market, and the Bank faces
significant competition both in attracting deposits and in originating loans.
The Bank faces direct competition from a number of financial institutions, many
with a state-wide or regional presence, and, in some cases, a national presence.
Competition arises from other savings institutions, commercial banks, credit
unions and other providers of financial services, many of which are
significantly larger than the Bank and, therefore, have greater financial and
marketing resources than the Bank. Management estimates that, based upon 1997
comparative data, the Bank had approximately 11.7% of the deposits in Salisbury,
North Carolina and approximately 10.4% of the deposits in Rowan County. In
addition, the Bank had approximately 8.0% of the deposits in Statesville and
approximately 4.7% in Iredell County. See "BUSINESS OF THE BANK --
Competition."
TECHNOLOGY
The rapid rate of technological change applicable to the banking industry
poses significant challenges to the Bank. The ability to offer on-line banking
services and other services which the market may require in the future is a
major concern of the Bank's management.
ANTICIPATED LOW RETURN ON EQUITY FOLLOWING CONVERSION
At June 30, 1998, the Bank's ratio of equity to total assets was 8.10%. On
a pro forma basis at June 30, 1998, assuming the sale of 1,955,000 shares of
Common Stock in the Conversion, the Company's ratio of equity to assets would
have been 15.24%. With its higher capital position as a result of the
Conversion, it is doubtful that the Company will be able to deploy quickly the
capital raised in the Conversion in loans and other assets in a manner
consistent with its business plan and operating philosophies and in a manner
which will generate earnings to
16
<PAGE>
support its high capital position. The cost of the implementation of an ESOP,
MRP and Option Plan following the Conversion are also expected to reduce the
Company's return on equity. As a result, it is expected that the Company's
return on equity initially will be below industry averages. Consequently,
investors expecting a return on equity which will meet or exceed industry
averages for the foreseeable future should carefully evaluate and consider the
risk that such returns will not be achieved.
Following the Conversion, the Company may consider plans to reduce capital
if the opportunities to deploy it are not found. Such plans may include payment
of cash dividends and repurchasing shares. Any such steps would be taken based
on conditions as they exist following the Conversion and in compliance with
applicable regulations which limit the Company's ability to pay dividends and
repurchase its stock. See "USE OF PROCEEDS," "DIVIDEND POLICY" and "SUPERVISION
AND REGULATION -- Regulation of the Company -- General" and "-- Dividend
Limitations" and "SUPERVISION AND REGULATION -- Regulation of the Bank --
Limitations on Dividends and Other Capital Distributions."
LIMITED MARKET FOR THE COMMON STOCK
The Company, as a newly organized company, has never issued capital stock,
and consequently, there is no established market for the Common Stock at this
time. The Company expects the Common Stock to be quoted on the Nasdaq Small-Cap
Market under the symbol "ISFC". There can be no assurance that the Common Stock
will in fact be listed, or will trade, on the Nasdaq Small-Cap Market. An
active and liquid public trading market for the securities of any issuer,
including the Common Stock, depends upon the presence in the marketplace of both
willing buyers and willing sellers of the securities at any given time. Based
on the midpoint of the Estimated Valuation Range, it is anticipated that,
following completion of the Conversion, the Company will have approximately
1,700,000 shares of Common Stock issued and outstanding. Of that amount,
136,000 of such shares will be held by the ESOP and an additional 327,000 shares
will be held by directors and executive officers of the Bank and the Company,
limiting the number of shares held by the public. Due to the relatively small
size of the Company's offering and the significant amount of stock expected to
be held by management and the ESOP, it is unlikely that a stockholder base large
enough to create an active trading market will develop and be maintained.
Further, even if a market develops, there can be no assurance that the shares of
Common Stock offered in the Conversion can be resold at or above the Purchase
Price after completion of the Conversion. Purchasers of Common Stock should
consider the potentially illiquid and long-term nature of their investment in
the shares being offered hereby. The aggregate price of the Common Stock is
based upon an independent appraisal of the pro forma market value of the Common
Stock. However, there can be no assurance that an investor will be able to sell
the Common Stock purchased in the Conversion at or above the purchase
price.
INCREASE IN OVERHEAD EXPENSES
After completion of the Conversion, the Company's noninterest expense is
likely to increase as a result of the financial accounting, legal and tax
expenses usually associated with operating as a public company. In addition, it
is currently anticipated that the Company will record additional expense based
on the proposed MRP. See "PRO FORMA DATA" and "MANAGEMENT OF THE BANK -
Proposed Recognition Plan." Further, the Company will also record additional
expense as a result of the adoption of the ESOP. See "MANAGEMENT OF THE BANK -
Employee Stock Ownership Plan."
In November 1993, the American Institute of Certified Public Accountants
approved Statement of Position ("SOP") 93-6, "Employers' Accounting for Employee
Stock Ownership Plans." SOP 93-6, among other things, changes the measure of
compensation recorded by employers from the cost of ESOP shares to the fair
value of ESOP shares. Since the fair value of the shares following the
Offerings cannot be predicted, the Company cannot reasonably estimate the
impact of SOP 93-6 on its financial statements. While an increase in such fair
value will cause an increase in ESOP-related expenses for accounting purposes,
an increase in the fair value of the shares should not increase the actual out-
of-pocket cost to the Company of the ESOP. Also, earnings per share may be
increased as a result of the implementation of SOP 93-6 because only shares
which have been committed to be released by the ESOP are included as outstanding
shares in the computation. See "PRO FORMA DATA."
17
<PAGE>
YEAR 2000 COMPLIANCE
As the year 2000 approaches, an important business issue has emerged
regarding how existing application software programs and operating systems can
accommodate this date value. Some of the existing application software products
were designed to accommodate only two-digits. For example, "96" is stored on
the system and represents 1996. The Bank has been identifying potential
problems associated with the "Year 2000" issue and has implemented a plan
designed to ensure that all software used in connection with the Bank's business
will manage and manipulate data involving the transition with data from 1999 to
2000 without functional or data abnormality and without inaccurate results
related to such data. The Bank has prepared a critical issues schedule with a
time line and assigned responsibilities to address the Year 2000 problem. In
addition, the Bank recognizes that its ability to be Year 2000 compliant is
dependent upon the cooperation of its vendors. The Bank is requiring its
computer systems and software vendors to represent that the products provided
are or will be Year 2000 compliant and has planned a program of testing for
compliance. The Bank has received representations from its primary third party
vendors that they will have resolved any Year 2000 problems in their software by
December 31, 1998 and anticipates that all of its vendors also will have
resolved any Year 2000 problems in their software by that same date. All Year
2000 issues for the Bank, including testing, are expected to be addressed by
December 31, 1998 and any problems would be remedied by June 30, 1999. The Bank
also is preparing contingency plans in the event there are any system
interruptions. The Bank's contingency plan is designed to ensure continued
operation even in the event of a power failure. Telephone capability is being
analyzed in conjunction with vendors. The same analysis and monitoring is being
performed on the provider of security services. Additionally, the Bank intends
to increase its vault currency well above normal levels to preclude any problems
with delivery services. The Bank's vaults are mechanical and not subject to
time or calendar failure. The Bank believes that its costs related to Year 2000
will be immaterial. There can be no assurances, however, that the contingency
plan or the performance by the Bank's vendors will be effective to remedy all
potential problems. To the extent the Bank's systems are not fully Year 2000
compliant, there can be no assurance that potential systems interruptions or the
cost necessary to update software would not have a material adverse effect on
the Bank's business, financial condition, results of operations and business
prospects.
The Bank's loan portfolio consists primarily of residential mortgage loans
to individuals. These individuals generally are not affected by Year 2000
failures. The limited number of the Bank's commercial borrowers are being
contacted to assure that timely payments will be made in January 2000. The Bank
intends to amend its underwriting policies to address loan payment problems
associated with a borrower as a result of a disruption in income or a commercial
borrower's inability to make a timely payment.
The risks associated with not being Year 2000 compliant include financial
and legal risks. Legal risks include the failure to meet contractual service
agreements, leading to possible punitive actions including those of a regulatory
nature. Financial risks concern the possibility of lost revenues or even
business failure. Major risks associated with the date change event include a
shut down of voice and data communication systems due to failure by switching
systems, satellites, or telephone companies; excessive cash withdrawal activity;
ATM failures; cash couriers delayed or not available; and government offices
or facilities not opening or operating.
COST AND POSSIBLE DILUTIVE EFFECT OF THE MRP AND OPTION PLAN
It is expected that the stockholders of the Company will be asked to
approve the Option Plan and the MRP at a meeting of stockholders to be held no
sooner than 12 months after the Conversion. Under the MRP, directors and
certain employees of the Bank are expected to be awarded an aggregate amount of
Common Stock equal to 4% of the shares issued in the Conversion. Under the
Option Plan, directors and certain employees of the Bank are expected to be
granted options to purchase an aggregate amount of Common Stock equal to 10% of
the shares issued in the Conversion at exercise prices equal to the market price
of the Common Stock on the date of grants. Shares issued to directors and
certain employees under the MRP and the Option Plan may be from authorized but
unissued shares of Common Stock or they may be from shares purchased in the open
market. In the event the shares issued under the MRP and the Option Plan
consist of newly issued shares of Common Stock, the interests of existing
stockholders would be diluted. If 1,955,000 shares of the Common Stock are
issued in the Conversion, it is expected that options to acquire 195,500 shares
of the Common Stock could be granted under the Option Plan, and awards of an
additional 78,200 shares could be made under the MRP. At the maximum of the
Estimated Valuation Range, if all shares under the MRP and the Option Plan were
newly issued, the exercise price was $10.00 for the shares issued pursuant to
the options, and all of the options were exercised, the number of outstanding
shares of Common Stock would increase from 1,955,000 to 2,228,700, the pro forma
book value per share of the outstanding Common Stock at June 30, 1998 would have
been $15.52 compared with $16.29 if such plans did not exist, and the pro forma
net income per share of the outstanding Common Stock for the nine months
18
<PAGE>
ended June 30, 1998 would have been $0.62 compared with $0.68 if such plans did
not exist. The cost of the shares acquired by the MRP will be expensed over any
vesting period set forth in the MRP. If 1,955,000 shares of Common Stock are
issued in the Conversion and the MRP acquired 78,200 shares at a cost of $10.00
per share, the total annual pre-tax expense of the MRP would be $156,400 per
year assuming a straight line amortization method over a five-year life. See
"PRO FORMA DATA" and "MANAGEMENT OF THE BANK --Proposed Management Recognition
Plan" and "--Proposed Option Plan."
ANTI-TAKEOVER CONSIDERATIONS
PROVISIONS IN THE ARTICLES OF INCORPORATION AND BYLAWS. The Company's
Articles of Incorporation and Bylaws contain certain provisions that may
discourage attempts to acquire control of the Company that are not negotiated
with the Company's Board of Directors. These provisions may result in the
Company being less attractive to a potential acquiror and may result in
stockholders receiving less for their shares than otherwise might be available
in the event of a takeover attempt. In addition, these provisions may have the
effect of discouraging takeover attempts that some stockholders might deem to be
in their best interests, including takeover proposals in which stockholders
might receive a premium for their shares over the then-current market price, as
well as making it more difficult for individual stockholders or a group of
stockholders to elect directors or to remove incumbent management. The
Company's Board of Directors believes, however, that these provisions are in the
best interests of the Company and its stockholders because such provisions
encourage potential acquirors to negotiate directly with the Board of Directors,
which the Board of Directors believes is in the best position to act on behalf
of all stockholders.
These provisions include, among others, that (1) the Board of Directors has
the authority to change the number of directors within a range from five to 15;
(2) stockholders who intend to nominate a candidate for election to the Board of
Directors must give advance notice to the Secretary of the Company; (3) terms
for directors will be staggered at any time that the number of directors is
equal to or exceeds nine; (4) certain merger, consolidation, or other business
combinations (as defined in the Articles of Incorporation) must receive the
affirmative vote of at least 75% of the Continuing Directors (as defined in the
Articles of Incorporation); (5) special meetings of stockholders may be called
only by the Chairman of the Board, the Chief Executive Officer, the President or
by the Board of Directors and (6) directors may be removed from office prior to
the end of their term only for cause.
In addition, the Articles of Incorporation do not provide for cumulative
voting for any purpose. As a result, a majority of shareholders will be able to
approve matters presented to the shareholders for consideration, except such
matters as require more than a majority vote for approval. The Company's
Articles of Incorporation state that the Board of Directors, without the
approval of the stockholders, may authorize the issuance of shares of preferred
stock with such voting rights, designations, preferences, limitations and
relative rights as the Board of Directors shall determine. As a result, the
Board of Directors has the power, to the extent consistent with its fiduciary
duties, to issue preferred stock to persons friendly to management or otherwise
in order to impede attempts by third parties to acquire voting control of the
Company and to impede other transactions not favored by management. The amended
Charter and Bylaws of the Bank upon its conversion to stock form also contain
certain provisions that might discourage potential takeover attempts of the
Bank. See "RESTRICTIONS ON ACQUISITION OF THE COMPANY."
REGULATORY PROVISIONS. Regulations of the OTS contain provisions that, for
a period of three years after the Conversion is consummated, prohibit any person
from directly or indirectly acquiring or offering to acquire beneficial
ownership of more than 10% of any class of equity security of the Company or the
Bank without the prior approval of the OTS. Federal law also requires OTS
approval prior to the acquisition of "control" (as defined in OTS regulations)
of an insured institution, including a holding company thereof. See
"RESTRICTIONS ON ACQUISITION OF THE COMPANY."
VOTING CONTROL OF OFFICERS, DIRECTORS AND EMPLOYEES. Directors and
executive officers of the Bank and the Company and their associates expect to
purchase approximately 22.63% to 16.73% of the shares of Common
19
<PAGE>
Stock issued in the Conversion based upon the minimum and the maximum of the
Estimated Valuation Range, respectively. See "ANTICIPATED STOCK PURCHASES BY
MANAGEMENT."
In addition, it is expected that the ESOP will acquire a number of shares
equal to 8% of the shares issued in the Conversion. Employees will vote the
shares allocated to them under the ESOP. The ESOP trustees (directors of the
Bank) will vote unallocated shares, and allocated shares for which no voting
instructions have been received, in their discretion, subject to the provisions
of the Employee Retirement Income Security Act of 1974, as amended.
Under the proposed MRP, if approved by the stockholders of the Company, a
number of shares equal to 4% of the shares issued in the Conversion could be
issued to directors and certain employees of the Bank. Such shares could be
purchased in the open market or could be issued out of authorized but unissued
shares. Recipients of shares under the MRP will have voting control over such
shares regardless of whether such shares have vested. See "MANAGEMENT OF THE
BANK -- Proposed Management Recognition Plan." Under the proposed Option Plan,
if approved by the stockholders of the Company, directors and certain employees
of the Bank could receive options to purchase a number of shares equal to 10% of
the shares issued in the Conversion. Shares to fund such options could be
acquired in the open market or could be acquired through the issuance of
authorized but unissued shares. See "MANAGEMENT OF THE BANK -- Proposed Option
Plan."
If (i) the Option Plan is approved by the stockholders of the Company at a
meeting held no sooner than 12 months following the Conversion and all of the
stock options which could be granted to directors and executive officers under
the Option Plan are granted and all option shares are acquired in the open
market, (ii) the MRP is approved by the stockholders of the Company at a meeting
held no sooner than 12 months following the Conversion, all of the MRP shares
which could be granted to directors and executive officers are granted and
issued and all such shares are acquired in the open market, (iii) the ESOP
acquires 8% of the shares issued in the Conversion and none of such shares are
allocated, and (iv) the Company did not issue any additional shares of its
Common Stock, the shares held by directors and executive officers and their
associates as a group, including (a) shares purchased outright in the
Conversion, (b) shares purchased by the ESOP, (c) shares purchased pursuant to
the Option Plan and (d) shares granted under the MRP, would give such persons
effective control over as much as 44.63% or 38.73%, at the minimum and maximum
of the Estimated Valuation Range, respectively, of the Common Stock issued and
outstanding.
Because the Company's Articles of Incorporation requires the affirmative
vote of 75% of the outstanding shares entitled to vote in order to approve
certain mergers, consolidations or other business combinations, the directors,
officers and employees, as a group, could potentially block such transactions.
See "RESTRICTIONS ON ACQUISITION OF THE COMPANY -- Supermajority Voting
Provisions."
AGREEMENTS WITH EMPLOYEES. In connection with the Conversion, the Bank
will enter into an employment agreement with Ronald E. Bostian, President and
Chief Executive Officer. See "MANAGEMENT OF THE BANK -- Employment Agreement."
In addition, the Bank intends to adopt a Severance Plan which would benefit its
employees in the event there is a change in control of the Company or the Bank.
See "MANAGEMENT OF THE BANK -- Severance Plan." The existence of the employment
agreement and severance plan may tend to discourage mergers, consolidations,
acquisitions or other transactions that would result in a change in control of
the Company or the Bank. See "RESTRICTIONS ON ACQUISITION OF THE COMPANY --
Anti-Takeover Effect of Employment Agreement and Benefit Plans."
REGULATORY OVERSIGHT
The Bank is subject to extensive regulation, supervision and examination by
the OTS as its chartering authority and primary federal regulator, and by the
FDIC, which insures its deposits up to applicable limits. The Bank is a member
of the FHLB of Atlanta and is subject to certain limited regulation by the Board
of Governors of the Federal Reserve System ("Federal Reserve Board"). As the
savings and loan holding company of the Bank, the Company will be subject to
regulation and oversight by the OTS. See "SUPERVISION AND REGULATION." Such
regulation and supervision governs the activities in which an institution can
engage and is intended primarily
20
<PAGE>
for the protection of the insurance fund and depositors. Regulatory authorities
have been granted extensive discretion in connection with their supervisory and
enforcement activities which are intended to strengthen the financial condition
of the banking industry, including the imposition of restrictions on the
operation of an institution, the classification of assets by the institution and
the adequacy of an institution's allowance for loan losses. See "SUPERVISION AND
REGULATION -- Federal Regulation of the Bank". Any change in such regulation and
oversight, whether by the OTS, the Federal Reserve Board, the FDIC or Congress,
could have a material impact on the Company, the Bank and their respective
operations.
The U.S. Congress is expected to consider legislation that may eliminate
the thrift industry as a separate industry. The Deposit Insurance Funds Act of
1996 ("DIF Act") provides that the SAIF will be merged with the Bank Insurance
Fund ("BIF") on January 1, 1999, but only if there are no thrift institutions in
existence. The DIF Act requires the Treasury Department to study the
development of a common charter for banks and thrifts and to submit a report of
its finding to Congress, which the Treasury Department has done. The Company
cannot predict whether any legislation will result from this process or what any
such legislation may provide. If Congress does not act to end the separate
existence of the thrift industry, the merger of the SAIF and BIF contemplated by
the DIF Act will not occur, without some amendment of the DIF Act. Although the
SAIF currently meets its statutory reserve ratios, there can be no assurance
that it will continue to do so. The financial burden of any future
recapitalization of the SAIF, if imposed solely on insured savings associations,
would fall on a smaller assessment base than in the past. This could increase
the burden on individual institutions, including the Bank. See "REGULATION AND
SUPERVISION."
BEST EFFORTS OFFERING
The Bank and the Company have engaged Trident Securities to consult with
and advise the Bank and the Company with respect to the Conversion and to
assist, on a best-efforts basis, in connection with the solicitation of
subscriptions and purchase orders for shares of Common Stock in the Offerings.
Trident Securities is under no obligation to purchase any shares of Common Stock
in any of the Offerings. Trident Securities has not prepared or delivered any
opinion or recommendation with respect to the appropriateness of the amount of
Common Stock to be issued in the Conversion. Trident Securities has not
prepared any fairness opinion with respect to the terms of the Offerings or any
opinion with respect to the price at which shares of Common Stock may trade.
POSSIBLE ADVERSE INCOME TAX CONSEQUENCES OF THE DISTRIBUTION OF SUBSCRIPTION
RIGHTS
If the Subscription Rights granted to Eligible Account Holders,
Supplemental Eligible Account Holders and Other Members of the Bank are deemed
to have an ascertainable value, receipt of such rights may be a taxable event
(either as capital gain or ordinary income), to those Eligible Account Holders,
Supplemental Eligible Account Holders or Other Members who receive and/or
exercise the Subscription Rights in an amount equal to such value.
Additionally, the Bank could be required to recognize a gain for tax purposes on
such distribution. Whether Subscription Rights are considered to have
ascertainable value is an inherently factual determination. The Bank has been
advised by Ferguson that such rights have no value; however, Ferguson's
conclusion is not binding on the Internal Revenue Service ("IRS"). See "THE
CONVERSION - Effects of Conversion - Income Tax Consequences."
INNES STREET FINANCIAL CORPORATION
The Company was incorporated under North Carolina law on July 6, 1998 at
the direction of the Bank for the purpose of acquiring and holding all of the
outstanding capital stock of the Bank to be issued in connection with the
Conversion. The Company has received conditional approval from the OTS to
become a savings and loan holding company and as such will be subject to
regulation by the OTS. The holding company structure will give the Company
greater flexibility than the Bank currently has to expand and diversify its
business activities, although there are no current plans regarding expansion or
diversification. See "SUPERVISION AND REGULATION --Regulation of the Company."
21
<PAGE>
Prior to completion of the Conversion, the Company will not own any
material assets or transact any material business. Upon completion of the
Conversion, on an unconsolidated basis, the Company will have no significant
assets other than the stock of the Bank acquired in the Conversion, the loan
receivable with respect to the loan made to the ESOP to enable the ESOP to
purchase shares of Common Stock in the Conversion, and the portion of the net
proceeds from the sale of Common Stock in the Conversion which are retained by
it. The Company will have no significant liabilities upon completion of the
Conversion. The management of the Company is set forth under "MANAGEMENT OF THE
COMPANY." The executive office of the Company is located at the headquarters
office of the Bank at 401 West Innes Street, Salisbury, North Carolina.
The existing management of the Company believes that it will be in the best
interests of the Company, the Bank and the Company's stockholders for the
Company to remain an independent company.
CITIZENS BANK, FSB
The Bank, organized in 1907, converted from a North Carolina chartered
mutual savings bank to a federally-chartered mutual savings bank, effective
September 2, 1998. The deposits of the Bank are insured by the SAIF of the FDIC
to the maximum amount permitted by law.
The Bank is a member of the FHLB of Atlanta, which is one of the twelve
regional banks for federally insured savings institutions and other eligible
members comprising the FHLB system. As a federally-chartered savings bank, the
Bank is regulated by the OTS. The Bank is also subject to regulations of the
FDIC with respect to certain other matters. See "SUPERVISION AND REGULATION --
Regulation of the Company" and "--Regulation of the Bank."
The Bank conducts business through its three full service offices in
Salisbury, Rockwell and Statesville, North Carolina. The Bank's primary market
area encompasses the communities within an approximately 10-mile radius of its
offices in Rowan and Iredell Counties, North Carolina. At June 30, 1998, the
Bank had total assets of $192.7 million, net loans of $159.7 million, deposits
of $159.8 million and equity of $15.6 million.
The Bank is a community-oriented financial institution that offers a
variety of financial services to meet the needs of the communities it serves.
The Bank is principally engaged in the business of attracting deposits from the
general public and using such deposits primarily to make one-to-four family
residential real estate loans and, to a lesser extent, multi-family residential,
nonresidential loans, construction and development loans, home equity loans,
commercial and consumer loans and other investments.
Revenues of the Bank are derived primarily from interest on loans. The
Bank receives interest income from its investments and interest-earning deposit
balances. The Bank also receives non-interest income from transaction and
service fees and other sources. The major expenses of the Bank are interest on
deposits and general and administrative expenses such as compensation and
employee benefits, office occupancy costs, data processing, advertising expenses
and federal deposit insurance premiums.
USE OF PROCEEDS
Although the actual net proceeds from the sale of the Common Stock cannot
be determined until the Conversion is completed, it is presently estimated that
such net proceeds will be between $13.6 million and $18.6 million, based on the
current Estimated Valuation Range. If the gross proceeds of the shares sold are
increased to 15% above the maximum of the Estimated Valuation Range, it is
estimated that net proceeds will be $21.4 million. See "PRO FORMA DATA" for the
assumptions used to arrive at these amounts. The actual net proceeds may vary
materially from the estimated amounts described herein. The estimated amount of
net proceeds includes proceeds from the sale of the shares which are expected to
be purchased by the ESOP in the Subscription Offering at $10.00 per share with
funds borrowed from the Company. The amount loaned to the ESOP to enable such
purchases is estimated to range from $1,156,000 (if 1,445,000 shares are issued)
to $1,564,000 (if 1,955,000 shares are issued). See "MANAGEMENT OF THE BANK --
Employee Stock Ownership Plan."
22
<PAGE>
The Company has received conditional OTS approval to purchase all of the
capital stock of the Bank to be issued in the Conversion in exchange for 50% of
the net proceeds of the Offering. The Company expects to use the portion of the
net proceeds it retains to make a loan to the ESOP to fund its purchase of 8% of
the shares of Common Stock sold in the Conversion and to use the remainder of
the net proceeds for working capital and investment purposes. The Company does
not expect to have significant operating expenses and anticipates that it will
initially invest the net proceeds it retains primarily in interest-earning
deposits, U.S. government, federal agency and other marketable securities and
mortgage-backed securities. The types and amounts of such investments will vary
from time to time based upon the interest rate environment, asset/liability mix
considerations and other factors.
Net proceeds paid to the Bank will become part of the Bank's general funds
and will be invested primarily in mortgage, consumer and other loans, and
investments consisting primarily of interest-earning deposit balances, U.S.
government and federal agency obligations and other marketable securities in
accordance with the Bank's lending and investment policies. The relative
amounts to be invested in each of these types of investments will depend upon
loan demand, rates of return and asset/liability matching considerations at the
time the investments are to be made. Management is not able to predict the
yields which will be produced by the investment of the proceeds of the Offerings
because such yields will be significantly influenced by general economic
conditions and the interest rate environment existing at the time the
investments are made. Remaining net proceeds paid to the Bank will be used for
general corporate purposes.
The proceeds of the Offerings will result in an increase in the Bank's net
worth and regulatory capital and may enhance the potential for growth through
increased lending and investment activities, branch expansion, ATMs or
otherwise. The net proceeds retained by the Company could be used to support
the future expansion of operations of the Company through the opening of one or
more branch offices in or near the Bank's primary market area. The Bank has no
current plans to open any additional offices. Payments for shares of Common
Stock of the Company made through the withdrawal of existing deposit accounts at
the Bank will not result in the receipt of new funds for investment by the Bank.
The proceeds may also be utilized by the Company to repurchase (at prices
which may be above or below the initial offering price) shares of the Common
Stock through an open market repurchase program subject to limitations contained
in OTS regulations, although the Company currently has no specific plan to
repurchase any of its stock. In the future, the Board of Directors of the
Company will make decisions on the repurchase of the Common Stock based on its
view of the appropriateness of the price of the Common Stock as well as the
Company's and the Bank's investment opportunities and capital needs. Under
current OTS regulations, no repurchases may be made within the first year
following Conversion except with OTS approval under "exceptional circumstances."
During the second and third years following Conversion, OTS regulations permit,
subject to certain limitations, the repurchase of up to five percent of the
outstanding shares of stock during each twelve-month period with a greater
amount permitted with OTS approval. In general, the OTS regulations do not
restrict repurchases thereafter, other than limits on the Bank's ability to pay
dividends to the Company to fund the repurchase. For a description of the
restrictions on the Bank's ability to provide the Company with funds through
dividends or other distributions, see "DIVIDEND POLICY" and "SUPERVISION AND
REGULATION --Regulation of the Company -- Dividend and Repurchase Limitations."
The Company and the Bank have no present intention to file consolidated tax
returns which will preserve for the Company the ability to use a portion of the
proceeds to make a return of capital in the future. However, the Company has
not made any decision to pay such a return of capital. In accordance with OTS
policy, the Company and the Bank will take no actions in furtherance of the
payment of a return of capital, including filing a private letter ruling request
with the IRS regarding the tax-free nature of a possible one time cash
distribution to the Company's stockholders, for a period of one year following
the Conversion. See "DIVIDEND POLICY."
At any time following approval of the MRP by the Company's stockholders, it
is expected that the MRP may acquire a number of shares of Common Stock equal to
4% of the number of shares issued in the Conversion. See "MANAGEMENT OF THE
BANK -- Proposed Management Recognition Plan." Such shares may be acquired
23
<PAGE>
in the open market or acquired through the Company's issuance of authorized but
unissued shares. In the event shares are acquired in the open market, the funds
for such purchase may be provided by the Bank from the proceeds of the
Conversion. It is estimated that between 57,800 and 78,200 shares may be
acquired by the MRP, assuming the issuance of between 1,445,000 and 1,955,000
shares, respectively, in the Conversion. If all such shares were acquired by the
MRP in the open market, and if such shares were acquired at a price of $10.00
per share, the Bank would contribute between $578,000 and $782,000,
respectively, to the MRP for this purpose.
DIVIDEND POLICY
Upon Conversion, the Board of Directors of the Company anticipates paying
quarterly dividends on the Common Stock, subject to statutory and regulatory
requirements, at an initial quarterly rate of $0.05 per share (or an annual rate
of $0.20 per share, which is equal to 2% of the Purchase Price for the Common
Stock in the Conversion). In addition, the Board of Directors may determine
from time to time that it is prudent to pay special nonrecurring cash dividends.
Special cash dividends, if paid, may be in addition to, or in lieu of, regular
cash dividends. The Company's Board of Directors will periodically review its
policy concerning dividends. Declarations of dividends, if any, by the Board of
Directors will depend upon a number of factors, including investment
opportunities available to the Company and the Bank, capital requirements,
regulatory limitations, the Company's and the Bank's results of operations and
financial condition, tax considerations and general economic conditions. Upon
review of such considerations, the Board of Directors of the Company may
authorize dividends to be paid in the future if it deems such payment
appropriate and in compliance with applicable law and regulation. No assurances
can be given that any dividends will in fact be paid on the Common Stock or, if
dividends are paid, that they will not be reduced or discontinued in the
future.
The sources of income to the Company initially will consist of earnings on
the capital retained by the Company and dividends paid by the Bank to the
Company, if any. Consequently, future declarations of cash dividends by the
Company may depend upon dividend payments by the Bank to the Company, which
payments are subject to various restrictions. The Bank, like all savings banks
regulated by the OTS, is subject to certain restrictions on the payment of
dividends based on its net income, its capital in excess of the regulatory
capital requirements and the amount of regulatory capital required for the
liquidation account to be established in connection with the Conversion. See
"SUPERVISION AND REGULATION -- Regulation of the Bank --Limitations on Dividends
and Other Capital Distributions." See "THE CONVERSION -- Effects of Conversion
- --Liquidation Rights". Also, see "TAXATION -- Federal Income Taxation" for a
discussion of federal income tax provisions that may limit the ability of the
Bank to pay dividends to the Company without incurring a recapture tax.
MARKET FOR COMMON STOCK
The Company has never issued its Common Stock to the public. Consequently,
there is no established market for the Common Stock. The Company expects the
Common Stock to be quoted on the Nasdaq Small-Cap Market under the symbol "ISFC"
subject to certain conditions which it believes will be met, including a minimum
market capitalization and minimum number of market makers and stockholders of
record. If the Common Stock does not qualify for quotation on the Nasdaq Small-
Cap Market, the Company expects it to be quoted on the OTC Electronic Bulletin
Board. Trident Securities is expected to make a market in the Common Stock
following consummation of the Conversion and will assist the Company in seeking
to encourage at least two additional market makers to establish and maintain a
market in the Common Stock. Making a market involves maintaining bid and ask
quotations and being able, as principal, to effect transactions in reasonable
quantities at those quoted prices, subject to various securities laws and other
regulatory requirements. Due to the amount of Common Stock to be issued in the
Conversion, the Company cannot assure investors that the conditions for
quotation on the Nasdaq Small-Cap Market or the OTC Electronic Bulletin Board
will be satisfied.
An active and liquid public trading market for the securities of any
issuer, including the Common Stock, depends upon the presence in the marketplace
of both willing buyers and willing sellers of the securities at any given time.
Due to the size of the Company's Offering (1,700,000 shares at the midpoint of
the Valuation Range),
24
<PAGE>
it is unlikely that a stockholder base large enough to create an active trading
market will develop and be maintained. Further, even if a market develops, there
can be no assurance that the shares of Common Stock offered in the Conversion
can be resold at or above the purchase price after completion of the Conversion.
Purchasers of Common Stock should consider the potentially illiquid and long-
term nature of their investment in the shares being offered hereby. The
aggregate price of the Common Stock is based upon an independent appraisal of
the pro forma market value of the Common Stock. However, there can be no
assurance that an investor will be able to sell the Common Stock purchased in
the Conversion at or above the purchase price. See "RISK FACTORS".
CAPITALIZATION
The following tables present the historical capitalization of the Bank at
June 30, 1998 and the pro forma capitalization of the Company at such dates
after giving effect to the sale of the Common Stock and application of the
assumptions set forth under "PRO FORMA DATA," assuming that 1,445,000,
1,700,000, 1,955,000 and 2,248,250 shares of Common stock are sold at $10.00 per
share (the minimum, midpoint, maximum and 15% above the maximum of the current
Estimated Valuation Range). A change in the number of shares issued in the
Conversion may materially affect such pro forma capitalization. See "USE OF
PROCEEDS" and "THE CONVERSION -- Purchase Price of Common Stock and Number of
Shares Offered."
25
<PAGE>
<TABLE>
<CAPTION>
COMPANY PRO FORMA CAPITALIZATION AT JUNE 30, 1998
BASED UPON SALE OF
----------------------------------------------------------------------
CAPITALIZATION 1,445,000 1,700,000 1,955,000 1,955,000
OF BANK SHARES AT SHARES AT SHARES AT SHARES AT
AT 6-30-98 $10.00 PER SHARE $10.00 PER SHARE $10.00 PER SHARE $10.00 PER SHARE
---------- ---------------- ---------------- ---------------- ----------------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Deposits $159,819 $159,819 $159,819 $159,819 $159,819
Borrowings 13,000 13,000 13,000 13,000 13,000
-------- -------- -------- -------- --------
Total Deposits and Borrowings/(2)/ $172,819 $172,819 $172,819 $172,819 $172,819
======== ======== ======== ======== ========
Stockholders' equity
Common stock, no par value:
Authorized shares: 20,000,000
Assumed outstanding shares as
shown in column headings $ -- $ -- $ -- $ -- $ --
Preferred stock, no par value:
Authorized shares: 5,000,000
No shares outstanding -- -- -- -- --
Additional paid-in capital 13,584 16,080 18,577 21,449
Less: Common stock to be acquired
by the ESOP/(3)/ (1,156) (1,360) (1,564) (1,799)
Less: Common stock to be acquired
by the MRP/(3)/ -- (578) (680) (782) (899)
Retained earnings - substantially
restricted 15,491 15,491 15,491 15,491 15,491
Net unrealized gains on available
for sale securities 120 120 120 120 120
-------- -------- -------- -------- --------
Total equity/(4)/ $ 15,611 $ 27,461 $ 29,651 $ 31,842 $ 34,362
======== ======== ======== ======== ========
</TABLE>
____________________
(1) Represents the number of shares of Common Stock that would be issued in the
Conversion after giving effect to a 15% increase in maximum valuation in
the Estimated Valuation Range.
(2) Withdrawals from deposit accounts for the purchase of Common Stock are not
reflected. Any such withdrawals would reduce pro forma deposits by the
amount of such withdrawals.
(3) Assumes that 8% of the shares of Common Stock offered hereby will be
purchased by the ESOP in the Conversion. The funds used to acquire the ESOP
shares will be borrowed from the Company. Additionally, assumes that, after
the Conversion and following stockholder approval of the MRP, a number of
shares equal to 4% of the shares of Common Stock offered in the Conversion
will be purchased by the MRP in the open market at the $10.00 Purchase
Price with funds contributed by the Bank. If the MRP were funded by
authorized but unissued shares, stockholders' interests would be diluted by
up to approximately 4%. The Common Stock acquired by both the ESOP and the
MRP is reflected as a reduction of stockholders' equity. See "MANAGEMENT OF
THE BANK -- Employee Stock Ownership Plan" and "-- Proposed Management
Recognition Plan."
(4) The amounts shown do not reflect the federal income tax consequences of the
potential restoration to income of the tax bad debt reserves for income tax
purposes, which would be required in the event of liquidation. The amounts
shown also do not reflect the amounts required to be distributed in the
event of liquidation to eligible depositors from the liquidation account
which will be established upon the consummation of the Conversion.
26
<PAGE>
PRO FORMA DATA
The actual net proceeds from the sale of the Common Stock cannot be
determined until the Conversion is completed. However, net proceeds are
currently estimated to be between $13.6 million and $21.4 million (including net
proceeds from shares expected to be purchased by the ESOP with funds borrowed
from the Company), based upon the following assumptions: (i) 30.6%, 27.2%,
24.7% and 22.5% of the Common Stock sold in the Conversion at the minimum,
midpoint, maximum and 15% above the maximum, respectively, of the Estimated
Valuation Range will be sold to the ESOP, directors and executive officers and
their associates (and that Trident Securities will not receive certain
compensation with respect to such sales), and none of the shares of Common Stock
will be sold in any Syndicated Offering pursuant to selected dealer agreements;
(ii) fees will be payable to Trident Securities with respect to the Subscription
and Offerings as described in "THE CONVERSION -- Marketing Arrangements;" and
(iii) Conversion expenses, excluding the fees and commissions to Trident
Securities, will be approximately $626,000. Actual net proceeds may vary
depending upon the number of shares sold to the ESOP and to directors, executive
officers and their associates, the number of shares, if any, sold in the
Syndicated Offering pursuant to selected dealer arrangements and the actual
expenses of the Conversion. Payments for shares made through withdrawals from
the existing Bank deposit accounts will not result in the receipt of new funds
for investment by the Bank. However, capital will increase and interest-bearing
liabilities will decrease by the amount of such withdrawals. See "THE
CONVERSION -- Purchase Price of Common Stock and Number of Shares Offered."
Under the Plan, the Common Stock must be sold at an aggregate price equal
to not less than the minimum nor more than the maximum of the Estimated
Valuation Range based upon an independent appraisal. The Estimated Valuation
Range as of October 16, 1998 is from a minimum of $14,450,000 to a maximum of
$19,550,000 with a midpoint of $17,000,000. However, with the consent of the
OTS, the aggregate price of the Common Stock sold may be increased to up to 15%
above the maximum of the Estimated Valuation Range, or to $22,482,500, without a
resolicitation and without any right to cancel, rescind or change subscription
orders, to reflect changes in market and financial conditions following
commencement of the Subscription Offering. See "THE CONVERSION -- Purchase
Price of Common Stock and Number of Shares Offered."
Pro forma consolidated net income and book value of the Company at or for
the nine months ended June 30, 1998 and the year ended September 30, 1997 have
been based upon the following assumptions: (i) the sale of shares of Common
Stock in connection with the Conversion occurred at October 1, 1997 for the nine
months ended June 30, 1998, and at October 1, 1996 for the year ended September
30, 1997, and yielded net proceeds available for investment of approximately
$13.6 million, $16.1 million, $18.6 million and $21.4 million(based upon the
issuance of 1,445,000, 1,700,000, 1,955,000 and 2,248,250 shares, respectively,
at $10.00 per share) on such dates; and (ii) such net proceeds were invested on
a consolidated basis at the beginning of the period at a yield of 5.40% and
5.45%, which represents the average one-year treasury rate for the last week of
June 1998 and September 1997, respectively. The Company did not use the
arithmetic average of the Bank's weighted-average yield on interest-earning
assets and weighted-average interest rate paid on deposits during the nine
months ended June 30, 1998 or the year ended September 30, 1997. Management
believes that the one-year Treasury rate is a more appropriate rate for purposes
of preparing the pro forma data because proceeds from the Conversion are
expected to be initially invested in instruments with similar yields and
maturities. The effect of withdrawals from deposit accounts for the purchase of
Common Stock has not been reflected. Such withdrawals have no effect on pro
forma stockholders' equity, and management does not believe that such
withdrawals will have a material impact on pro forma net income or pro forma net
income per share. In calculating pro forma net income for the nine months ended
June 30, 1998 and year ended September 30, 1997, an effective combined federal
and state income tax rate of 38% has been assumed, resulting in a yield after
taxes of 3.35% and 3.38%, respectively. Historical and pro forma per share
amounts have been calculated by dividing the Bank's historical amounts and the
Company's pro forma amounts by the indicated number of shares of Common Stock,
assuming that such number of shares had been outstanding during the entire
period.
27
<PAGE>
THE FOLLOWING PRO FORMA INFORMATION IS NOT INTENDED TO REPRESENT THE MARKET
VALUE OF THE COMMON STOCK, THE VALUE OF NET ASSETS AND LIABILITIES OR OF FUTURE
RESULTS OF OPERATIONS. THE ASSUMPTION REGARDING INVESTMENT YIELDS SHOULD NOT BE
CONSIDERED INDICATIVE OF ACTUAL YIELDS FOR FUTURE PERIODS. THE FOLLOWING
INFORMATION IS NOT INTENDED TO BE USED AS A BASIS FOR PROJECTION OF RESULTS OF
OPERATIONS FOR FUTURE PERIODS.
<TABLE>
<CAPTION>
At or For the Nine Months Ended June 30, 1998
1,445,000 1,700,000 1,955,000 2,248,250
shares at $10.00 shares at $10.00 shares at $10.00 shares at $10.00
per share per share per share per share
(Minimum) (Midpoint) (Maximum) (Adj. Maximum)
---------------- --------------------- ---------------- ----------------
(Dollars in Thousands, except per share amounts)
<S> <C> <C> <C> <C>
Gross proceeds $ 14,450 $ 17,000 $ 19,550 $ 22,483
Less Offering expenses and commissions (866) (920) (973) (1,034)
---------- -------------- ---------- ----------
Estimated net Conversion proceeds 13,584 16,080 18,577 21,449
Less shares to be acquired by ESOP/(1)/ (1,156) (1,360) (1,564) (1,799)
Less shares to be acquired by MRP/(2)/ (578) (680) (782) ( 899)
---------- -------------- ---------- ----------
Adjusted estimated net Conversion proceeds $ 11,850 $ 14,040 $ 16,231 $ 18,751
========== ============== ========== ==========
Pro forma net income:
Historical net income $ 968 $ 968 $ 968 $ 968
Pro Forma adjustments:
Pro forma income on net proceeds 298 353 408 471
Pro forma ESOP adjustments/(1)/ (54) (63) (73) (84)
Pro forma MRP adjustments/(2)/ (54) (63) (73) (84)
---------- -------------- ---------- ----------
Pro forma net income $ 1,158 $ 1,194 $ 1,230 $ 1,272
========== ============== ========== ==========
Pro forma net income per share/(5)/:
Historical net income per share $ 0.72 $ 0.61 $ 0.53 $ 0.46
Pro forma adjustments:
Pro forma income on net proceeds 0.22 0.22 0.22 0.23
Pro forma ESOP adjustments/(1)/ (0.04) (0.04) (0.04) (0.04)
Pro forma MRP adjustments/(2)/ (0.04) (0.04) (0.04) (0.04)
---------- -------------- ---------- ----------
Pro forma net income per share(1) (2) (3) (5) $ 0.86 $ 0.76 $ 0.68 $ 0.61
========== ============== ========== ==========
Number of shares used in calculating income per
share /(5)/ 1,340,960 1,577,600 1,814,240 2,086,376
========== ============== ========== ==========
Pro forma stockholders' equity (book value)/(4)/:
Historical retained earnings $ 15,611 $ 15,611 $ 15,611 $ 15,611
Estimated net Conversion proceeds 13,584 16,080 18,577 21,449
Less shares to be acquired by:
ESOP/(1)/ (1,156) (1,360) (1,564) (1,799)
MRP/(2)/ (578) (680) (782) (899)
---------- -------------- ---------- ----------
Pro forma stockholders' equity/(4)/ $ 27,461 $ 29,651 $ 31,842 $ 34,362
========== ============== ========== ==========
Pro forma stockholders' equity per share/(4)/:
Historical retained earnings $ 10.80 $ 9.18 $ 7.99 $ 6.94
Estimated net Conversion proceeds 9.40 9.46 9.50 9.54
Less shares to be acquired by:
ESOP/(1)/ (0.80) (0.80) (0.80) (0.80)
MRP/(2)/ (0.40) (0.40) (0.40) (0.40)
---------- -------------- ---------- ----------
Pro forma stockholders' equity per share/(4)/ $ 19.00 $ 17.44 $ 16.29 $ 15.28
========== ============== ========== ==========
Pro forma price to book value 52.6% 57.3% 61.4% 65.4%
Pro forma price to earnings (P/E ratio) /(6)/ 8.7x 9.9x 11.0x 12.3x
Number of shares used to calculate stockholders'
equity per share/(4)/ 1,445,000 1,700,000 1,955,000 2,248,250
========== ============== ========== ==========
</TABLE>
28
<PAGE>
_________________________________________
(1) It is assumed that 8% of the shares of Common Stock in the Conversion will
be purchased by the ESOP. For purposes of this table, the funds used to
acquire such shares are assumed to have been loaned to the ESOP by the
Company. The amount loaned is reflected as a reduction of stockholders'
equity. The Bank intends to make annual contributions to the ESOP over a
ten-year period in an amount at least equal to the principal and interest
requirements of the loan. The Bank's total annual payment of the ESOP loan
is based upon ten equal annual installments of principal. The pro forma
net income assumes: (i) that the Bank's contribution to the ESOP for the
principal portion of the debt service requirement for the nine months ended
June 30, 1998 was made at the end of the period, (ii) that 11,560, 13,600,
15,640 and 17,986 shares at the minimum, midpoint, maximum and 15% above
the maximum of the range, respectively, were committed to be released
during the nine months ended June 30, 1998 at an average fair value of
$10.00 per share and were accounted for as a charge to expense in
accordance with Statement of Position ("SOP") No. 93-6 (prorated over the
September 30, 1998 year), net of income tax at an assumed combined federal
and state rate of 38%. See "MANAGEMENT OF THE BANK -- Employee Stock
Ownership Plan."
(2) It is assumed that the MRP will purchase a number of shares equal to 4% of
the shares of Common Stock issued in the Conversion for issuance to
directors, officers and employees, subject to approval by the Company's
stockholders. If the MRP is approved by the stockholders, the MRP intends
to acquire the Common Stock either through open market purchases or from
authorized but unissued shares of Common Stock of the Company. Funds used
by the MRP to purchase the shares will be contributed to the MRP by the
Bank. In calculating the pro forma effect of the MRP, it is assumed that
the required stockholder approval has been received, that the shares were
acquired by the MRP at the beginning of the period presented in open market
purchases at the Conversion purchase price of $10.00 per share, and that
20% of the amount contributed was amortized to expense annually during the
period (the MRP will be amortized over a five-year period), net of income
tax at an assumed combined federal and state rate of 38%. The issuance of
authorized but unissued shares of the Company's Common Stock to the MRP
instead of open market purchases would dilute the voting interests of
existing stockholders by approximately 4.0%; pro forma net income per share
would be $0.84, $0.74, $0.66 and $0.59 at the minimum, midpoint, maximum
and 15% above the maximum of the range, respectively, for the nine-month
period ended June 30, 1998; pro forma price to earnings ratio would be
8.9x, 10.1x, 11.4x and 12.7x; and pro forma stockholders' equity per share
would be $18.66, $17.16, $16.05 and $15.08 at the minimum, midpoint,
maximum and 15% above the maximum of the range, respectively, at June 30,
1998. There can be no assurance that stockholder approval of the MRP will
be obtained, or that the actual purchase price of the shares will be equal
to the Conversion purchase price. See "MANAGEMENT OF THE BANK -- Proposed
Management Recognition Plan."
(3) No effect has been given to the issuance of additional shares of Common
Stock pursuant to the Option Plan. See "MANAGEMENT OF THE BANK -- Proposed
Option Plans." If the Option Plan is approved by the stockholders, an
amount equal to 10% of the Common Stock issued in the Conversion, or
144,500, 170,000, 195,500, and 224,825 shares at the minimum, midpoint,
maximum and 15% above the maximum of the range, respectively, will be
reserved for future issuance upon the exercise of the options to be granted
under the Option Plan. The issuance of Common Stock pursuant to exercise
of options under the Option Plan will result in the dilution of existing
stockholders' interests. Assuming stockholder approval of the Option Plan
and exercise of all options at the beginning of the period at an exercise
price of $10.00 per share, and the issuance of authorized but unissued
shares upon exercise of such options, the pro forma net income per share
would be $0.80, $0.71, $0.64 and $0.57, respectively, and pro forma
stockholders' equity per share would be $18.19, $16.77, $15.72, and $14.80,
respectively, at the minimum, midpoint, maximum and 15% above the maximum
of the range.
(4) The retained earnings of the Bank will be substantially restricted after
the Conversion. See "DIVIDEND POLICY," "SUPERVISION AND REGULATION --
Regulation of the Bank -- Limitations on Dividends and Other Capital
Distributions." The amounts shown do not reflect the federal income tax
consequences of the potential restoration to income of the tax bad debt
reserves for income tax purposes, which would be required in the event of
liquidation. The amounts shown also do not reflect the amounts required to
be distributed in the event of liquidation to eligible depositors from the
liquidation account which will be established upon the consummation of the
Conversion. Pursuant to SOP 93-6, stockholders' equity per share is
calculated based on all ESOP shares issuable.
(5) Earnings per share is calculated based on the number of shares outstanding
indicated in the previous tables which include shares to be acquired by the
ESOP and the MRP. Pursuant to SOP 93-6, earnings per share is calculated
based on the ESOP shares released for the period according to scheduled
contributions and does not include ESOP shares that have not yet been
committed for release.
(6) Pro forma net income per share have been annualized for purposes of this
ratio.
29
<PAGE>
<TABLE>
<CAPTION>
At or For the Year Ended September 30, 1997
----------------------------------------------------------------------------
1,445,000 1,700,000 1,955,000 2,248,250
shares at $10.00 shares at $10.00 shares at $10.00 shares at $10.00
per share per share per share per share
(Minimum) (Midpoint) (Maximum) (Adj. maximum)
----------------- ---------------- ---------------- ----------------
(Dollars in Thousands, except per share amounts)
<S> <C> <C> <C> <C>
Gross proceeds $ 14,450 $ 17,000 $ 19,550 $ 22,483
Less Offering expenses and commissions - (920) (973) (1,034)
Estimated net Conversion proceeds (866) 16,080 18,577 21,449
Less shares to be acquired by ESOP/(1)/ 13,584 (1,360) (1,564) (1,799)
Less shares to be acquired by MRP/(2)/ (1,156) (680) (782) (899)
Adjusted estimated net Conversion proceeds (578) $ 14,040 $ 16,231 $ 18,751
$ 11,850
Pro forma net income:
Historical net income $ 967 $ 967 $ 967 $ 967
Pro Forma adjustments:
Pro forma income on net proceeds 400 474 548 634
Pro forma ESOP adjustments/(1)/ (72) (84) (97) (112)
Pro forma MRP adjustments/(2)/ (72) (84) (97) (112)
----------------- ---------------- ---------------- ----------------
Pro forma net income $ 1,224 $ 1,273 $ 1,322 $ 1,378
================= ================ ================ ================
Pro forma net income per share/(5)/:
Historical net income per share $ 0.72 $ 0.61 $ 0.53 $ 0.46
Pro forma adjustments:
Pro forma income on net proceeds 0.30 0.30 0.30 0.30
Pro forma ESOP adjustments/(1)/ (0.05) (0.05) (0.05) (0.05)
Pro forma MRP adjustments/(2)/ (0.05) (0.05) (0.05) (0.05)
Pro forma net income per share(1) (2) (3) (5) $ 0.91 $ 0.81 $ 0.73 $ 0.66
Number of shares used in calculating income per
share /(5)/ 1,340,960 1,577,600 1,814,240 2,086,376
Pro forma stockholders' equity (book value)/(4)/:
Historical retained earnings $ 14,629 $ 14,629 $ 14,629 $ 14,629
Estimated net Conversion proceeds 13,584 16,080 18,577 21,449
Less shares to be acquired by:
ESOP/(1)/ (1,156) (1,360) (1,564) (1,799)
MRP/(2)/ (578) (680) (782) (899)
Pro forma stockholders' equity/(4)/ $ 26,479 $ 28,669 $ 30,860 $ 33,380
Pro forma stockholders' equity per share/(4)/:
Historical retained earnings $ 10.12 $ 8.61 $ 7.48 $ 6.51
Estimated net Conversion proceeds 9.40 9.46 9.50 9.54
Less shares to be acquired by:
ESOP/(1)/ (0.80) (0.80) (0.80) (0.80)
MRP/(2)/ (0.40) (0.40) (0.40) (0.40)
Pro forma stockholders' equity per share/(4)/ $ 18.32 $ 16.86 $ 15.79 $ 14.85
Pro forma price to book value 54.6% 59.3% 63.4% 67.4%
Pro forma price to earnings (P/E ratio) /(5)/ 11.0x 12.3x 13.7x 15.2x
Number of shares used to calculate stockholders'
equity per share/(4)/ 1,445,000 1,700,000 1,955,000 2,248,250
================= ================ ================ ================
</TABLE>
30
<PAGE>
__________________________________________
(1) It is assumed that 8% of the shares of Common Stock in the Conversion will
be purchased by the ESOP. For purposes of this table, the funds used to
acquire such shares are assumed to have been loaned to the ESOP by the
Company. The amount loaned is reflected as a reduction of stockholders'
equity. The Bank intends to make annual contributions to the ESOP over a
ten-year period in an amount at least equal to the principal and interest
requirements of the loan. The Bank's total annual payment of the ESOP loan
is based upon ten equal annual installments of principal. The pro forma
net earnings assumes: (i) that the Bank's contribution to the ESOP for the
principal portion of the debt service requirement for the year ended
September 30, 1997 was made at the end of the period, (ii) that 11,560,
13,600, 15,640 and 17,986 shares at the minimum, midpoint, maximum and 15%
above the maximum of the range, respectively, were committed to be released
during the nine months ended June 30, 1998 and the year ended September 30,
1997, respectively, at an average fair value of $10.00 per share and were
accounted for as a charge to expense in accordance with Statement of
Position ("SOP") No. 93-6, net of income tax at an assumed combined federal
and state rate of 38%. See "MANAGEMENT OF THE BANK -- Employee Stock
Ownership Plan."
(2) It is assumed that the MRP will purchase a number of shares equal to 4% of
the number of shares of Common Stock issued in the Conversion for issuance
to directors, officers and employees, subject to approval by the Company's
stockholders. If the MRP is approved by the stockholders, the MRP intends
to acquire the Common Stock either through open market purchases or from
authorized but unissued shares of Common Stock of the Company. Funds used
by the MRP to purchase the shares will be contributed to the MRP by the
Bank. In calculating the pro forma effect of the MRP, it is assumed that
the required stockholder approval has been received, that the shares were
acquired by the MRP at the beginning of the period presented in open market
purchases at the Conversion purchase price of $10.00 per share, and that
20% of the amount contributed was amortized to expense annually during the
period (the MRP will be amortized over a five-year period), net of income
tax at an assumed combined federal and state rate of 38%. The issuance of
authorized but unissued shares of the Company's Common Stock to the MRP
instead of open market purchases would dilute the voting interests of
existing stockholders by approximately 4%; pro forma net earnings per share
would be $0.89, $0.79, $0.71 and $0.65 at the minimum, midpoint, maximum
and 15% above the maximum of the range, respectively, for the year ended
September 30, 1997; pro forma price to earnings ratio would be 11.2 x, 12.7
x, 14.1 x and 15.4 x; and pro forma stockholders' equity per share would be
$18.00, $16.60, $15.56, and $14.66 at the minimum, midpoint, maximum and
15% above the maximum of the range, respectively, at September 30, 1997.
There can be no assurance that stockholder approval of the MRP will be
obtained, or that the actual purchase price of the shares will be equal to
the Conversion purchase price. See "MANAGEMENT OF THE BANK --Proposed
Management Recognition Plan."
(3) No effect has been given to the issuance of additional shares of Common
Stock pursuant to the Option Plan. See "MANAGEMENT OF THE BANK -- Proposed
Stock Option Plans." If the Option Plan is approved by the stockholders,
an amount equal to 10% of the Common Stock issued in the Conversion, or
144,500, 170,000, 195,500, and 224,825 shares at the minimum, midpoint,
maximum and 15% above the maximum of the range, respectively, will be
reserved for future issuance upon the exercise of the options to be granted
under the Option Plan. The issuance of Common Stock pursuant to exercise
of options under the Option Plan will result in the dilution of existing
stockholders' interests. Assuming stockholder approval of the Option Plan
and exercise of all options at the beginning of the period at an exercise
price of $10.00 per share, and the issuance of authorized but unissued
shares upon exercise of such options, the pro forma net earnings per share
would be $0.86, $0.76, $0.69 and $0.63, respectively, at the minimum,
midpoint, maximum and 15% above the maximum of the range.
(4) The retained earnings of the Bank will be substantially restricted after
the Conversion. See "DIVIDEND POLICY," "SUPERVISION AND REGULATION --
Regulation of the Bank -- Limitations on Dividends and Other Capital
Distributions." The amounts shown do not reflect the federal income tax
consequences of the potential restoration to income of the tax bad debt
reserves for income tax purposes, which would be required in the event of
liquidation. The amounts shown also do not reflect the amounts required to
be distributed in the event of liquidation to eligible depositors from the
liquidation account which will be established upon the consummation of the
Conversion. Pursuant to SOP 93-6, stockholders' equity per share is
calculated based on all ESOP shares issuable.
(5) Earnings per share is calculated based on the number of shares outstanding
indicated in the previous tables which include shares to be acquired by the
ESOP and the MRP. Pursuant to SOP 93-6, earnings per share is calculated
based on the ESOP shares released for the period according to scheduled
contributions and does not include ESOP shares that have not yet been
committed for release.
31
<PAGE>
HISTORICAL AND PRO FORMA CAPITAL COMPLIANCE
As of June 30, 1998, the Bank would have exceeded each of the OTS
capital requirements on both a current and a fully phased-in basis had it been
subject to such requirements on such date. Set forth below is a summary of the
Bank's pro forma compliance with the OTS capital standards as of June 30, 1998
assuming that it had been subject to such standards on such date and based on
historical capital. The table also assumes that the indicated number of shares
were sold as of such date using the assumptions contained under the caption "Pro
Forma Data."
<TABLE>
<CAPTION>
Pro Forma at June 30, 1998
----------------------------------------------------------------------
Historical at Minimum of 1,445,000 Midpoint of 1,700,000 Maximum of1,955,000
June 30, 1998 at $10 Per Share at $10 Per Share at $10 Per Share
----------------- -------------------- -------------------- --------------------
Amount Percent Amount Percent Amount Percent Amount Percent
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
GAAP Capital/(2)/ $15,611 8.1% $20,669 10.4% $21,611 10.8% $22,554 11.2%
======= ==== ======= ==== ======= ==== ======= ====
Tangible Capital/(3)/
Capital level $15,472 8.0% $20,530 10.3% $21,472 10.7% $22,415 11.1%
Tangible capital requirement $ 2,889 1.5% $ 2,982 1.5% $ 2,999 1.5% $ 3,016 1.5%
------- ---- ------- ---- ------- ---- ------- ----
Excess $12,583 6.5% $17,548 8.8% $18,473 9.2% $19,399 9.6%
======= ==== ======= ==== ======= ==== ======= ====
Core Capital/(3)/
Capital level $15,472 8.0% $20,530 10.3% $21,472 10.7% $22,415 11.1%
Core capital requirement/(4)/ $ 5,777 3.0% $ 5,964 3.0% $ 5,998 3.0% $ 6,033 3.0%
------- ---- ------- ---- ------- ---- ------- ----
Excess $ 9,695 5.0% $14,566 7.3% $15,474 7.7% $16,382 8.1%
======= ==== ======= ==== ======= ==== ======= ====
Risk Based Capital/(3)/
Capital level/(5)/ $16,696 16.4% $21,754 21.1% $22,696 21.9% $23,639 22.8%
Risk-based capital requirement/(1)/ $ 8,157 8.0% $ 8,256 8.0% $ 8,275 8.0% $ 8,293 8.0%
------- ---- ------- ---- ------- ---- ------- ----
Excess $ 8,539 8.4% $13,498 13.1% $14,421 13.9% $15,346 14.8%
======= ==== ======= ==== ======= ==== ======= ====
<CAPTION>
Maximum, as Adjusted,
of 2,248,250
at $10 Per Share
--------------------
Amount Percent
<S> <C> <C>
GAAP Capital/(2)/ $23,638 11.7%
======= ====
Tangible Capital/(3)/
Capital level $23,499 11.6%
Tangible capital requirement $ 3,036 1.5%
------- ----
Excess $20,463 10.1%
======= ====
Core Capital/(3)/
Capital level $23,499 11.6%
Core capital requirement/(4)/ $ 6,072 3.0%
------- ----
Excess $17,427 8.6%
======= ====
Risk Based Capital/(3)/
Capital level/(5)/ $24,723 23.8%
Risk-based capital requirement/(1)/ $ 8,314 8.0%
------- ----
Excess $16,409 15.8%
======= ====
</TABLE>
______________________
/(1)/ Pro forma amounts and percentages assume net proceeds are invested in
assets that carry a 20% risk-weight.
/(2)/ Total equity as calculated under generally accepted accounting principles
("GAAP"). Assumes that the Bank receives 50% of the net proceeds offset
in part, by the aggregate purchase price of Common Stock acquired at a
price of $10.00 per share by the ESOP in the Conversion and the MRP
(assuming stockholder ratification of such plan following completion of
the Conversion).
/(3)/ Tangible and core capital figures are determined as a percentage of
adjusted total assets; risk-based capital figures are determined as a
percentage of risk-weighted assets. Unrealized gains and losses on debt
securities available for sale are excluded from tangible, core and risk-
based capital. Adjusted total assets at the minimum, midpoint, maximum,
and 15% above the maximum were, $198.8 million, $200.0 million, $201.1
million and $202.4 million, respectively. Risk weighted assets at the
minimum, midpoint, maximum and 15% above the maximum $103.2 million,
$103.4 million, $103.7 million and $103.9 million, respectively.
/(4)/ The OTS has proposed a core capital requirement for savings associations
comparable to the requirement for national banks. This proposed core
capital ratio is 3% of total adjusted assets for thrifts that receive the
highest supervisory rating for safety and soundness ("CAMEL" rating), with
a 3% to 4% core capital requirement for all other thrifts. See
"SUPERVISION AND REGULATION -- Federal Regulation of the Bank --Capital
Requirements."
/(5)/ Includes $1,224,000 of the allowance for loan losses which qualifies as
supplementary capital. See "SUPERVISION AND REGULATION - Federal
Regulation of the Bank - Capital Requirements."
32
<PAGE>
STOCK PURCHASES BY DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth certain information as to the approximate
purchase of Common Stock by each director and executive officer of the Bank,
including their associates, as defined by applicable regulations. No individual
has entered into a binding agreement with respect to such intended purchases,
and, therefore, actual purchases could be more or less than indicated below.
Directors and officers of the Bank and their associates may not purchase in
excess of 32% of the shares sold in the Conversion. For purposes of the
following table, it has been assumed that sufficient shares will be available to
satisfy subscriptions in all categories. Directors, officers and employees will
pay the same price -- $10.00 -- for the shares for which they subscribe as the
price that will be paid by all other subscribers.
<TABLE>
<CAPTION>
ANTICIPATED
ANTICIPATED NUMBER PERCENT OF SHARES PERCENT OF SHARES
AMOUNT OF SHARES AT MINIMUM OF AT MAXIMUM OF
TO BE PAID TO BE ESTIMATED ESTIMATED
NAME FOR SHARES/(1)/ PURCHASED VALUATION RANGE VALUATION RANGE
- ---- ------------ --------- --------------- ---------------
<S> <C> <C> <C> <C>
Ronald E. Bostian $ 600,000 60,000 4.15% 3.07%
Chairman, CEO, and President
Harold C. Earnhardt 420,000 42,000 2.91% 2.15%
Vice Chairman
Malcolm B. Blankenship, Jr. 390,000 39,000 2.70% 1.99%
Director
James W. Duke 270,000 27,000 1.87% 1.38%
Director
K.V. Epting, Jr. 105,000 10,500 0.73% 0.54%
Director
Gordon P. Hurley 600,000 60,000 4.15% 3.07%
Director
Bobby A. Lomax 180,000 18,000 1.24% 0.92%
Director
Jeffrey C. Chisholm 600,000 60,000 4.15% 3.07%
Senior Vice President/
Chief Lending Officer
Dianne E. Hawkins 105,000 10,500 0.73% 0.54%
Vice President, Treasurer and Controller ---------- ------- ----- -----
Total $3,270,000 327,000 22.63% 16.73%
========== ======= ===== =====
</TABLE>
_______________
(1) Subscriptions by the ESOP are not aggregated with shares of Common Stock
purchased by the executive officers and directors listed above. It is
expected that the ESOP will acquire 8% of the shares issued in the
Conversion. Recipients of shares under the ESOP will have voting control
over the shares allocated to them, and trustees of the ESOP (directors of
the Bank) will have voting control over unallocated shares. See "MANAGEMENT
OF THE BANK -- Employee Stock Ownership Plan." Also, grants under the
proposed MRP and shares subject to option under the Option Plan, if
approved by the stockholders of the Company at a meeting of stockholders
following the Conversion, are not aggregated with shares of Common Stock
purchased by the executive officers and directors listed above. Under the
proposed MRP, if approved by the stockholders of the Company, a number of
shares equal to 4% of the shares issued in the Conversion are expected to
be issued to directors and certain employees of the Bank. Such shares could
be purchased in the open market at any time following approval of the MRP
by the Company's stockholders or could be issued out of authorized but
unissued shares. Recipients of shares under the MRP will have voting
control over such shares regardless of whether such shares have vested. See
"MANAGEMENT OF THE BANK -- Proposed Management Recognition Plan."
33
<PAGE>
Without the prior written consent of the OTS, shares of Common Stock purchased
by directors or executive officers of the Bank in the Conversion cannot be sold
during a period of one year following the Conversion, except (i) upon death of
the director or executive officer or (ii) by reason of an exchange of securities
in connection with a merger or acquisition approved by the applicable regulatory
authorities. Such restriction also applies to any shares issued to such person
as a stock dividend, stock split or otherwise with respect to any of such
originally restricted stock.
In addition, the OTS conversion regulations provide that directors and
executive officers and their associates are prohibited from purchasing
outstanding shares of Common Stock for a period of three years following the
Conversion, except from or through a broker or dealer registered with the SEC
unless the prior written approval of the OTS is obtained. This provision does
not apply to negotiated transactions involving more than 1% of the Company's
outstanding Common Stock or to purchases of stock made by or held by one or more
tax-qualified or non-tax-qualified employee stock benefit plans of the Bank or
the Company which may be attributable to individual executive officers or
directors. Purchases and sales of Common Stock by officers and directors will
also be subject to the short-swing trading prohibitions contained in Section
16(b) of the Securities Exchange Act of 1934 (the "Exchange Act"), and the
short-swing trading and other rules promulgated pursuant to the Exchange Act.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
Management's discussion and analysis of financial condition and results of
operations is intended to assist in understanding the financial condition and
changes therein and results of operations of the Bank. The discussion contains
certain forward-looking statements consisting of estimates with respect to the
financial condition, results of operations and other business of the Bank that
are subject to various factors which could cause actual results to differ
materially from those estimates. Factors which could influence the estimates
include changes in the national, regional and local market conditions,
legislative and regulatory conditions, and an adverse interest rate environment.
The information contained in this section should be read in conjunction with the
Financial Statements, the accompanying Notes to Financial Statements, and the
other information contained in this Prospectus.
The Company was incorporated under North Carolina law on July 6, 1998 at
the direction of the Bank for the purpose of acquiring and holding all of the
outstanding stock of the Bank to be issued in the Conversion, and, accordingly,
has no results of operations. The Company's principal business activities after
the Conversion are expected to be conducted solely through the Bank.
The Bank's results of operations depend primarily on net interest income,
which is the difference between interest income from interest-earning assets and
interest expense on interest-bearing liabilities. The Bank's operations are
affected to a much lesser degree by non-interest income, such as transaction and
other service fee income, and other sources of income. The Bank's principal
operating expenses, aside from interest expense, consist of compensation and
employee benefits, office occupancy costs, data processing, advertising expenses
and federal deposit insurance premiums.
CAPITAL RESOURCES AND LIQUIDITY
The objective of the Bank's liquidity management is to ensure the
availability of sufficient cash flows to meet all financial commitments and to
capitalize on opportunities for expansion. Liquidity management addresses the
Bank's ability to meet deposit withdrawals on demand or at contractual maturity,
to repay borrowings as they mature, and to fund new loans and investments as
opportunities arise.
The Bank's primary sources of internally generated funds are principal and
interest payments on loans receivable, cash flows generated from operations, and
cash flows generated by investment maturities. External sources of funds
include increases in deposits and advances from the FHLB of Atlanta. Advances
from the FHLB of Atlanta have not historically been a primary source of
liquidity for the Bank.
34
<PAGE>
Federal regulations require the Bank to maintain minimum levels of liquid
assets. The required percentage has varied from time to time based upon
economic conditions and savings flows and is currently 4% of net withdrawable
savings deposits and borrowings payable on demand or in one year or less during
the preceding calendar month. Liquid assets for purposes of this ratio include
cash, certain time deposits, U.S. Government, government agency and corporate
securities and other obligations generally having remaining maturities of less
than five years. The Bank has historically maintained its liquidity ratio for
regulatory purposes at levels in excess of those required. At June 30, 1998,
the Bank's liquidity ratio for regulatory purposes was 20.16%.
Following the Conversion, the Company will initially conduct no business
other than holding the capital stock of the Bank and the loan it will make to
the ESOP. In order to provide sufficient funds for its operations, the Company
expects to retain at the Company level 50% of the net proceeds of the Conversion
(less the amount of the loan to the ESOP). In the future, the Company's primary
source of funds, other than income from its investments and principal and
interest payments received from the ESOP with respect to the ESOP loan, is
expected to be dividends from the Bank. As a federally-chartered stock savings
bank, the Bank may not declare or pay a cash dividend on or repurchase any of
its capital stock if the effect of such transaction would be to reduce the
regulatory capital of the institution to an amount which is less than the
minimum amount required by applicable federal regulations. At June 30, 1998,
the Bank was in compliance with all applicable capital requirements.
After the Conversion, the Bank will be subject to the restriction that it
will not be permitted to declare or pay a cash dividend on or repurchase any of
its capital stock if the effect thereof would be to cause its regulatory capital
to be reduced below the amount required for the liquidation account to be
established in connection with the Conversion. See "THE CONVERSION -- Effects
of Conversion -- Liquidation Rights -- Liquidation Rights After the Conversion".
OPERATING STRATEGY
The primary goals of management are to increase the Bank's profitability,
monitor its capital position and enhance its banking franchise. The Bank's
results of operations are dependent primarily on net interest income, which is
the difference between the income earned on its interest-earning assets, such as
loans and investments, and the cost of its interest-bearing liabilities,
consisting of deposits and advances from the FHLB. The Bank's operations are
affected to a much lesser degree by non-interest income, such as transaction and
other service fee income, and other sources of income. The Bank's net income is
also affected by, among other things, provisions for loan losses and operating
expenses. The Bank's principal operating expenses, aside from interest expense,
consist of compensation and employee benefits, office occupancy costs, data
processing, advertising expenses and federal deposit insurance premiums. The
Bank's results of operations are also significantly affected by general economic
and competitive conditions, particularly changes in market interest rates,
government legislation and policies concerning monetary and fiscal affairs,
housing and financial institutions and the attendant actions of regulatory
authorities.
In guiding the operations of the Bank, management has implemented various
strategies designed to continue the Bank's profitability while maintaining its
safety and soundness. Historically, these strategies have included: (i)
emphasizing one-to-four family residential lending; (ii) maintaining asset
quality; (iii) controlling operating expenses; and (iv) monitoring interest-rate
risk. It is anticipated, subject to market conditions, that the strategies
presently in place will be continued following completion of the Conversion.
However, the Board of Directors may consider diversification of the loan
portfolio to increase yield on loans.
EMPHASIS ON ONE-TO-FOUR FAMILY RESIDENTIAL HOUSING. Historically, the Bank
has been predominantly a one-to-four family residential lender. As of June 30,
1998, approximately 84.9% of its loan portfolio, before net items, was composed
of permanent one-to-four residential loans. As of such date, an additional
12.2% of its loan portfolio, before net items, was comprised of construction
loans and home equity loans. As a result, the Bank has developed expertise in
mortgage loan underwriting and origination. The Bank has established methods to
expand its loan originations through contacts with realtors, homebuilders and
past and present customers. The Bank also uses advertising and community
involvement to gain exposure within the communities in which it operates. As of
June
35
<PAGE>
30, 1998, approximately 67% of the Bank's loan portfolio, net of deferred loan
fees and undisbursed loan funds, was composed of adjustable rate loans.
MAINTENANCE OF ASSET QUALITY. At June 30, 1998, the Bank's ratio of non-
performing assets to total assets was 0.07%. For the five-year period ended
September 30, 1997, loan recoveries exceeded loan charge-offs and no provisions
for loan losses were made during this five-year period.
The Bank has attempted to maintain asset quality through its underwriting
and collection procedures.
MONITORING OF INTEREST-RATE RISK. See "-- Asset Liability Management and
Market Risk."
CONTROL OF GENERAL AND ADMINISTRATIVE EXPENSES. The Bank closely monitors
its general and administrative expenses and seeks to control them while
maintaining the necessary personnel to properly serve its customers.
For the five-year period ended September 30, 1997, the Bank's ratio of
general and administrative expenses to average assets has averaged 1.63%, which
includes the one-time SAIF special assessment in September 1996.
ASSET LIABILITY MANAGEMENT AND MARKET RISK
QUALITATIVE ANALYSIS. The Bank's asset/liability management, or interest
rate risk management, program is focused primarily on evaluating and managing
the composition of its assets and liabilities in view of various interest rate
scenarios. Factors beyond the Bank's control, such as market interest rates and
competition, also have an impact on the Bank's interest income and interest
expense.
In the absence of other factors, the yield or return associated with the
Bank's earning assets generally will increase from existing levels when interest
rates rise over an extended period of time, and conversely, interest income will
decrease when interest rates decrease. In general, interest expense will
increase when interest rates rise over an extended period of time, and,
conversely, interest expense will decrease when interest rates decrease.
The Board of Directors has established goals to be achieved which have the
effect of reducing interest rate risk exposure. These goals are quantitative
measurements in the areas of the ratio of rate-sensitive assets to rate-
sensitive liabilities repricing within one year, the ratio of interest earning
assets-to-interest bearing liabilities, assets repricing or maturing past five
years, and the ratio of net interest income to net overhead (noninterest income
less noninterest expense) given a 200 basis point instantaneous spike in
interest rates.
As a part of the Bank's interest rate risk management policy, management
calculates an interest rate "gap." Interest rate "gap" analysis is a common,
though imperfect, measure of interest rate risk, which measures the relative
dollar amounts of interest-earning assets and interest-bearing liabilities which
reprice within a specific time period, either through maturity or rate
adjustment. The "gap" is the difference between the amounts of such assets and
liabilities that are subject to repricing. A "negative" gap for a given period
means that the amount of interest-bearing liabilities maturing or otherwise
repricing within that period exceeds the amount of interest-earning assets
maturing or otherwise repricing within the same period. Accordingly, in a
declining interest rate environment, an institution with a negative gap would
generally be expected, absent the effects of other factors, to experience a
lower decrease in the yield of its assets relative to the cost of its
liabilities and its income should be positively affected. Conversely, the cost
of funds for an institution with a negative gap would generally be expected to
increase more quickly than the yield on its assets in a rising interest rate
environment, and such institution's net interest income generally would be
expected to be adversely affected by rising interest rates. Changes in interest
rates generally have the opposite effect on an institution with a "positive
gap."
QUANTITATIVE ANALYSIS. Management uses a dynamic model with historically-
derived prepayment speeds and decay rates to measure the level of interest-rate
risk exposure. The output of this model has been reviewed monthly by the
Asset/Liability Committee of the Board.
36
<PAGE>
As of June 30, 1998, the gap was a negative 3.11% in the one year time
frame, a cumulative negative 3.56% in three years and a cumulative positive
4.77% in five years.
In addition to the interest rate gap analysis discussed above, management
monitors the Bank's interest rate sensitivity through the use of a model which
estimates the change in net portfolio value ("NPV") in response to a range of
assumed changes in market interest rates. NPV is the present value of expected
cash flows from assets, liabilities, and off-balance sheet items. The model
estimates the effect on the Bank's NPV of instantaneous and permanent 100 to 400
basis point increases and decreases in market interest rates.
The following table is provided to the Bank by the FHLB Atlanta and
illustrates the percent change in NPV as of June 30, 1998, based on FHLB Atlanta
assumptions. The table below illustrates, for example, that an instantaneous
200 basis point increase in market interest rates at June 30, 1998 would reduce
the Bank's NPV by approximately $2.4 million, or 13.01% at that date. No effect
has been given to any steps that the Bank may take to counteract the effect of
the interest rate movements presented in the table.
<TABLE>
<CAPTION>
Basis Point Estimated Change in
Change in Rates Net Portfolio Value
---------------- -------------------
(Dollars in thousands)
<S> <C>
+400 $(7,186) (38.75)%
+300 (4,800) (25.88)
+200 (2,413) (13.01)
+100 (1,207) ( 6.51)
0 0 0
(100) 450 2.43
(200) 900 4.85
(300) 1,000 5.39
(400) 1,099 5.93
</TABLE>
As with any method of measuring interest rate risk, certain shortcomings
are inherent in the method of analysis presented in the foregoing table. For
example, although certain assets and liabilities may have similar maturities or
periods to repricing, they may react in different degrees to changes in market
interest rates. Also, the interest rates on certain types of assets and
liabilities may fluctuate in advance of changes in market interest rates, while
interest rates on other types may lag behind changes in market rates.
Furthermore, in the event of a change in interest rates, expected rates of
prepayments on loans and early withdrawals from certificates likely could
deviate significantly from those assumed in calculating the table. Therefore,
the data presented in the table should not be relied upon as necessarily
indicative of actual results.
YEAR 2000
At the turn of the century computer-based information systems will be faced
with problems potentially affecting hardware, software, networks, processing
platforms, as well as customer and vendor interdependencies. The Bank has
assessed the effect of Year 2000 on the Bank's operating plans and systems and
has prepared a critical issues schedule with a time line and assigned
responsibilities to address problems related to the Year 2000. The Bank is
requiring its computer systems software vendors to represent that the products
provided are or will be Year 2000 compliant and has planned a program of testing
for compliance. All Year 2000 issues for the Bank, including testing, are
expected to be addressed by December 31, 1998 and any problems would be
remediated by June 30, 1999. The Bank also is preparing a contingency plan in
the event there are any system interruptions. The Bank's contingency plan is
designed to ensure continued operation even in the event of a power failure.
Telephone capability is being analyzed in conjunction with vendors. The same
analysis and monitoring is being performed on the provider of security services.
Additionally, the Bank intends to increase its vault currency well above normal
levels to preclude any problems with delivery services. The Bank's vaults are
mechanical and are not subject to time or calendar failure. The Bank believes
that its costs related to the Year 2000 will be immaterial. There can be no
assurances,
37
<PAGE>
however, that the Bank's contingency plan or the performance of the Bank's
vendors will be effective to remedy all potential problems.
The risks associated with not being Year 2000 compliant include financial
and legal risks. Legal risks include the failure to meet contractual service
agreements, leading to possible punitive actions including those of a regulatory
nature. Financial risks concern the possibility of lost revenues or even
business failure. Major risks associated with the date change event include a
shut down of voice and data communication systems due to failure by switching
systems, satellites, or telephone companies; excessive cash withdrawal
activity; ATM failures; cash couriers delayed or not available; and government
offices or facilities not opening or operating.
The Bank's loan portfolio consists primarily of residential mortgage loans
to individuals. These individuals generally are not affected by Year 2000
failures. The limited number of the Bank's commercial borrowers are being
contacted to insure that timely payments will be made in January 2000. The Bank
intends to amend its underwriting policies to address loan payment problems
associated with a borrower as a result of a disruption in income or a commercial
borrower's inability to make a timely payment. See "RISK FACTORS".
NET INTEREST INCOME
Net interest income represents the difference between income derived from
interest-earning assets and interest expense incurred on interest-bearing
liabilities. Net interest income is affected by both (i) the difference between
the rates of interest earned on interest-earning assets and the rates paid on
interest-bearing liabilities ("interest rate spread") and (ii) the relative
amounts of interest-earning assets and interest-bearing liabilities ("net
earning balance"). The following table sets forth information relating to
average balances of the Bank's assets and liabilities for the nine months ended
June 30, 1998 and 1997 and for the years ended September 30, 1997, 1996 and
1995. For the periods indicated, the table reflects the average yield on
interest-earning assets and the average cost of interest-bearing liabilities
(derived by dividing income or expense by the monthly average balance of
interest-earning assets or interest-bearing liabilities, respectively) as well
as the net yield on interest-earning assets (which reflects the impact of the
net earning balance). Monthly average balances are derived from daily
balances.
38
<PAGE>
<TABLE>
<CAPTION>
For the Nine Months Ended June 30,
----------------------------------------------------------------------------
At
June 30,
1998 1998 1997
-------- ------------------------------------ -----------------------------------
Average Average
Average Average Yield/ Average Yield/
Rate(6) Balance Interest Rate(4) Balance Interest Rate(4)
------- ------------------------------------- --------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets
Interest-bearing deposits 6.14% $ 11,046 $ 495 5.99% $ 7,890 $ 352 5.96%
Investments (1) 6.53% 20,356 953 6.26% 23,505 1,095 6.23%
Loans receivable, net (5) 7.59% 157,809 9,007 7.63% 160,646 8,929 7.43%
--------- -------- --------- --------
Total interest-earning assets 7.42% 189,211 $ 10,455 7.39% 192,041 $ 10,376 7.22%
-------- --------
Non-interest-earning assets
5,346 4,884
-------- --------
Total $ 194,557 $ 196,925
========= =========
Interest-bearing Liabilities
NOW and Money
market accounts 1.78% $ 8,524 $ 113 1.77% $ 8,042 $ 120 2.00%
Passbook accounts 4.52% 34,211 1,172 4.58% 28,753 967 4.50%
Certificates of deposit 5.51% 114,730 4,799 5.59% 115,260 4,920 5.71%
--------- -------- --------- --------
Total deposits 5.07% 157,465 6,084 5.17% 152,055 6,007 5.28%
FHLB advances 6.89% 17,029 878 6.89% 26,670 1,373 6.88%
--------- -------- --------- --------
Total intesres-bearing
liabilities 5.21% 174,494 $ 6,962 5.33% 178,725 $ 7,380 5.52%
-------- --------
Non-interest-bearing liabilities 4,564 3,889
Equity 15,499 14,311
--------- ---------
Total $ 194,557 $ 196,925
========= =========
Net interest income and interest
rate spread (2) $ 3,493 2.06% $ 2,996 1.70%
======= =======
Net yield on interest-earning asssets (5) 2.47% 2.09%
Ratio of interest-earning assets to
interest-bearing liabilities 108.43% 107.45%
- -----------------------------------------------------------------------------------------------------------------------------
<CAPTION>
For the Year Ended September 30,
-----------------------------------------------------------------------------------------------
1997 1996 1995
---------------------------- -------------------------------- ----------------------------
Average Average Average
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
------- -------- ------- ------- -------- ------- ------- -------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets
Interest-bearing deposits $ 9,152 $ 537 5.87% $ 8,960 $ 530 5.92% $ 10,244 $ 573 5.59%
Investments (1) 23,014 1,438 6.25% 21,907 1,394 6.36% 22,379 1,454 6.50%
Loans receivable, net (5) 160,597 11,927 7.43% 160,392 11,766 7.34% 169,262 12,297 7.27%
-------- ------- -------- -------- -------- -------
Total interest-earning
assets 192,763 $ 13,902 7.21% 191,259 $ 13,690 7.16% 201,885 $14,324 7.10%
-------- -------- -------
Non-interest-earning
assets 4,934 4,310 3,438
-------- -------- --------
Total $197,697 $195,569 $205,323
======== ======== ========
Interest-bearing
Liabilities
NOW and Money
market accounts $ 8,125 $ 157 1.93% $ 8,091 $ 174 2.15% $ 9,705 $ 238 2.45%
Passbook accounts 29,254 1,319 4.51% 23,537 1,014 4.31% 13,484 533 3.95%
Certificates of
deposit 116,148 6,623 5.70% 118,964 6,933 5.83% 138,273 7,359 5.32%
------- ------- ------- -------- -------- -------
Total deposits 153,527 8,099 5.28% 150,592 8,121 5.39% 161,462 8,130 5.04%
FHLB advances 25,751 1,773 6.89% 27,000 1,862 6.90% 27,000 1,826 6.76%
------- ------- ------- -------- -------- -------
Total intesres-bearing
liabilities 179,278 $ 9,872 5.51% 177,592 $ 9,983 5.62% 188,462 $ 9,956 5.28%
------- -------- -------
Non-interest-bearing
liabilities 3,986 3,722 3,557
Equity 14,433 14,255 13,304
-------- -------- --------
Total $197,697 $195,569 $205,323
======== ======== ========
Net interest income
and interest
rate spread (2) $ 4,030 1.70% $ 3,707 1.54% $ 4,368 1.82%
======= ======= =======
Net-yield on
interest-earning
asssets (5) 2.09% 1.94% 2.16%
Ratio of
interest-earning
assets to
interest-bearing
liabilities 107.52% 107.70% 107.12%
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Includes investment securities, term fed funds and FHLB of Atlanta stock.
(2) Interest rate spread represents the difference between the average yield on
interest-earning assets and the cost of interest-bearing liabilities.
(3) Net yield on interest-earning assets represents net interest income divided
by average interest-earning assets.
(4) Average yield/rate for the nine months ended June 30, 1998 and 1997, have
been annualized.
(5) Loans placed on nonperforming status have been included in the computation
of average balances.
(6) The weighted average rate represents the coupon associated with each asset
and liability, weighted by the principal balance associated with each asset
and liability.
39
<PAGE>
RATE/VOLUME ANALYSIS
- --------------------
The following table analyzes the dollar amount of changes in interest
income and interest expense for major components of interest-earning assets and
interest-bearing liabilities. The table distinguishes between (i) changes
attributable to rate (changes in rate multiplied by the prior period's volume),
(ii) changes attributable to volume (changes in volume multiplied by the prior
period's rate), and (iii) net change (the sum of the previous columns). The
change attributable to both rate and volume (changes in rate multiplied by
changes in volume) has been allocated equally to both the changes attributable
to volume and the changes attributable to rate.
40
<PAGE>
<TABLE>
<CAPTION>
Nine Months Ended June 30, Year Ended September 30,
1998 vs. 1997 1997 vs. 1996
---------------------------------------- --------------------------------------
Increase(Decrease) Attributable to Increase(Decrease) Attributable to
---------------------------------------- --------------------------------------
Rate Volume Net Rate Volume Net
------------ ----------- ------------- ----------- ------------ -----------
<S> <C> <C> <C> <C> <C> <C>
Interest income
Interest-bearing deposits $ 2 $ 141 $ 143 $ (4) $ 11 $ 7
Investments 5 (147) (142) (26) 70 44
Loans receivable, net 237 (159) 78 146 15 161
------------ -----------
Total interest income on
interest-earning assets 79 212
------------ -----------
Interest expense
NOW and Money market accounts (14) 7 (7) (18) 1 (17)
Passbook accounts 18 187 205 49 256 305
Certificates of deposit (98) (23) (121) (150) (160) (310)
FHLB advances 2 (497) (495) (3) (86) (89)
------------ -----------
Total interest expense on
interest-bearing liabilities (418) (111)
------------ -----------
Increase(decrease) in net interest income $ 497 $ 323
============ ===========
<CAPTION>
Year Ended September 30,
1996 vs. 1995
---------------------------------------
Increase(Decrease) Attributable to
---------------------------------------
Rate Volume Net
------------ ------------ -----------
<S> <C> <C> <C>
Interest income
Interest-bearing deposits $ 32 $ (75) $ (43)
Investments (30) (30) (60)
Loans receivable, net 119 (650) (531)
---------
Total interest income on
interest-earning assets (634)
---------
Interest expense
NOW and Money market accounts (27) (37) (64)
Passbook accounts 52 429 481
Certificates of deposit 663 (1,089) (426)
FHLB advances 36 - 36
---------
Total interest expense on
interest-bearing liabilities 27
---------
Increase(decrease) in net interest income $ (661)
=========
</TABLE>
41
<PAGE>
COMPARISON OF FINANCIAL CONDITION AT JUNE 30, 1998, SEPTEMBER 30, 1997 AND 1996
Total assets were $192.7 million, $199.6 million and $190.2 million at June
30, 1998, September 30, 1997, and September 30, 1996, respectively.
Loans receivable, net, amounted to $159.7 million, $159.5 million, and
$159.5 million at June 30, 1998, September 30, 1997, and September 30, 1996,
respectively. Although the size of the loan portfolio has remained stable
throughout the aforementioned period, home equity loans have increased from
4.74% of total loans outstanding, before net items, to 9.84%. The planned
increase in home equity loans was due to greater emphasis on promotional and
other marketing activities.
Cash and cash equivalents amounted to $12.6 million, $16.1 million and
$10.2 million at June 30, 1998, September 30, 1997 and September 30, 1996,
respectively.
Investment securities classified as held-to-maturity were $1.87 million at
June 30, 1998, $2.3 million at September 30, 1997, and $2.5 million at September
30, 1996. In December 1995, the Bank adopted the implementation guidance
allowed by the Financial Accounting Standards Board ("FASB") under its Special
Report "A Guide to Implementation of Standard 115 on Accounting for Certain
Investments in Debt and Equity Securities," and reclassified investment
securities classified as held-to-maturity to available-for-sale without tainting
the remainder of the held-to-maturity investment securities portfolio. See Note
2 of Notes to Consolidated Financial Statements.
Investments classified as available-for-sale and Federal funds sold-term
were $11.8 million, $16.4 million, and $13.4 million at June 30, 1998, September
30, 1997, and September 30, 1996, respectively.
Office properties and equipment, net were $1.2 million, $1.3 million and
$1.3 million at June 30, 1998, September 30, 1997, and September 30, 1996,
respectively.
Deposit accounts totaled $159.8 million, $160.5 million, and $146.4 million
at June 30, 1998, September 30, 1997, and September 30, 1996, respectively. The
increase from September 30, 1996 to September 30, 1997 was the result of
aggressive marketing. Borrowings from the FHLB-Atlanta decreased from $27.0
million at September 30, 1996 to $22.0 million at September 30, 1997, and to
$13.0 million at June 30, 1998. The planned decrease in borrowings was
accomplished by a planned increase in retail deposits.
Total equity was $15.6 million, $14.6 million, and $13.6 million at June
30, 1998, September 30, 1997, and September 30, 1996, respectively. These
increases were primarily the result of retained earnings.
RESULTS OF OPERATIONS
The earnings of the Bank depend primarily on its level of net interest
income which is the difference between interest earned on the Bank's interest-
earning assets and the interest paid on interest-bearing liabilities. Net
interest income is a function of the Bank's interest rate spread, which is the
difference between the yield earned on interest-earning assets and the rate paid
on interest-bearing liabilities, as well as a function of the average balance of
interest-earning assets as compared to the average balance of interest-bearing
liabilities.
COMPARISON OF OPERATING RESULTS FOR THE NINE MONTHS ENDED JUNE 30, 1998 AND 1997
NET INCOME. Net income was $968,445 for the nine months ended June 30,
1998 compared to $705,210 for the nine months ended June 30, 1997, an increase
of 37.3%. This increase was primarily the result of an increase in net interest
income.
NET INTEREST INCOME. Net interest income increased 16.6% from $3.0 million
for the nine months ended June 30, 1997 to $3.5 million for the nine months
ended June 30, 1998 primarily as a result of the decrease in interest
42
<PAGE>
expense from $7.4 million for the nine months ended June 30, 1997 to $7.0
million for the nine months ended June 30, 1998 as both the average outstanding
balance of interest-bearing liabilities and the rate paid on these liabilities
declined. Although the average balance of interest-earning assets declined from
$192.0 million for the nine months ended June 30, 1997 to $189.2 million for the
nine months ended June 30, 1998, the yield increased from 7.22% to 7.39%
resulting in an increase in interest income from $10.38 million for the nine
months ended June 30, 1997 to $10.46 million for the nine months ended June 30,
1998. The average outstanding balance of interest-bearing liabilities declined
from $178.7 million for the nine months ended June 30, 1997 to $174.5 million
for the nine months ended June 30, 1998. The rate paid on these interest-bearing
liabilities decreased from 5.52% to 5.33% for those periods primarily due to a
$9.6 million reduction in average outstanding balances of FHLB-Atlanta advances.
PROVISION FOR LOAN LOSSES. Provisions for loan losses are charges to
earnings to bring the total allowance for loan losses to a level considered by
management as adequate to provide for estimated loan losses based on
management's evaluation of the collectibility of the loan portfolio, including
the nature of the portfolio, credit concentrations, trends in historical loss
experience, specific impaired loans and economic conditions. The current
allowance for loan losses is considered adequate by management in accordance
with GAAP.
No provision for loan losses was made for either the nine months ended June
30, 1998 or the nine months ended June 30, 1997. In the opinion of management
based on its review and evaluation of loss exposure in the loan portfolio, no
provisions were required.
OTHER INCOME. Other income decreased from $334,344 for the nine months
ended June 30, 1997 to $285,030 for the nine months ended June 30, 1998
primarily due to a decline in loan servicing fees and a decline in gain on loans
sold.
OPERATING EXPENSES. Operating expenses increased from $2.19 million for
the nine months ended June 30, 1997 to $2.24 million for the nine months ended
June 30, 1998, an increase of 2.3%.
INCOME TAXES. The provision for income taxes for the nine months ended
June 30, 1998 was $571,823 compared to $430,674 for the nine months ended June
30, 1997.
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED SEPTEMBER 30, 1997 AND 1996
NET INCOME. Net income was $967,232 for the year ended September 30, 1997
compared to $101,734 a year earlier. Both net interest income and other income
increased and operating expenses declined from $3.98 million to $2.96 million
primarily due to the $1.1 million one-time SAIF special assessment incurred in
fiscal 1996 which was not incurred in fiscal 1997.
NET INTEREST INCOME. Net interest income was $4.03 million for the year
ended September 30, 1997 compared to $3.71 million for the year ended September
30, 1996, an increase of 8.6%. Interest income on loans increased from $11.77
million for the year ended September 30, 1996 to $11.93 million for the year
ended September 30, 1997, an increase of 1.4%. Interest income on mortgage-
backed securities and other investments increased from $1.92 million for the
year ended September 30, 1996 to $1.97 million for the year ended 1997, an
increase of 2.6%. Interest expense decreased from $9.98 million for the year
ended September 30, 1996 to $9.87 million for the year ended September 30, 1997,
a decrease of 1.1%.
PROVISION FOR LOSSES. No provision for loan losses was made in either the
year ended September 30, 1997 or the year ended September 30, 1996. In the
opinion of management based on its review and evaluation of loss exposure in the
loan portfolio, no provisions were required.
OTHER INCOME. Other income increased from $388,177 for the year ended
September 30, 1996 to $415,561 for the year ended September 30, 1997, primarily
due to an increase in gains on sales of loans.
43
<PAGE>
OPERATING EXPENSES. Operating expenses declined from $3.98 million for the
year ended September 30, 1996 to $2.96 million for the year ended September 30,
1997. This decrease was primarily due to the absence of the one-time SAIF
special assessment in the year ended September 30, 1997 as well as a reduction
in SAIF premiums. The premium payments to the SAIF decreased from $1,473,015
for the year ended September 30, 1996 to $116,258 for the year ended September
30, 1997.
INCOME TAXES. The provision for income taxes increased from $11,541 for
the year ended September 30, 1996 to $519,711 for the year ended September 30,
1997 as a result of the higher income.
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED SEPTEMBER 30, 1996 AND
SEPTEMBER 30, 1995
NET INCOME. Net income declined from $1.15 million for the year ended
September 30, 1995 to $101,734 for the year ended September 30, 1996. This
decline was primarily due to a decrease in net interest income of $660,903
coupled with an increase in operating expenses of $1.07 million as a result of
the one-time SAIF special assessment of $1.075 million during the year ended
September 30, 1996.
NET INTEREST INCOME. Net interest income decreased from $4.37 million in
the year ended September 30, 1995 to $3.71 million for the year ended September
30, 1996. This decrease was primarily attributable to a $530,560 decline in
interest income on loans as average loans outstanding decreased from $169.3
million for the year ended September 30, 1995 to $160.4 million for the year
ended September 30, 1996. This decrease in loans resulted from the selling of
fixed rate mortgages to reduce interest rate risk exposure.
PROVISION FOR LOAN LOSSES. No provision for loan losses was made in either
the year ended September 30, 1996 or the year ended September 30, 1995. In the
opinion of management based on its review and evaluation of loss exposure in the
loan portfolio, no provisions were required.
OTHER INCOME. Other income decreased from $434,034 for the year ended
September 30, 1995 to $388,177 for the year ended September 30, 1996 primarily
due to a decline in loan servicing fees.
OPERATING EXPENSES. Operating expenses increased from $2.91 million for
the year ended September 30, 1995 to $3.98 million for the year ended September
30, 1996, primarily due to the one-time SAIF special assessment of $1.075
million.
INCOME TAXES. The provision for income taxes decreased from $743,129 for
the year ended September 30, 1995 to $11,541 for the year ended September 30,
1996 because of lower income subject to taxes.
IMPACT OF INFLATION AND CHANGING PRICES
The Financial Statements and Notes thereto presented herein have been
prepared in accordance with generally accepted accounting principles, which
require the measurement of financial position and operating results in terms of
historical dollars without considering the change in the relative purchasing
power of money over time and due to inflation. The impact of inflation is
reflected in the increased cost of the Bank's operations. Unlike most
industrial companies, nearly all the assets and liabilities of the Bank are
monetary in nature. As a result, interest rates have a greater impact on the
Bank's performance than do the effects of general levels of inflation. Interest
rates do not necessarily move in the same direction or to the same extent as the
price of goods and services.
IMPACT OF NEW REPORTING AND ACCOUNTING STANDARDS
Reporting Comprehensive Income. In June 1997, Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income" (SFAS No. 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 accounting standards, to be displayed in a
financial statement with the same prominence as other financial statements. The
Bank plans to adopt the standard, as required in fiscal 1998.
44
<PAGE>
Disclosures about Segments of an Enterprise and Related Information. In
June 1997, Statements of Financial Accounting Standards No. 131, "Disclosures
about Segments of an Enterprise and Related Information," was issued and
establishes new standards for public companies to report information about
operating segments in annual and interim financial statements. The standard
also requires descriptive information about the way the operating segments are
determined, the products and services provided by the segments and the nature of
differences between reportable segment measurements and those used for the
consolidated enterprise. The Company, if the Offering is successful, would
adopt the standard, as required in fiscal 1998.
Employers' Disclosures about Pensions and Other Postretirement Benefits.
In February 1998, Statement of Financial Accounting Standards No. 132,
"Employers' Disclosures about Pensions and Other Postretirement Benefits" (SFAS
No. 132) which revises employers' disclosures about pension and other
postretirement benefit plans was issued. The standard does not change the
measurement or recognition of those plans. SFAS No. 132 standardizes the
disclosure requirements for pensions and other postretirement benefits 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 viewed as useful
to the reader. The Bank plans to adopt the standard, as required, in fiscal
1998.
Accounting for Derivative Instruments and Hedging Activities. In June 1998,
the FASB issued Statement of Financial Accounting Standards No. 133, "Accounting
for Derivative Instruments and Hedging Activities" (FASB 133). FASB 133
establishes new accounting and reporting requirements for derivative
instruments, including certain derivative instruments embedded in other
contracts and hedging activities. The standard requires all derivatives to be
measured at fair value and recognized as either assets or liabilities in the
statement of condition. Under certain conditions, a derivative may be
specifically designated as a hedge. Accounting for the changes in the fair value
of a derivative depends on the intended use of the derivative and the resulting
designation. The Statement, which is effective for all fiscal quarters of all
fiscal years beginning after June 15, 1999, will not affect the Bank's financial
position or its results of operations.
The bank does not intend to early implement SFAS No. 133 or to reclassify
any of its financial instruments as a result of this statement.
BUSINESS OF THE COMPANY
Prior to the Conversion, the Company will not transact any material
business. Following the Conversion, in addition to directing, planning and
coordinating the business activities of the Bank, the Company will invest the
proceeds of the Conversion which are retained by it. See "USE OF PROCEEDS."
Upon consummation of the Conversion, the Company will have no significant assets
other than the shares of the Bank's capital stock acquired in the Conversion,
the loan receivable held with respect to its loan to the ESOP and that portion
of the net proceeds of the Conversion retained by it. The Company will have no
significant liabilities. Cash flow to the Company will be dependent upon
investment earnings from the net proceeds retained by it, payments on the ESOP
loan and any dividends received from the Bank. Initially, the Company will
neither own nor lease any property, but will instead use the premises, equipment
and furniture of the Bank. At the present time, the Company does not intend to
employ any persons other than its officers (who are not anticipated to be
separately compensated by the Company), but will utilize the support staff of
the Bank from time to time. Additional employees will be hired as appropriate
to the extent the Company expands its business in the future. In the future,
the Company may consider using some of the proceeds of the Conversion retained
by it to expand its operations in its existing primary market and other nearby
areas by acquiring other financial institutions or their branches. The Company
has no current plans with respect to any such acquisitions, however. Management
of the Company believes that it is in the best interest of the Company and its
shareholders for the Company to remain an independent company.
BUSINESS OF THE BANK
GENERAL
The Bank is engaged primarily in the business of attracting deposits from
the general public and using such deposits to make mortgage loans secured by
real estate. The Bank makes one-to-four family residential real estate loans
and, to a lesser extent, multi-family residential loans, nonresidential loans,
construction and development loans, home equity loans, commercial and consumer
loans. The Bank's primary source of revenue is interest income from its lending
activities. The Bank's other major sources of revenue are interest and dividend
income from investments, interest income from its interest-earning deposit
balances in other depository institutions, and transaction and fee income from
its lending and deposit activities. The major expenses of the Bank are interest
on deposits and general and administrative expenses such as employee
compensation and benefits, federal deposit insurance premiums, data processing,
advertising expenses and occupancy expenses.
As a federally-chartered savings bank, the Bank is subject to examination
and regulation by the OTS. The
45
<PAGE>
business and regulation of the Bank are subject to legislative and regulatory
changes from time to time. See "SUPERVISION AND REGULATION -- Regulation of the
Bank."
MARKET AREA
The Bank's primary market area consists of the communities in an
approximately a 10-mile radius around its offices in Salisbury, Rockwell, and
Statesville, North Carolina. These areas are located within Rowan and Iredell
Counties. All three offices are in proximity of Charlotte, North Carolina and
the market area has been and will continue to be affected by this major
metropolitan area.
The U.S. Census' records indicate that the population of Rowan County
increased from 99,186 in 1980 to 110,605 in 1990. The State of North Carolina
Office of Planning estimated the population of Rowan County at 121,003 in 1996
and is currently projecting the population to reach 126,858 in the year 2000 and
139,313 in the year 2010. The same agencies' data show that the population of
Iredell County increased from 82,538 in 1980 to 92,935 in 1990, was estimated at
106,233 in 1996 and is currently projected to reach 112,715 in the year 2000 and
127,714 in the year 2010.
Employment in the Bank's primary market area is highly diversified among
manufacturing, retail and wholesale trade, government, and services. The
largest employers in the Bank's market area are Food Lion (supermarkets),
Trevira (synthetic fibers), Freightliner (heavy truck manufacturer), the
Veterans Administration (hospital), General Electric (lighting panels), ASMO,
N.C., Inc. (electric motors), J. C. Penney (distribution center), and Kewaunee
Scientific (laboratory furniture). Because of the diversification outlined
above, the Bank's primary market area experiences a stable employment pattern.
As of June 30, 1998, there were 64,280 persons in the Rowan County labor force
and the unemployment rate was 3.0%. On the same date, there were 58,820 persons
in the Iredell County labor force and the unemployment rate was 2.3%. The labor
force of the State of North Carolina on June 30, 1998 was 3.84 million with an
unemployment rate of 3.4%. In general, the unemployment rate for the Bank's
market area is below the rate of North Carolina which is usually below the
national rate.
Based on 1997 FDIC comparative data, the Bank had approximately 11.7% of
the deposits in Salisbury and approximately 10.4% of the deposits in Rowan
County. The Bank had approximately 8% of the deposits in Statesville and
approximately 4.7% in Iredell County at the same date.
LENDING ACTIVITIES
GENERAL. The Bank's primary source of revenue is interest income from its
lending activities, consisting primarily of mortgage loans for the purchase or
refinance of one-to-four family residential real property located in its primary
market area. The Bank also makes home equity loans, multi-family residential
loans, nonresidential loans, construction and development loans, commercial and
consumer loans. Over 98.9% of the Bank's loan portfolio, before net items, is
secured by real estate. In addition to interest earned on loans, the Bank
receives fees in connection with loan originations, loan servicing, loan
modifications, late payments, loan assumptions and other miscellaneous services.
Adjustable rate loans are generally originated with the intention that they
will be held in the Bank's loan portfolio. Fixed rate one-to-four family
residential loans are generally originated in conformity with secondary market
purchase requirements and sold in the secondary market. During fiscal 1997,
1996, and 1995, the Bank sold $5.5 million, $4.3 million, and $6.7 million,
respectively, of fixed rate loans in order to better manage its interest rate
risk.
46
<PAGE>
LOAN PORTFOLIO COMPOSITION. The Bank's net loan portfolio totaled
approximately $159.7 million on June 30, 1998 which represented 82.9% of the
Bank's total assets. One-to-four family residential mortgage loans comprised
84.9% of the Bank's loan portfolio, before net items. Home equity loans
represented 9.8% of the loan portfolio, before net items, and loans secured by
construction and development property, multi-family residential property,
nonresidential property, secured commercial loans, and personal loans comprised
the remaining 5.3%.
As of June 30, 1998, 67% of the loans in the Bank's loan portfolio had
adjustable interest rates. The following table sets forth the composition of
the Bank's loan portfolio by type of loan at the date indicated.
47
<PAGE>
<TABLE>
<CAPTION>
-------------------------------------------------
At June 30, 1998 1997 1996
------------------------------- -------------------------------- ----------------
Amount % of Total Amount % of Total Amount
--------------- ------------ --------------- -------------- ---------------
<S> <C> <C> <C> <C> <C>
(Dollars in Thousands)
Type of loan:
Real estate loans:
1-4 family $ 138,295 86.59% $ 140,797 88.30% $ 145,342
Home equity 16,035 10.04% 11,063 6.94% 7,746
Construction and development 3,865 2.42% 5,639 3.54% 3,707
Nonresidential 1,633 1.02% 2,220 1.39% 2,633
Multi-family 1,365 0.85% 1,592 1.00% 1,879
--------------- ------------ --------------- -------------- ---------------
Total real estate loans 161,193 100.92% 161,311 101.16% 161,307
--------------- ------------ --------------- -------------- ---------------
Other loans:
Commercial 1,480 0.93% 1,629 1.02% 1,840
Consumer 271 0.17% 349 0.22% 309
--------------- ------------ --------------- -------------- ---------------
Total other loans 1,751 1.10% 1,978 1.24% 2,149
--------------- ------------ --------------- -------------- ---------------
Total gross loans 162,944 102.02% 163,289 102.40% 163,456
--------------- ------------ --------------- -------------- ---------------
Less:
Construction loans in process 1,844 1.15% 2,447 1.53% 2,619
Deferred loan origination fees 63 0.04% 57 0.04% 26
Unearned income 103 0.06% 104 0.07% 105
Allowance for loan losses 1,224 0.77% 1,223 0.77% 1,215
--------------- ------------ --------------- -------------- ---------------
Total reductions 3,234 2.02% 3,831 2.40% 3,965
--------------- ------------ --------------- -------------- ---------------
Total loans receivable, net $ 159,710 100.00% $ 159,458 100.00% $ 159,491
=============== ============ =============== ============== ===============
<CAPTION>
At September 30,
-----------------------------------------------
1995
------------- ---------------------------------
% of Total Amount % of Total
------------- ---------------- ---------------
<S> <C> <C> <C>
Type of loan:
Real estate loans:
1-4 family 91.13% $ 155,998 92.64%
Home equity 4.86% 4,507 2.68%
Construction and development 2.32% 4,962 2.95%
Nonresidential 1.65% 2,897 1.72%
Multi-family 1.18% 2,302 1.37%
------------- ---------------- ---------------
Total real estate loans 101.14% 170,666 101.35%
------------- ---------------- ---------------
Other loans:
Commercial 1.15% 45 0.03%
Consumer 0.19% 340 0.20%
------------- ---------------- ---------------
Total other loans 1.35% 385 0.23%
------------- ---------------- ---------------
Total gross loans 102.49% 171,051 101.58%
------------- ---------------- ---------------
Less:
Construction loans in process 1.64% 1,248 0.74%
Deferred loan origination fees 0.02% 86 0.05%
Unearned income 0.07% 106 0.06%
Allowance for loan losses 0.76% 1,215 0.72%
------------- ---------------- ---------------
Total reductions 2.49% 2,655 1.58%
------------- ---------------- ---------------
Total loans receivable, net 100.00% $ 168,396 100.00%
============= ================ ===============
</TABLE>
48
<PAGE>
The following table sets forth the time to contractual maturity of the
Bank's loan portfolio at June 30, 1998. Loans which have adjustable rates are
shown as being due in the period during which rates are next subject to change,
while fixed rate and other loans are shown as due in the period of contractual
maturity. Overdrafts on checking accounts are reported as due in one year or
less. The table does not include prepayments or scheduled principal repayments.
Amounts in the table are net of loans in process and are net of unamortized loan
fees.
<TABLE>
<CAPTION>
At June 30, 1998
-----------------------------------------
More Than
1 Year 1 Year to More Than
or Less 5 Years 5 Years Total
-------- --------- --------- ---------
<S> <C> <C> <C> <C>
(In Thousands)
TOTAL LOANS:
- ------------
Real estate loans: $ 983 $ 516 $45,482 $ 46,981
1-4 family - fixed 48,296 41,922 697 90,915
1-4 family - adjustable -- 131 1,195 1,326
Home Equity - fixed 15,000 -- -- 15,000
Home Equity - adjustable 1,093 638 241 1,972
Construction and Development - fixed 36 11 -- 47
Construction and Development - adjustable 7 65 1,086 1,158
Nonresidential - fixed 401 18 -- 419
Nonresidential - adjustable -- 15 -- 15
Residential multi-family - fixed 703 632 15 1,350
Residential multi-family - adjustable
Commercial loans -- 31 1,449 1,480
Consumer loans 251 -- 20 271
Less:
Allowance for loan losses (1,224) -- -- (1,224)
------- ------- ------- --------
Totals $65,546 $43,979 $50,185 $159,710
======= ======= ======= ========
</TABLE>
The following table sets forth the dollar amount at June 30, 1998 of all
loans maturing or repricing on or after June 30, 1999 which have fixed or
adjustable interest rates.
<TABLE>
<CAPTION>
Fixed Adjustable
Rates Rates
------- ----------
(In Thousands)
<S> <C> <C>
Real estate loans $49,369 $43,295
Commercial loans 1,480 --
Other loans 20 --
------- -------
Totals $50,869 $43,295
======= =======
</TABLE>
49
<PAGE>
Scheduled contractual principal repayments of loans do not reflect the
actual life of such assets. The average life of a loan is substantially less
than its contractual terms because of prepayments. In addition, due-on-sale
clauses on loans generally give the Bank the right to declare loans immediately
due and payable in the event, among other things, that the borrower sells the
real property subject to the mortgage and the loan is not repaid. The average
life of mortgage loans tends to increase, however, when current mortgage loan
market rates are substantially higher than rates on existing mortgage loans and,
conversely, decrease when rates on existing mortgage loans are substantially
higher than current mortgage loan market rates. Furthermore, management
believes that a significant number of the Bank's residential mortgage loans are
outstanding for a period less than their contractual terms because of the
transitory nature of many of the borrowers who reside in its primary market
area.
ORIGINATION, PURCHASE, AND SALE OF LOANS. The Bank generally has
originated loans in Rowan and Iredell Counties. Some loans have been originated
in Cabarrus and Mecklenburg Counties which are contiguous with the Bank's
primary market area of Rowan and Iredell Counties.
The Bank purchased $10.9 million in single family first mortgage loans in
fiscal 1995 from a Greensboro financial firm. These loans are secured by
properties in Greensboro and Charlotte, North Carolina. These loans contribute
to the Bank's low asset yield because the mortgages have not repriced to current
market rates and were originated at yields below current levels. No loans have
been purchased since fiscal 1995. However, the Board of Directors may resume
the purchase of loans to increase the size of the loan portfolio.
The Bank originates fixed rate conventional, conforming single-family loans
with the intent of selling those loans in the secondary market to reduce
interest rate risk exposure.
The table below sets forth the Bank's loan origination, purchase and sale
activity and loan portfolio repayment experience during the periods indicated.
50
<PAGE>
<TABLE>
<CAPTION>
Nine Months Ended
June 30, Year Ended September 30,
----------------------- ------------------------------------
1998 1997 1997 1996 1995
---------- ---------- ---------- ---------- ----------
(In Thousands)
<S> <C> <C> <C> <C> <C>
Loans receivable, net, beginning of period $ 159,458 $ 159,491 $ 159,491 $ 168,396 $ 156,297
---------- ---------- ---------- ---------- ----------
Loan originations:
1-4 family 27,990 16,192 21,554 16,204 15,491
Home equity 4,972 2,848 3,317 3,239 1,710
Construction and development 3,930 5,507 6,692 2,327 10,105
Nonresidential - - - - -
Multi-family - - - - -
Commercial - - - 1,800 -
Consumer 172 148 343 123 24
---------- ---------- ---------- ---------- ----------
Total loan originations 37,064 24,695 31,906 23,693 27,330
---------- ---------- ---------- ---------- ----------
Loans purchased - - - - 10,854
Loan sales (3,087) (5,246) (5,508) (4,319) (6,690)
Principal repayments (33,717) (17,318) (26,392) (28,339) (19,481)
Other changes, net (8) (21) (39) 60 86
---------- ---------- ---------- ---------- ----------
Loans receivable, net, end of period $ 159,710 $ 161,601 $ 159,458 $ 159,491 $ 168,396
========== ========== ========== ========== ==========
</TABLE>
51
<PAGE>
ONE-TO-FOUR FAMILY RESIDENTIAL REAL ESTATE LENDING. The Bank's primary
lending activity, which it intends to continue to emphasize, is the origination
of fixed and adjustable rate first mortgage loans to enable borrowers to
purchase or refinance one-to-four family residential real property. Consistent
with the Bank's emphasis on being a community-oriented financial institution, it
is and has been the Bank's strategy to focus its lending efforts in its primary
market. On June 30, 1998, approximately 85.8% of the Bank's real estate loan
portfolio, before net items, consisted of one-to-four family residential real
estate loans. These include both loans secured by detached single-family
residences and condominiums and loans secured by housing containing not more
than four separate dwelling units. Of such loan amounts, 67% had adjustable
interest rates.
The Bank originates conventional mortgage loans secured by owner-occupied
property having terms of up to 30 years in amounts of up to 95% of the value of
the property. Bank policy requires private mortgage insurance on the amount of
the loan which exceeds 80% of the value of the property. The loans have both
fixed and adjustable rates. The fixed rate loans are generally originated for
sale. Some of such loans are sold "servicing retained" and others are sold
"servicing released." The interest rates on adjustable rate loans are generally
adjustable every year after a period of one, three, or five years and are tied
to the average weekly yield on the United States Treasury securities adjusted to
a constant maturity or the 11th District Cost of Funds. The loans have rate
caps which limit the amount of change at the time of each adjustment and over
the life of each loan.
The Bank generally requires title insurance for its one-to-four family
residential loans and requires that fire and extended coverage casualty
insurance (and, if appropriate, flood insurance) be maintained in an amount at
least equal to the loan amount or replacement cost of the improvements on the
property securing the loans, whichever is greater.
HOME EQUITY LENDING. At June 30, 1998, the Bank had approximately $15
million in home equity line of credit loans, representing approximately 9.2% of
its portfolio, before net items. In addition, at such date, the Bank had
unfunded home equity lines of credit totaling $13.8 million. The Bank's home
equity lines of credit have adjustable interest rates tied to Wall Street
Journal Prime plus a margin. The home equity lines of credit require the payment
of interest monthly, and all outstanding amounts must be paid in full at the end
of 15 years. Home equity lines of credit are generally secured by subordinate
liens against residential real property. The Bank requires title opinions from
attorneys in connection with these loans. The Bank requires that fire and
extended coverage casualty insurance (and, if appropriate, flood insurance) be
maintained in an amount at least sufficient to cover its loan. Home equity lines
are generally limited so that the amount of such loans, along with any senior
indebtedness, does not exceed 90% of the value of the real estate security to
borrowers with excellent credit history. Under certain circumstances, the Bank
will provide lines of credit up to 100% of the value of the real estate security
to borrowers with excellent credit history.
The Bank had approximately $1.43 million in closed-end home equity loans on
June 30, 1998. These loans have maximum terms of 15 years and are usually made
for home improvements. These loans represent 0.9% of the Bank's loan portfolio,
before net items.
CONSTRUCTION LENDING. The Bank makes construction loans for the
construction of single-family dwellings. The aggregate outstanding balance of
such loans on June 30, 1998 was approximately $3.9 million, representing
approximately 2.4% of the Bank's loan portfolio, before net items, and included
construction loans in process of approximately $1.8 million. Some of these
loans were made to persons who are constructing properties for the purpose of
occupying them; others were made to builders who were constructing properties
for sale. Loans made to builders are generally "pure construction" loans which
require the payment of interest during the construction period of generally one
year or less and the payment of the principal in full at the end of the
construction period. Loans made to individual property owners are both pure
construction loans and "construction-permanent" loans which generally provide
for the payment of interest only during a construction period, after which the
loans convert to a permanent loan at fixed or adjustable interest rates having
terms similar to one-to-four family residential loans.
52
<PAGE>
Construction loans for one-to-four family real estate to be occupied by the
borrower generally have a maximum loan-to-value ratio of 80% of the appraised
value of the property. Title insurance is generally required for construction
loans. In addition, the Bank generally requires builders risk or casualty
insurance (and, if appropriate, flood insurance) on such loans.
The Bank occasionally makes loans for the development of land in
preparation for the construction of single family properties. The aggregate
outstanding balance of such loans on June 30, 1998, was $630,400, representing
0.4% of the Bank's loan portfolio, before net items. The maximum loan-to-value
for this type loan is 65%.
NONRESIDENTIAL LENDING. On June 30, 1998, the Bank had $1.63 million
outstanding in loans secured by nonresidential properties, comprising
approximately 1.0% of its loan portfolio, before net items. These loans are
secured by office, retail, and other commercial real estate and by church
properties in the Bank's primary market area and have either fixed or adjustable
interest rates. These loans generally do not exceed 75% of the appraised value
of the real estate securing the loans. These loans have terms of up to 15
years. The adjustable rate loans generally use the index and rate change
limitations as are used in one-to-four family residential lending. See "--One-
to-Four Family Residential Lending."
The Bank generally requires title insurance in connection with its
nonresidential real estate loans. The Bank also requires that fire and extended
coverage casualty insurance (and, if appropriate, flood insurance) be maintained
in an amount at least equal to the loan amount or the replacement cost of the
improvements on the property securing the loans, whichever is greater.
The Board of Directors is currently evaluating the opportunities available
in the market area for nonresidential lending. The Board may increase efforts
in this area to diversify the loan portfolio.
MULTI-FAMILY RESIDENTIAL LENDING. On June 30, 1998, the Bank had $1.37
million outstanding in loans secured by multi-family residential properties,
comprising approximately 0.84% of its loan portfolio, before net items. These
loans are secured by apartments and have fixed and adjustable interest rates.
These loans generally do not exceed 75% of the appraised value of the real
estate securing the loans. Multi-family residential loans have terms of up to
15 years. The loans generally use the same index and rate change limitations as
are used in one-to-four family residential lending. See "-- One-to-Four Family
Residential Real Estate Lending."
The Bank generally requires title insurance in connection with its multi-
family residential real estate loans. The Bank also requires that fire and
extended coverage casualty insurance (and, if appropriate, flood insurance) be
maintained in an amount at least equal to the loan amount or the replacement
cost of the improvements on the property securing the loans, whichever is
greater.
The Board of Directors is currently evaluating the opportunities available
in the market area for multi-family residential lending. The Board may increase
efforts in this area to diversify the loan portfolio.
COMMERCIAL LENDING. Although infrequent, the Bank has made commercial
loans. Those loans generally require publicly-traded common stock as security
and are limited to a margin of 60%. As of June 30, 1998, commercial loans
amounted to $1.48 million, or 0.9% of gross loans outstanding, before net items.
The Board of Directors is currently evaluating the opportunities available in
the market area for commercial lending. The Board may increase efforts in this
area to diversify the loan portfolio.
CONSUMER LENDING. At June 30, 1998, the Bank's consumer loan portfolio
amounted to $271,000, or 0.17% of gross loans outstanding, before net items.
The Board of Directors is currently evaluating the opportunities available in
the market area for consumer lending. The Board may increase efforts in this
area to diversify the loan portfolio.
53
<PAGE>
LOAN SOLICITATION, PROCESSING AND UNDERWRITING. Loan originations are
derived from a number of sources such as referrals from real estate brokers, the
Bank's depositors and borrowers, builders, attorneys, walk-in customers and in
some instances, other lenders.
During its loan approval process, the Bank assesses the applicant's ability
to make principal and interest payments on the loan and the value of the
property securing the loan. The Bank obtains detailed written loan applications
to determine the borrower's ability to repay and verifies responses on the loan
application through the use of credit reports, financial statements, and other
confirmations. The Bank also obtains information concerning the income,
financial condition, employment and the credit history of the applicant. Under
current practice, the responsible officer or loan officer of the Bank analyzes
the loan application and the property involved, and an appraiser inspects and
appraises the property. The Bank generally requires an independent fee
appraisal on loans secured by a first mortgage on real estate. In some
instances, tax value is used for second lien position loans.
All real estate loans, except certain home equity loans, must be approved
by a Bank underwriter. All loans and lending relationships in excess of
$250,000 must receive full Board approval. All loan originations for the month
are reported monthly to the Board of Directors.
Normally, upon approval of a residential mortgage loan application, the
Bank gives a commitment to the applicant that it will make the approved loan at
a stipulated rate any time within 45 days of the commitment date. The loan is
typically funded at such rate of interest and on other terms which are based on
market conditions existing as of the date of the commitment. No points are
charged unless the loan is actually closed. Approximately 15 percent of
commitments that are issued expire without the loan being closed.
INTEREST RATES, TERMS, POINTS AND FEES. Interest rates and fees charged on
the Bank's loans are affected primarily by the market demand for loans,
competition, the supply of money available for lending purposes and the Bank's
cost of funds. These factors are affected by, among other things, general
economic conditions and the policy of the federal government, including the
Federal Reserve, tax policies and governmental budgetary matters. In addition
to earning interest on loans, the Bank receives fees in connection with
originating loans. Fees for loan modifications, late payments, loan assumptions
and other miscellaneous services in connection with loans are also charged by
the Bank.
NON-PERFORMING ASSETS AND ASSET CLASSIFICATION. When a borrower fails to
make a required payment on a loan and does not cure the delinquency promptly,
the loan is classified as delinquent. In this event, the normal procedure
followed by the Bank is to make contact with the borrower at prescribed
intervals in an effort to bring the loan to a current status, and late charges
are assessed as allowed by law. Interest on loans is recorded as borrowers'
monthly payments become due. Accrual of interest on loans is suspended when
interest becomes 90 days past due or earlier when, in management's judgment,
doubts exist as to the collectibility of additional interest. Interest is
reserved by establishing an allowance for uncollected interest when a loan
becomes delinquent 90 days or more or earlier. Loans begin accruing interest
again when interest is brought current. In most cases, delinquencies are cured
promptly. If a delinquency is not cured, the Bank normally, subject to any
required prior notice to the borrower, commences foreclosure proceedings. If the
loan is not reinstated within the time permitted for reinstatement, or the
property is not redeemed prior to sale, the property may be sold at a
foreclosure sale. In foreclosure sales, the Bank may acquire title to the
property through foreclosure, in which case the property so acquired is offered
for sale and may be financed by the Bank at prevailing market terms. Any
property acquired as a result of foreclosure, or by deed in lieu of foreclosure,
is classified as real estate owned until such time as it is sold or otherwise
disposed of by the Bank to recover its investment. As of June 30, 1998, the Bank
had no real estate acquired in settlement of loans. Real estate acquired
through, or in lieu of, loan foreclosure is initially recorded at the lower of
cost or fair value at the date of foreclosure, establishing a new cost basis.
After foreclosure, valuations are periodically performed by an independent
appraiser, and the real estate is carried at the lower of cost or fair value
minus costs to sell. Costs relating to the development and improvement of the
property are capitalized, and costs relating to holding the property are charged
to expenses.
54
<PAGE>
The following table sets forth information with respect to non-performing
assets by the Bank, including nonaccrual loans and foreclosed real estate at the
dates indicated.
<TABLE>
<CAPTION>
At June 30, At September 30,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C>
(Dollars in Thousands)
Nonaccrual loans $ 130 $ 211 $ 348 $ 2 $ --
Accruing loans past due 90 days or more -- -- -- -- --
Foreclosed real estate -- 62 -- 128 49
-------- -------- -------- -------- --------
Total non-performing assets $ 130 $ 273 $ 348 $ 130 $ 49
======== ======== ======== ======== ========
Non-performing loans to total gross loans 0.08% 0.13% 0.21% --% --%
======== ======== ======== ======== ========
Non-performing assets to total assets 0.07% 0.14% 0.17% 0.07% 0.02%
======== ======== ======== ======== ========
Total assets $192,715 $200,677 $199,616 $190,233 $202,170
Total gross loans $162,944 $164,966 $163,289 $163,456 $171,051
</TABLE>
During the nine months ended June 30, 1998 and the fiscal year ended
September 30, 1997, gross interest income of $25,680 and $7,625, respectively,
would have been recorded on non-performing assets if such assets had been
current in accordance with their terms and had been outstanding throughout the
period or since origination, if held for part of such period. The amount of
gross interest income actually recorded on such non-performing assets during the
periods was $7,700 and $3,856, respectively.
Applicable regulations require the Bank to "classify" its own assets on a
regular basis. In addition, in connection with examinations of savings
institutions, regulatory examiners have authority to identify problem assets
and, if appropriate, classify them. Problem assets are classified as
"substandard," "doubtful" or "loss," depending on the presence of certain
characteristics as discussed below. The Bank also identifies assets which
possess credit deficiencies or potential weaknesses deserving close attention by
management. These assets are listed as "special mention" and do not warrant
adverse classification. At June 30, 1998, the Bank had four loans with an
aggregate outstanding balance of approximately $170,000 classified as "special
mention."
An asset is considered "substandard" if not adequately protected by the
current net worth and paying capacity of the obligor or the collateral pledged,
if any. "Substandard" assets include those characterized by a well-defined
weakness with possible risk of loss if the deficiency is not corrected. Assets
classified as "doubtful" have all of the weaknesses inherent in those classified
"substandard" with the added characteristic that the weaknesses present make
"collection or liquidation in full," on the basis of currently existing facts,
conditions, and values, "highly questionable." Assets classified "loss" are
those considered "uncollectible" and of such little value that their continuance
as assets without the establishment of a loss reserve is not warranted.
As of June 30, 1998, the Bank had approximately $268,000 loans internally
classified as "substandard," no loans classified as "doubtful" and no loans
classified as "loss." Total classified loans as of September 30, 1997 and 1996
were approximately $348,000 and approximately $130,000, respectively.
55
<PAGE>
The following table sets forth at June 30, 1998, the Bank's aggregate
carrying value of the assets classified as "substandard," "doubtful," "loss," or
criticized as "special mention."
<TABLE>
<CAPTION>
Special Mention List Substandard Doubtful Loss
-------------------- -------------- -------------- --------------
Number Amount Number Amount Number Amount Number Amount
--------- --------- ------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
(Dollars in Thousands)
Real estate loans:
1-4 family 4 $170 3 $254 -- $ -- -- $ --
Home equity -- -- 1 14 -- -- -- --
Construction and development -- -- -- -- -- -- -- --
Nonresidential -- -- -- -- -- -- -- --
Multi-family -- -- -- -- -- -- -- --
--- ---- --- ---- ------ ------ ------ ------
Total real estate loans 4 170 4 268 -- -- -- --
--- ---- --- ---- ------ ------ ------ ------
Other loans:
Commercial -- -- -- -- -- -- -- --
Consumer -- -- -- -- -- -- -- --
--- ---- --- ---- ------ ------ ------ ------
Total other loans -- -- -- -- -- -- -- --
--- ---- --- ---- ------ ------ ------ ------
Total 4 $170 4 $268 -- $ -- -- $ --
=== ==== === ==== ====== ====== ====== ======
</TABLE>
ALLOWANCE FOR LOAN LOSSES. In originating loans, the Bank recognizes that
credit losses will be experienced and that the risk of loss will vary with,
among other things, the type of loan being made, the creditworthiness of the
borrower over the term of the loan and, in the case of a secured loan, the
quality of the security for the loan as well as general economic conditions. It
is management's policy to maintain an allowance for loan losses based on, among
other things, the Bank's historical loan loss experience, evaluation of economic
conditions and regular reviews of delinquencies and loan portfolio quality.
Specific allowances are provided for individual loans when ultimate collection
is considered questionable by management after reviewing the current status of
loans which are contractually past due and considering the net realizable value
of the security for the loans.
Management continues to actively monitor the Bank's asset quality, to
charge off loans against the allowance for loan losses when appropriate and to
provide specific loss reserves when necessary. Although management believes it
uses the best information available to make determinations with respect to the
allowance for loan losses, future adjustments may be necessary if economic
conditions differ substantially from the economic conditions in the assumptions
used in making the initial determinations.
56
<PAGE>
The following table describes the activity related to the Bank's allowance
for loan losses for the periods indicated.
<TABLE>
<CAPTION>
Nine Months Ended
June 30, Year Ended September 30,
----------------- -------------------------
1998 1997 1997 1996 1995
-------- ------- ------- ------- -------
<S> <C> <C> <C> <C> <C>
(In Thousands)
Balance, beginning of period $1,223 $1,216 $1,216 $1,215 $1,205
Provision for loan losses -- -- -- -- --
Charge-offs -- -- -- -- --
Recoveries 1 9 7 1 10
------ ------ ------ ------ ------
Balance, end of period $1,224 $1,225 $1,223 $1,216 $1,215
====== ====== ====== ====== ======
</TABLE>
The following table sets forth the composition of the allowance for loan
losses by type of loan at the dates indicated. The allowance is allocated to
specific categories of loans for statistical purposes only, and may be applied
to loan losses incurred in any loan category.
57
<PAGE>
INVESTMENT SECURITIES
Interest and dividend income from investment securities generally provides
the second largest source of income to the Bank after interest on loans. In
addition, the Bank receives interest income from deposits in other financial
institutions. At June 30, 1998, the Bank's investment portfolio totaled $26.5
million and consisted of U.S. government and agency securities, interest-earning
deposits in other financial institutions and stock of the FHLB of Atlanta.
Investments are classified in three categories and accounted for as
follows: (1) debt securities that the entity has the positive intent and ability
to hold to maturity are classified as held-to-maturity and reported at amortized
cost; (2) debt and equity securities that are bought and held principally for
the purpose of selling them in the near term are classified as trading
securities and reported at fair value, with net unrealized gains and losses
included in earnings; and (3) debt and equity securities not classified as
either held-to-maturity or trading securities are classified as securities
available-for-sale and reported at fair value, with unrealized gains and losses
excluded from earnings and reported as a separate component of equity. Net
unrealized securities gains on the securities available-for-sale of $120,539,
net of related deferred tax assets of $77,605, are reported as a separate
component of equity in the Bank's financial statements at June 30, 1998. The
Bank established a trading account to satisfy the investment requirements of a
rabbi trust related to a deferred compensation plan. Given the relative
immateriality of these amounts, they are classified as other assets within the
statement of condition.
The amortized cost of securities classified as held-to-maturity or
available-for-sale is adjusted for amortization of premiums and accretion of
discounts to maturity. Such amortization is included in interest income from
investments. Interest and dividends are included in interest income from
investments. Realized gains and losses, and declines in value judged to be other
than temporary are included in net securities gains (losses). The cost of
securities sold is based on the specific identification method.
As a member of the FHLB of Atlanta, the Bank is required to maintain an
investment in stock of the FHLB of Atlanta equal to the greater of 1% of the
Bank's outstanding residential mortgage loans and similar obligations or 5% of
its outstanding advances from the FHLB of Atlanta. No ready market exists for
such stock, which is carried at cost. As of June 30, 1998, the Bank was in
compliance with this requirement with an investment in stock of the FHLB of
Atlanta was $1.8 million.
OTS regulations require the Bank to maintain a minimum amount of liquid
assets which may be invested in specified short-term securities. See
"SUPERVISION AND REGULATION -- Regulation of the Bank -- Liquidity." The Bank is
also permitted to make certain other securities investments.
The Bank's current investment policy provides that investment decisions
will be made jointly by Ronald E. Bostian, President and Chief Executive
Officer, and Dianne Hawkins, Vice President, Controller and Treasurer, and
reviewed monthly by the Board of Directors. The investment policy provides that
the objectives of the investment portfolio are to: (i) establish an acceptable
level of interest rate and credit risk for all investments; (ii) generate an
acceptable rate of return on investments; (iii) provide for adequate levels of
liquidity for the Bank; and (iv) provide guidance from the Board of Directors to
management on the investments desired for the Bank.
Permitted investments include FHLB daily time deposits, FHLB term deposits,
insured certificates of deposit, government securities and government agency
securities.
58
<PAGE>
<TABLE>
<CAPTION>
-----------------------------------
At June 30, 1998 1997
------------------------------------ -----------------------------------
Percent of Amount Percent of Amount
Allowance of Loans Allowance of Loans
Amount of to Total to Gross Amount of to Total to Gross
Allowance Allowance Loans Allowance Allowance Loans
--------- ---------- -------- --------- ---------- --------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Type of loan:
Real estate loans:
1-4 family $ 137 11.19% 84.87% $ 396 32.38% 86.23%
Home equity 484 39.55% 9.84% - - 6.78%
Construction and development 115 9.40% 2.37% 109 8.91% 3.45%
Nonresidential 52 4.25% 1.00% 16 1.31% 1.36%
Multi-family 40 3.27% 0.84% 4 0.33% 0.97%
--------- --------- -------- --------- -------- -------
Total real estate loans 828 67.66% 98.93% 525 42.93% 98.79%
--------- --------- -------- --------- -------- -------
Other loans:
Commercial 44 3.59% 0.91% - - 1.00%
Consumer 2 0.16% 0.17% 96 7.85% 0.21%
--------- --------- -------- --------- -------- -------
Total other loans 46 3.75% 1.07% 96 7.85% 1.21%
--------- --------- -------- --------- -------- -------
Unallocated 350 28.59% - 602 49.22% -
--------- --------- -------- --------- -------- -------
Total allowance for loan losses $ 1,224 100.00% 100.00% $ 1,223 100.00% 100.00%
========= ========= ======== ========= ======== =======
<CAPTION>
At September 30,
----------------------------------------------------------------------------
1996 1995
------------------------------------ -----------------------------------
Percent of Amount Percent of Amount
Allowance of Loans Allowance of Loans
Amount of to Total to Gross Amount of to Total to Gross
Allowance Allowance Loans Allowance Allowance Loans
--------- ---------- -------- --------- ---------- --------
<S> <C> <C> <C> <C> <C> <C>
Type of loan:
Real estate loans:
1-4 family $ 393 32.35% 88.92% $ 429 35.31% 91.20%
Home equity - - 4.74% - - 2.63%
Construction and development 52 4.28% 2.27% 173 14.24% 2.90%
Nonresidential 46 3.79% 1.61% 76 6.26% 1.69%
Multi-family 6 0.49% 1.15% 9 0.74% 1.35%
--------- -------- ------- --------- -------- -------
Total real estate loans 497 40.91% 98.69% 687 56.55% 99.77%
--------- -------- ------- --------- -------- -------
Other loans:
Commercial - - 1.13% - - 0.03%
Consumer 105 8.64% 0.19% 17 1.40% 0.20%
--------- -------- ------- --------- -------- -------
Total other loans 105 8.64% 1.31% 17 1.40% 0.23%
--------- -------- ------- --------- -------- -------
Unallocated 613 50.45% - 511 42.05% -
--------- -------- ------- --------- -------- -------
Total allowance for loan losses $ 1,215 100.00% 100.00% $ 1,215 100.00% 100.00%
========= ======== ======= ========= ======== =======
</TABLE>
<PAGE>
The following table sets forth certain information regarding the Bank's
investment portfolio at the dates indicated.
<TABLE>
<CAPTION>
At September 30,
----------------------------
At June 30, 1998 1997 1996 1995
---------------- -------- -------- --------
<S> <C> <C> <C> <C>
(In Thousands)
Securities available for sale:
U.S. government and agencies $ 7,830 $10,335 $12,492 $ --
Securities held to maturity:
U.S. government and agencies 1,871 2,328 2,521 15,454
Other:
Interest-earning deposits 10,960 14,164 8,118 5,162
Term Federal Funds 4,000 6,100 910 7,200
Federal Home Loan Bank stock 1,825 1,825 1,825 1,825
------- ------- ------- -------
Total $26,486 $34,752 $25,866 $29,641
======= ======= ======= =======
</TABLE>
The following table sets forth certain information regarding the carrying
value, weighted average yields and contractual maturities of the Bank's
investment portfolio as of June 30, 1998. Mortgage-backed securities are not
due at a single maturity date, therefore, the table does not consider
prepayment of the underlying loans.
60
<PAGE>
<TABLE>
<CAPTION>
After One Year Through After Five Years
One Year or Less Five Years Through Ten Years After Ten Years
----------------- ---------------------- ------------------ ---------------
Weighted Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield Value Yield
-------- -------- -------- ------------ -------- --------- --------- -------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Securities available for sale:
U.S. government and agencies $ - - $ 666 6.24% $ 185 9.02% $ 6,979 6.64%
Securities held to maturity:
U.S. government and agencies - - 1,132 7.07% - - 739 7.20%
Other:
Interest-earning deposits 10,960 6.14% - - - - - -
Term Federal Funds 4,000 5.55% - - - - - -
Federal Home Loan Bank stock - - - - - - 1,825 7.50%
------- ------- ------- ------- ------- ------ --------- -------
Total $ 14,960 5.98% $ 1,798 6.76% $ 185 9.02% $ 9,543 6.85%
======= ======= ======= ======= ======= ====== ========= =======
<CAPTION>
Total
--------------------
Weighted
Carrying Average
Value Yield
--------- -------
<S> <C> <C>
Securities available for sale:
U.S. government and agencies 7,830 6.66%
6.66%
Securities held to maturity:
U.S. government and agencies 1,871 7.12%
Other:
Interest-earning deposits 10,960 6.14%
Term Federal Funds 4,000 5.55%
Federal Home Loan Bank stock 1,825 7.50%
--------- --------
Total $ 26,486 6.37%
========= ========
</TABLE>
61
<PAGE>
DEPOSITS AND BORROWINGS
GENERAL. Deposits are one of the primary sources of the Bank's funds for
lending and other investment purposes. In addition to deposits, the Bank derives
funds from loan principal payments and prepayments, interest payments,
investment income and principal payments and prepayments, interest from its own
interest-earning deposits, interest income and advances from the FHLB of Atlanta
and otherwise from its operations. Loan repayments are a relatively stable
source of funds while deposit inflows and outflows may be significantly
influenced by general interest rates and money market conditions. Borrowings may
be used on a short-term basis to compensate for reductions in the availability
of funds from other sources. They may also be used on a longer term basis for
general business purposes.
DEPOSITS. The Bank attracts both short-term and long-term deposits from
the general public by offering a variety of accounts and rates. The Bank offers
passbook savings accounts, negotiable order of withdrawal accounts, money market
demand accounts, non-interest-bearing accounts, and fixed interest rate
certificates with varying maturities. At June 30, 1998, 69.8% of the Bank's
deposits consisted of certificate accounts, 23.9% consisted of passbook savings
accounts, 5.5% consisted of interest-bearing transaction accounts and 0.86%
consisted of noninterest-bearing transaction accounts. Deposit flows are greatly
influenced by economic conditions, the general level of interest rates,
competition, and other factors. The Bank utilizes traditional marketing methods
to attract new customers and savings deposits, including print, television
advertising and direct mailings. The Bank plans to emphasize passbook and
checking accounts as a source of lower cost funds. The Bank recently began
issuing ATM cards to its customers as a way of increasing the number and
balances of such accounts.
The following table sets forth information relating to the Bank's deposit
flows during the periods shown and total deposits at the end of such periods.
<TABLE>
<CAPTION>
At or for the Nine Months At or for the Year
Ended June 30, Ended September 30,
-------------------------- ------------------------------
1998 1997 1997 1996 1995
------------- ----------- -------- --------- ---------
<S> <C> <C> <C> <C> <C>
(In Thousands)
Total deposits at beginning of period $160,493 $146,450 $146,450 $159,309 $159,480
Net increase (decrease) before interest
credited (5,147) 7,390 8,048 (18,384) (4,769)
Interest credited 4,473 4,408 5,995 5,525 4,598
-------- -------- -------- -------- --------
Total deposits at end of period $159,819 $158,248 $160,493 $146,450 $159,309
======== ======== ======== ======== ========
</TABLE>
The following table sets forth certain other information regarding the
Bank's savings deposits at the dates indicated.
62
<PAGE>
<TABLE>
<CAPTION>
-------------------------------------------
At June 30, 1998 1997
--------------------------------- -------------------------------- ---------
Weighted Weighted
Average % of Average % of
Amount Rate Deposits Amount Rate Deposits Amount
--------- ---------- ---------- -------- ---------- ---------- --------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C>
Deposit accounts:
Passbook savings $ 38,194 4.52% 23.90% $ 31,395 4.52% 19.56% $ 26,134
NOW accounts 5,798 1.42% 3.63% 5,248 1.35% 3.27% 4,109
Money market deposit accounts 2,932 2.50% 1.83% 3,125 2.50% 1.95% 3,547
Non-interest bearing accounts 1,376 -% 0.86% 1,550 -% 0.97% 866
--------- -------- -------- -------- --------- --------- --------
Total demand deposits 48,300 3.90% 30.22% 41,318 3.79% 25.75% 34,656
--------- -------- -------- -------- --------- --------- --------
Certificates of deposit 111,519 5.51% 69.78% 119,175 5.66% 74.25% 111,794
--------- -------- -------- -------- --------- --------- --------
Total deposits $ 159,819 5.02% 100.00% $160,493 5.18% 100.00% $146,450
========= ======== ======== ======== ========= ========= ========
<CAPTION>
1996 1995
--------------------------------- --------------------
Weighted Weighted
Average % of Average
Amount Rate Deposits Amount Rate
--------- ---------- ---------- -------- ----------
<S> <C> <C> <C> <C> <C>
Deposit accounts:
Passbook savings 4.44% 17.84% $ 18,735 4.15% 11.76%
NOW accounts 1.68% 2.81% 3,892 1.71% 2.44%
Money market deposit accounts 2.56% 2.42% 4,368 2.71% 2.74%
Non-interest bearing accounts -% 0.59% 876 -% 0.55%
-------- -------- -------- ------- ---------
Total demand deposits 3.81% 23.66% 27,871 3.45% 17.49%
-------- -------- -------- ------- ---------
Certificates of deposit 5.71% 76.34% 131,438 5.81% 82.51%
-------- -------- -------- ------- ---------
Total deposits 5.26% 100.00% $ 159,309 5.40% 100.00%
======== ======== ======== ======= =========
</TABLE>
63
<PAGE>
The following table presents the maturities by rates paid on all
certificates of deposit as of June 30, 1998.
<TABLE>
<CAPTION>
Amount Due During the Year Ending June 30,
---------------------------------------------------------
2003 and
1999 2000 2001 2002 thereafter Total
------ ------ ------ ------ ---------- -----
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Certificates of deposit
2.00% to 3.99% $ 2,411 $ -- $ -- $ -- $ -- $ 2,411
4.00% to 5.99% 61,650 20,166 4,327 113 5 86,261
6.00% to 7.99% 14,188 6,514 845 100 182 21,829
8.00% to 9.99% 165 650 203 -- -- 1,018
------- ------- ------ ----- -------- --------
Total $78,414 $27,330 $5,375 $ 213 $ 187 $111,519
======= ======= ====== ===== ======== ========
</TABLE>
As of June 30, 1998, the aggregate amount of time certificates of deposit
in amounts greater than or equal to $100,000 outstanding was approximately $18.1
million, representing 16.26% of all certificates of deposit on such date.
Management believes that most of these deposits are held by long-time, local
customers of the Bank. The Bank also holds deposits of state and local
governments which are subject to rebidding from time to time and to
securitization requirements. The following table presents the maturity of these
time certificates of deposit greater than or equal to $100,000 at such date.
<TABLE>
<CAPTION>
At
June 30, 1998
--------------
(In Thousands)
<S> <C>
3 Months or less $ 2,097
Over 3 months through 6 months 2,931
Over 6 months through 12 months 7,185
Over 12 months 5,921
-------
Total $18,134
=======
</TABLE>
BORROWINGS. The Bank's principal source of long-term borrowings are
advances from the FHLB of Atlanta. The FHLB system functions in a reserve credit
capacity for savings institutions. As a member, the Bank is required to own
capital stock in the FHLB of Atlanta and is authorized to apply for advances
from the FHLB of Atlanta on the security of that stock and a floating lien on
certain of its real estate secured loans and other assets. Each credit program
has its own interest rate and range of maturities. Depending on the program,
limitations on the amount of advances are based either on a fixed percentage of
an institution's net worth or on the FHLB of Atlanta's assessment of the
institution's creditworthiness. The Bank had $13.0 million in advances from the
FHLB of Atlanta on June 30, 1998 of which $9.0 million was due by June 30, 1999
and the remaining $4.0 million due by June 30, 2000.
SUBSIDIARIES
64
<PAGE>
As a federally-chartered savings bank, the Bank is permitted by OTS
regulations to invest up to 2% of its assets in the stock of, or loans to,
service corporation subsidiaries, and may invest an additional 1% of its assets
in service corporations where such additional funds are used for inner-city or
community development purposes. In addition to investments in service
corporations, federal institutions are permitted to invest an unlimited amount
in operating subsidiaries engaged solely in activities which a federal savings
bank may engage in directly.
Carolina Service Corporation, a wholly-owned subsidiary of the Bank which
had no material earnings, was liquidated on September 9, 1998.
PROPERTIES
The following table sets forth the location of the Bank's headquarters
office in Salisbury, and branch offices in Statesville and Rockwell, North
Carolina, as well as certain other real property owned or leased by the Bank and
information relating to such real estate as of June 30, 1998:
<TABLE>
<CAPTION>
Net Book
Value of
Property or Owned or
Improvements Leased
------------ --------
<S> <C> <C>
401 West Innes Street $353,697 Owned
Salisbury, North Carolina 28144-4232
427 West Innes Street 176,287 Owned
Salisbury, North Carolina 28144
307 North Center Street 414,641 Owned
Statesville, North Carolina 28677
106 West Main Street 38,487 Owned
Rockwell, North Carolina 28138
330 South Main Street $ 14,167 Leased
Salisbury, North Carolina 28144
</TABLE>
The total net book value of the Bank's furniture, fixtures and equipment at
June 30, 1998 was $211,273. The properties are considered by the Bank's
management to be in good condition.
LEGAL PROCEEDINGS
From time to time, the Bank is a party to legal proceedings which arise in
the ordinary course of its business. Most commonly, such proceedings are
commenced by the Bank to enforce obligations owed to it. From time to time,
claims are asserted against the Bank directly or as defenses and counterclaims
in actions filed by the Bank. At this time, the Bank is not a party to any
legal proceeding which is expected to have a material effect on its financial
condition or results of operations.
COMPETITION
The Bank has operated in the Salisbury community for more than 91 years.
It faces strong competition both in attracting deposits and making real estate
and other loans. Its most direct competition for deposits has historically come
from other savings institutions, credit unions, brokerage firms and commercial
banks located in its
65
<PAGE>
primary market area, including large financial institutions which have greater
financial and marketing resources available to them. As of June 30, 1997, in
Rowan County, where the Bank's Salisbury and Rockwell offices are located, there
were 37 commercial bank offices, two thrift institution offices and three credit
union offices, and in Iredell County, where the Bank's Statesville office is
located, there were 34 commercial bank offices, one thrift institution office
and one credit union office. Based upon 1997 FDIC comparative data, the Bank had
approximately 11.7% and approximately 10.4% of the deposits in Salisbury and
Rowan County, respectively, and approximately 8.0% and approximately 4.7% of the
deposits in Statesville and Iredell County, respectively.
The Bank has also faced additional significant competition for investors'
funds from short-term money market securities and other corporate and government
securities. While the Bank's market share of deposits has decreased in recent
years, its deposit base has grown principally due to economic growth in the
Bank's market area. The ability of the Bank to attract and retain savings
deposits depends on its ability to generally provide a rate of return, liquidity
and risk comparable to that offered by competing investment opportunities.
The Bank experiences strong competition for real estate loans from other
savings institutions, commercial banks, and mortgage banking companies. The
Bank competes for loans primarily through the interest rates and loan fees it
charges and the efficiency and quality of services it provides borrowers.
Competition may increase as a result of the continuing reduction of restrictions
on the interstate operations of financial institutions. See "RISK FACTORS --
Competition."
EMPLOYEES
As of June 30, 1998, the Bank had 40 full-time employees and two part-time
employees. Employees are not represented by any union or collective bargaining
group, and the Bank considers its employee relations to be good.
In connection with the Conversion, the Bank has adopted the ESOP, which
will provide benefits to employees of the Bank. See "MANAGEMENT OF THE BANK --
Employee Stock Ownership Plan." Also, the Boards of Directors of the Company
and the Bank are expected to adopt, and stockholders of the Company will be
asked to approve, a MRP and a Option Plan at a meeting of stockholders after the
first anniversary following the Conversion. See "MANAGEMENT OF THE BANK --
Proposed Option Plan" and "--Proposed Management Recognition Plan."
Certain employees of the Bank participate in other benefit plans. See
"MANAGEMENT OF THE BANK -- Bonus Compensation", "-- Defined Benefit Pension
Plan", "-- 401K Retirement Plan", "-- Non-Qualified Deferred Compensation Plan
for Officers" and "-- Non-Qualified Pension Restoration Plan".
TAXATION
FEDERAL INCOME TAXATION
Savings institutions such as the Bank are subject to the taxing provisions
of the Internal Revenue Code of 1986, as amended (the "Code"), for corporations,
as modified by certain provisions specifically applicable for financial or
thrift institutions. Income is reported using the accrual method of accounting.
The maximum corporate federal income tax rate is 35%.
For fiscal years beginning prior to December 31, 1995, thrift institutions
which qualified under certain definitional tests and other conditions of the
Code were permitted certain favorable provisions regarding their deductions from
taxable income for annual additions to their bad debt reserve. A reserve could
be established for bad debts on qualifying real property loans (generally loans
secured by interests in real property improved or to be improved) under (i) a
method based on a percentage of the institution's taxable income, as adjusted
(the "percentage
66
<PAGE>
of taxable income method") or (ii) a method based on actual loss experience (the
"experience method"). The reserve for nonqualifying loans was computed using the
experience method.
The addition to the bad debt reserve under the percentage of taxable income
method was limited to 8% of taxable income. This method could not raise the
reserve for losses on qualifying real property loans to exceed 6% of qualifying
real property loans at the end of the year. Moreover, the current year addition
to the reserve for losses on qualifying loans, when added to the experience
method deduction for nonqualifying loans, could not exceed the amount by which
12% of total deposits and withdrawable accounts exceeded the sum of surplus,
undivided profits and reserves at the beginning of the year. The experience
method amount was the amount necessary to increase the balance of the reserve at
the close of the year to the greater of (i) the amount which bore the same ratio
to loans outstanding at the close of the year as the total net bad debts
sustained during the current and five preceding years bore to the sum of the
loans outstanding at the close of such six years or (ii) the balance in the
reserve account at the close of the last taxable year beginning before 1988
(assuming that the loans outstanding have not declined since such date).
In order to qualify for the percentage of taxable income method, an
institution had to have at least 60% of its assets as "qualifying assets," which
generally included, cash, obligations of the United States government or certain
agencies or instrumentalities thereof or of a state or political subdivision,
residential real estate-related loans, or loans secured by savings accounts and
property used in the conduct of its business. In addition, it had to meet
certain other supervisory tests and operate principally for the purpose of
acquiring savings and investing in loans.
Institutions which became ineligible to use the percentage of taxable
income method had to change to either the reserve method or the specific charge-
off method that applied to banks. Large thrift institutions, those generally
exceeding $500 million in assets, had to convert to the specific charge-off
method. In computing its bad debt reserve for federal income taxes, the Bank
used the reserve method in fiscal years 1995, 1996, and 1997.
Bad debt reserve balances as of the close of the last taxable year
beginning before January 1, 1988 or amounts maintained in a supplemental reserve
built up prior to 1962 ("excess bad debt reserve") must be included in taxable
income upon certain distributions to shareholders. Distributions in redemption
of stock or in partial or complete liquidation or distributions with respect to
its stock in excess of earnings and profits accumulated in years beginning after
December 31, 1951, are treated as a distribution from the excess bad debt
reserve. When such a distribution takes place, the thrift is required to reduce
its reserve by such distribution plus the income tax resulting from
simultaneously recognizing the distribution as an item of taxable income
increased by the amount of income tax imposed on the inclusion. Dividends not in
excess of earnings and profits accumulated since December 31, 1951 will not
require inclusion of part or all of the bad debt reserve in taxable income. The
Bank has accumulated earnings and profits since December 31, 1951 and has an
excess bad debt reserve. Distributions in excess of current and accumulated
earnings and profits will increase taxable income. Net retained earnings at June
30, 1998 includes approximately $3.7 million for which no provision for federal
income tax has been made.
Legislation passed by the U.S. Congress and signed by the President in
August 1996 contains a provision that repeals the percentage of taxable income
method of accounting for thrift bad debt reserves for tax years beginning after
December 31, 1995. The legislation will trigger bad debt reserve recapture for
post-1987 excess reserves over a six-year period. At June 30, 1998, the Bank's
post-1987 excess reserves amounted to approximately $471,000. A special
provision suspends recapture of post-1987 excess reserves for up to two years
if, during those years, the institution satisfies a "residential loan
requirement." This requirement will be met if the principal amount of the
institution's residential loans originated during the year exceeds a base year
amount, which is determined by reference to the average of the institution's
residential loans originated during the six most recent taxable years beginning
on or before December 31, 1995. The Bank did not meet the residential loan
requirement for its 1996 tax year and recaptured one-sixth of the excess
reserves. However, notwithstanding this special provision, recapture must begin
no later than the first taxable year beginning after December 31, 1997.
67
<PAGE>
The Bank may also be subject to the corporate alternative minimum tax
("AMT"). This tax is applicable only to the extent it exceeds the regular
corporate income tax. The AMT is imposed at the rate of 20% of the corporation's
alternative minimum taxable income ("AMTI") subject to applicable statutory
exemptions. AMTI is calculated by adding certain tax preference items and making
certain adjustments to the corporation's regular taxable income. Preference
items and adjustments generally applicable to financial institutions include,
but are not limited to, the following: (i) the excess of the bad debt deduction
for reasonable bad debt reserves over the amount that would have been allowed
had the institution maintained a reserve for all tax years on the basis of
actual experience; (ii) interest on certain tax-exempt bonds issued after August
7, 1986; and (iii) 75% of the excess, if any, of a corporation's adjusted
current earnings over its AMTI (as otherwise determined with certain
adjustments). Net operating loss carryovers, subject to certain adjustments, may
be utilized to offset up to 90% of the AMTI. Credit for AMT paid may be
available in future years to reduce future regular federal income tax liability
to the extent it exceeds the year's AMT. The Bank has not been subject to the
AMT in recent years.
The Bank's federal income tax returns were audited by the IRS for the 1994
tax year. There were no findings.
STATE AND LOCAL TAXATION
Under North Carolina law, the corporate income tax for tax years beginning
in 1997 is 7.5% of federal taxable income as computed under the Code, subject to
certain prescribed adjustments. Prior to 1997, the corporate income tax rate
was 7.75%. In addition, for tax years beginning in 1991, 1992, 1993 and 1994,
corporate taxpayers were required to pay a surtax equal to 4%, 3%, 2% and 1%,
respectively, of the state income tax otherwise payable by it. An annual state
franchise tax is imposed at a rate of 0.15% applied to the greatest of the
institutions (i) capital stock, surplus and undivided profits, (ii) investment
in tangible property in North Carolina or (iii) appraised valuation of property
in North Carolina.
The North Carolina corporate tax rate will drop to 7.25% for tax years
beginning in 1998, 7.0% in 1999, and 6.9% thereafter.
SUPERVISION AND REGULATION
GENERAL
The Bank is subject to extensive regulation, examination and supervision by
the OTS, as its chartering agency, and the FDIC, as the deposit insurer. The
Bank is a member of the FHLB System. The Bank's deposit accounts are insured up
to applicable limits by the SAIF managed by the FDIC. The Bank must file reports
with the OTS and the FDIC concerning its activities and financial condition in
addition to obtaining regulatory approvals prior to entering into certain
transactions such as mergers with, or acquisitions of, other financial
institutions. There are periodic examinations by the OTS and the FDIC to test
the Bank's compliance with various regulatory requirements. This regulation and
supervision establishes a comprehensive framework of activities in which an
institution can engage and is intended primarily for the protection of the
insurance fund and depositors. The regulatory structure also gives the
regulatory authorities extensive discretion in connection with their supervisory
and enforcement activities and examination policies, including policies with
respect to the classification of assets and the establishment of adequate loan
loss reserves for regulatory purposes. Any change in such policies, whether by
the OTS, the FDIC or the Congress, could have a material adverse impact on the
Company, the Bank and their operations. Assuming that the holding company form
of organization is utilized, the Company, as a savings and loan holding company,
will also be required to file certain reports with, and otherwise comply with
the rules and regulations of the OTS and of the SEC under the federal securities
laws.
Any change in the regulatory structure or the applicable statutes or
regulations, whether by the OTS, the FDIC or the Congress, could have a material
impact on the Company, the Bank, their operations or the Bank's Conversion.
Congress is expected to consider in 1998 the elimination of the federal thrift
charter and abolishment
68
<PAGE>
of the OTS. The results of such consideration, including possible enactment of
legislation is uncertain. Therefore, the Bank is unable to determine the extent
to which the results of consideration or possible legislation, if enacted, would
affect its business. See "Risk Factors--Regulatory Oversight".
Certain of the regulatory requirements applicable to the Bank and to the
Company are referred to below or elsewhere herein. The description of statutory
provisions and regulations applicable to savings associations set forth in this
Prospectus do not purport to be complete descriptions of such statutes and
regulations and their effects on the Bank and the Company and is qualified in
its entirety by reference to such statutes and regulations.
FEDERAL REGULATION OF THE BANK
Business Activities. The activities of federal savings institutions are
governed by the Home Owners' Loan Act, as amended (the "HOLA") and, in certain
respects, the Federal Deposit Insurance Act ("FDI Act") and the regulations
issued by the agencies to implement these statutes. These laws and regulations
delineate the nature and extent of the activities in which federal associations
may engage. In particular, many types of lending authority for federal
associations, e.g., commercial, nonresidential real property loans and consumer
loans, are limited to a specified percentage of the institution's capital or
assets.
Loans-to-One Borrower. Under the HOLA, savings institutions are generally
subject to the national bank limit on loans-to-one borrower. Generally, this
limit is 15% of the Bank's unimpaired capital and surplus, plus an additional
10% of unimpaired capital and surplus, if such loan is secured by readily-
marketable collateral, which is defined to include certain financial instruments
and bullion. At June 30, 1998, the Bank's general limit on loans-to-one borrower
was $2.50 million. At June 30, 1998, the Bank's largest aggregate amount of
loans-to-one borrower consisted of a $1.45 million commercial loan.
QTL Test. The HOLA requires savings institutions to meet a QTL test. Under
the QTL test, a savings association is required to maintain at least 65% of its
"portfolio assets" (total assets less: (i) specified liquid assets up to 20% of
total assets; (ii) intangibles, including goodwill; and (iii) the value of
property used to conduct business) in certain "qualified thrift investments"
(primarily residential mortgages and related investments, including certain
mortgage-backed and related securities) in at least 9 months out of each 12-
month period. A savings association that fails the QTL test must either convert
to a bank charter or operate under certain restrictions. As of June 30, 1998,
the Bank maintained 97.38% of its portfolio assets in qualified thrift
investments and, therefore, met the QTL test. Recent legislation has expanded
the extent to which education loans, credit card loans and small business loans
may be considered as "qualified thrift investments."
Limitation on Capital Distributions. OTS regulations impose limitations
upon all capital distributions by a savings institution, such as cash dividends,
payments to repurchase or otherwise acquire its shares, payments to shareholders
of another institution in a cash-out merger and other distributions charged
against capital. The rule establishes three tiers of institutions, which are
based primarily on an institution's capital level. An institution that exceeds
all fully phased-in regulatory capital requirements before and after a proposed
capital distribution ("Tier 1 Bank") and has not been advised by the OTS that it
is in need of more than normal supervision, could, after prior notice to, but
without the approval of the OTS, make capital distributions during a calendar
year equal to the greater of: (i) 100% of its net earnings to date during the
calendar year plus the amount that would reduce by one-half its "surplus capital
ratio" (the excess capital over its fully phased-in capital requirements) at the
beginning of the calendar year; or (ii) 75% of its net earnings for the previous
four quarters. Any additional capital distributions would require prior OTS
approval. In the event the Bank's capital fell below its capital requirements or
the OTS notified it that it was in need of more than normal supervision, the
Bank's ability to make capital distributions could be restricted. In addition,
the OTS could prohibit a proposed capital distribution by any institution, which
would otherwise be permitted by the regulation, if the OTS determines that such
distribution would constitute an unsafe or unsound practice.
69
<PAGE>
Liquidity. The Bank is required to maintain an average daily balance of
specified liquid assets equal to a monthly average of not less than a specified
percentage (currently 4%) of its net withdrawable deposit accounts plus short-
term borrowings. Monetary penalties may be imposed for failure to meet these
liquidity requirements. The Bank's average liquidity ratio for the quarter ended
June 30, 1998 was 20.16%, which exceeded the applicable requirements. The Bank
has never been subject to monetary penalties for failure to meet its liquidity
requirements. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations--Capital Resources and Liquidity."
Assessments. Savings institutions are required by regulation to pay
assessments to the OTS to fund the agency's operations. The general assessment,
paid on a semi-annual basis, is based upon the savings institution's total
assets, including consolidated subsidiaries, as reported in the Bank's latest
quarterly Thrift Financial Report. Because the Bank has recently converted from
a state-chartered savings bank to a federally chartered savings bank no
assessment has been paid to the OTS as of June 30, 1998.
Branching. OTS regulations permit federally-chartered savings associations
to branch nationwide under certain conditions. Generally, federal savings
associations may establish interstate networks and geographically diversify
their loan portfolios and lines of business. The OTS authority preempts any
state law purporting to regulate branching by federal savings associations.
Transactions with Related Parties. The Bank's authority to engage in
transactions with related parties or "affiliates" (i.e., any company that
controls or is under common control with an institution, including the Company
and any non-savings institution subsidiaries that the Company may establish) is
limited by Sections 23A and 23B of the Federal Reserve Act ("FRA"). Section 23A
restricts the aggregate amount of covered transactions with any individual
affiliate to 10% of the capital and surplus of the savings institution and also
limits the aggregate amount of transactions with all affiliates to 20% of the
savings institution's capital and surplus. Certain transactions with affiliates
are required to be secured by collateral in an amount and of a type described in
Section 23A and the purchase of low quality assets from affiliates is generally
prohibited. Section 23B generally requires that certain transactions with
affiliates, including loans and asset purchases, must be on terms and under
circumstances, including credit standards, that are substantially the same or at
least as favorable to the institution as those prevailing at the time for
comparable transactions with non-affiliated companies.
Enforcement. Under the FDI Act, the OTS has primary enforcement
responsibility over savings institutions and has the authority to bring action
against all "institution-affiliated parties," including stockholders, and any
attorneys, appraisers and accountants who knowingly or recklessly participate in
wrongful action likely to have an adverse effect on an insured institution.
Formal enforcement action may range from the issuance of a capital directive or
cease and desist order to removal of officers or directors, receivership,
conservatorship or termination of deposit insurance. Civil penalties cover a
wide range of violations and can amount to $25,000 per day, or $1 million per
day in especially egregious cases. Under the FDI Act, the FDIC has the
authority to recommend to the Director of the OTS that enforcement action be
taken with respect to a particular savings institution. If action is not taken
by the Director, the FDIC has authority to take such action under certain
circumstances. Federal and state law also establishes criminal penalties for
certain violations.
Standards for Safety and Soundness. The FDI Act requires each federal
banking agency to prescribe for all insured depository institutions standards
relating to, among other things, internal controls, information systems and
audit systems, loan documentation, credit underwriting, interest rate risk
exposure, asset growth, and compensation, fees and benefits and such other
operational and managerial standards as the agency deems appropriate. The
federal banking agencies have adopted final regulations and Interagency
Guidelines Establishing Standards for Safety and Soundness ("Guidelines") to
implement these safety and soundness standards. The Guidelines set forth the
safety and soundness standards that the federal banking agencies use to identify
and address problems at insured depository institutions before capital becomes
impaired. The Guidelines address internal controls and information systems;
internal audit system; credit underwriting; loan documentation; interest rate
risk exposure; asset growth;
70
<PAGE>
asset quality; earnings; and compensation, fees and benefits. If the appropriate
federal banking agency determines that an institution fails to meet any standard
prescribed by the Guidelines, the agency may require the institution to submit
to the agency an acceptable plan to achieve compliance with the standard, as
required by the FDI Act. The final regulations establish deadlines for the
submission and review of such safety and soundness compliance plans.
Capital Requirements. The OTS capital regulations require savings
institutions to meet three capital standards: a 1.5% tangible capital standard,
a 3% leverage (core capital) ratio and an 8% risk based capital standard. Core
capital is defined as common stockholder's equity (including retained earnings),
certain non-cumulative perpetual preferred stock and related surplus, minority
interests in equity accounts of consolidated subsidiaries less intangibles other
than certain mortgage servicing rights ("MSRs") and credit card relationships.
The OTS regulations require that, in meeting the leverage ratio, tangible and
risk-based capital standards institutions generally must deduct investments in
and loans to subsidiaries engaged in activities not permissible for a national
bank. In addition, the OTS prompt corrective action regulation provides that a
savings institution that has a leverage capital ratio of less than 4% (3% for
institutions receiving the highest CAMEL examination rating) will be deemed to
be "undercapitalized" and may be subject to certain restrictions. See "--Prompt
Corrective Regulatory Action."
The risk-based capital standard for savings institutions requires the
maintenance of total capital (which is defined as core capital and supplementary
capital) to risk-weighted assets of 8%. In determining the amount of risk-
weighted assets, all assets, including certain off-balance sheet assets, are
multiplied by a risk-weight of 0% to 100%, as assigned by the OTS capital
regulation based on the risks OTS believes are inherent in the type of asset.
The components of core capital are equivalent to those discussed earlier under
the 3% leverage standard. The components of supplementary capital currently
include cumulative preferred stock, long-term perpetual preferred stock,
mandatory convertible securities, subordinated debt and intermediate preferred
stock and, within specified limits, the allowance for loan and lease losses.
Overall, the amount of supplementary capital included as part of total capital
cannot exceed 100% of core capital.
The OTS has adopted an interest rate risk component into its regulatory
capital requirements; however, the OTS has postponed indefinitely any adjustment
to capital which would be required by such interest rate risk component. The
OTS interest rate risk rule as written would also adjust the risk-weighting for
certain mortgage derivative securities. Under the rule as written, savings
associations with "above normal" interest rate risk exposure would be subject to
a deduction from total capital for purposes of calculating their risk-based
capital requirements. A savings association's interest rate risk would be
measured by the decline in the net portfolio value of its assets (i.e., the
difference between incoming and outgoing discounted cash flows from assets,
liabilities and off-balance sheet contracts) that would result from a
hypothetical 200-basis point increase or decrease in market interest rates
divided by the estimated economic value of the Bank's assets, as calculated in
accordance with guidelines set forth by the OTS. A savings association whose
measured interest rate risk exposure exceeds 2% would be required to deduct an
interest rate component in calculating its total risk-based capital. The
interest rate risk component would be an amount equal to one-half of the
difference between the institution's measured interest rate risk and 2%,
multiplied by the estimated economic value of the Bank's assets. That dollar
amount would be deducted from an association's total capital in calculating
compliance with its risk-based capital requirement. Under the rule as written,
there is a two quarter lag between the reporting date of an institution's
financial data and the effective date for the new capital requirement based on
that data. A savings association with assets of less than $300 million and
risk-based capital ratios in excess of 12% would be not subject to the interest
rate risk component, unless the OTS determined otherwise. The rule also
provides that the Director of the OTS may waive or defer an association's
interest rate risk component on a case-by-case basis. No prediction can be made
when such interest rate risk component requirement will be implemented, or if it
ever will be implemented.
At June 30, 1998, the Bank met each of its capital requirements, in each
case on a fully phased-in basis. See "Historical and Pro Forma Capital
Compliance" for a table which sets forth in terms of dollars and percentages the
OTS tangible, leverage and risk-based capital requirements, the Bank's
historical amounts and percentages at
71
<PAGE>
June 30, 1998, and pro forma amounts and percentages based upon the issuance of
the shares within the Estimated Price Range and assuming that a portion of the
net proceeds are retained by the Company.
PROMPT CORRECTIVE REGULATORY ACTION
Under the OTS prompt corrective action regulations, the OTS is required to
take certain supervisory actions against undercapitalized institutions, the
severity of which depends upon the institution's degree of capitalization.
Generally, a savings institution that has a total risk-based capital of less
than 8.0% or a leverage ratio or a Tier 1 capital ratio that is less than 4.0%
is considered to be undercapitalized. A savings institution that has a total
risk-based capital less than 6.0%, a Tier 1 risk-based capital ratio of less
than 3.0% or a leverage ratio that is less than 3.0% is considered to be
"significantly undercapitalized" and a savings institution that has a tangible
capital to assets ratio equal to or less than 2.0% is deemed to be "critically
undercapitalized." Subject to a narrow exception, the Banking regulator is
required to appoint a receiver or conservator for an institution that is
critically undercapitalized. The regulation also provides that a capital
restoration plan must be filed with the OTS within 45 days of the date an
association receives notice that it is "undercapitalized," "significantly
undercapitalized" or "critically undercapitalized." Compliance with the plan
must be guaranteed by any parent holding company. In addition, numerous
mandatory supervisory actions may become immediately applicable to the
institution depending upon its category, including, but not limited to,
increased monitoring by regulators, restrictions on growth, and capital
distributions and limitations on expansion. The OTS could also take any one of a
number of discretionary supervisory actions, including the issuance of a capital
directive and the replacement of senior executive officers and directors.
INSURANCE OF DEPOSIT ACCOUNTS
The FDIC has adopted a risk-based insurance assessment system. The FDIC
assigns an institution to one of three capital categories based on the
institution's financial information, as of the reporting period ending seven
months before the assessment period, consisting of (1) well capitalized, (2)
adequately capitalized or (3) undercapitalized, and one of three supervisory
subcategories within each capital group. The supervisory subgroup to which an
institution is assigned is based on a supervisory evaluation provided to the
FDIC by the institution's primary federal regulator and information which the
FDIC determines to be relevant to the institution's financial condition and the
risk posed to the deposit insurance funds. An institution's assessment rate
depends on the capital category and supervisory category to which it is
assigned. Assessment rates for SAIF member institutions currently range from 0
basis points to 27 basis points. The FDIC is authorized to raise the assessment
rates in certain circumstances. The FDIC has exercised this authority several
times in the past and may raise insurance premiums in the future. If such
action is taken by the FDIC, it could have an adverse effect on the earnings of
the Bank. The Bank's assessment rate for the years ended September 30, 1997,
1996 and 1995 was .093%, .26% and .23% of assessable deposits.
Under the FDIC Act, insurance of deposits may be terminated by the FDIC
upon a finding that the institution has engaged in unsafe or unsound practices,
is in an unsafe or unsound condition to continue operations or has violated any
applicable law, regulation, rule, order or condition imposed by the FDIC or the
OTS. The management of the Bank does not know of any practice, condition or
violation that might lead to termination of deposit insurance.
FEDERAL HOME LOAN BANK SYSTEM
The Bank is a member of the FHLB System, which consists of 12 regional
FHLBs. The FHLB provides a central credit facility primarily for member
institutions. The Bank, as a member of the FHLB, is required to acquire and
hold shares of capital stock in the FHLB in an amount at least equal to 1% of
the aggregate principal amount of its unpaid residential mortgage loans and
similar obligations at the beginning of each year, or 1/20 of its advances
(borrowings) from the FHLB, whichever is greater. The Bank was in compliance
with this requirement with an
72
<PAGE>
investment in FHLB stock at June 30, 1998 of $1.8 million. FHLB advances must be
secured by specified types of collateral and all long-term advances may only be
obtained for the purpose of providing funds for residential housing finance. At
June 30, 1998, the Bank had $13.0 million in FHLB advances.
The FHLBs are required to provide funds for the resolution of insolvent
thrifts and to contribute funds for affordable housing programs. These
requirements could reduce the amount of dividends that the FHLBs pay to their
members and could also result in the FHLBs imposing a higher rate of interest on
advances to their members. For the fiscal years ended September 30, 1997, 1996
and 1995, cash dividends from the FHLB to the Bank amounted to $132,207,
$132,389 and $123,468, respectively. If dividends were reduced, the Bank's net
interest income would likely also be reduced. Further, there can be no assurance
that the impact of recent or future legislation on the FHLBs will not also cause
a decrease in the value of the FHLB stock held by the Bank.
FEDERAL RESERVE SYSTEM
The Federal Reserve Board regulations require savings institutions to
maintain non-interest-earning reserves against their transaction accounts. The
Federal Reserve Board regulations generally require that reserves be maintained
against aggregate transaction accounts as follows: for accounts aggregating
$47.8 million or less (subject to adjustment by the Federal Reserve Board) the
reserve requirement is 3%; and for accounts greater than $47.8 million, the
reserve requirement is $1.4 million plus 10% (subject to adjustment by the
Federal Reserve Board between 8% and 14%) against that portion of total
transaction accounts in excess of $47.8 million. The first $4.7 million of
otherwise reservable balances (subject to adjustment by the Federal Reserve
Board) are exempted from the reserve requirements. The Bank is in compliance
with the foregoing requirements. Because required reserves must be maintained in
the form of either vault cash, a non-interest-bearing account at a Federal
Reserve Bank or a pass-through account as defined by the Federal Reserve Board,
the effect of this reserve requirement is to reduce the Bank's interest-earning
assets. FHLB System members are also authorized to borrow from the Federal
Reserve "discount window," but Federal Reserve Board regulations require
institutions to exhaust all FHLB sources before borrowing from a Federal Reserve
Bank.
REGULATION OF THE COMPANY
The Company, if utilized, will be a non-diversified unitary savings and
loan holding company within the meaning of the HOLA. As such, the Company will
be required to register with the OTS and will be subject to OTS regulations,
examinations, supervision and reporting requirements. In addition, the OTS has
enforcement authority over the Company and its non-savings institution
subsidiaries. Among other things, this authority permits the OTS to restrict or
prohibit activities that are determined to be a serious risk to the subsidiary
savings institution. The Bank must notify the OTS 30 days before declaring any
dividend to the Company.
As a unitary savings and loan holding company, the Company generally will
not be restricted under existing laws as to the types of business activities in
which it may engage, provided that the Bank continues to be a QTL. See "--
Federal Savings Institution Regulation--QTL Test" for a discussion of the QTL
requirements. Upon any non-supervisory acquisition by the Company of another
savings association, the Company would become a multiple savings and loan
holding company (if the acquired institution is held as a separate subsidiary)
and would be subject to extensive limitations on the types of business
activities in which it could engage. The HOLA limits the activities of a
multiple savings and loan holding company and its non-insured institution
subsidiaries primarily to activities permissible for bank holding companies
under Section 4(c)(8) of the Bank Holding Company Act, as amended (the "BHC
Act"), subject to the prior approval of the OTS, and to other activities
authorized by OTS regulation. Previously proposed legislation would have treated
all savings and loan holding companies as bank holding companies and limit the
activities of such companies to those permissible for bank holding companies.
The HOLA prohibits a savings and loan holding company, directly or
indirectly, or through one or more subsidiaries, from acquiring more than 5% of
the voting stock of another savings institution, or holding company thereof,
without prior written approval of the OTS; from acquiring or retaining, with
certain exceptions, more than
73
<PAGE>
5% of a non-subsidiary holding company or savings association. The HOLA also
prohibits a savings and loan holding company from acquiring more than 5% of a
company engaged in activities other than those authorized for savings and loan
holding companies by the HOLA, or acquiring or retaining control of a depository
institution that is not insured by the FDIC. In evaluating applications by
holding companies to acquire savings institutions, the OTS must consider the
financial and managerial resources and future prospects of the company and
institution involved, the effect of the acquisition on the risk to the insurance
funds, the convenience and needs of the community and competitive factors.
The OTS is prohibited from approving any acquisition that would result in a
multiple savings and loan holding company controlling savings institutions in
more than one state, except: (i) the approval of interstate supervisory
acquisitions by savings and loan holding companies, and (ii) the acquisition of
a savings institution in another state if the laws of the state of the target
savings institution specifically permit such acquisitions. The states vary in
the extent to which they permit interstate savings and loan holding company
acquisitions.
FEDERAL SECURITIES LAWS
The Company has filed with the SEC a registration statement under the
Securities Act for the registration of the Common Stock to be issued pursuant to
the Conversion. Upon completion of the Conversion, the Company's Common Stock
will be registered with the SEC under the Exchange Act. The Company will then
be subject to the information, proxy solicitation, insider trading restrictions
and other requirements under the Exchange Act.
The registration under the Securities Act of shares of the Common Stock to
be issued in the Conversion does not cover the resale of such shares. Shares of
the Common Stock purchased by persons who are not affiliates of the Company may
be resold without registration. Shares purchased by an affiliate of the Company
will be subject to the resale restrictions of Rule 144 under the Securities Act.
If the Company meets the current public information requirements of Rule 144
under the Securities Act, each affiliate of the Company who complies with the
other conditions of Rule 144 (including those that require the affiliate's sale
to be aggregated with those of certain other persons) would be able to sell in
the public market, without registration, a number of shares not to exceed, in
any three-month period, the greater of (i) 1% of the outstanding shares of the
Company or (ii) the average weekly volume of trading in such shares during the
preceding four calendar weeks. Provision may be made in the future by the
Company to permit affiliates to have their shares registered for sale under the
Securities Act under certain circumstances.
MANAGEMENT OF THE COMPANY
The Board of Directors of the Company currently consists of seven
directors: Malcolm B. Blankenship, Jr., Ronald E. Bostian, James W. Duke, Harold
C. Earnhardt, K. V. Epting, Jr., Gordon P. Hurley, and Bobby A. Lomax. Each of
these persons is also a director of the Bank and biographical information with
respect to each is set forth under "MANAGEMENT OF THE BANK -- Directors" and
"-- Executive Officers." Each director is elected for a one-year term. However,
at such time, if any, as the number of directors is at least nine, the Articles
of Incorporation and Bylaws of the Company provide for staggered elections so
that approximately one-third of the directors will each be initially elected to
one, two and three-year terms, respectively, and thereafter, all directors will
be elected to terms of three years each.
The executive officers of the Company who serve at the discretion of the
Board of Directors of the Company, are as follows:
74
<PAGE>
<TABLE>
<CAPTION>
AGE AT POSITION HELD
NAME JUNE 30, 1998 WITH THE COMPANY
---- ------------- ----------------
<S> <C> <C>
Ronald E. Bostian 60 President and Chief Executive
Officer
Dianne E. Hawkins 35 Treasurer and Controller
Ralphelle S. Butler 50 Secretary
</TABLE>
Biographical information with respect to Mr. Bostian and Mrs. Hawkins is
set forth below under "MANAGEMENT OF THE BANK -- Executive Officers." There are
no other employees of the Company. No officer, director or employee of the
Company has received remuneration from the Company to date, and it is currently
expected that no compensation will be paid by the Company after the Conversion.
Information concerning the principal occupations and employment of, and
compensation paid by the Bank to, the directors and executive officers of the
Company is set forth under "MANAGEMENT OF THE BANK." See "MANAGEMENT OF THE
BANK -- Employment Agreement" for a description of the employment agreement
expected to be entered into with Mr. Bostian.
MANAGEMENT OF THE BANK
DIRECTORS
The direction and control of the Bank, as a federally-charted savings bank,
is vested in its seven-member Board of Directors elected by the members of the
Bank. Upon conversion of the Bank to capital stock form, each director of the
Bank immediately prior to the Conversion will continue to serve as a director of
the Bank as a stock institution. All directors currently serve for one-year
terms. The Bank's proposed Bylaws, which would become effective after the
Conversion, provide for staggered elections of its directors, if and when the
number of directors shall equal at least nine, so that approximately one-third
of the directors would be elected each year for three-year terms. Upon
consummation of the Conversion, the Company will own all of the issued and
outstanding shares of capital stock of the Bank, and the Company will elect the
directors of the Bank. The Company now plans to nominate and re-elect all
members of the Bank's existing board of directors when their existing terms
expire. The following table sets forth certain information with respect to the
persons who currently serve as members of the Board of Directors of the Bank.
<TABLE>
<CAPTION>
AGE AT
JUNE 30, PRINCIPAL OCCUPATION DIRECTOR
NAME 1998 DURING LAST FIVE YEARS SINCE
- ---- -------- ---------------------- --------
<S> <C> <C> <C>
Malcolm B. Blankenship, Jr. 51 Law Partner - Kluttz, Reamer, Blankenship, 1991
Hayes & Randolph, L.L.P.
Ronald E. Bostian 60 President and Chief Executive Officer of 1984
Citizens Bank
James W. Duke 69 Manufacturers Representative for M.W. Window 1979
Corp.
Harold C. Earnhardt 66 Retired General Officer of the North Carolina 1984
Air National Guard
K. V. Epting, Jr. 68 Retired Executive Director of the Salisbury-Rowan
Chamber of Commere 1992
Gordon P. Hurley 60 President, Hurley Foundation 1980
Bobby A. Lomax 70 Dentist 1977
</TABLE>
75
<PAGE>
BOARD MEETINGS AND COMMITTEES
The Bank's Board of Directors has regular monthly meetings, and held 12
regular meetings and one special meeting in the fiscal year ended September 30,
1997. The Board has also established three committees to whom certain
responsibilities have been delegated - an Asset/Liability Committee, an Audit
Committee, and a Nominating Committee. No director attended fewer than 75% of
the total number of Board meetings and meetings of Board committees on which he
served during the year ended September 30, 1997.
The Asset/Liability Committee is composed of all Board members and met 11
times during the fiscal year ended September 30, 1997.
The Audit Committee is composed of all members of the Board of Directors,
except Mr. Bostian. The Audit Committee is responsible for meeting with and
retaining independent auditors, overseeing the adequacy of internal controls,
ensuring compliance with the Bank's policies and procedures and with generally
accepted accounting principles. The Audit Committee met four times during the
fiscal year ended September 30, 1997.
The Nominating Committee is composed of Messrs. Duke, Earnhardt, and Lomax
and met one time during the fiscal year ended September 30, 1997.
DIRECTORS' FEES
For their service on the Bank's Board of Directors, each member of the
Bank's Board of Directors, including Mr. Bostian, receives a monthly retainer of
$700, $400 for each Board meeting attended, and $200 for each committee meeting
attended if the committee meeting is scheduled on a day different from the
regularly-scheduled Board meeting.
DIRECTORS DEFERRED COMPENSATION PLAN
The Bank maintains a non-qualified deferred compensation plan for all of
its directors. Under the plan, each director may elect to defer a portion or
all of his director's fees to the plan each year. Directors are fully vested in
all amounts they contribute to the plan.
Benefits under the plan are payable in the event of the director's
retirement, death, disability, or termination of service, in a lump sum.
Installment payments are available to a retiring director if so elected by the
director at the time of his initial deferral election. If the director dies
before receiving all of his accrued benefit under the plan, his beneficiary will
receive the remaining benefits due him under the plan in a lump sum.
The Bank has purchased life insurance on the lives of its directors to help
it meet its obligations under the plan. Effective June 30, 1998, the Bank
established a rabbi trust for each director to hold his accrued benefits under
the plan. The Bank does not anticipate any future expenses with respect to life
insurance associated with the deferred compensation plan for directors.
EXECUTIVE OFFICERS
The Bank has three executive officers. The following table sets forth
certain information with respect to such executive officers:
<TABLE>
<CAPTION>
AGE ON POSITIONS AND OCCUPATIONS EMPLOYED BY
NAME JUNE 30, 1998 DURING LAST FIVE YEARS THE BANK SINCE
- ----- ------------- ------------------------------- --------------
<S> <C> <C> <C>
Ronald E. Bostian 60 Chairman, President and Chief 1990
Executive Officer
</TABLE>
76
<PAGE>
<TABLE>
<S> <C> <C> <C>
Jeffrey C. Chisholm 42 Senior Vice President and Chief 1991
Lending Officer
Dianne E. Hawkins 35 Vice President, Treasurer, and 1991
Controller
</TABLE>
EXECUTIVE COMPENSATION
The following table sets forth for the fiscal year ended September 30, 1997
certain information as to the cash compensation earned by the chief executive
officer of the Bank. No other executive officers of the Bank received cash
compensation exceeding $100,000 for services in all capacities.
<TABLE>
<CAPTION>
NAME AND OTHER ANNUAL ALL OTHER
PRINCIPAL POSITION SALARY BONUS COMPENSATION /1/ COMPENSATION
------------------ ------ ----- ---------------- ------------
<S> <C> <C> <C> <C>
Ronald E. Bostian $162,429/2/ $10,000 --- ---
President, Chief Executive Officer and
Director
</TABLE>
____________________
/1/ Under the "Other Annual Compensation" category, perquisites for the fiscal
year ended September 30, 1997 did not exceed the lesser of $50,000, or 10%
of salary and bonus.
/2/ Includes $14,900 in directors' fees paid to Mr. Bostian in the fiscal year
ended September 30, 1997.
The Board of Directors of the Bank does not have a compensation committee.
The Bank's full Board of Directors determines the compensation of the executive
officers. The salaries of each of the executive officers is determined based
upon the executive officer's contributions to the Bank's overall profitability,
maintenance of regulatory compliance standards, professional leadership, and
management effectiveness in meeting the needs of day-to-day operations. The
Board of Directors also compares the compensation of the Bank's executive
officers with compensation paid to executives of comparable financial
institutions in North Carolina and executives of other businesses in the Bank's
market area. Mr. Bostian participates in the deliberations of the Board of
Directors regarding compensation of executive officers other than himself. He
does not participate in the discussion or decisions regarding his own
compensation.
BONUS COMPENSATION
All employees, except Mr. Bostian, receive annual discretionary holiday
bonuses, which during fiscal year 1997 totaled $15,600 in the aggregate. The
Bank anticipates that discretionary bonuses will continue to be paid to its
employees in the future. However, as is the case with the Bank's compensation
arrangements in general, the Bank's bonus compensation is subject to regulatory
oversight and, therefore, could be changed in the future in response to
regulatory requirements or otherwise.
DEFINED BENEFIT PENSION PLAN
77
<PAGE>
Prior to July 1998, the Bank maintained a non-contributory defined benefit
pension plan (the "Pension Plan") for the benefit of all of its employees who
had completed one (1) year of service and who were at least twenty-one (21)
years of age. Under the Pension Plan, the Bank annually contributed an
actuarially determined amount to provide a benefit for each participant at
retirement. The Board of Directors of the Bank terminated the Pension Plan on
March 31, 1998, effective July 31, 1998. At the time the Pension Plan was
terminated it was fully funded. The benefits accrued by employees under the
plan have been transferred, at the election of each employee, to the Bank's
401(k) retirement plan.
NON-QUALIFIED PENSION RESTORATION PLAN
The Bank implemented this plan to compensate for the lost accrued benefits
by certain officers in the Pension Plan because of deferrals to the non-
qualified deferred compensation plan for officers. The effect was an increase
in the Bank's liability for contributions due to the Pension Restoration Plan
and a decrease in the Bank's liability under the Pension Plan. The Board of
Directors of the Bank terminated the Non-Qualified Pension Restoration Plan on
March 31, 1998, effective July 31, 1998.
401(K) RETIREMENT PLAN
The Bank implemented a contributory savings plan for its employees which
meets the requirements of Section 401(k) of the Code, effective July 1, 1998.
All employees who have completed one month of service, who are at least 21 years
of age and who will work at least 1,050 hours annually may elect to contribute a
percentage of their compensation to the plan each year, subject to certain
maximums imposed by federal law. The Bank will match 50% of each participant's
contribution, up to a maximum employer contribution of 3% of the participant's
compensation. The Bank also intends to make discretionary contributions to the
plan, expected to be equal to approximately 3% of each participant's
compensation each year.
Participants will be fully vested in amounts they contribute to the plan.
Participants will be fully vested in amounts contributed to the plan on their
behalf by the Bank as employer matching contributions and as profit sharing
contributions after one year of service.
Benefits under the plan will be payable in the event of the participant's
retirement, death, disability, or termination of employment. Normal retirement
age under the plan is 65 years of age. The plan will not have an early
retirement provision.
The 401(k) plan provides that one of the funds which an employee may choose
as an investment vehicle for his or her account is a fund consisting of the
Common Stock of the Company (the "Employer Stock Fund"). In the Conversion,
each employee who has subscription rights by virtue of his or her deposits with
the Bank will be permitted to exercise those subscription rights through the use
of money in his or her 401(k) plan account. The plan will then submit
subscription forms on behalf of the employee who elects to invest in the
Employer Stock Fund. All shares purchased as a result of those subscription
forms will be held by the 401(k) plan but will be voted by the employee.
Whether or not a particular employee's subscription is satisfied will depend
upon whether that employee qualifies for one of the priority groups with
subscription rights.
DEFERRED COMPENSATION PLAN FOR OFFICERS
The Bank maintains a non-qualified deferred compensation plan for certain
officers of the Bank. Eligible officers selected by the Board of Directors may
elect to contribute a percentage of their compensation to the plan each year.
The Bank may make supplemental contributions to the plan as well, in amounts
determined by the Board of Directors each year. To date, the Bank has made no
such supplemental contributions. Participants are fully
78
<PAGE>
vested in all amounts contributed to the plan by them or on their behalf.
Currently four management officers participate in the plan.
Benefits under the plan are payable in the event of the participant's
retirement, death, disability, or termination of employment, in a lump sum or in
installments if so elected by the participant at the time of his initial salary
reduction election. If the participant dies before receiving all of his accrued
benefit under the plan, his beneficiary will receive the remaining benefits due
him under the plan. Normal retirement age under the plan is 65 years of age.
The Bank has purchased life insurance on the lives of plan participants to
help it meet its obligations under the plan. Effective June 30, 1998, the Bank
established a rabbi trust for each participant to hold the participant's accrued
benefit under the plan. The Bank does not anticipate any future expenses with
respect to life insurance associated with the deferred compensation plan for
officers.
OTHER BENEFITS
The Bank provides its employees with group medical, dental, term life and
disability insurance. Employees are provided with vacation and sick leave.
EMPLOYMENT AGREEMENT
In connection with the Conversion, the Bank will enter into an employment
agreement with Ronald E. Bostian, President and Chief Executive Officer, in
order to establish his duties and compensation and to provide for his continued
employment with the Bank. The agreement will provide for an initial annual base
salary of $147,528 and for an initial term of employment of three years.
Commencing on the first anniversary date and continuing on each anniversary date
thereafter, following a performance evaluation of the employee, each agreement
may be extended for an additional year so that the remaining term shall be three
years, unless written notice of non-renewal is given by the Board of Directors.
The agreements also provide that the base salary shall be reviewed by the Board
of Directors not less often than annually. In addition, the employment
agreement provides for possible profitability and discretionary bonuses and
participation in all other pension, profit-sharing or retirement plans
maintained by the Bank or the Company for employees of the Bank, as well as
fringe benefits normally associated with the employee's office. The employment
agreement provides that Mr. Bostian may be terminated by the Bank for cause, as
defined in the agreement, and that they may otherwise be terminated by the Bank
(subject to vested rights) or by the employee. In the event of a change in
control (as defined below) in lieu of continuing to be entitled to receive a
profitability bonus, Mr. Bostian's base salary shall be adjusted to include an
amount equal to the average of the two previous years' annual profitability
bonus and such adjusted base salary shall be increased by a minimum of 6%
annually.
The employment agreement provides that in the event of a change in control
of the Bank or the Company, the acquiror shall be bound by the terms of the
employment agreement for a period of three years beginning on the date of the
change in control and during such time the nature of Mr. Bostian's compensation,
duties or benefits cannot be diminished except as set forth in the agreement.
For purposes of the employment agreement, a change in control generally will
occur if (i) after the effective date of the employment agreement, any "person"
(as such term is defined in Sections 3(a)(9) and 13(d)(3) of the Exchange Act)
directly or indirectly, acquires beneficial ownership of voting stock, or
acquires irrevocable proxies or any combination of voting stock and irrevocable
proxies, representing 25% or more of any class of voting securities of either
the Company or the Bank, or acquires in any manner control of the election of a
majority of the directors of either the Company or the Bank, (ii) either the
Company or the Bank consolidates or merges with or into another corporation,
association or entity, or is otherwise reorganized, where neither the Company
nor the Bank is the surviving corporation in such transaction, or (iii) all or
substantially all of the assets of either the Company or the Bank are sold or
otherwise transferred to, or are acquired by, any other entity or group. The
agreement also provides that, in the event of the employee's death following a
79
<PAGE>
change in control, the remaining payments to be made under the agreement will be
made to the employee's beneficiary or the beneficiary's estate.
The employment agreement could have the effect of making it less likely
that the Bank or the Company will be acquired by another entity. See
"RESTRICTIONS ON ACQUISITION OF THE COMPANY -- Anti-Takeover Effect of the
Employment Agreement and Benefit Plans."
SEVERANCE PLAN
In connection with the Conversion, the Bank's Board of Directors plans to
adopt a Severance Plan for the benefit of its employees. The Severance Plan
provides that in the event there is a "change in control" (as defined in the
Severance Plan) of the Bank or the Company and (i) the Bank or any successor of
the Bank terminates the employment of any full time employee of the Bank in
connection with, or within 24 months after the change in control, other than for
"cause" (as defined in the Severance Plan), or (ii) an employee terminates his
or her employment with the Bank or any successor following a decrease in the
level of such employee's annual base salary rate or a transfer of such employee
to a location more than 40 miles distant from the employee's primary work
location within 24 months after a change in control, the employee shall be
entitled to a severance benefit equal to the greater of (a) an amount equal to
two weeks' salary at the employee's existing salary rate multiplied times the
employee's number of complete years of service as a Bank employee or (b) the
amount of one month's salary at the employee's salary rate at the time of
termination. Any officer of the Bank who, at the time of a "change in
control,"is a party to an employment agreement is not covered by the Severance
Plan.
EMPLOYEE STOCK OWNERSHIP PLAN
The Bank has established the ESOP for its eligible employees. The ESOP
will become effective upon the Conversion. Employees with one year of service
with the Bank who have attained age 21 are eligible to participate. As part of
the Conversion, the ESOP intends to borrow funds from the Company and use the
funds to purchase up to 8% of the shares of Common Stock to be issued in the
Conversion, estimated to be between 115,600 and 156,400 shares assuming the
issuance of between 1,445,000 and 1,955,000 shares. Shares sold above the
maximum of the Estimated Valuation Range (1,955,000 shares) may be sold to the
ESOP to fill its subscription or the ESOP may purchase some or all of the shares
covered by its subscription after the Conversion in the open market.
Collateral for the Company's loan to the ESOP will be the Common Stock
purchased by the ESOP. It is expected that the loan will be repaid principally
from the Bank's discretionary contributions to the ESOP within ten years.
Regular cash dividends, if any, paid on shares held by the ESOP may also be used
to reduce the loan. It is anticipated that the interest rate for the loan will
be a commercially reasonable rate at the time of the loan inception. The loan
will not be guaranteed by the Bank. Shares purchased by the ESOP and pledged as
security for the loan will be held in a suspense account for allocation among
participants as the loan is repaid.
Contributions to the ESOP and shares released from the suspense account in
an amount proportional to the repayment of the ESOP loan will be allocated among
ESOP participants on the basis of relative compensation in the year of
allocation. Benefits will vest in full upon five years of service with credit
given for years of service prior to the Conversion. Benefits are payable upon
death or disability. The Bank's contributions to the ESOP are not fixed, so
benefits payable and corresponding expenses under the ESOP cannot be determined
although benefits payable and corresponding expenses have been estimated in
preparing the pro forma computations set forth in this Prospectus. See "PRO
FORMA DATA."
80
<PAGE>
In connection with the establishment of the ESOP, the Company will
establish a committee of the Board of Directors to administer the ESOP. Trustees
for the ESOP will also be appointed prior to the Conversion. The ESOP committee
may instruct the trustees regarding investment of funds contributed to the ESOP.
Participating employees shall instruct the trustees as to the voting of all
shares allocated to their respective accounts and held in the ESOP. The
unallocated shares held in the suspense account, and all allocated shares for
which voting instructions are not received, will be voted by the trustees in
their discretion subject to the provisions of ERISA.
The ESOP may be considered an "anti-takeover" device since the ESOP may
become the owner of a sufficient percentage of the total outstanding Common
Stock of the Company that the vote or decision whether to tender shares of the
ESOP may be used as a defense in a contested takeover. See "RESTRICTIONS ON
ACQUISITION OF THE COMPANY -- Anti-Takeover Effect of Employment Agreement and
Benefit Plans."
PROPOSED MANAGEMENT RECOGNITION PLAN
The Boards of Directors of the Company and the Bank intend to adopt the
MRP, subject to approval of the stockholders of the Company at a meeting to be
held no sooner than 12 months following the Conversion. The MRP will serve as a
means of providing the directors and employees of the Bank with an ownership
interest in the Company in a manner designed to recognize past service and
encourage such persons to continue their service to the Bank. All directors and
certain employees of the Bank would receive benefits under the MRP.
The MRP will be administered and interpreted by a committee of the board of
directors of the Bank that is composed solely of two or more "non-employee
directors", as defined by the Exchange Act. The board of directors of the Bank
will appoint the trustees of the trust established pursuant to the MRP (the "MRP
Trust"). The trustees will have the responsibility to invest all funds
contributed by the Bank to the Trust.
At any time following approval of the MRP by the Company's stockholders,
the Company and the Bank expect to contribute sufficient funds to the MRP Trust
so that the MRP Trust could purchase a number of shares of Common Stock equal to
4% of the shares issued in the Conversion. Such shares would be provided by the
issuance of authorized but unissued shares of Common Stock or shares purchased
by the MRP Trust in the open market. Whether such shares will be purchased in
the open market or newly issued by the Company, and the timing of such
purchases, will depend on market and other conditions and the alternative uses
of capital available to the Company. Shares issued to recipients under the MRP
will be restricted and subject to forfeiture as described below.
Recipients would not be required to pay for shares issued to them under the
MRP. To the extent that the MRP acquires authorized but unissued shares of
Common Stock after the Conversion, the interests of existing shareholders will
be diluted.
Shares of Common Stock granted pursuant to the MRP will be in the form of
restricted stock which will vest over a period of time determined by the
committee. A recipient will be entitled to all voting and other stockholder
rights with respect to shares which have been awarded under the MRP. However,
until such shares have vested, they will be held in the MRP Trust. Such
unvested shares may not be sold, pledged or otherwise disposed of. In addition,
any cash dividends or stock dividends declared with respect to unvested share
awards will be held by the MRP Trust for the benefit of the recipients and such
dividends, including any interest thereon, will be paid out proportionately by
the MRP Trust to the recipients thereof as soon as practicable after the share
awards become vested. The MRP will provide that cash held by the MRP Trust
pursuant to receipt of dividends, including a special dividend or return of
capital, on the Common Stock held by the MRP Trust and unallocated to
participants may be used to purchase additional shares of Common Stock.
Under the terms of the MRP, if a recipient terminates employment for
reasons other than death or disability, the recipient will forfeit all rights to
the allocated shares which have not yet vested. All shares subject to an award
held by a recipient whose employment with or service to the Company, the Bank or
any subsidiary terminates due to death or disability, as defined in the MRP,
shall be vested as of the recipient's last day of
81
<PAGE>
employment with or service to the Company, the Bank or any subsidiary and shall
be distributed as soon as practicable thereafter. All shares subject to an award
held by a recipient also shall be vested in the event a recipient ceases to be
an employee or a director, as applicable, following a change in control of the
Company, as defined in the MRP.
If the MRP is approved by the stockholders, the Bank expects to recognize a
compensation expense for the MRP awards in the amount of the fair market value
of the Common Stock granted. The expense would be recognized pro rata over the
years during which shares vest. The recipients of stock grants would be
required to recognize ordinary income equal to the fair market value of the
stock when the stock grants vest.
Assuming the issuance of 1,955,000 shares in the Conversion and receipt of
stockholder approval, 78,200 shares would be issued pursuant to the MRP and
allocated as follows:
<TABLE>
<CAPTION>
ESTIMATED NUMBER PERCENTAGE OF TOTAL
OF RESTRICTED SHARES RESTRICTED SHARES
RECIPIENT TITLE TO BE GRANT ISSUED
-------- ------ ----------- ------
<S> <C> <C> <C>
Malcolm B. Blankenship, Jr. Director 7,820 10.0%
James W. Duke Director 7,820 10.0%
Harold C. Earnhardt Vice Chairman 7,820 10.0%
K. V. Epting, Jr. Director 7,820 10.0%
Gordon P. Hurley Director 3,910 5.0%
Bobby A. Lomax Director 7,820 10.0%
Ronald E. Bostian Chairman, President, and 15,640 20.0%
Chief Executive Officer
Jeffrey C. Chisholm Senior Vice President and 9,775 12.5%
Chief Lending Officer
Dianne E. Hawkins Vice President, Treasurer, 9,775 12.5%
and Controller
Total 78,200 100.0%
</TABLE>
It is currently anticipated that 20% of the aggregate number of shares
granted to directors, officers and employees will be vested on the date of grant
promptly after shareholder approval of the MRP and that 20% of the aggregate
number of shares granted will vest on each of the next four annual anniversary
dates thereafter. The committee, in its sole and absolute discretion, may
provide for an accelerated vesting schedule for directors, officers and
employees who are eligible for retirement before the expiration of the
anticipated four-year vesting schedule.
PROPOSED OPTION PLAN
The Boards of Directors of the Company and the Bank intend to adopt the
Option Plan, subject to approval of the stockholders of the Company at a meeting
to be held no sooner than 12 months following the Conversion. As soon as
practicable following stockholder approval of the Option Plan, Common Stock in
the aggregate amount equal to 10% of the shares issued in the Conversion would
be reserved for future issuance by the Company upon the
82
<PAGE>
exercise of the stock options granted under the Option Plan. Assuming the
issuance of between 1,445,000 and 1,955,000 shares in the Conversion, an
aggregate of between 144,500 and 195,500 shares of Common Stock would be
reserved for issuance. However, some or all of the shares issued upon the
exercise of options granted under the Option Plan may be purchased in the open
market at the time of exercise.
Assuming the Option Plan is approved by the stockholders of the Company,
the Option Plan would be administered by a committee of the Company's Board of
Directors. Options granted under the Option Plan will have an option exercise
price of not less than the fair market value of the Common Stock on the date the
options are granted. Options granted under the Option Plan will have a term of
ten years, will not be transferable except upon death and will continue to be
exercisable upon retirement, death or disability.
Options granted to employees under the Option Plan may be "incentive stock
options" which are designed to result in beneficial tax treatment to the
employee but no tax deduction to the Company or the Bank. The holder of an
incentive stock option generally is not taxed for federal income tax purposes on
either the grant or the exercise of the option. However, the optionee must
include in his or her federal alternative minimum tax income any excess (the
"Bargain Element") of the acquired common stock's fair market value at the time
of exercise over the exercise price paid by the optionee. Furthermore, if the
optionee sells, exchanges, gives or otherwise disposes of such common stock
(other than in certain types of transactions) either within two years after the
option was granted or within one year after the option was exercised (an "Early
Disposition"), the optionee generally must recognize the Bargain Element as
compensation income for regular federal income tax purposes. Any gain realized
on the disposition in excess of the Bargain Element is subject to recognition
under the usual rules applying to dispositions of property. If a taxable sale or
exchange is made after such holding periods are satisfied, the difference
between the exercise price and the amount realized upon the disposition of the
common stock generally will constitute a capital gain or loss for tax purposes.
If an optionee exercises an incentive stock option and delivers shares of common
stock as payment for part or all of the exercise price of the stock purchased
("Payment Stock"), no gain or loss generally will be recognized with respect to
the Payment Stock; provided, however, if the Payment Stock was acquired pursuant
to the exercise of an incentive stock option, the optionee will be subject to
recognizing as compensation income the Bargain Element on the Payment Stock as
an Early Disposition if the exchange for the new shares occurs prior to the
expiration of the holding periods for the Payment Stock. The Company generally
would not recognize gain or loss or be entitled to a deduction upon either the
grant of an incentive stock option or the optionee's exercise of an incentive
stock option. However, if there is an Early Disposition, the Company generally
would be entitled to deduct the Bargain Element as compensation paid the
optionee.
Options granted to directors under the Option Plan would be "non-qualified
stock options." In general, the holder of a non-qualified stock option will
recognize compensation income equal to the amount by which the fair market value
of the common stock received on the date of exercise exceeds the sum of the
exercise price and any amount paid for the non-qualified stock option. If the
optionee elects to pay the exercise price in whole or in part with common stock,
the optionee generally will not recognize any gain or loss on the common stock
surrendered in payment of the exercise price. The Company would not recognize
any income or be entitled to claim any deduction upon the grant of a non-
qualified stock option. At the time the optionee is required to recognize
compensation income upon the exercise of the non-qualified stock option, the
Company would recognize a compensation expense and be entitled to claim a
deduction in the amount equal to such compensation income.
All options granted to participants under the Option Plan shall become
vested and exercisable at the rate determined by the committee when making an
award. Unvested options may not vest after a participant's employment with the
Company, the Bank or any subsidiary is terminated for any reason other than the
participant's death, disability or retirement. Unless the committee shall
specifically state otherwise at the time an option is granted, all options
granted to participants shall become vested and exercisable in full on the date
an optionee terminates his employment with or service to the Company, the Bank
or any subsidiary because of his death, disability or retirement. In addition,
all stock options will become vested and exercisable in full in the event that
the optionee ceases to be an executive officer, employee or director of the Bank
or the Company for any reason following a change in control of the Company, as
defined in the Option Plan. Options granted under the Option Plan will have a
term of ten years.
83
<PAGE>
Payment for shares purchased upon the exercise of options may be made
either in cash, by check, bank draft or money order or, if permitted by the
committee, by delivering shares of Common Stock (including shares acquired
pursuant to the exercise of an option) with a fair market value equal to the
total option price, or a combination of the foregoing. To the extent an
optionee already owns shares of Common Stock prior to the exercise of his or her
option, such shares could be used (if permitted by the committee) as payment for
the exercise price of the option. If the fair market value of a share of Common
Stock at the time of exercise is greater than the exercise price per share, this
feature would enable the optionee to acquire a number of shares of Common Stock
upon exercise of the option which is greater than the number of shares delivered
as payment for the exercise price. Because options may be exercised in part
from time to time, the ability to deliver Common Stock as payment of the
exercise price could enable the optionee to turn a relatively small number of
shares into a large number of shares.
It is expected that options granted under the Option Plan will be granted
in tandem with stock appreciation rights, pursuant to which optionees will have
the right to surrender exercisable options in exchange for payment by the
Company of an amount equal to the excess of the market value of shares of Common
Stock subject to the surrendered options over the exercise price of the
surrendered options. In the discretion of the committee, this payment may be
made in cash or in shares of Common Stock or in some combination of cash and
Common Stock. Stock appreciation rights shall terminate upon the exercise of
the options to which they are attached. Stock appreciation rights will be
subject to the same vesting and termination provisions as are applicable to the
stock options to which they are attached.
The Option Plan will provide that the Company's Board of Directors shall
have the discretionary authority to authorize cash payments to the holders of
unexercised options, both vested and unvested, equal to the amount of dividends
which would have been paid on shares subject to options if the options had been
exercised. No such payment may be made in connection with dividends or other
distributions which result in a reduction in the option exercise price. If an
optionee receives such a cash payment with respect to any unvested option, and
if such option is later forfeited, the optionee must repay any cash payment made
with respect to the forfeited option.
It is currently anticipated that 25% of the aggregate number of options
granted to executive officers and employees of the Company and the Bank will be
vested and exercisable on the date of grant and 25% of the aggregate number of
such options granted will vest and become exercisable on each of the next three
annual anniversary dates thereafter. It is expected that nonqualified stock
options granted to the nonemployee directors of the Company and the Bank will be
immediately vested and nonforfeitable.
Assuming the issuance of 1,955,000 shares in the Conversion and approval of
the Option Plan by the stockholders of the Company, the Board of Directors of
the Company and the Board of Directors of the Bank intend to grant options under
the Option Plan to the persons and in the amounts set forth below:
<TABLE>
<CAPTION>
ESTIMATED NUMBER
OF SHARES SUBJECT PERCENTAGE OF OPTIONS
RECIPIENT TITLE TO OPTION ISSUED
--------- ----- --------- -----
<S> <C> <C> <C>
Malcolm B. Blankenship, Jr. Director 5,865 3.0%
James W. Duke Director 5,865 3.0%
Harold C. Earnhardt Vice Chairman 5,865 3.0%
K. V. Epting, Jr. Director 5,865 3.0%
Gordon P. Hurley Director 5,865 3.0%
Bobby A. Lomax Director 5,865 3.0%
</TABLE>
84
<PAGE>
<TABLE>
<S> <C> <C> <C>
Ronald E. Bostian Chairman, President, and 39,100 20.0%
Chief Executive Officer
Jeffrey C. Chisholm Senior Vice President and 19,550 10.0%
Chief Lending Officer
Dianne E. Hawkins Vice President, 19,550 10.0%
Treasurer,
and Controller
Other Employees 82,110 42.0%
------- -----
Total 195,500 100.0%
======= =====
</TABLE>
If the Option Plan is approved by the stockholders of the Company, the
options granted to employees and directors pursuant to the Option Plan would be
issued in recognition of the recipients' past service to the Bank and as an
incentive for their continued performance. No cash consideration will be paid
for the options.
CERTAIN INDEBTEDNESS AND TRANSACTIONS OF MANAGEMENT
The Bank does not make loans to its directors or executive officers.
DESCRIPTION OF CAPITAL STOCK
THE COMPANY
The Company is authorized to issue 20,000,000 shares of Common Stock and
5,000,000 shares of preferred stock. Neither the authorized Common Stock nor
the authorized preferred stock has any par value.
COMMON STOCK. General. THE COMPANY'S COMMON STOCK WILL REPRESENT
NONWITHDRAWABLE CAPITAL, WILL NOT BE AN ACCOUNT OF AN INSURABLE TYPE, AND WILL
NOT BE INSURED BY THE FDIC OR ANY OTHER GOVERNMENTAL ENTITY. Upon payment of
the purchase price for the Common Stock, all such stock will be duly authorized,
validly issued, fully paid, and nonassessable.
Dividends. The holders of the Company's Common Stock will be entitled to
receive and share ratably in such dividends on Common Stock as may be declared
by the Board of Directors of the Company out of funds legally available
therefor, subject to applicable statutory and regulatory restrictions. See
"SUPERVISION AND REGULATION -- Regulation of the Company -- Restrictions on
Dividends." The ability of the Company to pay dividends may be dependent on the
receipt of dividends from the Bank. See "DIVIDEND POLICY," "SUPERVISION AND
REGULATION -- Regulation of the Bank -- Limitations on Dividends and Other
Capital Distributions," and "TAXATION."
Stock Repurchases. The shares of Common Stock do not have any redemption
provisions. Stock repurchases are subject to North Carolina corporate laws
regarding capital distributions.
Voting Rights. Upon Conversion, the holders of Common Stock, as the only
class of capital stock of the Company then outstanding, will possess exclusive
voting rights with respect to the Company. Such holders will have the right to
elect the Company's Board of Directors and to act on such other matters as are
required to be presented to stockholders under North Carolina law or as are
otherwise presented to them. Each holder of Common Stock will be entitled to
one vote per share. The holders of Common Stock will have no right to vote
their shares cumulatively in the election of directors. As a result, the
holders of a majority of the shares of Common Stock will have the ability to
elect all of the directors on the Company's Board of Directors.
85
<PAGE>
Liquidation Rights. In the event of a liquidation, dissolution or winding
up of the Company, the holders of Common Stock of the Company would be entitled
to ratably receive, after payment of or making of adequate provisions for, all
debts and liabilities of the Company, including the liquidation account
established in connection with the Conversion, and after the rights, if any, of
preferred stockholders of the Company, all remaining assets of the Company
available for distribution.
Preemptive Rights. Holders of the Common Stock of the Company will not be
entitled to preemptive rights with respect to any shares which may be issued by
the Company.
Shares Owned by Directors and Executive Officers. All shares of Common
Stock issued in the Conversion to directors and executive officers of the
Company and the Bank will contain a restriction providing that such shares may
not be sold without the written permission of the OTS for a period of one year
following the date of purchase, except in the event of death of the director or
the executive officer.
PREFERRED STOCK. None of the 5,000,000 shares of the Company's authorized
preferred stock have been issued and none will be issued in the Conversion.
Such stock may be issued in one or more series with such rights, preferences and
designations as the Board of Directors of the Company may from time to time
determine subject to applicable law and regulations. If and when such shares
are issued, holders of such shares may have certain preferences, powers and
rights (including voting rights) senior to the rights of the holders of the
Common Stock. The Board of Directors can (without stockholder approval) issue
preferred stock with voting and conversion rights which could, among other
things, adversely affect the voting power of the holders of the Common Stock and
assist management in impeding an unfriendly takeover or attempted change in
control of the Company that some stockholders may consider to be in their best
interests but to which management is opposed. See "RESTRICTIONS ON ACQUISITION
OF THE COMPANY -- Restrictions in Articles of Incorporation and Bylaws." The
Company has no current plans to issue preferred stock.
RESTRICTIONS ON ACQUISITION. Acquisitions of the Company and acquisitions
of the capital stock of the Company are restricted by provisions in the Articles
of Incorporation and Bylaws of the Company and by various federal and state laws
and regulations. See "RESTRICTIONS ON ACQUISITIONS OF THE COMPANY --
Restrictions in Articles of Incorporation and Bylaws" and "-- Regulatory
Restrictions."
THE BANK
COMMON STOCK. After consummation of the Conversion, the Bank will be
authorized to issue 100,000 shares of common stock, $0.01 par value ("the Bank
Common Stock"). The Bank Common Stock will represent nonwithdrawable capital,
will not be an account of an insurable type, and will not be insured by the FDIC
or any other governmental entity.
DIVIDENDS. The payment of dividends by the Bank is subject to limitations
which are imposed by OTS regulations. See "DIVIDEND POLICY" and "SUPERVISION
AND REGULATION -- Federal Regulation of the Bank -- Limitations on Capital
Distributions." In addition, federal income tax law considerations may affect
the ability of the Bank to pay dividends and make other capital distributions.
See "TAXATION."
VOTING RIGHTS. As a federally-chartered savings bank, the Bank currently
has no stockholders, and voting rights in the Bank are currently held by the
Bank's members (depositors). Members elect the Bank's Board of Directors and
vote on such other matters as are required to be presented to them under federal
law.
Upon Conversion, the Company, as sole stockholder of the Bank, will possess
the exclusive voting rights with respect to the Bank Common Stock, will elect
the Bank's Board of Directors and will act on such other matters
86
<PAGE>
as are required to be presented to stockholders under federal law or as are
otherwise presented to stockholders by the Bank's Board of Directors.
LIQUIDATION RIGHTS. After the Conversion, in the event of any liquidation,
dissolution or winding up of the Bank, the Company, as holder of all of the
Bank's outstanding capital stock, would be entitled to receive all remaining
assets of the Bank available for distribution, after payment of or making of
adequate provisions for, all debts and liabilities of the Bank (including all
deposit accounts and accrued interest thereon) and after distribution of the
balance in the liquidation account established in connection with the Conversion
to Eligible Account Holders and Supplemental Eligible Account Holders. See "THE
CONVERSION -- Effects of Conversion -- Liquidation Rights."
RESTRICTIONS ON ACQUISITION. Acquisitions of the Bank and acquisitions of
its capital stock are restricted by various federal regulations. See
"RESTRICTIONS ON ACQUISITION OF THE COMPANY -- The Bank."
RESTRICTIONS ON ACQUISITION OF THE COMPANY
RESTRICTIONS IN ARTICLES OF INCORPORATION AND BYLAWS. The Articles of
Incorporation and Bylaws of the Company contain certain provisions that are
intended to encourage a potential acquiror to negotiate any proposed acquisition
of the Company directly with the Company's Board of Directors. An unsolicited
non-negotiated takeover proposal can seriously disrupt the business and
management of a corporation and cause it great expense. Accordingly, the Board
of Directors believes it is in the best interests of the Company and its
stockholders to encourage potential acquirors to negotiate directly with
management. The Board of Directors believes that these provisions will encourage
such negotiations and discourage hostile takeover attempts. It is also the Board
of Directors' view that these provisions should not discourage persons from
proposing a merger or transaction at prices reflective of the true value of the
Company and that otherwise is in the best interests of all stockholders.
However, these provisions may have the effect of discouraging offers to purchase
the Company or its securities which are not approved by the Board of Directors
but which certain of the Company's stockholders may deem to be in their best
interests or pursuant to which stockholders would receive a substantial premium
for their shares over the current market prices. Therefore, the existence of
such anti-takeover provisions in fact may not always be in the best interests of
all shareholders. Stockholders who might desire to participate in such a
takeover not supported by management may not have an opportunity to do so. Such
provisions will also render the removal of the current Board of Directors and
management more difficult. Nevertheless, the Boards of Directors of the Bank and
the Company believe these provisions are in the best interests of the
stockholders because they will assist the Company's Board of Directors in
managing the affairs of the Company in the manner they believe to be in the best
interests of stockholders generally and because a company's board of directors
is often best able in terms of knowledge regarding the company's business and
prospects, as well as resources, to negotiate the best transaction for its
stockholders as a whole.
The following description of certain of the provisions of the Articles of
Incorporation and Bylaws of the Company is necessarily general and reference
should be made in each instance to such Articles of Incorporation and Bylaws.
See "ADDITIONAL INFORMATION" regarding how to obtain a copy of these documents.
Board of Directors. The Bylaws of the Company provide that the number of
directors shall not be less than five nor more than 15. The initial number of
directors is seven, but such number may be changed by resolution of the Board of
Directors. These provisions have the effect of enabling the Board of Directors
to elect directors friendly to management in the event of a non-negotiated
takeover attempt and may make it more difficult for a person seeking to acquire
control of the Company to gain majority representation on the Board of Directors
in a relatively short period of time. The Company believes these provisions to
be important to continuity in the composition and policies of the Board of
Directors.
The Articles of Incorporation provide that, if and when the number of
directors is at least nine, there will be staggered elections of directors so
that the directors will each be initially elected to one, two or three-year
terms, and thereafter (so long as the number of directors is nine or more) all
directors will be elected to terms of three years
87
<PAGE>
each. This provision also has the effect of making it more difficult for a
person seeking to acquire control of the Company to gain majority representation
on the Board of Directors.
The Articles of Incorporation and Bylaws of the Company provide that
directors may be removed prior to the end of their term only for cause.
Cumulative Voting. The Articles of Incorporation do not provide for
cumulative voting for any purpose. Cumulative voting in election of directors
entitles a stockholder to cast a total number of votes equal to the number of
directors to be elected multiplied by the number of his or her shares and to
distribute that number of votes among such number of nominees as the stockholder
chooses. The absence of cumulative voting for directors limits the ability of a
minority stockholder to elect directors. Because the holder of less than a
majority of the Company's shares cannot be assured representation on the Board
of Directors, the absence of cumulative voting may discourage accumulations of
the Company's shares or proxy contests that would result in changes in the
Company's management. The Board of Directors believes that (i) elimination of
cumulative voting will help to assure continuity and stability of management and
policies; (ii) directors should be elected by a majority of the stockholders to
represent the interests of the stockholders as a whole rather than be the
special representatives of particular minority interests; and (iii) efforts to
elect directors representing specific minority interests are potentially
divisive and could impair the operations of the Company.
Special Meetings. The Bylaws of the Company provide that special meetings
of stockholders of the Company may be called by the Chairman of the Board, the
Chief Executive Officer, the President, or by the Board of Directors. If a
special meeting is not called by such persons or entities, stockholder proposals
cannot be presented to the stockholders for action until the next annual
meeting.
Capital Stock. The Articles of Incorporation of the Company authorize the
issuance of 20,000,000 shares of common stock and 5,000,000 shares of preferred
stock. The shares of common stock and preferred stock authorized in addition to
the number of shares of Common Stock to be issued pursuant to the Conversion
were authorized to provide the Company's Board of Directors with flexibility to
issue additional shares, without further stockholder approval, for proper
corporate purposes, including financing, acquisitions, stock dividends, stock
splits, director and employee stock options, grants of restricted stock to
directors and certain employees and other appropriate purposes. However,
issuance of additional authorized shares may also have the effect of impeding or
deterring future attempts to gain control of the Company.
The Board of Directors also has sole authority to determine the terms of
any one or more series of preferred stock, including voting rights, conversion
rights, dividend rights, and liquidation preferences, which could adversely
affect the voting power of the holders of the Common Stock and discourage an
attempt to acquire control of the Company. The Board of Directors does not
intend to issue any preferred stock, except on terms which it deems to be in the
best interests of the Company and its stockholders. However, the Board of
Directors has the power, to the extent consistent with its fiduciary duties, to
issue preferred stock to persons friendly to management or otherwise in order to
impede attempts by third parties to acquire voting control of the Company and to
impede other transactions not favored by management. The Board of Directors
currently has no plans for the issuance of additional shares of Common Stock
(except for such shares as may be necessary to fund a MRP and a Option Plan) or
of shares of preferred stock.
Director Nominations. The Bylaws of the Company require a stockholder who
intends to nominate a candidate for election to the Board of Directors at a
stockholders' meeting to give written notice to the Secretary of the Company at
least 50 days (but not more than 90 days) in advance of the date of the meeting
at which such nominations will be made. The nomination notice is also required
to include specified information concerning the nominee and the proposing
stockholder. The Board of Directors of the Company believes that it is in the
best interests of the Company and its stockholders to provide sufficient time
for the Board of Directors to study all nominations and to determine whether to
recommend to the stockholders that such nominees be considered.
88
<PAGE>
Bank Charter. The Bank's stock charter provides that, for five years
following the Conversion, no person shall acquire more than ten percent of the
Bank's common stock. Any shares acquired in violation of this provision shall
be non-voting shares. Also, the Bank's charter permits only the Bank's Board of
Directors to call a special meeting of stockholders relating to a change in
control or recharter amendment during the five years following the Conversion.
SUPERMAJORITY VOTING PROVISIONS. The Company's Articles of Incorporation
require the affirmative vote of 75% of the outstanding shares entitled to vote
to approve a merger, consolidation, or other business combination, unless the
transaction is approved, prior to consummation, by the vote of at least 75% of
the number of the Continuing Directors (as defined in the Articles of
Incorporation) on the Company's Board of Directors. "Continuing Directors"
generally includes all members of the Board of Directors who are not affiliated
with any individual, partnership, trust or other person or entity (or the
affiliates and associates of such person or entity) which is a beneficial owner
of 10% or more of the voting shares of the Company. This provision could tend to
make the acquisition of the Company more difficult to accomplish without the
cooperation or favorable recommendation of the Company's Board of Directors.
ANTI-TAKEOVER EFFECT OF BENEFIT PLANS AND EMPLOYMENT AGREEMENT. The
existence of the ESOP may tend to discourage takeover attempts because employees
participating under the ESOP and the trustees of the ESOP will effectively
control the voting of the large block of shares held by the ESOP. See
"MANAGEMENT OF THE BANK -- Employee Stock Ownership Plan." Also, if approved by
the stockholders of the Company at a meeting of stockholders following the
Conversion, the MRP and the Option Plan will provide for the ownership of
additional shares of Common Stock by the employees and the directors of the Bank
and for voting control by directors and certain employees over shares held by
the MRP and Option Plan which are attributable to grants made to them under such
plans even though the grants are not yet vested. See "MANAGEMENT OF THE BANK --
Proposed Management Recognition Plan" and "-- Proposed Option Plan."
If (i) the Option Plan is approved by the stockholders of the Company at a
meeting held no sooner than 12 months following the Conversion and all of the
stock options which could be granted to directors and executive officers under
the Option Plan are granted and exercised or the shares for such options are
acquired by the Option Plan and all option shares are acquired in the open
market, (ii) the MRP is approved by the stockholders of the Company at a meeting
held no sooner than 12 months following the Conversion, all of the MRP shares
which could be granted to directors and executive officers are granted and
issued and all such shares are acquired in the open market, (iii) the ESOP
acquires 8% of the shares issued in the Conversion and none of such shares are
allocated, and (iv) the Company did not issue any additional shares of its
Common Stock, the shares held by directors and executive officers and their
associates as a group, including (a) shares purchased outright in the
Conversion, (b) shares purchased by the ESOP, (c) shares purchased pursuant to
the Option Plan and (d) shares granted under the MRP, would give such persons
effective control over as much as 44.63% or 38.73%, at the minimum and maximum
of the Estimated Valuation Range, respectively, of the Common Stock issued and
outstanding.
The existence of the employment agreement with employees could make a
business combination with the Bank more costly and could discourage such
transactions. See "MANAGEMENT OF THE BANK -- Employment Agreement."
REGULATORY RESTRICTIONS. A federal regulation prohibits any person prior
to the completion of a conversion from transferring, or entering into any
agreement or understanding to transfer, the legal or beneficial ownership of the
subscription rights issued under a plan of conversion or the stock to be issued
upon their exercise. This regulation also prohibits any person prior to the
completion of a conversion from offering, or making an announcement of an offer
or intent to make an offer, to purchase such subscription rights or stock. For
three years following conversion, this regulation prohibits any person, without
the prior approval of the OTS, from acquiring or making an offer to acquire (if
the offer is opposed by the savings association) more than 10% of the stock of
any converted savings institution if such person is, or after consummation of
such acquisition would be, the beneficial owner of more than 10% of such stock.
In the event that any person, directly or indirectly, violates this regulation,
89
<PAGE>
the securities beneficially owned by such person in excess of 10% may not be
counted as shares entitled to vote and may not be voted by any person or counted
as voting shares in connection with any matter submitted to a vote of
stockholders. Like the provisions of the Articles of Incorporation outlined
above, these federal regulations can make a change in control more difficult,
even if desired by the holders of the majority of the shares of the stock. The
Board of Directors reserves the right to ask the OTS or other federal regulators
to enforce these restrictions against persons seeking to obtain control of the
Company, whether in a proxy solicitation or otherwise. The policy of the Board
is that these legal restrictions must be observed in every case, including
instances in which an acquisition of control of the Company is favored by a
majority of the stockholders.
Federal law provides that no company, "directly or indirectly or acting in
concert with one or more persons, or through one or more subsidiaries, or
through one or more transactions," may acquire "control" of a savings
association at any time without the prior approval of the OTS. In addition,
federal regulations require that, prior to obtaining control of a savings
association, a person, other than a company, must give 60 days' prior notice to
the OTS and have received no OTS objection to such acquisition of control. Any
company that acquires such control becomes a "savings and loan holding company"
subject to registration, examination and regulation as a savings and loan
holding company. Under federal law (as well as the regulations referred to
below) the term "savings association" includes federally-chartered SAIF-insured
institutions and holding companies thereof.
Control, as defined under federal law, in general means ownership, control
of or holding irrevocable proxies representing more than 25% of any class of
voting stock, control in any manner of the election of a majority of a savings
association's directors, or a determination by the OTS that the acquiror has the
power to direct, or directly or indirectly to exercise a controlling influence
over, the management or policies of the institution. Acquisition of more than
10% of any class of a savings association's voting stock, if the acquiror also
is subject to any one of eight "control factors," constitutes a rebuttable
determination of control under the OTS regulations. Such control factors
include the acquiror being one of the two largest stockholders. The
determination of control may be rebutted by submission to the OTS, prior to the
acquisition of stock or the occurrence of any other circumstances giving rise to
such determination, of a statement setting forth facts and circumstances which
would support a finding that no control relationship will exist and containing
certain undertakings. The OTS regulations provide that persons or companies
which acquire beneficial ownership exceeding 10% or more of any class of a
savings association's stock must file with the OTS a certification that the
holder is not in control of such institution, is not subject to a rebuttable
determination of control and will take no action which would result in a
determination or rebuttable determination of control without prior notice or
approval of the OTS, as applicable. See "SUPERVISION AND REGULATION --
Regulation of the Company."
CERTAIN PROVISIONS OF THE ARTICLES OF INCORPORATION
AND BYLAW OF THE COMPANY
LIMITATIONS OF LIABILITY
The Articles of Incorporation of the Company provide that the directors
shall not be personally liable to the corporation they serve or its stockholders
for money damages for breach of any duty as a director to the fullest extent
permitted by North Carolina law. The North Carolina Business Corporation Act
authorizes such provisions, but provides that they shall not be effective with
respect to (i) acts or omissions of directors that the director knew or believed
at the time were clearly in conflict with the best interests of the corporation,
(ii) transactions from which the director derived an improper personal benefit,
(iii) liability for certain unlawful distributions of corporation assets, and
(iv) with respect to acts or omissions that occurred prior to the effectiveness
of the provisions.
INDEMNIFICATION
The Bylaws of the Company provide that any person who serves as a director,
officer, employee or agent of the corporation shall have a right to be
indemnified by the corporation they serve to the fullest extent allowed by
applicable law for liability or litigation expense arising out of activities in
such capacities. Both the Bylaws and the
90
<PAGE>
North Carolina Business Corporation Act provide that there shall be no
indemnification for liability or expense arising out of activities which were
known or believed by such persons at the time of such activities to be clearly
in conflict with the best interests of the corporation.
DISCLOSURE OF SEC POSITION ON INDEMNIFICATION FOR SECURITIES ACT
LIABILITIES
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to directors, officers and controlling persons of the Company
pursuant to the foregoing provisions, or otherwise, the Company has been advised
that in the opinion of the SEC such indemnification is against public policy as
expressed in the Securities Act, and is therefore, unenforceable. In the event
that a claim for indemnification against such liabilities (other than the
payment by the Company of expenses incurred or paid by a director, officer or
controlling person of the Company in the successful defense of any action, suit
or proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the Company will, unless in the
opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Securities
Act and will be governed by the final adjudication of such issue.
THE CONVERSION
THE BOARD OF DIRECTORS OF THE BANK HAS ADOPTED AND THE OTS HAS APPROVED
COMPLETION OF THE TRANSACTIONS DESCRIBED IN THE PLAN OF CONVERSION SUBJECT TO
APPROVAL BY THE MEMBERS OF THE BANK AND TO THE SATISFACTION OF CERTAIN OTHER
CONDITIONS. APPROVAL BY THE OTS DOES NOT CONSTITUTE A RECOMMENDATION OR
ENDORSEMENT OF THE PLAN OF CONVERSION BY THE OTS.
GENERAL
The Bank was organized and has operated as a traditional savings and loan
association. It recognizes that the banking and financial services industries
are in the process of fundamental change, reflecting changes in the local,
national and international economies, technological changes and changes in state
and federal laws. As a result, for several years the Bank has been studying the
environment in which it operates and its strategic options.
As a result of its study of its strategic options, the Bank adopted the
Plan of Conversion. The Bank believes that converting the bank from the mutual
to stock form and organizing the Company will provide increased flexibility for
the Bank and the Company to react to changes in their operating environment,
regardless of the strategies ultimately chosen.
The existing management of the Bank and the Company believes that at this
time it is in the best interests of the Bank, the Company and the stockholders
of the Company for the Company to remain an independent financial institution.
Assuming the consummation of the Conversion, the Company and the Bank intend to
pursue the business strategy described in this Prospectus with the goal of
enhancing shareholder value over the long term. Neither the Company nor the
Bank has any existing plan to consider any business combination, and neither has
any agreement or understanding with respect to any possible business
combination.
The Board of Director's adoption of the Plan of Conversion is subject to
approval by the members of the Bank and receipt of required regulatory
approvals. Pursuant to the Plan of Conversion, the Bank will be converted from
a federally-chartered mutual savings bank to a federally-chartered stock savings
bank and will become a wholly-owned subsidiary of the Company. The Company will
issue the Common Stock to be sold in the Conversion and will use that portion of
the net proceeds thereof which it does not retain to purchase the capital stock
of the Bank. By letter dated October 29, 1998, the OTS approved the Bank's
application for Conversion, subject to approval of the Plan of Conversion by the
members of the Bank and satisfaction of certain other conditions. The
91
<PAGE>
Special Meeting will be held on December 17, 1998 for the purpose of considering
approval of the Plan of Conversion.
THE FOLLOWING IS A SUMMARY OF ALL MATERIAL PROVISIONS OF THE PLAN OF
CONVERSION. IT IS QUALIFIED IN ITS ENTIRETY BY THE PROVISIONS OF THE PLAN OF
CONVERSION, WHICH CONTAINS A MORE DETAILED DESCRIPTION OF THE TERMS OF THE
CONVERSION. THE PLAN OF CONVERSION IS ATTACHED AS ATTACHMENT I TO THE BANK'S
PROXY STATEMENT FOR THE SPECIAL MEETING WHICH HAS BEEN DELIVERED TO ANYONE WHO
RECEIVES A PROSPECTUS. THE PLAN OF CONVERSION CAN ALSO BE OBTAINED BY WRITTEN
REQUEST FROM THE BANK. See "ADDITIONAL INFORMATION."
PURPOSES OF CONVERSION
The Bank, as a mutual savings bank, now has no stockholders and no
authority to issue capital stock. By converting to the stock form of
organization, the Bank will be structured in the form used by most commercial
banks, other business entities and a substantial number of savings institutions.
Conversion to a federally-chartered capital stock savings bank and the formation
of a holding company offers a number of advantages which may be important to the
future and performance of the Bank, including (i) a larger capital base for the
Bank's operations, (ii) an enhanced future access to capital markets and (iii)
an opportunity for depositors of the Bank to become stockholders of the Company.
After completion of the Conversion, the unissued common and preferred stock
authorized by the Company's Articles of Incorporation will permit the Company,
subject to market conditions, to raise additional equity capital through further
sales of securities. Following the Conversion, the Company will also be able to
use stock-related incentive programs to attract, retain and provide incentives
for qualified directors and executive and other personnel of the Company and the
Bank. See "MANAGEMENT OF THE BANK -- Stock Based Benefits."
Formation of the Company will provide greater flexibility than the Bank
would otherwise have to expand and diversify its business activities through
existing or newly formed subsidiaries, or through acquisitions of, or mergers
with, both mutual and stock institutions, as well as other companies. However,
there are no current plans, arrangements, understandings or agreements regarding
any such business combinations.
EFFECTS OF CONVERSION
GENERAL. Each person with a deposit account in the Bank has pro rata
rights, based upon the balance in his or her account, in the net worth of the
Bank upon liquidation. However, this right is tied to the depositor's account
and has no tangible market value separate from such deposit account. Further,
the Bank's depositors can realize value with respect to their interests only in
the unlikely event that the Bank is liquidated and has a positive net worth. In
such an event, the depositors of record at that time, as owners, would share pro
rata in any residual surplus after other claims, including those with respect to
the deposit accounts of depositors, are paid.
Upon the Bank's Conversion, its Charter will be amended to authorize the
issuance of permanent nonwithdrawable capital stock to represent the ownership
of the Bank. THE CAPITAL STOCK WILL BE SEPARATE AND APART FROM DEPOSIT ACCOUNTS
AND WILL NOT BE INSURED BY THE FDIC, ANY OTHER GOVERNMENTAL ENTITY, THE COMPANY
OR THE BANK. Certificates will be issued to evidence ownership of the capital
stock. All of the outstanding capital stock of the Bank will be acquired by the
Company, which in turn will issue its Common Stock to purchasers in the
Conversion. The stock certificates issued by the Company will be transferable
and, therefore, subject to applicable law, the stock could be sold or traded if
a purchaser is available with no effect on any deposit account the seller may
hold at the Bank.
VOTING RIGHTS. Under the Bank's current Charter, deposit account holders
have voting rights with respect to certain matters relating to the Bank,
including the election of directors. After the Conversion, (i) deposit
account holders will not have voting rights with respect to the Bank
and will therefore not be able to elect directors of the Bank or control its
affairs; (ii) voting rights with respect to the Bank will be vested in the
Company
92
<PAGE>
as the sole stockholder of the Bank; and (iii) voting rights with respect to the
Company will be vested in the Company's stockholders. Each purchaser of Common
Stock will be entitled to vote on any matters to be considered by the Company's
stockholders. For a description of the voting rights of the holders of Common
Stock, see "DESCRIPTION OF CAPITAL STOCK."
DEPOSIT ACCOUNTS AND LOANS. The account balances, interest rates and other
terms of deposit accounts at the Bank and the existing deposit insurance
coverage of such accounts will not be affected by the Conversion (except to the
extent that a depositor directs the Bank to withdraw funds to pay for his or her
Common Stock). Furthermore, the Conversion will not affect any loan account, the
balances, interest rates, maturities or other terms of these accounts, or the
obligations of borrowers under their individual contractual arrangements with
the Bank.
CONTINUITY. The Bank will continue without interruption, during and after
completion of the Conversion, to provide its services to depositors and
borrowers pursuant to existing policies and will maintain its offices operated
by the existing management and employees of the Bank.
LIQUIDATION RIGHTS. In the unlikely event of a complete liquidation of the
Bank, either before or after Conversion, account holders would have claims for
the amount of their deposit accounts, including accrued interest, and would
receive the protection of deposit insurance up to applicable limits. In addition
to deposit insurance coverage, depositor liquidation rights before and after
Conversion would be as follows:
Liquidation Rights in Present Mutual Institution. In addition to the
protection of FDIC insurance up to applicable limits, in the event of a complete
liquidation of the Bank, each holder of a deposit account in the Bank in its
present mutual form would receive his or her pro rata share of any assets of the
Bank remaining after payment of claims of all creditors (including the claims of
all depositors in the amount of the withdrawal value of their accounts). Such
holder's pro rata share of such remaining assets, if any, would be in the same
proportion of such assets as the balance in his or her deposit account was to
the aggregate balance in all deposit accounts in the Bank at the time of
liquidation.
Liquidation Rights in Proposed Converted Institution. After Conversion,
each deposit account holder, in the event of a complete liquidation of the Bank,
would have a claim of the same general priority as the claims of all other
general creditors of the Bank in addition to the protection of FDIC insurance up
to applicable limits. Therefore, except as described below, the deposit account
holder's claim would be solely in the amount of the balance in his or her
deposit account plus accrued interest. The holder would have no interest in the
assets of the Bank above that amount.
The Plan of Conversion provides that there shall be established, upon the
completion of the Conversion, a special "liquidation account" for the benefit of
Eligible Account Holders (i.e., eligible depositors at December 31, 1996) and
Supplemental Eligible Account Holders (eligible depositors at September 30,
1998) in an amount equal to the net worth of the Bank as of the date of its
latest consolidated statement of financial condition contained in the final
prospectus relating to the sale of shares of Company Common Stock in the
Conversion. Each Eligible Account Holder and Supplemental Eligible Account
Holder would have an initial interest in such liquidation account for each
deposit account held in the Bank on the qualifying date. An Eligible Account
Holder and Supplemental Eligible Account Holder's interest as to each deposit
account would be in the same proportion of the total liquidation account as the
balance in his or her account on December 31, 1996 and September 30, 1998,
respectively, was to the aggregate balance in all deposit accounts of Eligible
Account Holders and Supplemental Eligible Account Holders on such dates.
However, if the amount in the deposit account of an Eligible Account Holder or
Supplemental Eligible Account Holder on any annual closing date of the Bank is
less than the lowest amount in such account on December 31, 1996 or September
30, 1998 and on any subsequent closing date, then the account holder's interest
in
93
<PAGE>
this special liquidation account would be reduced by an amount proportionate to
any such reduction, and the account holder's interest would cease to exist if
such deposit account were closed.
In addition, the interest in the special liquidation account would never be
increased despite any increase in the balance of the account holders' related
accounts after Conversion.
Any assets remaining after the above liquidation rights of Eligible Account
Holders and Supplemental Eligible Account Holders were satisfied would be
distributed to the Company as the sole stockholder of the Bank.
No merger, consolidation, purchase of bulk assets with assumption of
deposit accounts and other liabilities, or similar transaction, whether the
Bank, as converted, or another SAIF-insured institution is the surviving
institution, is deemed to be a complete liquidation for purposes of distribution
of the liquidation account. In any such transactions, the liquidation account
would be assumed by the surviving institution.
INCOME TAX CONSEQUENCES. The Bank has received an opinion from its special
counsel, Brooks, Pierce, McLendon, Humphrey & Leonard, L.L.P., of Greensboro,
North Carolina, to the effect that for federal income tax purposes: (i) the
Conversion will constitute a tax free reorganization with respect to the Bank
and no gain or loss will be recognized by the Bank either in its mutual or stock
form; (ii) no gain or loss will be recognized by the Bank upon the purchase of
the Bank's stock by the Company or upon the sale by the Company of its Common
Stock; (iii) no gain or loss will be recognized by the Bank's depositors with
respect to their deposit accounts at the Bank as a consequence of the
Conversion; (iv) the tax basis of depositors' deposit accounts at the Bank will
not be changed as a result of the Conversion; (v) assuming the Subscription
Rights have no value, no gain or loss will be recognized by Eligible Account
Holders, Supplemental Eligible Account Holders, Other Members, or directors,
officers and employees of the Bank upon either the issuance to them of the
Subscription Rights or the exercise or lapse thereof; (vi) no gain or loss will
be recognized by Eligible Account Holders or Supplemental Eligible Account
Holders upon the distribution to them of interests in the Liquidation Account;
(vii) assuming the Subscription Rights have no value, the tax basis for Common
Stock purchased in the Conversion will be the amount paid therefor; and (viii)
the tax basis of interests in the Liquidation Account will be zero. The Bank has
been further advised by its special counsel, Brooks, Pierce, McLendon, Humphrey
& Leonard, L.L.P., that the tax effects of the Conversion under North Carolina
tax laws will be consistent with the federal income tax consequences.
Several of the foregoing legal opinions are premised on the assumption that
the Subscription Rights will have no value. The Bank has been advised by
Ferguson that, in its opinion, the Subscription Rights will not have any
ascertainable value, based on the fact that such rights are acquired by the
recipients without cost, are non-transferable, are of short duration and afford
the recipients the right only to purchase Common Stock at a price equal to its
estimated fair market value as of the date such rights are issued, which will be
the same price paid by all purchasers in the Conversion. The opinion of Ferguson
is not binding on the IRS and if the Subscription Rights were ultimately
determined to have ascertainable value, recipients of Subscription Rights would
have to include in gross income an amount equal to the value of the Subscription
Rights received by them. The basis of the Common Stock purchased pursuant to
Subscription Rights would be increased by the amount of income realized with
respect to the receipt or exercise of the Subscription Rights. Moreover,
recipients of Subscription Rights could then have to report the transaction to
the IRS. Each Eligible Account Holder, Supplemental Eligible Account Holder,
Other Member or other recipient of Subscription Rights is encouraged to consult
with his, her or its own tax advisor as to the tax consequences in the event the
Subscription Rights are deemed to have ascertainable value.
No legal opinion has been or will be received with respect to any tax
consequences of the Conversion not specifically described above, including the
tax consequences to Eligible Account Holders, Supplemental Eligible Account
Holders, Other Members, other recipients of Subscription Rights or purchasers of
Common Stock under the laws of any other state, local or foreign taxing
jurisdiction to which they may be subject. Special counsel expresses no opinion
regarding the value of the Subscription Rights.
94
<PAGE>
PROSPECTIVE INVESTORS ARE URGED TO CONSULT WITH THEIR OWN TAX ADVISORS
REGARDING THE TAX CONSEQUENCES OF THE CONVERSION PARTICULAR
TO THEM.
COMMON STOCK. For information as to the characteristics of the Common
Stock to be issued under the Plan of Conversion, see "Description of Capital
Stock." COMMON STOCK ISSUED UNDER THE PLAN OF CONVERSION CANNOT, AND WILL NOT,
BE INSURED BY THE FDIC OR ANY OTHER GOVERNMENTAL AGENCY.
THE BANK WILL CONTINUE, IMMEDIATELY AFTER COMPLETION OF THE CONVERSION, TO
PROVIDE ITS SERVICES TO DEPOSITORS AND BORROWERS PURSUANT TO ITS EXISTING
POLICIES AND WILL RETAIN THE EXISTING MANAGEMENT AND EMPLOYEES OF THE BANK.
OTHER THAN FOR PAYMENT OF CERTAIN EXPENSES INCIDENT TO THE CONVERSION, NO ASSETS
OF THE BANK WILL BE DISTRIBUTED IN THE CONVERSION. THE BANK WILL CONTINUE TO BE
A MEMBER OF THE FHLB SYSTEM, AND ITS DEPOSIT ACCOUNTS WILL CONTINUE TO BE
INSURED BY THE FDIC UP TO APPLICABLE LIMITS. THE AFFAIRS OF THE BANK WILL
CONTINUE TO BE DIRECTED BY THE EXISTING BOARD OF DIRECTORS AND MANAGEMENT.
OFFERING OF COMMON STOCK
As part of the Conversion, the Company is making the Subscription Offering
of Common Stock in the priorities and to the persons described below under "--
Subscription Offering." In addition, any shares which remain unsubscribed for in
the Subscription Offering will be offered in the Community Offering to members
of the general public, with priority being given to natural persons residing or
located in the Local Community and trusts, including IRAs, Keogh accounts and
similar retirement accounts, established for the benefit of natural persons who
are residents of the Local Community. See "-- Community Offering." If necessary,
all shares of Common Stock not purchased in the Subscription Offering and
Community Offering, if any, may be offered for sale to the general public
through a syndicate of registered broker-dealers ("Selected Dealers") to be
formed and managed by Trident Securities acting as agent of the Company in the
sale of the Common Stock. See "-- Syndicated Community Offering." The Plan of
Conversion requires that the aggregate dollar amount of the Common Stock sold
equal not less than the minimum nor more than the maximum of the Estimated
Valuation Range which is established in connection with the Conversion;
provided, however, with the consent of the OTS the aggregate dollar amount of
the Common Stock sold may be increased to as much as 15% above the maximum of
the Estimated Valuation Range, without a resolicitation of subscribers or any
right to cancel subscriptions, in order to reflect changes in market and
financial conditions following commencement of the Subscription Offering. See
"-- Purchase Price of Common Stock and Number of Shares Offered." If the
Syndicated Community Offering is not feasible or successful and Common Stock
having an aggregate value of at least the minimum of the Estimated Valuation
Range is not subscribed for in the Subscription and Community Offering, the
Company will consult with the OTS to determine an appropriate alternative method
of selling all shares of Common Stock offered in the Conversion and not
subscribed for in the Offering. The same per share price ($10.00) will be paid
by purchasers in the Subscription, Community and Syndicated Community
Offering.
The Subscription Offering will expire at the Expiration Time, which is
12:00 noon, Eastern Time, on December 15, 1998, unless, with the approval of the
OTS, the Offering period is extended by the Company and the Bank. The Community
Offering, if any, may begin at any time after the Subscription Offering begins
and will terminate at the Expiration Time or at any time thereafter, but not
later than January 29, 1999, unless extended with the approval of the OTS. The
Syndicated Community Offering, if any, or other sale of all shares not
subscribed for in the Subscription and Community Offering, will be made as soon
as practicable following the Expiration Time. The sale of the Common Stock must,
under the federal conversion regulations, be completed within 45 days after the
Expiration Time unless such period is extended with the approval of the OTS. In
the event such an extension is approved, subscribers would be resolicited and
would be given the opportunity to increase (subject to maximum purchase
limitations), decrease (subject to minimum purchase limitations) or rescind
their subscriptions. If a subscriber fails to respond to the resolicitation by
the end of the resolicitation period, the subscription of such
95
<PAGE>
subscriber will be canceled, funds submitted with the subscription will be
refunded promptly with interest at the Bank's passbook savings rate, and holds
on accounts from which withdrawals were designated will be released. Any such
solicitation will be by means of an amended prospectus filed with the SEC. In
such event, substantial additional printing, legal and accounting expenses may
be incurred in completing the Conversion.
The commencement and completion of any required Community or Syndicated
Community Offering may be subject to market conditions and other factors beyond
the Company's control. Accordingly, no assurance can be given that any required
Community or Syndicated Community Offering or other sale of Common Stock will be
commenced at any particular time or as to the length of time that will be
required to complete the sale of all shares of Common Stock offered, and
significant changes may occur in the estimated pro forma market value of the
Common Stock, together with corresponding changes in the Offering price, the
number of shares being offered, and the net proceeds realized from the sale of
the Common Stock. The Plan of Conversion requires that the Conversion be
completed within 24 months after the date of approval of the Plan of Conversion
by the Bank's members.
SUBSCRIPTION OFFERING
In accordance with OTS conversion regulations, non-transferable
Subscription Rights have been granted under the Plan of Conversion to the
following persons in the following order of priority: (1) Eligible Account
Holders, provided, however, that the ESOP shall have first priority Subscription
Rights to the extent that the total number of shares of Common Stock sold in the
Conversion exceeds the maximum of the Estimated Valuation Range, (2) the ESOP;
provided, however, that the ESOP shall have first priority Subscription Rights
to the extent that the total number of shares of Common Stock sold in the
Conversion exceeds the maximum of the Estimated Valuation Range, (3)
Supplemental Eligible Account Holders, (4) Other Members (depositors of the Bank
at the close of business on October 30, 1998, the voting record date for the
Special Meeting) and (5) officers, directors and employees of the Bank. All
subscriptions received will be subject to the availability of the Company's
Common Stock after satisfaction of all subscriptions of all persons having prior
rights in the Subscription Offering, and to the maximum and minimum purchase
limitations set forth in the Plan of Conversion. See "-- Minimum and Maximum
Purchase Limitations."
ELIGIBLE ACCOUNT HOLDERS. Each Eligible Account Holder has been granted,
without payment therefor, non-transferable Subscription Rights to purchase
Common Stock up to the greater of $600,000 of Common Stock, one-tenth of one
percent of the total offering of Common Stock or 15 times the product (rounded
down to the next whole number) obtained by multiplying the total number of
shares of Common Stock to be issued by a fraction of which the numerator is the
amount of the qualifying deposit of the Eligible Account Holder and the
denominator is the total amount of qualifying deposits of all Eligible Account
Holders. If Eligible Account Holders subscribe for more shares of Common Stock
than are available for purchase, the shares offered will first be allocated
among the subscribing Eligible Account Holders so as to enable each subscribing
Eligible Account Holder to the extent possible, to purchase the number of shares
necessary to make his or her total allocation of Common Stock equal to the
lesser of 100 shares of Common Stock or the number of shares subscribed for by
such Eligible Account Holder. Any shares remaining after such allocation will be
allocated among the subscribing Eligible Account Holders whose subscriptions
remain unsatisfied in the proportion that each such Eligible Account Holder's
Qualifying Deposits bears to the total of the Qualifying Deposits of all such
Eligible Account Holders. Subscription Rights received by officers and directors
in this category based on their increased deposits in the Bank in the one-year
period preceding December 31, 1996 are subordinated to the Subscription Rights
of other Eligible Account Holders.
ESOP. The ESOP has been granted, without payment therefore, Subscription
Rights to purchase a number of shares equal to 8% of the aggregate number of
shares issued in the Conversion on a second priority basis. The ESOP intends to
purchase a total of 8% of the Common Stock issued in the Conversion under this
category. In the event the number of shares offered in the Conversion is
increased above the maximum of the Estimated Valuation Range, the ESOP shall
have a first priority right to purchase any such shares exceeding the maximum of
the Estimated Valuation Range up to an aggregate of 8% of the Common Stock.
However, the ESOP may purchase all or part of its shares in the open market
after the consummation of the Conversion.
96
<PAGE>
SUPPLEMENTAL ELIGIBLE ACCOUNT HOLDERS. To the extent that shares remain
available for purchase after satisfaction of subscriptions of Eligible Account
Holders and the ESOP, each Supplemental Eligible Account Holder has been granted
without payment therefore, non-transferable Subscription Rights to purchase
Common Stock up to the greater of $600,000 of Common Stock, one-tenth of one
percent of the total offering of Common Stock or 15 times the product (rounded
down to the next whole number) obtained by multiplying the total number of
shares of Common Stock to be issued by a fraction of which the numerator is the
amount of the qualifying deposit of the Supplemental Eligible Account Holder and
the denominator is the total amount of qualifying deposits of all Supplemental
Eligible Account Holders. If Supplemental Eligible Account Holders subscribe for
more shares of Common Stock than are available for purchase, the shares offered
will first be allocated among the subscribing Supplemental Eligible Account
Holders so as to enable each subscribing Supplemental Eligible Account Holder to
the extent possible, to purchase the number of shares necessary to make his or
her total allocation of Common Stock equal to the lesser of 100 shares of Common
Stock or the number of shares subscribed for by such Supplemental Eligible
Account Holder. Any shares remaining after such allocation will be allocated
among the subscribing Supplemental Eligible Account Holders whose subscriptions
remain unsatisfied in the proportion that each such Supplemental Eligible
Account Holder's Qualifying Deposits bears to the total of the Qualifying
Deposits of all such Supplemental Eligible Account Holders.
OTHER MEMBERS. To the extent that shares remain available for purchase
after satisfaction of subscriptions of Eligible Account Holders, the ESOP and
Supplemental Eligible Account Holders, Other Members, other than Eligible
Account Holders and Supplemental Eligible Account Holders, have each been
granted, without payment therefor, non-transferable Subscription Rights to
purchase Common Stock up to the greater of $600,000 of Common Stock or one-tenth
of one percent of the total offering of Common Stock in the Conversion. If
Other Members subscribe for more shares of Common Stock than remain available
for purchase by Other Members, shares will be allocated among the subscribing
Other Members in the proportion that the number of votes eligible to be cast by
each Other Member bears to the total number of votes eligible to be cast at the
Special Meeting by all Other Members whose subscriptions remain unsatisfied.
EMPLOYEES, OFFICERS AND DIRECTORS. To the extent that shares remain
available for purchase after satisfaction of subscriptions of Eligible Account
Holders, the ESOP, Supplemental Eligible Account Holders and Other Members, the
Bank's employees, officers and directors who are not Eligible Account Holders,
Supplemental Eligible Account Holders or Other Members have each been granted,
without payment therefor, non-transferable Subscription Rights to purchase
Common Stock up to $600,000, so long as the aggregate of such purchases does not
exceed 21% of the shares of Common Stock issued in the Conversion. If more
shares are subscribed for by such employees, officers and directors than are
available for purchase by them, the available shares will be allocated among
subscribing employees, officers and directors pro rata on the basis of the
amount of their respective subscriptions.
COMMUNITY OFFERING
Any shares of Common Stock which remain unsubscribed for in the
Subscription Offering may be offered by the Company to members of the general
public in the Community Offering, which may commence at any time after
commencement of the Subscription Offering, with priority given to natural
persons and trusts of natural persons residing or located in Rowan and Iredell
Counties in North Carolina (the "Local Community"), including IRA accounts,
Keogh accounts and similar retirement accounts established for the benefit of
natural persons who are residents of the Local Community. The Community Offering
may terminate at the Expiration Time or at any time thereafter, but no later
than January 29, 1999, unless further extended with the consent of the OTS. The
Offerings may not be extended beyond December 17, 2000. THE OPPORTUNITY TO
SUBSCRIBE FOR SHARES OF COMMON STOCK IN THE COMMUNITY OFFERING IS SUBJECT TO THE
RIGHT OF THE BANK AND THE COMPANY, IN THEIR SOLE DISCRETION, TO ACCEPT OR REJECT
ANY SUCH ORDERS, IN WHOLE OR IN PART, EITHER AT THE TIME OF RECEIPT OF AN ORDER
OR AS SOON AS PRACTICABLE FOLLOWING THE TERMINATION OF THE COMMUNITY OFFERING.
In the event the Bank and the Company reject any such orders after receipt,
subscribers will be promptly notified and all funds submitted with subscriptions
will be returned with interest at the Bank's passbook savings rate.
97
<PAGE>
In the event that subscriptions by subscribers in the Community Offering
whose orders would otherwise be accepted exceed the shares available for
purchase in the Community Offering, then subscriptions of natural persons and
trusts of natural persons residing in the Local Community, including IRAs, Keogh
accounts and similar retirement accounts established for the benefit of natural
persons who are residents of the Local Community ("First Priority Community
Subscribers") will be filled in full up to applicable purchase limitations (to
the extent such subscriptions are not rejected by the Bank and the Company)
prior to any allocation to other subscribers in the Community Offering.
In the event of an oversubscription by First Priority Community Subscribers
whose orders would otherwise be accepted, shares of Common Stock will be
allocated first to each First Priority Community Subscriber whose order is
accepted in full or in part by the Bank and the Company in the entire amount of
such order up to a number of shares no greater than 60,000 shares, which number
shall be determined by the Board of Directors of the Bank prior to the time the
Conversion is consummated with the intent to provide for a wide distribution of
shares among such subscribers. Any shares remaining after such allocation will
be allocated to each First Priority Community Subscriber whose order is accepted
in full or in part on an equal number of shares basis until all orders are
filled. Such allocation shall also be applied to subscriptions by other
subscribers in the Community Offering, in the event shares are available for
such subscribers but there is an oversubscription by them.
IN ORDER TO ENSURE PROPER ALLOCATION OF SHARES IN THE EVENT OF AN
OVERSUBSCRIPTION, IT IS THE RESPONSIBILITY OF SUBSCRIBERS IN THE COMMUNITY
OFFERING TO PROVIDE CORRECT ADDRESSES OF RESIDENCE ON THE ORDER FORMS.
SYNDICATED COMMUNITY OFFERING
The Plan of Conversion provides that, if necessary, all shares of Common
Stock not purchased in the Subscription and Community Offering, if any, may be
offered for sale to the general public in a Syndicated Community Offering
through Selected Dealers managed by Trident Securities acting as agent of the
Company in the sale of the Common Stock. THE COMPANY AND THE BANK HAVE THE RIGHT
TO REJECT ORDERS, IN WHOLE OR IN PART, IN THEIR SOLE DISCRETION IN THE
SYNDICATED COMMUNITY OFFERING. Neither Trident Securities nor any registered
broker-dealer shall have any obligation to take or purchase any shares of the
Common Stock in the Syndicated Community Offering; however, Trident Securities
has agreed to use its best efforts in the sale of shares in the Syndicated
Community Offering. Common Stock sold in the Syndicated Community Offering will
be sold at the purchase price of $10.00 per share which is the same price as all
other shares being offered in the Conversion. No person will be permitted to
subscribe in the Syndicated Community Offering for shares of Common Stock with
an aggregate purchase price of more than $600,000.
It is estimated that the Selected Dealers will receive a negotiated
commission based on the amount of Common Stock sold by the Selected Dealer,
payable by the Company. During the Syndicated Community Offering, Selected
Dealers may only solicit indications of interest from their customers to place
orders with the Company as of a certain date (the "Order Date") for the purchase
of shares of Common Stock. When and if Trident Securities and the Company
believe that enough indications and orders have been received in the Offering to
consummate the Conversion, Trident Securities will request, as of the Order
Date, Selected Dealers to submit orders to purchase shares for which they have
received indications of interest from their customers. Selected Dealers will
send confirmations of the orders to such customers on the next business day
after the Order Date. Selected Dealers will debit the accounts of their
customers on a date which will be three business days from the Order Date
("Debit Date"). Customers who authorize Selected Dealers to debit their
brokerage accounts are required to have the funds for payment in their account
on but not before the Debit Date. On the next business day following the Debit
Date, Selected Dealers will remit funds to the account that the Company
established for each Selected Dealer. After payment has been received by the
Company from Selected Dealers, funds will earn interest at the Bank's passbook
savings rate until the consummation of the Conversion. In the event the
Conversion is not consummated as described above, funds will be returned
promptly with interest to the Selected Dealers, who, in turn, will promptly
credit their customers' brokerage accounts.
98
<PAGE>
The Syndicated Community Offering may close at any time after the
Expiration Time at the discretion of the Bank and the Company, but in no case
later than January 29, 1999, unless further extended with the consent of the
OTS. The Offerings may not be extended beyond December 17, 2000.
PROSPECTUS DELIVERY
To ensure that each purchaser receives a Prospectus at least 48 hours prior
to the Expiration Date, in accordance with Rule 15c2-8 under the Exchange Act,
no Prospectus will be mailed later than five days or hand delivered any later
than two days prior to the Expiration Time. Execution of the Order Form will
confirm receipt or delivery of a Prospectus in accordance with Rule 15c2-8.
Order Forms will be distributed only with a Prospectus. Neither the Company,
the Bank, nor Trident Securities is obligated to deliver a Prospectus and an
Order Form by any means other than the U.S. Postal Service.
FRACTIONAL SHARES
In making allocations in the event of oversubscriptions, all computations
will be rounded down to the nearest whole share; no fractional shares will be
issued. Excess and other amounts sent by subscribers which are not used to
satisfy subscriptions will be refunded with interest at the Bank's passbook
savings rate, and amounts designated for withdrawal from deposit accounts will
be released.
PURCHASE PRICE OF COMMON STOCK AND NUMBER OF SHARES OFFERED
The purchase price of shares of Common Stock sold in the Offerings will be
$10.00 per share. The purchase price was determined by the Boards of Directors
of the Company and the Bank in consultation with the Bank's financial advisor
and sales agent, Trident Securities, and was based upon a number of factors,
including the market price per share of stock of other thrift institutions. The
OTS regulations governing conversions of federally-chartered mutual savings
banks to stock form require that the aggregate purchase price of the shares of
Common Stock of the Company sold in connection with the Conversion be equal to
not less than the minimum, nor more than the maximum, of the Estimated Valuation
Range which is established by an independent appraisal in the Conversion and is
described below; provided, however, that with the consent of the OTS the
aggregate purchase price of the Common Stock sold may be increased to up to 15%
above the maximum of the Estimated Valuation Range, without a resolicitation of
subscribers or any right to cancel, rescind or change subscription orders, to
reflect changes in market and financial condition following commencement of the
Subscription Offering.
OTS rules with respect to appraisals require that the independent appraisal
must include a complete and detailed description of the elements of the
appraisal report, justification for the methodology employed and sufficient
support for the conclusions reached. The appraisal report must include a full
discussion of each peer group member and documented analytical evidence
supporting variances from peer group statistics. The appraisal report must also
include a complete analysis of the converting institution's pro forma earnings,
which should include the institution's full potential once it fully deploys the
capital from the Conversion pursuant to its business plan.
The Bank has retained Ferguson, an independent appraisal firm experienced
in the valuation and appraisal of savings institutions and their holding
companies, to prepare an appraisal of the pro forma market value of the Bank and
the Company and to assist the Bank in preparing a business plan. For its
services in determining such valuation and assisting with the business plan,
Ferguson will receive an aggregate fee of $29,000 and will be reimbursed for its
out-of-pocket expenses.
Ferguson has informed the Bank that its appraisal has been made in reliance
upon the information contained in this Prospectus, including the financial
statements of the Bank. Ferguson has further informed the Bank that it also
considered the following factors, among others, in making the appraisal: (i) the
present and projected operating
99
<PAGE>
results and financial condition of the Company and the Bank; (ii) the economic
and demographic conditions in the Bank's existing market area; (iii) certain
historical, financial and other information relating to the Bank; (iv) the
proposed dividend policy of the Company; (v) a comparative evaluation of the
operating and financial statistics of the Bank with those of other savings
institutions; (vi) the aggregate size of the Offering of the Common Stock; and
(vii) the trading market for the securities of institutions Ferguson believes to
be comparable in relevant respects to the Company and the Bank and general
conditions in the markets for such securities. In addition, Ferguson has advised
the Bank that it has considered the effect of the Conversion on the net worth
and earnings potential of the Company and the Bank.
On the basis of its consideration of the above factors, Ferguson has
advised the Bank that, in its opinion, at October 16, 1998, the Estimated
Valuation Range of the Bank and the Company was from a minimum of $14,450,000 to
a maximum of $19,550,000, with a midpoint of $17,000,000. Based upon such
valuation and a purchase price for shares offered in the Conversion of $10.00
per share, the number of shares to be offered ranges from a minimum of 1,445,000
shares to a maximum of 1,955,000 shares, with a midpoint of 1,700,000
shares.
The Board of Directors of the Bank has reviewed the methodology and
assumptions used by Ferguson in preparing the appraisal and has determined that
the Estimated Valuation Range, as well as the methodology and assumptions used,
were reasonable and appropriate.
Upon completion of the Offerings, Ferguson will confirm or update its
valuation of the estimated aggregate pro forma market value of the Bank and the
Company. Based on the confirmed or updated appraisal, a determination will be
made of the total number of shares of Common Stock which shall be offered and
sold in the Conversion.
With the consent of the OTS, the aggregate price of the shares sold in the
Conversion may be increased by up to 15% above the maximum of the Estimated
Valuation Range, or to $22,482,500 (2,248,250 shares), without a resolicitation
of subscribers and without any right to cancel, rescind or change subscription
orders, to reflect changes in market and financial conditions following
commencement of the Subscription Offering.
No sale of shares of Common Stock may be consummated unless, after the
expiration of the offering period, Ferguson confirms to the Bank, the Company
and the OTS, that, to the best of its knowledge, nothing of a material nature
has occurred which, taking into account all relevant factors, would cause
Ferguson to conclude that the aggregate purchase price of the Common Stock sold
in the Conversion is incompatible with its estimate of the aggregate pro forma
market value of the Bank and the Company at the conclusion of the Offering. If
the aggregate pro forma market value of the Bank and the Company as of such date
is within the Estimated Valuation Range (or, with the consent of the OTS, not
more than 15% above the maximum of the Estimated Valuation Range), then such pro
forma market value will determine the number of shares of Common Stock to be
sold in the Conversion. If there has occurred a change in the aggregate pro
forma market value of the Bank and the Company so that the aggregate pro forma
market value is below the minimum of the Estimated Valuation Range or more than
15% above the maximum of the Estimated Valuation Range, a resolicitation of
subscribers may be made based upon a new Estimated Valuation Range, the Plan of
Conversion may be terminated or such other actions as the OTS may permit may be
taken.
In the event of a resolicitation, subscribers would be given a specified
time period within which to respond to the resolicitation. If a subscriber
fails to respond to the resolicitation by the end of such period, the
subscription of such subscriber will be canceled, funds submitted with the
subscription will be refunded promptly with interest at the Bank's passbook
savings rate, and holds on accounts from which withdrawals were designated will
be released. Any such resolicitation will be by means of an amended prospectus
filed with the SEC. A resolicitation may delay completion of the Conversion.
If the Plan of Conversion is terminated, all funds will be returned promptly
with interest at the Bank's passbook savings rate from the date payment was
deemed received, and holds on funds authorized for withdrawal from deposit
accounts will be released. See "-- Exercise of Subscription Rights and
Purchases in the Offering."
100
<PAGE>
THE VALUATION BY FERGUSON IS NOT INTENDED, AND MUST NOT BE CONSTRUED, AS A
RECOMMENDATION OF ANY KIND AS TO THE ADVISABILITY OF PURCHASING COMMON STOCK.
FERGUSON DID NOT INDEPENDENTLY VERIFY THE FINANCIAL STATEMENTS AND OTHER
INFORMATION PROVIDED BY THE BANK, NOR DID FERGUSON VALUE INDEPENDENTLY THE
ASSETS OR LIABILITIES OF THE BANK. THE VALUATION CONSIDERS THE BANK AS A GOING
CONCERN AND SHOULD NOT BE CONSIDERED AS AN INDICATION OF THE LIQUIDATION VALUE
OF THE BANK OR THE COMPANY. MOREOVER, BECAUSE SUCH VALUATION IS NECESSARILY
BASED UPON ESTIMATES AND PROJECTIONS OF A NUMBER OF MATTERS, ALL OF WHICH ARE
SUBJECT TO CHANGE FROM TIME TO TIME, NO ASSURANCE CAN BE GIVEN THAT PERSONS
PURCHASING SUCH SHARES IN THE CONVERSION WILL THEREAFTER BE ABLE TO SELL SHARES
AT PRICES IN THE RANGE OF THE FOREGOING VALUATION OF THE PRO FORMA MARKET VALUE
THEREOF.
A copy of the complete appraisal by Ferguson is on file and available for
inspection at the principal office of the OTS, 1700 G Street, N.W., Washington,
D.C. 20552 and at the Southeast Regional Office of the OTS, 1475 Peachtree
Street, N.E., Atlanta, Georgia 30309. A copy is also available for inspection at
the Stock Information Center, 401 West Innes Street, Salisbury, North Carolina
28144. A copy of the appraisal has also been filed as an exhibit to the
Registration Statement filed with the SEC with respect to the Common Stock
offered hereby. See "ADDITIONAL INFORMATION."
EXERCISE OF SUBSCRIPTION RIGHTS AND PURCHASES IN THE OFFERING
In order for Subscription Rights to be effectively exercised in the
Subscription Offering and in order to purchase in the Subscription Offering, the
original signed Order Form (including an original signed form of certification)
and the required payment for the aggregate dollar amount of Common Stock desired
or appropriate instructions authorizing withdrawal from one or more of the
Bank's deposit accounts (other than negotiable order of withdrawal accounts or
other demand deposit accounts), must be received by the Bank by the Expiration
Time, which is 12:00 noon, Eastern Time, on December 15, 1998. Subscription
Rights (i) for which the Bank does not receive original signed Order Forms by
the Expiration Time (unless such time is extended), or (ii) for which Order
Forms are executed defectively or are not accompanied by full payment (or
appropriate withdrawal instructions) for subscribed shares, will expire whether
or not the Bank has been able to locate the persons entitled to such rights. In
order to purchase in the Community Offering, the Order Form, accompanied by the
required payment for the aggregate dollar amount of Common Stock desired or
appropriate instructions authorizing withdrawal from one or more of the Bank's
deposit accounts (other than negotiable order of withdrawal accounts or other
demand deposit accounts), must be received by the Bank prior to the time the
Community Offering terminates, which could be at or any time subsequent to the
Expiration Time. No orders will be accepted from persons who do not have
Subscription Rights in the Subscription Offering unless a Community Offering is
commenced.
In the event that an Order Form is not delivered and is returned to the
Bank by the United States Postal Service (or the Bank is unable to locate the
addressee), is not received or is received after the Expiration Time, is
defectively completed or executed, or is not accompanied by full payment for the
shares subscribed for (including instances where a savings account or
certificate balance from which withdrawal is authorized is insufficient to fund
the amount of such required payment), the subscription rights for the person to
whom such rights have been granted will lapse as though that person failed to
return the completed Order Form within the time period specified. The Bank may,
but will not be required to, waive any irregularity on any Order Form or require
the submission of a corrected Order Form or the remittance of full payment for
subscribed shares by such date as the Bank may specify. The waiver of an
irregularity on an Order Form in no way obligates the Bank to waive any other
irregularity on that, or any irregularity on any other Order Form. Waivers will
be considered on a case-by-case basis. Photocopies of Order Forms, including
copies sent by facsimile, payments from private third parties, and payments made
by wire transfer or electronic transfers of funds will not be accepted. The
Bank's interpretation of the terms and conditions of the Plan of Conversion and
of any acceptability of any Order Form will be final. The Bank has the right to
investigate any irregularity on any Order Form. Persons wishing to use funds in
a Bank IRA to purchase Common Stock must visit the Stock Information Center on
or before December 8, 1998 in order to complete that purchase so that the
necessary forms may be forwarded for execution and returned prior to the
Expiration Time.
101
<PAGE>
EXECUTED ORDER FORMS ONCE RECEIVED BY THE BANK, MAY NOT BE MODIFIED,
AMENDED OR RESCINDED WITHOUT THE CONSENT OF THE BANK. The Bank has the right to
extend the subscription period subject to applicable regulations, unless
otherwise ordered by the OTS, or to waive or permit correction of incomplete or
improperly executed Order Forms, but does not represent that it will do so.
The amount to be remitted with an Order Form shall be the aggregate dollar
amount that a subscriber or purchaser desires to invest in the Subscription and
Community Offerings. Complete payment must accompany all completed Order Forms
submitted in the Subscription and Community Offerings in order for subscriptions
to be valid. See "-- Purchase Price of Common Stock and Number of Shares
Offered."
Payment for shares will be permitted to be made by any of the following
means: (i) in cash, if delivered in person to any office of the Bank; (ii) by
check, bank draft, negotiable order of withdrawal or money order, provided that
the foregoing will only be accepted subject to collection and payment; or (iii)
by appropriate authorization of withdrawal from any deposit account in the Bank
(other than a negotiable order of withdrawal account or other demand deposit
account). Order Forms directing that payment for shares be made by authorization
of withdrawal will be accepted only if, at the time the Order Forms are
received, there exists sufficient funds in the account from which withdrawal is
authorized to pay the full purchase price for the number of shares ordered. IN
ORDER TO ENSURE PROPER IDENTIFICATION OF SUBSCRIPTION RIGHTS AND PROPER
ALLOCATIONS IN THE EVENT OF AN OVERSUBSCRIPTION, IT IS THE RESPONSIBILITY OF
SUBSCRIBERS TO PROVIDE CORRECT ACCOUNT VERIFICATION INFORMATION ON THE ORDER
FORMS. ORDER FORMS SUBMITTED BY UNAUTHORIZED PURCHASERS OR IN AMOUNTS EXCEEDING
PURCHASE LIMITATIONS WILL NOT BE HONORED.
For purposes of determining the withdrawal balance of deposit accounts from
which withdrawals have been authorized, such withdrawals will be deemed to have
been made upon receipt of appropriate authorization therefor, but interest will
be paid by the Bank on the amount deemed to have been withdrawn at the
contractual rate of interest paid on such accounts until the date on which the
Conversion is completed or terminated.
Interest will be paid by the Bank on payments for Common Stock made in cash
or by check, bank draft, negotiable order of withdrawal or money order at the
Bank's passbook savings rate. Such interest shall be paid from the date the
order is accepted for processing and payment in good funds is received by the
Bank until consummation or termination of the Conversion. The Bank shall be
entitled to invest all amounts paid on subscriptions for Common Stock for its
own account until completion or termination of the Conversion. The Bank may not
knowingly lend funds or otherwise extend credit to any person to purchase Common
Stock. After amounts submitted for payment are applied to the purchase price
for shares sold, they will no longer earn interest, and they will not be insured
by the FDIC or any other government agency or other entity.
The Stock Order Forms contain appropriate means by which authorization of
withdrawals from deposit accounts may be made to pay for subscribed shares. Once
such a withdrawal has been authorized, none of the designated withdrawal amount
may be withdrawn (except by the Bank as payment for Common Stock) until the
Conversion is completed or terminated. Savings accounts will be permitted to be
established for the purpose of making payment for subscribed shares of Common
Stock. Funds authorized for withdrawal will continue to earn interest at the
applicable contract interest rate until completion or termination of the
Conversion or, in the case of an order submitted in the Community Offering,
until it is determined that such order cannot or will not be accepted.
Notwithstanding any regulatory provision regarding penalties for early
withdrawal from certificate accounts, payment for subscribed shares of Common
Stock will be permitted through authorization of withdrawals from such accounts
without the assessment of such penalties. However, if after such withdrawal the
applicable minimum balance requirement ceases to be satisfied, such certificate
account will be canceled and the remaining balance thereof will earn interest at
the Bank's passbook savings rate.
102
<PAGE>
Upon completion or termination of the Conversion, the Bank will return to
subscribers all amounts paid with subscriptions which are not applied to the
purchase price for shares, plus interest at its passbook savings rate from the
date good funds are received until the consummation or termination of the
Conversion, and the Bank will release deposit account withdrawal orders given in
connection with the subscriptions to the extent funds are not withdrawn and
applied toward the purchase of shares.
DELIVERY OF STOCK CERTIFICATES
Certificates representing Common Stock issued in the Conversion will be
mailed by the Company's transfer agent to persons entitled thereto at the
address of such persons appearing on the Order Forms as soon as practicable
following consummation of the Conversion. Any certificates returned as
undeliverable will be held by the Company until claimed by persons legally
entitled thereto or otherwise disposed of in accordance with applicable law.
Until certificates for Common Stock are available and delivered to subscribers,
subscribers may not be able to sell the shares of Common Stock for which they
have subscribed, even though trading of the Common Stock may have commenced.
Shares sold prior to receipt of a stock certificate are the responsibility of
the purchaser. Allocations of Common Stock will be deemed final only upon
stockholder receipt of the certificate representing the Common Stock.
PERSONS IN NON-QUALIFIED OR FOREIGN JURISDICTIONS
The Company will make reasonable efforts to comply with the securities laws
of all states of the United States in which Eligible Account Holders,
Supplemental Eligible Account Holders, or Other Members entitled to subscribe
for shares of Common Stock reside. However, no shares of Common Stock or
Subscription Rights under the Plan of Conversion will be offered or sold in a
foreign country, or in a state in the United States (i) where a small number of
persons otherwise eligible to subscribe for shares under the Plan of Conversion
reside or (ii) if the Company determines that compliance with the securities
laws of such state would be impracticable for reasons of cost or otherwise,
including, but not limited to, a requirement that the Company, the Bank or any
employee or representative thereof register as a broker, dealer, agent or
salesperson or register or otherwise qualify the Subscription Rights or Common
Stock for sale in such state. No payments will be made in lieu of the granting
of Subscription Rights to persons residing in such jurisdictions.
MARKETING ARRANGEMENTS
The Bank has retained Trident Securities to consult with and advise the
Bank and the Company and to assist the Company, on a best-efforts basis, in the
marketing of shares in the Offering. Trident Securities is a broker-dealer
registered with the SEC and a member of the NASD. Trident Securities is
headquartered in Raleigh, North Carolina, and its telephone number is (919) 781-
8900. Trident Securities will assist the Bank and the Company in the Conversion
as follows: (i) it will act as marketing advisor with respect to the
Subscription Offering and will assist the Company on a best-efforts basis in the
marketing of the Common Stock in the Community Offering and Syndicated Community
Offering; (ii) members of its staff will conduct training sessions to educate
directors, officers and employees of the Bank regarding the Conversion process;
and (iii) it will provide assistance in the establishment and supervision of the
Stock Information Center, including training staff to record and tabulate orders
for the purchase of Common Stock and to respond to customer inquiries.
For rendering its services, the Bank has agreed to pay Trident Securities
(a) a management fee equal to .25% of the aggregate dollar amount of Common
Stock sold in the Offerings; and (b) a commission equal to 2.0% of the aggregate
dollar amount of Common Stock sold in the Subscription and Community Offerings,
excluding shares purchased by the ESOP, directors, executive officers and their
"associates" (as defined in the Plan of Conversion). The Bank has also agreed
to pay to Selected Dealers, if any, negotiated commissions.
103
<PAGE>
The Bank has agreed to reimburse Trident Securities for its reasonable out-
of-pocket expenses, including but not limited to travel, communications, legal
fees and postage, and to indemnify Trident Securities against certain claims or
liabilities, including certain liabilities under the Securities Act. Trident has
agreed that the Bank is not required to pay its legal fees to the extent they
exceed $27,500 or its other out of pocket expenses to the extent they exceed
$10,000. Total fees and commissions to Trident Securities are expected to be
between $241,000 and $409,000 at the minimum and 15% above the maximum,
respectively, of the Estimated Valuation Range. See "PRO FORMA DATA" for the
assumptions used to determine these estimates.
Sales of Common Stock will be made primarily through registered
representatives affiliated with Trident Securities or by Selected Dealers
managed by Trident Securities. In addition, subject to applicable law, executive
officers of the Company and the Bank may participate in the solicitation of
offers to purchase Common Stock. Other employees of the Bank may participate in
the Offering in clerical capacities, providing administrative support in
effecting sales transactions and answering questions of a mechanical nature
relating to the proper execution of the Order Forms. Other questions of
prospective purchasers, including questions as to the advisability or nature of
the investment, will be directed to registered representatives. Such other
employees have been instructed not to solicit offers to purchase Common Stock or
provide advice regarding the purchase of Common Stock. A Stock Information
Center has been established in the Bank's office, in an area separate from the
Bank's banking operations. Employees will inform prospective purchasers that
their questions should be directed to the Stock Information Center and will
provide such persons with the telephone number of the Stock Information Center.
Stock orders will be accepted at the Bank's office and will be promptly
forwarded to the Stock Information Center for processing. Sales of Common Stock
by registered representatives will be made from the Stock Information Center. In
addition, the Bank may hire one or more temporary clerical persons to assist in
typing, opening mail, answering the phone, and with other clerical duties. An
employee of the Bank will also be present at the Stock Information Center to
process funds and answer questions regarding payment for stock, including
verification of account numbers in the case of payment by withdrawal
authorization and similar matters. Subject to applicable state law, the Company
will rely on Rule 3a4-1 under the Exchange Act, and sales of Common Stock will
be conducted within the requirements of Rule 3a4-1, so as to permit officers and
current full and part-time the Bank employees to participate in the sale of
Common Stock. No officer, director or employee of the Company or the Bank will
be compensated in connection with his or her participation by the payment of
commissions or other remuneration based either directly or indirectly on the
transactions in the Common Stock.
The engagement of Trident Securities and the work performed by Trident
Securities pursuant to its engagement should not be construed by purchasers of
Common Stock as constituting an endorsement or recommendation relating to such
investment or a verification of the accuracy or completeness of information
contained in this Prospectus.
MINIMUM AND MAXIMUM PURCHASE LIMITATIONS
The Plan of Conversion provides for certain limitations to be placed upon
the purchase of Common Stock by eligible subscribers and others in the
Conversion. Each subscriber must subscribe for a minimum of 50 shares. With
the exception of the ESOP, which is expected to subscribe for 8% of the shares
of Common Stock issued in the Conversion, the Plan of Conversion provides that
no person (including all persons on a joint account), either alone or together
with associates of or persons acting in concert with such person, may purchase
in the Conversion shares of Common Stock with an aggregate purchase price of
more than $600,000 (subject to certain exceptions). For purposes of the Plan of
Conversion, the directors of the Bank and of the Company are not deemed to be
acting in concert solely by reason of their Board membership. Pro rata
reductions within each Subscription Rights category will be made in allocating
shares to the extent that the maximum purchase limitations are exceeded.
The Bank's and the Company's Boards of Directors may, in their sole
discretion, increase the maximum purchase limitation set forth above up to 9.99%
of the shares of Common Stock sold in the Conversion, provided that orders for
shares which exceed 5% of the shares of Common Stock sold in the Conversion may
not exceed, in the aggregate, 10% of the shares sold in the Conversion. The
Bank and the Company do not intend to increase the
104
<PAGE>
maximum purchase limitation unless market conditions are such that an increase
in the maximum purchase limitation is necessary to sell a number of shares in
excess of the minimum of the Estimated Valuation Range. If the Boards of
Directors decide to increase the maximum purchase limitation, persons who
subscribed for the maximum number of shares of Common Stock will be, and other
large subscribers in the discretion of the Company and the Bank may be, given
the opportunity to increase their subscriptions accordingly, subject to the
rights and preferences of any person who has priority Subscription Rights.
The Plan of Conversion further provides that for purposes of the foregoing
limitations the term "associate" is used to indicate any of the following
relationships with a person:
(i) any relative or spouse of such person, or any relative of such
spouse, who has the same home as such person or who is a director or
officer of the Bank, the Company or any parent or subsidiary of the
Bank or of the Company;
(ii) any corporation or organization (other than the Bank, the Company or
a majority-owned subsidiary of the Bank or the Company) of which the
person is an officer or partner or is, directly or indirectly, the
beneficial owner of 10% or more of any class of equity security; and
(iii) any trust or other estate in which such person has a substantial
beneficial interest or as to which such person serves as a trustee or
in a similar fiduciary capacity, excluding any tax-qualified employee
stock benefit plans.
For purposes of the foregoing limitations, (i) directors and officers of
the Bank or the Company shall not be deemed to be associates or a group of
persons acting in concert solely as a result of their serving in such
capacities, (ii) the ESOP will not be deemed to be acting in concert with any of
its trustees for purposes of determining the number of shares which any such
trustee, individually, may purchase and (iii) shares of Common Stock held by the
ESOP and attributed to an individual will not be aggregated with other shares
purchased directly by, or otherwise attributable to, that individual.
For purposes of the foregoing limitations, persons will be deemed to be
"acting in concert" if they are (i) knowingly participating in a joint activity
or interdependent conscious parallel action towards a common goal (whether or
not pursuant to an express agreement), with respect to the purchase, ownership,
voting or sale of Common Stock or (ii) engaged in a combination or pooling of
voting or other interests in the securities of the Company for a common purpose
pursuant to any contract, understanding, relationship, agreement or other
arrangement, whether written or otherwise. THE COMPANY AND THE BANK WILL PRESUME
THAT CERTAIN PERSONS ARE ACTING IN CONCERT BASED UPON, AMONG OTHER THINGS, JOINT
ACCOUNT RELATIONSHIPS, ACCOUNTS WITH THE SAME ADDRESS AND THE FACT THAT SUCH
PERSONS HAVE FILED JOINT SCHEDULES 13D WITH THE SEC WITH RESPECT TO OTHER
COMPANIES.
APPROVAL, INTERPRETATION, AMENDMENT AND TERMINATION
Under the Plan of Conversion, the OTS's approval thereof, and applicable
OTS conversion regulations, consummation of the Conversion is subject to
satisfaction of certain conditions, including the following: (i) approval of the
Plan of Conversion by the affirmative vote of a majority of the votes eligible
to be cast by members of the Bank at the Special Meeting; (ii) sale of shares of
Common Stock for an aggregate purchase price equal to not less than the minimum
or more than the maximum of the Estimated Valuation Range unless the aggregate
purchase price is increased to as much as 15% above the maximum with the consent
of the OTS, and (iii) receipt by the Company and the Bank of favorable opinions
of counsel or other tax advisor as to the federal and state tax consequences of
the Conversion. See "-- Income Tax Consequences."
If all conditions for consummation of the Conversion are not satisfied, no
Common Stock will be issued, the Bank will continue to operate as federally-
chartered mutual savings bank, all subscription funds will be promptly
105
<PAGE>
returned with interest at the Bank's passbook savings rate, and all deposit
withdrawal authorizations (and holds placed on such accounts) will be canceled.
In such an event, the Company would not acquire control of the Bank.
All interpretations by the Bank and the Company of the Plan of Conversion
and of the Order Forms and related materials for the Subscription and Community
Offering will be final, subject to the authority of the OTS. The Bank and the
Company may reject Order Forms that are not properly completed. However, the
Company and the Bank retain the right, but will not be required, to waive
irregularities in submitted Order Forms or to require the submission of
corrected Order Forms or the remittance of full payment for all shares
subscribed for by such dates as they may specify. In addition, the Plan of
Conversion may be substantively amended by a two-thirds vote of the Bank's Board
of Directors at any time prior to the Special Meeting, and at any time
thereafter by a two-thirds vote of the Bank's Board of Directors with the
concurrence of the OTS. If the Bank determines upon the advice of counsel and
after consultation with the OTS that any such amendment is material, subscribers
would be given the opportunity to increase, decrease or cancel their
subscriptions. Also, as required by the regulations of the OTS, the Plan of
Conversion provides that the transactions contemplated thereby may be terminated
by a two-thirds vote of the Bank's Board of Directors at any time prior to the
Special Meeting and may be terminated by a two-thirds vote of the Bank's Board
of Directors at any time thereafter but prior to the completion of the
Conversion with the concurrence of the OTS, notwithstanding approval of the Plan
of Conversion by the Members at the Special Meeting. The Plan of Conversion
terminates automatically 24 months after the Special Meeting.
CERTAIN RESTRICTIONS ON TRANSFER OF SUBSCRIPTION RIGHTS; FALSE OR MISLEADING
ORDER FORMS
THE SUBSCRIPTION RIGHTS GRANTED UNDER THE PLAN OF CONVERSION ARE NON-
TRANSFERABLE. SUBSCRIPTION RIGHTS MAY BE EXERCISED ONLY BY THE PERSON TO WHOM
THEY ARE ISSUED AND ONLY FOR HIS OR HER OWN ACCOUNT. Persons exercising
Subscription Rights are required to certify that they are purchasing shares for
their own accounts within the purchase limitations set forth in the Plan of
Conversion and that they have no agreement or understanding for the sale or
transfer of such shares.
The Bank reserves the right to make an independent investigation of any
facts or circumstances brought to its attention that indicate or tend to
indicate that one or more persons acting independently or as a group acting in
concert may be attempting to violate or circumvent the regulatory prohibition on
transferability of Subscription Rights. The nature and extent of such
investigation will be at the Bank's sole discretion and the Bank may require a
holder of Subscription Rights to provide certified affidavits and other
documentation to satisfy the Bank that its Plan of Conversion and North Carolina
and federal conversion regulations regarding nontransferability are not being
subverted by actions of holders of Subscription Rights. In extreme cases the
Bank reserves the right to seek legal advice from the OTS as to compliance with
all regulations governing the Conversion, including the nontransferability of
Subscription Rights.
The Plan of Conversion provides that, if the Bank's Board of Directors
determines that a subscriber (i) has submitted a false or misleading information
on his or her Order Forms or otherwise in connection with the attempted purchase
of shares, (ii) has attempted to purchase shares of Common Stock in violation of
provisions of the Plan of Conversion or (iii) fails to cooperate with attempts
by the Bank or the Company or their employees or agents to verify information
with respect to purchase rights, the Board of Directors may reject the order of
such subscriber.
RESTRICTIONS ON REPURCHASE OF STOCK
Except as permitted by applicable regulations, for a period of three years
following Conversion, the Company may not repurchase any shares of its capital
stock, except in the case of an offer to repurchase on a pro rata basis made to
all holders of capital stock of the Company. Any such offer shall be subject to
the prior approval of the OTS. Furthermore, the Company may not repurchase any
of its stock (i) if the result thereof would be to reduce the regulatory capital
of the Bank below the amount required for the liquidation account to be
established pursuant to OTS regulations and (ii) except in compliance with the
requirements of the OTS capital distribution rule.
106
<PAGE>
The above limitations are subject to the OTS conversion rules which
generally provide that the Company may repurchase its capital stock provided (i)
no repurchases occur within one year following the Conversion (subject to
certain exceptions), (ii) repurchases during the second and third year after
conversion are part of an open market stock repurchase program that does not
allow for a repurchase of more than 5% of the Company's outstanding capital
stock during a 12-month period, (iii) the repurchases do not cause the Bank to
become undercapitalized, and (iv) the Company provides notice to the OTS at
least ten days prior to the commencement of a repurchase program and the OTS
does not object to such regulations. In addition, the above limitations do not
preclude repurchases of capital stock by the Company in the event applicable
federal regulatory limitations are subsequently liberalized.
LEGAL OPINIONS
The validity of the issuance of the Common Stock in the Conversion has been
passed upon for the Company by its special counsel, Brooks, Pierce, McLendon,
Humphrey & Leonard, L.L.P., Greensboro, North Carolina, which firm has also
rendered its opinion to the Bank concerning certain federal and North Carolina
income tax aspects of the Conversion as described herein under "THE CONVERSION -
- - Effects of Conversion -- Income Tax Consequences." Certain legal matters will
be passed upon for Trident Securities by Muldoon, Murphy & Faucette.
EXPERTS
The consolidated financial statements of Citizens Savings Bank of
Salisbury, S.S.B. at September 30, 1997 and 1996, and for each of the three
years in the period ended September 30, 1997, appearing in this Prospectus and
Registration Statement have been audited by Ernst & Young LLP, independent
auditors, as set forth in their report thereon appearing elsewhere herein, and
are included in reliance upon such report given upon the authority of such firm
as experts in accounting and auditing.
Ferguson has consented to being named as an expert herein and to the
summary herein of its appraisal report as to the estimated pro forma market
value of the Bank and the Company and its opinion with respect to Subscription
Rights.
REGISTRATION REQUIREMENTS
The Company will register its Common Stock with the SEC pursuant to Section
12 of the Exchange Act in connection with the Conversion and will not deregister
the Common Stock for a period of three years following the completion of the
Conversion. Upon such registration, the proxy and tender offer rules, insider
trading reporting requirements and restrictions, annual and periodic reporting
and other requirements of the Exchange Act will be applicable to the Company.
ADDITIONAL INFORMATION
The Company has filed a registration statement with the SEC on Form S-1
under the Securities Act, with respect to the Common Stock offered hereby. As
permitted by the rules and regulations of the SEC, this Prospectus does not
contain all of the information set forth in the registration statement. Such
information can be examined and copied at the public reference facilities of the
SEC located at Room 1024, 450 Fifth Street, N. W., Washington, D.C. 20549, and
at the regional offices of the SEC at 75 Park Place, Fourteenth Floor, New York,
New York 10007 and Room 3190, John C. Kluczynski Building, 230 South Dearborn
Street, Chicago, Illinois 60604. Copies of such material can be obtained by
mail from the SEC at prescribed rates from the Public Reference Section of the
SEC at 450 Fifth Street, N. W., Washington, D.C. 20549. In addition, the SEC
maintains a World Wide Web site that contains reports, proxy and information
statements and other information regarding registrants that file electronically
with the SEC, including the Company; the address is (http://www.sec.gov.). The
statements contained in this Prospectus as to the contents of any contract or
other document filed as an exhibit to the registration statement are,
107
<PAGE>
of necessity, brief descriptions of each material feature thereof and are not
necessarily complete; each such statement is qualified by reference to such
contract or document.
The Bank has filed a Form AC Application for Approval of Conversion with
the OTS. Pursuant to the OTS conversion regulations, this Prospectus omits
certain information contained in such Application. The Application, which
contains a copy of Ferguson's appraisal, may be inspected at the office of the
OTS, 1700 G Street, N.W., Washington, D.C. 20522 and at the office of the
Regional Director of the OTS at the Southeast Regional Office of the OTS, 1475
Peachtree Street, N.E., Atlanta, GA 30309. Copies of the Plan of Conversion,
copies of the Company's Articles of Incorporation and Bylaws and copies of the
Bank's proposed Charter and Bylaws are available for inspection at each office
of the Bank and may be obtained by writing to the Bank at 401 West Innes Street,
Salisbury, North Carolina 28144-4232, Attention: Ronald E. Bostian, President,
or by telephoning the Bank at (704) 633-2341. A copy of Ferguson's independent
appraisal is also available for inspection at the Stock Information Center, 401
West Innes Street, Salisbury, North Carolina 28144-4232.
108
<PAGE>
GLOSSARY
Bank Citizens Bank, FSB
BIF Bank Insurance Fund of the FDIC
Common Stock The Common Stock, no par value per share, of Innes
Street Financial Corporation
Community Offering Offering for sale to certain members of the
general public of any shares of Common Stock not
subscribed for in the Subscription Offering,
including the possible offering of Common Stock in
a Syndicated Community Offering
Company Innes Street Financial Corporation
Conversion Simultaneous conversion of the Bank to stock form,
the issuance of the Bank's outstanding capital
stock to the Company and the Company's offer and
sale of Common Stock
Eligible Account Holders Savings account holders (including holders of all
types of demand deposit accounts) of the Bank,
with account balances of at least $50.00 as of the
close of business on December 31, 1996
ERISA Employee Retirement Income Security Act of 1974,
as amended
ESOP The Citizens Bank, FSB Employee Stock Ownership
Plan and Trust
Estimated Valuation Range Estimated pro forma market value of the common
stock ranging from $14,450,000 to $19,550,000. The
maximum of the Estimated Valuation Range may be
increased to $22,482,500 without a resolicitation
of subscribers
Exchange Act Securities Exchange Act of 1934, as amended
Expiration Time 12:00 noon, local time, on December 15, 1998
FASB Financial Accounting Standards Board
FDIC Federal Deposit Insurance Corporation
Federal Reserve System The Board of Governors of the Federal Reserve
System
Ferguson Ferguson & Company
FHLB Federal Home Loan Bank
FHLMC Federal Home Loan Mortgage Corporation
FNMA Federal National Mortgage Association
IRS Internal Revenue Service
A-1
<PAGE>
MRP Management Recognition Plan to be adopted no
earlier than twelve months after the Conversion
NASD National Association of Securities Dealers, Inc.
NPV Net Portfolio Value
Offerings Subscription Offering, Community Offering and
Syndicated Community Offering, collectively
Option Plan Stock Option Plan to be adopted no earlier than
twelve months after the Conversion
Order Form Form for ordering stock accompanied by a
certification concerning certain matters
Other Members Savings account holders (including holders of all
types of demand deposit accounts) (other than
Eligible Account Holders and Supplemental Eligible
Account Holders) who are entitled to vote at the
Special Meeting due to the existence of an account
on the Voting Record Date for the Special Meeting
OTC Bulletin Board An electronic stock data system operated by Nasdaq
OTS Office of Thrift Supervision
Plan of Conversion Plan of the Bank to convert from a federal
chartered mutual savings bank to a federal
chartered stock savings bank and the issuance of
all of the Bank's outstanding capital stock to the
Company and the issuance of the Company's stock to
the public
Purchase Price $10.00 per share price of the Common Stock
Qualifying Deposits A balance of $50.00 or more in any savings account
(including all types of demand deposit accounts)
in the Bank as of December 31, 1996 or September
30, 1998, as applicable; each savings account
(including all types of demand deposit accounts)
which is deemed to be a separate account for
purposes of FDIC insurance shall be deemed to be a
separate account for purposes of determining
whether a qualifying deposit exists
SAIF Savings Association Insurance Fund of the FDIC
SEC Securities and Exchange Commission
Securities Act Securities Act of 1933, as amended
SFAS Statement of Financial Accounting Standards
adopted by FASB
Special Meeting Special Meeting of members of the Bank on December
17, 1998 for the purpose of approving the
Plan
A-2
<PAGE>
Subscription Offering Offering of non-transferable rights to subscribe
for the Common Stock, in order of priority, to
Eligible Account Holders, ESOP Supplemental
Eligible Account Holders, Other Members and
Directors, Officers and Employees
Subscription Rights Rights to subscribe for shares of Common Stock in
the Subscription Offering granted to certain
depositors of the Bank, the ESOP and
certain others in accordance with the Plan of
Conversion.
Supplemental Eligible Savings account holders (including holders of all
types of demand deposit accounts) who are not
Eligible Account Holders of the Bank, with account
Account Holders balances of at least $50.00 on September 30, 1998
Syndicated Community
Offering Offering of shares of Common Stock remaining after
the Subscription Offering and undertaken prior to
the end and as part of the Community Offering, and
which may, at the Company's and the Bank's
discretion be made to the general public on a best
efforts basis by a selling group of broker-
dealers.
Trident Securities Trident Securities, Inc.
Voting Record Date The close of business on October 30, 1998, the
date for determining members entitled to vote at
the Special Meeting.
A-3
<PAGE>
Index to Financial Statements
Citizens Savings Bank of Salisbury, S.S.B.
Report of Independent Auditors..........................F-1
Audited Consolidated Financial Statements
Consolidated Statements of Condition....................F-2
Consolidated Statements of Income.......................F-3
Consolidated Statements of Equity.......................F-4
Consolidated Statements of Cash Flows...................F-5
Notes to Consolidated Financial Statements..............F-6
All schedules are omitted because they are not required or applicable or the
required information is shown in the financial statements or the notes thereto.
Financial statements of Innes Street Financial Corporation have not been
provided because the Company has not conducted any operations to date.
F-0
<PAGE>
Report of Independent Auditors
The Board of Directors
Citizens Savings Bank of Salisbury, S.S.B.
We have audited the accompanying consolidated statements of condition of
Citizens Savings Bank of Salisbury, S.S.B. and subsidiary as of September 30,
1997 and 1996, and the related consolidated statements of income, equity, and
cash flows for each of the three years in the period ended September 30, 1997.
These financial statements are the responsibility of the Bank's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Citizens Savings
Bank of Salisbury, S.S.B. and subsidiary at September 30, 1997 and 1996, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended September 30, 1997, in conformity with generally
accepted accounting principles.
Ernst & Young LLP
Winston-Salem, North Carolina
November 7, 1997, except for Note 14,
as to which the date is September 10, 1998
F-1
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Consolidated Statements of Condition
<TABLE>
<CAPTION>
JUNE 30 SEPTEMBER 30
1998 1997 1996
-------------------------------------------
<S> <C> <C> <C>
(Unaudited)
ASSETS
Cash and due from banks $ 7,750,343 $ 12,019,170 $ 5,410,971
Federal funds sold-overnight 4,831,000 4,033,000 4,809,000
-------------------------------------------
Cash and cash equivalents 12,581,343 16,052,170 10,219,971
Federal funds sold-term 4,000,000 6,100,000 -
Mortgage-backed securities available for sale 7,829,635 10,334,785 12,492,227
Mortgage-backed securities held to maturity (fair
value of $1,918,491 (unaudited), $2,374,768
and $2,518,810 at June 30, 1998, September 30,
1997 and 1996, respectively) 1,871,390 2,328,072 2,520,595
Loans receivable, net 159,710,109 159,458,143 159,490,575
Accrued interest receivable - loans and
mortgage-backed securities 842,912 909,815 915,575
Accrued interest receivable - investments 149,444 96,696 60,324
Investment in Federal Home Loan Bank stock 1,824,800 1,824,800 1,824,800
Premises and equipment, net 1,230,189 1,337,835 1,328,586
Other 2,675,686 1,173,276 1,380,338
-------------------------------------------
Total assets $192,715,508 $199,615,592 $190,232,991
===========================================
LIABILITIES AND EQUITY
Deposit accounts $159,819,089 $160,492,564 $146,449,542
Advances from the Federal Home Loan Bank 13,000,000 22,000,000 27,000,000
Advances from borrowers for taxes and insurance 972,821 529,896 504,296
Accrued interest payable 11,992 57,268 48,763
Other 3,300,109 1,906,968 2,673,005
-------------------------------------------
Total liabilities 177,104,011 184,986,696 176,675,606
Commitments and Contingencies - Note 12
Retained earnings (substantially restricted) 15,490,958 14,522,513 13,555,281
Net unrealized appreciation on securities
available for sale 120,539 106,383 2,104
-------------------------------------------
Total equity 15,611,497 14,628,896 13,557,385
-------------------------------------------
Total liabilities and equity $192,715,508 $199,615,592 $190,232,991
===========================================
</TABLE>
See accompanying notes.
F-2
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Consolidated Statements of Income
<TABLE>
<CAPTION>
NINE MONTHS ENDED JUNE 30 YEAR ENDED SEPTEMBER 30
1998 1997 1997 1996 1995
------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
(UNAUDITED)
Interest and fee income:
Loans receivable $ 9,007,152 $ 8,928,648 $11,927,459 $11,766,458 $12,297,018
Mortgage-backed securities 544,145 696,876 909,156 962,847 1,090,090
Other interest-earning assets 903,360 749,903 1,065,039 960,732 937,030
------------------------------------------------------------------
Total interest income 10,454,657 10,375,427 13,901,654 13,690,037 14,324,138
Interest expense:
Deposits 6,084,047 6,006,872 8,099,194 8,121,064 8,129,847
Borrowings 877,578 1,373,132 1,772,941 1,861,581 1,825,996
------------------------------------------------------------------
Total interest expense 6,961,625 7,380,004 9,872,135 9,982,645 9,955,843
------------------------------------------------------------------
Net interest income 3,493,032 2,995,423 4,029,519 3,707,392 4,368,295
Provision for loan losses - - - - -
------------------------------------------------------------------
Net interest income after
provision for loan losses 3,493,032 2,995,423 4,029,519 3,707,392 4,368,295
Non-interest income:
Loan servicing fees 160,577 196,879 255,418 290,428 322,345
Gain on sales of loans, net 52,670 68,472 71,720 2,955 (2,679)
Other 71,783 68,993 88,423 94,794 114,368
------------------------------------------------------------------
Total non-interest income 285,030 334,344 415,561 388,177 434,034
Non-interest expense:
Compensation and benefits 1,135,334 1,096,126 1,478,837 1,221,117 1,198,017
Occupancy and equipment 268,302 273,097 374,605 322,428 338,007
SAIF special assessment - - 1,074,702 -
Advertising and promotion 160,676 165,330 217,679 148,498 124,844
Data processing 134,216 131,504 173,133 176,367 186,699
Deposit insurance premium 86,803 80,132 116,258 398,313 369,488
Other 452,463 447,694 597,625 640,869 693,400
------------------------------------------------------------------
Total non-interest expense 2,237,794 2,193,883 2,958,137 3,982,294 2,910,455
------------------------------------------------------------------
Income before income taxes 1,540,268 1,135,884 1,486,943 113,275 1,891,874
Provision for income taxes 571,823 430,674 519,711 11,541 743,129
------------------------------------------------------------------
Net income $ 968,445 $ 705,210 $ 967,232 $ 101,734 $ 1,148,745
==================================================================
</TABLE>
See accompanying notes.
F-3
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Consolidated Statements of Equity
<TABLE>
<CAPTION>
NET UNREALIZED
APPRECIATION
ON SECURITIES
RETAINED AVAILABLE
EARNINGS FOR SALE
-----------------------------------
<S> <C> <C>
Balance at September 30, 1994 $12,304,802 $ -
Net income 1,148,745 -
-----------------------------------
Balance at September 30, 1995 13,453,547
Net income 101,734 -
Net unrealized appreciation on securities
available for sale, net of taxes of $1,347 - 2,104
-----------------------------------
Balance at September 30, 1996 13,555,281 2,104
Net income 967,232 -
Net changes in unrealized appreciation on securities
available for sale, net of taxes of $67,141 - 104,279
-----------------------------------
Balance at September 30, 1997 14,522,513 106,383
Net income (unaudited) 968,445 -
Net changes in unrealized appreciation on securities
available for sale, net of taxes of $9,116 (unaudited) - 14,156
-----------------------------------
Balance at June 30, 1998 (unaudited) $15,490,958 $120,539
===================================
Balance at September 30, 1996 $13,555,281 $ 2,104
Net income (unaudited) 705,210 -
Net changes in unrealized appreciation on securities
available for sale, net of taxes of $52,721 (unaudited) - 81,883
-----------------------------------
Balance at June 30, 1997 (unaudited) $14,260,491 $ 83,987
===================================
</TABLE>
See accompanying notes.
F-4
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Consolidated Statements of Cash Flows
<TABLE>
<CAPTION>
NINE MONTHS ENDED JUNE 30 YEAR ENDED SEPTEMBER 30
1998 1997 1997 1996 1995
------------------------------ ------------------------------------------
<S> <C> <C> <C> <C> <C>
(Unaudited)
OPERATING ACTIVITIES
Net income $ 968,445 $ 705,210 $ 967,232 $ 101,734 $ 1,148,745
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 117,684 118,576 163,466 147,738 167,521
Amortization of premium on investments 5,594 5,898 6,163 8,804 (37,827)
Amortization of deferred loan fees 48,404 26,857 46,347 23,024 (38,750)
Deferred income taxes 48,670 345,912 111,994 (331,785) 51,873
Gain on sales of loans, net (52,841) (68,471) (71,720) (2,955) 2,679
Other, net (195,536) (901,122) (872,727) 1,156,687 25,717
------------------------------ -----------------------------------------
Net cash provided by operating activities 940,420 232,860 350,755 1,103,247 1,319,958
INVESTING ACTIVITIES
Purchases of federal funds sold-term - (3,790,000) (6,100,000) - -
Proceeds from maturity of federal funds sold-term 2,100,000 -
Purchases of securities held to maturity - - - (2,651,015) (2,169,827)
Proceeds from maturity of securities held to
maturity - - 4,500,763
Principal repayment of mortgage-backed
securities 2,979,510 1,911,581 2,474,103 2,813,127 3,058,514
Proceeds from maturities of mortgage-backed
securities - - 41,119 273,462 -
Net (increase) decrease in loans (3,334,066) (7,314,475) (5,450,579) 4,487,781 (7,903,607)
Purchase of loans - - - - (10,853,867)
Proceeds from sales of loans 3,086,537 5,246,053 5,508,384 4,318,637 6,689,661
Proceeds from sales of foreclosed real estate - 58,500 115,718 - 70,777
Purchases of premises and equipment (12,678) (166,804) (175,923) (105,089) (43,209)
------------------------------ -----------------------------------------
Net cash provided by (used in) investing activities 4,819,303 (4,055,145) (3,587,178) 9,136,903 (6,650,795)
FINANCING ACTIVITIES
Net increase (decrease) in deposit amounts (673,475) 11,798,209 14,043,022 (12,859,535) (171,249)
Repayment of FHLB advances (9,000,000) (2,000,000) (5,000,000) - -
Net increase (decrease) in mortgage escrow funds 442,925 612,890 25,600 (410,203) 125,665
-------------------------------------------------------------------------
Net cash provided by (used in) financing activities (9,230,550) 10,411,099 9,068,622 (13,269,738) (45,584)
-------------------------------------------------------------------------
Net increase (decrease) in cash and cash
equivalents (3,470,827) 6,588,814 5,832,199 (3,029,588) (5,376,421)
Cash and cash equivalents at beginning of period 16,052,170 10,219,971 10,219,971 13,249,559 18,625,980
------------------------------ -----------------------------------------
Cash and cash equivalents at end of period $12,581,343 $16,808,785 $16,052,170 $ 10,219,971 $ 13,249,559
=========================================================================
Supplemental disclosure of cash flow data:
Cash paid during the period for:
Interest $ 7,057,868 $ 7,388,599 $ 9,893,528 $ 9,993,704 $ 9,834,042
Taxes $ 650,342 $ 185,106 $ 234,045 $ 409,100 $ 629,800
Transfers from loans to foreclosed real estate $ - $ - $ - $ 79,426 $ 4,616
</TABLE>
See accompanying notes.
F-5
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements
September 30, 1997
1. ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
Citizens Savings Bank of Salisbury, S.S.B. (the Bank) is a state chartered
mutual savings bank offering full service banking to those within Salisbury and
the surrounding communities. The Bank's primary regulator is the Federal
Deposit Insurance Corporation.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Citizens Savings
Bank of Salisbury, S.S.B. and its wholly-owned subsidiary, Carolina Service
Corporation. The activities of Carolina Service Corporation are not
significant. Significant intercompany accounts and transactions have been
eliminated in consolidation.
UNAUDITED INTERIM FINANCIAL INFORMATION
The accompanying unaudited interim financial statements and related financial
information in the footnotes have been prepared in accordance with the rules and
regulations of the Securities and Exchange Commission for interim financial
statements and reflect all adjustments, which consist solely of normal recurring
accruals, which in the opinion of management, are necessary to present fairly
the financial position of the Bank at June 30, 1998 and the results of
operations and cash flows for the nine month periods ended June 30, 1998 and
1997. The nature of the Bank's business is such that the results of any interim
period may not be indicative of the results to be expected for the entire
period.
USE OF ESTIMATES
The financial statements are prepared in accordance with generally accepted
accounting principles which require management to make estimates and assumptions
that affect the amounts reported in the financial statements and accompanying
notes. Actual results could differ from those estimates.
CASH EQUIVALENTS
Cash and cash equivalents include cash on hand, amounts due from banks, and
overnight federal funds sold. The Bank considers all highly liquid debt
instruments purchased with an original maturity of three months or less to be
cash equivalents.
F-6
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
1. ACCOUNTING POLICIES (CONTINUED)
MORTGAGE-BACKED SECURITIES
Management determines the appropriate classification of securities at the time
of purchase. Securities are classified as held to maturity when the Bank has the
positive intent and ability to hold the securities to maturity. Held to
maturity securities are stated at amortized cost.
Securities not classified as held to maturity are classified as available for
sale. Available for sale securities are stated at fair value, with the
unrealized gains and losses, net of tax, reported in retained earnings.
The amortized cost of mortgage-backed securities is adjusted for amortization of
premiums and accretion of discounts over the estimated life of the security.
Such amortization is included in interest income from investments. The cost of
securities sold is based on the specific identification method.
LOANS RECEIVABLE
Loans receivable that management has the intent and ability to hold until
maturity or pay-off are reported at their outstanding principal adjusted for any
charge-offs, the allowance for loan losses and any deferred fees or costs on
originated loans and unearned income.
Loan origination and commitment fees and certain direct costs are deferred and
the net amount amortized as an adjustment of the related loan's yield over the
contractual lives of the related loans by use of the interest method.
The Bank provides a reserve for uncollected interest on all accrued interest on
loans which are more than ninety days delinquent. Interest income is recognized
on impaired loans only to the extent cash payments are received. The interest
reserve is a reduction of accrued interest receivable for financial reporting
purposes.
An allowance for loan losses is established by a provision charged to operations
based on management's evaluation of the probable loss inherent in the loan
portfolio. Such evaluation, which includes a review of all loans for which full
collectibility may not be reasonably assured, considers, among other matters,
the estimated net realizable value of the underlying collateral.
F-7
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
1. ACCOUNTING POLICIES (CONTINUED)
FORECLOSED REAL ESTATE
Foreclosed real estate acquired in settlement of loans is carried at the lower
of cost or the fair value minus estimated costs to sell. Costs relating to the
development and improvement of property are capitalized to the extent of the
property's net realizable value, whereas those relating to holding the property
are charged to expense.
PREMISES AND EQUIPMENT
Premises and equipment is stated at cost. Depreciation is computed by the
straight-line method over the assets' estimated useful lives, which range from
three to thirty years, for financial reporting purposes.
INCOME TAXES
The Bank accounts for income taxes using the liability method in accordance with
FASB Statement No.E109, Accounting for Income Taxes, which requires an asset and
liability approach to accounting for income taxes. Under Statement No. 109,
deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes.
RECLASSIFICATIONS
Certain amounts reported in the previous year have been reclassified to conform
with the current method of presentation. These reclassifications did not impact
net income or retained earnings.
2. MORTGAGE-BACKED SECURITIES
The amortized cost, gross unrealized gains, gross unrealized losses and market
values of investments in mortgage-backed securities are as follows:
<TABLE>
<CAPTION>
JUNE 30, 1998
(UNAUDITED)
------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
------------------------------------------------
<S> <C> <C> <C> <C>
HELD-TO-MATURITY
- ------------------------
Mortgage-backed securities $1,871,390 $ 47,101 $ - $1,918,491
AVAILABLE FOR SALE
- ------------------------
Mortgage-backed securities 7,631,492 198,143 - 7,829,635
------------------------------------------------
$9,502,882 $245,244 $ - $9,748,126
================================================
</TABLE>
F-8
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
2. MORTGAGE-BACKED SECURITIES (CONTINUED)
<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
--------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------------------------------------------------
<S> <C> <C> <C> <C>
HELD-TO-MATURITY
----------------
Mortgage-backed securities $ 2,328,072 $ 46,696 $ - $ 2,374,768
AVAILABLE FOR SALE
------------------
Mortgage-backed securities 10,159,914 191,032 16,161 10,334,785
--------------------------------------------------
$12,487,986 $237,728 $16,161 $12,709,553
==================================================
<CAPTION>
SEPTEMBER 30, 1996
--------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
--------------------------------------------------
<S> <C> <C> <C> <C>
HELD-TO-MATURITY
----------------
Mortgage-backed securities $ 2,520,595 $ 2,228 $ 4,013 $ 2,518,810
AVAILABLE FOR SALE
----------------------------
Mortgage-backed securities 12,488,776 183,344 179,893 12,492,227
--------------------------------------------------
$15,009,371 $185,572 $183,906 $15,011,037
==================================================
</TABLE>
On December 12, 1995, the Bank reclassified securities with an amortized cost of
$14,921,491 (fair value $14,953,672) from held-to-maturity to available-for-
sale. The reclassification was made pursuant to a reassessment of the
investment securities portfolio based on the issuance of a special report by the
Financial Accounting Standards Board A Guide to Implementation of Statement 115
on Accounting for Certain Investments in Debt and Equity Securities. In
accordance with the report, business entities were allowed a one time
reclassification of the investment securities portfolio between November 15,
1995 and December 31, 1995.
Mortgage-backed securities are not due at a single maturity date. Hence, there
is no contractual maturity for mortgage-backed securities as of September 30,
1997.
Securities carried at $581,438 (unaudited), $1,957,271 and $893,442 at June 30,
1998, September 30, 1997 and 1996, respectively, were designated as security for
deposits and public funds.
All securities are backed by either FNMA, GNMA or FHLMC.
F-9
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
3. LOANS RECEIVABLE, NET
Loans receivable, net consisted of the following:
<TABLE>
<CAPTION>
JUNE 30 SEPTEMBER 30
1998 1997 1996
-------------- ---------------------------
<S> <C> <C> <C>
(UNAUDITED)
1-4 Family $138,295,890 $140,856,148 $145,271,072
Home Equity 16,034,376 11,063,340 7,745,340
Construction and development 3,864,963 5,638,608 3,705,947
Nonresidential 1,633,279 2,219,680 2,633,255
Multi-family 1,364,728 1,592,000 1,879,000
------------- ---------------------------
Mortgage loans 161,193,236 161,369,776 161,234,614
Other loans 1,751,107 1,918,690 2,220,839
------------- ---------------------------
162,944,343 163,288,466 163,455,453
Less:
Allowance for loan losses 1,223,627 1,222,675 1,215,301
Loans in process 1,843,857 2,446,664 2,618,575
Deferred fees, net 63,500 56,828 25,756
Unearned income 103,250 104,156 105,246
------------- ---------------------------
3,234,234 3,830,323 3,964,878
------------- ---------------------------
$159,710,109 $159,458,143 $159,490,575
============= ===========================
</TABLE>
Mortgage loans at June 30, 1998, June 30, 1997, September 30, 1997, 1996 and
1995, are net of participations and whole loans serviced for others, in the
amounts of $56,958,484 (unaudited), $70,562,273 (unaudited) $66,796,725,
$74,854,060, and $81,421,644, respectively. Custodial escrow balances maintained
in connection with loans serviced for others were $536,411 (unaudited), $632,460
(unaudited), $379,987, $398,750 and $586,187 at June 30, 1998, June 30, 1997,
September 30, 1997, 1996, and 1995, respectively.
Changes in the allowance for loan losses are summarized as follows:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
JUNE 30 YEAR ENDED SEPTEMBER 30
1998 1997 1997 1996 1995
------------------------ -----------------------------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Balance at beginning
of period $1,222,675 $1,215,301 $1,215,301 $1,214,570 $1,204,700
Charge-offs - - - - -
Recoveries 952 9,713 7,374 731 9,870
----------------------- ----------------------------------
Balance at end of
period $1,223,627 $1,225,014 $1,222,675 $1,215,301 $1,214,570
======================= ==================================
</TABLE>
F-10
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
3. LOANS RECEIVABLE, NET (CONTINUED)
The Bank primarily grants residential loans to customers in Salisbury, North
Carolina and surrounding communities. The loans typically do not exceed 80% of
the appraised value of the security property. Pursuant to underwriting
guidelines adopted by the Board of Directors, the Bank can lend up to 95% of the
appraised value of the property securing a one-to-four family residential loan;
however, the Bank generally obtains private mortgage insurance on the portion of
the principal amount that exceeds 80% of the appraised value of the security
property.
Effective October 1, 1995, the Bank prospectively adopted FASB Statement No. 114
Accounting by Creditors for Impairment of a Loan (FASB 114), as amended by FASB
Statement No. 118, Accounting by Creditors for Impairment of a Loan-Income
Recognition and Disclosures (FASB 118). This standard defines a loan as
impaired when, based on current information and events, it is probable that a
creditor will be unable to collect all amounts due according to the contractual
terms of the loan agreement. Impaired loans are measured at the present value
of expected future cash flows using the loan's initial effective interest rate
or the fair value of the collateral for certain collateral dependent loans. The
adoption of FASB 114 and FASB 118 did not have a material impact on the
Corporation's financial position or results of operations. Impaired loans
totaled $129,691 (unaudited), $346,639 and $2,417 at June 30, 1998, September
30, 1997 and 1996, respectively.
The Bank adopted FASB Statement No. 122, Accounting for Mortgage Servicing
Rights, (FASB 122) as of October 1, 1996. This standard relates to the
capitalization of mortgage servicing rights applied to transactions involving
the sale of mortgage loans with servicing rights retained. The adoption of FASB
122 did not have a material impact on the Bank's financial position or results
of operations.
The Bank adopted FASB Statement No. 125 Accounting for Transfers and Servicing
of Financial Assets and Extinguishment of Liabilities, (FASB 125), as of January
1, 1997. This Statement, which supercedes FASB 122, provides accounting and
reporting standards for transfers and servicing of financial assets and
extinguishments of liabilities. Those standards are based on consistent
application of a financial-components approach that focuses on control. Under
that approach, after a transfer of financial assets, an entity recognizes the
financial and servicing assets it controls and the liabilities it has incurred,
derecognizes financial assets when control has been surrendered, and
derecognizes liabilities when extinguished. This Statement provides consistent
standards for distinguishing transfers of financial assets that are sales from
transfers that are secured borrowings. The adoption of FASB 125 did not have a
material impact on the Bank's financial position or results of operations.
F-11
<PAGE>
CITIZENS SAVINGS BANK OF SALISBURY, S.S.B.
Notes to Consolidated Financial Statements (continued)
4. OPERATING LEASES
The following is a summary of future minimum rental payments for office
facilities required under operating leases that have initial or remaining
noncancellable lease terms in excess of one year:
<TABLE>
<CAPTION>
Year ending September 30:
<S> <C>
1998 $ 41,676
1999 41,676
2000 17,365
----------
Total minimum payments required $100,717
==========
</TABLE>
Rental expense was $31,257 (unaudited) for the nine months ended June 30, 1998
and 1997 and $41,676 for the years ended September 30, 1997, 1996 and 1995.
5. DEPOSIT ACCOUNTS
<TABLE>
<CAPTION>
JUNE 30 SEPTEMBER 30
1998 1997 1996
------------- ---------------------------
<S> <C> <C> <C>
(UNAUDITED)
Demand $ 1,376,276 $ 1,549,739 $ 864,583
NOW 5,797,720 5,247,427 4,109,642
Money market 2,931,831 3,125,504 3,547,375
Passbook savings 38,193,899 31,395,288 26,133,674
Certificates of deposit 111,519,363 119,174,606 111,794,268
-------------- ---------------------------
Total deposits $159,819,089 $160,492,564 $146,449,542
============== ===========================
</TABLE>
Demand deposits are non-interest bearing. All other deposit types bear
interest.
The aggregate amount of certificates of deposit with a minimum denomination of
$100,000 was $18,134,108 (unaudited), $18,015,064 and $15,694,000 at June 30,
1998, September 30, 1997 and 1996, respectively. Deposits in excess of $100,000
are not federally insured.
At September 30, 1997, scheduled maturities of certificates of deposit are as
follows:
<TABLE>
<CAPTION>
Year ending September 30:
<S> <C>
1998 $ 86,590,788
1999 23,424,222
2000 8,495,616
2001 357,427
2002 and thereafter 306,553
--------------
$119,174,606
==============
</TABLE>
F-12
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
5. DEPOSIT ACCOUNTS (CONTINUED)
Interest expense on deposits is summarized as follows:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
JUNE 30 YEAR ENDED SEPTEMBER 30
1998 1997 1997 1996 1995
------------------------ ------------------------------------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
NOW $ 59,746 $ 56,001 $ 73,973 $ 71,690 $ 83,261
Money market 53,595 63,637 83,380 102,698 154,270
Passbook savings 1,171,829 967,377 1,318,969 1,013,908 533,280
Certificates of deposit 4,798,877 4,919,857 6,622,872 6,932,768 7,359,036
------------------------ ------------------------------------
$6,084,047 $6,006,872 $8,099,194 $8,121,064 $8,129,847
======================== ====================================
</TABLE>
The Bank had on deposit amounts from certain directors and executive officers of
$821,116 (unaudited), $923,960 and $747,542 as of June 30, 1998, September 30,
1997 and 1996, respectively.
6. ADVANCES FROM THE FEDERAL HOME LOAN BANK
Pursuant to collateral agreements with the Federal Home Loan Bank (FHLB),
advances are secured by all stock in the FHLB and qualifying first mortgage
loans. The carrying value of qualifying first mortgage loans was $139,250,257
(unaudited), $139,767,321 and $141,954,076 as of June 30, 1998, September 30,
1997 and 1996, respectively.
At September 30, 1997, scheduled maturities of FHLB advances are summarized as
follows:
<TABLE>
<CAPTION>
Year ending September 30:
<S> <C>
1998 $12,000,000
1999 9,000,000
2000 1,000,000
-------------
Total minimum payments required $22,000,000
=============
</TABLE>
Interest rates on FHLB advances are fixed, and the weighted average interest
rate was 6.89% at June 30, 1998 (unaudited) and September 30, 1997. The Bank
had available credit with the FHLB of $27,000,000 (unaudited) and $18,000,000 as
of June 30, 1998 and September 30, 1997, respectively.
F-13
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
7. PENSION PLAN
The Bank has a non-contributory defined benefit plan covering all employees
eligible based on age and years of service. Benefits are based on length of
service and a percentage of qualifying compensation. The Bank uses the
projected unit credit method as its actuarial method.
The following table sets forth the funded status and amount recognized for the
Bank's defined benefit plan in the consolidated statements of condition at
September 30:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30
1997 1996
----------------------------
<S> <C> <C>
Actuarial present value of accumulated benefit
obligation, including vested benefits of $468,638 in
1997 and $412,426 in 1996 $(472,791) $(425,802)
============================
Actuarial present value of projected benefit obligation
for service rendered to date $(591,303) $(520,520)
Plan assets at fair value, primarily cash and cash
equivalents 636,569 591,828
----------------------------
Plan assets in excess of projected benefit obligation 45,266 71,308
Unrecognized net asset (23,255) (25,369)
Prior service cost not yet recognized in net periodic
pension cost (71,254) (77,163)
Unrecognized net gain (20,407) (23,032)
----------------------------
Accrued pension cost $ (69,650) $ (54,256)
============================
</TABLE>
Net pension cost included the following components:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30
1997 1996
----------------------------
<S> <C> <C>
Service cost - benefits earned during the period $ 49,369 $ 55,329
Interest cost on projected benefit obligation 43,497 40,817
Expected return on investments at assumed rate
of return (51,016) (48,146)
Net amortization and deferral (8,113) (8,023)
----------------------------
Net pension cost $ 33,737 $ 39,977
============================
</TABLE>
F-14
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
7. PENSION PLAN (CONTINUED)
Following is a summary of significant actuarial assumptions used:
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30
1997 1996
--------------------------
<S> <C> <C>
Discount rates 8.0% 8.0%
Rates of increase in compensation levels 5.5 5.0
Expected long-term rate of return on assets 8.0 8.0
</TABLE>
8. INCOME TAXES
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. Significant components
of the Bank's deferred tax assets and liabilities are summarized as follows.
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30
1997 1996
-------------------------
<S> <C> <C>
Deferred tax assets:
Deferred compensation $351,578 $ -
Allowance for loan losses 291,997 260,405
Depreciation 30,434 23,247
Loans to facilitate sales of foreclosed real estate 32,449 33,290
FDIC Special Assessment - 420,754
Other 65,495 38,036
-------------------------
Total deferred tax assets 771,953 775,732
Deferred tax liabilities:
FHLB stock dividends 198,782 198,782
Deferred fees 147,773 36,900
Net unrealized appreciation on securities available for 68,488 1,347
sale
Other 9,585 12,243
-------------------------
Total deferred tax liabilities 424,628 249,272
-------------------------
Net deferred tax asset $347,325 $526,460
=========================
</TABLE>
F-15
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
8. INCOME TAXES (CONTINUED)
The following is a summary of provision for income taxes:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
JUNE 30 YEAR ENDED SEPTEMBER 30
1998 1997 1997 1996 1995
-------------------------- --------------------------------
(unaudited)
<S> <C> <C> <C> <C> <C>
Current:
Federal $539,895 $ 99,566 $390,900 $ 342,537 $592,747
State 80,598 (14,804) 16,817 789 98,509
------------------------- --------------------------------
Total current 620,493 84,762 407,717 343,326 691,256
Deferred:
Federal (38,943) 276,780 90,519 (266,047) 41,595
State (9,727) 69,132 21,475 (65,738) 10,278
------------------------- --------------------------------
Total deferred (48,670) 345,912 111,994 (331,785) 51,873
------------------------- --------------------------------
$571,823 $430,674 $519,711 $ 11,541 $743,129
========================= ================================
</TABLE>
The Bank's effective tax rate differs from that computed at the statutory
federal income tax rate, as follows:
<TABLE>
<CAPTION>
NINE MONTHS ENDED JUNE 30 YEAR ENDED SEPTEMBER 30
1998 1997 1997 1996 1995
--------------------------- --------------------------------
(unaudited)
<S> <C> <C> <C> <C> <C>
Tax at statutory rate $523,691 $386,201 $505,559 $ 38,514 $643,237
State income tax, net of federal
income tax benefit 47,881 35,659 33,296 (30,259) 65,016
Other 251 8,814 (19,144) 3,286 34,876
------------------------- --------------------------------
$571,823 $430,674 $519,711 $ 11,541 $743,129
========================= ================================
Statutory tax rate 34% 34% 34% 34% 34%
Effective tax rate 37.12% 37.92% 34.95% 10.19% 39.28%
</TABLE>
Savings and loan associations which met certain definitional tests and operating
requirements prescribed by the Internal Revenue Code were allowed a special bad
debt deduction, extended expiration dates for net operating loss carryforwards
and other special tax provisions.
F-16
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
8. INCOME TAXES (CONTINUED)
The special bad debt deduction was based on either specified experience formulas
or a specified percentage of taxable income before such deduction. The
deduction was subject to certain limitations based on the aggregate loans,
savings account balances and retained earnings at year end. Gains and losses on
sales of repossessed property and provisions for losses on loans and real estate
foreclosed were generally adjustments to the tax bad debt reserve and not
included in the computation of taxable income before this deduction. Effective
October 1, 1996 this deduction was no longer allowed, therefore a portion of the
reserve was required to be recaptured in 1997. The Bank recaptured $95,428 into
income for income tax purposes for the year ended September 30, 1997.
Retained earnings at year end include tax bad debt reserves of approximately
$3,735,000, for which no provision for federal income tax has been made. If, in
the future, these amounts are used for any purpose other than to absorb bad debt
losses, or the Bank ceases to be qualified as a savings bank, they may be
subject to federal income tax at the then prevailing corporate tax rate. If
federal income taxes had been provided the deferred tax liability would have
been approximately $1,270,000.
9. REGULATORY MATTERS
The Bank is subject to various regulatory capital requirements administered by
federal and state banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory -and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on the Bank's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the Bank
must meet specific capital guidelines that involve quantitative measures of the
Bank's assets, liabilities, and certain off-balance-sheet items as calculated
under regulatory accounting practices. The Bank's capital amounts and
classification are also subject to qualitative judgments by the regulators about
components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum 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 September 30, 1997, that the
Bank meets all capital adequacy requirements to which it is subject.
As of September 30, 1997, 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
F-17
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
9. REGULATORY MATTERS (CONTINUED)
capital and Tier 1 capital ratios as set forth in the table. There are no
conditions or events since that notification that management believes have
changed the institution's category.
(Dollars in thousands)
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
Minimum For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
-------------------- --------------------- ------------------
Ratio Amount Ratio Amount Ratio Amount
-------------------- --------------------- ------------------
<S> <C> <C> <C> <C> <C> <C>
As of June 30, 1998:
Equity and ratio to total assets 8.10% 15,611
Unrealized appreciation of securities
available for sale (120)
Intangible assets (19)
----------
(139)
Tier I Capital and ratio to average
assets 8.07% 15,472 4.00% 7,668 5.00% 9,585
========== ========== ==========
Tier I Capital and ratio to risk-
weighted assets 15.17% 15,472 4.00% 4,078 6.00% 6,118
========== ==========
Allowance for loan losses 1,224
----------
Total Capital and ratio to risk-
weighted assets 16.37% 16,696 8.00% 8,157 10.00% 10,197
========== ========== ==========
Total assets 192,716
==========
Average assets 191,722
==========
Risk-weighted assets 101,966
==========
As of September 30, 1997:
Equity and ratio to total assets 7.33% 14,629
Unrealized appreciation of securities
available for sale (106)
Intangible assets (16)
----------
(122)
Tier I Capital and ratio to average
assets 7.28% 14,507 4.00% 7,974 5.00% 9,967
========== ========== ==========
</TABLE>
<PAGE>
9. REGULATORY MATTERS (CONTINUED)
(Dollars in thousands)
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
Minimum For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
------------------ ---------------------- ----------------------
Ratio Amount Ratio Amount Ratio Amount
------------------ ---------------------- ----------------------
<S> <C> <C> <C> <C> <C> <C>
Tier 1 Capital and ratio
to risk-weighted assets 14.45% 14,507 4.00% 4,016 6.00% 6,024
========== =========
Allowance for loan losses 1,223
--------
Total Capital and ratio to risk-
weighted assets 15.67% 15,730 8.00% 8,032 10.00% 10,040
======== ========== =========
Total assets 199,616
========
Average assets 199,348
========
Risk-weighted assets 100,396
========
As of September 30, 1996:
Equity and ratio to total assets 7.13% 13,557
Unrealized appreciation of securities
available for sale (2)
--------
Tier 1 Capital and ratio to
average assets 7.10% 13,555 4.00% 7,637 5.00% 9,546
======== ========== =========
Tier 1 Capital and ratio to
risk-weighted assets 13.92% 13,555 4.00% 3,895 6.00% 5,843
========== =========
Allowance for loan losses 1,215
--------
Total Capital and ratio to
risk-weighted assets 15.17% 14,770 8.00% 7,790 10.00% 9,738
======== ========== =========
Total assets 190,233
========
Average assets 190,915
========
Risk-weighted assets 97,378
========
</TABLE>
10. FDIC ASSESSMENT
The FDIC made a one-time assessment on all SAIF-insured deposits, for $.657 per
$100 of domestic deposits, held as of March 31, 1995. This one-time assessment
was intended to recapitalize the SAIF to the required level of 1.25% of insured
deposits, and was paid in the first quarter of fiscal 1997.
The effect on the Bank was a pretax charge of $1,074,702, or $654,000 after tax
for the year ended September 30, 1996.
F-18
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
11. OTHER NON-INTEREST EXPENSE
Other non-interest expense amounts are summarized as follows:
<TABLE>
<CAPTION>
NINE MONTHS ENDED
JUNE 30 YEAR ENDED SEPTEMBER 30
1998 1997 1997 1996 1995
-------------------- ----------------------------
<S> <C> <C> <C> <C> <C>
(UNAUDITED)
Printing, postage and
supplies $ 98,993 $ 96,006 $124,510 $112,020 $114,301
Professional and legal fees 75,718 68,207 83,658 90,019 96,718
Insurance premiums 23,538 26,426 33,068 45,292 51,690
Telephone 36,123 32,437 43,829 38,449 41,456
Other 218,091 224,618 312,560 355,089 389,235
-------------------- ----------------------------
$452,463 $447,694 $597,625 $640,869 $693,400
==================== ============================
</TABLE>
12. COMMITMENTS
In conjunction with its lending activities, the Bank enters into various
commitments to extend credit. Loan commitments (unfunded loans and unused lines
of credit) are issued to accommodate the financing needs of the Bank's
customers. Loan commitments are agreements by the Bank to lend at a future
date, so long as there are no violations of any conditions established in the
agreement.
Financial instruments (primarily equity lines), where the contract amount
represents the Bank's credit risk included unused lines of credit of $13,955,811
(unaudited) and $8,927,327 at June 30, 1998 and September 30, 1997,
respectively.
These loan commitments are subject to the same credit policies and reviews as
loans on the statement of condition. Collateral, both the amount and nature, is
obtained based upon management's assessment of the credit risk. Since many of
the extensions of credit are expected to expire without being drawn, the total
commitment amounts do not necessarily represent future cash requirements.
Outstanding commitments on mortgage loans not yet closed amounted to
approximately $8,223,825 (unaudited) and $2,284,316 at June 30, 1998 and
September 30, 1997, respectively. Approximately 70% (unaudited) and 67% of these
commitments were at fixed interest rates as of June 30, 1998 and September 30,
1997, respectively. The fixed rates ranged from 6.25% (unaudited) to 9%
(unaudited) and 7% to 11% at June 30, 1998 and September 30, 1997, respectively.
Such commitments, which are funded subject to certain limitations, extend over
varying periods of time with the majority being funded within a six-month
period.
F-19
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
13. FAIR VALUE OF FINANCIAL INSTRUMENTS
FASB Statement No. 107, Disclosures about Fair Value of Financial Instruments,
requires disclosure of fair value information about financial instruments,
whether or not recognized in the balance sheet, for which it is practicable to
estimate that value. In cases where quoted market prices are not available,
fair values are based on estimates using present value of expected cash flows or
other valuation techniques. Those techniques are significantly affected by the
assumptions used, including the discount rates and estimates of future cash
flows. In that regard, the derived fair value estimates cannot be substantiated
by comparison to independent markets and, in many cases, could not be realized
in immediate settlement of the instrument. The use of different market
assumptions and/or estimation methodologies may have a material effect on the
estimated fair value amounts. The fair value estimates presented herein are
based on pertinent information available to management. Such amounts have not
been comprehensively revalued for purposes of these financial statements since
that date and, therefore, current estimates of fair value may differ
significantly from the amounts presented herein.
The following methods and assumptions were used by the Bank in estimating its
fair value disclosures for financial instruments:
Investment Securities
---------------------
Fair values for investment securities are based on quoted market prices.
For purposes of determining the fair value of Federal Home Loan Bank stock,
for which quoted market prices are not available, the carrying amount of
the stock has been considered the fair value.
Loans Receivable
----------------
The fair value of all categories of loans is estimated by discounting their
expected future cash flows using interest rates currently being offered for
loans with similar terms, reduced by an estimate of credit losses inherent
in the portfolio.
Deposit Accounts
----------------
The fair value of demand deposits (e.g., interest and non-interest bearing
and money market accounts) is assumed to be their carrying amount. The fair
value of savings certificates is estimated using a discounted cash flow
calculation that applies rates currently being offered on instruments with
similar remaining maturities.
F-20
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
13. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
Advances from the Federal Home Loan Bank
----------------------------------------
The fair value of advances from the Federal Home Loan Bank is estimated
using discounted cash flow analysis based upon rates currently available to
the Bank on similar instruments.
Off-Balance Sheet Instruments
-----------------------------
Fair values of the Bank's commitments to extend credit and stand-by letters
of credit are nominal since they have short maturities, and the committed
rates approximate current rates offered for commitments with similar rate
and maturity characteristics.
Many of the Bank's assets and liabilities are short-term financial instruments
whose carrying amounts reported in the statement of condition approximate fair
value. These items include cash and due from banks, accrued interest receivable
and the financial instruments included in other assets and liabilities. The
estimated fair values of the Bank's remaining on-balance sheet financial
instruments are summarized as follows:
<TABLE>
<CAPTION>
JUNE 30, 1998
----------------------------
CARRYING ESTIMATED
VALUE FAIR VALUE
----------------------------
<S> <C> <C>
(UNAUDITED)
Financial assets:
Mortgage-backed securities $ 9,701,025 $ 9,748,126
Loans receivable 159,710,109 161,796,858
Federal Home Loan Bank stock 1,824,800 1,824,800
Financial liabilities:
Deposit accounts 159,819,089 159,886,726
Advances from the Federal Home Loan Bank 13,000,000 13,082,000
</TABLE>
F-21
<PAGE>
Citizens Savings Bank of Salisbury, S.S.B.
Notes to Consolidated Financial Statements (continued)
13. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
<TABLE>
<CAPTION>
SEPTEMBER 30, 1997
--------------------------
CARRYING ESTIMATED
VALUE FAIR VALUE
--------------------------
<S> <C> <C>
Financial assets:
Mortgage-backed securities $ 12,662,857 $ 12,709,553
Loans receivable 159,458,143 161,354,447
Federal Home Loan Bank stock 1,824,800 1,824,800
Financial liabilities:
Deposit accounts 160,492,564 160,475,958
Advances from the Federal Home Loan Bank 22,000,000 22,141,000
</TABLE>
<TABLE>
<CAPTION>
SEPTEMBER 30, 1996
--------------------------
CARRYING ESTIMATED
VALUE FAIR VALUE
--------------------------
<S> <C> <C>
Financial assets:
Mortgage-backed securities $ 15,012,822 $ 15,011,037
Loans receivable 159,490,575 159,215,963
Federal Home Loan Bank stock 1,824,800 1,824,800
Financial liabilities:
Deposit accounts 146,449,542 146,492,274
Advances from the Federal Home Loan Bank 27,000,000 27,146,000
</TABLE>
Statement No. 107 excludes certain financial instruments and all non-financial
instruments from its disclosure requirements. Accordingly, the aggregate fair
value amounts presented do not represent the underlying value of the Bank.
14. SUBSEQUENT EVENT
Effective September 2, 1998, the Bank converted from a North Carolina chartered
mutual savings bank to a federally chartered mutual savings bank. On September
10, 1998, the Board of Directors of the Bank adopted a Plan of Conversion (the
Plan) under which the Bank will convert from a federally chartered mutual
savings bank to a federally chartered stock savings bank. As part of the Plan,
the Bank will become a wholly-owned subsidiary of a holding company formed in
connection with the conversion. The holding company plans to issue common stock
to be sold in the conversion and will use a portion of the net proceeds to
purchase the capital stock of the Bank. The Plan is subject to approval by
regulatory authorities and the members of the Bank at a special meeting.
At the time of the conversion, the Bank will establish a liquidation account in
the amount equal to its regulatory capital as of the latest practicable date
before the conversion at which such regulatory capital can be determined. The
liquidation account will be maintained for the benefit of eligible depositors
who continue to maintain their accounts at the Bank after the conversion. The
liquidation account will be reduced annually to the extent that eligible
depositors have reduced their qualifying deposits. Subsequent increases will not
restore an eligible account holder's interest in the liquidation account. In the
event of a complete liquidation, each eligible depositor will be entitled to
receive a distribution from the liquidation account in an amount proportionate
to the current adjusted qualifying balances for accounts then held. The Bank may
not pay dividends that would reduce stockholders' equity below the required
liquidation account balance.
Under the Office of Thrift Supervision (OTS) regulations, limitations have been
imposed on all "capital distributions" by savings institutions, including cash
dividends. The regulation establishes a three-tiered system of restrictions,
with the greatest flexibility afforded to thrifts that are both well capitalized
and given favorable qualitative examination ratings by the OTS.
Conversion costs will be deferred and deducted from the proceeds of the shares
sold in the conversion. If the conversion is not completed, all costs will be
charged to expense. At June 30, 1998, deferred conversion costs of $58,861 have
been recorded in the statement of condition.
F-22
<PAGE>
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
No dealer, salesperson or other person has been authorized to give any
information or to make any representation other than as contained in this
Prospectus and, if given or made, such information or representation must not
be relied upon as having been authorized by Innes Street Financial Corporation
or Citizens Bank, FSB. This Prospectus does not constitute an offer to sell or
the solicitation of an offer to buy any security other than the shares of
Common Stock offered hereby to any person in any jurisdiction in which such
offer or solicitation is not authorized, or in which the person making such
offer or solicitation is not qualified to do so, or to any person to whom it
is unlawful to make such offer or solicitation. Neither the delivery of this
Prospectus nor any sale hereunder shall, under any circumstances, create any
implication that information herein is correct as of any time subsequent to
the date hereof.
INNES STREET FINANCIAL CORPORATION
(Proposed Holding Company for
Citizens Bank, FSB)
UP TO 2,248,250 SHARES
COMMON STOCK
PROSPECTUS
TRIDENT SECURITIES, INC.
November 17, 1998
THESE SECURITIES ARE NOT DEPOSITS OR ACCOUNTS AND ARE NOT FEDERALLY INSURED OR
GUARANTEED
Until February 15, 1998, all dealers effecting transactions in the registered
securities, whether or not participating in this distribution, may be required
to deliver a prospectus. This is in addition to the obligation of dealers to
deliver a prospectus when acting as underwriters and with respect to their
unsold allotments or subscriptions.
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
Item 13. Other Expenses of Issuance and Distribution. Set forth below is an
-------------------------------------------
estimate of the amount of fees and expenses (other than the Underwriters
commissions) to be incurred in connection with the issuance and distribution of
the shares.
<TABLE>
<S> <C>
Registration and Filing Fees.............................. $ 55,000
Postage and Printing...................................... $ 100,000
Accounting Fees and Expenses.............................. $ 120,000
Appraisal and Business Plan Fees and Expenses............. $ 35,000
Legal Fees and Expenses................................... $ 165,000
Fees and Commissions to Sales Agent....................... $ 443,535
Sales Agent Expenses...................................... $ 37,500
Other .................................................... $ 45,000
-----------
$ 1,001,035
===========
</TABLE>
Item 14. Indemnification of Directors and Officers. The Registrant's
-----------------------------------------
Articles of Incorporation provide that, to the fullest extent permitted by the
North Carolina Business Corporation Act (the "NCBCA"), no person who serves as a
director shall be personally liable to the Registrant or any of its stockholders
or otherwise for monetary damages for breach of any duty as director. The
Registrant's Bylaws state that any person who at any time serves or has served
as a director or officer of the Registrant, or who, while serving as a director
or officer of the Registrant, serves or has served at the request of the
Registrant as a director, officer, partner, trustee, employee or agent of
another corporation, partnership, joint venture, trust or other enterprise, or
as a trustee or administrator under an employee benefit plan, shall have a right
to be indemnified by the Registrant to the fullest extent permitted by law
against (a) reasonable expenses, including attorneys' fees, incurred by him in
connection with any threatened, pending or completed civil, criminal,
administrative, investigative, or arbitrative action, suit, or proceeding (and
any appeal therein), whether or not brought by or on behalf of the Registrant,
seeking to hold him liable by reason of the fact that he is or was acting in
such capacity, and (b) reasonable payments made by him in satisfaction of any
judgment, money decree, fine (including an excise tax assessed with respect to
an employee benefit plan) or penalty for which he may have become liable in any
such action, suit or proceeding, or in connection with a settlement approved by
the board of directors of any such action, suit or proceeding.
Sections 55-8-50 through 55-8-58 of the NCBCA contain provisions
prescribing the extent to which directors and officers shall or may be
indemnified. Section 55-8-51 of the NCBCA permits a corporation, with certain
exceptions, to indemnify a present or former director against liability if (i)
the director conducted himself in good faith, (ii) the director reasonably
believed (x) that the director's conduct in the director's official capacity
with the corporation was in its best interests and (y) in all other cases the
director's conduct was at least not opposed to the corporation's best interests,
and (iii) in the case of any criminal proceeding, the director had no reasonable
cause to believe the director's conduct was unlawful. A corporation may not
indemnify a director in connection with a proceeding by or in the right of the
corporation in which the director was adjudged liable to the
II-1
<PAGE>
corporation or in connection with a proceeding charging improper personal
benefit to the director. The above standard of conduct is determined by the
board of directors, or a committee or special legal counsel or the shareholders
as prescribed in Section 55-8-55.
Sections 55-8-52 and 55-8-26 of the NCBCA require a corporation to
indemnify a director or officer in the defense of any proceeding to which the
director or officer was a party against reasonable expenses when the director or
officer is wholly successful in the director's or officer's defense, unless the
articles of incorporation provide otherwise. Upon application, the court may
order indemnification of the director or officer if the director or officer is
adjudged fairly and reasonably so entitled under Section 55-8-54.
In addition, Section 55-8-57 permits a corporation to provide for
indemnification of directors, officers, employees or agents, in its articles of
incorporation or bylaws or by contract or resolution, against liability in
various proceedings and to purchase and maintain insurance policies on behalf of
these individuals.
The foregoing is only a general summary of certain aspects of North
Carolina law dealing with indemnification of directors and officers and does not
purport to be complete. It is qualified in its entirety by reference to the
relevant statutes, which contain detailed specific provisions regarding the
circumstances under which and the person for whose benefit indemnifications
shall or may be made.
Item 15. Recent Sales of Unregistered Securities. On August 31, 1998,
---------------------------------------
Registrant sold one share of common stock, no par value per share, to Ronald E.
Bostian for an aggregate purchase price of $10.00. Such sale was exempt from
registration under Section 4(2) of Securities Act of 1933.
Item 16. Exhibits. The following exhibits and financial statement schedules
--------
are filed herewith or will, as noted, be filed by amendment.
II-2
<PAGE>
(a) Exhibits
--------
Exhibit No.
(Per Exhibit
Tables in
Item 601 of
Regulation S-K) Description
--------------- -----------
<TABLE>
<S> <C>
*(1)(a) Engagement letter dated April 27, 1988 between
Citizens Savings Bank of Salisbury, SSB and
Trident Securities, Inc.
*(1)(b) Form of Sales Agency Agreement among Innes
Street Financial Corporation, Citizens Bank, FSB
and Trident Securities, Inc.
*(2) Amended and Restated Plan of Conversion of
Citizens Bank, FSB
*(3)(i) Articles of Incorporation of Innes Street
Financial Corporation
*(3)(ii) Bylaws of Innes Street Financial Corporation
*(4) Forms of Stock Certificate for Innes Street
Financial Corporation and Citizens Bank, FSB
*(5) Opinion and consent of Brooks, Pierce, McLendon,
Humphrey & Leonard, L.L.P. as to legality of
securities to be registered hereby
*(8)(a) Opinion and consent of Brooks, Pierce, McLendon,
Humphrey & Leonard, L.L.P. as to federal and
state tax consequences
*(8)(b) Opinion of Ferguson & Company as to the value of
subscription rights
*(10)(a) Letter Agreement dated April 29, 1998 between
Citizens Savings Bank of Salisbury, SSB and
Ferguson & Company for appraisal services and
for services in connection with preparation of a
regulatory business plan
*(10)(b) Form of Employment Agreement to be entered into
between Citizens Bank, FSB and Ronald E. Bostian
</TABLE>
II-3
<PAGE>
Exhibit No.
(Per Exhibit
Tables in
Item 601 of
Regulation S-K) Description
--------------- -----------
<TABLE>
<S> <C>
*(10)(c) Form of the Management Recognition Plan and
Trust of Citizens Bank, FSB
*(10)(d) Form of Registrant's Stock Option Plan
*(10)(e) Form of Citizens Bank, FSB Severance Plan
*(10)(f) Amended and Restated Nonqualified Deferred
Compensation Plan
*(10)(g) Amended and Restated Directors Deferred
Compensation Plan
*(23)(a) Consent of Brooks, Pierce, McLendon, Humphrey &
Leonard, L.L.P. (See Exhibits (5) and (8)(a))
(23)(b) Consent of Ernst & Young, L.L.P.
*(23)(c) Consent of Ferguson & Company
*(27) Financial Data Schedule (Electronic Filing Only)
*(99)(a) Appraisal Report of Ferguson & Company
*(99)(b) Form of Stock Order Form
*(99)(c) Summary Proxy Statement
</TABLE>
*Filed Previously
(b) Financial Statement Schedules
-----------------------------
All schedules have been omitted as not applicable or not required under the
rules of Regulation S-X.
Item 17. Undertakings.
------------
(a) The undersigned Registrant hereby undertakes to provide to the underwriter
at the closing specified in the underwriting agreement certificates in such
denominations and registered in such names as required by the underwriter
to permit prompt delivery to each purchaser.
II-4
<PAGE>
(b) Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of
the Registrant pursuant to the foregoing provisions, or otherwise, the
Registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as
expressed in the Act and is, therefore, unenforceable. In the event that a
claim for indemnification against such liabilities (other than the payment
by the Registrant of expenses incurred or paid by a director, officer or
controlling person of the Registrant in the successful defense of any
action, suit or proceeding) is asserted by such director, officer or
controlling person in connection with the securities being registered, the
Registrant will, unless in the opinion of its counsel the matter has been
settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against
public policy as expressed in the Act and will be governed by the final
adjudication of such issue.
(c) The undersigned registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement:
(i) To include any prospectus required by section 10(a)(3) of the
Securities Act of 1933;
(ii) To reflect in the prospectus any facts or events arising after
the effective date of the registration statement (or the most
recent post-effective amendment thereof) which, individually or
in the aggregate, represent a fundamental change in the
information set forth in the registration statement.
Notwithstanding the foregoing, any increase or decrease in
volume of securities offered (if the total dollar value of
securities offered would not exceed that which was registered)
and any deviation from the low or high end of the estimated
maximum offering range may be reflected in the form of
prospectus filed with the Commission pursuant to Rule 424(b) if,
in the aggregate, the changes in volume and price represent no
more than a 20% change in the maximum aggregate offering price
set forth in the "Calculation of Registration Fee" table in the
effective registration statement.
(iii) To include any material information with respect to the plan of
distribution not previously disclosed in the registration
statement or any material change to such information in the
registration statement;
(2) That, for the purpose of determining any liability under the
Securities Act of 1933, each such post-effective amendment shall be
deemed to be a new registration statement relating to the securities
offered therein, and the offering of such securities at that time
shall be deemed to be the initial bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment any
of the securities being registered which remain unsold at the
termination of the offering.
II-5
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the registrant has
duly caused this registration statement or Form S-1 to be signed on its behalf
by the undersigned, thereunto duly authorized, in the City of Salisbury, North
Carolina, on November 11, 1998.
Innes Street Financial Corporation
By: /s/ Ronald E. Bostian
---------------------------------
Ronald E. Bostian
President and Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, this registration
statement has been signed by the following persons in the capacities and on the
dates indicated.
<TABLE>
<S> <C>
/s/ Ronald E. Bostian Date: November 11, 1998
- ----------------------------------------
Ronald E. Bostian
(President and Chief Executive Officer)
/s/ Dianne E. Hawkins Date: November 11, 1998
- ----------------------------------------
Dianne E. Hawkins
(Vice President, Treasurer and Controller)
/s/ Malcolm B. Blankenship, Jr. Date: November 11, 1998
- ----------------------------------------
Malcolm B. Blankenship, Jr.
(Director)
/s/ James W. Duke Date: November 11, 1998
- ----------------------------------------
James W. Duke
(Director)
/s/ Harold C. Earnhardt Date: November 11, 1998
- ----------------------------------------
Harold C. Earnhardt
(Vice Chairman)
/s/ K.V. Epting, Jr. Date: November 11, 1998
- ----------------------------------------
K.V. Epting, Jr.
(Director)
/s/ Gordon P. Hurley Date: November 11, 1998
- ----------------------------------------
Gordon P. Hurley
(Director)
/s/ Bobby A. Lomax Date: November 11, 1998
- ----------------------------------------
Bobby A. Lomax
(Director)
</TABLE>
II-6
<PAGE>
(Director)
INDEX TO EXHIBITS
Exhibit No.
(Per Exhibit
Tables in
Item 601 of
Regulation S-K) Description
--------------- -----------
*(1)(a) Engagement letter dated April 27, 1988 between
Citizens Savings Bank of Salisbury, SSB and
Trident Securities, Inc.
*(1)(b) Form of Sales Agency Agreement among Innes
Street Financial Corporation, Citizens Bank, FSB
and Trident Securities, Inc.
*(2) Amended and Restated Plan of Conversion of
Citizens Bank, FSB
*(3)(i) Articles of Incorporation of Innes Street
Financial Corporation
*(3)(ii) Bylaws of Innes Street Financial Corporation
*(4) Forms of Stock Certificate for Innes Street
Financial Corporation and Citizens Bank, FSB
*(5) Opinion and consent of Brooks, Pierce, McLendon,
Humphrey & Leonard, L.L.P. as to legality of
securities to be registered hereby
*(8)(a) Opinion and consent of Brooks, Pierce, McLendon,
Humphrey & Leonard, L.L.P. as to federal and
state tax consequences
*(8)(b) Opinion of Ferguson & Company as to the value of
subscription rights
*(10)(a) Letter Agreement dated April 29, 1998 between
Citizens Savings Bank of Salisbury, SSB and
Ferguson & Company for appraisal services and
for services in connection with preparation of a
regulatory business plan
*(10)(b) Form of Employment Agreement to be entered into
between Citizens Bank, FSB and Ronald E.
Bostian
<PAGE>
<TABLE>
<CAPTION>
Exhibit No.
(Per Exhibit
Tables in
Item 601 of
Regulation S-K) Description
--------------- -----------
<S> <C>
*(10)(c) Form of the Management Recognition Plan and
Trust of Citizens Bank, FSB
*(10)(d) Form of Registrant's Stock Option Plan
*(10)(e) Form of Citizens Bank, FSB Severance Plan
*(10)(f) Amended and Restated Nonqualified Deferred
Compensation Plan
*(10)(g) Amended and Restated Directors Deferred
Compensation Plan
*(23)(a) Consent of Brooks, Pierce, McLendon, Humphrey &
Leonard, L.L.P. (See Exhibits (5) and (8)(a))
(23)(b) Consent of Ernst & Young, L.L.P.
*(23)(c) Consent of Ferguson & Company
*(27) Financial Data Schedule (Electronic Filing Only)
*(99)(a) Appraisal Report of Ferguson & Company
*(99)(b) Form of Stock Order Form
*(99)(c) Summary Proxy Statement
</TABLE>
*Filed Previously
<PAGE>
Consent of Independent Auditors
We consent to the reference to our firm under the caption "Experts" and to the
use of our report dated November 7, 1997 (except Note 14, as to which the date
is September 10, 1998) to each of Amendment No. 1 to the Application for
Conversion (Form AC) of Citizens Bank, FSB and Amendment No. 3 to the
Registration Statement (Form S-1) and the related Prospectus of Innes Street
Financial Corporation for the registration of shares of its common stock.
/s/ Ernst & Young LLP
Ernst & Young LLP
Winston-Salem, North Carolina
November 11, 1998
