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File Pursuant to Rule 424(b)(3)
Registration No. 333-57259
PROSPECTUS SUPPLEMENT
[LOGO]
CORTLAND SAVINGS BANK
PARTICIPATION INTERESTS
THE CORTLAND SAVINGS BANK
401(K) SAVINGS PLAN
This Prospectus Supplement relates to the offer and sale to participants
(the "Participants") in the Cortland Savings Bank 401(k) Savings Plan (the
"Plan") of participation interests and shares of common stock, par value $.01
per share of CNY Financial Corporation (the "Common Stock"), as described below.
In connection with the proposed conversion of Cortland Savings Bank (the
"Bank") from a mutual savings bank to a stock savings bank (the "Conversion"),
the Plan has been amended to permit the investment of plan assets in Common
Stock of CNY Financial Corporation (the "Company"). The amendment allows each
Participant to direct the trustee of the Plan (the "Trustee") to purchase Common
Stock with amounts in the Plan attributable to that Participant. Based on the
value of the Plan assets ($2,327,263.70) at June 4, 1998, 232,726 shares of
Common Stock could be purchased with Plan assets (assuming a purchase price of
$10.00 per share). This Prospectus Supplement relates to the initial election of
a Participant to direct that all or a portion of his or her account be invested
in Common Stock in connection with the Conversion and also to elections by
Participants to direct that all or a portion of their accounts be invested in
Common Stock after the Conversion.
IMPORTANT NOTICE TO PARTICIPANTS: IF YOU INVEST A PORTION OF YOUR 401(K)
PLAN ASSETS IN COMMON STOCK OF CNY FINANCIAL CORPORATION, YOU WILL NOT BE
PERMITTED TO MAKE THE INVESTMENT AND THEN IMMEDIATELY RECEIVE A DISTRIBUTION OF
THE STOCK FROM THE 401(K) PLAN. THE TIMING OF DISTRIBUTIONS TO YOU FROM THE PLAN
WILL BE THE SAME AS FOR ALL OTHER INVESTMENTS IN THE PLAN.
The Prospectus dated August 12, 1998 of the Company (the "Prospectus"),
which is attached to this Prospectus Supplement, includes information about the
Conversion, the Common Stock and the financial condition, results of operations
and business of the Bank. This Prospectus Supplement, which provides information
about the Plan, should be read only together with the Prospectus.
For a discussion of certain factors that should be considered by each
Participant before deciding to direct the Trustee to use Plan assets to purchase
any Common Stock, see "Risk Factors."
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION, THE SUPERINTENDENT OF BANKS OF THE STATE OF NEW YORK, THE
NEW YORK STATE BANKING DEPARTMENT, THE FEDERAL DEPOSIT INSURANCE CORPORATION, OR
ANY OTHER STATE OR FEDERAL AGENCY OR ANY STATE SECURITIES COMMISSION, NOR HAS
SUCH COMMISSION OR OTHER AGENCY OR ANY STATE SECURITIES COMMISSION PASSED UPON
THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS SUPPLEMENT. ANY REPRESENTATION TO
THE CONTRARY IS A CRIMINAL OFFENSE.
THE COMPANY'S COMMON STOCK IS NOT A SAVINGS ACCOUNT OR DEPOSIT AND IS NOT
FEDERALLY INSURED OR GUARANTEED. THE COMMON STOCK IS NOT GUARANTEED BY THE
COMPANY OR THE BANK. THE ENTIRE AMOUNT OF A PURCHASER'S INVESTMENT MAY BE LOST.
THE DATE OF THIS PROSPECTUS SUPPLEMENT IS AUGUST 12, 1998.
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No person has been authorized to give any information or to make any
representations other than those contained in the Prospectus or this Prospectus
Supplement, and, if given or made, such information or representations must not
be relied upon as having been authorized by the Bank or the Plan. This
Prospectus Supplement does not constitute an offer to sell or solicitation of an
offer to buy any securities in any jurisdiction to any person to whom it is
unlawful to make such offer or solicitation in such jurisdiction. Neither the
delivery of this Prospectus Supplement and the Prospectus nor any sale of Common
Stock shall under any circumstances create any implication that there has been
no change in the affairs of the Bank or the Plan since the date of this
Prospectus Supplement, or that the information contained in this Prospectus
Supplement is correct after the date of this Prospectus Supplement. This
Prospectus Supplement should be read only with the attached Prospectus and
should be retained for future reference.
TABLE OF CONTENTS
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THE OFFERING.......................................................................... S-3
Securities Offered.................................................................... S-3
Election to Purchase Common Stock in the Conversion................................... S-3
Value of Participation Interests...................................................... S-3
Method of Directing Transfer.......................................................... S-3
Deadline for Directing Transfer....................................................... S-4
Transfer Direction Cannot be Revoked.................................................. S-4
Directions to Purchase Common Stock After the Conversion.............................. S-4
Purchase Price of Common Stock........................................................ S-4
Nature of a Participant's Interest in the Common Stock................................ S-4
Voting and Tender Rights.............................................................. S-4
DESCRIPTION OF THE PLAN............................................................... S-5
Introduction.......................................................................... S-5
Employee Retirement Income Security Act............................................... S-5
Reference to Full Text of Plan........................................................ S-5
Contributions Under the Plan.......................................................... S-5
Eligibility and Participation......................................................... S-5
Plan Contributions.................................................................... S-6
Bank Contributions.................................................................... S-6
Limitations on Contributions.......................................................... S-6
Investment of Contributions........................................................... S-8
Benefits Under the Plan............................................................... S-9
Withdrawals and Distributions......................................................... S-9
Administration of the Plan............................................................ S-10
Reports to Plan Participants.......................................................... S-10
Amendment and Termination............................................................. S-11
Merger, Consolidation or Transfer..................................................... S-11
Federal Income Tax Consequences....................................................... S-11
Restrictions on Resale................................................................ S-12
SEC Reporting and Short-Swing Profit Liability........................................ S-13
LEGAL OPINION......................................................................... S-13
INVESTMENT FORM....................................................................... S-14
</TABLE>
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THE OFFERING
SECURITIES OFFERED
The securities offered by this Prospectus Supplement are participation
interests in the Plan and up to 232,726 shares (assuming the actual purchase
price is $10.00 per share) of Common Stock which may be acquired by the Plan for
the accounts of employees participating in the Plan. The Company is the issuer
of the Common Stock. Only employees of the Bank may participate in the Plan. The
Common Stock will not be issued unless the Conversion occurs. A Participant's
ability to purchase Common Stock in the Conversion is limited by the
subscription priorities described in the Prospectus.
This Prospectus Supplement contains information about the Plan. The
Prospectus contains information about the Conversion, certain risk factors, the
financial condition, results of operations and business of the Bank and the
Company. The principal executive office of the Bank and the Company are located
at 1 North Main Street, Cortland, New York 13045. Their telephone number is
(607) 756-5643.
ELECTION TO PURCHASE COMMON STOCK IN THE CONVERSION
The Plan has been amended to allow each Participant to direct that all or
part of his or her portion of the assets of the Plan may be transferred to a
fund that will invest in Common Stock (the "Employer Stock Fund") and used to
purchase Common Stock issued in the Conversion. The Trustee of the Plan will
follow the Participants' directions. The ability of a Participant to use his or
her share of the assets of the Plan to purchase Common Stock in the Conversion
will depend upon the amount of Common Stock available and whether the
Participant is entitled to priority subscription rights because the Participant
had a deposit with the Bank with a balance of at least $100 on December 31, 1996
(first priority) or June 30, 1998 (third priority). The second priority goes to
the Employee Stock Ownership Plan of the Bank and the Company. For example, if a
Participant has only third priority subscription rights and all Common Stock
available is purchased by persons with higher priorities, none of the
Participant's funds will be transferred to the Employer Stock Fund to purchase
Common Stock.
Funds not transferred to the Employer Stock Fund will remain in the other
investment funds of the Plan as directed by the Participant. The transfer of
funds into the Employer Stock Fund will occur on or about the day the
Subscription Offering ends. If any funds transferred into the Employer Stock
fund are not used to purchase Common Stock because there is insufficient Common
Stock available or for any other reason, including inadvertent error, those
funds will be reinvested in the other funds of the Plan based upon the
Participant's prior directions.
VALUE OF PARTICIPATION INTERESTS
The assets of the Plan were valued as of June 30, 1998, at $2,519,226. Each
participant was last informed of the value of his or her interest in the Plan as
of June 30, 1998. This value represented the market value of past contributions
to the Plan by the Bank and the Participants, adjusted for any earnings, losses
and withdrawals.
METHOD OF DIRECTING TRANSFER
At the end of this Prospectus Supplement there is a form to direct a
transfer to the Employer Stock Fund (the "Investment Form"). If a Participant
wants to transfer all or part of his or her interest in the assets of the Plan
to subscribe for Common Stock to be sold in the Conversion, he or she should
indicate that decision in Section 2 of the Investment Form. If a Participant
does not wish to make such an election, he or she does not need to take any
action.
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DEADLINE FOR DIRECTING TRANSFERS
Investment Forms must be received by the Human Resources Department of the
Bank no later than 3:00 p.m. on September 11, 1998 in order to be valid.
WARNING: This date is before the end of the subscription period in order to
allow the Trustee to submit an order form on behalf of the Plan.
TRANSFER DIRECTIONS CANNOT BE REVOKED.
A Participant may not revoke a direction to transfer amounts to the Employer
Stock Fund to purchase shares of Common Stock in the Conversion. Participants,
however, will be able to change their investment decisions from time to time, as
they have been able to do in the past, as explained below.
DIRECTIONS TO PURCHASE COMMON STOCK AFTER THE CONVERSION.
After the Conversion, a Participant may direct that part of his or her
interest in the Plan which is invested in other investment alternatives
available under the Plan be transferred to the Employer Stock Fund and invested
in Common Stock. A Participant may also direct that part of his or her interest
in the Employer Stock Fund be invested instead in other investment alternatives
available under the Plan. Participants may also direct that future contributions
to the Plan by or on their behalf be invested in Common Stock. After the initial
election, the allocation of a Participant's interest in the Employer Stock Fund
may be changed four times in any plan year by filing a written notice with the
plan administrator at least ten days before the effective date of the change.
Special restrictions apply to transfers by Participants who are officers,
directors and principal shareholders of the Company who are subject to the
provisions of Section 16(b) of the Securities Exchange Act of 1934, as amended,
as discussed below.
PURCHASE PRICE OF COMMON STOCK
The purchase price for shares of Common Stock purchased by the Trustee will
be the same price as is paid by all other persons who purchase Common Stock in
the Conversion.
Common Stock purchased by the Trustee after the Conversion will be acquired
in open market transactions. The prices paid by the Trustee for those shares
will not exceed "adequate consideration" as defined in Section 3(18) of the
Employee Retirement Income Security Act of 1974, as amended ("ERISA").
Transaction fees resulting from the purchase, sale or transfer of Common Stock
by the Employer Stock Fund will be paid by the Employer Stock Fund.
NATURE OF A PARTICIPANT'S INTEREST IN THE COMMON STOCK
The Common Stock will be held in the name of the Trustee for the Plan, as
trustee. Each Participant has an interest in the investments of the Plan but not
in any particular assets of the Plan. Accordingly, a specific number of shares
of Common Stock will not be directly attributable to the account of any
Participant. Earnings, E.G., gains and losses, are allocated to the account of a
Participant based on the investment designations of that Participant. Therefore,
earnings for a Participant's Account should not be affected by the investment
decisions of other Participants. However, in the Conversion, the investment
decisions of other Participants may affect the amount of Common Stock available
to satisfy the directions of each Participant.
VOTING AND TENDER RIGHTS
The Trustee generally will exercise voting and tender rights as directed by
Participants with interests in the Employer Stock Fund. For each matter on which
stockholders of the Company have a right to vote, each Participant will have
voting instruction rights based on that Participant's share of the Employer
Stock Fund. The vote cast by the Trustee on each matter will be proportionate to
the voting instructions received from Participants with interests in the
Employer Stock Fund. If there is a tender offer for Common Stock, each
Participant will have tender instruction rights reflecting that Participant's
share in the Employer Stock
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Fund. The Trustee will then tender shares of Common Stock in the Employer Stock
Fund in the same proportion as the percentage as the tender instructions in
favor of tendering. The remaining shares of Common Stock held in the Employer
Stock Fund will not be tendered. Participants may exercise their voting and
tender instruction rights confidentially.
DESCRIPTION OF THE PLAN
INTRODUCTION
The Plan was effective on June 1, 1986, and was amended and restated
effective January 1, 1987. The Plan has since been amended seven times. The
amendments have generally addressed changes in ERISA. The Plan is established in
accordance with the requirements under Section 401(a) and Section 401(k) of the
Internal Revenue Code of 1986 (referred to in this Prospectus Supplement as the
"Code"). The amendment of the Plan permitting the creation of the Employer Stock
Fund will be submitted to the IRS in a timely manner for a determination that
the Plan, as amended, is qualified under Section 401(a) of the Code, and that
its related trust is qualified under Section 501(a) of the Code.
The Bank intends that the Plan will comply with the requirements under
Section 401(a) and Section 401(k) of the Code. The Bank will adopt any
amendments to the Plan that may be necessary to ensure the qualified status of
the Plan under the Code and applicable Treasury Regulations.
EMPLOYEE RETIREMENT INCOME SECURITY ACT
The Plan is an "individual account plan" other than a "money purchase
pension plan" within the meaning of ERISA. As such, the Plan is subject to all
of the provisions of Title I (Protection of Employee Benefit Rights) and Title
II (Amendments to the Internal Revenue Code Relating to Retirement Plans) of
ERISA, except the funding requirements contained in Part 3 of Title I of ERISA
which by their terms do not apply to this type of individual account plan. The
Plan is not subject to Title IV (Plan Termination Insurance) of ERISA.
THE PLAN IMPOSES SUBSTANTIAL RESTRICTIONS ON THE RIGHT OF A PLAN PARTICIPANT
TO WITHDRAW AMOUNTS HELD FOR HIS OR HER BENEFIT UNDER THE PLAN BEFORE THE
PARTICIPANT'S TERMINATION OF EMPLOYMENT WITH THE BANK. A SUBSTANTIAL FEDERAL TAX
PENALTY MAY ALSO BE IMPOSED ON WITHDRAWALS MADE BEFORE THE PARTICIPANT REACHES
AGE 59-1/2, REGARDLESS OF WHETHER THE WITHDRAWAL OCCURS DURING EMPLOYMENT WITH
THE BANK OR AFTER TERMINATION.
REFERENCE TO FULL TEXT OF PLAN
The following statements are summaries of certain provisions of the Plan.
They are not complete and are qualified in their entirety by the full text of
the Plan. Copies of the Plan are available to all employees by filing a request
with the Plan Administrator, Wesley D. Stisser, Jr., at One North Main Street,
Cortland, New York 13045. The Plan Administrator's telephone number is (607)
756-5643. Each employee is urged to read carefully the full text of the Plan,
the Summary Plan Description for the Plan, and the summaries of all material
modifications that have been made to the Plan.
ELIGIBILITY AND PARTICIPATION
Any salaried employee of the Bank who has reached age 21 is eligible to
participate in the Plan on the first day of any calendar month following
completion of one year of service with the Bank Employer. Employees compensated
on an hourly basis and employees compensated on a daily, fee or retainer basis,
leased employees (within the meaning of Section 414(n) of the Code) and
employees covered by a collective bargaining agreement which does not expressly
provide for their coverage under the Plan, are not eligible to participate in
the Plan.
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As of June 11, 1998, there were approximately 75 employees eligible to
participate in the Plan, and 70 employees had elected to participate in the
Plan. There were an additional 10 former employees who have not yet received
full distribution of their Plan accounts and they will also have the right,
subject to the priority rules applicable to all subscribers, to elect to
purchase Common Stock in the Conversion through the use of their share of Plan
assets, as described above.
PLAN CONTRIBUTIONS
Each Participant in the Plan may elect to have from 2% to 10% of his or her
Compensation (as defined below) contributed to the Plan. Those amounts are
credited to the Participant's "Basic Contribution Account." For purposes of the
Plan, "Compensation" means a Participant's compensation from the Bank for the
year, before any reduction for amounts contributed to the Plan. Compensation
includes salary, wages and wage continuation to an employee who is absent due to
an illness or disability of a short-term nature and commissions paid on loan
originations. "Compensation" does not include expense allowances, commissions
other than those paid on the origination of loans, severance pay, fees, bonuses,
incentive payments, contributions other than Basic Contributions made to the
Plan and contributions made by the Bank to any other pension, insurance welfare
or other employee benefit plan. The annual compensation of each Participant
taken into account under the Plan is limited to $160,000 (adjusted for increases
in the cost of living as permitted by the Code). Generally, a Participant may
elect to modify the amount contributed to the Plan on his or her behalf not more
often than four times in any plan year by providing notice to the Plan
Administrator at least 10 days before commencement of the first day of the
payroll period for which the modification is to become effective. However,
special restrictions apply to persons subject to Section 16(b) of the Securities
Exchange Act of 1934. Basic Contributions are transferred by the Bank to the
Trustee of the Plan.
A Participant who receives a hardship distribution from the Plan may not
make Basic Contributions for twelve months after receiving the hardship
distribution.
BANK CONTRIBUTIONS
The Bank contributes to the Plan for each Plan Year 75% of the Participant's
Basic Contributions, up to 4.5% of the Participant's Compensation for the Plan
Year. The Bank's contributions are credited to the Participant's "Matching
Contribution Account." After the Conversion, at the discretion of the Bank, the
Bank's contributions made with respect to Participants who are Bank employees
will be credited to the Participant's Account in The CNY Financial Corporation
Employee Stock Ownership Plan. At its discretion, the Bank may make an
additional contribution to the Plan as of the end of the Plan Year in an amount
determined by the Bank for the purpose of ensuring that the Plan complies with
Section 401(k) of the Code. Such amounts are credited to Participants' "Special
Contribution Accounts" based on each Participant's compensation. Special
Contributions may be made only to the accounts of non-highly compensated
employees.
The Bank is currently evaluating, and expects to adopt, an amendment of the
401(k) Plan to reduce the maximum amount which an employee may defer to 6% of
compensation from 10% and reduce the Bank's matching percentage from 75% to 50%
of the first 6% of compensation that the employee defers. The Bank would not be
required to recognize any expense in connection with the amendment.
LIMITATIONS ON CONTRIBUTIONS
LIMITATIONS ON ANNUAL ADDITIONS AND BENEFITS. Contributions and forfeitures
allocated to each Participant's Basic Contribution Account and Matching
Contribution Account during any Plan Year may not exceed the lesser of 25% of
the Participant's Compensation for the Plan Year (as defined under Section 415
of the Code) or $30,000 (adjusted for increases in the cost of living as
permitted by the Code). A Participant's Section 415 Compensation is
Compensation, excluding any contribution by the Bank to the Plan or to any other
plan of deferred compensation or any distributions from a plan of deferred
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compensation. In addition, annual contributions and forfeitures are limited to
the extent necessary to prevent the limitations set forth in the Code for all of
the qualified defined benefit plans and defined contribution plans maintained by
the Bank from being exceeded. If these limitations would be exceeded by any
contributions or forfeitures with respect to a Participant:
(i) Any excess amount in the Participant's Account will be used to reduce
the Bank's contributions for such Participant in future years;
(ii) If an excess amount still exists, and the Participant is not covered by
the Plan, the excess will be held in a suspense account and used to
reduce future Bank contributions for all remaining Participants;
(iii) Suspense accounts will not participate in investment gains and losses.
LIMITATION ON 401(K) PLAN CONTRIBUTIONS. A Participant may not make a Basic
Contribution in excess of $10,000 in 1998, which amount is adjusted annually for
inflation. Excess contributions will be included in the Participant's gross
income for federal income tax purposes in the year they are made. Excess
contributions will again be subject to federal income tax when distributed by
the Plan to the Participant, unless the excess (together with any income
allocable to the excess) is distributed to the Participant by April 15th after
the close of the taxable year in which the excess deferral is made. Any income
on the excess deferral that is distributed not later than that date shall be
treated, for federal income tax purposes, as earned and received by the
Participant in the taxable year in which the excess deferral is made.
LIMITATION ON PLAN CONTRIBUTIONS FOR HIGHLY COMPENSATED EMPLOYEES. Under
the Code, the contributions made by or on behalf of Highly Compensated Employees
(defined below) are limited when compared to the amounts contributed by or on
behalf of all other employees eligible to participate in the Plan. Participation
in the Plan is voluntary and no employee is required to defer salary under the
Plan. If Highly Compensated Employees participate in greater numbers, or defer a
greater percentage of their salary, than other employees, then the Plan might
provide benefits to Highly Compensated Employees which are so disproportionate
when compared to other employees that limits set in the Code may be violated. In
general, a Highly Compensated Employee includes any employee who, during the
Plan Year or the preceding Plan Year, (1) at any time directly or indirectly
owned 5% of the Bank, or (2) received compensation from the Bank in excess of
$80,000. The amounts are adjusted annually to reflect increases in the cost of
living. In addition, the compensation of an employee who is a family member of a
5% owner, or one of the ten most highly compensated employees during the
relevant period, is aggregated with that of the Highly Compensated Employee. All
such family members are treated as a single employee when calculating limits on
Highly Compensated Employees.
If the Code limits are violated, excess contributions by Highly Compensated
Employees and related income are distributed to such Highly Compensated
Employees. The Bank must pay a 10% excise tax unless the excess contributions,
together with any related income, either are recharacterized or are distributed
no later than 2 1/2 months after the Plan Year to which the excess contributions
relate.
TOP-HEAVY PLAN REQUIREMENTS. If for any Plan Year the Plan is a Top-Heavy
Plan (as defined below), then (i) the Bank may be required to make certain
minimum contributions to the Plan on behalf of non-key employees (as defined
below), and (ii) certain additional restrictions would apply with respect to the
combination of annual additions to the Plan and projected annual benefits under
any defined benefit plan maintained by the Bank. In general, the Plan will be
regarded as a "Top-Heavy Plan" for any Plan Year if, as of the last day of the
preceding Plan Year, the aggregate balance of the Accounts of Participants who
are Key Employees exceeds 60% of the aggregate balance of the Accounts of all
Participants. Key Employees generally include any employee who, at any time
during the Plan Year or any of the four preceding Plan Years, is (1) an officer
of the Bank having annual compensation in excess of $45,000 who is in an
administrative or policy-making capacity; (2) one of the ten employees having
annual compensation in excess of $30,000 and owning, directly or indirectly, the
largest interests in the Bank (but excluding any
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employee with an ownership interest of less than 0.5%); (3) a 5% owner of the
Bank; or (4) a 1% owner of the Bank having annual compensation in excess of
$150,000.
INVESTMENT OF CONTRIBUTIONS
All amounts credited to Participants' Accounts under the Plan are held in
the Plan Trust (the "Trust") which is administered by the Trustee appointed by
the Bank's Board of Trustees. Plan assets may be invested in the following
funds:
a. Core Equity Fund;
b. Emerging Growth Equity Fund;
c. Value Equity Fund;
d. Intermediate--Term Bond Fund;
e. Actively Managed Bond Fund;
f. Short-Term Investment Fund; and
g. International Equity Fund.
In addition, as a result of the amendment of the Plan, a Participant may
also direct that all or a portion of his or her interest in the Trust be
invested in the Employer Stock Fund.
Once in each calendar quarter, a Participant may elect (in increments of
1%), to have both past and future contributions and additions to their Accounts
invested either in the Employer Stock Fund or among such other Funds. These
elections will be effective on the effective date of the Participant's written
notice to the plan administrator, provided such notice is filed with the
administrator at least 10 days before it is to become effective. Any amounts
credited to a Participant's Accounts for which investment directions are not
given will be invested in accordance with the terms of the Plan. Because
investment allocations only are required to be made in increments of 1%, lack of
diversification with respect to the investment of a Participant's Account should
not be a significant risk given the investment options available to Participants
and the ability of Participants to make investment designations four times each
year.
A Participant who receives a loan from the Plan has a separate account
established under the Plan. The balance of a Participant's loan account
represents the unpaid principal and interest (if any) of such participant's loan
from the Plan. Repayments of principal and payments of interest on loans are
invested by the Trustee as directed by the Participant or, if no investment
directions are given, in accordance with the terms of the Plan.
The net gain (or loss) of the Funds from investments (including interest
payments, dividends, realized and unrealized gains and losses on securities, and
expenses paid from the Trust) will be determined at least monthly during the
Plan Year. For purposes of allocations of investments among the Funds, all
assets of the Trust are valued at their fair market value.
A. Existing Funds.
The annual percentage return on the funds available for investment prior to
the most recent amendment of the Plan for the prior three years was:
<TABLE>
<CAPTION>
1997 1996 1995
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a. Core Equity Fund......................................... 25.32% 21.53% 40.17%
b. Emerging Growth Equity Fund.............................. 8.25% 27.09% 42.83%
c. Value Equity Fund........................................ 31.70% 25.90% 33.96%
d. Intermediate-Term Bond Fund.............................. 7.07% 27.09% 42.83%
e. Actively Managed Bond Fund............................... 9.70% 3.15% 17.70%
f. Short-Term Investment Fund............................... 4.93% 4.70% 5.39%
g. International Equity Fund................................ 0.92% 10.86% 12.46%
</TABLE>
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B. The Employer Stock Fund.
The Employer Stock Fund will consist of investments in Common Stock made on
and after the effective date of the Conversion. Cash dividends, if any, paid on
Common Stock held in the Employer Stock Fund will be credited to a cash dividend
subaccount for each Participant investing in the Employer Stock Fund. The Board
of Directors of the Company may consider a policy of paying cash dividends on
the Common Stock in the future; however, no decision as to the amount or timing
of cash dividends, if any, has been made. The Trustee will, to the extent
practicable, use all amounts held by it in the Employer Stock Fund (except the
amounts credited to cash dividend subaccounts) to purchase shares of Common
Stock of the Company. It is expected that all purchases will be made at
prevailing market prices. Under certain circumstances, the Trustee may be
required to limit the daily volume of shares purchased. Pending investment in
Common Stock, assets held in the Employer Stock Fund will be placed in bank
deposits and other short-term investments.
When Common Stock is purchased or sold, the cost or net proceeds are charged
or credited to the accounts of Participants affected by the purchase or sale.
Participants' Accounts will also be adjusted for any brokerage commissions,
transfer fees and other expenses incurred in the sale and purchase of Common
Stock for the Employer Stock Fund. A Participant's Account will be adjusted to
reflect changes in the value of shares of Common Stock resulting from stock
dividends, stock splits and similar changes.
As of the date of this Prospectus Supplement, no Common Stock has been
issued and there is no established market for the Common Stock. Accordingly,
there is no record of the historical performance of the Employer Stock Fund.
Performance will depend on a number of factors, including the financial
condition and profitability of the Company and the Bank and market conditions
generally.
INVESTMENTS IN THE EMPLOYER STOCK FUND MAY INVOLVE CERTAIN SPECIAL RISKS.
FOR A DISCUSSION OF THESE RISK FACTORS, SEE "RISK FACTORS" IN THE PROSPECTUS.
BENEFITS UNDER THE PLAN
VESTING. A Participant has a fully vested, nonforfeitable interest in his
or her Basic Contribution Account and all related earnings. A Participant vests
in his or her Matching Contribution Account under the Plan according to the
following schedule:
<TABLE>
<CAPTION>
PERIOD OF SERVICE VESTED PERCENTAGE
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less than 1 year 0%
1 year 20%
2 years 40%
3 years 60%
4 years 80%
5 or more years 100%
</TABLE>
WITHDRAWALS AND DISTRIBUTIONS
WITHDRAWALS PRIOR TO TERMINATION OF EMPLOYMENT. A Participant may make a
withdrawal from his or her Basic Contribution Account subject to the hardship
distribution rules under the Plan. These requirements insure that Participants
have a true financial need before a withdrawal may be made. However, such
withdrawals may not be made more often than two times during any Plan Year. A
Participant may make a withdrawal from his or her Basic Contribution Account or
from funds rolled over into the Plan from another plan in which the Participant
participated after he or she turns 59 1/2.
DISTRIBUTION UPON RETIREMENT, DISABILITY OR TERMINATION OF
EMPLOYMENT. Payment of benefits to a Participant who retires, incurs a
disability, or otherwise terminates employment generally shall be made in a lump
sum cash payment as soon as administratively feasible after such termination of
employment if the vested value of the Participant's Account is $5,000 or less.
If the vested portion of the Participant's Account
S-9
<PAGE>
balance is greater than $5,000, the Participant may request a distribution
(subject to the minimum distribution rules) in a lump sum payment: (a) as soon
as administratively possible after termination, (b) as of any Valuation Date up
to 13 months after termination or (c) as of the date the Participant attains
normal retirement age. At the request of the Participant, the distribution may
include an in kind distribution of Common Stock of the Company credited to the
Participant's Account. Benefit payments ordinarily shall be paid not later than
60 days following the end of the Plan Year in which occurs the latest of the
Participant's: (i) termination of employment; (ii) the attainment of age 65 or
(iii) 10th anniversary of commencement of participation in the Plan; but in no
event later than the April 1 following the calendar year in which the
Participant attains age 70 1/2. However, if the vested portion of the
Participant's Account balances exceeds $5,000, no distribution shall be made
from the Plan prior to the Participant's attaining age 65 unless the Participant
elects to receive an earlier distribution.
DISTRIBUTION UPON DEATH. A Participant who dies before the payment of
benefits commences and who has a surviving spouse shall have his or her benefits
paid to the surviving spouse in a lump sum as soon as administratively possible
after death, unless the Participant elected prior to his or her death or the
beneficiary so elects within 90 days of the Participant's death, to receive such
distribution in a lump sum payment as of any Valuation Date which occurs within
one year of the Participant's death. An unmarried Participant, and a married
Participant with spousal consent, may have payments made to a designated
beneficiary in a lump-sum payment in cash or in Common Stock in the same manner
described in the preceding sentence.
TRANSFER OF BENEFITS PROHIBITED. Except for federal income tax withholding
and as allowed in qualified domestic relations orders (as defined in the Code),
benefits payable under the Plan may not be sold, transferred, assigned, pledged,
encumbered, garnished, levied on, or otherwise disposed of, either voluntary or
involuntary. Any attempt to do so shall be void.
ADMINISTRATION OF THE PLAN
THE TRUSTEE. The Trustee with respect to the Plan is the named fiduciary of
the Plan for purposes of Section 402 of ERISA. The Trustee is appointed by the
Board of Directors of the Bank to serve at its pleasure. The current Trustee of
the Plan is the RSI Retirement Trust, 317 Madison Avenue, New York, New York
10017. However, an additional Trustee is being appointed to hold funds invested
in the Employer Stock Fund. The Trustee receives, holds and invests the
contributions to the Plan in trust and distributes them to Participants and
beneficiaries in accordance with the terms of the Plan and the directions of the
Plan Administrator. The Trustee is responsible for investment of the assets of
the Trust.
THE PLAN ADMINISTRATOR. The Plan is administered by one or more persons who
are appointed by and who serve at the pleasure of the Bank (the
"Administrator"). Currently, the Administrator is Wesley D. Stisser, Jr.,
President. The address and telephone number of the Administrator is c/o Cortland
Savings Bank, One North Main Street, Cortland, New York 13045, (607) 756-5643.
The Administrator administers the Plan, interprets its provisions, sets
procedures for filing applications for benefits, prepares and distributes
information explaining the Plan, maintains Plan records, books of account and
all other data necessary for the proper administration of the Plan, and prepares
and files all returns and reports relating to the Plan which are required to be
filed with the U.S. Department of Labor and the IRS, and all disclosures
required to be made to Participants, Beneficiaries and others under ERISA.
REPORTS TO PARTICIPANTS.
The Administrator will give each Participant a statement at least quarterly
showing (i) the balance in the Participant's Account as of the end of that
period, (ii) the amount of contributions allocated to that Participant's Account
for that period, and (iii) the adjustments to such that Participant's Account to
reflect earnings or losses (if any).
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<PAGE>
AMENDMENT AND TERMINATION
The Bank intends to continue the Plan indefinitely, but the Bank may
terminate the Plan at any time. If the Bank terminates the Plan in whole or in
part, then each Participant will have a fully vested interest in his or her
Accounts. The Bank may amend the Plan. The amendments may not cause any part of
the Trust to be used for, or diverted to, any purpose other than the exclusive
benefit of Participants or their beneficiaries; provided, however, that the Bank
may make any amendment it determines necessary or desirable, with or without
retroactive effect, to comply with ERISA.
MERGER, CONSOLIDATION OR TRANSFER
If the Plan is merged or consolidated with another plan, or the assets of
the Trust are transferred to another plan, each Participant would (if either the
Plan or the other plan then terminated) receive a benefit immediately after the
merger, consolidation or transfer which is equal to or greater than the benefit
he or she would have been entitled to receive immediately before the merger,
consolidation or transfer (if the Plan had then terminated).
FEDERAL INCOME TAX CONSEQUENCES
The following is a brief summary of some of the federal income tax aspects
of the Plan and is not intended to be a complete or definitive description of
the federal income tax consequences of participating in or receiving
distributions from the Plan. Moreover, tax laws and their interpretations may
change, and their application may vary in individual circumstances. Finally, the
effects of state and local income tax laws may not be the same as under the
federal income tax laws.
PARTICIPANTS ARE URGED TO CONSULT THEIR TAX ADVISORS
WITH RESPECT TO ANY TRANSACTIONS INVOLVING THE PLAN.
The Plan, as amended, will be submitted to the IRS in a timely manner for a
determination that it is qualified under Section 401(a) and 401(k) of the Code,
and that the related Trust is exempt from tax under Section 501(a) of the Code.
A plan that is "qualified" has special tax benefits which include: (1) the
sponsoring employer is allowed an immediate tax deduction for the amount
contributed to the Plan each year; (2) Participants pay no current income tax on
amounts contributed by the employer on their behalf; and (3) earnings of the
plan are tax-exempt, allowing the tax-free accumulation of income and gains on
investments. The Plan will be administered to comply in operation with the
requirements of the Code as of the applicable effective date of any change in
the law. The Bank expects to timely adopt any amendments to the Plan that may be
necessary to maintain the qualified status of the Plan under the Code. Following
such an amendment, the Bank will submit the Plan to the IRS for a determination
that the Plan, as amended, continues to qualify under Sections 401(a) and 501(a)
of the Code and that it continues to satisfy the requirements for a qualified
cash or deferred arrangement under Section 401(k) of the Code. If the Plan
receives an adverse determination letter from the IRS regarding its tax exempt
status, all Participants would generally have taxable income equal to their
vested interest in the Plan; the Participants would not be permitted to transfer
amounts distributed from the Plan to an IRA or to another qualified retirement
plan, and the Bank may be denied certain deductions taken with respect to the
Plan.
LUMP SUM DISTRIBUTION. A distribution from the Plan to a Participant or the
beneficiary of a Participant will qualify as a Lump Sum Distribution if it is
made: (i) within one taxable year of the Participant or beneficiary; (ii) on
account of the Participant's death, disability or separation from service, or
after the Participant attains age 59 1/2; and (iii) consists of the balance to
the credit of the Participant under this Plan and all other profit sharing
plans, if any, maintained by the Bank. The portion of any Lump Sum Distribution
that is required to be included in the Participant's or beneficiary's taxable
income for federal income tax purposes (the "total taxable amount") consists of
the entire amount of such Lump Sum Distribution less the amount of after-tax
contributions, if any, made by the Participant to any other profit sharing plans
maintained by the Bank which is included in such distribution.
S-11
<PAGE>
AVERAGING RULES. The portion of the total taxable amount of a Lump Sum
Distribution that is attributable to participation after 1973 in the Plan or in
any other profit sharing plan maintained by the Bank (the "ordinary income
portion") will be taxable generally as ordinary income for federal income tax
purposes. However, a Participant who has completed at least five years of
participation in the Plan before the taxable year in which the distribution is
made, or a beneficiary who receives a Lump Sum Distribution on account of the
Participant's death (regardless of the period of the Participant's participation
in this Plan or any other profit-sharing plan maintained by the Employer), may
elect to have the ordinary income portion of such Lump Sum Distribution taxed
according to a special averaging rule ("five-year averaging"). The election of
the special averaging rules may apply only to one Lump Sum Distribution received
by the Participant or beneficiary, provided such amount is received on or after
the Participant turns 59 1/2 and the recipient elects to have any other Lump Sum
Distribution from a qualified plan received in the same taxable year taxed under
the special averaging rule. Under a special grandfather rule, individuals who
turned 50 by 1986 may elect to have their Lump Sum Distribution taxed under
either the five-year averaging rule or under the prior law ten-year averaging
rule. Such individuals also may elect to have that portion of the Lump Sum
Distribution attributable to the participant's pre-1974 participation in the
Plan taxed at a flat 20% rate as gain from the sale of a capital asset.
COMMON STOCK INCLUDED IN LUMP SUM DISTRIBUTION. If a Lump Sum Distribution
includes Common Stock, the distribution generally will be taxed in the manner
described above, except that the total taxable amount will be reduced by the
amount of any net unrealized appreciation with respect to such Common Stock,
i.e., the excess of the value of such Common Stock at the time of the
distribution over its cost to the Plan. The tax basis of such Common Stock to
the Participant or beneficiary for purposes of computing gain or loss on its
subsequent sale will be the value of the Common Stock at the time of
distribution less the amount of net unrealized appreciation. Any gain on a
subsequent sale or other taxable disposition of such Common Stock, to the extent
of the amount of net unrealized appreciation at the time of distribution, will
be considered long-term capital gain regardless of the holding period of such
Common Stock. Any gain on a subsequent sale or other taxable disposition of the
Common Stock in excess of the amount of net unrealized appreciation at the time
of distribution will be considered either short-term capital gain or long-term
capital gain depending upon the length of the holding period of the Common
Stock. The recipient of a distribution may elect to include the amount of any
net unrealized appreciation in the total taxable amount of such distribution to
the extent allowed by the regulations to be issued by the IRS.
ROLLOVERS AND DIRECT TRANSFERS TO ANOTHER QUALIFIED PLAN OR TO AN
IRA. Virtually all distributions from the Plan may be rolled over to another
qualified Plan or to an IRA. Participants may elect to have the Trustee transfer
all or any portion of an "eligible rollover distribution" directly to another
plan qualified under Section 401(a) of the Code or to an IRA. If the Participant
does not elect to have an "eligible rollover distribution" transferred directly
to another qualified plan or to an IRA, the distribution will be subject to a
mandatory federal withholding tax equal to 20% of the taxable distribution. An
"eligible rollover distribution" means any amount distributed from the Plan
except: (1) a distribution that is (a) one of a series of substantially equal
periodic payments made (not less frequently than annually) over the
Participant's life or the joint life of the Participant and the Participant's
designated beneficiary, or (b) for a specified period of ten years or more; (2)
any amount that is required to be distributed under the minimum distribution
rules; and (3) any other distributions excepted under applicable federal law.
RESTRICTIONS ON RESALES
Any person receiving shares of Common Stock under the Plan who is an
"affiliate" of the Company as the term "affiliate" is used in Rule 144 under the
Securities Act of 1933, as amended (the "Securities Act") may reoffer or resell
such shares only if either there is a registration statement for the securities
under the Securities Act of 1933 or, pursuant to Rule 144 or some other
exemption of the registration requirements of the Securities Act of 1933. Any
person who may be an "affiliate" of the Company should consult with counsel
before transferring any Common Stock owned by him. Persons who are not
"affiliates" of the
S-12
<PAGE>
Company may resell any shares of Common Stock distributed to them under the
Plan, either publicly or privately, without satisfying the standards applicable
to affiliates.
An affiliate will not be permitted to use this Prospectus in connection with
any resale of Common Stock. In general, under Rule 144, an Affiliate may sell,
in any three-month period, not more than the greater of one percent of the
Company's Common Stock then outstanding or the average weekly trading volume of
the Common Stock during the four calendar weeks prior to the sale. Such sales
may be made only through brokers without solicitation and only at a time when
the Company is current in filing the reports required of it under the Securities
Exchange Act of 1934.
SEC REPORTING AND SHORT SWING PROFIT LIABILITY
Section 16 of the Securities Exchange Act of 1934 imposes reporting and
liability requirements on executive officers, directors and persons beneficially
owning more than ten percent of public companies such as the Company. Section
16(a) requires that such persons file reports of beneficial ownership. Within
ten days after becoming subject to the reporting requirements of Section 16(a),
a person must file a statement of initial beneficial ownership with the
Securities and Exchange Commission. Certain changes in beneficial ownership,
such as purchases, sales, gifts and participation in savings and retirement
plans must be reported periodically, either on a Form 4 within ten days after
the end of the month in which a change occurs, or annually on a Form 5 within 45
days after the close of the Company's fiscal year. Participation in the Employer
Stock Fund of the Plan by executive officers, directors and persons beneficially
owning more than ten percent of Common Stock of the Company must be reported to
the SEC annually on a Form 5 by such individuals. At March 31, 1998, 14.5% of
the Plan assets were allocated to persons who are now executive officers and
directors of the Bank.
Section 16(b) provides for the recovery by the Company of profits realized
by any executive officer, director or any person beneficially owning more than
ten percent of the Company's Common Stock ("Section 16(b) Persons") resulting
from the purchase and sale or sale and purchase of the Company's Common Stock
within any six-month period.
The SEC has adopted rules that provide exemption from the profit recovery
provisions of Section 16(b) for participant-directed employer security
transactions within an employee benefit plan, such as the Plan, if certain
requirements are met. These requirements generally involve restrictions upon the
timing of elections to acquire or dispose of employer securities for the
accounts of Section 16(b) Persons.
Except for distributions of Common Stock due to death, disability,
retirement, termination of employment or under a qualified domestic relations
order, persons subject to Section 16(b) must hold shares of Common Stock
distributed from the Plan for six months following such distribution.
LEGAL OPINION
The validity of the issuance of the Common Stock will be passed upon by
Serchuk & Zelermyer, LLP, White Plains, New York, which firm acted as special
counsel for the Bank and the Company in connection with the Bank's Conversion
from a mutual savings bank to a stock savings bank.
S-13
<PAGE>
INVESTMENT FORM
CORTLAND SAVINGS BANK
401(K) SAVINGS PLAN
Name of Plan Participant: _______________ Social Security Number: ______________
1. INSTRUCTIONS. In connection with the proposed Conversion of Cortland
Savings Bank from a mutual savings bank to a stock savings bank (the
"Conversion"), The Cortland Savings Bank 401(k) Savings Plan ("Plan") has been
amended to permit participants to direct their current account balances for
their Basic Contribution Account, Company Contribution Account, Rollover Account
and Special Contribution Account into a new fund: the Employer Stock Fund. The
percentage of a participant's account transferred at the direction of the
participant into the Employer Stock Fund will be used to purchase shares of
common stock of CNY Financial Corporation (the "Common Stock"). To direct a
transfer of all or a part of the funds credited to your accounts to the Employer
Stock Fund, you should complete and file this form with the Human Resources
Department of Cortland Savings Bank, no later than 3:00 p.m. on September 11,
1998. A representative for the Plan Administrator will retain a copy of this
form and return a copy to you. If you need any assistance in completing this
form, please contact the Stock Center at (607) 758-3850. If you do not complete
and return this form to the Human Resources Department by 3:00 p.m. on September
11, 1998, the funds credited to your accounts under the Plan will continue to be
invested in accordance with your prior investment direction, or in accordance
with the terms of the Plan if no investment direction has been provided.
2. INVESTMENT DIRECTIONS. I hereby direct the Plan Administrator to invest
the following percentage (in multiples of not less than 1%) of my Basic
Contribution Account, Company Contribution Account, Rollover Account and Special
Contribution Account in the:
<TABLE>
<S> <C>
Core Equity Fund....................................................%
Emerging Growth Fund................................................%
Value Equity Fund...................................................%
Intermediate-Term Investment Fund...................................%
Actively Managed Bond Fund..........................................%
Short-Term Investment Fund..........................................%
International Equity Fund...........................................%
Employer Stock Fund.................................................%
</TABLE>
NOTE: The total percentage of directed investments shown above must equal
100%.
ACKNOWLEDGMENT OF PARTICIPANT. I understand that this Investment Form shall
be subject to all of the terms and conditions of the Plan. I acknowledge that I
have received a copy of the Prospectus and the Prospectus Supplement.
<TABLE>
<S> <C>
Signature of Participant Date:
</TABLE>
ACKNOWLEDGMENT OF RECEIPT BY ADMINISTRATOR. This Investment Form was
received by the Plan Administrator on the date noted below.
Wesley D. Stisser, Jr., Plan Administrator, by his duly authorized
representative: ________________________________________________________________
Date ___________________________________________________________
S-14
<PAGE>
[LOGO]
(PROPOSED HOLDING COMPANY FOR CORTLAND SAVINGS BANK)
7,043,750 SHARES OF COMMON STOCK--$10.00 PER SHARE
THERE IS A GLOSSARY ON PAGE 4 WHICH EXPLAINS SOME OF THE CAPITALIZED TERMS USED
IN THIS PROSPECTUS.
CNY Financial Corporation, also referred to as the Company, is offering up
to 7,043,750 shares of its common stock, par value $.01 per share, for $10.00
per share as part of the conversion of Cortland Savings Bank, also referred to
as the Bank, into a stock savings bank. The Company may increase the amount of
Common Stock offered to 8,100,312 shares. See footnote 4 to the table below.
(CONTINUED ON NEXT PAGE)
FOR INFORMATION ON HOW TO SUBSCRIBE FOR COMMON STOCK, CALL (607) 758-3850.
FOR A DISCUSSION OF CERTAIN FACTORS THAT SHOULD BE CONSIDERED BEFORE PURCHASING
COMMON STOCK, SEE "RISK FACTORS" BEGINNING ON PAGE 15.
---------------------
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND
EXCHANGE COMMISSION, THE NEW YORK STATE BANKING DEPARTMENT, THE FEDERAL
DEPOSIT INSURANCE CORPORATION OR ANY OTHER FEDERAL OR STATE AGENCY OR
ANY STATE SECURITIES COMMISSION, NOR HAS SUCH COMMISSION, DEPARTMENT
OR OTHER AGENCY OR ANY STATE SECURITIES COMMISSION PASSED UPON
THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
<TABLE>
<CAPTION>
ESTIMATED UNDERWRITING FEES ESTIMATED NET
PURCHASE PRICE(1) AND OTHER EXPENSES(2) CONVERSION PROCEEDS(3)
<S> <C> <C> <C>
Per Share........................... $10.00 $0.35 $9.65
Minimum Total....................... $52,062,500 $1,750,000 $50,312,500
Midpoint Total...................... $61,250,000 $1,750,000 $59,500,000
Maximum Total....................... $70,437,500 $1,750,000 $68,687,500
Maximum Total, as adjusted(4)....... $81,003,120 $1,837,000 $79,166,120
</TABLE>
(1) Based on an independent appraisal by RP Financial, LC., dated as of June 5,
1998. The appraisal is based upon estimates and projections that may change.
The appraisal is not a recommendation to purchase Common Stock nor an
assurance that a purchaser will be able to sell Common Stock at or above the
$10.00 per share initial purchase price. See "The Conversion--Stock Pricing
and Number of Shares to be Issued."
(2) Consists of estimated costs of the Conversion, including marketing fees to
be paid to CIBC Oppenheimer Corp. and Trident Securities, Inc., which may be
deemed to be underwriting fees. See "Pro Forma Data" for a description of
the assumptions used in these estimates. Actual fees and expenses may vary
from the estimates.
(3) Actual net proceeds may be substantially different from estimated amounts.
Net proceeds include the proceeds from the purchase of Common Stock by the
CNY Financial Corporation ESOP, which the Company intends to fund with a
loan. See "Use of Proceeds" and "Pro Forma Data." This excludes shares of
Common Stock to be contributed to the charitable foundation to be created as
part of the Conversion. See "The Conversion--Establishment of the
Foundation."
(4) This row shows the effect of selling 15% more shares of Common Stock. The
additional Common Stock may be sold, without re-solicitation of subscribers
or any right of cancellation, due to regulatory or market considerations and
general financial and economic conditions. See "Pro Forma Data" and "The
Conversion--Stock Pricing and Number of Shares to Be Issued."
THE SHARES OF COMMON STOCK OF THE COMPANY ARE NOT SAVINGS ACCOUNTS OR DEPOSITS
AND ARE NOT INSURED OR GUARANTEED BY THE FEDERAL DEPOSIT INSURANCE
CORPORATION OR BY ANY OTHER GOVERNMENT AGENCY. THE COMON STOCK IS SUBJECT
TO INVESTMENT RISKS, INCLUDING POSSIBLE LOSS OF THE PRINCIPAL INVESTED.
CIBC OPPENHEIMER TRIDENT SECURITIES, INC.
The date of this Prospectus is August 12, 1998.
<PAGE>
(CONTINUED FROM PREVIOUS PAGE)
The conversion of the Bank from mutual to stock ownership, and the sale of
the Common Stock offered by this Prospectus, known as the "Conversion," will not
occur unless, among other things, (i) the depositors of the Bank approve the
Bank's Plan of Conversion by a majority of the votes eligible to be cast and by
75% of the dollar amount of deposit liabilities represented in person or by
proxy, (ii) all required federal and state approvals are received, and (iii) the
Company is able to sell at least $52,062,500 of Common Stock. See "The
Conversion--Conditions and Termination."
The non-transferable right to subscribe for the Common Stock has been
granted, in the following order of priority, to:
FIRST PRIORITY--Depositors of the Bank with balances of at least $100 on
December 31, 1996.
SECOND PRIORITY--Tax-qualified employee benefit plans of the Bank or the
Company.
THIRD PRIORITY--Depositors of the Bank with balances of at least $100 on
June 30, 1998.
IT IS ILLEGAL FOR ANY DEPOSITOR TO TRANSFER SUBSCRIPTION RIGHTS. PERSONS
VIOLATING THIS PROHIBITION MAY LOSE THEIR RIGHT TO SUBSCRIBE FOR COMMON STOCK
AND MAY SUFFER OTHER PENALTIES. The offer of Common Stock by the Company to the
three priority groups is referred to as the "Subscription Offering." The Company
anticipates that any shares remaining unsold after the Subscription Offering
will be sold in a direct community offering by the Company or, if any shares
remain unsold after such direct community offering, in a syndicated community
offering through a syndicate of broker-dealers organized by CIBC Oppenheimer
Corp. and Trident Securities, Inc. See "The Conversion--Community Offering" and
"--Syndicated Community Offering."
The Company anticipates that at the completion of the Conversion it will
contribute to a new charitable foundation an amount of Common Stock equal to 2%
of the Common Stock sold in the Conversion and may contribute up to $100,000 in
cash for start up expenses and initial operations. See "The
Conversion--Establishment of the Foundation."
The Company's ESOP will subscribe for 8% of the shares of Common Stock
issued in the Conversion, including the shares to be contributed to the
Foundation. If all the shares are sold to the persons with first priority
rights, the ESOP may purchase some or all of its shares in the open market after
the Conversion. Shares purchased by the ESOP are anticipated to be funded by a
loan from the Company to be repaid over a period of up to twenty years.
Except for the ESOP, no person, individually or together with associates or
other persons acting together, may purchase more than $150,000 of Common Stock
in the Conversion. This limit may be increased in the sole discretion of the
Bank or the Company. The minimum purchase is 25 shares. See "The
Conversion--Purchase Limitations."
CIBC Oppenheimer Corp. and Trident Securities, Inc. will consult with and
advise the Company and the Bank regarding the sale of Common Stock and they have
agreed to use their reasonable best efforts to assist the Company in soliciting
subscriptions. However, they are not obligated to take or purchase any Common
Stock. The Company and the Bank have agreed to indemnify them against certain
liabilities arising under the Securities Act of 1933. See "The
Conversion--Marketing Arrangements."
The Subscription Offering will terminate at 12:00 noon, New York time, on
September 16, 1998 unless extended by the Bank and the Company, with the
approval of the Superintendent and the FDIC, if necessary. The Company must
receive executed original order forms with payment in full at $10.00 per share
(or appropriate instructions authorizing withdrawal from a deposit account) by
that date for the order forms to be valid in the Subscription Offering. See "The
Conversion--Subscription Offering" and "--Purchasing Common Stock." The
Conversion must be completed by October 31, 1998, being 45 days after the close
of the Subscription Offering, provided that the Superintendent and the FDIC may
agree to one or more extensions of up to 60 days each. Such extensions may not
go beyond July 30, 2000. If an extension is granted, subscribers will be
resolicited and will have the right to maintain, increase, reduce or cancel
their subscriptions. Refunds of amounts paid, with interest, will be made
promptly for reductions and cancellations of subscriptions.
The Company has received conditional approval from The Nasdaq Stock Market,
Inc. to have the Common Stock quoted on the Nasdaq National Market under the
symbol "CNYF" upon completion of the Conversion.
2
<PAGE>
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3
<PAGE>
TABLE OF CONTENTS
<TABLE>
<CAPTION>
PAGE
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<S> <C>
Glossary................................................................................................... 5
Summary.................................................................................................... 7
Selected Financial Information............................................................................. 13
Risk Factors............................................................................................... 15
Forward-Looking Statements................................................................................. 22
Summary of Recent Developments............................................................................. 23
The Bank and the Company................................................................................... 26
Regulatory Capital Compliance.............................................................................. 27
Use of Proceeds............................................................................................ 28
Dividend Policy............................................................................................ 29
Market for the Common Stock................................................................................ 29
Capitalization............................................................................................. 30
Pro Forma Data............................................................................................. 31
Comparison of Valuation and Pro Forma Information With and Without Foundation.............................. 35
Participation by the Board and Senior Management........................................................... 36
The Conversion............................................................................................. 36
Cortland Savings Bank Consolidated Statements of Income.................................................... 52
Management's Discussion and Analysis of Financial Condition and Results of Operations...................... 53
Business of the Company.................................................................................... 69
Business of the Bank....................................................................................... 70
Regulation................................................................................................. 91
Taxation................................................................................................... 98
Management of the Company.................................................................................. 100
Management of the Bank..................................................................................... 102
Restrictions on Acquisition of the Company and the Bank.................................................... 112
Description of Capital Stock of the Company................................................................ 117
Transfer Agent and Registrar............................................................................... 118
Experts.................................................................................................... 118
Legal and Tax Opinions..................................................................................... 118
Additional Information..................................................................................... 118
Index to Financial Statements.............................................................................. F-1
</TABLE>
4
<PAGE>
GLOSSARY
This Glossary explains some of the important capitalized terms used in this
Prospectus. At the end of the Glossary is a section entitled "Navigating Around
This Prospectus" which provides some helpful hints in reading this Prospectus.
"BANK" means Cortland Savings Bank.
"BANKING DEPARTMENT" means The New York State Banking Department.
"BANKING LAW" means the New York State Banking Law.
"COMMUNITY OFFERING" means the offer and sale of Common Stock to the general
public of shares not subscribed for in the Subscription Offering, with
preference given to natural persons residing in Cortland County, New York.
"COMMON STOCK" means the common stock, par value of $.01 per share, of CNY
Financial Corporation offered in connection with the Conversion.
"COMPANY" means CNY Financial Corporation, the proposed holding company for
Cortland Savings Bank, and the issuer of the Common Stock being offered by this
Prospectus.
"CONVERSION" means the conversion of the Bank from the mutual to the stock
form of organization, the organization of the Company, the issuance of all of
the Bank's common stock to the Company, and the sale of the Company's Common
Stock as described in this Prospectus.
"CONVERSION REGULATIONS" means Part 86 of the General Regulations of the New
York State Banking Board, which are the principal regulations which govern the
Conversion.
"DIRECTORS" means, as to the Bank, the trustees of the Bank before the
Conversion and the directors of the Bank after the Conversion.
"ELIGIBLE ACCOUNT HOLDERS" means persons with deposit accounts of at least
$100 at December 31, 1996. Eligible Account Holders have the first priority to
subscribe for Common Stock.
"ESOP" means the Employee Stock Ownership Plan of the Company.
"FDIC" means the Federal Deposit Insurance Corporation.
"FEDERAL RESERVE" means the Board of Governors of the Federal Reserve
System.
"FHLBNY" means the Federal Home Loan Bank of New York.
"FOUNDATION" means the Cortland Savings Foundation to be established by the
Bank and the Company. The Company will contribute 2% of the Common Stock sold in
the Conversion to the Foundation and may contribute up to an additional
$100,000.
"401(K) PLAN" means the Savings and Profit Sharing Plan of the Bank.
"NASD" means the National Association of Securities Dealers, Inc.
"PLAN OF CONVERSION" means the plan of conversion adopted by the Board of
Directors of the Bank which allows for the Conversion and sets forth the
procedures for the Conversion to be accomplished.
"PERSONNEL RECOGNITION AND RETENTION PROGRAM" or "PRRP" means the plan
expected to be submitted to the Company's stockholders for approval no earlier
than six months after the Conversion. The PRRP is expected to allow for grants
of stock in an aggregate amount equal to 4% of the Common Stock issued in the
Conversion, including Common Stock contributed to the Foundation.
"SEC" means the Securities and Exchange Commission.
5
<PAGE>
"STOCK OPTION PLAN" means the plan expected to be submitted to the Company's
stockholders for approval no earlier than six months after the Conversion. The
Company expects that the plan will allow for the grant of options to purchase
stock in an aggregate amount equal to 10% of the Common Stock issued in the
Conversion, including Common Stock contributed to the Foundation.
"SUBSCRIPTION EXPIRATION DATE" means 12:00 noon, New York Time, on September
16, 1998.
"SUBSCRIPTION OFFERING" means the offer and sale of Common Stock to certain
depositors of the Bank and the ESOP.
"SUPPLEMENTAL ELIGIBLE ACCOUNT HOLDERS" means persons who are not Eligible
Account Holders and who had deposit accounts of at least $100 on June 30, 1998.
Supplemental Eligible Account Holders have the third priority to subscribe for
Common Stock.
"SUPERINTENDENT" means the Superintendent of Banks of the State of New York.
"VALUATION RANGE" means the estimate by RP Financial, LC. of what the total
pro forma market value of the Common Stock of the Company will be on the day the
Conversion is completed, excluding shares contributed to the Foundation. The
Valuation Range is from $52,062,500 (known as the minimum) to $70,437,500 (known
as the maximum), with a midpoint of $61,250,000.
NAVIGATING AROUND THIS PROSPECTUS
This Prospectus is divided into sections. Each section has a title, which
appears centered in the middle of a line in bold all capital letters at the
beginning of the section. The titles of the sections, and the page where each
begins, are shown in the table of contents appearing just before this Glossary.
Sections are divided with minor headings that appear before groups of related
paragraphs, printed in bold letters at the left margin. Within some of the minor
headings, there are sub-headings. The sub-headings are typed in italics and
appear at the beginning of a paragraph.
Often in a Prospectus there are cross-references, which means that in one
discussion there is a reference to another related discussion elsewhere in the
Prospectus. These are accomplished by using the word "See" followed by the title
of the section where the related information is found. If the information is
included in only a minor heading within a section, or perhaps only within a
sub-heading, then the names of the minor headings and sub-headings are also
given. However, instead of always repeating the names of the major headings, if
there is a cross reference to two minor headings in the same section, then the
name of the section is mentioned only once. For example, a reference which
reads: See "Management of the Bank--Benefits--Employee Stock Ownership Plan" and
"--Personnel Recognition and Retention Program" means that there are two
sub-headings with related information, one called "Employee Stock Ownership
Plan" and one called "Personnel Recognition and Retention Program." They both
appear in the major heading "Management of the Bank" and they both appear in the
minor heading "Benefits."
Sometimes, a cross reference does not include the name of the section, but
instead starts with a dash. That means that the related information is included
in another minor heading within the same section. For example, in the section
"Business of the Bank--General" there might be a reference like this: See "--
Lending Activities." That means that the related information is included in the
"Business of the Bank" section under the minor heading "Lending Activities."
6
<PAGE>
SUMMARY
The following questions and answers summarize some of the important
information in this Prospectus. Please read the questions and answers carefully,
and also read the rest of the Prospectus before deciding whether to purchase
Common Stock.
WHAT IS CNY FINANCIAL CORPORATION?
CNY Financial Corporation is a new corporation formed under Delaware law.
After the Conversion, the Company will be a bank holding company and will own
all the stock of the Bank. The stock of the Company, which is the Common Stock
that is being offered by this Prospectus, will then be owned by the public, the
ESOP, the 401(k) Plan, Directors, officers and employees of the Company and the
Bank and the Foundation. See "CNY Financial Corporation."
WHAT IS CORTLAND SAVINGS BANK?
The Bank is a mutual savings bank, which means that it has no stockholders.
It has three banking offices, all in Cortland County in central New York State.
On March 31, 1998, the Bank had total assets of $232.4 million, loans of $154.2
million, deposits of $198.2 million and net worth of $31.4 million. For the
three months ended March 31, 1998, the Bank had net income of $493,000 compared
to net income of $411,000 for the three months ended March 31, 1997.
The Bank was chartered in 1866. It obtains deposits, mainly from local
depositors, and invests those deposits, and other available funds, principally
in loans, a majority of which are secured by property located in Cortland
County, New York. It also buys securities, such as Treasury bills issued by the
United States and securities which are backed by groups of mortgages. The Bank's
income primarily comes from the difference between the rate of interest it pays
on its deposits and the rate of interest earned on its loans and other
investments. In addition to the cost of its deposits, the Bank also has expenses
for salaries and employee benefits, maintaining its banking offices and
equipment, computer data processing, insurance and other expenses.
WHAT IS THE CONVERSION?
The Conversion is a change in the Bank's form of organization so the Bank
can issue its stock to the Company, and the Company can sell its stock to
certain of the Bank's depositors, the ESOP and, if available, to other members
of the public. After the Conversion, the stockholders of the Company will
indirectly own the Bank. See "The Conversion--General."
WHY IS THE BANK CONVERTING?
The Bank is converting because, among other reasons, the Conversion will:
- Allow the Bank's customers to obtain an ownership interest in the Bank,
fostering customer loyalty and encouraging them to promote the Bank to
others in the community.
- Increase the Bank's capital, which will support the Bank's expansion
plans.
- Provide the Company with the capital and ownership structure to engage in
acquisitions and mergers through the use of cash or stock as payment for
the institution being acquired.
- Allow acquired institutions to continue to operate on a semi-autonomous
basis as subsidiaries of the Company if necessary or appropriate in order
to realize the benefits of an acquisition.
- Permit the Bank and the Company to offer stock incentives to directors,
officers and employees in order to attract and retain high quality
personnel.
- Allow the Bank to create the Cortland Savings Foundation, a charitable
foundation, to further foster a close and mutually beneficial relationship
between the Bank and the communities it serves.
See "The Conversion--Reasons for the Conversion."
7
<PAGE>
WHAT IS THE BANK'S AND THE COMPANY'S POST-CONVERSION STRATEGY?
After the Conversion, the Bank and the Company intend to implement a
business strategy to seek increased strength, growth and profitability. The
foundations of that strategy include the following:
- STRENGTHEN THE BANK'S POSITION AS A DOMINANT COMMUNITY-ORIENTED FINANCIAL
INSTITUTION. The Bank currently has the largest deposit market share in
Cortland County with 42.1% of FDIC-insured deposits. Of the Bank's $198
million in deposits at March 31, 1998, approximately 81.5% were held by
persons and companies located in Cortland County. As industry
consolidation continues in the Northeast, the Bank believes it can build
its depositor base and fortify its position within the surrounding
communities by continuing to provide new and existing customers with a
higher level of service and convenience than its competitors.
- PURSUE EXPANSION OPPORTUNITIES IN CENTRAL NEW YORK. Management believes
that its operating strategy can be extended profitably into adjoining
counties with customers who share the same needs and interests as the
Bank's existing home community. To achieve this goal, management intends
to seek out opportunities for further expansion through acquisitions,
branch purchases or the opening of new offices. As evidence of this, the
Bank has recently opened a loan production office in Ithaca, the county
seat of adjoining Tompkins County.
- MAINTAIN PRE-EMINENCE IN RESIDENTIAL MORTGAGE LENDING. The Bank is, and
has been for many years, the largest residential mortgage lender in
Cortland County, with a market share that substantially exceeds any other
local bank in terms of dollar volume or number of loans. The Bank has
hired a new senior loan officer and upgraded its loan department staffing.
As the Bank expands into other central New York communities, it intends to
offer an even broader range of residential loan products. In furtherance
of this goal, the Bank plans to implement a secondary mortgage market
operation.
- DIVERSIFICATION AND GROWTH OF LOAN PORTFOLIO. Although residential
mortgage loans are expected to remain the primary component of the Bank's
loan portfolio, other types of loans have provided the Bank with
opportunities for asset growth in the past. To complement its residential
mortgage lending operations, the Bank currently offers commercial mortgage
loans, commercial loans, and a variety of consumer loans. Automobile loans
are an important growth category, increasing by $2.7 million, or 42%, over
fifteen months from $6.4 million at December 31, 1996 to $9.1 million at
March 31, 1998. The Bank plans to maintain its position as the leading
residential mortgage lender in Cortland County while building upon its
position as an independent community bank to increase its market share of
higher yielding commercial and consumer loans.
- IMPROVE EFFICIENCY. Recent changes in the Bank's staffing and
infrastructure have enabled it to serve more customers with increased
deposit and loan volumes, thus allowing its current operating expenses to
be spread over a larger asset base. In addition, the Bank anticipates that
in the future it will be required to incorporate technological
developments into its product delivery system. Future growth and expansion
will allow the Bank to spread the cost of these technological innovations
over a larger asset base.
The ability of the Bank and the Company to implement successfully the
post-Conversion strategy is subject to many uncertainties, and may be hindered
by both internal and external factors. Some of the factors which could affect
the ability of the Bank and the Company to implement the post-Conversion
strategy, and which could also have a material adverse effect on their financial
condition or results of operations, include:
- INTEREST RATE RISKS. Fluctuating market interest rates could reduce net
interest income as the cost of funds increases more rapidly, or declines
more slowly, than the yield on assets.
- DIFFICULTIES IN INVESTING AND LEVERAGING THE NEW CAPITAL. The proceeds
from the sale of the Common Stock will initially be invested in
lower-yielding securities investments. Furthermore, leveraging the new
capital will take time, resulting in a decline in return on equity. It
will be difficult, if not
8
<PAGE>
impossible, for the Company and the Bank immediately to invest the net
proceeds in loans, which are now the Bank's highest yielding asset
category.
- GEOGRAPHIC AND ECONOMIC CONCERNS. The Bank's loans, and its business
operations, are concentrated in a community which has not benefited from
the economic boom experienced by much of the rest of the country during
the past few years. Therefore, the ability of the Company and the Bank to
increase deposits and find suitable new loans may be limited. The Bank
could also experience higher than peer group default rates on existing
loans.
WHAT ARE SOME OF THE RISKS I SHOULD CONSIDER WHEN I DECIDE WHETHER TO PURCHASE
COMMON STOCK?
There is a section in this Prospectus titled "Risk Factors" beginning on
page 15 which describes some of the risks that you should consider before
deciding whether to purchase Common Stock. Please read that section carefully.
Remember that the Common Stock is not a deposit account. It is not insured
by the FDIC or any other government agency and may not pay dividends. The market
value of the Common Stock may go up or down after the Conversion, and you could
lose your investment. The appraisal by RP Financial, LC. is no assurance that
the Common Stock will be worth the estimated amount and you should not treat the
appraisal as a recommendation that you purchase any Common Stock.
HOW MUCH COMMON STOCK WILL BE SOLD?
Based on the independent appraisal of RP Financial, LC., the pro forma
market value of the Common Stock of the Company after completion of the
Conversion, and thus the dollar amount of Common Stock expected to be sold, will
be from $52,062,500 to $70,437,500, not including the Common Stock contributed
to the Foundation as described below. This is known as the "Valuation Range."
The Company is offering from 5,206,250 to 7,043,750 shares of Common Stock, at
$10.00 per share. The actual amount of Common Stock sold will depend on a number
of things, including the number of orders received and the appraiser's updated
estimate of the market value of the Common Stock. The Company may increase the
amount of Common Stock sold by an additional 15%, to $81,003,120 (or 8,100,312
shares), based upon the number of orders received, the updated appraisal,
economic conditions when the Conversion is being completed and other factors.
See "The Conversion--Stock Pricing and Number of Shares to be Issued."
WHO CAN BUY COMMON STOCK OF THE COMPANY IN THE CONVERSION?
Persons who had deposits of at least $100 on December 31, 1996 will have the
first priority to buy Common Stock. The second priority goes to the ESOP and the
third priority goes to persons who had deposits of at least $100 on June 30,
1998. Depositors who have the right to purchase Common Stock may not sell or
transfer that right to anyone else. See "The Conversion--Subscription Offering."
If all of the Common Stock is not purchased by persons with subscription rights,
then other people may be offered the opportunity to purchase Common Stock. See
"The Conversion--Community Offering" and "--Syndicated Community Offering."
MAY I TRANSFER MY SUBSCRIPTION RIGHTS OR USE THEM TO BUY COMMON STOCK FOR
SOMEONE ELSE?
No. If you exercise your subscriptions rights, you may do so only for
yourself, and not for anyone else. It is illegal to transfer your subscription
rights or the benefits of your subscription rights to anyone else. If you
transfer or attempt to transfer your subscription rights, the Bank will have the
right to cancel those rights. You may also be subject to other penalties,
possibly including criminal penalties.
IF I HAVE SUBSCRIPTION RIGHTS, HOW DO I ORDER COMMON STOCK AND HOW DO I PAY FOR
IT?
To order Common Stock, you must submit an original order form to the Bank no
later than 12:00 noon, New York time, on September 16, 1998 with payment in
full. Copies of order forms will not be accepted. You may pay for Common Stock
by check, money order or, if delivered directly to the Bank, cash. You may also
pay for your Common Stock by including, in your order form, an authorization to
withdraw the purchase price from an account you have at the Bank. If you pay by
check, cash or money order, your payment will earn interest at 2.75% until the
Conversion is completed or your money is
9
<PAGE>
refunded. If you pay by authorizing a withdrawal from a deposit at the Bank,
your deposit will continue to earn interest at the regular rate for your deposit
until it is used to purchase Common Stock when the Conversion is completed.
However, you may not use that part of your deposit for any other purpose from
the time you submit your order form until the Conversion is completed. If the
Conversion is not completed by October 31, 1998, you will have an opportunity to
reduce or cancel your subscription and receive a refund of amounts paid, with
interest, and release any applicable hold on your deposit account. See "The
Conversion--Purchasing Common Stock."
WHAT IS THE MAXIMUM AND MINIMUM AMOUNT OF COMMON STOCK THAT CAN BE PURCHASED?
No person, related persons or persons acting together may order or purchase
more than $150,000 of Common Stock. If more than one person is named as a
depositor on any account or accounts, such as a joint account, all named
depositors on those accounts will be considered to be acting together for the
purpose of the limit so that they may not purchase, in total including their
individual orders and orders by the group, more than $150,000 of Common Stock.
The minimum purchase is 25 shares. See "The Conversion--Purchase Limitations."
WHAT HAPPENS IF THERE IS NOT ENOUGH COMMON STOCK TO FILL ALL ORDERS?
If there is not enough Common Stock to fill all orders, shares will be
allocated based on the priorities described above. See "The
Conversion--Subscription Offering."
WHAT IS THE ROLE OF THE FINANCIAL ADVISORS?
The Bank and the Company have engaged CIBC Oppenheimer Corp. and Trident
Securities, Inc. as financial and marketing advisors, and they have agreed to
use their reasonable best efforts to assist the Company in soliciting
subscriptions and purchase orders for Common Stock. CIBC Oppenheimer Corp. and
Trident Securities, Inc. are not required to take or purchase any Common Stock.
They have not prepared any report or opinion constituting a recommendation or
advice to the Bank or the Company, nor have they prepared an opinion as to the
fairness of the purchase price or the terms of the offering. CIBC Oppenheimer
Corp. and Trident Securities, Inc. have not verified the accuracy or
completeness of the information contained in this Prospectus. See "The
Conversion--Marketing Arrangements."
HOW CAN I GET ANSWERS TO ADDITIONAL QUESTIONS ABOUT THE CONVERSION?
For answers to questions about purchasing stock and other matters related to
the Conversion, call or come to the Stock Information Center at One North Main
Street, Cortland, New York 13045, telephone number (607) 758-3850.
HOW WILL THE PROCEEDS FROM THE CONVERSION BE USED?
The Company will use half of the net proceeds from the sale of the Common
Stock, after paying expenses, to buy all the common stock to be issued by the
Bank. The Company will use a part of the remaining net proceeds to make a loan
to the ESOP so the ESOP can buy 8% of the Common Stock issued in the Conversion,
including Common Stock issued to the Foundation. The net proceeds will be
available to support future expansion of the Bank's business and assist the Bank
and the Company in implementing their post-Conversion business plans as outlined
above. The Company may also use the proceeds to repurchase its Common Stock in
the future.
Initially, the Company and the Bank both expect that they will use the net
proceeds to make short-term and medium-term investments, primarily in
securities. At current market rates, such investments are expected to have
yields of from 5% to 6% per year, which is less than the 8.00% average yield on
the Bank's interest-earning assets for the three months ended March 31, 1998.
See "Use of Proceeds" for a discussion of restrictions on repurchases of Common
Stock and other information regarding use of the proceeds.
WILL THE COMPANY PAY DIVIDENDS TO STOCKHOLDERS?
The Board of Directors of the Company will decide whether, when and how much
to pay in dividends with respect to the Common Stock. No assurance is given to
investors that dividends will be paid or, if they
10
<PAGE>
are paid, when they will start and how much they will be. The Board of Directors
does not expect that it will pay dividends on the Company's Common Stock
immediately after the Conversion. See "Dividend Policy."
WHAT BENEFITS WILL THE BANK'S DIRECTORS, OFFICERS AND EMPLOYEES GET FROM THE
CONVERSION?
The Company will form the ESOP as part of the Conversion and the ESOP is
expected to purchase up to 8% of the Common Stock issued in the Conversion,
including the Common Stock contributed to the Foundation. The ESOP will purchase
the Common Stock using a loan from the Company. All officers and other employees
of the Bank and the Company will be eligible to be participants in the ESOP
after satisfying certain age and length of service requirements, but directors
of the Company and the Bank who are not employees will not be eligible to
participate. As the ESOP gradually repays its loan, the Common Stock owned by
the ESOP will be gradually divided among accounts for officers and other
employees. The division of shares is generally based upon salary. See
"Management of the Bank--Benefits--Employee Stock Ownership Plan."
In addition, the Company expects to adopt the Stock Option Plan and the
Personnel Recognition and Retention Program, or PRRP, after the Conversion is
completed. The Company intends to implement the Stock Option Plan and the PRRP
within one year after the Conversion. Therefore, the Conversion Regulations
require that they must first be approved by the Company's stockholders no
earlier than six months after the Conversion. The Company expects that the Stock
Option Plan will permit the award, in the aggregate, of options for up to 10% of
the Common Stock issued in the Conversion and the PRRP will permit the award, in
the aggregate, of shares of Common Stock equal to 4% of the Common Stock issued
in the Conversion, in both cases including Common Stock contributed to the
Foundation. Directors, officers and other employees will be eligible to
participate in these plans. Directors who are not employees, as a group, may not
receive awards of more than 30% of the shares covered by each plan. No
individual director who is not an employee may receive an award of more than 5%
of the shares covered by each plan. No officer or employee may receive an award
of more than 25% of the Common Stock covered by either plan. See "Management of
the Bank--Benefits--Stock Option Plan" and "--Personnel Recognition and
Retention Program." Furthermore, in the future, the Company may consider the
adoption of other stock benefit plans, such as employee discount stock purchase
plans and stock-based directors' fee plans, which could result in additional
stock benefits for, and an increase in voting control by, employees, officers
and directors of the Bank and the Company.
The Bank has entered into employment contracts with four executive officers:
Mr. Stisser, the Bank's President, Mr. Stapleton, the Bank's Executive Vice
President and Chief Operating Officer, Mr. Covert, the Bank's Executive Vice
President and Chief Financial Officer, and Mr. Meeker, the Bank's Senior Vice
President and Senior Loan Officer, in connection with the Conversion. Mr.
Stisser's contract and Mr. Stapleton's contract have three-year terms, while Mr.
Covert's contract and Mr. Meeker's contract have two-year terms. If Mr.
Stisser's employment ends under certain circumstances, he will be paid benefits
so that he is in the same position as if he had continued to be employed until
the end of the contract. The contract will provide for other benefits such as an
initial salary of $175,000 per year and a guaranty that the salary will not
decline. Mr. Stisser did not previously have an employment contract with the
Bank. The employment contracts for the other three executive officers provide
for salary continuation or severance payments if employment ends under certain
circumstances. All contracts provide for severance payments if employment is
terminated in connection with a change in control of the Bank or the Company,
subject to certain conditions. The Company estimates that if the employment of
all four executive officers is terminated under circumstances in which the full
severance payments would be made under the contracts, the aggregate amount
payable would be $1.4 million.
In addition, the Bank has amended its 401(k) Plan to allow employees to
invest their accounts in a fund consisting of Common Stock of the Company by
using subscription rights that they may have as depositors of the Bank. In the
Conversion, each employee who has priority subscription rights because of his or
her deposits with the Bank may exercise those subscription rights using money in
his or her 401(k) Plan account, including matching contributions from the Bank.
The Bank has also adopted an Employee
11
<PAGE>
Severance Plan which provides for severance payments to an employee of the Bank,
other than an executive officer covered by a separate agreement, if his or her
employment is terminated under certain circumstances in connection with or after
a change in control of the Bank or the Company. See "Management of the
Bank--Employment Contracts" and "--Benefits" and "Restrictions on Acquisitions
of the Company and the Bank--Anti-takeover Effects of Management Compensation
Arrangements."
WHY IS THE BANK FORMING A CHARITABLE FOUNDATION AND WHAT EFFECT WILL IT HAVE?
The Bank has a strong commitment to the well-being of its local community. A
charitable foundation will be created in connection with the Conversion to
further that commitment. The Foundation is expected to provide grants for
community development, low cost housing, civic programs, education programs and
other charitable purposes in the communities served by the Bank and the Company.
The Company will contribute Common Stock to the Foundation equal to 2% of the
shares sold in the Conversion and may also contribute up to $100,000 to the
Foundation to cover initial start-up expenses and initial grants. The Foundation
is being established at this time because the Company has the ability to fund
the Foundation with its Common Stock. The Foundation is not expected to be
established if the Conversion does not occur.
The Bank and the Company believe that the Foundation will enhance the bond
between the Bank and its community. A majority of the Foundation's directors
will be officers or directors of the Bank or the Company. The Foundation must
vote all Common Stock owned by it in the same ratio as all other shares of the
Company's Common Stock are voted, unless that would cause the Foundation to lose
its tax-exempt status and the Superintendent and the FDIC agree to a change in
the voting procedure.
The Company's contribution to the Foundation will dilute the ownership
interests of other stockholders by approximately 1.96%. When the Foundation is
established, the Company's net income will be reduced by the fair market value
of the contribution, net of the related tax benefit. See "The Conversion--
Establishment of the Foundation." RP Financial, LC. has estimated that the
establishment of the Foundation has reduced the estimated pro forma market value
of the Company's Common Stock upon completion of the Conversion by approximately
2.8%. See "See Comparison of Valuation and Pro Forma Information With and
Without Foundation."
WHAT LIMITS ARE THERE ON THE ABILITY OF SOMEONE TO TAKE CONTROL OF THE COMPANY
OR THE BANK?
The Restated Organization Certificate of the Bank provides, as permitted
under the Conversion Regulations, that no person may acquire control of the
Bank, directly or indirectly, for three years after the Conversion. Furthermore,
both federal and state law require regulatory approval before any person can
acquire control of the Bank or the Company.
In addition, the Company's Certificate of Incorporation and Bylaws contain
provisions which could discourage a person from seeking to acquire control of
the Company. For example, in general, a person who beneficially owns more than
10% of the Company's Common Stock cannot vote the shares in excess of the 10%
limit. The Board of Directors of the Company is divided into three classes, so
only one-third of the directors are up for election each year. Stockholders
cannot cumulate their votes, so, for example, if there are three vacancies on
the Board which are being filled by stockholder vote, a stockholder who owns
1,000 shares may cast 3,000 total votes, but cannot cast more than 1,000 votes
for any one person. Special meetings of stockholders may only be called by the
Board of Directors. These and other provisions could discourage someone from
trying to take over the Company.
Furthermore, the four employment contracts with executive officers of the
Bank, the voting of Common Stock owned by the ESOP, and the other stock
compensation plans described above could make it more difficult, and more
costly, for any person to acquire control of the Company. The Bank has also
adopted an Employee Severance Plan which pays benefits to an employee, other
than an executive officer covered by a separate agreement, if the employee's
employment is terminated under certain circumstances in connection with or after
a change in control of the Bank or the Company based on their years of service.
In addition, the Common Stock contributed to the Foundation may be freed of its
voting restrictions, which could put that stock under the effective control of
the Company.
See "Restrictions on Acquisition of the Company and the Bank" for more
information on this issue.
12
<PAGE>
SELECTED FINANCIAL INFORMATION
The selected data presented below under the captions "Selected Balance Sheet
Data" and "Selected Operations Data" for, and as of the end of, each of the
years in the five-year period ended December 31, 1997, are derived from the
audited consolidated financial statements of Cortland Savings Bank and
subsidiary. The consolidated financial statements as of December 31, 1997 and
1996 and for each of the years in the three-year period ended December 31, 1997
are included elsewhere in this Prospectus. The selected data presented below as
of and for the three-month periods ended March 31, 1998 and 1997 are derived
from the unaudited consolidated financial statements of Cortland Savings Bank
and subsidiary included elsewhere in this Prospectus. Results for the three
month period ended March 31, 1998 do not necessarily indicate the results that
may be expected for the year ended December 31, 1998.
SELECTED BALANCE SHEET DATA:
<TABLE>
<CAPTION>
AT DECEMBER 31,
AT MARCH 31, ----------------------------------------------------------
1998 1997 1996 1995 1994 1993
------------ ---------- ---------- ---------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Total assets................................... $ 232,388 $ 233,729 $ 238,100 $ 235,681 $ 230,339 $ 233,750
Loans receivable, net(1)....................... 154,200 155,422 158,611 158,507 152,476 142,600
Allowance for loan losses...................... 2,230 2,143 1,952 2,002 1,752 1,620
Loans held-for-sale............................ -- 2,541 -- -- -- --
Securities available-for-sale(2)............... 45,475 44,140 45,594 41,777 2,519 6,441
Securities held-to-maturity(2)................. 12,479 12,550 11,757 11,188 61,716 63,857
Cash and cash equivalents...................... 9,813 8,079 12,536 14,176 4,912 13,183
Real estate owned.............................. 760 964 563 374 572 75
Deposits....................................... 198,234 199,770 204,640 203,110 200,310 205,855
Total net worth................................ $ 31,394 $ 30,740 $ 30,345 $ 29,030 $ 26,876 $ 24,780
</TABLE>
SELECTED OPERATIONS DATA:
<TABLE>
<CAPTION>
THREE MONTHS
ENDED MARCH 31, YEAR ENDED DECEMBER 31,
-------------------- -----------------------------------------------------
1998 1997 1997 1996 1995 1994 1993
--------- --------- --------- --------- --------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Interest income................................... $ 4,311 $ 4,417 $ 17,667 $ 17,787 $ 17,811 $ 16,855 $ 17,451
Interest expense.................................. 2,010 2,064 8,328 8,758 8,613 7,915 8,580
--------- --------- --------- --------- --------- --------- ---------
Net interest income............................. 2,301 2,353 9,339 9,029 9,198 8,940 8,871
Provision for loan losses......................... 75 225 3,300 1,380 600 300 550
--------- --------- --------- --------- --------- --------- ---------
Net interest income after provision for loan
losses........................................ 2,226 2,128 6,039 7,649 8,598 8,640 8,321
Non-interest income............................... 245 219 889 770 671 478 573
Non-interest expenses............................. 1,645 1,625 6,872 6,201 5,945 5,586 5,644
--------- --------- --------- --------- --------- --------- ---------
Income before income taxes and cumulative effect
of changes in accounting principles............. 826 722 56 2,218 3,324 3,532 3,250
Income tax expense (benefit)...................... 333 311 (16) 853 1,400 1,361 1,144
--------- --------- --------- --------- --------- --------- ---------
Income before cumulative effect of changes in
accounting principles........................... 493 411 72 1,365 1,924 2,171 2,106
Cumulative effect of changes in accounting
principles(3)................................... -- -- -- -- -- -- (103)
--------- --------- --------- --------- --------- --------- ---------
Net income........................................ $ 493 $ 411 $ 72 $ 1,365 $ 1,924 $ 2,171 $ 2,003
--------- --------- --------- --------- --------- --------- ---------
--------- --------- --------- --------- --------- --------- ---------
</TABLE>
NOTES APPEAR ON FOLLOWING PAGE.
13
<PAGE>
SELECTED FINANCIAL RATIOS AND OTHER DATA(4):
<TABLE>
<CAPTION>
AT OR FOR THE
THREE MONTHS
ENDED MARCH 31,
AT OR FOR THE YEAR ENDED DECEMBER 31,
-------------------- ------------------------------------------
1998 1997 1997 1996 1995 1994
--------- --------- --------- --------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
PERFORMANCE RATIOS:
Return on average assets (net income to average total
assets)..................................................... 0.86% 0.71% 0.03% 0.58% 0.82% 0.92%
Return on average net worth (net income to average net
worth)...................................................... 6.54% 5.53% 0.23% 4.64% 6.85% 8.41%
Average interest-earning assets to average interest-bearing
liabilities................................................. 115.34% 114.97% 115.80% 113.90% 112.17% 111.39%
Net interest rate spread(5)................................... 3.70% 3.71% 3.58% 3.48% 3.70% 3.62%
Net interest margin(6)........................................ 4.27% 4.27% 4.17% 4.02% 4.18% 4.03%
Net interest income after provision for loan losses to total
other expenses.............................................. 1.35x 1.31x 0.88x 1.23x 1.45x 1.55x
NET WORTH AND ASSET QUALITY RATIOS:
Average net worth to average total assets..................... 13.16% 12.78% 13.04% 12.40% 12.00% 10.96%
Total net worth to assets end of period....................... 13.51% 12.96% 13.15% 12.74% 12.32% 11.67%
Non-performing assets to total assets......................... 0.96% 2.13% 2.04% 1.78% 1.00% 1.32%
Non-performing loans to total loans........................... 0.94% 2.84% 2.37% 2.28% 1.24% 1.60%
Allowance for loan losses to total loans...................... 1.43% 1.30% 1.34% 1.22% 1.25% 1.14%
Allowance for loan losses to non-performing loans............. 151.91% 45.73% 56.48% 53.23% 100.40% 71.13%
OTHER DATA:
Number of real estate loans outstanding....................... 2,953 3,033 3,029 3,104 3,169 2,936
Number of deposit accounts.................................... 33,548 34,031 34,069 34,213 34,710 NA
Full service offices.......................................... 3 3 3 3 3 3
<CAPTION>
1993
---------
<S> <C>
PERFORMANCE RATIOS:
Return on average assets (net income to average total
assets)..................................................... 1.03%
Return on average net worth (net income to average net
worth)...................................................... 10.16%
Average interest-earning assets to average interest-bearing
liabilities................................................. 109.31%
Net interest rate spread(5)................................... 4.41%
Net interest margin(6)........................................ 4.84%
Net interest income after provision for loan losses to total
other expenses.............................................. 1.47x
NET WORTH AND ASSET QUALITY RATIOS:
Average net worth to average total assets..................... 10.15%
Total net worth to assets end of period....................... 10.60%
Non-performing assets to total assets......................... 1.69%
Non-performing loans to total loans........................... 2.69%
Allowance for loan losses to total loans...................... 1.12%
Allowance for loan losses to non-performing loans............. 41.69%
OTHER DATA:
Number of real estate loans outstanding....................... 2,882
Number of deposit accounts.................................... NA
Full service offices.......................................... 2
</TABLE>
- ------------------------------
(1) Shown net of deferred fees and the allowance for loan losses.
(2) In December 1995, the Bank transferred securities classified as
held-to-maturity with a fair value of $31.2 million to available-for-sale.
(3) Includes the cumulative effect of changes in accounting for post-retirement
benefits other than pensions and changes in accounting for income taxes.
(4) Asset quality and net worth ratios are at end of period. All average
balances are daily average balances except for 1995 and prior, for which
monthly average balances are used because daily average balances are
unavailable. Ratios for the three-month periods have been annualized where
appropriate.
(5) The net interest rate spread represents the difference between the weighted
average yield on interest-earning assets and the weighted average cost of
interest-bearing liabilities.
(6) The net interest margin, also known as the net yield on average
interest-earning assets, represents net interest income as a percentage of
average interest-earning assets.
NA--The information is not available.
14
<PAGE>
RISK FACTORS
PLEASE REVIEW THE FOLLOWING RISK FACTORS BEFORE DECIDING WHETHER TO PURCHASE
COMMON STOCK.
INTEREST RATE RISK
The Bank's principal source of income is the difference between the interest
income it earns on interest-earning assets, such as loans and securities, and
its cost of funds, principally interest paid on deposits. The rate of interest
earned on assets or paid on liabilities changes from time to time, depending
upon a number of factors, including general market interest rates. However, the
speed of the changes varies among different types of assets and liabilities.
Interest rates on some assets and liabilities change more quickly than on
others. For example, for a thirty year loan with a fixed rate of interest, the
Bank cannot adjust the interest rate earned on its investment until principal
payments on the loan are received and reinvested at market rates, which could be
over a period of as long as thirty years. In contrast, the rate of interest paid
on a thirty-day certificate of deposit can be expected to adjust every thirty
days, based upon changes in market interest rates. If market interest rates
change, then differences in how fast assets and liabilities adjust to market
rates can have a direct effect on net interest income.
At March 31, 1998, $109.5 million, or 69.9%, of the Bank's total loans were
fixed-rate loans. The Bank generally accepts savings deposits for much shorter
terms than its fixed-rate loans. In addition, although at March 31, 1998, the
Bank had $47.1 million of adjustable-rate loans, most of these loans are
residential mortgage loans with interest rates that adjust only annually or once
every three years and with periodic and lifetime limits on interest rate
adjustments. As a result, increases in market interest rates could reduce the
Bank's net interest income because the Bank's cost of deposits would be expected
to increase faster than the yields on its loan and securities investments.
Management uses strategies to limit interest rate risk, such as making loans
with short terms to maturity and investing in adjustable-rate securities.
However, customer demand may make it difficult to implement these strategies
because when interest rates are low, customers tend to prefer fixed-rate
mortgage loans to lock in the lower rates and when interest rates are high,
customers tend to prefer adjustable-rate loans that they expect to adjust
downward as market interest rates decline. Therefore, the Bank's efforts to
reduce the risk of interest rate fluctuations are likely to be limited by the
difficulty of originating sufficient adjustable-rate loans. Furthermore, during
periods of low or declining interest rates, loan prepayment rates tend to
increase as customers seek to refinance existing higher rate loans. This
increases the volume of funds that the Bank must reinvest at a time when
investment alternatives have lower yields resulting in a decline in net interest
margin. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Management of Interest Rate Risk."
GEOGRAPHIC CONCENTRATION OF LOANS
Most of the Bank's loans are mortgage loans on property located in the
Bank's market area. At March 31, 1998, more than 70% of the Bank's mortgage
loans were secured, in whole or in part, by property located in Cortland County.
Cortland County has not, in recent years, benefited from the economic recovery
and growth which much of the rest of the country has experienced. Some major
employers have closed facilities in Cortland County. An economic slow-down or
decline in Cortland County could have a substantial adverse effect on the
ability of the Bank's borrowers to repay their loans. If housing values decline
at the same time, reductions in the value of collateral could make it more
difficult to recover the full amount due on loans in default. Furthermore,
economic difficulties can also increase deposit outflows as customers must use
savings to pay bills. This can increase the Bank's cost of funds because of the
need to replace the deposit outflow. All of these factors can combine to reduce
significantly the Bank's net income.
15
<PAGE>
LENDING RISKS
The Bank has historically employed an operating strategy that emphasized the
origination of one- to four-family residential mortgage loans. The Bank also
originates commercial mortgage, commercial, automobile and other consumer loans,
primarily in its market area. These loans are generally considered to involve a
higher degree of credit risk than one- to four-family residential mortgage
loans. This greater risk is attributable to several factors, including the
higher concentration of principal in a limited number of loans and borrowers,
the effects of general economic conditions on income-producing properties and
the increased difficulty of evaluating and monitoring these types of loans.
Commercial mortgage and other commercial loans, which comprised 23.7% of the
Bank's loan portfolio at March 31, 1998, carry greater credit risks than
residential mortgage loans because their repayment is more dependent on (i) the
underlying financial condition of the borrower and the value of, or the cash
flow from, any property securing the loan or the business being financed and
(ii) general and local economic conditions. Furthermore, the repayment of loans
secured by commercial real estate is typically dependent upon sufficient cash
flow from the related real estate project to cover operating expenses and debt
service. If the cash flow from the project is reduced (for example, if leases
are not obtained or renewed), the borrower's ability to repay the loan may be
impaired.
Furthermore, although residential mortgage loans are generally considered to
involve less credit risk than commercial and other loans, residential mortgage
lending also presents potentially significant default risks. Changes in local,
regional or national economic conditions, the relocation or closing of a major
local employer, and other factors could cause increases in delinquency and
default rates on residential mortgage loans. In at least some cases, the events
which cause an increase in default rates may also cause adverse conditions in
local real estate markets, resulting in a decline in property values and an
increase in potential losses as collateral for loans becomes less valuable.
See "Business of the Bank--Lending Activities."
COMPETITION
The Bank faces intense and increasing competition both in making loans and
in attracting deposits. The Bank had 42.1% of the total FDIC-insured deposits in
Cortland County at June 30, 1997 according to FDIC statistics and had the
largest volume of mortgage loan originations in the county in 1996 and 1997.
However, the Bank's market area and surrounding communities include branches of
many large regional and nationwide banks with the economic ability to compete
aggressively. In addition, non-bank alternatives, such as money market funds,
other mutual funds and insurance annuities, compete for deposits and mortgage
brokers, mortgage bankers, insurance companies and other finance companies
compete to originate loans. The consolidation of the banking industry, the
expansion of the powers of banks and other major financial companies, and the
lifting of interstate banking and branching restrictions may make it more
difficult for smaller institutions, such as the Bank, to compete effectively
with large national and regional banking institutions, insurance companies and
securities brokerage firms.
REDUCTION IN RETURN ON EQUITY; INVESTMENT OF PROCEEDS
After the Conversion, the Company will have substantially more total equity
than the Bank had prior to the Conversion. The Company does not expect that loan
demand will increase as quickly as its increase in capital. The Company
initially intends to invest the net proceeds from the Conversion primarily in
short-term and medium-term investments which generally have lower yields than
loans. Furthermore, although the increased capital will support additional
expansion in total assets, the Company is not expected to be able to leverage
the new capital immediately. The Company may not be able to increase net income
in future periods as fast as equity has increased in the Conversion. Therefore,
after the Conversion, return on equity (net income divided by average equity) is
expected to be lower than the annualized return on equity
16
<PAGE>
of 6.54% for the three months ended March 31, 1998 and is expected to be lower
than the average return on equity for publicly traded savings institutions and
their holding companies.
In addition, the initial investment of the net proceeds in debt securities
will substantially increase the percentage of the Bank's assets invested in
securities. Although much of the Bank's investment securities portfolio consists
of U.S. government and agency securities with negligible default rates, the Bank
also invests in corporate debt securities and mortgage-backed securities with
higher risks of default than government securities. To manage these risks, the
Bank limits its corporate debt securities to those rated in the three highest
grades by a nationally recognized rating organization and substantially all of
the mortgage-backed securities which it purchases are either issued, insured or
guaranteed by the Federal National Mortgage Association (Fannie Mae), the
Federal Home Loan Mortgage Corporation (Freddie Mac) or the Government National
Mortgage Association (Ginnie Mae). See "Use of Proceeds" and "Pro Forma Data."
INCREASED COMPENSATION AND OTHER EXPENSES AFTER THE CONVERSION
After the Conversion, the compensation expense recorded by the Company will
be substantially greater than the compensation expense of the Bank prior to the
Conversion as a result of expenses related to the ESOP and the PRRP which is
expected to be implemented by the Company. The ESOP is expected to acquire 8% of
the Common Stock issued in the Conversion, including Common Stock contributed to
the Foundation. Therefore, the amount of the Common Stock expected to be
acquired by the ESOP will have a total purchase price of up to $6,609,850, if
the ESOP purchases the Common Stock in the Subscription Offering, which will be
funded with a loan from the Company. If the ESOP is unable to obtain sufficient
Common Stock in the Subscription Offering, then it will purchase Common Stock
after the Conversion in open market or privately negotiated transactions. This
could increase the purchase price that the ESOP pays for the Common Stock and
correspondingly increase the amount of the loan from the Company. The Common
Stock that the ESOP purchases will be pledged as collateral for the loan. It is
expected that the loan will be repaid over twenty years using funds that the
Bank contributes to the ESOP.
As the ESOP repays the loan, the shares of Common Stock will be released as
collateral and the Company will record compensation expense based upon the
released shares. If the price of the Common Stock remains at $10.00 per share,
then the amount of additional compensation expense on account of the ESOP is
expected to be approximately $330,000 per year. However, under accounting rules
applicable to the ESOP, the Company must record compensation expense based on
the fair market price of the released stock. Therefore, if the market price of
the Common Stock increases, the amount of compensation expense attributable to
the ESOP will be higher.
In addition, if, as is presently intended, the Company implements the PRRP
permitting awards of Common Stock to directors, officers and employees, the
Company will record additional compensation expense. The PRRP is expected to
permit stock awards for up to approximately 330,000 shares, in the aggregate
representing 4% of the Common Stock issued in the Conversion, including Common
Stock contributed to the Foundation. If these shares are first acquired by the
Company or a trustee for the PRRP in open market purchases and then awarded to
recipients, to vest over five years, then the Company will record compensation
expense equal to one-fifth of the amount paid for the repurchased stock each
year for five years. If the stock is purchased at $10.00 per share, the annual
additional compensation expense will be approximately $661,000.
The Company also anticipates that, as a publicly traded stock corporation,
it will incur additional expenses not previously incurred by the Bank, such as
the expenses of preparing and filing periodic reports with the SEC, the cost of
holding annual and special stockholders' meetings, annual fees to maintain the
listing of the Company's Common Stock on the Nasdaq Stock Market, and other
stock-related expenses.
See "Pro Forma Data" and "Management of the Bank--Benefits."
17
<PAGE>
DILUTION, ADDITIONAL COSTS AND OTHER CONSEQUENCES OF THE FOUNDATION.
The Company intends to establish the Foundation simultaneously with the
completion of the Conversion. The establishment of the Foundation may be
challenged even though the Boards of Directors of the Company and the Bank have
carefully considered the factors involved in establishing the Foundation. If
challenges to the Foundation are raised, such challenges might delay the
Conversion and the Company and the Bank might be unsuccessful in defending
against such challenges.
DILUTION OF STOCKHOLDERS' INTERESTS. The Company proposes to fund the
Foundation with authorized but unissued Common Stock equal to 2% of the Common
Stock sold in the Conversion. Therefore, the contribution to the Foundation is
expected to range from 104,125 to 162,006 shares of Common Stock. The Foundation
would own 1.96% of the Common Stock of the Company then outstanding. Therefore,
persons purchasing Common Stock in the Conversion would have their ownership and
voting interests in the Company diluted by 1.96%. See "Pro Forma Data."
IMPACT ON EARNINGS. The contribution to the Foundation will reduce the
Company's earnings in the quarter and year in which the contribution is made.
The Company will recognize an expense for the entire amount of the contribution
in the quarter in which it occurs, which is expected to be the fourth quarter of
1998. This expense will be partially reduced by a related tax benefit because
the contribution is expected to be tax deductible. Assuming a contribution of
$1.62 million of Common Stock, the Company estimates a net after tax expense of
$988,000 (based upon a 39% tax rate and without regard to the 10% annual limit
on charitable deductions discussed below). If such expense had been recorded
during 1997, it would have reduced net income from $72,000 to a net loss of
($916,000) and if recorded during the first quarter of 1998 it would have
reduced net income from $493,000 to a net loss of ($495,000).
TAX CONSIDERATIONS. The Company may not deduct for federal income tax
purposes charitable contributions in any year which exceed 10% of the Company's
annual taxable income before deducting charitable contributions. The Company may
carry forward any unused portion of the deduction for five years, with use in
any year subject to the 10% of taxable income limitation. Therefore, whether the
Company can obtain the full tax benefit of the contribution will depend upon the
level of future income. The Company's aggregate tax deduction from the
contribution to the Foundation would be $1.62 million, assuming that the Common
Stock donated is valued at $10.00 per share. Assuming the Company makes no other
tax-deductible contributions, the Company would have to have pre-tax net income
averaging at least $2.7 million per year, before deducting the contribution, for
the next six years in order to obtain the full benefit of the tax deduction. For
the quarter ended March 31, 1998, the Bank had pre-tax net income of $826,000,
or an annualized amount of $3.3 million. If pre-tax net income does not decline,
the Company believes it will be able to obtain the tax benefit of the
contribution over the allowable six years. However, if the contribution is
valued at more than $10.00 per share because the price of the Common Stock
increases above $10.00 when trading in the Common Stock commences, or if the
Company's pre-tax net income declines, then the Company may not be able to
obtain the full tax benefit of the contribution.
Although the Company and the Bank have received the opinion of Serchuk &
Zelermyer, LLP that the Company will be entitled to the deduction for the
charitable contribution, the IRS may not recognize the Foundation as a tax
exempt organization or may disallow the deduction. If the deduction is not
permitted, the Company's tax benefit for the contribution, which will be
recognized as a deferred tax asset for financial statement purposes, will be
fully expensed, resulting in a further reduction in earnings in the year in
which the IRS makes such a determination.
POTENTIAL ANTI-TAKEOVER EFFECT. After the Conversion, the Foundation will
own 1.96% of the Company's outstanding Common Stock. The FDIC and the
Superintendent have required that the shares of Common Stock owned by the
Foundation must be voted in the same proportion as all other shares of Common
Stock on all proposals considered by stockholders of the Company. With this
voting restriction, the Company does not believe the Foundation will materially
reduce the likelihood of a takeover of the
18
<PAGE>
Company. However, if the voting restriction affects the ability of the
Foundation to remain tax exempt, the Company expects to request the FDIC and the
Superintendent of Banks to waive the restriction. The restriction may be waived
for other reasons, such as a change in the policy of the Superintendent or the
FDIC. If the restriction is eliminated, the Foundation's Board of Directors
would have the power to vote the shares owned by the Foundation in the Board's
discretion. A majority of the Foundation's Board of Directors will be comprised
of individuals who are officers or directors of the Bank or the Company.
Therefore, if the restriction is waived, the voting control of incumbent
directors and officers of the Company and the Bank would be expected to
increase.
See "The Conversion--Establishment of the Foundation."
ANTI-TAKEOVER PROVISIONS
PROVISIONS IN THE COMPANY'S AND THE BANK'S GOVERNING INSTRUMENTS. The
Company's Certificate of Incorporation and Bylaws, and the Bank's Restated
Organization Certificate and Bylaws, will assist the Company in remaining an
independent, publicly-owned corporation. For example, the Company's Certificate
of Incorporation requires an 80% vote to approve certain actions, such as
certain mergers; only one-third of the Board of Directors will be elected each
year; special meetings of stockholders generally may be called only by the Board
of Directors; and under certain circumstances a merger or other business
combination is permitted only if a uniform price is paid for the Company's
Common Stock. Furthermore, any person owning more than 10% of the Company's
outstanding voting stock may not cast any votes for the shares in excess of the
10% limit. See "Restrictions on Acquisition of the Company and the Bank--
Restrictions in the Company's Certificate of Incorporation and Bylaws." The
Bank's Restated Organization Certificate also prohibits, for three years, any
person (other than the Company, the ESOP and certain related entities) from
acquiring or offering to acquire, directly or indirectly, beneficial ownership
of more than 10% of the Bank's equity securities. These provisions may
discourage potential proxy contests and other potential takeover attempts,
particularly those which have not been negotiated with the Company's Board of
Directors. Therefore, they may preserve the control of current management and
have an adverse effect on the market price of the Common Stock.
VOTING CONTROL OF OFFICERS AND DIRECTORS. Directors and executive officers
of the Bank and the Company expect to purchase from approximately 1.92% to 3.0%
of the Common Stock issued in the Conversion, including shares contributed to
the Foundation, depending on the number of shares issued. In addition, the ESOP
intends to purchase 8% of the Common Stock issued in the Conversion, including
shares contributed to the Foundation. If the Company adopts and stockholders
approve the Stock Option Plan and the PRRP, those two plans could cover 14% of
the Company's outstanding Common Stock if the plans are funded with stock
acquired in open market purchases. If all options under the Stock Option Plan
are awarded and exercised, and if all shares covered by the PRRP are awarded, in
both cases using shares purchased on the open market, then directors, executive
officers and employees could have, in total, the power to vote from
approximately 23.9% to 25.0% of the Company's outstanding Common Stock. This
voting power could further increase if the Company repurchases stock from other
stockholders. Furthermore, the Company may, in the future, implement other stock
based benefit programs, such as employee discount stock purchase plans or plans
to pay directors' fees with stock rather than cash. Directors, executive
officers and employees might thus be able to prevent or hinder corporate actions
requiring more than a majority vote of stockholders, such as certain mergers and
charter amendments. This voting control may stop takeover attempts that other
stockholders believe are in their best interest and may perpetuate existing
management.
PROVISIONS IN MANAGEMENT EMPLOYMENT CONTRACTS AND BENEFIT PLANS. The four
employment contracts with executive officers of the Bank, the ESOP, and the
employee severance plan providing benefits in the event of a change in control,
provide actual or potential cash payments or the vesting of benefits upon a
change of control of the Company or the Bank. This may make it less likely, or
more costly, for a person to seek to acquire the Company and stockholders might
receive less for their stock than otherwise might be
19
<PAGE>
paid if the Company is acquired. See "Management of the Bank--Employment
Contracts," and "Management of the Bank--Benefits--Employee Stock Ownership
Plan," "--Employee Severance Plan," "--Stock Option Plan" and "--Personnel
Recognition and Retention Program."
ABSENCE OF MARKET FOR COMMON STOCK
There is no established market for the Common Stock of the Company at this
time. The Company has received conditional approval from the Nasdaq Stock Market
to have its common stock quoted on the Nasdaq National Market under the symbol
"CNYF" upon completion of the Conversion. For the listing to continue, there
must be at least three market makers for the Common Stock. Market makers are
securities broker/dealers who make a market in a stock by announcing prices at
which they are willing to buy and sell the stock and who are willing to
regularly purchase and sell the stock. The Company will seek to maintain at
least three market makers to satisfy Nasdaq requirements. CIBC Oppenheimer Corp.
and Trident Securities, Inc. will assist the Company in that effort and expect
to be market makers in the Common Stock. The Company anticipates that there will
be other market makers for the Common Stock, but the Company can provide no
assurance that sufficient market makers will be available to maintain the Nasdaq
Stock Market listing.
Furthermore, an active and liquid market for the Company's Common Stock
depends upon whether there are other willing buyers and sellers. This is not in
the control of the Company or any market maker. An active and liquid trading
market for the Common Stock may not develop or continue. The absence of an
active and liquid market may reduce the price of the Company's Common Stock and,
if a market for the Common Stock does not develop, it may be difficult for
investors to sell their shares. See "Market for the Common Stock."
POSSIBLE INCREASE IN THE VALUATION RANGE AND NUMBER OF SHARES TO BE ISSUED
The number of shares to be sold in the Conversion may be increased by an
additional 15% based upon the number of orders received, the updated appraisal,
and market, financial and economic conditions when the Conversion is being
completed. If this occurs, the Company will sell 8,100,312 shares of Common
Stock in the Conversion and contribute 162,006 shares to the Foundation. An
increase in the number of shares sold can be expected to decrease net income per
share and stockholders' equity (book value) per share but can be expected to
increase the Company's consolidated stockholders' equity and net income. See
"The Conversion--Stock Pricing and Number of Shares to be Issued."
RECENTLY HIRED EXECUTIVE OFFICERS
The Bank has four executive officers. Although Wesley D. Stisser, Jr., the
President and Chief Executive Officer, has 45 years' experience with the Bank,
the Chief Operating Officer and the Chief Financial Officer have both been with
the Bank only since June of this year, and the Senior Loan Officer first joined
the Bank in October of 1996. All three of the new executive officers have
substantial prior experience in the banking industry in central New York. The
Board of Directors believes that the addition of these three officers helps to
position the Bank to implement its plans for the future. However, the successful
implementation of these plans ultimately depends, in part, on the ability of the
management team to function effectively as a collective unit. See "Management of
the Bank--Biographical Information."
POSSIBLE DILUTION FROM STOCK OPTIONS AND THE PERSONNEL RECOGNITION AND RETENTION
PROGRAM
If the Stock Option Plan is implemented after the Conversion, which is
expected, it will cover 10% of the Common Stock issued in the Conversion,
including Common Stock contributed to the Foundation. If options under the plan
are exercised and satisfied using Common Stock never previously issued, instead
of Common Stock repurchased by the Company, the ownership interests of other
stockholders would be diluted (reduced) by approximately 9.1%. Similarly, if the
PRRP is implemented for 4% of the Common Stock issued in the Conversion,
including Common Stock contributed to the Foundation, and awards
20
<PAGE>
under the plan are satisfied with Common Stock never previously issued, the
interests of existing stockholders would be diluted by approximately 3.8%. If
the plans are funded with Common Stock never previously issued, existing
stockholders will not have preemptive (first priority) rights to buy those
shares. A dilution of the interests of existing stockholders could be expected
to have an adverse effect on the market price of the Common Stock. See
"Management of the Bank--Benefits--Stock Option Plan" and "--Personnel
Recognition and Retention Program."
POSSIBLE ADVERSE INCOME TAX CONSEQUENCES OF THE DISTRIBUTION OF SUBSCRIPTION
RIGHTS
The Internal Revenue Service could take the position that the subscription
rights granted to certain depositors of the Bank have an ascertainable value and
that the value represents taxable income to those depositors. The Company has
received a letter from RP Financial, LC. that the subscription rights have no
ascertainable value, but that conclusion is not binding upon the IRS. If the
subscription rights are deemed to have value, depositors with subscription
rights could be taxed upon the receipt or exercise of the subscription rights in
an amount equal to that value. The Bank might then have taxable income on the
distribution of the subscription rights. Although the IRS is not known to have
taken the position that subscription rights represent taxable income in similar
mutual to stock conversions, the IRS may change its position in the future. See
"The Conversion--Effects of Conversion on Depositors and Borrowers."
BURDENS AND UNCERTAINTIES OF FINANCIAL INSTITUTION REGULATION
Federal and state banking laws and regulations exert substantial control on
the operations of the Bank and the Company. Federal and state regulatory
authorities have extensive discretion in connection with their supervision of
the Bank, such as the right to impose restrictions on operations and the
insistence that an institution increase its allowance for loan losses.
Regulatory authorities can also impose operating restrictions and penalties on
financial institutions. Furthermore, federal laws affecting banks are constantly
being revised, often imposing new restrictions or increasing competitive
pressures through de-regulation. Any change in the regulatory structure or
statutes or regulations applicable to banks or their competitors, whether by the
Banking Department, the FDIC, the New York State legislature or the Congress,
could have a material impact on the Company, the Bank and their operations. See
"Regulation."
MEMORANDUM OF UNDERSTANDING WITH THE FDIC
In 1995, as a result of weaknesses in the administration of part of its loan
origination function, the Bank entered into a memorandum of understanding with
the FDIC requiring the Bank to upgrade its compliance procedures regarding
consumer loans and to rectify certain past problems. The primary causes of the
memorandum of understanding were failures to satisfy certain disclosure
requirements for consumer loans, such as the requirement that redisclosure is
required when changes in market interest rates cause initially correct
disclosures to become inaccurate before a loan closes. The memorandum of
understanding, which remains in effect, requires the Bank to take remedial
action, increase employee training, upgrade future compliance, and provide
periodic reports to the FDIC. The Bank believes that it has improved its
compliance procedures and complied with the memorandum of understanding and
expects that it will be terminated in connection with the next FDIC consumer
compliance examination of the Bank, but there is no assurance that the FDIC will
agree to the termination.
DEFALCATION BY FORMER SENIOR LOAN OFFICER
During the fourth quarter of 1996, the Bank discovered that its then senior
loan officer had been involved in various schemes to defraud the Bank, which
schemes resulted in substantial losses which are the subject of a pending
insurance bond claim by the Bank. Since that time, the Bank has upgraded its
internal audit programs and adopted procedures designed to prevent any
recurrence of such problems. However, no assurance can be provided to investors
that the Bank will not suffer future losses from other fraud or embezzlement
schemes. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Special Matters Affecting Results of Operations."
21
<PAGE>
YEAR 2000 COMPLIANCE UNCERTAINTIES AND POTENTIAL COMPUTER PROBLEMS
Accurate computer record keeping and data processing is essential for the
efficient operation of the Bank. In many cases, computer software and hardware,
as well as computer chips in other equipment, have been designed so that they
will not accurately reflect dates beyond December 31, 1999. The Bank is actively
involved in reviewing all of its computer-related functions to assure that the
Bank will be able to continue to operate successfully at the beginning of the
next millennium without significant interruption. The Bank initially retained an
independent consultant to review its computer systems and develop a plan for
testing and evaluation, which has been approved by the Board. Implementation of
the plan is being overseen by a committee of officers of the Bank which meets at
least monthly and reports to the Board's Executive Committee quarterly. Testing
of core systems is expected to be complete by year end 1998, with testing of
minor systems to continue through the third quarter of 1999.
The Bank may be required to replace existing software and hardware in order
to become Year 2000 compliant. The Bank does not believe that the cost of such
replacement will have a material adverse effect on the Bank's financial
condition or results of operations because most of the costs will be encompassed
by normal updates to existing systems which are periodically updated on a
regular basis. The evaluation of the costs will not be complete until testing is
completed during 1999. The Bank expects that its Year 2000 upgrading will be
completed on a timely basis. However, there can be no assurance that the systems
of other companies on which the Bank relies will also be Year 2000 compliant in
a timely fashion or that any such failure by another company would not have an
adverse affect on the Bank.
Furthermore, computer problems experienced by the Bank's commercial
borrowers could have an adverse effect on their business operations and their
ability to repay their loans when due. The Bank has recently begun evaluating
Year 2000 readiness of its commercial loan applicants as part of the loan
underwriting process and is calling upon major existing borrowers to assess
their readiness and identify potential problems. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Year 2000
Consequences."
In addition, technological advances in general may require the Bank to make
substantial capital investments in the future so it can continue to compete with
its many competitors.
FORWARD-LOOKING STATEMENTS
In this Prospectus, the Company, when discussing the future, may use words
like "will probably result," "are expected to," "may cause," "is anticipated,"
"estimate," "project," or similar words. These words represent forward-looking
statements. In addition, certain disclosures and information in this Prospectus,
such as an analysis of the adequacy of the allowance for loan losses or an
analysis of the interest rate sensitivity of the Company's assets and
liabilities, are based upon attempts to predict future events and circumstances
and also represent forward-looking statements.
Many factors could cause the Company's actual future results and future
experience to be different from what is described in the Company's
forward-looking statements. Future profitability, interest rate sensitivity, and
the adequacy of the allowance for loan losses can be affected by, for example,
(i) deterioration in local, regional, national or global economic conditions
which could cause an increase in loan delinquencies, a decrease in property
values, or a change in the housing turnover rate; (ii) changes in market
interest rates or changes in the speed at which market interest rates change;
(iii) changes in laws and regulations affecting the financial service industry;
(iv) changes in competition; and (v) changes in consumer preferences.
Please do not place unjustified or excessive reliance on any forward-looking
statements. They speak only as of the date made and should not be considered to
be guarantees, promises or assurances of what will happen in the future.
Remember that various factors, including those described above, could affect the
Company's financial performance and could cause the Company's actual results or
circumstances for future periods to be materially different from what has been
anticipated or projected.
22
<PAGE>
SUMMARY OF RECENT DEVELOPMENTS
The following tables summarize certain financial and operational information
and other data for the Bank as of or for the periods ended June 30, 1998 and
1997 and December 31, 1997. Information at June 30, 1998 and for the three and
six months ended June 30, 1998 and 1997 is unaudited, but and, in the opinion of
management, all adjustments (consisting of normal recurring accruals) necessary
for a fair presentation of the results for such unaudited periods have been
made. This information is derived in part from and should be read in conjunction
with the consolidated financial statements of the Bank included elsewhere in
this Prospectus. The results of operations for the three and six months ended
June 30, 1998 are not necessarily indicative of the results that may be expected
for the entire year or any other period.
<TABLE>
<CAPTION>
AT JUNE 30, AT DEC. 31,
SELECTED BALANCE SHEET DATA: 1998 1997
----------- -----------
(IN THOUSANDS)
<S> <C> <C>
Total assets............................................................................. $ 237,642 $ 233,729
Loans receivable, net.................................................................... 156,643 155,422
Loans held-for-sale...................................................................... -- 2,541
Securities available-for-sale............................................................ 46,409 44,140
Securities held-to-maturity.............................................................. 12,779 12,550
Deposits................................................................................. 201,951 199,770
Total net worth.......................................................................... $ 32,046 $ 30,740
</TABLE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SIX MONTHS ENDED
JUNE 30, JUNE 30,
-------------------- --------------------
SELECTED OPERATIONS DATA: 1998 1997 1998 1997
--------- --------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Interest income............................................................ $ 4,337 $ 4,468 $ 8,648 $ 8,885
Interest expense........................................................... 2,003 2,086 4,013 4,150
--------- --------- --------- ---------
Net interest income...................................................... 2,334 2,382 4,635 4,735
Provision for loan losses.................................................. 75 225 150 450
--------- --------- --------- ---------
Net interest income after provision for loan losses...................... 2,259 2,157 4,485 4,285
Non-interest income........................................................ 278 189 523 408
Non-interest expenses...................................................... 1,693 1,555 3,338 3,180
--------- --------- --------- ---------
Income before income taxes................................................. 844 791 1,670 1,513
Income tax expense......................................................... 283 355 616 666
--------- --------- --------- ---------
Net income................................................................. $ 561 $ 436 $ 1,054 $ 847
--------- --------- --------- ---------
--------- --------- --------- ---------
</TABLE>
<TABLE>
<CAPTION>
AT OR FOR THE AT OR FOR THE
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
---------------------- ----------------------
SELECTED FINANCIAL RATIOS AND OTHER DATA: 1998 1997 1998 1997
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
PERFORMANCE RATIOS:
Return on average assets.......................................... 0.96% 0.74% 0.91% 0.72%
Return on average net worth....................................... 7.20% 5.77% 6.88% 5.65%
Average interest-earning assets to average interest-bearing
liabilities...................................................... 116.11% 115.58% 115.36% 115.28%
Net interest rate spread.......................................... 3.64% 3.66% 3.70% 3.69%
Net interest margin............................................... 4.22% 4.25% 4.27% 4.26%
Net interest income after provision for loan losses to total non-
interest expenses................................................ 1.33 x 1.39 x 1.34 x 1.35 x
NET WORTH AND ASSET QUALITY RATIOS:
Average net worth to average total assets......................... 13.31% 12.84% 13.23% 12.82%
Total net worth to assets end of period........................... 13.48% 13.10% 13.48% 13.10%
Non-performing assets to total assets............................. 0.68% 2.76% 0.68% 2.76%
Non-performing loans to total loans............................... 0.78% 3.89% 0.78% 3.89%
Allowance for loan losses to total loans.......................... 1.46% 1.36% 1.46% 1.36%
Allowance for loan losses to non-performing loans................. 186.90% 34.99% 186.90% 34.99%
</TABLE>
23
<PAGE>
COMPARISON OF FINANCIAL CONDITION AT JUNE 30, 1998 AND DECEMBER 31, 1997.
Total assets at June 30, 1998 were $237.6 million, an increase of $3.9
million, or 1.7%, from total assets of $233.7 million at December 31, 1997. The
primary cause of the increase was the investment of funds received through
deposit growth.
Net loans increased $1.2 million as the Bank's residential mortgage loan
originations exceeded loan paydowns, reflecting the seasonal nature of home
purchasing. There were no loans held-for-sale at June 30, 1998, compared with
$2.5 million at December 31, 1997. The reduction is attributed to the completion
of the loan sale in the first quarter of 1998 as more fully discussed elsewhere
in this Prospectus.
Securities available-for-sale increased $2.3 million, or 5.1%, from $44.1
million at December 31, 1997 reflecting the investment of the loan sale proceeds
and funds received through deposit growth.
Total deposits were $202.0 million at June 30, 1998, representing a $2.2
million increase, or 1.1%, from total deposits of $199.8 million at December 31,
1997. The increase in deposits is believed to be attributable to normal
fluctuations in customer deposits.
The Bank's equity increased $1.3 million from $30.7 million at December 31,
1997 to $32.0 million at June 30, 1998. The increase resulted from net income of
$1.1 million and a $252,000 increase in the unrealized gain on securities
available-for-sale. The Bank's capital ratios continue to exceed regulatory
requirements to be considered "well capitalized" under FDIC regulations.
COMPARISON OF OPERATING RESULTS FOR THE THREE MONTHS ENDED JUNE 30, 1998 AND
JUNE 30, 1997.
GENERAL. Net income for the three months ended June 30, 1998 was $561,000,
an increase of $125,000 from net income of $436,000 for the three months ended
June 30, 1997. The increase was primarily attributed to a $150,000 decline in
the provision for loan losses, an $89,000 increase in non-interest income and a
$72,000 reduction in income tax expense, partially offset by a $138,000 increase
in non-interest expenses and a $48,000 decline in net interest income.
NET INTEREST INCOME. Net interest income for the three months ended June
30, 1998 was $2.3 million, representing a $48,000 decline from the $2.4 million
recorded for the three months ended June 30, 1997. The reduction is primarily
attributed to a slight decline in the Bank's net interest margin as existing
borrowers refinanced their loans into lower rate products and new borrowers
obtained loans at lower rates, in both cases due to market interest rate
conditions. The Bank's net interest margin was 4.22% for the three months ended
June 30, 1998 compared to 4.25% for the three months ended June 30, 1997,
reflecting the decline in yields, slightly offset by an increase in capital as a
no-cost funding source.
PROVISION FOR LOAN LOSSES. The provision for loan losses was $75,000 for
the three months ended June 30, 1998, a decline of $150,000 from the $225,000
for the three months ended June 30, 1997. The decrease in the provision resulted
from a lower level of non-performing loans caused by the resolution of problem
loans through substantial charge-offs during 1997 and the loan sale during the
first quarter of 1998. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations-- Special Matters Affecting Results of
Operations--Sale of Problem Loans."
NON-INTEREST INCOME. Non-interest income for the three months ended June
30, 1998 was $278,000, an increase of $89,000 from the $189,000 for the three
months ended June 30, 1997. The Bank's primary source of non-interest income is
service charges on deposit accounts and fees related to loans. Increases in both
of these areas were due to higher transaction volumes contributed to the
increase in non-interest income.
NON-INTEREST EXPENSE. Non-interest expense increased by $138,000 for the
three months ended June 30, 1998 from the three months ended June 30, 1997.
Other than normal fluctuations in expenses, the only categories of non-interest
expenses which experienced significant percentage changes were salaries and
24
<PAGE>
employee benefits, trustees fees and other real estate owned expenses. Salaries
and employee benefits increased by $210,000 for the three months ended June 30,
1998, compared with the same period in 1997. This increase is attributed to
normal merit increases, a $48,000 increase in health care claims caused by the
nature and timing of employee claims, $83,000 accrued as severance pay to the
former Comptroller who terminated employment during the quarter, and the
addition of two executive officers. Directors fees increased $170,000 for the
three months ended June 30, 1998 compared with the same period in 1997. The
primary cause of the increase was the recognition of the entire cost of the
$150,000 retirement benefit to be paid to three retiring directors (see
"Management of the Bank--Directors") and an increase in the number of Board and
committee meetings related to the Bank's Conversion. The costs associated with
other real estate owned declined by $207,000 reflecting a $209,000 gain recorded
on the sale of one property.
COMPARISON OF OPERATING RESULTS FOR THE SIX MONTHS ENDED JUNE 30, 1998 AND JUNE
30, 1997.
GENERAL. Net income for the six months ended June 30, 1998 was $1.1
million, an increase of $207,000 from net income of $847,000 for the six months
ended June 30, 1997. The increase was primarily attributed to a $300,000 decline
in the provision for loan losses, a $115,000 increase in non-interest income and
a $50,000 reduction in income tax expense, partially offset by a $158,000
increase in non-interest expenses and a $100,000 decline in net interest income.
NET INTEREST INCOME. Net interest income for the six months ended June 30,
1998 was $4.6 million, representing a $100,000 decline from the $4.7 million
recorded for the six months ended June 30, 1997. The reduction is primarily
attributed to a modest reduction in the Bank's average net interest earning
assets for the six months ended June 30, 1998 compared with the same period in
1997. The Bank's net interest margin was 4.27% for the six months ended June 30,
1998 compared to 4.26% for the six months ended June 30, 1997.
PROVISION FOR LOAN LOSSES. The provision for loan losses was $150,000 for
the six months ended June 30, 1998, a decline of $300,000 from the $450,000 for
the six months ended June 30, 1997. The decrease in the provision resulted from
a lower level of non-performing loans caused by the resolution of problem loans
through substantial charge-offs during 1997 and the loan sale during the first
quarter of 1998.
NON-INTEREST INCOME. Non-interest income for the six months ended June 30,
1998 was $523,000, an increase of $115,000 from the $408,000 for the six months
ended June 30, 1997. The Bank's primary source of non-interest income is service
charges on deposit accounts and fees related to loans. Increases in both of
these areas due to higher transaction volumes contributed to the increase in
non-interest income.
NON-INTEREST EXPENSE. Non-interest expense increased by $158,000 for the
six months ended June 30, 1998 from the six months ended June 30, 1997. The
increase was the net result of the combined effect of the factors previously
discussed with respect to the second quarter of the year, with $138,000 out of
the $158,000 increase having occurred during the second quarter.
25
<PAGE>
THE BANK AND THE COMPANY
CNY FINANCIAL CORPORATION
CNY Financial Corporation was recently organized by the Bank to acquire all
of the capital stock of the Bank to be issued in the Conversion. The Federal
Reserve has approved the Company as a bank holding company and, when the
Conversion is completed, it will be subject to Federal Reserve regulation. See
"Regulation--Holding Company Regulation." When the Conversion is complete, the
Company's significant assets will include the capital stock of the Bank acquired
in the Conversion, the loan that it makes to the ESOP so the ESOP can purchase
8% of the Common Stock issued in the Conversion, and 50% of the net proceeds of
the Conversion minus the amount of those proceeds used to fund the ESOP loan.
See "Use of Proceeds." The Company will initially have no significant
liabilities. The initial directors and executive officers of the Company are all
currently directors or executive officers of the Bank. See "Management of the
Company." At the present time, the Company does not intend to employ any other
persons, but will use the support staff of the Bank from time to time.
Additional employees will be hired as needed in the future.
The Company's executive office is located at the administrative offices of
the Bank, 1 North Main Street, Cortland, New York 13045. Its telephone number is
(607) 756-5643.
CORTLAND SAVINGS BANK
The Bank is a New York State chartered mutual savings bank. Its deposits are
insured to the maximum allowable amount by the FDIC. The Bank's market area
consists of the County of Cortland, New York. The Bank services its customers
from its main office in the city of Cortland, a nearby drive-up facility,
branches in the adjoining communities of Homer and Cortlandville, and a
representative office in Ithaca for loan originations. At March 31, 1998, the
Bank had total assets of $232.4 million, total deposits of $198.2 million and
total net worth of $31.4 million.
The Bank is a community-oriented savings bank whose business primarily
consists of accepting deposits from local customers and investing those funds in
residential mortgage loans in Cortland County. The Bank had $103.3 million of
residential one- to four-family mortgage loans at March 31, 1998, representing
66.0% of total loans and 44.5% of total assets. Based upon data as of June 30,
1997 published by the FDIC, the Bank's share of total FDIC-insured deposits
within Cortland County was approximately 42.1%, the largest share of any bank in
Cortland County. The Bank is the highest volume residential mortgage lender in
Cortland County, measured by number and dollar amount of mortgage loans. The
Bank also makes residential multi-family loans, commercial mortgage loans,
credit card loans, commercial business loans and consumer loans. At March 31,
1998, the Bank's loan portfolio, net, totaled $154.2 million, or 66.4% of total
assets. The Bank's loan origination and related loan servicing activities are
conducted primarily by Bank personnel, but from time to time the Bank obtains
commercial mortgage loan opportunities and, to a lesser extent, residential
mortgage loan applications, through loan brokers or other referral sources. The
Bank also obtains automobile loan referrals from automobile dealers.
In addition to loans, the Bank's largest investment categories are
investment and mortgage-backed securities. The Bank's investment activities
primarily consist of investing in debt securities issued by the United States
government and its agencies, corporate debt securities, mortgage-backed
securities and certain equity securities. At March 31, 1998, the Bank had $35.8
million in carrying value of U.S. Government, agency, municipal and corporate
debt securities, representing 15.4% of total assets. At March 31, 1998, the Bank
had $2.4 million in fair value of corporate equity securities, which are
included as part of securities available-for-sale at fair value.
The Bank's executive office is located at 1 North Main Street, Cortland, New
York 13045. Its telephone number is (607) 756-5643.
26
<PAGE>
REGULATORY CAPITAL COMPLIANCE
The table below shows the Bank's capital ratios at March 31, 1998 and the
related FDIC minimum capital requirements. The table also shows approximately
what the capital ratios of the Bank would have been if the Conversion had taken
place on March 31, 1998 (referred to as pro forma ratios), assuming that the
indicated number of shares of Common Stock were sold and assuming that 50% of
the net proceeds were paid to the Bank. The expected loan to the ESOP and the
cost of shares expected to be acquired by the PRRP are deducted from pro forma
regulatory capital. See "Pro Forma Data." Risk-based capital ratios are shown as
a percentage of risk-weighted assets and the leverage ratio is shown as a
percentage of adjusted total assets.
<TABLE>
<CAPTION>
PRO FORMA BASED UPON NET PROCEEDS AT MARCH 31, 1998 (1)
-------------------------------------------------------------------
7,043,750
SHARES
SOLD
(MAXIMUM OF
VALUATION
5,206,250 SHARES 6,125,000 SHARES
HISTORICAL AT SOLD (MINIMUM OF SOLD (MIDPOINT OF
MARCH 31, 1998 VALUATION RANGE) VALUATION RANGE) RANGE)
-------------------------- -------------------------- -------------------------- -----------
PERCENT PERCENT PERCENT
OF OF OF
APPLICABLE APPLICABLE APPLICABLE
AMOUNT ASSETS AMOUNT ASSETS AMOUNT ASSETS AMOUNT
----------- ------------- ----------- ------------- ----------- ------------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
GAAP Capital (2)............... $ 31,394 13.51% $ 50,584 19.77% $ 54,125 20.81% $ 57,666
----------- ----- ----------- ----- ----------- ----- -----------
----------- ----- ----------- ----- ----------- ----- -----------
Tier I Leverage:
Capital level.................. $ 30,662 13.26% $ 49,853 19.58% $ 53,393 20.62% $ 56,934
Requirement (3)................ 9,246 4.00% 10,184 4.00% 10,355 4.00% 10,527
----------- ----- ----------- ----- ----------- ----- -----------
Excess......................... $ 21,416 9.26% $ 39,669 15.58% $ 43,038 16.62% $ 46,407
----------- ----- ----------- ----- ----------- ----- -----------
----------- ----- ----------- ----- ----------- ----- -----------
Tier I Risk-based:
Capital Level (4).............. $ 30,662 21.94% $ 49,853 34.51% $ 53,393 36.74% $ 56,934
Requirement (3)................ 5,590 4.00% 5,778 4.00% 5,812 4.00% 5,847
----------- ----- ----------- ----- ----------- ----- -----------
Excess......................... $ 25,072 17.94% $ 44,075 30.51% $ 47,581 32.74% $ 51,087
----------- ----- ----------- ----- ----------- ----- -----------
----------- ----- ----------- ----- ----------- ----- -----------
Total Risk-based:
Capital Level (4).............. $ 32,408 23.19% $ 51,659 35.76% $ 55,209 37.99% $ 58,761
Requirement (3)................ 11,181 8.00% 11,556 8.00% 11,625 8.00% 11,693
----------- ----- ----------- ----- ----------- ----- -----------
Excess......................... $ 21,227 15.19% $ 40,103 27.76% $ 43,584 29.99% $ 47,068
----------- ----- ----------- ----- ----------- ----- -----------
----------- ----- ----------- ----- ----------- ----- -----------
<CAPTION>
8,100,312 SHARES SOLD
(15% ABOVE MAXIMUM
OF VALUATION RANGE)
--------------------------
PERCENT PERCENT
OF OF
APPLICABLE APPLICABLE
ASSETS AMOUNT ASSETS
------------- ----------- -------------
<S> <C> <C> <C>
GAAP Capital (2)............... 21.81% $ 61,694 22.91%
----- ----------- -----
----- ----------- -----
Tier I Leverage:
Capital level.................. 21.63% $ 60,962 22.74%
Requirement (3)................ 4.00% 10,722 4.00%
----- ----------- -----
Excess......................... 17.63% $ 50,240 18.74%
----- ----------- -----
----- ----------- -----
Tier I Risk-based:
Capital Level (4).............. 38.95% $ 60,962 41.43%
Requirement (3)................ 4.00% 5,886 4.00%
----- ----------- -----
Excess......................... 34.95% $ 55,076 37.43%
----- ----------- -----
----- ----------- -----
Total Risk-based:
Capital Level (4).............. 40.20% $ 62,801 42.68%
Requirement (3)................ 8.00% 11,772 8.00%
----- ----------- -----
Excess......................... 32.20% $ 51,029 34.68%
----- ----------- -----
----- ----------- -----
</TABLE>
- ------------------------
(1) Pro forma capital levels assume that one-half of the net proceeds from the
sale of the Common Stock is contributed by the Company to the Bank in
exchange for the capital stock of the Bank, but only after deducting from
the amount contributed to the Bank (i) the full amount of Common Stock
expected to be purchased by the ESOP and (ii) an additional amount
representing 4% of the Common Stock to be issued in the Conversion,
including Common Stock contributed to the Foundation, on account of the
anticipated PRRP.
(2) Capital under generally accepted accounting principles (GAAP) includes the
net unrealized gain/loss, if any, on available-for-sale securities, which is
not recognized as capital under the FDIC capital ratio rules. See
"Regulation--Banking Regulation--Capital Requirements."
(3) In order to be classified as "well-capitalized," the Bank must, in addition
to other requirements, have a Tier I risk-based capital ratio of at least
6.00%, a total risk-based capital ratio of at least 10.00% and a Tier I
leverage ratio of at least 5.00%. See "Regulation--Banking
Regulation--Capital Requirements" and "--Enforcement."
(4) Total risk-based capital includes the allowance for loan losses. Pro forma
risk-based capital data assumes the net proceeds are invested in assets that
carry a risk-weighting equal to 20%, based on the assumption that the net
proceeds will initially be invested in government and corporate debt
securities.
27
<PAGE>
USE OF PROCEEDS
Although the actual net proceeds from the sale of the Common Stock cannot be
determined until the Conversion is completed, the net proceeds are expected to
range from $50,312,500 to $79,166,120. See "Pro Forma Data" and "The
Conversion--Stock Pricing and Number of Shares to be Issued" for a discussion of
the assumptions used to estimate those amounts. The proceeds will not be
available unless and until the Conversion is completed.
The Company will use 50% of the net proceeds from the sale of the Common
Stock to purchase the capital stock of the Bank. Therefore, it is estimated that
the amount paid by the Company to the Bank, before non-cash accounting
adjustments, will range from $25,156,250 to $39,583,060. The Bank intends to
invest its share of the net proceeds in short-term and medium-term,
investment-grade debt securities. The amount received will become part of the
Bank's general funds, which the Bank currently intends to gradually deploy to
increase its levels of one- to four-family real estate lending and, to a lesser
extent, other lending, depending on market conditions as suitable opportunities
arise. The Company expects that initially it will use the net proceeds remaining
in its hands, after funding the loan to the ESOP, to make investments in
short-term and intermediate-term investment-grade debt securities. The Company
may also use the proceeds it retains to purchase stock to fund the PRRP or to
satisfy the exercise of options issued under the Stock Option Plan. Those
purchases would generally not occur for at least six months after the Conversion
and generally not until after stockholders approve the two plans. The Company
may also contribute all or a portion of the net proceeds retained by it to the
Bank as additional capital. See "Management of the Bank--Benefits--Stock Option
Plan" and "--Personnel Recognition and Retention Program."
If depositors with first priority subscription rights purchase all the
Common Stock available in the Conversion, the ESOP will purchase its Common
Stock of the Company in the open market after the Conversion is completed. If
the ESOP purchases 8% of the Common Stock issued in the Conversion, including
Common Stock contributed to the Foundation, at a price of $10.00 per share, the
ESOP loan will be from $4,248,300 to $6,609,850, depending upon the number of
shares sold in the Conversion. If the ESOP must purchase its Common Stock on the
open market when the price of the Company's Common Stock is more than $10.00 per
share, the amount of the ESOP loan will be more than if the ESOP is able to
purchase its Common Stock in the Subscription Offering. The Company estimates
that the term of the ESOP loan will be twenty years. The Company and Bank may
choose to fund the ESOP's stock purchases with a loan by a third party financial
institution. See "Management of the Bank--Benefits--Employee Stock Ownership
Plan."
The Bank and the Company may also use the net proceeds from the Conversion
to support future expansion through, for example, purchasing branches,
establishing new branches, acquiring other financial institutions, or expanding
into other businesses. The Company and the Bank have no current arrangements,
understandings or agreements for any such expansion. The Company, after the
Conversion, will be a bank holding company which, under existing law, may engage
in only limited types of businesses which are closely related to and a proper
incident to banking. See "Regulation--Holding Company Regulation."
After the Conversion, the Board of Directors of the Company may approve
stock repurchase plans, subject to statutory and regulatory requirements, and
use a portion of the net proceeds to implement the repurchase plans. The Company
may not repurchase any Common Stock in the first year after the Conversion and,
unless approved by the Superintendent, during the next two years may only
repurchase up to 5% of its outstanding capital stock each year. Further, the
Company may not repurchase any of its Common Stock if the repurchase would cause
the Bank to become "undercapitalized." See "Regulation-- Banking
Regulation--Enforcement." The Board of Directors may authorize the use of a
portion of the net proceeds to repurchase stock depending upon facts and
circumstances in the future. Such facts and circumstances may include, for
example: (i) market and economic factors such as the price at which the stock is
trading in the market, the volume of trading, the attractiveness of other
investment alternatives,
28
<PAGE>
the ability to increase the book value and/or earnings per share of the
remaining outstanding shares, and the opportunity to improve the Company's
return on equity; (ii) avoiding dilution by not having to issue additional
shares to cover the exercise of stock options or to fund employee stock benefit
plans; and (iii) capital needs of the Company and the Bank in light of the level
of non-performing loans, current and projected results of operations, the
economic environment and other considerations. If the Company repurchases stock
for more than book value per share, the book value per share for remaining
shares would be reduced. The Company will not repurchase any stock if the
repurchase would cause the Company or the Bank not to satisfy any minimum
regulatory capital ratio requirements.
DIVIDEND POLICY
After the Conversion, the Board of Directors of the Company may declare cash
or stock dividends, subject to statutory and regulatory requirements. However,
the Board has not decided the amount or timing of dividends, if any. Dividends
will depend upon a number of factors, such as profitability, available
investment opportunities, capital needs in connection with potential expansion
or acquisitions, regulatory limits, financial condition, tax considerations,
general economic conditions, industry standards and other factors. The Company
cannot assure any potential purchaser that dividends will be paid, when they
might be paid or, if paid, whether the payment of dividends will continue.
The Company is not generally subject to regulatory restrictions on the
payment of dividends to its stockholders, although the ability of the Company to
pay dividends may, depending upon its use of the portion of the net proceeds it
retains, depend, in part, on dividends from the Bank. Delaware law generally
limits the dividends which the Company may pay to the excess of its net assets
(the amount by which total assets exceed total liabilities) over its statutory
capital (number of shares outstanding multiplied by par value per share), or if
there is no excess, to its net profits for the current and/or immediately
preceding fiscal year. It is the policy of the Federal Reserve that, when making
dividend decisions, the Company, as a bank holding company, must give due
consideration to its capital position, its ability to meet its financial
obligations as they come due, and its capacity to act as a source of financial
strength to the Bank. See "Regulation--Holding Company Regulation--Federal
Holding Company Regulation." The Company has also agreed with the FDIC that it
will not pay an extraordinary dividend to its stockholders which constitutes a
tax-free return of capital for one year after the Conversion without the FDIC's
consent.
One source of funds for the Company to pay dividends is dividends from the
Bank to the Company. The Bank may not pay dividends or repurchase its common
stock if that would cause its stockholders' equity to be less than the
liquidation account required to be created for the benefit of certain
depositors. See "The Conversion--Effects of Conversion on Depositors and
Borrowers--Liquidation Rights." Under New York law, the Bank may pay dividends
to the Company, without regulatory approval, equal to its net profits for the
year in which the payment is made, plus retained net profits for the two
previous years, subject to certain limits not generally relevant. Restrictions
on the ability of the Bank to pay dividends to the Company are not expected to
have a material effect on the operations of the Company or its ability to pay
dividends in the foreseeable future.
MARKET FOR THE COMMON STOCK
The Company was recently formed and has never issued stock. Therefore, there
is currently no market for the Company's Common Stock. The Company has received
preliminary approval for listing the Common Stock on the Nasdaq National Market
under the symbol "CNYF" subject to the completion of the Conversion and
compliance with certain conditions. There must be at least three market makers
to have and maintain the listing. The Company will seek to have at least three
market makers for its Common Stock. Making a market involves maintaining bid and
ask quotations and being able, as principal, to purchase and sell stock in
reasonable quantities at those quoted prices. The Company can provide no
assurance that arrangements can be made for there to be three market makers for
the Company's Common Stock. Furthermore, the Company cannot control whether
there will be enough willing buyers
29
<PAGE>
and sellers for an active and liquid trading market. Without an active and
liquid trading market, it may be difficult for stockholders to obtain full value
for their shares. See "Risk Factors--Absence of Market for Common Stock."
CAPITALIZATION
The following table presents the historical capitalization (capital
accounts, deposits and borrowings) of the Bank at March 31, 1998 and the
estimated capitalization of the Company (consolidated with the Bank) as though
the Conversion had been completed on that date. The table is based on the same
assumptions described above under "Pro Forma Data." The number of shares shown
includes shares to be sold in the Conversion and shares intended to be
contributed to the Foundation.
<TABLE>
<CAPTION>
15% ABOVE
MINIMUM MIDPOINT MAXIMUM MAXIMUM
CORTLAND 5,310,375 6,247,500 7,184,625 8,262,318
SAVINGS SHARES AT SHARES AT SHARES AT SHARES AT
HISTORICAL $10 PER SHARE $10 PER SHARE $10 PER SHARE $10 PER SHARE
----------- ------------- ------------- ------------- -------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Deposits (1)............................. $ 198,234 $ 198,234 $ 198,234 $ 198,234 $ 198,234
Borrowings............................... -- -- -- -- --
----------- ------------- ------------- ------------- -------------
Total deposits and borrowings.... 198,234 198,234 198,234 198,234 198,234
----------- ------------- ------------- ------------- -------------
----------- ------------- ------------- ------------- -------------
Stockholders' equity:
Preferred Stock, $0.01 par value
2,000,000 shares authorized (none
outstanding)......................... -- -- -- -- --
Common Stock, $0.01 par value(2)
18,000,000 shares authorized; shares
outstanding as shown................. -- 53 62 72 83
Additional paid-in capital............. -- 51,301 60,663 70,025 80,703
Retained earnings--substantially
restricted (3)....................... 30,662 30,662 30,662 30,662 30,662
Plus:
Accumulated other comprehensive
income............................... 732 732 732 732 732
Less:
Expense of Foundation contribution,
net.................................. -- (635) (747) (860) (988)
Common Stock acquired by ESOP(4)....... -- (4,248) (4,998) (5,748) (6,610)
Common Stock acquired by PRRP(5)....... -- (2,124) (2,499) (2,874) (3,305)
----------- ------------- ------------- ------------- -------------
Total stockholders' equity....... 31,394 75,741 83,875 92,009 101,277
----------- ------------- ------------- ------------- -------------
Total capitalization............. $ 229,628 $ 273,975 $ 282,109 $ 290,243 $ 299,511
----------- ------------- ------------- ------------- -------------
----------- ------------- ------------- ------------- -------------
</TABLE>
- ------------------------
(1) Does not reflect withdrawals from deposit accounts to purchase Common Stock.
(2) The effect of issuing additional Common Stock to satisfy the exercise of
options under the intended Stock Option Plan is not shown. See "Management
of the Bank--Benefits--Stock Option Plan."
(3) The retained earnings of the Bank will be restricted after the Conversion.
See "The Conversion--Effects of Conversion on Depositors and
Borrowers--Liquidation Rights."
(4) The Common Stock acquired by the ESOP (8% of the Common Stock to be issued
including the contribution to the Foundation) is shown as a reduction of
stockholders' equity because it is assumed to be purchased with the proceeds
of a loan from the Bank. See "Management of the Bank--Benefits--Employee
Stock Ownership Plan."
(5) Assumes that the Company repurchases 4% of the shares issued in the
Conversion to fund the PRRP at $10.00 per share. The purchase price is shown
as a reduction of stockholders' equity. See "Risk Factors--Possible Dilution
From Stock Options and the Personnel Recognition and Retention Program,"
"Pro Forma Data" and "Management of the Bank--Benefits--Personnel
Recognition and Retention Program."
30
<PAGE>
PRO FORMA DATA
The tables in this section show estimated information for the Company as
though the Conversion had occurred in the past. Each table shows estimated
stockholders' equity at the end of the period as though the Conversion had
occurred at the end of the period and estimated net income for the entire period
as though the Conversion had occurred at the beginning of the period. The
amounts shown in the tables, except for historical data, are based upon
assumptions and estimates, the most significant of which are described below.
It is assumed that the ESOP will purchase 8% of the Common Stock issued in
the Conversion (including Common Stock contributed to the Foundation). The
remaining shares are assumed to be sold for $10.00 per share with CIBC
Oppenheimer Corp. and Trident Securities, Inc. receiving a fee of 1.15% of the
purchase price of those shares, except that no fee will be paid on Common Stock
purchased by the ESOP and purchases estimated at $1.6 million by officers,
employees, and directors of the Bank and Company and members of their immediate
families. CIBC Oppenheimer Corp. and Trident Securities, Inc. will receive a
minimum fee of $750,000. It is also assumed that the Company contributes Common
Stock to the Foundation equal to 2% of the Common Stock sold in the Conversion.
Other Conversion expenses are estimated to be approximately $1.0 million. Actual
expenses may vary from these estimates. Stockholders' equity has not been
reduced by the liquidation account that must be created in connection with the
Conversion for the benefit of certain depositors.
The tables assume that the net proceeds were invested at 5.39% (the one-year
U.S. Treasury constant maturity index for the week which included March 31,
1998). This rate has been used because it is believed to be a reasonable
estimate of the rate that would be obtained on an investment of net proceeds.
The after-tax yield is assumed to be 3.29% (based on an estimated tax rate of
39%). The tables do not take into account possible withdrawals of deposits to
pay for Common Stock purchases. Per share amounts have been calculated by
dividing applicable amounts by the number of shares shown, as adjusted for
estimated ESOP allocations. The calculation of pro forma stockholders' equity
does not include assumed earnings on the net proceeds during the period shown.
For the purpose of calculating the pro forma data, the Company assumes that
it will implement the PRRP and repurchase 4% of the Common Stock sold in the
Conversion at $10.00 per share to fund the program. The Company also assumes
that all the repurchased stock is awarded under the program in awards that vest
gradually over five years. See "Management of the Bank--Benefits--Personnel
Recognition and Retention Program." No adjustments have been made to estimate
the effect of the Stock Option Plan which the Company expects to implement. The
ESOP is assumed to be funded with a loan from the Company that is repaid in
substantially equal principal payments over a period of twenty years. See
"Management of the Bank--Benefits--Employee Stock Ownership Plan."
The following information is not intended to predict the future and does not
show or predict the financial effects of the Conversion when it occurs in the
future. The information should not be taken as an indication of future
profitability. The pro forma stockholders' equity does not represent the fair
market value of the Common Stock and may be more than would be distributed to
stockholders in the unlikely event of a liquidation. The pro forma data should
not be used to project the future market price of the Common Stock.
31
<PAGE>
<TABLE>
<CAPTION>
AT OR FOR THE THREE MONTHS ENDED MARCH 31, 1998
--------------------------------------------------------------------------
8,262,318
5,310,375 6,247,500 7,184,625 SHARES (15%
SHARES (MINIMUM) SHARES (MIDPOINT) SHARES (MAXIMUM) ABOVE MAXIMUM)
AT $10.00 PER AT $10.00 PER AT $10.00 PER AT $10.00 PER
SHARE SHARE SHARE SHARE
----------------- ----------------- ------------------ ----------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
Gross proceeds............................. $ 52,063 $ 61,250 $ 70,438 $ 81,003
Plus shares issued to the Foundation..... 1,041 1,225 1,409 1,620
----------------- ----------------- ------------------ ----------------
Pro forma market capitalization............ $ 53,104 $ 62,475 $ 71,847 $ 82,623
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
Gross proceeds............................. $ 52,063 $ 61,250 $ 70,438 $ 81,003
Less offering expenses and commissions..... (1,750) (1,750) (1,750) (1,837)
----------------- ----------------- ------------------ ----------------
Estimated net conversion proceeds........ 50,313 59,500 68,688 79,166
ESOP funding............................. (4,248) (4,998) (5,748) (6,610)
PRRP funding............................. (2,124) (2,499) (2,874) (3,305)
----------------- ----------------- ------------------ ----------------
Estimated proceeds available for
investment(1).......................... $ 43,941 $ 52,003 $ 60,066 $ 69,251
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
NET INCOME:
Historical............................... $ 493 $ 493 $ 493 $ 493
Pro forma adjustments:
Net earnings from proceeds............... 361 427 494 569
ESOP expense(2).......................... (32) (38) (44) (50)
PRRP expense(3).......................... (65) (76) (88) (101)
----------------- ----------------- ------------------ ----------------
Pro forma net income................... $ 757 $ 806 $ 855 $ 911
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
NET INCOME PER SHARE:
Historical............................... $ 0.10 $ 0.09 $ 0.07 $ 0.06
Pro forma adjustments:
Net earnings from proceeds............... 0.07 0.07 0.08 0.08
ESOP expense(2).......................... (0.01) (0.01) (0.01) (0.01)
PRRP expense(3).......................... (0.01) (0.01) (0.01) (0.01)
----------------- ----------------- ------------------ ----------------
Pro forma net income per share......... $ 0.15 $ 0.14 $ 0.13 $ 0.12
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
Weighted average shares used in
calculation............................ 4,890,855 5,753,948 6,617,040 7,609,595
STOCKHOLDERS' EQUITY (BOOK VALUE)(4)(5):
Historical............................... $ 31,394 $ 31,394 $ 31,394 $ 31,394
Pro forma adjustments:
Estimated net conversion proceeds...... 50,313 59,500 68,688 79,166
Net effect of contribution to
Foundation(6)........................ 406 478 549 632
Less Common Stock acquired by:
ESOP(2).............................. (4,248) (4,998) (5,748) (6,610)
PRRP(3).............................. (2,124) (2,499) (2,874) (3,305)
----------------- ----------------- ------------------ ----------------
Pro forma book value............... $ 75,741 $ 83,875 $ 92,009 $ 101,277
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
STOCKHOLDERS' EQUITY (BOOK VALUE) PER
SHARE:
Historical............................... $ 5.91 $ 5.03 $ 4.37 $ 3.80
Pro forma per share adjustments:
Estimated net conversion proceeds...... 9.47 9.52 9.56 9.58
Net effect of contribution to
Foundation(6)........................ 0.08 0.08 0.08 0.08
Less Common Stock acquired by:
ESOP(2).............................. (0.80) (0.80) (0.80) (0.80)
PRRP(3).............................. (0.40) (0.40) (0.40) (0.40)
----------------- ----------------- ------------------ ----------------
Pro forma book value per share..... $ 14.26 $ 13.43 $ 12.81 $ 12.26
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
Shares used in calculation......... 5,310,375 6,247,500 7,184,625 8,262,318
RATIO OF OFFERING PRICE TO PRO FORMA NET
INCOME PER SHARE....................... 16.67x 17.86x 19.23x 20.83x
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
OFFERING PRICE PER SHARE AS A PERCENTAGE OF
PRO FORMA BOOK VALUE PER SHARE........... 70.13% 74.46% 78.06% 81.57%
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
</TABLE>
NOTES APPEAR AFTER FOLLOWING PAGE.
32
<PAGE>
<TABLE>
<CAPTION>
AT OR FOR THE YEAR ENDED DECEMBER 31, 1997
--------------------------------------------------------------------------
8,262,318
5,310,375 6,247,500 7,184,625 SHARES (15%
SHARES (MINIMUM) SHARES (MIDPOINT) SHARES (MAXIMUM) ABOVE MAXIMUM)
AT $10.00 PER AT $10.00 PER AT $10.00 PER AT $10.00 PER
SHARE SHARE SHARE SHARE
----------------- ----------------- ------------------ ----------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
Gross proceeds............................. $ 52,063 $ 61,250 $ 70,438 $ 81,003
Plus shares issued to the Foundation..... 1,041 1,225 1,409 1,620
----------------- ----------------- ------------------ ----------------
Pro forma market capitalization............ $ 53,104 $ 62,475 $ 71,847 $ 82,623
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
Gross Proceeds............................. $ 52,063 $ 61,250 $ 70,438 $ 81,003
Less offering expenses and commissions..... (1,750) (1,750) (1,750) (1,837)
----------------- ----------------- ------------------ ----------------
Estimated net conversion proceeds........ 50,313 59,500 68,688 79,166
ESOP funding............................. (4,248) (4,998) (5,748) (6,610)
PRRP funding............................. (2,124) (2,499) (2,874) (3,305)
----------------- ----------------- ------------------ ----------------
Estimated proceeds available for
investment(1).......................... $ 43,941 $ 52,003 $ 60,066 $ 69,251
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
NET INCOME:
Historical............................... $ 72 $ 72 $ 72 $ 72
Pro forma adjustments:
Net earnings from proceeds............... 1,445 1,710 1,975 2,277
ESOP expense(2).......................... (130) (152) (175) (202)
PRRP expense(3).......................... (259) (305) (351) (403)
----------------- ----------------- ------------------ ----------------
Pro forma net income................... $ 1,128 $ 1,325 $ 1,521 $ 1,744
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
NET INCOME PER SHARE:
Historical............................... $ 0.01 $ 0.01 $ 0.01 $ 0.01
Pro forma adjustments:
Net earnings from proceeds............... 0.30 0.30 0.30 0.30
ESOP expense(2).......................... (0.03) (0.03) (0.03) (0.03)
PRRP expense(3).......................... (0.05) (0.05) (0.05) (0.05)
----------------- ----------------- ------------------ ----------------
Pro forma net income per share......... $ 0.23 $ 0.23 $ 0.23 $ 0.23
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
Weighted average shares used in
calculation............................ 4,906,787 5,772,690 6,638,594 7,634,381
STOCKHOLDERS' EQUITY (BOOK VALUE)(4)(5):
Historical............................... $ 30,740 $ 30,740 $ 30,740 $ 30,740
Pro forma adjustments:
Estimated net conversion proceeds...... 50,313 59,500 68,688 79,166
Net effect of contribution to
Foundation(6)........................ 406 478 549 632
Less Common Stock acquired by:
ESOP(2).............................. (4,248) (4,998) (5,748) (6,610)
PRRP(3).............................. (2,124) (2,499) (2,874) (3,305)
----------------- ----------------- ------------------ ----------------
Pro forma book value............... $ 75,087 $ 83,221 $ 91,355 $ 100,623
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
STOCKHOLDERS' EQUITY (BOOK VALUE) PER
SHARE:
Historical............................... $ 5.79 $ 4.92 $ 4.28 $ 3.72
Pro forma per share adjustments:
Estimated net conversion proceeds...... 9.47 9.52 9.56 9.58
Net effect of contribution to
Foundation(6)........................ 0.08 0.08 0.08 0.08
Less Common Stock acquired by:
ESOP(2).............................. (0.80) (0.80) (0.80) (0.80)
PRRP(3).............................. (0.40) (0.40) (0.40) (0.40)
----------------- ----------------- ------------------ ----------------
Pro forma book value per share..... $ 14.14 $ 13.32 $ 12.72 $ 12.18
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
Shares used in calculation......... 5,310,375 6,247,500 7,184,625 8,262,318
RATIO OF OFFERING PRICE TO PRO FORMA NET
INCOME PER SHARE....................... 43.48x 43.48x 43.48x 43.48x
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
OFFERING PRICE PER SHARE AS A PERCENTAGE OF
PRO FORMA BOOK VALUE PER SHARE........... 70.72% 75.07% 78.62% 82.10%
----------------- ----------------- ------------------ ----------------
----------------- ----------------- ------------------ ----------------
</TABLE>
NOTES APPEAR ON FOLLOWING PAGE.
33
<PAGE>
- ------------------------------
(1) Estimated net proceeds available for investment consist of estimated net
Conversion proceeds minus (i) the proceeds attributable to the purchase of
Common Stock by the ESOP; and (ii) the cost of the shares covered by the
PRRP, which, subject to receipt of stockholder approval, are assumed to be
purchased at a price of $10.00 per share.
(2) The amount estimated to be borrowed by the ESOP from the Company is shown as
a reduction of stockholders' equity. ESOP expense is based upon generally
accepted accounting principles as described in accounting Statement of
Position 93-6. Generally accepted accounting principles require that as and
when shares pledged as security for an ESOP loan are committed to be
released from the loan (i.e., as the loan is repaid), ESOP expense is
recorded based upon the fair value of the shares at that time. The ESOP loan
is assumed to have a term of twenty years. It is therefore assumed that
one-twentieth of the Common Stock acquired by the ESOP is committed to be
released from the lien of the ESOP loan each year, and one-eightieth each
calendar quarter. ESOP expense shown is equal to the number of shares so
committed to be released for the period, multiplied by the per share fair
value at that time, which is assumed to be $10.00 per share. All shares
released during the period are assumed to be outstanding for the entire
period for the purpose of calculating earnings per share and book value per
share. Shares not yet committed to be released are not deemed to be
outstanding for either purpose. See "Management of the Bank--Benefits--
Employee Stock Ownership Plan."
(3) The shares purchased by the Company to fund the anticipated PRRP are assumed
to be purchased at the beginning of the periods shown at $10.00 per share
and immediately awarded to directors, officers and employees. Because the
shares are assumed to vest gradually over five years, 20% of the purchase
price is treated as an expense for the year ended December 31, 1997 and 5%
for the quarter ended March 31, 1998. If the Company uses authorized but
unissued shares to fund the plan, the interests of existing stockholders
would be diluted by approximately 3.85%. In such event, pro forma net
earnings per share would be $0.23, $0.23, $0.23 and $0.23, and pro forma
stockholders' equity per share would be $13.98, $13.19, $12.61 and $12.09 at
the minimum, midpoint, maximum and 15% above the maximum of the Valuation
Range, respectively, for the year ended December 31, 1997. Pro forma net
earnings per share would be $0.15, $0.14, $0.13 and $0.12, and pro forma
stockholders' equity per share would be $14.10, $13.29, $12.70 and $12.17 at
the minimum, midpoint, maximum and 15% above the maximum of the Valuation
Range, respectively, for the three months ended March 31, 1998. If the per
share price paid to repurchase stock to fund the plan is greater than $10.00
per share, then net income per share and stockholders equity per share would
be lower. See "Management of the Bank--Benefits--Personnel Recognition and
Retention Program."
(4) If the Stock Option Plan covering up to 10% of the Common Stock issued in
the Conversion is implemented as planned and funded with newly issued Common
Stock, the estimated net income and book value per share for all of the
alternatives shown on the preceding tables would be reduced because of the
additional shares that would be outstanding. The effect of the
implementation of the Stock Option Plan can not be reasonably estimated
because the number of options that may be awarded cannot be determined; the
exercise price of the options will depend upon the market price on the date
the options are awarded; the options will vest gradually over five years;
and the exercise of options is at the discretion of the director, officer or
employee holding the option. See "Management of the Bank--Benefits--Stock
Option Plan."
(5) The retained earnings of the Bank will be restricted after the Conversion.
See "Dividend Policy," and "The Conversion--Effects of Conversion on
Depositors and Borrowers--Liquidation Rights."
(6) The net effect of the contribution to the Foundation as shown is the
estimated tax benefit to the Company of the contribution, equal to the
amount of the contribution multiplied by the estimated tax rate of 39%. It
is assumed that the contribution is valued at $10.00 per share of Common
Stock and that the Company will realize the full tax benefit of the
contribution over the period permitted under the Internal Revenue Code.
34
<PAGE>
COMPARISON OF VALUATION AND PRO FORMA INFORMATION
WITH AND WITHOUT FOUNDATION
RP Financial, LC. has estimated that, if the Foundation was not being
established, the aggregate market value of the Common Stock of the Company would
be approximately $1.8 million higher at the midpoint of the Valuation Range,
which would result in a $3.0 million increase in the amount of Common Stock
offered in the Conversion at the midpoint. For comparative purposes only, set
forth below are certain estimated pricing ratios and financial information,
assuming that the Foundation was not established and assuming the Conversion was
completed at March 31, 1998. However, these are just estimates and there is no
assurance that if the Foundation were not funded by the Company, an appraiser at
that time would conclude that the market value of the Company's Common Stock
would be the same as estimated by RP Financial, LC.
<TABLE>
<CAPTION>
MINIMUM MIDPOINT
------------------------ ------------------------
WITH WITH NO WITH WITH NO
FOUNDATION FOUNDATION FOUNDATION FOUNDATION
----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
Estimated offering amount...................................... $ 52,063 $ 54,613 $ 61,250 $ 64,250
Pro forma market capitalization................................ 53,104 54,613 62,475 64,250
Total assets............................................... 276,735 278,697 284,869 287,178
Total liabilities.......................................... 200,994 200,994 200,994 200,994
Pro forma stockholders' equity................................. 75,741 77,703 83,875 86,184
Pro forma net income(1)........................................ 757 774 806 826
Pro forma stockholders' equity per share....................... 14.26 14.23 13.43 13.42
Pro forma net income per share(1).............................. $ 0.15 $ 0.16 $ 0.14 $ 0.14
Pro forma pricing ratios (annualized)
Price/stockholders' equity..................................... 70.13% 70.27% 74.46% 74.52%
Price/net income............................................... 16.67x 16.67x 17.86x 17.86x
Price/assets................................................... 19.19% 19.60% 21.93% 22.37%
Pro forma financial ratios (annualized)
Return on assets............................................... 1.09% 1.11% 1.13% 1.15%
Return on stockholders' equity................................. 4.00% 3.98% 3.84% 3.83%
Stockholders' equity/assets.................................... 27.37% 27.88% 29.44% 30.01%
</TABLE>
<TABLE>
<CAPTION>
MAXIMUM 15% ABOVE MAXIMUM
------------------------ ------------------------
WITH WITH NO WITH WITH NO
FOUNDATION FOUNDATION FOUNDATION FOUNDATION
----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
<S> <C> <C> <C> <C>
Estimated offering amount...................................... $ 70,438 $ 73,888 $ 81,003 $ 84,971
Pro forma market capitalization................................ 71,847 73,888 82,623 84,971
Total assets............................................... 293,003 295,659 302,271 305,325
Total liabilities.......................................... 200,994 200,994 200,994 200,994
Pro forma stockholders' equity................................. 92,009 94,665 101,277 104,331
Pro forma net income(1)........................................ 855 878 911 937
Pro forma stockholders' equity per share....................... 12.81 12.81 12.26 12.27
Pro forma net income per share(1).............................. $ 0.13 $ 0.13 $ 0.12 $ 0.12
Pro forma pricing ratios (annualized)
Price/stockholders' equity..................................... 78.06% 78.06% 81.57% 81.50%
Price/net income............................................... 19.23x 19.23x 20.83x 20.83x
Price/assets................................................... 24.52% 24.99% 27.33% 27.83%
Pro forma financial ratios (annualized)
Return on assets............................................... 1.17% 1.19% 1.21% 1.23%
Return on stockholders' equity................................. 3.72% 3.67% 3.60% 3.59%
Stockholders' equity/assets.................................... 31.40% 32.02% 33.51% 34.17%
</TABLE>
- ------------------------
(1) If effect is given to the estimated net expense of the contribution to the
Foundation assuming a value of $10.00 per share donated and an effective tax
rate of 39% with full recognition of the tax benefit of the contribution,
estimated pro forma net income (loss) for the three months ended March 31,
1998 would have been $122,000, or $.02 per share, at the minimum; $59,000,
or $.01 per share, at the midpoint; ($4,000), or $0.00 per share, at the
maximum; and ($77,000), or ($0.01) per share, at 15% above the maximum of
the Valuation Range.
35
<PAGE>
PARTICIPATION BY THE BOARD AND SENIOR MANAGEMENT
The following table sets forth certain information as to the intended
purchases of Common Stock by each director and executive officer of the Bank and
their associates and by all directors and executive officers as a group. This
table excludes shares to be purchased by the ESOP which may be allocated to
executive officers and excludes options or shares which may be granted pursuant
to the Stock Option Plan or the PRRP. For purposes of the following table, it
has been assumed that 6,125,000 shares (the midpoint of the Valuation Range) of
Common Stock will be sold at $10.00 per share and that sufficient shares will be
available to satisfy subscriptions in all categories. The percentages assume a
contribution of 122,500 shares of Common Stock to the Foundation.
<TABLE>
<CAPTION>
AGGREGATE
NUMBER PURCHASE PERCENT
NAME POSITION OF SHARES PRICE OF SHARES
- --------------------------- ------------------------------------------------ ----------- ------------ -----------
<S> <C> <C> <C> <C>
Wesley D. Stisser, Jr. President & Chief Executive
Officer, Director 15,000 $ 150,000 0.24%
Joseph H. Compagni Director 15,000 150,000 0.24%
Roland Fragnoli Director 15,000 150,000 0.24%
Edward E. Hatter, Jr. Director 15,000 150,000 0.24%
Patrick J. Hayes, M.D. Director 15,000 150,000 0.24%
Robert S. Kashdin, CPA Director 15,000 150,000 0.24%
Harvey Kaufman Director 15,000 150,000 0.24%
Donald P. Reed Director 15,000 150,000 0.24%
Judith F. Riehlman Director 1,000 10,000 0.02%
Terrance D. Stalder Director 10,000 100,000 0.16%
F. Michael Stapleton Executive Vice President
& Chief Operating Officer 15,000 150,000 0.24%
Steven A. Covert Executive Vice President 5,000 50,000 0.08%
& Chief Financial Officer
Kerry D. Meeker Senior Vice President
& Senior Loan Officer 8,000 80,000 0.13%
----------- ------------ ---
All Directors and Executive
Officers as a group 159,000 $ 1,590,000 2.55%
----------- ------------ ---
----------- ------------ ---
</TABLE>
In addition to the above purchases, three recently retired directors
(Harwood Spaulding, Edward G. Burgess and Peter A. Potter) have indicated an
intention to subscribe for an aggregate of 25,000 shares of Common Stock,
representing 0.40% of the stock to be issued in the Conversion at the midpoint
of the Valuation Range, including the shares contributed to the Foundation. See
"Management of the Bank-- Directors."
THE CONVERSION
THE BOARD OF DIRECTORS OF THE BANK AND THE SUPERINTENDENT HAVE APPROVED THE
PLAN OF CONVERSION. THE SUPERINTENDENT'S APPROVAL DOES NOT CONSTITUTE A
RECOMMENDATION OR ENDORSEMENT OF THE PLAN OF CONVERSION. CERTAIN TERMS USED IN
THE FOLLOWING SUMMARY OF THE MATERIAL ASPECTS OF THE CONVERSION ARE DEFINED IN
THE PLAN OF CONVERSION, A COPY OF WHICH MAY BE OBTAINED FROM THE BANK.
GENERAL
On March 23, 1998, the Board of Directors of the Bank adopted a Plan of
Conversion which provides that the Bank will convert from a mutual savings bank
to a stock savings bank. All of the capital stock of the Bank will be owned by
the Company. The Company plans to keep 50% of the net proceeds from the
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<PAGE>
sale of the Common Stock and to use the remaining 50% to purchase all of the
stock of the Bank to be issued as part of the Conversion. The Superintendent has
approved the Plan subject to its approval by the depositors of the Bank entitled
to vote at the Special Meeting to be held on September 23, 1998 and subject to
the satisfaction of certain other conditions imposed by the Superintendent in
such approval.
To accomplish the Conversion, the Bank will restate its Organization
Certificate to authorize it to issue stock. The Conversion will be accounted for
as a pooling of interests, which generally means that the financial statement
entries of the Bank that existed before the Conversion will continue without
change after the Conversion. As part of the Conversion, the Company is
conducting a Subscription Offering to sell its Common Stock. Many depositors and
the Company's ESOP will have priority rights to subscribe for the Common Stock
being sold in the Conversion. Shares not subscribed for in the Subscription
Offering may be offered in a Community Offering to certain members of the
general public, with preference given to natural persons residing in Cortland
County, New York. The Company and the Bank anticipate that all shares not
subscribed for in the Subscription or Community Offering will be offered for
sale by the Company to the general public in a Syndicated Community Offering.
See "--Community Offering" and "--Syndicated Community Offering." The Conversion
must be completed within 24 months after the date of the approval of the Plan of
Conversion by the Superintendent. See "Effect of Delay in Consummating the
Conversion."
REASONS FOR THE CONVERSION
The Bank has several business purposes for the Conversion. The sale of the
Company's Common Stock will provide the Bank with additional equity capital to
support its existing operations and to provide capital for expansion
opportunities. At March 31, 1998, the Bank had Tier I capital equal to 13.26% of
applicable assets and total risk-based capital equal to 23.19% of risk-weighted
assets. See "Regulatory Capital Compliance" for a discussion of the effects of
the Conversion on the Bank's capital ratios. In addition, investment of the net
proceeds from the Conversion is expected to provide additional operating income
to further increase the Bank's capital on a continuing basis.
The Conversion will structure the Bank in the stock form used in the United
States by all commercial banks, most major business corporations and many
savings institutions. The Conversion will give many of the Bank's depositors the
opportunity to become stockholders of the Company, allowing them to own stock in
the financial organization in which they maintain deposit accounts. Such
ownership may encourage depositors who become stockholders to promote the Bank
to others, thereby further contributing to the Bank's earnings potential. The
Bank also expects that the ESOP, the Stock Option Plan and the PRRP will assist
it in attracting and retaining qualified personnel and successfully competing
with other financial institutions in its principal market area.
The Board of Directors of the Bank believes that the holding company
structure will facilitate the diversification of the Bank's business activities
and the acquisition of other banks as well as other companies. The holding
company structure could enable an acquired bank to operate on a more autonomous
basis as a wholly-owned subsidiary of the Company, rather than as a division of
the Bank. For example, the acquired bank could retain its own directors,
officers and corporate name as well as have representation on the Board of
Directors of the Company. As of the date of this Prospectus, the Company has no
understandings or agreements to acquire any other institution or engage in any
activities other than holding the Bank's stock.
ESTABLISHMENT OF THE FOUNDATION
GENERAL. As part of the Bank's commitment to its local community, the Plan
of Conversion provides that a charitable foundation will be established in
connection with the Conversion. The Bank and the Company will incorporate the
Foundation under New York law as a not-for-profit corporation, and will fund the
Foundation with a contribution of Common Stock of the Company equal to 2% of the
Common
37
<PAGE>
Stock sold in the Conversion. The Company may also contribute or lend up to
$100,000 to the Foundation for initial start up expenses and to cover initial
grants by the Foundation.
The Company and the Bank believe that the Foundation will help maintain a
bond between the Bank and its community. The community will share in the
potential growth and success of the Company over the long term. By enhancing the
Bank's visibility and reputation, the Bank believes that the Foundation will
improve goodwill and enhance the long-term value of the Bank. The Foundation
will be dedicated to charitable purposes within the Bank's local community,
including community development activities.
PURPOSE OF THE FOUNDATION. The purpose of the Foundation is to provide
funds to support charitable causes and community development activities. It is
expected that the Foundation will provide grants for community development, low
cost housing, civic and education programs, and for other charitable programs.
In recent years, the Bank has emphasized community lending and community
development activities within the Bank's local community. The Foundation is
being formed to add to the Bank's existing community activities. However, the
Foundation is expected to replace some of the Bank's existing charitable giving.
The Bank intends to continue to emphasize lending and development activities
within its market area, but the Foundation may have even greater flexibility to
foster community activities and the promotion of charitable causes because it
will not be subject to limits placed on the Bank by most banking laws and
regulations. In this regard, the Board of Directors believes that establishing a
charitable foundation is consistent with the Bank's commitment to community
service.
Although the Bank and the Company have considered the above factors, the
establishment of a charitable foundation in connection with a conversion is a
relatively new concept that has only been implemented by several other
converting banks. Accordingly, certain persons may raise challenges as to the
validity of the establishment of the Foundation that, if not resolved promptly,
could delay the consummation of the Conversion or result in the elimination of
the Foundation.
STRUCTURE OF THE FOUNDATION. The Foundation will be incorporated under New
York law as a not-for-profit corporation. The Foundation's Certificate of
Incorporation will provide that it is organized exclusively for charitable
purposes as set forth in Section 501(c)(3) of the Internal Revenue Code. No part
of the net earnings of the Foundation will benefit, or be distributed to, its
directors, officers or members. A majority of the directors of the Foundation
will be officers or directors of the Bank, and the remaining directors will
consist of civic and community leaders within the Bank's local community. Once
the initial Board of Directors of the Foundation is appointed by the Bank and
the Company, future directors will be elected by the existing board of the
Foundation. Only persons serving as directors of the Foundation will have the
authority to vote to elect new directors of the Foundation.
The Board of Directors of the Foundation will control the Foundation's
affairs. That Board will establish the Foundation's policies in making grants or
contributions, consistent with the Foundation's purpose. As directors of a
non-profit corporation, directors of the Foundation will have a fiduciary duty
to advance the Foundation's charitable goals, to protect the assets of the
Foundation and to act in a manner consistent with the charitable purpose of the
Foundation. The directors of the Foundation will also direct the activities of
the Foundation, including the management of the Common Stock of the Company held
by the Foundation. However, the FDIC and the Superintendent have required that
the Foundation agree that all shares of Common Stock held by the Foundation will
be voted in the same ratio as all other shares of the Company's Stock on all
proposals considered by stockholders of the Company. The FDIC and the
Superintendent may waive this voting restriction under certain circumstances if
compliance with the voting restriction would: (i) cause a violation of the law
of the State of New York; (ii) cause the Foundation to lose its tax-exempt
status, or cause the IRS to deny the Foundation's request for a determination
that it is an exempt organization or otherwise have a material and adverse tax
consequence on the Foundation; or (iii) cause the Foundation to be subject to an
excise tax under Section 4941 of the Internal Revenue Code. However, there can
be no assurance that a waiver will be granted if requested, and the failure to
grant a waiver could adversely affect the tax-exempt status of the Foundation
and the deductibility of the
38
<PAGE>
Company's contribution. If the FDIC and the Superintendent waive such voting
requirement, the directors of the Foundation would control the voting of the
Common Stock owned by the Foundation. However, if a waiver is granted, the FDIC
or the Superintendent may impose additional conditions regarding the composition
of the Board of Directors of the Foundation.
The Foundation's place of business will be located at the Bank's
administrative offices and initially the Foundation is expected to have no
employees but will utilize the staff of the Company and the Bank. The Board of
Directors of the Foundation will appoint such officers as may be necessary to
manage the operations of the Foundation. The Bank has agreed with the Federal
Reserve and the FDIC that the Bank will comply with all applicable affiliate
restrictions set forth in Sections 23A and 23B of the Federal Reserve Act with
respect to any transactions between the Bank and the Foundation.
The Company intends to capitalize the Foundation with Common Stock of the
Company in an amount equal to 2% of the Common Stock to be sold in connection
with the Conversion and may donate or lend up to an additional $100,000 to the
Foundation. Therefore, without resoliciting subscribers, the contribution to the
Foundation could vary from 104,125 shares to 162,006 shares. The Company and the
Bank decided to fund the Foundation primarily with Common Stock rather than cash
to create a link between the future success of the Company and the benefits to
the community, and so the community can share in the potential growth and
success of the Company and the Bank over the long term. The use of Common Stock
provides a potentially larger endowment than if cash is used because the
Foundation will share in future stock price appreciation. As such, the
contribution of Common Stock may provide a self-sustaining funding, so the
Company can reduce, if not eliminate, future cash contributions to the
Foundation.
The Foundation will receive working capital from any dividends that may be
paid on the Common Stock, from loans secured by the Common Stock, or from the
proceeds of the sale of any of the Common Stock. The Foundation must distribute
annually, in grants or contributions, at least 5% of the average fair market
value of its net investment assets. As a condition of its gift, the Company has
required that the Foundation not sell stock of the Company in any one year in
excess of 5% of the average market value of the assets held by the Foundation
unless the Board of Directors determines that the failure to sell more stock
would result in a long-term reduction of the value of the Foundation's assets
and thus jeopardize the Foundation's ability to carry out its purposes.
The contribution of the Common Stock to the Foundation will reduce (dilute)
the interests of the other stockholders of the Company because the contribution
will increase the number of shares outstanding. The voting and ownership
interests of the other stockholders will be diluted by 1.96%, compared to their
interests in the Company if the Foundation were not established. For additional
discussion of dilution, see "Pro Forma Data."
TAX CONSIDERATIONS. The Company and the Bank have been advised by Serchuk &
Zelermyer, LLP that an organization created for the purposes described above
would qualify as a tax-exempt organization under Section 501(c)(3) of the
Internal Revenue Code, and would likely be classified as a private foundation.
The Foundation will submit an application to the IRS to be recognized as a
tax-exempt organization. If the Foundation files the application within 15
months after it is organized, and if the IRS approves the application, the
effective date of the Foundation's status as a Section 501(c)(3) organization
will be retroactive to the date of its organization. Serchuk & Zelermyer, LLP,
however has not rendered any advice on whether the restriction on voting of the
Common Stock held by the Foundation will affect the ability of the Foundation to
qualify as a tax-exempt organization. However, as discussed above, the FDIC and
the Superintendent may waive the voting restriction under certain circumstances.
39
<PAGE>
The Company is entitled to a federal income tax deduction for charitable
contributions up to 10% of its taxable income (computed before deducting the
contributions) for the year of the contribution. Any contributions in excess of
the deductible amount may be carried forward and deducted in the Company's next
five taxable years, subject, in each such year, to the 10% of taxable income
limitation. The Company's contribution to the Foundation is likely to exceed the
10% limit for the year in which it is made. Based on the policy considerations
discussed above, the Company and Bank believe that a contribution in excess of
the 10% annual limitation is justified because of the Bank's capital position
and its earnings, the additional capital being raised in the Conversion and the
potential benefits of the Foundation to the Bank's community. See "Regulatory
Capital Compliance," "Capitalization," and "Comparison of Valuation and Pro
Forma Information With and Without Foundation." Taking into account the amount
of the contribution and its effect on the capital ratios of the Bank, the Bank
will still exceed the capital levels necessary to be classified as "well
capitalized" under federal regulations, which is the best capital category.
Thus, the amount of the contribution will not adversely impact the financial
condition of the Company and the Bank. The Company and the Bank therefore
believe that the contribution is reasonable.
The Company and the Bank have received the opinion of Serchuk and Zelermyer,
LLP that the Company's contribution of its own Common Stock would not constitute
self-dealing, and that the Company will be entitled to a deduction in the amount
of the fair market value of the Common Stock at the time of contribution, less
the $0.01 per share par value which the Foundation is required to pay to the
Company for the Common Stock contributed, subject to the annual limit based upon
10% of taxable income. As discussed above, the Company may deduct any portion of
the contribution in excess of the 10% limit for the following five years. For
the purpose of calculating the amount of the tax deduction, the fair market
value of the Common Stock will be equal to the average of the high and low
prices on the day the Company makes the contribution, which is expected to be
the first day the Common Stock opens for trading. If the contribution is made in
1998 as expected, the amount that the Company may deduct in the current year for
tax purposes will depend upon net income in 1998. The maximum permitted
deduction in future years will likewise depend upon net income in those years,
and there is no assurance that the Company will have sufficient income in future
years to reap the entire tax benefit from the contribution. Neither the Company
nor the Bank expect to make any further contributions to the Foundation during
the first five tax years after the initial contribution. After that time, the
Company and the Bank may consider future contributions to the Foundation.
The opinion of Serchuk and Zelermyer, LLP is not binding on the IRS. The IRS
may refuse to recognize the Foundation as a tax-exempt organization under
Section 501(c)(3) of the Internal Revenue Code or may refuse to permit the
deduction. If the IRS so refuses and is successful, the anticipated tax benefit
from the contribution would be charged as an expense, reducing the Company's net
income in the year in which the IRS does so. See "Risk Factors--Dilution,
Additional Costs and Other Consequences of the Foundation." Furthermore, the
statute pursuant to which the Foundation will be permitted to deduct the fair
market value of a contribution of its own Common Stock has, in the past, been
written so that it periodically expires, and is then renewed. If the statute
were to expire and not be renewed, the Company might lose the right to deduct
any remaining unused portion of its contribution.
In general, a private foundation is exempt from federal and state income
taxation. However, investment income, such as interest, dividends and capital
gains, will be subject to a federal excise tax of 2.0%. The Foundation will be
required to make various filings with the IRS to maintain its tax-exempt status
and publish related notices regarding the availability of certain information to
the public. The Foundation will also be required to file an annual report with
the Charities Bureau of the Office of the Attorney General of the State of New
York.
REGULATORY CONDITIONS IMPOSED ON THE FOUNDATION. The FDIC and the
Superintendent have required that the Foundation agree to the following
conditions: (i) the Foundation will be subject to examination by the FDIC and
the Superintendent; (ii) the Foundation must comply with supervisory directives
imposed by the FDIC and the Superintendent; (iii) the Foundation will operate in
accordance with written policies
40
<PAGE>
adopted by its Board of Directors, including a conflict of interest policy; and
(iv) any shares of Common Stock of the Company held by the Foundation must be
voted in the same ratio as all other outstanding shares of Common Stock of the
Company on all proposals considered by stockholders of the Company. The voting
restriction may be waived by the FDIC and the Superintendent under certain
conditions, as described above. The voting restriction will terminate for any
shares sold by the Foundation.
EFFECTS OF CONVERSION ON DEPOSITORS AND BORROWERS
VOTING RIGHTS. Except for the right to vote on the Conversion, the Bank's
depositors currently have no voting rights in the Bank. After the Conversion,
the Bank's depositors will have no voting rights in the Bank and will not be
able to elect directors or to otherwise participate in the conduct of the
affairs of the Bank or the Company unless they own Common Stock. The Bank will
be a wholly-owned subsidiary of the Company, which will hold all voting rights
in the Bank. The Company's stockholders will have exclusive voting rights in the
Company. Stockholders may vote on any matter to be considered by the
stockholders of the Company and will generally have one vote for each share of
Common Stock owned. See "Restrictions on Acquisition of the Company and the
Bank--Restrictions in the Company's Certificate of Incorporation and
Bylaws--Limitation on Voting Rights" for a discussion of limits on the voting
rights of the Company's stockholders.
DEPOSIT ACCOUNTS AND LOANS. The terms and conditions of each depositor's
accounts with the Bank, the account balance and the existing FDIC insurance
coverage of deposit accounts will not change due to the Conversion, except to
the extent the depositor withdraws funds to purchase Common Stock. The
Conversion will not change the terms and conditions of outstanding loans, the
balances owed, or the obligations of the borrowers under their loans from the
Bank.
TAX EFFECTS. The Bank has received an opinion from its counsel, Serchuk &
Zelermyer, LLP, stating that the Conversion will constitute a nontaxable
reorganization under Section 368(a)(1)(F) of the Internal Revenue Code. Among
other things, the opinion, which is an exhibit to the registration statement
that the Company filed with the SEC, describes the material tax consequences of
the Conversion as follows: (i) the Conversion will qualify as a reorganization
under Section 368(a)(1)(F), and the Bank will not recognize any gain or loss in
either its mutual form or its stock form, nor will the Company, due to
Conversion; (ii) the Bank will not recognize any gain or loss upon the receipt
of money from the Company for stock of the Bank, and the Company will not
recognize any gain or loss upon the receipt of money for the Common Stock; (iii)
the assets of the Bank in either its mutual or its stock form will have the same
tax basis before and after the Conversion; (iv) the holding period of the assets
of the Bank will include the pre-Conversion holding period; (v) the Eligible
Account Holders and Supplemental Eligible Account Holders will not recognize any
gain or loss when they receive deposit accounts after the Conversion equal to
their existing accounts in the Bank, plus an interest in the liquidation account
of the Bank after the Conversion; (vi) the non-transferable subscription rights
given to certain depositors in the Subscription Offering are taxable to the
recipient to the extent the subscription rights have value; (vii) the tax basis
of each account holder's accounts in the Bank after the Conversion will be the
same as the tax basis before Conversion minus the fair market value of the
non-transferable subscription rights received and increased by the amount, if
any, of gain recognized on the exchange; (viii) the tax basis of each
depositor's interest in the liquidation account will be zero; (ix) the holding
period of the Common Stock acquired through the exercise of subscription rights
shall begin when the subscription rights are exercised; (x) the Bank in its
stock form will succeed to and take into account the earnings and profits or
deficit in earnings and profits of the Bank, in its mutual form, as of the date
of Conversion; (xi) the Bank, immediately after Conversion, will succeed to the
bad debt reserve accounts of the Bank, in its mutual form, and the bad debt
reserves will have the same character in the hands of the Bank after Conversion
as if no distribution or transfer had occurred; and (xii) the creation of the
liquidation account will have no effect on the Bank's taxable income,
deductions, or addition to reserve for bad debts either in its mutual or stock
form.
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<PAGE>
The opinion of Serchuk & Zelermyer, LLP is based in part on the assumption
that the exercise price of the subscription rights to purchase Common Stock will
be approximately equal to the fair market value of that Common Stock at the time
of the completion of the Conversion. With respect to the subscription rights,
the Bank has received a letter from RP Financial, LC., which, based on certain
assumptions, concludes that the subscription rights have no economic value when
distributed or exercised, whether or not a Community Offering or other purchase
arrangement takes place. That conclusion is based on the fact that such rights
are: (i) acquired by the recipients without payment, (ii) non-transferable,
(iii) of short duration, and (iv) afford the recipients the right only to
purchase Common Stock at a price equal to its estimated fair market value, which
will be the same price at which shares of Common Stock for which no subscription
right is received in the Subscription Offering may be offered in the Community
Offering or Syndicated Community Offering. If the subscription rights are deemed
to have an ascertainable value, receipt of such rights would likely be taxable
only to those persons who exercise the subscription rights in an amount equal to
such value (either as a capital gain or ordinary income), and the Bank could
recognize gain on the distribution of subscription rights.
The Bank is subject to New York State taxation and has received the opinion
of Serchuk & Zelermyer, LLP that the Conversion will be treated for New York
state tax purposes similar to the Conversion's treatment for federal tax
purposes.
Unlike a private letter ruling, the opinion of Serchuk & Zelermyer, LLP and
the conclusion of RP Financial, LC. have no binding effect or official status,
and no assurance can be given that the conclusions reached in any of those
opinions would be sustained by a court if contested by the IRS or the New York
State tax authorities. DEPOSITORS WITH SUBSCRIPTION RIGHTS ARE ENCOURAGED TO
CONSULT WITH THEIR OWN TAX ADVISERS AS TO THE TAX CONSEQUENCES IF THE
SUBSCRIPTION RIGHTS ARE DEEMED TO HAVE AN ASCERTAINABLE VALUE.
LIQUIDATION RIGHTS. The Bank has no plans to liquidate. However, if there
is ever a complete liquidation of the Bank, either before or after the
Conversion, deposit account holders will receive the protection of FDIC
insurance up to applicable limits. Additional liquidation rights before and
after the Conversion are described below.
No savings bank chartered under New York State law has ever, to the Bank's
knowledge, liquidated and, after paying all its deposits and other debts,
distributed any remaining assets to depositors. However, it can be argued that
depositors of a mutual form savings bank would receive a share of any assets of
that bank remaining after payment of claims of all creditors, including the
claims of all depositors for the withdrawal value of their accounts.
After the Conversion, each depositor, in the event of a complete
liquidation, would have a claim of the same general priority as the claims of
all other general creditors of the Bank. Therefore, except for the liquidation
account described below, the depositor's claim would be solely for the balance
in his or her deposit account plus accrued interest. The depositor would have no
interest in the value of the Bank above that amount.
The Plan of Conversion provides that the Bank shall establish, upon the
completion of the Conversion, a "liquidation account" for the benefit of
Eligible Account Holders and Supplemental Eligible Account Holders in an amount
equal to the net worth of the Bank as of the latest practicable date prior to
the Conversion. Each Eligible Account Holder and Supplemental Eligible Account
Holder will have an initial interest in such liquidation account for each
deposit account held in the Bank on the applicable record date. An Eligible
Account Holder's and Supplemental Eligible Account Holder's interest as to each
deposit account will be in the same proportion to the total liquidation account
as the balance in his or her account on the Eligibility Record Date (December
31, 1996) and the Supplemental Eligibility Record Date (June 30, 1998),
respectively, was to the aggregate balance in all deposit accounts of Eligible
Account Holders and Supplemental Eligible Account Holders on such date. However,
if the amount in any Eligible Account Holder's or Supplemental Eligible Account
Holder's deposit account at the close of business on any annual closing date of
the Bank is less than the lowest amount in such account on the Eligibility
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<PAGE>
Record Date and/or the Supplemental Eligibility Record Date, as the case may be
or at the close of business on any previous annual closing date after the
Eligibility Record Date and/or the Supplemental Eligibility Record Date, then
the account holder's interest in the liquidation account will be reduced by an
amount proportionate to any such reduction. The interest of an account holder in
the liquidation account will never increase despite any increase in the balance
of the account holder's related accounts after the Conversion. The account
holder's interest will cease to exist if such deposit account is closed. Savings
certificates will be deemed closed when they mature.
Any assets remaining after the above liquidation rights of Eligible Account
Holders and Supplemental Eligible Account Holders are 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 insured savings institution is the surviving institution,
is deemed to be a complete liquidation for purposes of distribution of the
liquidation account and, in any such transaction, the liquidation account would
be assumed to the full extent required by regulations of the Banking Department
as then in effect.
SUBSCRIPTION OFFERING.
In accordance with the Conversion Regulations and FDIC policy,
non-transferable subscription rights have been granted under the Plan of
Conversion to the following persons and entities in the following order of
priority:
FIRST PRIORITY: ELIGIBLE ACCOUNT HOLDERS. Each Eligible Account Holder
(depositors of the Bank on December 31, 1996 with balances of at least $100)
will receive non-transferable subscription rights on a priority basis to
purchase up to 15,000 shares ($150,000) of Common Stock. If Eligible Account
Holders exercise subscription rights for more shares than the total number
available, shares shall be allocated first to permit each subscriber, to the
extent possible, to purchase 100 shares or the total amount of his or her
subscription, whichever is less. Remaining shares shall be allocated to each
Eligible Account Holder based on the proportion that his or her qualifying
deposits bear to the total qualifying deposits of all subscribing Eligible
Account Holders. Excess shares shall be reallocated (one or more times as
necessary) among those Eligible Account Holders whose subscriptions are still
not fully satisfied on the same principle until all available shares have been
allocated or all subscriptions satisfied. Subscription rights received by
officers and directors in this category based on their increased deposits in the
Bank in the year preceding December 31, 1996, are subordinated to the
subscription rights of other Eligible Account Holders.
SECOND PRIORITY: EMPLOYEE PLANS. Tax-qualified employee benefit plans of the
Bank or the Company have been granted subscription rights to purchase up to 10%
of the total shares issued in the Conversion. The ESOP, as such a plan, intends
to purchase up to 8% of the Common Stock issued in the Conversion, including
Common Stock contributed to the Foundation. No other employee plan will purchase
any Common Stock in the Conversion, except that employees of the Bank may
exercise their subscription rights, if they were depositors of the Bank at the
applicable dates, through the Bank's 401(k) Plan, which will then subscribe for
stock using funds allocated to those employees under the 401(k) Plan.
The right of the ESOP to purchase the Common Stock is subordinate to the
subscription rights of the Eligible Account Holders. If all the Common Stock
sold in the Conversion is purchased by subscribing Eligible Account Holders,
then the ESOP expects to purchase 8% of the Common Stock issued in the
Conversion on the open market or through privately negotiated transactions after
the Conversion.
THIRD PRIORITY: SUPPLEMENTAL ELIGIBLE ACCOUNT HOLDERS. Each Supplemental
Eligible Account Holder (depositors of the Bank on June 30, 1998 with balances
of at least $100 who are not Eligible Account Holders) will receive
non-transferable subscription rights to purchase 15,000 shares ($150,000) of
Common Stock. If Supplemental Eligible Account Holders exercise subscription
rights for more shares than the total
43
<PAGE>
number of shares remaining after satisfying higher priority subscription rights,
shares shall be allocated in the same manner as described above regarding
Eligible Account Holders.
The subscription rights of Supplemental Eligible Account Holders are
subordinate to the rights of the Eligible Account Holders and the ESOP to
subscribe for Common Stock.
SUBSCRIPTION OFFERING EXPIRATION DATE. THE SUBSCRIPTION OFFERING WILL EXPIRE
AT 12:00 NOON, NEW YORK TIME, ON SEPTEMBER 16, 1998, UNLESS THE SUBSCRIPTION
OFFERING IS EXTENDED, AT THE DISCRETION OF THE BOARD OF DIRECTORS, UP TO AN
ADDITIONAL 45 DAYS WITH THE APPROVAL OF THE SUPERINTENDENT AND THE FDIC, IF
NECESSARY, BUT WITHOUT ADDITIONAL NOTICE TO SUBSCRIBERS (THE "SUBSCRIPTION
OFFERING EXPIRATION DATE"). SUBSCRIPTION RIGHTS WILL BECOME VOID IF NOT
EXERCISED ON OR PRIOR TO THE SUBSCRIPTION OFFERING EXPIRATION DATE.
SEE "--PURCHASING COMMON STOCK" FOR A DESCRIPTION OF HOW TO SUBSCRIBE FOR COMMON
STOCK. IF THE CONVERSION IS NOT COMPLETED BY OCTOBER 31, 1998 (45 DAYS AFTER
SEPTEMBER 16, 1998), THEN SUBSCRIBERS WILL BE RESOLICITED AND WILL HAVE AN
OPPORTUNITY TO RECEIVE A REFUND OF AMOUNTS PAID, WITH INTEREST.
COMMUNITY OFFERING
Any shares of Common Stock not subscribed for in the Subscription Offering
will be offered for sale in a Community Offering to the general public with a
preference to natural persons residing in Cortland County. The Community
Offering, if any, shall be for a period of not more than 45 days unless extended
by the Company and the Bank, with the approval of the Superintendent and the
FDIC, if necessary, and shall commence at the same time as, during or promptly
after the Subscription Offering. The Community Offering, if any, can be
terminated at any time without notice. The Common Stock will be offered and sold
in the Community Offering to achieve a wide distribution of the Common Stock. No
person, by himself or herself, or with an associate or group of persons acting
in concert, may subscribe for or purchase more than $150,000 of Common Stock
offered in the Community Offering. Further, the Company may limit total
subscriptions so as to assure that the number of shares available for the public
offering may be up to a specified percentage of the number of shares of Common
Stock. Finally, the Company may reserve shares offered in the Community Offering
for sales to institutional investors.
The term "residing in Cortland County" shall mean occupying a dwelling as a
primary residence within Cortland County, having an intent to remain within
Cortland County for a period of time, and manifesting the genuineness of that
intent by establishing an ongoing physical presence together with an indication
that such presence is not transitory. The Bank may use deposit or loan records
or other evidence provided to it to make a determination as to whether a person
is residing in Cortland County. In all cases, the determination shall be in the
sole discretion of the Bank and the Company.
The Bank and the Company, in their sole discretion, may reject
subscriptions, in whole or in part, received from any person.
SYNDICATED COMMUNITY OFFERING.
Any shares of Common Stock not sold in the Subscription Offering or directly
by the Bank and the Company in the Community Offering, if any, may be offered
for sale to the general public by a selling group of broker-dealers in a
Syndicated Community Offering, subject to terms, conditions and procedures as
may be determined by the Bank and the Company in a manner that is intended to
achieve a wide distribution of the Common Stock subject to the rights of the
Company to accept or reject in whole or in part all orders in the Syndicated
Community Offering. If held, it is expected that the Syndicated Community
Offering will commence as soon as practicable after termination of the
Subscription Offering and the direct Community Offering, if any. The Syndicated
Community Offering shall be completed within 45 days after the termination of
the Subscription Offering, unless such period is extended by the Company and the
Bank with the approval of the Superintendent and the FDIC, if necessary.
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If for any reason a Syndicated Community Offering of unsubscribed shares of
Common Stock cannot be effected and any shares remain unsold after the
Subscription Offering and the direct Community Offering, if any, the Boards of
Directors of the Company and the Bank will seek to make other arrangements for
the sale of the remaining shares. Such other arrangements will be subject to the
approval of the Superintendent and the FDIC and to compliance with applicable
state and federal securities laws.
PURCHASE LIMITATIONS
Each purchaser must purchase at least 25 shares. No person, together with
any associate or group of persons acting together, may subscribe for or purchase
more than 15,000 shares ($150,000) of Common Stock, except that the ESOP may
purchase 8% including shares contributed to the Foundation. If more than one
person is named as a depositor on any account or accounts, such as a joint
account, all named depositors on those accounts will be considered to be acting
together for the purpose of the limit so that they may not purchase, in total
including their individual orders and orders by the group, more than $150,000 of
Common Stock. The Board of Directors, in its sole discretion, may increase or
decrease the purchase limitation without the approval of the depositors of the
Bank and without resoliciting subscribers except as described below, provided
that the maximum purchase limitation may not be increased to a percentage in
excess of 5% of the Common Stock sold. The maximum purchase limitation can be
further increased to 9.99% if the amount by which individual subscriptions
exceed 5% does not, in the aggregate, exceed 10%. If the maximum purchase limit
is increased, subscribers who submit orders for $150,000 of Common Stock will be
resolicited by mail and given an opportunity to increase their orders and other
subscribers may also be resolicited. The principal factor that would be
considered in determining to increase the limit is the dollar amount of
subscriptions received.
The officers and directors of the Bank or their associates may not purchase
more than 25% of the shares of the Common Stock sold in the Conversion. The
directors and officers of the Bank and the Company are not deemed to be acting
in concert solely by reason of their being directors and officers of the Bank or
the Company.
The term "associate" of a person means (i) any corporation or organization
(other than the Bank, the Company or a majority-owned subsidiary of the Bank) of
which such person is an officer or partner or is, directly or indirectly, the
beneficial owner of 10% or more of any class of equity securities, (ii) any
trust or other estate in which such person has a substantial beneficial interest
or as to which such person serves as trustee or in a similar fiduciary capacity
(except that the ESOP and, in some cases, other benefit plans of the Bank or the
Company are generally not associates), and (iii) 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 or the Company, or any of its parents
or subsidiaries. For example, a corporation of which a person serves as an
officer would be an associate of such person, and therefore, all shares
purchased by such corporation would be included with the number of shares which
such person individually could purchase under the above limitations.
Persons and entities will be considered to be acting together, or acting in
concert, if they are knowingly participating in a joint activity or independent
conscious parallel action towards a common goal, even if there is no express
agreement to do so, and also if there is any combination or pooling of their
voting or other interests in the Common Stock for a common purpose under any
contract, agreement or understanding, even if not in writing. Examples of two
people or entities who will be considered to be acting together in their
purchases of Common Stock include (i) one person providing another person with
money or credit, or arranging for that person to obtain money or credit, so that
the second person can purchase Common Stock; (ii) two people agreeing to share
in the profits from the sale of Common Stock owned by one of them; (iii) an
officer, director, partner or principal owner of any business entity purchasing
stock while that business entity is itself purchasing stock; and (iv) a trustee
of a trust and the beneficiary of the trust both purchasing Common Stock. The
first two examples are also unlawful transfers of subscription rights. Any
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indirect purchase through a nominee, agent or representative will be considered
to be a purchase by the person appointing the nominee, agent or representative.
Each person purchasing Common Stock in the Conversion will be deemed to
confirm that such purchase does not conflict with the maximum purchase limit. If
the purchase limit is violated by any person (including any associate or group
of persons affiliated or otherwise acting in concert with such persons), the
Company will have the right to repurchase at $10.00 per share all shares
acquired in excess of the purchase limit or, if such excess shares have been
sold, to receive the difference between the $10.00 per share and the price at
which such excess shares were sold. This right will be assignable by the
Company.
Common Stock purchased in the Conversion will be freely transferable, except
for shares purchased by directors and officers of the Bank. For certain
restrictions on the Common Stock purchased by directors and officers, see
"--Restrictions on Transferability of Subscription Rights and Common Stock." In
addition, members of the National Association of Securities Dealers, Inc. and
their associates are subject to certain restrictions on the transfer of
securities purchased by using subscription rights and to certain reporting
requirements upon purchase of such securities.
RESTRICTIONS ON TRANSFERABILITY OF SUBSCRIPTION RIGHTS AND COMMON STOCK
DEPOSITORS WITH SUBSCRIPTION RIGHTS MAY NOT TRANSFER OR ENTER INTO ANY
AGREEMENT OR UNDERSTANDING TO TRANSFER THE LEGAL OR BENEFICIAL OWNERSHIP OF THE
SUBSCRIPTION RIGHTS THAT THEY RECEIVE IN THE SUBSCRIPTION OFFERING OR THE SHARES
OF COMMON STOCK TO BE ISSUED UPON THE EXERCISE OF THOSE RIGHTS. SUBSCRIPTION
RIGHTS MAY BE EXERCISED ONLY BY THE PERSON TO WHOM THEY ARE GRANTED AND ONLY FOR
HIS OR HER ACCOUNT. EACH PERSON SUBSCRIBING FOR SHARES WILL BE REQUIRED TO
CERTIFY THAT HE OR SHE IS PURCHASING SHARES SOLELY FOR HIS OR HER OWN ACCOUNT
AND THAT HE OR SHE HAS NO AGREEMENT OR UNDERSTANDING REGARDING THE SALE OR
TRANSFER OF SUCH SHARES. THE CONVERSION REGULATIONS ALSO PROHIBIT ANY PERSON
FROM OFFERING OR MAKING AN ANNOUNCEMENT OF AN OFFER OR INTENT TO MAKE AN OFFER
TO PURCHASE SUCH SUBSCRIPTION RIGHTS OR SHARES OF COMMON STOCK PRIOR TO THE
COMPLETION OF THE CONVERSION.
THE BANK AND THE COMPANY WILL PURSUE ANY AND ALL LEGAL AND EQUITABLE
REMEDIES IF THEY BECOME AWARE OF THE TRANSFER OF SUBSCRIPTION RIGHTS AND WILL
NOT HONOR ORDERS KNOWN BY THEM TO INVOLVE THE TRANSFER OF SUCH RIGHTS.
SUBSCRIBERS MUST PROVIDE ALL INFORMATION REQUESTED BY THE COMPANY TO ESTABLISH
THAT PURCHASE ORDERS DO NOT VIOLATE THE MAXIMUM PURCHASE LIMITS AND THE
RESTRICTIONS ON THE TRANSFER OF SUBSCRIPTION RIGHTS.
Shares of Common Stock purchased in the Subscription Offering by directors
and officers of the Company and the Bank may not be sold for one year after the
Conversion, except for a disposition of shares in the event of the death of the
stockholder. Common Stock issued by the Company to directors and officers in the
Conversion will bear a legend giving appropriate notice of the restriction, and,
in addition, the Company will give appropriate instructions to the transfer
agent for the Common Stock with respect to the restriction. Any shares issued to
directors and officers as a stock dividend, stock split, or otherwise with
respect to restricted stock shall be subject to the same restrictions.
For three years after the Conversion, no director or officer of the Bank,
the Company or their associates may, without the prior approval of the
Superintendent, purchase any shares of Common Stock other than from or through a
registered broker or dealer. This restriction does not apply however to the
purchase of Common Stock pursuant to the Stock Option Plan or the PRRP to be
established after the Conversion.
PURCHASING COMMON STOCK
Subscribers in the Subscription Offering must deliver to the Bank, on or
before the Subscription Offering Expiration Date, (i) an original Subscription
Offering stock order form (an "Order Form") fully completed and signed, (ii) a
certification form properly signed, and (iii) payment in full. PHOTOCOPIES OR
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OTHER NON-ORIGINAL ORDER FORMS AND FAXED ORDER FORMS WILL NOT BE ACCEPTED. The
ESOP will not be required to pay for its shares until the Conversion is
completed. All subscription rights will expire at 12:00 noon, New York time, on
September 16, 1998, whether or not the Bank has been able to locate each person
entitled to such subscription rights. ONCE SUBMITTED, SUBSCRIPTION ORDERS CANNOT
BE REVOKED WITHOUT THE CONSENT OF THE BANK AND THE COMPANY UNLESS THE CONVERSION
IS NOT COMPLETED WITHIN 45 DAYS AFTER THE SUBSCRIPTION OFFERING EXPIRATION DATE.
If an Order Form (i) is not delivered to the addressee by the United States
Postal Service or the Bank is otherwise unable to locate the addressee; (ii) is
not received by the Bank or is received after the Subscription Offering
Expiration Date; (iii) is defectively completed or executed; (iv) is not
accompanied by the full required payment (including balances in deposit accounts
covered by withdrawal authorizations which are insufficient to pay the required
payment); or (v) is not mailed pursuant to a "no mail" order placed in effect by
the account holder, then in any such event the related subscription rights will
lapse as though the person holding such rights failed to return the completed
Order Form within the time period specified. The Company may, but will not be
required to, waive any irregularity on any Order Form or require the submission
of corrected Order Forms or the remittance of full payment for subscribed shares
by such date as the Company may otherwise specify. The waiver of an irregularity
on an Order Form in no way obligates the Company to waive any other irregularity
on any other Order Form. Waivers will be considered on a case by case basis. The
interpretation by the Bank or Company of the terms and conditions of the Plan of
Conversion and of the acceptability of the Order Forms will be final, subject to
the authority of the Superintendent and the FDIC.
To ensure that each purchaser receives a Prospectus at least 48 hours before
the applicable offering expires as required by Rule 15c2-8 of the Securities
Exchange Act of 1934, as amended, no Prospectus will be mailed any later than
five days prior to the Subscription Offering Expiration Date or hand delivered
any later than two days prior to the Subscription Offering Expiration Date.
Execution of an Order Form will confirm receipt or delivery satisfying Rule
15c2-8. Order Forms will only be distributed with a Prospectus.
Payment for shares of Common Stock at $10.00 per share may be made (i) in
cash, if delivered in person, (ii) by check or money order, or (iii) for shares
of Common Stock subscribed for in the Subscription Offering, by authorization of
withdrawal from savings accounts (including savings certificates) maintained
with the Bank. Payment by wire transfer or payment from private third parties
will not be accepted. Payments made in cash or by check or money order will be
placed in a segregated account and interest will be paid by the Bank at 2.75%
per annum from the date payment is received until the Conversion is completed or
terminated. If the Conversion is not consummated for any reason, all funds
submitted to purchase Common Stock will be refunded promptly with interest as
described above.
The Order Form provides the method for subscribers to authorize withdrawals
from deposit accounts. Once a subscriber authorizes a withdrawal to purchase
Common Stock, the withdrawal amount may not be used for any other purpose until
the Conversion has been completed or terminated. However, all sums authorized
for withdrawal will continue to earn interest at the regular rate for the
account until the Conversion has been completed or terminated. Interest
penalties for early withdrawal applicable to savings certificates will not apply
to withdrawals authorized for the purchase of shares. If a partial withdrawal
results in a certificate of deposit with a balance less than the applicable
minimum balance requirement, the certificate shall be canceled at the time of
withdrawal, without penalty, and the remaining balance will earn interest at the
passbook savings account rate after the withdrawal.
Owners of self-directed IRAs may use the assets of their IRAs to purchase
Common Stock, but only if the IRAs are not maintained at the Bank. Persons with
IRAs at the Bank must transfer their accounts to an unaffiliated institution or
broker to purchase Common Stock. Instructions on how to transfer IRAs at the
Bank can be obtained from the Stock Information Center located at the Bank's
main office. Depositors who want to use their IRAs at Cortland Savings Bank to
purchase Common Stock should contact the Stock Information Center no later than
September 10, 1998.
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IT IS UNLAWFUL FOR THE BANK TO LEND FUNDS OR EXTEND CREDIT TO ANY PERSON TO
PURCHASE COMMON STOCK IN THE CONVERSION.
DELIVERY OF STOCK CERTIFICATES. Certificates representing Common Stock
issued in the Conversion will be mailed to the persons entitled to them at the
address noted on the Order Form as soon as practicable after the Conversion. Any
certificates returned as undeliverable will be held until claimed by persons
legally entitled to them or otherwise disposed of in accordance with applicable
law. Until certificates for the Common Stock are available and delivered to
subscribers, subscribers may not be able to sell their shares of Common Stock.
MARKETING ARRANGEMENTS
To assist in the marketing of the Common Stock, the Bank has retained CIBC
Oppenheimer Corp. and Trident Securities, Inc., both of which are broker-dealers
registered with the NASD. They have agreed to use their reasonable best efforts
to assist the Company in soliciting subscriptions and purchase orders for Common
Stock. CIBC Oppenheimer Corp. and Trident Securities, Inc. will assist the Bank
as follows: (i) in training and educating the Bank's employees regarding the
mechanics and regulatory requirements of the sale of Common Stock; (ii) in
conducting informational meetings for employees, customers and the general
public; (iii) in coordinating the selling efforts in the Bank's local
communities; and (iv) in soliciting orders for Common Stock. For these services,
CIBC Oppenheimer Corp. and Trident Securities, Inc. will receive a fee of 1.15%
of the dollar amount of the Common Stock sold in the Subscription Offering and
the Community Offering, excluding shares sold to (i) the Bank's and the
Company's directors and officers, and members of their immediate families and
any Individual Retirement Account or employee benefit plan for the benefit of
such persons and (ii) any employee benefit plan of the Bank or the Company;
provided, however, that the minimum fee payable to CIBC Oppenheimer Corp. and
Trident Securities, Inc. is $750,000. If there is a Syndicated Community
Offering through a syndicate of broker-dealers, the aggregate fee shall not
exceed 4.5% of the dollar amount of the Common Stock sold by CIBC Oppenheimer
Corp. and Trident Securities, Inc. and other broker-dealers under selected
broker-dealer agreements.
The Bank also will reimburse CIBC Oppenheimer Corp. and Trident Securities,
Inc. for their reasonable out-of-pocket expenses associated with their marketing
effort not to exceed $25,000, excluding agreed upon disbursements, and the Bank
will pay the fees of their attorneys not to exceed $75,000 plus out-of-pocket
expenses and disbursements. The Bank has made an advance payment of $10,000 to
each of CIBC Oppenheimer Corp. and Trident Securities, Inc. The Bank will
indemnify CIBC Oppenheimer Corp. and Trident Securities, Inc. against
liabilities and expenses (including legal fees) incurred in connection with
certain claims or litigation arising out of the services to be provided by CIBC
Oppenheimer Corp. and Trident Securities, Inc. pursuant to their engagement by
the Bank and the Company as their financial advisor in connection with the
Conversion, including liabilities under the Securities Act of 1933. See "Pro
Forma Data" for further information regarding amounts payable to CIBC
Oppenheimer Corp. and Trident Securities, Inc.
The Common Stock will be offered principally by the distribution of this
Prospectus and through activities conducted at a Stock Information Center
located at the Bank's main office, in an area that is not publicly accessible.
The Stock Information Center is expected to operate during normal business
hours. It is expected that a registered representative employed by CIBC
Oppenheimer Corp. or Trident Securities, Inc. will be working at, and
supervising the operation of, the Stock Information Center. CIBC Oppenheimer
Corp. and Trident Securities, Inc. will be responsible for overseeing the
mailing of materials relating to the sale of Common Stock, responding to
questions regarding the Conversion and processing Order Forms. It is expected
that Bank and Company personnel will be present in the Stock Information Center
to assist with clerical matters and to answer questions related solely to the
business of the Bank.
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Directors and executive officers of the Company may participate in the
solicitation of offers to purchase Common Stock in jurisdictions where such
participation is not prohibited. Other employees of the Company and the Bank may
participate in the sale of Common Stock in ministerial capacities or providing
clerical work in effecting a sales transaction. Such other employees have been
instructed not to solicit offers to purchase Common Stock or provide advice
regarding the purchase of Common Stock. Questions of prospective purchasers will
be directed to executive officers of the Company or registered representatives
of CIBC Oppenheimer Corp. or Trident Securities, Inc. The Company will rely on
Rule 3a4-1 of the Securities Exchange Act of 1934, as amended, and sales of
Common Stock will be conducted in accordance with Rule 3a4-1, so as to permit
officers, directors, and 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 such person's solicitations or other participation in the
sale of Common Stock by the payment of commissions or other remuneration based
either directly or indirectly on transactions in the Common Stock.
The Company will make reasonable efforts to comply with the securities laws
of all states in the United States in which persons entitled to subscribe for
the Common Stock pursuant to the Plan of Conversion reside. However, no person
will be offered or allowed to purchase any Common Stock under the Plan of
Conversion if he or she resides in a foreign country. No payments will be made
in lieu of the granting of subscription rights to any such person.
EFFECT OF DELAY IN CONSUMMATING THE CONVERSION
The completion of the Conversion will depend, in part, upon the Bank's
operating results, stock market conditions and general economic conditions. The
Bank and the Company anticipate completing the Conversion within 45 days after
the special meeting of depositors held to approve the Conversion. However, if
the Boards of Directors of the Bank and the Company are of the opinion that
economic conditions generally or the market for publicly traded thrift
institution stocks make it undesirable to sell the Common Stock necessary to
complete the Conversion, then the sale may be delayed until conditions improve.
A material delay in the completion of the sale of Common Stock may result in
a significant increase in the costs of completing the Conversion. Significant
changes in the Bank's operations and financial condition, the aggregate market
value of the Common Stock to be issued in the Conversion and general market
conditions may occur during such material delay. If the Conversion is not
completed within 24 months after the approval of the Plan of Conversion by the
Superintendent, the Bank would charge Conversion costs as operating expenses at
that time.
STOCK PRICING AND NUMBER OF SHARES TO BE ISSUED
RP Financial, LC., a financial consulting and appraisal firm that is
experienced in the evaluation and appraisal of business entities, including
converting thrift institutions, was retained by the Bank to prepare an appraisal
of the estimated pro forma market value, as of the completion of the Conversion,
of the Common Stock to be sold in the Conversion. RP Financial, LC. will receive
a fee of $20,000 for its appraisal and its assistance in the preparation of
related material. In addition, RP Financial, LC. will receive a fee of $7,500
for its assistance with the preparation of a business plan for the Bank and will
receive reimbursement for out-of-pocket expenses up to $5,000. The Bank has
agreed to indemnify RP Financial, LC. under certain circumstances against
liabilities and expenses (including certain legal fees) arising out of or based
on any misstatement or untrue statement of a material fact contained in the
information supplied by the Bank to RP Financial, LC., except where RP
Financial, LC. is determined to have been negligent or failed to exercise due
diligence in the preparation of its appraisal. RP Financial, LC. is independent
of the Company and the Bank.
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The appraisal contains an analysis of a number of factors including, but not
limited to, the Bank's financial condition and operating trends, the competitive
environment within which the Bank operates, operating trends of certain thrift
institutions and their holding companies, relevant economic conditions, both
nationally and in the State of New York which affect the operations of thrift
institutions, and stock market values of certain institutions. In addition, RP
Financial, LC. has advised the Bank that it has considered and will consider
both the effect of the additional capital raised by the sale of the Common Stock
and the effect of the contribution of Common Stock to the Foundation on the
estimated market value of the Common Stock. The Board of Directors has reviewed
the appraisal, including the stated methodology of RP Financial, LC. and the
assumptions used in the preparation of the appraisal. The Board of Directors is
relying upon the expertise, experience and independence of RP Financial, LC. and
is not qualified to determine the appropriateness of the assumptions or the
methodology. The appraisal has been filed as an exhibit to the registration
statement filed with the SEC in connection with the Conversion. See "Additional
Information."
On the basis of the above, RP Financial, LC. has determined, in its opinion,
that as of June 5, 1998, the estimated aggregate pro forma market value of the
Common Stock to be issued in the Conversion was within a range of from
$52,062,500 to $70,437,500 with a midpoint of $61,250,000. The Company has
determined to offer the shares in the Conversion at a price of $10.00 per share.
Therefore, the Company expects to issue, and is offering, from 5,206,250 to
7,043,750 shares of Common Stock, subject to increase to up to 8,100,312 shares
of Common Stock as described below.
RP Financial, LC. will update its appraisal prior to consummation of the
Conversion. If the final estimated aggregate pro forma market value of the
Common Stock to be issued in the Conversion is between $70,437,500 (the maximum
of the Valuation Range) and $81,003,120 (15% above the maximum of the Valuation
Range), the total number of shares to be sold may be increased without
resolicitation of subscribers and without a new vote of the Bank's depositors,
unless required by the Superintendent and the FDIC. Any such increase would be
subject to review. If the final estimated value is less than $52,062,500 or more
than $81,003,120, then subscribers will be resolicited and, unless the
Superintendent and the FDIC permit otherwise, a new vote of the Bank's
depositors to approve the Conversion will be required. No sale of the shares
will take place unless RP Financial, LC. first confirms to the Superintendent
and the FDIC that, to the best of RP Financial, LC.'s knowledge and judgment,
nothing of a material nature has occurred which would cause it to conclude that
the aggregate purchase price of all shares to be sold in the Conversion is
incompatible with its estimate of the aggregate pro forma market value of the
Common Stock at the time of the sale.
THE APPRAISAL BY RP FINANCIAL, LC. IS NOT INTENDED, AND MUST NOT BE
CONSTRUED, AS A RECOMMENDATION OF ANY KIND AS TO THE ADVISABILITY OF PURCHASING
THE COMMON STOCK. IN PREPARING THE APPRAISAL, RP FINANCIAL, LC. HAS RELIED UPON
AND ASSUMED THE ACCURACY AND COMPLETENESS OF FINANCIAL AND STATISTICAL
INFORMATION PROVIDED BY THE BANK. RP FINANCIAL, LC. DID NOT INDEPENDENTLY VERIFY
THE FINANCIAL STATEMENTS AND OTHER INFORMATION PROVIDED BY THE BANK, NOR DID RP
FINANCIAL, LC. VALUE INDEPENDENTLY THE ASSETS AND LIABILITIES OF THE BANK. THE
APPRAISAL CONSIDERS THE BANK ONLY AS A GOING CONCERN AND SHOULD NOT BE
CONSIDERED AS AN INDICATION OF THE LIQUIDATION VALUE OF THE BANK. MOREOVER,
BECAUSE THE APPRAISAL 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 THE COMMON STOCK WILL BE ABLE TO
SELL SUCH SHARES AT PRICES AT OR ABOVE THE $10.00 PURCHASE PRICE.
An increase in the total number of shares to be issued in the Conversion
would decrease both a subscriber's ownership interest and the estimated pro
forma equity and net income on a per share basis while increasing the estimated
pro forma equity and net income on an aggregate basis. In the event of a
material reduction in the valuation, the Bank may decrease the number of shares
to reflect the reduced valuation. A decrease in the number of shares to be
issued in the Conversion would increase both a subscriber's ownership interest
and the estimated pro forma equity and net income on a per share basis while
decreasing estimated equity and net income on an aggregate basis.
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RESTRICTIONS ON REPURCHASE OF COMMON STOCK
Generally, unless the Superintendent consents, within one year after the
Conversion, the Company may not repurchase Common Stock, and in the second and
third year following the Conversion, the Company may only repurchase Common
Stock as part of an open-market stock repurchase program in an amount up to 5%
of the outstanding stock during each of those two years, provided the repurchase
does not cause the Bank to become undercapitalized. Similarly, the FDIC does not
permit repurchases during the first year after the Conversion, except that not
more than 5% of the outstanding Common Stock may be repurchased during the first
year upon a showing of a compelling and valid business reason. In addition, SEC
rules also restrict the method, time, price, and number of shares of Common
Stock that may be repurchased by the Company and affiliated purchasers. If, in
the future, the rules and regulations regarding the repurchase of Common Stock
are liberalized, the Company may utilize the rules and regulations then in
effect.
INTERPRETATION AND AMENDMENT OF THE PLAN
To the extent permitted by law, all interpretations of the Plan of
Conversion by the Board of Directors of the Bank will be final; however, such
interpretations shall have no binding effect on the Superintendent and the FDIC.
If deemed necessary or desirable by the Board of Directors, the Plan of
Conversion may be substantively amended by the Board of Directors with the
concurrence of the Superintendent and the FDIC, except that if the Conversion
Regulations are liberalized after the approval of the Plan of Conversion by the
Superintendent, the FDIC and the Bank's depositors, the Board of Directors may
amend the Plan of Conversion to conform to the Conversion Regulations without
further depositor approval to the extent permitted by law. An amendment to the
Plan of Conversion that would result in a material adverse change in the terms
of the Conversion would require a resolicitation of subscribers.
CONDITIONS AND TERMINATION
Completion of the Conversion requires the approval of the Plan of Conversion
by the affirmative vote of not less than a majority of the total number of votes
of the depositors of the Bank eligible to be cast and by the affirmative vote of
at least 75% in amount of deposit liabilities of the depositors represented in
person or by proxy and the sale of all shares of Common Stock within 24 months
after the Superintendent approves the Plan of Conversion. If these conditions
are not satisfied, the Conversion will not occur and the Bank will continue its
business in the mutual form of organization. The Plan of Conversion may be
terminated by the Board of Directors at any time prior to the meeting of
depositors to approve the Conversion and after such meeting with the approval of
the Superintendent.
OTHER
ALL STATEMENTS MADE IN THIS PROSPECTUS ARE QUALIFIED BY THE CONTENTS OF THE
PLAN OF CONVERSION, THE MATERIAL TERMS OF WHICH ARE SET FORTH IN THIS
PROSPECTUS. THE PLAN OF CONVERSION IS ATTACHED TO THE PROXY STATEMENT
DISTRIBUTED IN CONNECTION WITH THE MEETING OF DEPOSITORS TO APPROVE THE
CONVERSION. COPIES OF THE PLAN OF CONVERSION ARE ALSO AVAILABLE FROM THE BANK
AND IT SHOULD BE CONSULTED FOR FURTHER INFORMATION.
APPROVAL OF THE PLAN OF CONVERSION BY THE BANK'S DEPOSITORS AUTHORIZES THE
BOARD OF DIRECTORS TO AMEND OR TERMINATE IT.
51
<PAGE>
CORTLAND SAVINGS BANK--CONSOLIDATED STATEMENTS OF INCOME
The following Consolidated Statements of Income of the Bank for each of the
years in the three-year period ended December 31, 1997 are a part of the audited
consolidated financial statements which appear beginning on page F-1 of this
Prospectus. All information contained in this Prospectus for the three months
ended March 31, 1997 and 1998 is unaudited. In the opinion of management, all
adjustments necessary for a fair presentation of those interim periods have been
included and are of a normal recurring nature. Results for the three month
period ended March 31, 1998 do not necessarily indicate the results that may be
expected for the year ended December 31, 1998. These Statements of Income should
be read with the Consolidated Financial Statements and Notes and Management's
Discussion and Analysis of Financial Condition and Results of Operations
included in this Prospectus.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31, YEARS ENDED DECEMBER 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED) (IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
Interest income:
Loans....................................................... $ 3,377 $ 3,433 $ 13,582 $ 13,805 $ 14,012
Securities.................................................. 848 898 3,769 3,620 3,404
Other short-term investments................................ 86 86 316 362 395
--------- --------- --------- --------- ---------
Total interest income..................................... 4,311 4,417 17,667 17,787 17,811
Interest expense:
Deposits.................................................... 2,010 2,064 8,328 8,758 8,562
Other....................................................... -- -- -- -- 51
--------- --------- --------- --------- ---------
Total interest expense.................................... 2,010 2,064 8,328 8,758 8,613
--------- --------- --------- --------- ---------
Net interest income....................................... 2,301 2,353 9,339 9,029 9,198
Provision for loan losses..................................... 75 225 3,300 1,380 600
--------- --------- --------- --------- ---------
Net interest income after provision for loan losses......... 2,226 2,128 6,039 7,649 8,598
Non-interest income:
Service charges............................................. 184 152 636 662 651
Net gain on sale of securities.............................. 6 7 46 15 16
Nationar recovery (provision)............................... -- -- 45 -- (100)
Other....................................................... 55 60 162 93 104
--------- --------- --------- --------- ---------
Total non-interest income................................. 245 219 889 770 671
Non-interest expenses:
Salaries and employee benefits.............................. 812 804 2,928 2,862 2,789
Building, occupancy and equipment........................... 214 277 981 990 939
Postage and supplies........................................ 96 91 323 306 333
Professional fees........................................... 64 32 268 251 83
Advertising................................................. 33 22 116 103 118
Deposit insurance premium................................... 6 7 26 2 239
Real estate owned........................................... 92 21 500 260 207
Other....................................................... 328 371 1,730 1,427 1,237
--------- --------- --------- --------- ---------
Total non-interest expenses............................... 1,645 1,625 6,872 6,201 5,945
--------- --------- --------- --------- ---------
Income before income tax expense (benefit)................ 826 722 56 2,218 3,324
Income tax expense (benefit).................................. 333 311 (16) 853 1,400
--------- --------- --------- --------- ---------
Net Income.................................................. $ 493 $ 411 $ 72 $ 1,365 $ 1,924
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
See accompanying notes to consolidated financial statements
52
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL
The Company has only recently been formed and, therefore, has no results of
operations. The Bank's results of operations depend principally on its net
interest income, which is the difference between the income earned on its loans
and securities and its cost of funds, principally interest paid on deposits.
Results of operations are also affected by the provision for loan losses, the
level of non-interest income, and non-interest expenses.
Sources of non-interest income include categories such as deposit account
fees and other service charges, gains on the sale of securities and fees for
banking services such as safe deposit boxes. The largest category of
non-interest expense is compensation and benefits expense. Other principal
categories of non-interest expense are occupancy expense and real estate owned
expense, which represents expenses in connection with real estate acquired in
foreclosure or in satisfaction of a debt owed to the Bank. Through the year
ended December 31, 1995, FDIC deposit insurance premiums represented a
significant category of non-interest expense, but have not been significant
since the insurance premiums were reduced in the quarter ended September 30,
1995. See "Regulation--Banking Regulation--Insurance of Accounts."
SPECIAL MATTERS AFFECTING RESULTS OF OPERATIONS
Since late 1996, two interrelated problems have had a substantial direct
effect on the Bank's results of operations. Management has worked aggressively
to identify the scope of these problems, resolve them and recognize their
financial consequences, so that management could focus its attention on future
operations and the implementation of its strategy for the future. The two
problems are as follows.
OFFICER DEFALCATION. During the fourth quarter of 1996, the Bank discovered
that its then senior loan officer had been involved in various schemes to
defraud the Bank. These schemes included, among other things, the making of
false entries in the Bank's books, the creation of loans to borrowers who either
did not exist or were unaware of the loans and the diversion of Bank funds for
personal purposes. Upon the discovery of these matters, the officer was
dismissed and he was subsequently convicted of criminal charges as a result of
his actions. Immediately after the discovery of this matter, the Bank undertook
an investigation of transactions in which the officer was involved in order to
identify uncollectable assets resulting from his activities. As a result of this
investigation, the Bank charged off $607,000 of loans during the fourth quarter
of 1996 which the Bank believed either did not exist or were otherwise
uncollectable. In addition, the Bank identified approximately $349,000 of
improper expenses and other losses attributable to the actions of the officer
which, because they had already been recognized for financial statement
purposes, did not require any additional expense. Of this $349,000,
approximately $110,000 was incurred in various years prior to 1995,
approximately $105,000 in 1995 and approximately $134,000 in 1996.
The Bank has made a claim against its fidelity bond carrier in the amount of
approximately $1.0 million as a result of this matter. The claim is currently
under discussion with the carrier and the amount recoverable on the claim is in
dispute. No asset is recorded on the books of the Bank reflecting the value of
the claim, and if the claim is denied and subsequently determined to be
unrecoverable, no additional charge-off will result.
In addition to the direct losses caused by the officer defalcation, the Bank
has incurred expenses in connection with the investigation and resolution of the
matter. These include, in addition to time expended by directors, officers and
employees of the Bank, professional fees which would not otherwise have been
incurred totaling approximately $128,000 during the eighteen months ended March
31, 1998. Furthermore, poor supervision while the officer in question was in
charge of lending operations is believed to have
53
<PAGE>
contributed to the large volume of non-performing loans which were designated
for sale during the fourth quarter of 1997 as described in the following
discussion.
SALE OF PROBLEM LOANS. During the fourth quarter of 1997, the Bank decided
that its non-performing
loans were creating too great a strain on management resources and the work
necessary to collect those assets was diverting management from its core goal of
running the Bank in a profitable manner. Therefore, in order to improve overall
asset quality and free management from less productive tasks associated with the
resolution of problem loans, the Bank decided to seek to sell a substantial
portion of its non-performing loans to a single purchaser. During December of
1997, the Bank identified $4.3 million of loans as candidates for such a sale.
These loans were all either non-performing or were performing but had been
identified by management as potential problem loans. Approximately half of the
loans were commercial mortgage loans and approximately half were residential
mortgage loans.
When these loans were designated for prompt disposition, the Bank charged
off $1.7 million against its allowance for loan losses to reflect the fair value
of the loans. This charge-off represented the difference between the carrying
value of the loans and the amount which the Bank believed, after consultation
with loan brokers, could be realized upon a bulk sale of the loans. The Bank had
already charged off $331,000 of such loans during 1997 as a result of its
regular evaluation of loans in its portfolio.
During the first quarter of 1998, while identifying a purchaser for the loan
package and negotiating the terms of the sale, the Bank designated $661,000 of
additional loans to include in the package being sold. The Bank consummated the
sale during the first quarter of 1998 with the proceeds of $3.1 million
approximating the carrying value of the loans sold. Four of the loans originally
designated as held for sale were not sold; three because the Bank believed that
it could obtain full recovery without undue effort and one because the purchaser
refused to accept it but which was subsequently paid in full.
ANALYSIS OF NET INTEREST INCOME
Net interest income, the Bank's primary income source, depends principally
upon (i) the amount of interest-earning assets that the Bank can maintain based
upon its funding sources; (ii) the relative amounts of interest-earning assets
versus interest-bearing liabilities; and (iii) the difference between the yields
earned on those assets and the rates paid on those liabilities. Non-performing
loans adversely affect net interest income because they must still be funded by
interest-bearing liabilities, but they do not provide interest income.
Furthermore, when the Bank designates an asset as non-performing, all interest
which has been accrued but not actually received is deducted from current period
income, further reducing net interest income.
MANAGEMENT OF INTEREST RATE RISK
The principal objective of the Bank's interest rate risk policy is to avoid
taking undue interest rate risk while continuing to satisfy customer demand for
loans and deposits. In order to manage interest rate risk, management seeks to
(i) evaluate the exposure of the Bank's principal asset and liability categories
to interest rate changes, (ii) determine the level of interest rate risk
appropriate based on the Bank's business focus, operating environment, capital
level and performance objectives, and (iii) pursue strategies to invest in
assets or generate liabilities which have interest rate risk profiles that fit
the Bank's requirements. The Bank seeks to reduce the vulnerability of its
operating results to changes in interest rates by managing the ratio of assets
to liabilities which mature or have interest rate adjustments during specified
time periods. However, future changes in market interest rates remain an
uncertainty that could have a negative impact on the earnings of the Bank.
Management seeks to limit, but not eliminate, interest rate risk by offering
adjustable-rate loans and short-term commercial and consumer loans. During
periods of low interest rates as in recent years, residential mortgage loan
customers prefer fixed-rate loans. The Bank will make such loans, which can
often be made at interest rates higher than those which must then be offered to
attract borrowers willing to
54
<PAGE>
accept adjustable-rate loans. Although the Bank has not sold such loans in the
past, the Bank intends to begin selling a portion of its fixed-rate loans in the
latter part of 1998 to reduce the interest rate risk which accompanies the
making of such loans, while retaining the servicing of those loans to provide a
source of non-interest income.
The Board's Asset and Liability Committee meets quarterly for a detailed
review of interest rate risk matters based upon periodic reports prepared by
Fleet Investment Advisors, an independent consulting firm. The consultant has
been retained by the Bank to prepare a quarterly report including an estimate of
the interest rate sensitivity of the Bank's assets and liabilities and to
recommend strategies to implement the Bank's asset and liability management
goals. Interest rate pricing and interest rate risk strategy objectives are
implemented by a committee of four executive officers of the Bank. The committee
meets weekly to review the pricing of the Bank's loan and deposit products. The
Board of Directors of the Bank receives and reviews a report on the Bank's
estimated interest rate sensitivity every month. The Bank seeks to cushion its
results of operations against the effect of interest rate fluctuations by
preserving a loyal customer base with core deposits that are less prone to
gravitate to high rate deposit products as interest rates rise.
GAP ANALYSIS. The matching of assets and liabilities may be analyzed by
examining the extent to which such assets and liabilities are "interest
sensitive" and by monitoring the Bank's estimated interest sensitivity "gap." An
asset or liability is said to be interest sensitive within a specific time
period if it will mature or its interest rate will adjust (reprice) within that
time period. The interest sensitivity gap for any period of time is defined as
the difference between the amount of interest-earning assets estimated to mature
or reprice within that period and the amount of interest-bearing liabilities
estimated to mature or reprice within that same period. On a quarterly basis,
Fleet Investment Advisors provides the Bank with an analysis of the Bank's
estimated interest rate sensitivity gap, based upon assumptions developed by
that firm. At March 31, 1998, the firm estimated that the Bank's one-year gap,
the difference between the estimated amount of interest-earning assets versus
interest-bearing liabilities maturing or repricing within one year, as a
percentage of total assets, was negative 10.51%, as shown on the table below.
A gap is considered positive for any period when the amount of
interest-sensitive assets exceeds the amount of interest sensitive liabilities
estimated to reprice within such period. A gap is considered negative when the
amount of interest sensitive liabilities exceeds the amount of interest
sensitive assets estimated to reprice within a given period. Accordingly, during
a period of rising interest rates, an institution with a positive gap for that
period would expect its net interest income to increase as the cost of its
interest-bearing liabilities rises more slowly than the yield on its
interest-earning assets. The institution would expect net interest income to
decline during such period if interest rates fall. An institution with a
negative gap, such as the Bank, would expect its net interest income to be
affected in the opposite way, decreasing during periods of rising interest rates
and increasing during periods of declining interest rates. However, the
repricing of most assets and liabilities is discretionary and subject to
customer preference. Thus, for example, during periods of rising interest rates,
loan customers may delay the sales of their homes, resulting in reduced loan
turnover. At the same time, deposit customers with low-rate savings, demand and
NOW accounts may accelerate the migration of deposits into higher rate savings
certificates as the rates on savings certificates become more attractive.
The following table sets forth the amounts of interest-earning assets and
interest-bearing liabilities outstanding at March 31, 1998, which are estimated
by the Bank, based upon the assumptions developed by its independent consultant,
to reprice or mature in each of the future time periods shown. The Bank believes
that the assumptions used by the consultant, discussed in detail below, are
reasonable. However, ultimately they may not be borne out.
55
<PAGE>
The assumptions used in the preparation of the table and the calculation of
the Bank's estimated gap are as follows. Loans and mortgage-backed securities
with adjustable rates are included during the earlier of scheduled payment or
repricing. The aggregate principal outstanding on fixed-rate loans is assumed,
based upon an analysis of the difference between the Bank's average loan yield
and the federal funds interest rate, to be repaid evenly over 83 months.
Fixed-rate mortgage-backed securities are included in the table based on
commonly used independent market models for estimating mortgage-backed security
repayments. Federal funds sold and other short-term investments are assumed to
be immediately interest sensitive. Of the Bank's savings accounts and NOW
accounts, 62% are assumed to be core deposits and therefore are assumed to
reprice beyond three years. The remainder of such deposits are assumed to
reprice 6% in three months, 8% in six months, 10% in one year, 8% in two years
and 6% in three years. Money Market accounts are assumed to reprice
approximately 50% within six months and the remainder within one year. Savings
certificates are included based upon their contractual maturities.
Estimates of loan prepayment rates and deposit turnover rates can have a
significant impact on the Bank's estimated gap. While the Bank believes the
assumptions used to prepare the following table are reasonable, there can be no
assurance that such estimates will approximate actual future loan repayment and
deposit withdrawal activity. See "Business of the Bank--Lending Activities,"
"--Investment Activities" and "--Sources of Funds."
<TABLE>
<CAPTION>
AMOUNTS ESTIMATED TO MATURE OR REPRICE WITHIN:
--------------------------------------------------------------------
LESS THAN
THREE 3-6 6 MONTHS TO 1-2 2-3 OVER 3
MONTHS MONTHS 1 YEAR YEARS YEARS YEARS TOTAL
----------- --------- ----------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Securities........................ $ 7,687 $ 4,068 $ 11,280 $ 17,393 $ 9,267 $ 8,341 $ 58,036
Loans............................. 14,556 7,072 14,143 31,418 31,417 55,594 154,200
Other short-term investments...... 6,791 -- -- -- -- -- 6,791
----------- --------- ----------- --------- --------- --------- ---------
Total interest-earning assets... 29,034 11,140 25,423 48,811 40,684 63,935 219,027
----------- --------- ----------- --------- --------- --------- ---------
Interest-bearing liabilities:
Passbook, statement savings and
club accounts................... 3,870 5,160 6,450 5,160 3,870 39,853 64,363
Money market accounts............. 2,744 2,744 2,826 -- -- -- 8,314
NOW accounts...................... 556 742 928 742 557 5,755 9,280
Savings certificates.............. 15,969 20,337 27,704 17,843 14,481 11,520 107,854
----------- --------- ----------- --------- --------- --------- ---------
Total interest-bearing
liabilities................... 23,139 28,983 37,908 23,745 18,908 57,128 189,811
----------- --------- ----------- --------- --------- --------- ---------
Interest sensitivity gap............ $ 5,895 $ (17,843) $ (12,485) $ 25,066 $ 21,776 $ 6,807 $ 29,216
----------- --------- ----------- --------- --------- --------- ---------
----------- --------- ----------- --------- --------- --------- ---------
Cumulative interest sensitivity
gap............................... $ 5,895 $ (11,948) $ (24,433) $ 633 $ 22,409 $ 29,216
----------- --------- ----------- --------- --------- ---------
----------- --------- ----------- --------- --------- ---------
Ratio of cumulative gap to total
interest-earning assets........... 2.69% (5.45)% (11.16)% 0.29% 10.23% 13.34%
----------- --------- ----------- --------- --------- ---------
----------- --------- ----------- --------- --------- ---------
Ratio of cumulative gap to total
assets............................ 2.54% (5.14)% (10.51)% 0.27% 9.64% 12.57%
----------- --------- ----------- --------- --------- ---------
----------- --------- ----------- --------- --------- ---------
Ratio of interest-earning assets to
interest-bearing liabilities...... 125.48% 38.44% 67.06% 205.56% 215.17% 111.92% 115.39%
----------- --------- ----------- --------- --------- --------- ---------
----------- --------- ----------- --------- --------- --------- ---------
</TABLE>
When the Conversion is completed, the Company will initially experience an
increase in investable assets approximately equal to the net proceeds from the
sale of Common Stock in the Conversion minus the loan to the ESOP. The
investment of these net proceeds can be expected initially to increase positive
gaps and reduce negative gaps because such investment will add assets estimated
to mature or reprice within each period shown while there will be no immediate
corresponding increase in liabilities estimated to mature or reprice during the
same period.
56
<PAGE>
AVERAGE BALANCES, INTEREST RATES AND YIELDS
The following tables present, for the periods indicated, the average
interest-earning assets and average interest-bearing liabilities by principal
categories, the interest income or expense for each category, and the resultant
average yields earned or rates paid. No tax equivalent adjustments were made.
All average balances are daily average balances, except for 1995, in which
monthly average balances are used because daily average balances are
unavailable. Non-interest-bearing checking accounts are included in the tables
as a component of non-interest-bearing liabilities.
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
----------------------------------------------------------------------
1998(6) 1997(6)
--------------------------------- -----------------------------------
AVERAGE AVERAGE
AVERAGE YIELD/ AVERAGE YIELD/
BALANCE INTEREST COST BALANCE INTEREST COST
--------- ----------- --------- --------- ----------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
ASSETS:
Loans(1).......................................... $ 157,134 $ 3,377 8.72% $ 158,434 $ 3,433 8.79%
Securities(2)..................................... 54,852 848 6.27 58,393 898 6.24
Other short-term investments...................... 6,645 86 5.25 6,769 86 5.15
--------- ----------- --------- -----------
Total interest-earning assets................... 218,631 4,311 8.00 223,596 4,417 8.01
Non-interest-earning assets....................... 13,553 11,740
--------- ---------
Total assets.................................... $ 232,184 $ 235,336
--------- ---------
--------- ---------
LIABILITIES:
Passbook, statement savings and club accounts(3).. $ 63,748 474 3.02 $ 63,621 467 2.98
Savings certificates.............................. 108,067 1,439 5.40 112,578 1,494 5.38
Money market accounts............................. 8,385 57 2.76 8,985 63 2.84
NOW accounts...................................... 9,357 40 1.73 9,298 40 1.74
--------- ----------- --------- -----------
Total interest-bearing liabilities.............. 189,557 2,010 4.30 194,482 2,064 4.30
Non-interest-bearing liabilities.................. 12,076 10,772
--------- ---------
Total liabilities............................... 201,633 205,254
Net worth......................................... 30,551 30,082
--------- ---------
Total liabilities and net worth................. $ 232,184 $ 235,336
--------- ---------
--------- ---------
Net interest income/spread(4)..................... $ 2,301 3.70% $ 2,353 3.71%
----------- --------- ----------- ---
----------- --------- ----------- ---
Net earning assets/net interest margin(5)......... $ 29,074 4.27% $ 29,114 4.27%
--------- --------- --------- ---
--------- --------- --------- ---
Ratio of average interest-earning assets to
average interest-bearing liabilities............ 1.15x 1.15x
----------- -----------
----------- -----------
</TABLE>
NOTES APPEAR ON FOLLOWING PAGE.
57
<PAGE>
AVERAGE BALANCES, INTEREST RATES AND YIELDS (CONTINUED)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------------------------------
1997 1996 1995
--------------------------------- ----------------------------------- ----------------------
AVERAGE AVERAGE
AVERAGE YIELD/ AVERAGE YIELD/ AVERAGE
BALANCE INTEREST COST BALANCE INTEREST COST BALANCE INTEREST
--------- ----------- --------- --------- ----------- ----------- --------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS:
Loans(1)...................... $ 157,713 $ 13,582 8.61% $ 158,779 $ 13,805 8.69% $ 157,317 $ 14,012
Securities(2)................. 60,226 3,769 6.26 58,557 3,620 6.18 56,235 3,404
Other short-term
investments................. 6,019 316 5.25 7,300 362 4.96 6,580 395
--------- ----------- --------- ----------- --------- -----------
Total interest-earning
assets.................... 223,958 17,667 7.89 224,636 17,787 7.92 220,132 17,811
----------- ----------- -----------
Non-interest-earning assets... 12,254 12,442 14,077
--------- --------- ---------
Total assets................ $ 236,212 $ 237,078 $ 234,209
--------- --------- ---------
--------- --------- ---------
LIABILITIES:
Passbook, statement savings
and club accounts(3)........ $ 64,576 1,936 3.00 $ 64,405 1,922 2.98 $ 66,384 1,991
Savings certificates.......... 110,728 5,983 5.40 113,890 6,354 5.58 108,614 6,005
Money market accounts......... 8,643 243 2.81 9,635 288 2.99 11,242 339
NOW accounts.................. 9,457 166 1.76 9,295 194 2.09 9,134 227
Other borrowings.............. -- -- -- -- -- -- 875 51
--------- ----------- --------- ----------- --------- -----------
Total interest-bearing
liabilities............... 193,404 8,328 4.31 197,225 8,758 4.44 196,249 8,613
Non-interest-bearing
liabilities................. 12,003 10,464 9,864
--------- --------- ---------
Total liabilities........... 205,407 207,689 206,113
Net worth..................... 30,806 29,389 28,095
--------- --------- ---------
Total liabilities and net
worth..................... $ 236,213 $ 237,078 $ 234,208
--------- --------- ---------
--------- --------- ---------
Net interest
income/spread(4)............ $ 9,339 3.58% $ 9,029 3.48% $ 9,198
----------- --------- ----------- --- -----------
----------- --------- ----------- --- -----------
Net earning assets/net
interest margin(5).......... $ 30,554 4.17% $ 27,411 4.02% $ 23,883
--------- --------- --------- --- ---------
--------- --------- --------- --- ---------
Ratio of average
interest-earning assets to
average interest-bearing
liabilities................. 1.16x 1.14x 1.12x
----------- ----------- -----------
----------- ----------- -----------
<CAPTION>
AVERAGE
YIELD/
COST
-----------
<S> <C>
ASSETS:
Loans(1)...................... 8.91%
Securities(2)................. 6.05
Other short-term
investments................. 6.00
Total interest-earning
assets.................... 8.09
Non-interest-earning assets...
Total assets................
LIABILITIES:
Passbook, statement savings
and club accounts(3)........ 3.00
Savings certificates.......... 5.53
Money market accounts......... 3.02
NOW accounts.................. 2.49
Other borrowings.............. 5.83
Total interest-bearing
liabilities............... 4.39
Non-interest-bearing
liabilities.................
Total liabilities...........
Net worth.....................
Total liabilities and net
worth.....................
Net interest
income/spread(4)............ 3.70%
---
---
Net earning assets/net
interest margin(5).......... 4.18%
---
---
Ratio of average
interest-earning assets to
average interest-bearing
liabilities.................
</TABLE>
- ------------------------
(1) Average balances include loans held for sale and non-accrual loans, net of
the allowance for loan losses. Interest is recognized on non-accrual loans
only as and when received.
(2) Securities are included at amortized cost, with net unrealized gains or
losses on securities available-for-sale included as a component of
non-earning assets. Securities include FHLBNY stock.
(3) Includes advance payments by borrowers for taxes and insurance (mortgage
escrow deposits).
(4) The 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 interest margin, also known as the net yield on average
interest-earning assets, represents net interest income as a percentage of
average interest-earning assets.
(6) Yields and related ratios for the three-month periods have been annualized
when appropriate.
58
<PAGE>
RATE/VOLUME ANALYSIS OF NET INTEREST INCOME
One method of analyzing net interest income is to consider how changes in
average balances and average rates from one period to the next affect net
interest income. The following table shows changes in the dollar amount of
interest income and interest expense for major components of interest-earning
assets and interest-bearing liabilities. It shows the amount of the change in
interest income or expense caused by either changes in outstanding balances
(volume) or changes in interest rates. The effect of a change in volume is
measured by applying the average rate during the first period to the volume
change between the two periods. The effect of changes in rate is measured by
applying the change in rate between the two periods to the average volume during
the first period. Changes attributable to both rate and volume, which cannot be
segregated, have been allocated proportionately to the change due to volume and
the change due to rate.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
THREE MONTHS ENDED --------------------------------------------------
MARCH 31, 1996 VS.
--------------------------------------- 1995
-----------
1998 VS. 1997 1997 VS. 1996
--------------------------------------- ------------------------------------- INCREASE
(DECREASE)
INCREASE (DECREASE) DUE TO: INCREASE (DECREASE) DUE TO: DUE TO:
VOLUME RATE TOTAL VOLUME RATE TOTAL VOLUME
----------- ------------- ----------- ----------- ----------- ----------- -----------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
INTEREST-EARNING ASSETS:
Loans................................ $ (29) $ (27) $ (56) $ (94) $ (129) $ (223) $ 132
Securities........................... (54) 4 (50) 102 47 149 142
Other short-term investments......... (2) 2 -- (66) 20 (46) 40
--- --- ----- ----- ----- ----- -----
Total interest-earning assets........ $ (85) $ (21) $ (106) $ (58) $ (62) $ (120) $ 314
--- --- ----- ----- ----- ----- -----
--- --- ----- ----- ----- ----- -----
INTEREST-BEARING LIABILITIES:
Passbook, statement savings and club
accounts........................... $ 1 $ 6 $ 7 $ 4 $ 10 $ 14 $ (57)
Savings certificates................. (61) 6 (55) (171) (200) (371) 295
Money market accounts................ (4) (2) (6) (29) (16) (45) (48)
NOW accounts......................... -- -- -- 3 (31) (28) 4
Other borrowing...................... -- -- -- -- -- -- (51)
--- --- ----- ----- ----- ----- -----
Total interest-bearing liabilities... $ (64) $ 10 $ (54) $ (193) $ (237) $ (430) $ 143
--- --- ----- ----- ----- ----- -----
--- --- ----- ----- ----- ----- -----
Net change in net interest income.... $ (21) $ (31) $ (52) $ 135 $ 175 $ 310 $ 171
--- --- ----- ----- ----- ----- -----
--- --- ----- ----- ----- ----- -----
<CAPTION>
RATE TOTAL
----------- -----------
<S> <C> <C>
INTEREST-EARNING ASSETS:
Loans................................ $ (339) $ (207)
Securities........................... 74 216
Other short-term investments......... (73) (33)
----- -----
Total interest-earning assets........ $ (338) $ (24)
----- -----
----- -----
INTEREST-BEARING LIABILITIES:
Passbook, statement savings and club
accounts........................... $ (12) $ (69)
Savings certificates................. 54 349
Money market accounts................ (3) (51)
NOW accounts......................... (37) (33)
Other borrowing...................... -- (51)
----- -----
Total interest-bearing liabilities... $ 2 $ 145
----- -----
----- -----
Net change in net interest income.... $ (340) $ (169)
----- -----
----- -----
</TABLE>
59
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COMPARISON OF FINANCIAL CONDITION AT MARCH 31, 1998 AND DECEMBER 31, 1997.
Total assets at March 31, 1998 were $232.4 million, a decrease of $1.3
million, or 0.6%, from total assets of $233.7 million at December 31, 1997. The
primary cause of the decline was a $1.5 million decline in deposits as the Bank
continued to experience competitive pressures from other investment
alternatives.
Net loans declined by $1.2 million during the quarter. Principal payments on
loans exceeded new loans originated by $527,000 because normal principal
amortization, which occurs evenly throughout the year, exceeded loan
originations, which tend to be at low levels during winter months. Furthermore,
the Bank believes it did not recapture all loans refinanced by its customers
during the period due to increased competition from out-of-area secondary
mortgage market lenders. The Bank also designated an additional $661,000 of
loans for sale during the quarter. When the Bank completed its loan sale,
$101,000 of the loans designated for sale were not sold and were transferred
back to loans held-to-maturity.
Real estate owned declined by $204,000 during the quarter as the Bank sold
more real estate than it acquired through foreclosure. Real estate owned
consists of properties acquired through foreclosure or otherwise in full or
partial satisfaction of a debt, but does not include real estate used by the
Bank for its operations, such as its main office and branches. During the three
months ended March 31, 1998, the Bank decreased the level of real estate owned
by sales of properties with a carrying value of $199,000 and by $50,000 of
write-downs of property owned. Partially offsetting these declines were $45,000
of real estate acquired during the quarter upon the foreclosure of loans.
COMPARISON OF FINANCIAL CONDITION AT DECEMBER 31, 1997 AND DECEMBER 31, 1996
Total assets at December 31, 1997 were $233.7 million compared to $238.1
million at December 31, 1996. The primary cause of the $4.4 million decline in
total assets was a decline of $4.4 million in savings certificates. Management
believes the decline in savings certificates resulted from competitive pressures
as customers sought higher returns through alternative investments during a
period when the equity markets were at all time highs. The decline in deposits
as a funding source caused the Bank to reduce cash and due from banks by $5.1
million.
Contributing to the changes in the Bank's financial condition was the
designation of the group of loans for sale at year end 1997, as discussed above.
The designation did not directly affect the Bank's total assets, because the
charge-off which accompanied the designation was charged against the existing
allowance for loan losses. However, the Bank increased its provision for loan
losses to bring the allowance back to a level considered adequate by management,
which had the effect of substantially eliminating net income for the year.
Therefore, retained earnings as a funding source did not increase materially
from year end 1996 to year end 1997.
Deferred tax assets increased by $663,000 from year end 1996 to year end
1997 because for financial statement purposes the Bank recorded the charge-off
associated with the designation of loans as held for sale in 1997 but could not
deduct the charge-off for income tax purposes until the loans were sold in 1998.
Real estate owned also increased by $401,000 during 1997. This increase
represented the net effect of the acquisition of properties with a carrying
value of $1.1 million as a result of foreclosures, partially offset by the sale
of properties with a carrying value of $329,000 and write-downs in the book
value of properties owned by $365,000 to reflect the fair value of the
properties.
Net unrealized gains in securities available-for-sale, as a component of net
worth, increased by $323,000 during 1997, corresponding to a pre-tax increase of
$529,000 in the excess of fair value over amortized cost for securities
available-for-sale. The increase was caused by the improvement in market values
for equity securities coupled with lower interest rates which increased the
value of debt securities available-for-sale.
60
<PAGE>
COMPARISON OF OPERATING RESULTS FOR THE THREE MONTHS ENDED MARCH 31, 1998 AND
MARCH 31, 1997.
GENERAL. Net income for the three months ended March 31, 1998 was $493,000,
an increase of $82,000, or 20.0%, from net income of $411,000 during the three
months ended March 31, 1997. The primary reason for the improvement was a
decrease in the provision for loan losses of $150,000 as the Bank realized upon
its efforts in 1997 and the first quarter of 1998 to reduce the carrying value
and then sell a substantial portion of its non-accrual and potential problem
loans. A $63,000 decline in building, occupancy and equipment expense also
positively affected net income. These two factors offset a $52,000 decline in
net interest income.
NET INTEREST INCOME. Net interest income declined by $52,000, or 2.2%, when
comparing the first quarter of 1998 to the first quarter of 1997. This decline
reflects the combined effect of a decline in interest income and a smaller
decline in interest expense. The Bank's reported spread declined by one basis
point from 3.71% to 3.70% and the Bank's net interest margin remained constant
at 4.27%. However, average non-accruing loans during the quarter ended March 31,
1997 were significantly higher than during the quarter ended March 31, 1998.
Non-accruing loans have the effect of reducing reported spread because they are
a component of interest-earning assets but do not provide interest income. The
Bank estimates that if the level of non-accruing loans had remained constant,
reported spread would have declined by approximately 14 basis points and
reported net interest margin would have declined by approximately 12 basis
points from the 1997 quarter to the 1998 quarter because the average yields on
accruing loans declined due to lower market interest rates and the downward
adjustment of yields on adjustable-rate loans.
INTEREST INCOME. Interest income declined by $106,000 from the first
quarter of 1997 to the first quarter of 1998. The principal reasons for the
decline were a $3.5 million decline in the average balance of securities and a
decline in the average yield earned on performing loans. The decline in the
average balance of securities resulted from the need to fund a $4.9 million
decline in the average balance of interest-bearing deposits.
The Bank estimates that the average yield earned on accruing loans declined
by approximately 25 basis points from the first quarter of 1997 to the first
quarter of 1998, compared to the 7 basis point reported decline shown on the
Average Balances, Interest Rates and Yields table. The decline in average yield
on accruing loans resulted principally from lower market interest rates on new
residential mortgage loans and downward adjustments of rates on adjustable
mortgage loans as market interest rates declined. Due to increased competition
and generally lower market interest rates, the Bank's new residential mortgage
loans had average yields lower than either loans in the portfolio or loans being
refinanced. The 25 basis point estimated decline in yield the first quarter of
1997 to the first quarter of 1998 is greater than the 7 basis point reported
decline because of a reduction in the average level of non-accruing loans,
principally due to charge-offs. As loans were charged off, they ceased to be
outstanding for the purpose of calculating the average loan yield, without a
corresponding reduction in interest income. Therefore, the loans charged off
ceased to exert downward pressure on reported yields.
INTEREST EXPENSE. Interest expense declined by $54,000 from the first
quarter of 1997 to the first quarter of 1998. Substantially all of the decline
resulted from a $4.5 million decline in the average balance of savings
certificates from $112.6 million to $108.1 million. The decline was caused by a
conscious decision of the Bank not to pursue aggressively additional savings
certificate accounts, the Bank's highest cost funding source. The Bank offered
competitive, but not necessarily the highest, savings certificate rates in its
market area. Savings certificates, which represented 57.9% of the average
balance of interest-bearing liabilities during the quarter ended March 31, 1997,
declined to 57.0% of average interest-bearing liabilities during the quarter
ending March 31, 1998. The Bank's pricing decisions were based upon a desire not
to increase its cost of funds at a time when the cost of savings certificates
was only slightly below the yield earned on investment securities, and in some
cases was higher than the yield earned on other short-term investments. The
decline in savings certificates was funded by a decline in the Bank's securities
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<PAGE>
portfolio and a $1.3 million increase in the average balance of
non-interest-bearing liabilities, principally represented by an increase in the
average balance of non-interest bearing demand deposits as the Bank marketed its
demand deposit programs more aggressively to commercial customers.
PROVISION FOR LOAN LOSSES. The provision for loan losses results from
management's analysis of the adequacy of the Bank's allowance for loan losses.
If management determines that an increase in the allowance is warranted, then
the increase is accomplished through a provision for loan losses which is
charged as an expense on the Bank's income statement. The provision for loan
losses was $75,000 for the three months ended March 31, 1998, compared to
$225,000 for the three months ended March 31, 1997. The decrease in the
provision resulted from a lower level of non-performing loans caused by the
resolution of problem loans through substantial charge-offs during 1997 and the
loan sale during the first quarter of 1998. During the three months ended March
31, 1998, the Bank had charge-offs of $39,000 and recoveries of $51,000, for a
net recovery of $12,000. Therefore, the allowance increased by $87,000 during
the quarter, as the combined effect of the $75,000 provision and the $12,000 net
recovery. This compares with charge-offs of $202,000 and recoveries of $105,000
during the quarter ended March 31, 1997, generating net charge-offs of $97,000
and a $128,000 increase in the allowance after the $225,000 provision for loan
losses during that quarter. See "Business of the Bank--Asset Quality--Allowance
for Loan Losses."
NON-INTEREST INCOME. The Bank's primary source of non-interest income is
service charges, principally on deposit accounts. The $26,000 increase in
non-interest income between the periods was caused principally by a $32,000
increase in service charges. Service charge income increased because of an
increase in loan-related fees.
NON-INTEREST EXPENSE. Non-interest expense increased by $20,000 from the
first quarter of 1997 to the first quarter of 1998. Other than normal
fluctuations in expenses, the only categories of non-interest expenses which
experienced significant percentage changes were building, occupancy and
equipment expense, which decreased by $63,000, or 22.7%, expenses of real estate
owned, which increased from $21,000 to $92,000 and professional fees, which
doubled from $32,000 to $64,000. Building, occupancy and equipment expense
declined because of a reduction in depreciation expense and a high level of
building repairs and maintenance during the 1997 quarter. The expense of real
estate owned increased because during 1997 the Bank's level of real estate owned
increased as a number of foreclosures were completed and the Bank acquired title
to the mortgaged property. At the beginning of the quarter ended March 31, 1998,
the Bank had $964,000 of real estate owned, compared to $563,000 at the
beginning of the March 31, 1997 quarter. During the first quarter of 1998, the
$92,000 expense was comprised of $50,000 in write-downs in the value of real
estate owned and $42,000 of expenses of holding the properties, such as
insurance and real estate taxes. During the 1997 quarter, expenses of $21,000
were represented entirely by the expenses of holding the properties in the
portfolio. Professional fees increased because of additional costs incurred in
connection with the loan sale and the resolution of other problem loans.
INCOME TAXES. Income tax expense increased by $22,000 from $311,000 for the
three months ended March 31, 1997 to $333,000 for the three months ended March
31, 1998. The increase corresponded to the increase in net income between the
periods.
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 1997 AND
DECEMBER 31, 1996.
GENERAL. Net income for 1997 was $72,000 compared to net income of $1.4
million in 1996. The primary reason for the decline was a substantial increase
in expenses related to the resolution of the Bank's problem assets, including a
$1.9 million increase in the provision for loan losses and a $240,000 increase
in the expense of real estate owned. These factors more than offset an increase
in net interest income of $310,000.
NET INTEREST INCOME. Net interest income increased by $310,000, or 3.4%,
from 1996 to 1997. The increase reflects a decline in interest expense which was
only partially offset by a smaller decline in interest
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<PAGE>
income. Due principally to the decline in the average cost of savings
certificates, the Bank's spread increased by 10 basis points from 3.48% to 3.58%
and the Bank's net interest margin increased by 15 basis points from 4.02% to
4.17%. Changes in the level of non-accruing loans between 1996 and 1997 had a
less significant effect on spread than when comparing the quarters ended March
31, 1998 and 1997. Interest income not recognized during the years on
non-accruing loans was $402,000 during 1997 and $307,000 during 1996.
INTEREST INCOME. Interest income declined by $120,000 from 1996 to 1997.
The decline resulted from a decline in the average balance of loans, the Bank's
highest yielding asset category, and a decline in the average yield on loans.
During the early part of 1997, the Bank's loan department focused on resolving
problem loans, solving problems arising from the defalcation by the former
senior loan officer, and restructuring and strengthening loan department
operations. In addition, during early 1997, one loan officer retired and another
resigned. Therefore, efforts to originate new loans were temporarily reduced.
During the latter part of 1997, the Bank increased its loan originations,
particularly residential mortgage loans, by hiring additional loan officers and
aggressively seeking new loans in Cortland County and nearby communities. By
year end, the Bank had originated more loans in 1997 than had been paid off, but
the increased originations during the latter part of the year had only a limited
effect on average balances.
The average yield on loans declined by eight basis points due to lower
residential mortgage loan rates which affected refinances and new loan
originations. Borrowers were motivated by low market interest rates to refinance
their higher fixed-rate mortgages while borrowers with adjustable-rate loans
also refinanced to lock in lower rates.
The decline in the average balance of loans was offset by an increase in the
average balance of securities. Management invested available funds which might
otherwise have been used to make loans in securities investments. Other short
term investments declined in order to fund a reduction in the level of
interest-bearing liabilities. In addition, the Bank experienced an eight basis
point increase in the average yield on its securities investments because
maturing securities were replaced with securities having slightly higher yields
as the Bank continued to lengthen the maturities of its debt securities, a
process which began in 1996.
INTEREST EXPENSE. Interest expense declined by $430,000 from 1996 to 1997.
The decline resulted from the combined effect of a $3.8 million decline in the
average balance of interest-bearing liabilities and a 13 basis point decline in
the average cost of funds. Most of the activity was in the savings certificate
category, with the average balance declining by $3.2 million and the average
cost declining by 18 basis points. These declines were due to the combined
effect of competitive pressures from non-deposit investment sources which
offered customers the potential for high yields, coupled with a decision by
management to offer rates on deposits which, although competitive, were not the
highest in the local market.
PROVISION FOR LOAN LOSSES. The provision for loan losses was $3.3 million
during 1997, compared to $1.4 million in 1996. During 1997, the Bank charged off
$3.3 million of loans, compared to recoveries of $170,000. Approximately $2.0
million of the charge-offs were taken on the loan package which was ultimately
sold during the first quarter of 1998 while the remainder of the charge-offs
resulted from an aggressive review of the Bank's entire loan portfolio in light
of the credit administration problems discovered in connection with the officer
defalcation discussed above. Based on local economic conditions and the status
of the Bank's loan portfolio, during 1997 management revised the Bank's method
of calculating its allowance to increase the percentages used to determine
appropriate allowance for certain performing loans for which no problems had
been identified. The adjustment was made to reflect management's estimate of
probable losses inherent in loans in the Bank's portfolio. Taking these factors
into account, the Bank determined to provide $3.3 million for loan losses during
1997 to bring the allowance to its year-end level of $2.1 million.
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<PAGE>
NON-INTEREST INCOME. Non-interest income increased by $119,000 from 1996 to
1997. The principal component of the increase was a $45,000 recovery of an
investment in Nationar, a former correspondent bank which was closed by the New
York Superintendent of Banks in 1995. The Bank had created a $100,000 reserve
when Nationar was closed because of the uncertainties associated with its
investment in a Nationar debenture. During 1997, the Superintendent of Banks
made a liquidating distribution to the Bank of $45,000 more than the carrying
value of the investment in Nationar, net of the reserve. Other non-interest
income increased by $69,000 because during 1997 the Bank recovered certain
expenses which had been incurred in 1996 in connection with the collection of
past due loans.
NON-INTEREST EXPENSE. Non-interest expense increased by $671,000 from 1996
to 1997. The principal causes of the increase were a $240,000 increase in the
expense of real estate owned and a $303,000 increase in other operating
expenses. Real estate owned is required to be carried on the Bank's books at the
lower of cost or fair value, representing market value less estimated costs of
sale. During 1997, the Bank decided that general economic conditions,
difficulties in disposing of real estate owned and expected costs of holding and
selling properties, based upon the nature of the specific properties owned by
the Bank during 1997, justified carrying those properties at 65% of appraised
value which resulted in a $365,000 charge to the expense of real estate owned.
Approximately $270,000 of this charge related to properties acquired in 1997.
Other operating expenses increased principally because of increases in the cost
of collecting past due loans and increases in other loan-related expenses.
INCOME TAXES. Income tax expense declined by $869,000 from an expense of
$853,000 in 1996 to a tax benefit of $16,000 in 1997. The decline was caused by
the decline in pre-tax income.
COMPARISON OF OPERATING RESULTS FOR THE YEARS ENDED DECEMBER 31, 1996 AND
DECEMBER 31, 1995.
GENERAL. Net income for 1996 was $1.4 million compared to net income of
$1.9 million in 1995. The primary reason for the decline was an increase in the
provision for loan losses to replenish the Bank's allowance for loan losses
after charge-offs of $607,000 caused by the officer defalcation. Also
contributing to the decline in net income was an increase in professional fees
incurred in the investigation of the defalcation and a decline in net interest
income principally caused by a decline in the yield on the Bank's loan
portfolio. Partially offsetting these factors was a virtual elimination of
deposit insurance premiums.
NET INTEREST INCOME. Net interest income declined 169,000, or 1.8%, from
1996 to 1997. The decline reflects the combined effect of an increase in
non-accruing loans, a decline in the average yield on loans and other short term
investments, an increase in the average cost of savings certificates and a shift
in the mix of the Bank's liabilities towards higher-cost savings deposits. As a
result of these factors, the Bank's spread decreased by 22 basis points from
3.70% to 3.48% and the Bank's net interest margin decreased by 16 basis points
from 4.18% to 4.02%. The net interest margin declined less rapidly than the
spread because the retention of earnings increased capital as a no-cost funding
source. The increase in the level of non-accruing loans between 1995 and 1996 is
estimated to have caused approximately 14 basis points out of the 22 basis point
decline in the reported yield on loans.
INTEREST INCOME. Interest income declined by $24,000 from 1995 to 1996
despite an increase in the average balance of interest-earning assets by $4.5
million from $220.1 million to $224.6 million. Market interest rates began to
decline in early 1995, and the decline continued through most of 1996. As a
result, new loans originated by the Bank during that period generally had lower
interest rates than the loans in the Bank's portfolio which were being repaid.
The decline in market rates also accelerated the rate of repayment of existing
loans as borrowers refinanced those loans at lower rates. Furthermore, the
Bank's non-accruing loans increased dramatically from 1995 to 1996, with $2.0
million of non-accruing loans at December 31, 1995 increasing to $3.6 million by
December 31, 1996. Interest income not recognized on non-accruing loans
increased substantially to $307,000 in 1996 from $107,000 in 1995. The combined
effect of these factors was to reduce the average yield on loans by 22 basis
points, from 8.91% in 1995 to 8.69% in 1996.
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<PAGE>
At the same time, the yield on the Bank's short-term investments,
principally federal funds sold, which are generally immediately sensitive to
interest rate fluctuations, declined rapidly from an average yield of 6.00% in
1995 to an average yield of 4.96% in 1996. In contrast, the average yield on
securities investments increased from 6.05% to 6.18% despite declining market
interest rates because the Bank began to increase the average maturities of its
investment debt securities to improve yields. This increase in average
maturities was partially offset by a shift in mix away from corporate debt
securities and towards U.S. government and agency securities. The Bank shifted
the mix of securities because the decline in market interest rates reduced the
yield spread between traditionally lower yielding treasury securities and higher
yielding corporate bonds.
The decline in the rate earned on loans was partially offset by an increase
in the average balance of both loans and securities. As interest rates declined
and homeowners refinanced their mortgages, the Bank sought to satisfy the
desires of its existing customers to refinance their loans and to capture
refinance business away from other lenders because low loan yields remained
higher than the yields on securities investments. As a result, residential
mortgage loans increased by $2.9 million during 1995 and by $243,000 during
1996, representing a significant component of the $1.5 million increase in the
average balance of loans from 1995 to 1996. The Bank was also able to increase
the average balance of investment securities by $2.3 million from 1995 to 1996
and the average balance of other short term investments increased by $720,000
between the periods. These increases were funded by a combination of an increase
of $1.0 million in the average balance of interest-bearing deposits, an increase
of $1.3 million in average net worth due to net income retained, and an increase
of $328,000 in the average level of non-interest-bearing demand deposits.
INTEREST EXPENSE. Interest expense increased by $145,000 from 1995 to 1996.
A shift in the mix of the Bank's liabilities away from lower cost traditional
savings accounts and money market accounts in favor of savings certificate
accounts with higher yields was the primary cause of the increase in interest
expense. The average balance of savings certificates, the Bank's highest cost
deposits with an average cost of 5.58% during 1996, increased by $5.3 million
from $108.6 million during 1995 to $113.9 million during 1996. In contrast,
lower cost traditional savings accounts, with an average cost of 2.98% during
1996, declined by $2.0 million and money market accounts, with an average cost
of 2.99% during 1996, declined by $1.6 million. Management believes that a shift
in depositor preference, resulting in the shift in mix, occurred from early 1995
through 1996 as depositors sought higher yields to compete with the yields
available in the stock market and from other investment alternatives. Publicity
regarding available investment alternatives made customers more cognizant of the
rates on their accounts and more sophisticated regarding maximizing the yields
on their bank deposits. The average rate paid on savings certificates also
increased slightly, from 5.53% in 1995 to 5.58% in 1996, principally due to
increased competition from other investment alternatives.
PROVISION FOR LOAN LOSSES. The provision for loan losses was $1.4 million
during 1996, compared to $600,000 in 1995. During 1996, the Bank charged off
$1.7 million of loans, compared to $605,000 in 1995. The 1996 charge-offs
included $607,000 of non-existent loans, delinquent loans whose delinquencies
had been concealed, and other uncollectable loans arising out of the defalcation
by the former senior loan officer discussed above. In order to replenish the
allowance for loan losses after these unexpected charge-offs, the Bank was
required to increase its provision for loan losses.
NON-INTEREST INCOME. Non-interest income increased by $99,000 from 1995 to
1996. The increase occurred because in 1995 the Bank had provided $100,000,
recorded as a reduction of non-interest income, to create a reserve against the
Bank's investment in a Nationar debenture. Due to uncertainties regarding the
recoverability of the Nationar investment, management made the provision to
address the possibility that the final liquidation of Nationar would not
generate sufficient funds to repay the Bank. In 1997, $45,000 of the provision
was recovered.
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<PAGE>
NON-INTEREST EXPENSE. Non-interest expense increased by $256,000 from 1995
to 1996. The principal causes of the increase were a $168,000 increase in
professional fees for compliance matters, temporary outsourcing of the internal
audit function and the investigation of the officer defalcation. In addition,
miscellaneous other operating expenses increased by $190,000 principally because
of a $94,000 increase in costs associated with collecting past due loans as the
level of non-accrual loans increased from $2.0 million at year end 1995 to $3.6
million at year end 1996. In addition, the Bank had $53,000 of investment
advisory expense in 1996 as the Bank retained an outside investment advisor.
INCOME TAXES. Income tax expense declined by $547,000 from $1.4 million in
1995 to $853,000 in 1996. The decline was caused by the decline in pre-tax
income.
LIQUIDITY AND CAPITAL
The Bank's primary sources of funds are deposits, proceeds from the
principal and interest payments on loans, mortgage-backed and debt securities,
and, during the quarter ended March 31, 1998, proceeds from the sale of loans.
While maturities and scheduled principal payments on loans and securities are
predictable sources of funds, deposit outflows and loan prepayments are greatly
influenced by general interest rates, economic conditions and competition.
The primary investing activity of the Bank is the origination of residential
one- to four-family mortgage loans and the purchase of mortgage-backed and debt
securities. During the three months ended March 31, 1998 and the years ended
December 31, 1997, 1996 and 1995, the Bank's loan originations totaled $7.8
million, $32.9 million, $31.7 million and $33.6 million, respectively. However,
loans, net, after payments and charge-offs, decreased by $1.2 million during the
three months ended March 31, 1998 and decreased by $3.1 million during 1997.
Loans increased by only $8,000 during 1996 and by $6.3 million during 1995.
Investment and mortgage-backed securities, excluding the effect of unrealized
gains and losses, increased by $4.5 million during 1996, declined by $1.2
million during 1997 and increased by $987,000 during the first quarter of 1998.
The sale of problem loans provided $3.1 million of additional liquidity during
the quarter ended March 31, 1998. Loan sales did not provide material funds
during other periods.
Deposits increased by $2.9 million in 1995 and $1.5 million in 1996. In
1997, deposits declined by $4.9 million and the Bank experienced an additional
$1.5 million decline in deposits during the first quarter of 1998. Deposit flows
are affected by the level of interest rates, the availability of alternate
investment opportunities, general economic conditions, and other factors.
The Company's cash flows are divided into three categories: cash flows from
operating activities, cash flows from investing activities, and cash flows from
financing activities. Net cash provided by operating activities, consisting
primarily of earnings and proceeds from loan sales, was $4.2 million for the
three months ended March 31, 1998 and $767,000 for the three months ended March
31, 1997. The most significant component of the difference between the periods
was the sale of loans during the three months ended March 31, 1998, which
increased cash provided by operating activities by $3.1 million. Management does
not anticipate similar transactions in the future. Net cash used in investing
activities, consisting primarily of the use of funds to make loans and purchase
securities, was $326,000 for the three months ended March 31, 1998 and $1.1
million for the three months ended March 31, 1997. Net cash used by financing
activities, consisting principally of deposit outflows, was $2.2 million for the
three months ended March 31, 1998 and $2.3 million for the three months ended
March 31, 1997, reflecting declines in deposits during the periods and decreases
in amounts held during the periods for mortgage tax escrows due to seasonal
fluctuations in real estate tax due dates.
The Bank monitors its liquidity position on a regular basis. Excess
short-term liquidity is invested in overnight federal funds sold. If the Bank
requires funds beyond its ability to generate them internally, the Bank can
borrow needed funds. At March 31, 1998, the Bank had available lines of credit
with the Federal Home Loan Bank of New York of $26.1 million. The Bank has not
needed to use borrowings as a source of
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liquidity to fund either deposit outflows or new loan opportunities. In 1995,
the Bank temporarily borrowed funds for a short time when the Bank's deposits at
Nationar, one of its correspondent banks, were temporarily frozen.
At March 31, 1998, the Bank had $3.8 million of outstanding commitments to
make first lien mortgage loans, $3.7 million of unused home equity lines of
credit, $2.8 million of unused credit card lines of credit, $2.0 million of
unused commercial lines of credit, $1.1 million of consumer overdraft checking
lines of credit and an insignificant amount of outstanding commitments to make
automobile and other small consumer loans. Management anticipates that the Bank
will have sufficient funds to meet its current loan commitments and to fund any
draw downs on outstanding lines of credit. Savings certificates which are
scheduled to mature in one year or less from March 31, 1998 totaled $64.0
million. The Bank may elect to allow some of those deposits to leave the Bank if
it can reduce its cost of funds by doing so without adversely affecting
liquidity. However, management anticipates that the Bank will be able to retain
substantially all of such deposits if the Bank needs to do so to fund loans and
other investments.
At March 31, 1998, the Bank exceeded all regulatory capital requirements of
the FDIC applicable to it, with Tier I capital of $30.7 million, or 13.26% of
average assets and 21.94% of risk-weighted assets and with total risk-based
capital of $32.4 million, or 23.19% of risk-weighted assets. The Bank was
classified as "well capitalized" at March 31, 1998 under FDIC regulations. See
"Regulatory Capital Compliance" and "Regulation--Banking Regulation-Capital
Requirements" for further information regarding FDIC capital requirements.
The Bank is not subject to any mandatory liquidity ratio requirements under
the regulations of the FDIC or the Banking Department. At March 31, 1998, the
Bank's liquid assets totaled 28.24% of deposits.
YEAR 2000 CONSEQUENCES
The operations of the Bank are substantially dependent upon computer data
processing for its deposit accounts, loans, financial records and other matters.
Many computer systems and other equipment containing microchips will not operate
accurately after January 1, 2000. The Bank has undertaken a comprehensive review
of all systems believed to create potential risks in order to eliminate any Year
2000 operating difficulties.
The Bank has retained the services of an independent consultant, at a cost
of $13,000, to evaluate the Bank's Year 2000 readiness and to identify steps to
be taken to eliminate Year 2000 risks. The Bank's Board of Directors reviewed
and approved the consultant's plan. The plan calls for comprehensive review and
testing of all the Bank's systems that could be affected by Year 2000 problems.
The Bank has completed a review of all major non-computer based systems,
such as vaults, building environmental systems, and telephone systems, without
any problems being discovered. The Bank's principal data processing is performed
by a Bank-owned mini-computer operating software provided by an outside vendor.
The hardware has been tested successfully. The software has been tested and
modules requiring modification have been identified. The vendor is making
necessary modifications. The Bank expects that all modifications will be in
place, and all testing completed, by year end 1998. The Bank will continue to
test minor systems, and replace them, if necessary, throughout the first three
quarters of 1999.
The Bank estimates that its total cost of Year 2000 compliance, excluding
internal staffing costs, will not exceed $100,000. The Bank has not needed to
hire additional staff to address Year 2000 compliance issues. The Bank's cost
estimate assumes that a complete replacement of the Bank's principal computer
software will not be necessary. If a complete replacement is necessary, the Bank
will identify replacement software which is Year 2000 compliant during 1999 and
convert to the new software. The Bank has not evaluated the costs of complete
replacement because the possibility that it will be necessary is considered to
be remote. If complete replacement is necessary, the Bank anitcipates that it
will be able to locate acceptable commercially-available software because the
Bank's mini-computer is commonly used by
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<PAGE>
financial institutions. If interim operations are necessary before a new system
is operational, the Bank expects to utilize existing personal computers,
commonly available business software and manual entries to bridge any gap.
However, based upon the results of testing thus far, the Bank believes that this
"most reasonably likely worst case scenario" is unlikely to occur.
The Bank's customers may also experience Year 2000 problems, which could
adversely affect the ability of those customers to comply with their obligations
to the Bank. The Bank has contacted all commercial loan customers to assess
whether their Year 2000 compliance efforts are satisfactory. The Bank currently
requires all new commercial loan customers to complete a Year 2000 readiness
questionnaire as part of the loan underwriting process in order to limit future
exposure. Although Year 2000 readiness varies among the Bank's customers, the
Bank does not expect that Year 2000 problems will have such a substantial effect
on the Bank's customers as to cause the Bank to suffer material adverse
financial consequences.
IMPACT OF INFLATION AND CHANGING PRICES
The financial information in this Prospectus has been prepared according to
Generally Accepted Accounting Principles, which require the measurement of
financial condition and operating results in terms of historical dollar amounts
without considering the changes in the relative purchasing power of money over
time due to inflation. Inflation can increase operating costs and affect the
value of collateral for loans in general, and real estate collateral in
particular. Unlike industrial companies, nearly all of 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. However, interest rates
generally increase during periods when the rate of inflation is increasing and
decrease during periods of decreasing inflation. Periods of high inflation are
ordinarily accompanied by high interest rates, which could have a negative
effect on the Bank's net income. Inflation can also increase the cost of the
Bank's operations. See "--Management of Interest Rate Risk" for a discussion of
the effect of changing interest rates on the Bank.
IMPACT OF NEW ACCOUNTING STANDARDS
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") 128 "Earnings Per Share".
SFAS 128 requires the disclosure of basic and diluted earnings per share. It
establishes rules for calculating diluted earnings per share based upon the
effect of agreements by publicly traded companies to issue additional stock.
SFAS 128 is now effective and will require the Company, after the Conversion, to
report in addition to basic earnings per share, fully diluted earnings per share
which would show, for example, the effect on earnings per share of the exercise
of outstanding stock options, if any.
In June 1997, the FASB issued SFAS 130, "Reporting Comprehensive Income,"
which requires that comprehensive income and its effect on equity must be
disclosed prominently in the notes to the financial statements. Comprehensive
income includes net income as adjusted for items that are recorded as direct
entries to equity. Only the impact of unrealized gains or losses on securities
available-for-sale is disclosed as an additional component of the Bank's income
under the requirements of SFAS 130. SFAS 130 imposes disclosure requirements
only and does not affect the Company's financial condition or results of
operations. Comprehensive income for the three months ended March 31, 1998 was
$654,000 and was $395,000 for 1997, $1.3 million for 1996 and $2.2 million for
1995.
In June 1997, the FASB issued SFAS 131, "Disclosures about Segments of an
Enterprise and Related Information," which changes the way public companies
report information about segments of their business on their annual financial
statements and requires them to report selected segment information in their
quarterly reports issued to stockholders. The Company anticipates that, in the
near future, the
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Company's business will comprise only one segment and hence SFAS 131 will not
have a material effect on its financial disclosures. However, if the Company
engages in material non-banking business in the future, separate segment
disclosure may be required.
In February 1998, the FASB issued SFAS 132, which amends existing disclosure
rules regarding pension and other post-retirement benefits to standardize the
disclosure formats effective for fiscal years beginning after September 15,
1997. Disclosures regarding pensions and other non-pension post-retirement
benefits have been combined. SFAS 132 addresses disclosure issues only and does
not require any substantive change in accounting treatment for the benefits
covered by it. Hence, the implementation of SFAS 132 will have no effect on the
Company's financial condition or results of operations.
In June 1998, the FASB issued SFAS 133, ACCOUNTING FOR DERIVATIVE
INSTRUMENTS AND HEDGING ACTIVITIES, which establishes comprehensive accounting
and reporting requirements for derivative instruments and hedging activities.
The statement requires companies to recognize all derivatives as either assets
or liabilities, with the instruments measured at fair value. The accounting for
gains and losses resulting from changes in fair value depends on the intended
use of the derivative and the type of risk being hedged. SFAS 133 is effective
for the Company and the Bank for all fiscal quarters beginning January 1, 2000.
Earlier adoption is permitted. At the present time, the Company and the Bank
have not fully analyzed the effect or timing of the adoption of SFAS 133 on the
Company's consolidated financial statements.
BUSINESS OF THE COMPANY
GENERAL
The Company was organized as a Delaware corporation in June, 1998 in order
to acquire all the stock of the Bank to be issued in the Conversion. Upon
completion of the Conversion, the Company will become a bank holding company
subject to regulation by the Federal Reserve. See "Regulation--Holding Company
Regulation."
BUSINESS
The Company is not an operating company. After the Conversion, the Company
expects that initially it will invest 50% of the net proceeds from the sale of
the Common Stock, after contributing one-half to the Bank, primarily in
short-term and medium-term debt securities. The Company also intends to lend the
ESOP the funds needed to purchase 8% of the Common Stock issued in the
Conversion, including Common Stock contributed to the Foundation. In the future,
the Company may purchase or organize other operating subsidiaries, including
other financial institutions, or it may merge with other financial institutions
and financial services related companies. There are no current arrangements,
understandings or agreements for any such expansion. See "Use of Proceeds."
Initially, the Company will not own or lease any property but will instead use
the premises, equipment and furniture of the Bank. The Company does not
presently intend to have any employees except for certain officers of the Bank
who will not be separately paid by the Company. The Company may use the support
staff of the Bank from time to time, if needed. Additional employees may be
hired if appropriate.
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<PAGE>
BUSINESS OF THE BANK
GENERAL
The Bank's principal business consists of gathering deposits from the
general public within its market area and investing those deposits primarily in
loans, debt obligations issued by the U.S. Government, its agencies, and
business corporations, and mortgage-backed securities. The Bank's principal loan
types are residential and commercial mortgage loans, automobile loans,
commercial loans and other consumer loans. The Bank's revenues come principally
from interest on loans and securities. The Bank's primary sources of funds are
deposits and proceeds from principal and interest payments on loans and
investment securities.
STRATEGY FOR THE FUTURE
Management recognizes that to succeed in the next millennium, the Bank and
the Company must build upon the existing strengths of the Bank while expanding
geographically and diversifying product offerings. Management has therefore
developed a strategy for success based upon the following principles:
- STRENGTHEN THE BANK'S POSITION AS A DOMINANT COMMUNITY-ORIENTED FINANCIAL
INSTITUTION. Cortland Savings Bank has been a community-oriented savings
bank for more than 125 years. Of the Bank's $198.2 million of deposits at
March 31, 1998, approximately 81.5% were held by persons and companies
located in Cortland County. Many of the remaining deposits come from
surrounding counties, and approximately 96% come from within New York
State. Deposits from out-of-state residents are concentrated in common
retirement destinations, such as Florida, and are believed to have
originated from customers who maintain their loyalty to the Bank even
after they move, for all or part of the year, to distant locations.
Likewise, the Bank's loans also come predominantly from its local
community. More than 70% of the Bank's mortgage loans are secured by
properties located in Cortland County, with most of the remainder being
located elsewhere in central New York. The largest component of the Bank's
loans are residential mortgage loans in Cortland County, which foster
long-term customer relationships and provide funds to support local
community needs. The Bank's strength comes from its ability to deliver
services within its community. As industry consolidation continues, the
Bank believes it can build its depositor base and fortify its position
within the surrounding communities by continuing to provide new and
existing customers with a higher level of service and convenience than its
competitors. The Bank's commitment to its neighbors, as evidenced by its
local focus and furthered by its establishment of the Foundation, will
continue into the future.
- PURSUE EXPANSION OPPORTUNITIES IN CENTRAL NEW YORK. Until the 1970's, the
New York State banking landscape, especially in the center of the state,
was populated by many small, locally-oriented banking institutions. When
state law was amended to broaden the geographic scope of permitted
branches, larger institutions began to spread. Throughout the state, areas
which had once been served only by local banks whose directors and
officers were members of the local communities were penetrated by larger
institutions which processed loan applications, established deposit
pricing, and made employment decisions in distant major cities. This was
followed by a period, which still continues, of consolidation in the
banking industry.
As a result, the local focus of the banking industry faded. In the name of
efficiency, branches were closed, personal service was abandoned and small
loans were removed from the product line. Cortland Savings Bank believes
there is a need for community financial institutions and seeks to maintain
good relations with its customers by providing the services they need. The
Bank's customers know their officers and directors as well as their
tellers and loan processors. The Bank believes that this approach to
banking can be extended profitably into adjoining counties that share the
same needs and interests as the Bank's existing home community. In
furtherance of this
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approach, the Bank has recently opened a loan production office in Ithaca,
the county seat of adjoining Tompkins County. In the future, the Bank and
the Company intend to seek out opportunities for further expansion through
acquisitions, branch purchases or the opening of new offices, in order to
develop additional business throughout central New York. Although the Bank
and the Company cannot assure its future stockholders that it will be able
to consummate any such transactions, the Board of Directors intends to
aggressively pursue them.
- MAINTAIN PRE-EMINENCE IN RESIDENTIAL MORTGAGE LENDING IN THE COMMUNITIES
IT SERVES. Cortland Savings Bank is, and has been for many years, the
largest residential mortgage lender in Cortland County, with a market
share that substantially exceeds any other institution when measured by
dollar volume or number of loans originated. As the Bank expands into
other communities in central New York, it intends to offer residential
mortgage loan products in those communities with the same vigor that has
allowed it to reach its current leadership position. In furtherance of
this goal, and in order to be able to offer an even broader range of
residential mortgage loan products to satisfy the diversity of customer
demand, the Bank is developing the systems and structures for a mortgage
secondary market operation, which the Bank hopes to launch before year
end. A secondary market operation will allow the Bank to offer loan
products which might not otherwise satisfy the Bank's portfolio needs or
its underwriting standards. Local customers will still be able to deal
with a local bank and in many cases the loan servicing will remain on the
local level. The Bank can thus work to build a loan servicing portfolio
which provides non-interest income while maintaining customer loyalty and
the opportunity to cross-sell other products to those same patrons.
- OFFER OTHER LOAN PRODUCTS TO CREATE LOAN PORTFOLIO GROWTH. Residential
mortgage loans are, and in the foreseeable future are expected to remain,
the primary component of the Bank's loan portfolio. However, other types
of loans have provided the Bank with opportunities for asset growth in the
past, and it is expected that they will continue to provide growth in the
future. The Bank offers commercial mortgage loans, commercial loans and a
variety of different types of consumer loans. Automobile loans are an
important growth category, increasing by $2.7 million, or 42.1%, over
fifteen months from $6.4 million at December 31, 1996 to $9.1 million at
March 31, 1998. Within the past eighteen months, the Bank has taken steps
to strengthen its loan origination staff to build up its non-residential
loan portfolios. The Bank's loan department staff has recently spent
substantial time resolving problems loans and dealing with the aftermath
of a defalcation by its former senior loan officer. However, the sale of a
package of problem loans during the first quarter of 1998 has allowed the
staff to concentrate on new loan originations. As the Bank expands its
market area in central New York, the Bank will offer a full range of loans
to its new customer base to complement its offering of those loans to its
current customers. Non-residential loans provide product diversification,
opportunities to improve interest rate sensitivity because of the normally
shorter term to maturity of such loans, and higher yields than residential
mortgage loans. The Bank plans to maintain its position as a leading
residential mortgage lender while building upon its position as an
independent community bank to increase its market share of these higher
yield loans.
- IMPROVE EFFICIENCY BY SPREADING COSTS OVER A LARGER ASSET BASE. The Bank's
staffing and infrastructure are currently able to serve more customers and
handle increased deposit and loan volumes. The Bank has recently hired a
new chief operating officer and a new chief financial officer in addition
to upgrading its loan department staffing. As a result, deposit growth and
loan growth can be accomplished without comparable increases in staff,
allowing the Bank to spread its operating expenses over a larger asset
base. In addition, technological advances are constantly changing the face
of the banking industry. In order to remain competitive and continue to
provide the services its customers need and expect, the Bank anticipates
that in the future it will be required to incorporate technological
developments into its product delivery system. Those technological
developments, some of which are not yet conceived, can be expected to
require potentially significant start-up
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<PAGE>
costs. Asset growth will allow the Bank to spread the cost of these
technological innovations over a larger base of interest income.
OPERATING PLAN
The Bank's operating plan concentrates on investing available funds in
mortgage loans on properties located in Cortland County. The largest component
of the Bank's mortgage loans, and the Bank's primary focus, are loans secured by
one- to four-family homes, which totaled $103.3 million, or 66.0% of total
loans, at March 31, 1998. These loans consisted of approximately $94.8 million
of loans secured by first mortgages and approximately $8.5 million of loans
secured by junior mortgages. In order to increase yields, improve the interest
rate sensitivity of its assets and diversify its portfolio, management has
invested a portion of the Bank's assets in commercial mortgage loans and other
types of loans, such as commercial loans, automobile loans, home equity loans
and other consumer loans. In recent years, the Bank has sought to increase its
portfolio of automobile loans as a source of higher yielding investments during
periods of low mortgage loan rates. The Bank also provides certain loan
products, such as credit cards, in order to satisfy customer demand and maintain
customer relationships, but which do not materially contribute to net income.
In addition, to provide liquidity and improve interest rate sensitivity,
management has invested a portion of the Bank's assets in securities and short
term liquid investments such as overnight federal funds sales. More than 97% of
the Bank's securities portfolio, other than mortgage-backed securities, had a
maturity of five years or less at March 31, 1998.
The Bank has maintained a ratio of loans to total assets of approximately
66% since year end 1994. It is management's goal to increase this ratio in the
future because loans represent the highest yielding asset category for the Bank.
However, after the Conversion, this ratio will decrease, at least in the short
term, because the increase in capital can not be immediately invested in loans.
Furthermore, the availability of acceptable lending opportunities is
substantially outside the control of the Bank, being driven primarily by
economic conditions and competitive pressures. Therefore, the Bank may be unable
to achieve its goal of increasing its loans to total assets ratio.
Paralleling the Bank's strategy of concentrating on mortgage loans in its
local community, the Bank's primary source of funds for investment is deposits
from its local community and the Bank's capital. The Bank estimates that at
December 31, 1997, approximately 81.5% of its deposits were held by persons who
resided in Cortland County and approximately 96% by persons residing in New York
State. The Bank does not seek deposits from outside its market area, does not
utilize brokered deposits, and has not utilized borrowings as a material funding
source in recent years. However, after the Conversion, the Bank may use
borrowings as a tool to provide additional funding to assist in the leveraging
of the additional capital obtained in the Conversion. The Bank may also
implement a borrowing program before the completion of the Conversion in order
to establish borrowing relationships and develop systems to assist in potential
post-Conversion borrowing programs.
MARKET AREA
The Bank's primary market area is Cortland County, New York. The Bank's main
office has been located in the City of Cortland since it was chartered in 1866.
The Bank has nearby full service branches in Homer, opened in 1988 and
Cortlandville, opened in 1994. The Bank is, and has been for many years, the
largest mortgage lender by dollar volume and number of loans originated in
Cortland County based upon reported data from the Cortland County Clerk and has
the largest share of bank deposits within the County. In addition to Cortland
County, the Bank also considers adjoining townships in the counties surrounding
Cortland (Tompkins, Cayuga and Onondaga) to represent a secondary market area,
especially for mortgage loans. This year, the Bank opened a representative
office in Ithaca, the home of Cornell
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University and Ithaca College and the county seat of nearby Tompkins County, to
originate mortgage loans.
Cortland County, with a population of 48,963 according to the 1990 census,
is predominantly rural with many small towns. Approximately 80% of the County's
workforce works within the county, while others work in nearby areas such as
Syracuse to the north and Ithaca to the southwest, commuting by automobile.
Principal sources of employment for county residents include retail trades,
educational services, manufacturing, health care and other professional
services, and construction. The largest employers in Cortland County are
Buckbee-Mears Company, a manufacturer of television screen components, the State
University of New York at Cortland, and Cortland Memorial Hospital. The parent
corporation of Buckbee-Mears Company has recently announced layoffs due to a
decline in business, at least partially related to adverse economic and
financial conditions in Asia. At this time, the scope and duration of the
layoffs has not been announced and the Bank is unable to assess the effect of
the situation on the Bank's business. However, the Bank notes that although
Buckbee-Mears Company is the largest employer in the County with slightly in
excess of 1,000 employees, there are four additional employers with more than
600 employees each, and a broad diversity of smaller mid-range companies which
the Bank believes may soften the impact of the layoffs.
COMPETITION
The Bank's principal competitors for deposits are other savings banks,
savings and loan associations, commercial banks and credit unions in the Bank's
market area, as well as money market mutual funds, insurance companies and
securities brokerage firms, many of which are substantially larger in size than
the Bank. The Bank's competition for loans comes principally from savings banks,
savings and loan associations, commercial banks, mortgage bankers, finance
companies and other institutional lenders. Some of the institutions which
compete with the Bank have much greater financial and marketing resources than
the Bank. The Bank's principal methods of competition include loan and deposit
pricing, maintaining close ties with its local community, advertising and
marketing programs and the types of services provided.
LENDING ACTIVITIES
LOAN PORTFOLIO COMPOSITION. The Bank's loans consist primarily of mortgage
loans secured by one- to four-family residences. At March 31, 1998, the Bank had
total loans of $156.6 million, of which $94.8 million, or 60.5%, were one- to
four-family first lien residential mortgage loans. The Bank had an additional
$8.5 million of home equity loans and home equity lines of credit outstanding,
or 5.4% of total loans, secured by subordinate liens on one- to four-family
residences. The Bank also had $30.6 million of commercial mortgage loans, or
19.5% of total loans; $9.1 million of automobile loans, or 5.8% of total loans;
$6.5 million of commercial loans, or 4.2% of total loans. The remainder include
different types of consumer loans offered to satisfy customer demand. The Bank's
ratio of loans to total assets has been approximately 66% for more than three
years, fluctuating by less than one percentage point since year end 1994.
Interest rates on loans are affected by the demand for loans, the supply of
money available for lending, credit risks, the rates offered by competitors and
other conditions. These factors are in turn affected by, among other things,
economic conditions, monetary policies of the federal government, and
legislative tax policies.
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LOAN PORTFOLIO COMPOSITION
The following table sets forth the composition of the Bank's mortgage and
other loan portfolios in dollar amounts and in percentages at the dates
indicated.
<TABLE>
<CAPTION>
AT DECEMBER 31,
-----------------------------------------------------------------------------
AT MARCH 31,
1998 1997 1996 1995 1994
-------------------- -------------------- -------------------- ---------------------- ---------
PERCENT PERCENT PERCENT PERCENT
AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Real estate loans:
Residential.................. $ 97,167 62.03% $ 97,303 61.66% $ 96,097 59.73% $ 95,854 59.57% $ 92,942
Construction................. 264 0.17 316 0.20 528 0.33 155 0.10 1,065
Home equity.................. 6,139 3.92 5,924 3.75 5,882 3.66 6,344 3.94 7,085
Commercial mortgages......... 30,560 19.51 30,867 19.56 35,119 21.83 35,165 21.86 32,756
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
Total real estate loans.... 134,130 85.63 134,410 85.17 137,626 85.55 137,518 85.47 133,848
Other loans:
Guaranteed student loans..... 1,708 1.09 1,507 0.96 1,552 0.96 1,747 1.09 1,960
Property improvement loans... 828 0.53 907 0.57 1,031 0.64 916 0.57 822
Automobile loans............. 9,050 5.78 8,902 5.64 6,378 3.96 5,510 3.42 4,617
Other consumer loans......... 4,391 2.80 5,031 3.19 6,289 3.91 6,174 3.84 5,993
Commercial loans............. 6,528 4.17 7,049 4.47 8,020 4.98 9,023 5.61 7,366
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
Total other loans.......... 22,505 14.37 23,396 14.83 23,270 14.45 23,370 14.53 20,758
Total loans.............. 156,635 100.00% 157,806 100.00% 160,896 100.00% 160,888 100.00% 154,606
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
--------- --------- --------- -----------
Less:
Deferred loan fees, net...... 205 241 333 379 378
Allowance for loan losses.... 2,230 2,143 1,952 2,002 1,752
--------- --------- --------- --------- ---------
Total loans, net........... $ 154,200 $ 155,422 $ 158,611 $ 158,507 $ 152,476
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
<CAPTION>
1993
----------------------
PERCENT PERCENT
OF TOTAL AMOUNT OF TOTAL
----------- --------- -----------
<S> <C> <C> <C>
Real estate loans:
Residential.................. 60.12% $ 88,042 60.89%
Construction................. 0.69 534 0.37
Home equity.................. 4.58 7,141 4.94
Commercial mortgages......... 21.19 29,995 20.75
----------- --------- -----------
Total real estate loans.... 86.58 125,712 86.95
Other loans:
Guaranteed student loans..... 1.27 1,621 1.12
Property improvement loans... 0.53 824 0.57
Automobile loans............. 2.99 3,775 2.61
Other consumer loans......... 3.88 5,784 4.00
Commercial loans............. 4.75 6,867 4.75
----------- --------- -----------
Total other loans.......... 13.42 18,871 13.05
Total loans.............. 100.00% 144,583 100.00%
----------- --------- -----------
----------- -----------
Less:
Deferred loan fees, net...... 363
Allowance for loan losses.... 1,620
---------
Total loans, net........... $ 142,600
---------
---------
</TABLE>
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The following table presents the Bank's loan portfolio by fixed and
adjustable rates at the dates indicated.
<TABLE>
<CAPTION>
AT DECEMBER 31,
-----------------------------------------------------------------------------
AT MARCH 31,
1998 1997 1996 1995 1994
-------------------- -------------------- -------------------- ---------------------- ---------
PERCENT PERCENT PERCENT PERCENT
AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
FIXED-RATE LOANS:
Real estate loans:
Residential................ $ 62,475 39.89% $ 59,048 37.42% $ 49,879 31.00% $ 48,292 30.01% $ 47,433
Construction............... 264 0.17 316 0.20 528 0.33 155 0.10 1,065
Commercial mortgages....... 27,681 17.67 28,077 17.79 31,281 19.44 31,177 19.38 28,370
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
Total real estate
loans.................. 90,420 57.73 87,441 55.41 81,688 50.77 79,624 49.49 76,868
Other loans.................. 19,107 12.20 19,167 12.15 17,716 11.01 16,627 10.33 14,719
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
Total fixed-rate loans... 109,527 69.92 106,608 67.56 99,404 61.78 96,251 59.82 91,587
ADJUSTABLE-RATE LOANS:
Real estate loans:
Residential................ 34,692 22.15 38,255 24.24 46,218 28.73 47,562 29.56 45,509
Home equity................ 6,139 3.92 5,924 3.75 5,882 3.65 6,344 3.94 7,085
Commercial mortgages....... 2,879 1.83 2,790 1.77 3,838 2.39 3,988 2.48 4,386
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
Total real estate
loans.................. 43,710 27.91 46,969 29.76 55,938 34.77 57,894 35.98 56,980
Other loans.................. 3,398 2.17 4,229 2.68 5,554 3.45 6,743 4.20 6,039
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
Total adjustable-rate
loans.................... 47,108 30.08 51,198 32.44 61,492 38.22 64,637 40.18 63,019
Total loans.............. 156,635 100.00% 157,806 100.00% 160,896 100.00% 160,888 100.00% 154,606
--------- --------- --------- --------- --------- --------- --------- ----------- ---------
--------- --------- --------- -----------
Less:
Deferred loan fees, net...... 205 241 333 379 378
Allowance for loan losses.... 2,230 2,143 1,952 2,002 1,752
--------- --------- --------- --------- ---------
Total loans, net....... $ 154,200 $ 155,422 $ 158,611 $ 158,507 $ 152,476
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
<CAPTION>
1993
----------------------
PERCENT PERCENT
OF TOTAL AMOUNT OF TOTAL
----------- --------- -----------
<S> <C> <C> <C>
FIXED-RATE LOANS:
Real estate loans:
Residential................ 30.68% $ 43,281 29.93%
Construction............... 0.69 534 0.37
Commercial mortgages....... 18.35 25,403 17.57
----------- --------- -----------
Total real estate
loans.................. 49.72 69,218 47.87
Other loans.................. 9.52 12,749 8.82
----------- --------- -----------
Total fixed-rate loans... 59.24 81,967 56.69
ADJUSTABLE-RATE LOANS:
Real estate loans:
Residential................ 29.44 44,761 30.96
Home equity................ 4.57 7,141 4.94
Commercial mortgages....... 2.84 4,592 3.18
----------- --------- -----------
Total real estate
loans.................. 36.85 56,494 39.08
Other loans.................. 3.91 6,122 4.23
----------- --------- -----------
Total adjustable-rate
loans.................... 40.76 62,616 43.31
Total loans.............. 100.00% 144,583 100.00%
----------- --------- -----------
----------- -----------
Less:
Deferred loan fees, net...... 363
Allowance for loan losses.... 1,620
---------
Total loans, net....... $ 142,600
---------
---------
</TABLE>
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<PAGE>
RESIDENTIAL MORTGAGE LOANS. The Bank offers both adjustable-rate and
fixed-rate mortgage loans. The relative proportions of fixed versus adjustable
mortgage loans originated by the Bank depends principally upon customer
preferences, which are generally driven by general economic and interest rate
conditions and the pricing offered by the Bank's competitors. In recent years,
with relatively low mortgage interest rates, customer preference has favored
fixed-rate mortgage loans. As a result, from December 31, 1993 to March 31,
1998, fixed-rate residential mortgage loans increased from 29.9% to 39.9% of the
loan portfolio while adjustable-rate residential mortgage loans declined from
31.0% to 22.2% of the loan portfolio. The adjustable-rate loans generally carry
annual or triennial caps and life-of-the-loan ceilings which limit interest rate
adjustments.
Generally, credit risks on adjustable-rate loans are somewhat greater than
on fixed-rate loans primarily because, as interest rates rise, so do borrowers'
payments, increasing the potential for default. The Bank offers teaser rate
loans with low initial interest rates that are not based upon the index plus the
margin for determining future rate adjustments; however, the Bank judges the
borrower's ability to repay based on the payment due at an interest rate 2%
higher than the initial rate.
In addition to verifying income and assets of borrowers, the Bank obtains
independent appraisals on all residential first mortgage loans and attorneys'
opinions of title are required at closing. The Bank generally uses title
opinions rather than title insurance on residential mortgage loans, but has not
experienced losses due to its reliance on title opinions instead of title
insurance. As the Bank seeks to position itself to be able to sell mortgage
loans on the secondary market towards the end of 1998, it will begin to require
title insurance on first lien residential mortgage loans. Private mortgage
insurance is required on most loans with a loan to value ratio in excess of 80%.
The Bank has $7.5 million of residential mortgage loans with loan to value
ratios of from 80% to 90% without private mortgage insurance. The Bank
originated these loans as part of a special first time home buyer program begun
in 1990. The Bank has not experienced delinquencies on those loans greater than
on other residential mortgage loans. Real estate tax escrows are generally
required on residential mortgage loans with loan to value ratios in excess of
80%.
In the past, the Bank's residential mortgage loans have not been originated
using standards, procedures and documentation customary on the secondary market.
Hence, the loans are generally not salable to regular secondary market
purchasers. The Bank anticipates that by the end of 1998, most of its new
residential mortgage loan originations will meet secondary market standards.
Adjustable-rate mortgage loans originated in recent years have interest
rates that adjust annually or every three years based on the one or three year
treasury bill index, plus 3%. Interest rate adjustments are generally limited to
2% per year for one year adjustable loans and 3% per adjustment for three year
adjustable loans. There is normally a lifetime maximum interest rate adjustment,
measured from the initial interest rate, of 6%.
Fixed-rate residential mortgage loans generally have terms of 10 to 30
years. Although fixed-rate mortgage loans may adversely affect the Bank's net
interest income in periods of rising interest rates, the Bank originates such
loans to satisfy customer demand. Such loans are generally originated at initial
interest rates which exceed the fully indexed rate on adjustable-rate mortgage
loans offered at the same time. Therefore, during periods of level interest
rates, they tend to provide higher yields than adjustable loans. Fixed-rate
residential mortgage loans originated by the Bank generally include due-on-sale
clauses which permit the Bank to demand payment in full if the borrower sells
the property without the Bank's consent. Due-on-sale clauses are an important
means of adjusting the rates of the Bank's fixed-rate mortgage loan portfolio,
and the Bank has generally exercised its rights under these clauses.
After the Conversion, management intends to continue to emphasize the
origination of mortgage loans secured by one- to four-family residences.
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<PAGE>
HOME EQUITY LOANS. The Bank offers a home equity line of credit secured by
a residential one- to four-family mortgage, usually a second lien. These loans
have adjustable rates of interest and provide for an initial advance period of
ten years, during which the borrower pays interest only and can borrow, repay,
and reborrow the principal balance. Some of the Bank's older line of credit
mortgage loans provide for minimum monthly payments which may include principal
reductions. This is followed by a repayment period, generally fifteen years,
during which the balance of the loan is repaid in principal and interest
installments. The Bank also offers home equity loans which are fully advanced at
closing and repayable in monthly principal and interest installments over a
period not to exceed 10 years. The maximum loan to value ratio, including prior
liens, is 80% for lines of credit and 85% for regular amortizing home equity
loans. At March 31, 1998, the Bank had $6.1 million in outstanding advances on
home equity lines of credit, $3.7 million of unused home equity lines of credit
and $2.4 million in regular amortizing home equity loans.
COMMERCIAL MORTGAGE LOANS. The Bank originates commercial mortgage loans
secured by office buildings, retail establishments, multi-family residential
real estate and other types of commercial property. Substantially all of the
properties are located in the Bank's market area or in nearby areas of central
New York State. At March 31, 1998, the Bank's commercial mortgage loan portfolio
was $30.6 million, or 19.5% of total loans. At March 31, 1998, the Bank's
largest such loan was a $962,000, or 50%, participation in a $1.9 million loan
to a non-profit organization secured by a light manufacturing facility in
Cortland County for developmentally disabled workers. The other participant is
another local bank. A number of directors of the Bank now serve, or have served,
as volunteer directors of the non-profit borrower. The loan is current and has
never been designated as non-accrual or otherwise classified.
The Bank makes commercial mortgage loans with loan to value ratios up to
75%, terms up to five years, and amortization periods up to 20 years. At March
31, 1998, $2.9 million of the Bank's commercial mortgage loans had adjustable
rates and $27.7 million had fixed rates. However, most of the Bank's recent
fixed-rate commercial mortgage loans mature after five years, which allows the
Bank to adjust the interest rate after five years if appropriate.
For commercial mortgage loans, the Bank generally requires a debt service
coverage ratio of at least 110% and the personal guarantee of the principals of
the borrower. The Bank also requires an appraisal by an independent appraiser.
Title insurance is required for loans in excess of $500,000, a threshold which
was recently increased from $200,000. Attorneys' opinions of title are used
instead of title insurance for smaller commercial loans, but the Bank has not
experienced losses as a result of not having title insurance.
Loans secured by commercial properties generally involve a greater degree of
risk than one- to four-family residential mortgage loans. Because payments on
such loans are often dependent on successful operation or management of the
properties, repayment may be subject, to a greater extent, to adverse conditions
in the real estate market or the economy. The Bank seeks to minimize these risks
through its underwriting policies. The Bank evaluates the qualifications and
financial condition of the borrower, including credit history, profitability and
expertise, as well as the value and condition of the underlying property. The
factors considered by the Bank include net operating income; the debt coverage
ratio (the ratio of cash net income to debt service); and the loan to value
ratio. When evaluating the borrower, the Bank considers the financial resources
and income level of the borrower, the borrower's experience in owning or
managing similar property and the Bank's lending experience with the borrower.
The Bank's policy requires borrowers to present evidence of the ability to repay
the loan without having to resort to the sale of the mortgaged property.
CONSTRUCTION LOANS. The Bank offers residential single family construction
loans to persons who intend to occupy the property upon completion of
construction and who are pre-qualified by the Bank for a permanent mortgage loan
on the property once construction is complete. Construction loans are generally
not made until construction is already 40% complete. Upon completion of
construction, these loans are automatically converted into permanent residential
mortgage loans and classified as such. The
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<PAGE>
proceeds of the construction loan are advanced in stages on a percentage of
completion basis as construction progresses. The loans generally provide for a
construction period of not more than three months during which the borrower pays
interest only. In recognition of the risks involved in such loans, the Bank
carefully monitors construction through regular inspections and the borrower
must qualify for the permanent mortgage loan before the construction loan is
made. At March 31, 1998, the Bank had four such construction loans with an
aggregate outstanding principal balance of $264,000. Construction loan levels
tend to increase during the summer because of the seasonal nature of residential
construction, but even during the summer these loans generally do not represent
more than 1% of the Bank's loan portfolio. The Bank's delinquency experience
with its construction loans has been favorable. At March 31, 1998, the Bank had
no non-performing construction loans.
AUTOMOBILE LOANS. In recent years, the Bank has exerted efforts to increase
its level of automobile loans in order to provide improved yields, increase the
interest rate sensitivity of its assets and expand its customer base. Automobile
loans are originated both through direct contact between the Bank and the
borrower and through automobile dealers who refer the borrowers to the Bank. The
Bank conducts its own analysis of the creditworthiness of borrowers referred to
it by dealers before approving any automobile loan. The dealer loans are
represented by installment sales contracts between the dealer and the purchaser
which are immediately assigned to the Bank. Dealers receive fees from the Bank
for the referrals.
The Bank offers automobile loans for both new and used cars. The loans have
fixed rates with maturities not more than five years. At March 31, 1998, the
Bank had $9.1 million of automobile loans. Loan amounts generally equal 85% of
the purchase price of the car. These loans tend to present greater risks of loss
than mortgage loans because the collateral is rapidly depreciable and easier to
conceal. Therefore, the Bank evaluates the credit and repayment ability of the
borrower as well as the value of the collateral in determining whether to
approve a loan.
OTHER CONSUMER LOANS. The Bank also makes short-term fixed-rate consumer
loans either unsecured or secured by savings accounts or other consumer assets,
as well as adjustable-rate revolving credit card loans and overdraft checking
loans. These loans totaled $4.4 million, or 2.8% of total loans, at March 31,
1998. The fixed-rate loans generally have a term of not more than five years and
have interest rates higher than mortgage loans. The shorter terms to maturity or
adjustable rates are helpful in managing the Bank's interest rate risk.
Applications for these loans are evaluated based upon the borrower's ability to
repay and, if applicable, the value of the collateral. Collateral value, except
for loans secured by bank deposits or marketable securities, is a secondary
consideration because personal property collateral generally rapidly depreciates
in value, is difficult to repossess, and rarely generates close to full value at
a forced sale.
COMMERCIAL LOANS. The Bank makes commercial loans to businesses for
automobile dealer floor plan financing, working capital, machinery and equipment
purchases, expansion, and other business purposes. These loans generally have
higher yields than mortgages loans, with maturities that generally are not more
than seven years. Working capital lines of credit tend to provide for one year
terms with annual reviews. The Bank had $6.5 million of such loans at March 31,
1998, of which 51.6% had fixed rates and 48.4% had adjustable rates.
Commercial loans tend to present greater risks than mortgage loans because
the collateral, if any, tends to be rapidly depreciable, difficult to sell at
full value and easier to conceal. In order to limit these risks, the Bank
evaluates these loans based upon the borrower's ability to repay the loan from
ongoing operations. The Bank considers the business history of the borrower and
perceived stability of the business as important factors when considering
applications for such loans. Occasionally, the borrower provides commercial or
residential real estate collateral for such loans, in which case the value of
the collateral may be a significant factor in the loan approval process.
ORIGINATION OF LOANS. Loan originations come from a number of sources.
Residential loan originations can be attributed to depositors, retail customers,
telephone inquiries, advertising, the efforts of the
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<PAGE>
Bank's loan officers, and referrals from other borrowers, real estate brokers
and builders. The Bank originates loans primarily through its own efforts. The
Bank has worked with independent commercial brokers and residential loan
servicers to obtain loan applications for consideration, but the Bank's present
policy requires that it conduct its own independent credit evaluation before
approving any loan. The Bank also uses referrals from automobile dealers in the
origination of automobile loans but evaluates each loan application itself in
advance of committing to any loan.
All of the Bank's lending is subject to its written, nondiscriminatory
underwriting standards and to loan origination procedures prescribed by the
Bank's Board of Directors. Officers of the Bank have the authority to approve
loans at differing levels established by the Board of Directors based upon the
position and expertise of the officer. All loans in excess of $200,000 and any
loan which, when added to existing loans to a borrower causes that loan
relationship to exceed $200,000 must be approved by the Board's Loan Committee.
The Bank is not subject to general state or federal regulations limiting the
aggregate amount of loans it is permitted to make to one borrower or an
affiliated group of borrowers, notably including mortgage loans, but is subject
to maximum loan to one borrower limits on certain types of loans, such as
commercial loans. The Bank's largest single loan is the $962,000 mortgage loan
to a non-profit organization previously described. The Bank has six different
loan relationships in which the aggregate amount outstanding to all related
borrowers exceeds $1.0 million. The largest such relationship had an aggregate
outstanding balance owed of $1.2 million at March 31, 1998, represented by five
loans secured by mortgages on commercial properties in central New York. None of
the loans in any of the six relationships are designated as non-accrual or
otherwise identified as problem loans.
The following table sets forth the Bank's loan originations, loan sales and
principal repayments for the periods indicated. All loans sold were whole loans.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------
THREE MONTHS ENDED
MARCH 31, 1998 1997 1996 1995
------------------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
(IN THOUSANDS)
<CAPTION>
<S> <C> <C> <C> <C>
Total loans, beginning of period........................ $ 157,806 $ 160,896 $ 160,888 $ 154,606
-------- ---------- ---------- ----------
Loans originated:
Residential mortgages................................. 3,600 14,732 12,382 10,789
Commercial mortgages.................................. 496 1,260 2,987 5,436
Commercial loans...................................... 1,335 3,940 5,072 5,987
Other loans........................................... 2,358 12,982 11,227 11,430
-------- ---------- ---------- ----------
Total loans originated.............................. 7,789 32,914 31,668 33,642
Principal repayments.................................... (8,316) (29,089) (29,236) (26,110)
Loans transferred to held-for-sale...................... (661) (2,541) -- --
Loans transferred from held-for-sale.................... 101 -- -- --
Loans transferred to real estate owned.................. (45) (1,095) (711) (645)
Total charge-offs....................................... (39) (3,279) (1,713) (605)
-------- ---------- ---------- ----------
Net loan activity....................................... (1,171) (3,090) 8 6,282
-------- ---------- ---------- ----------
Total loans, end of period.......................... $ 156,635 $ 157,806 $ 160,896 $ 160,888
-------- ---------- ---------- ----------
-------- ---------- ---------- ----------
</TABLE>
The Bank generally does not sell loans except for the sale of problem loans
during the first quarter of 1998 and the sale of student loans when the student
leaves school and the repayment of the loan begins. The Bank does not service
loans for other investors and the Bank has never purchased loan servicing
rights. However, the Bank intends to begin selling a portion of its new
fixed-rate residential mortgage loans on the secondary market by the end of
1998, with the Bank retaining the servicing of those loans.
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<PAGE>
From time to time, the Bank accepts loan applications through loan servicers
and other sources of loan applications. The Bank has had a relationship for more
than 10 years with a loan servicer who has referred loan applications,
principally for commercial mortgage loans, to the Bank for consideration. In
most cases, the Bank pays no fee for a loan referral from that company but when
and if the loan is closed, the company services the loan for the Bank. At March
31, 1998, the Bank had $9.6 million of loans serviced by that company, of which
28 loans, or $7.0 million, were commercial mortgage loans and 43 loans, or $2.6
million, were residential mortgage loans. The Bank had an additional $7.4
million of its loans serviced by other loan servicers, some of which are
participation loans in which the servicer is the lead participant.
LOAN MATURITY. The following table shows the contractual maturity of the
Bank's loan portfolio at March 31, 1998. Loans are shown as due based on their
contractual terms to maturity. Loans which have adjustable interest rates are
shown as maturing when the final loan payment is due without regard to rate
adjustments. The table does not show the effects of loan amortization, possible
prepayments or enforcement of due-on-sale clauses. Non-performing loans are
shown as being due based upon their contractual maturity without regard to
acceleration due to default.
<TABLE>
<CAPTION>
RESIDENTIAL HOME COMMERCIAL
MORTGAGE(1) EQUITY MORTGAGE COMMERCIAL OTHER LOANS TOTAL
----------- --------- ----------- ----------- ------------ ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Amounts due:
Within 3 months............................. $ 18 $ -- $ 923 $ 1,490 $ 167 $ 2,598
3 months to one year........................ 194 -- 3,050 1,678 1,339 6,261
1 to 3 years................................ 762 -- 9,720 1,007 5,143 16,632
3 to 5 years................................ 3,402 -- 4,998 640 6,706 15,746
5 to 10 years............................... 14,868 -- 5,071 1,665 367 21,971
10 to 20 years.............................. 43,366 2,285 5,828 -- 1,674 53,153
Over 20 years............................... 34,821 3,854 970 48 581 40,274
----------- --------- ----------- ----------- ------------ ----------
Total loans................................. $ 97,431 $ 6,139 $ 30,560 $ 6,528 $ 15,977 $ 156,635
----------- --------- ----------- ----------- ------------ ----------
----------- --------- ----------- ----------- ------------ ----------
</TABLE>
- ------------------------
(1) Includes construction loans on residential property.
The following table shows, as of March 31, 1998, the amount of loans due
after March 31, 1999, and whether they have fixed interest rates or adjustable
interest rates.
<TABLE>
<CAPTION>
FLOATING OR
FIXED ADJUSTABLE
RATES RATES TOTAL
---------- ----------- ----------
(IN THOUSANDS)
<S> <C> <C> <C>
Residential mortgage......................................................... $ 62,527 $ 34,692 $ 97,219
Home equity.................................................................. -- 6,139 6,139
Commercial mortgage.......................................................... 23,784 2,803 26,587
Commercial................................................................... 3,284 76 3,360
Other loans.................................................................. 4,430 41 14,471
---------- ----------- ----------
Total........................................................................ $ 104,025 $ 43,751 $ 147,776
---------- ----------- ----------
---------- ----------- ----------
</TABLE>
ASSET QUALITY
DELINQUENCY PROCEDURES. When a borrower fails to make a required payment on
a loan, the Bank attempts to cause the deficiency to be cured by contacting the
borrower. Late notices are sent when a payment is more than 15 days past due and
a late charge is generally assessed at that time. The Bank attempts to contact
personally any borrower who is more than 20 days past due. All loans past due 90
days or more are added to a watch list and an employee of the Bank contacts the
borrower on a regular basis to
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<PAGE>
seek to cure the delinquency. If a mortgage loan becomes past due from 90 to 120
days, the Bank refers the matter to an attorney, who first seeks to obtain
payment without litigation and, if unsuccessful, generally commences a
foreclosure action or other appropriate legal action to collect the loan. A
foreclosure action, if the default is not cured, generally leads to a judicial
sale of the mortgaged real estate. The judicial sale is delayed if the borrower
files a bankruptcy petition because the foreclosure action cannot be continued
unless the Bank first obtains relief from the automatic stay provided by the
Bankruptcy Code.
If the Bank acquires the mortgaged property at foreclosure sale or accepts a
voluntary deed in lieu of foreclosure, the acquired property is then classified
as real estate owned. At March 31, 1998, the Bank had $760,000 of real estate
owned, represented by six single family residences, one car dealership, one
bowling alley, one ice cream parlor, one commercial retail facility and one
parcel of vacant land. At March 31, 1998, the Bank had contracts to sell three
of those properties with an aggregate carrying value of $337,000. When real
estate is acquired in full or partial satisfaction of a loan, it is recorded at
the lower of the principal balance of the loan or fair value less costs of sale.
Any shortfall between that amount and the carrying value of the loan is then
charged to the allowance for loan losses. Subsequent changes in the value of the
property are charged to the expense of real estate operations. The Bank is
permitted to finance sales of real estate owned by "loans to facilitate," which
may involve a lower down payment or a longer repayment term or other more
favorable features than generally would be granted under the Bank's underwriting
guidelines. At March 31, 1998, the Bank had no "loans to facilitate."
If an automobile loan becomes 60 days past due, the Bank seeks to repossess
the collateral. If the default is not cured, then upon repossession the Bank
sells the automobile as soon as practicable through a local automobile auction.
When other types of non-mortgage loans become past due, the Bank takes measures
to cure defaults through contacts with the borrower and takes appropriate
action, depending upon the nature of the borrower and the collateral, to obtain
repayment of the loan.
The following table sets forth the Bank's loan delinquencies by type, by
amount and by percentage of type at March 31, 1998.
<TABLE>
<CAPTION>
LOANS DELINQUENT FOR:
------------------------------------------------------------------------------------
60-89 DAYS 90 DAYS OR MORE(1)
----------------------------------------- -----------------------------------------
PERCENT PERCENT
OF LOAN OF LOAN
NUMBER AMOUNT CATEGORY NUMBER AMOUNT CATEGORY
------------- ----------- ------------- ------------- ----------- -------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Residential mortgage loans.......... 12 $ 623 0.60% 27 $ 893 0.86%
Commercial mortgage loans........... -- -- 0.00 5 363 1.19
Commercial loans.................... -- -- 0.00 5 115 1.76
Other loans......................... 13 34 0.21 30 97 0.54
-- --
----- -----------
Total............................... 25 $ 657 0.42% 67 $ 1,468 0.93%
-- --
-- --
----- --- ----------- ---
----- --- ----------- ---
<CAPTION>
TOTAL DELINQUENT LOANS
-----------------------------------------
PERCENT
OF LOAN
NUMBER AMOUNT CATEGORY
------------- ----------- -------------
<S> <C> <C> <C>
Residential mortgage loans.......... 39 $ 1,516 1.46%
Commercial mortgage loans........... 5 363 1.19
Commercial loans.................... 5 115 1.76
Other loans......................... 43 131 0.82
--
-----------
Total............................... 92 $ 2,125 1.35%
--
--
----------- ---
----------- ---
</TABLE>
- ------------------------
(1) Includes seven "Other" loans with a balance of $10,000 at March 31, 1998 for
which the Bank was still accruing interest, representing 0.06% of total
other loans and 0.01% of total loans.
The following table sets forth information with respect to the Bank's
non-performing assets (which generally includes loans that are delinquent for 90
days or more and real estate owned) at the dates indicated. At March 31, 1998,
there were no loans other than those included in the table below with regard
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<PAGE>
to which management had information about possible credit problems of the
borrower that caused management to seriously doubt the ability of the borrower
to comply with present loan repayment terms.
<TABLE>
<CAPTION>
AT DECEMBER 31,
AT MARCH 31, -----------------------------------------------------
1998 1997 1996 1995 1994 1993
------------- --------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Non-accrual loans:(1)
Residential mortgages..................................... $ 893 $ 2,010 $ 1,069 $ 772 $ -- $ 299
Commercial mortgages...................................... 363 1,235 1,416 421 1,295 896
------ --------- --------- --------- --------- ---------
Total real estate loans................................. 1,256 3,245 2,485 1,193 1,295 1,195
Commercial loans.......................................... 115 331 790 739 51 243
Other loans............................................... 87 209 358 62 -- --
------ --------- --------- --------- --------- ---------
Total non-accrual loans................................. 1,458 3,785 3,633 1,994 1,346 1,438
Accruing loans past due 90 days or more:
Residential mortgages..................................... -- 2 1 -- 747 1,141
Commercial mortgages...................................... -- -- -- -- 310 1,132
------ --------- --------- --------- --------- ---------
Total real estate loans................................. -- 2 1 -- 1,057 2,273
Commercial loans.......................................... -- -- -- -- 13 67
Other loans............................................... 10 7 33 -- 47 108
------ --------- --------- --------- --------- ---------
Total loans past due 90 days or more and still
accruing.............................................. 10 9 34 -- 1,117 2,448
------ --------- --------- --------- --------- ---------
Total non-performing loans.................................. 1,468 3,794 3,667 1,994 2,463 3,886
Real estate owned........................................... 760 964 563 374 572 75
------ --------- --------- --------- --------- ---------
Total non-performing assets................................. $ 2,228 $ 4,758 $ 4,230 $ 2,368 $ 3,035 $ 3,961
------ --------- --------- --------- --------- ---------
------ --------- --------- --------- --------- ---------
Non-performing loans as a percent of total loans............ 0.94% 2.37% 2.28% 1.24% 1.60% 2.69%
Non-performing assets as a percent of total assets.......... 0.96% 2.04% 1.78% 1.00% 1.32% 1.69%
</TABLE>
- ------------------------
(1) Non-accrual loans at December 31, 1997 include $2.3 million of non-accrual
loans held for sale.
It is the Bank's policy to discontinue accruing interest on a loan when its
fourth monthly payment is due and unpaid, unless the Bank determines that the
nature of the delinquency and the collateral are such that collection of the
principal and interest on the loan in full is reasonably assured. When the
accrual of interest is discontinued, all accrued but unpaid interest is charged
against current period income. For mortgage loans, once the accrual of interest
is discontinued, the Bank records interest as and when received until the loan
is restored to accruing status. For non-mortgage loans designated as
non-accrual, amounts received are recorded as a reduction of principal until the
loan is returned to accruing status. Commercial mortgage and commercial loans
are not restored to accruing status until timely payments are made for at least
six months while residential mortgage or consumer loans are returned to accruing
status when sufficient payments are made so that they no longer meet the
standard for being initially designated as non-accrual.
The amount of additional interest income that would have been recorded on
non-accrual loans had those loans been performing in accordance with their terms
was $37,000 for the three months ended March 31, 1998, $402,000 for 1997,
$307,000 for 1996 and $107,000 for 1995.
CLASSIFIED ASSETS. FDIC regulations require that the Bank classify its
assets on a regular basis and establish prudent valuation allowances based on
such classifications. In addition, in connection with examinations, FDIC and
Banking Department examiners have the authority to identify problem assets and,
if appropriate, require that they be classified. There are three adverse
classifications for problem assets: Substandard, Doubtful and Loss. Substandard
assets have one or more defined weaknesses and are
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<PAGE>
characterized by the distinct possibility that the Bank will sustain some loss
if the deficiencies are not corrected. Doubtful assets have the weaknesses of
Substandard assets, with the additional characteristics that the weaknesses make
collection or liquidation in full on the basis of currently existing facts,
conditions and values questionable, and there is a high probability of loss. An
asset classified Loss is considered uncollectable and of such little value that
its continuance as an asset of the Bank is not warranted.
Assets classified as Substandard or Doubtful require the Bank to establish
prudent valuation allowances. If an asset or portion thereof is classified as
Loss, the Bank must either establish a specific allowance for loss equal to 100%
of the portion of the asset classified as Loss or charge off such amount. If the
Bank does not agree with an examiner's classification of an asset, it may appeal
this determination. On the basis of management's review of its loans at March
31, 1998, the Bank had $2.1 million of assets classified as Substandard, $49,000
classified as Doubtful, and none classified as Loss. All classified loans are
non-performing and shown in the above table of non-performing loans.
ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is established
through a provision for loan losses based on management's evaluation of the
risks inherent in the Bank's loan portfolio and the general economy. The
allowance for loan losses is maintained at an amount management considers
adequate to cover loan losses which are deemed probable and can be estimated.
The allowance is based upon a number of factors, including asset
classifications, economic trends, industry experience and trends, industry and
geographic concentrations, estimated collateral values, management's assessment
of the credit risk inherent in the portfolio, historical loan loss experience
and the Bank's underwriting policies. The Bank evaluates, on a monthly basis,
all loans identified as problem loans, including all non-accrual loans and other
loans where management has reason to doubt collection in full in accordance with
original payment terms. The Bank considers whether the allowance should be
adjusted to protect against risks associated with such loans. In addition, the
Bank applies fixed percentages for each category of performing loans not
designated as problem loans to determine an additional component of the
allowance to protect against unascertainable risks inherent in any portfolio of
performing loans. Finally, the Bank includes an unallocated component in its
allowance to address general factors and general uncertainties such as changes
in economic conditions and the inherent inaccuracy of any attempt to predict
future default rates and property values based upon past experience.
The analysis of the adequacy of the allowance is reported to and reviewed by
the Loan Committee of the Board of Directors monthly. Management believes it
uses a reasonable and prudent methodology to project potential future losses in
the loan portfolio, and hence assess the adequacy of the allowance for loan
losses. However, any such assessment is speculative and future adjustments may
be necessary if economic conditions or the Bank's actual experience differ
substantially from the assumptions upon which the evaluation of the allowance
was based. Furthermore, state and federal regulators, in reviewing the Bank's
loan portfolio as part of a future regulatory examination, may request the Bank
to increase its allowance for loan losses, thereby negatively affecting the
Bank's financial condition and earnings at that time. Moreover, future additions
to the allowance may be necessary based on changes in economic and real estate
market conditions, new information regarding existing loans, identification of
additional problem loans and other factors, both within and outside of
management's control.
83
<PAGE>
The following table summarizes the activity in the Bank's allowance for loan
losses during the periods indicated.
<TABLE>
<CAPTION>
THREE MONTHS
ENDED YEAR ENDED DECEMBER 31,
MARCH 31, -----------------------------------------------------
1998 1997 1996 1995 1994 1993
------------- --------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Allowance for loan losses, beginning
of period....................................... $ 2,143 $ 1,952 $ 2,002 $ 1,752 $ 1,620 $ 1,223
Provision for loan losses......................... 75 3,300 1,380 600 300 550
------ --------- --------- --------- --------- ---------
Charge-offs:
Real estate..................................... -- 2,484 264 478 110 25
Commercial...................................... 23 395 898 31 21 48
Other........................................... 16 400 551 96 137 205
------ --------- --------- --------- --------- ---------
Total charge-offs............................. 39 3,279 1,713 605 268 278
Recoveries:
Real estate..................................... 23 9 24 161 -- --
Commercial...................................... 9 61 190 -- -- --
Other........................................... 19 100 69 94 100 125
------ --------- --------- --------- --------- ---------
Total recoveries.............................. 51 170 283 255 100 125
Net charge-offs (recoveries)...................... (12) 3,109 1,430 350 168 153
------ --------- --------- --------- --------- ---------
Allowance for loan losses, end
of period....................................... $ 2,230 $ 2,143 $ 1,952 $ 2,002 $ 1,752 $ 1,620
------ --------- --------- --------- --------- ---------
------ --------- --------- --------- --------- ---------
Allowance for loan losses as a
percent of total loans.......................... 1.43% 1.34% 1.22% 1.25% 1.14% 1.12%
Allowance for loan losses as a
percent of non-performing loans................. 151.91% 56.48% 53.23% 100.40% 71.13% 41.69%
Ratio of net charge-offs(recoveries)
to average loans outstanding.................... (0.01%) 1.97% 0.90% 0.22% 0.12% 0.13%
</TABLE>
84
<PAGE>
The following table sets forth the breakdown of the allowance for loan
losses by loan category at the dates indicated. The allocation of the allowance
to each category is not necessarily indicative of future losses and does not
restrict the use of the allowance to absorb losses in any category.
<TABLE>
<CAPTION>
AT DECEMBER 31,
----------------------------------------------
AT MARCH 31, 1998 1997 1996
---------------------- ---------------------- ----------------------
PERCENT PERCENT PERCENT
OF LOANS OF LOANS OF LOANS
TO TOTAL TO TOTAL TO TOTAL
AMOUNT LOANS AMOUNT LOANS AMOUNT LOANS
--------- ----------- --------- ----------- --------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
ALLOWANCE FOR LOAN LOSSES ALLOCATED TO:
Residential mortgages.............................. $ 844 66.12% $ 661 65.61% $ 389 63.72%
Commercial mortgages............................... 650 19.51 638 19.56 818 21.83
Commercial loans................................... 137 4.17 183 4.47 478 4.98
Other loans........................................ 218 10.20 192 10.36 267 9.47
Unallocated........................................ 381 N/A 469 N/A -- --
--------- ----------- --------- ----------- --------- -----------
Total allowance.................................. $ 2,230 100.00% $ 2,143 100.00% $ 1,952 100.00%
--------- ----------- --------- ----------- --------- -----------
--------- ----------- --------- ----------- --------- -----------
</TABLE>
<TABLE>
<CAPTION>
AT DECEMBER 31,
----------------------------------------------------------------------
1995 1994 1993
---------------------- ---------------------- ----------------------
PERCENT PERCENT PERCENT
OF LOANS OF LOANS OF LOANS
TO TOTAL TO TOTAL TO TOTAL
AMOUNT LOANS AMOUNT LOANS AMOUNT LOANS
--------- ----------- --------- ----------- --------- -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
ALLOWANCE FOR LOAN LOSSES ALLOCATED TO:
Residential mortgages.............................. $ 112 63.61% $ 746 65.39% $ 324 66.20%
Commercial mortgages............................... 753 21.86 341 21.19 205 20.75
Commercial loans................................... 961 5.61 331 4.75 329 4.75
Other loans........................................ 176 8.92 334 8.67 762 8.30
Unallocated........................................ -- N/A -- -- -- --
--------- ----------- --------- ----------- --------- -----------
Total allowance.................................. $ 2,230 100.00% $ 1,752 100.00% $ 1,620 100.00%
--------- ----------- --------- ----------- --------- -----------
--------- ----------- --------- ----------- --------- -----------
</TABLE>
ENVIRONMENTAL ISSUES
The Bank encounters certain environmental risks in its lending activities.
Under federal and state environmental laws, lenders may become liable for costs
of cleaning up hazardous materials found on property securing their loans. In
addition, the presence of hazardous materials may have a substantial adverse
effect on the value of such property as collateral and may cause economic
difficulties for the borrower, causing the loan to go into default. Although
environmental risks are usually associated with loans secured by commercial real
estate, risks also may exist for loans secured by residential real estate if,
for example, there is nearby commercial contamination or if the residence was
constructed on property formerly used for commercial purposes. The Bank attempts
to control its risk by requiring a phase one environmental assessment by a
Bank-approved engineer as part of its underwriting review for all mortgage loans
other than those secured by one- to four-family residences. Prior to completing
a foreclosure or acquiring title to property instead of foreclosure, the Bank
undertakes an environmental review, the nature of which depends on the nature of
the mortgaged property.
The Bank believes its procedures regarding the assessment of environmental
risk are adequate and, as of March 31, 1998, the Bank was unaware of any
environmental issues with respect to any of its mortgage loans which would
subject it to any material liability at this time. Hidden or future
environmental contamination could adversely affect the values of properties
securing loans in the Bank's portfolio.
85
<PAGE>
INVESTMENT ACTIVITIES
GENERAL. The investment policy of the Bank, which is approved by the Board
of Directors, is based upon its asset/liability management goals and is designed
primarily to provide satisfactory yields while maintaining adequate liquidity, a
balance of high quality, diversified investments, and minimal risk. The
investment policy is implemented by the President and the Chief Financial
Officer. The Bank is assisted in its investment decisions by an independent
nationally-recognized investment advisory firm. All securities purchases and
sales must be approved by at least two executive officers and the purchases are
reported to the Board of Directors each month.
As required by SFAS 115, securities are classified into three categories:
trading, held-to-maturity and available-for-sale. Securities that are bought and
held principally for the purpose of selling them in the near term are classified
as trading securities and are reported at fair value with unrealized gains and
losses included in trading account activities in the statement of income.
Securities that the Bank has the positive intent and ability to hold to maturity
are classified as held-to-maturity and reported at amortized cost. All other
securities are classified as available-for-sale. Available-for-sale securities
are reported at fair value with unrealized gains and losses included, on an
after-tax basis, as a separate component of net worth. The Bank does not have a
trading securities portfolio and has no current plans to maintain such a
portfolio in the future. At March 31, 1998, the Bank's securities portfolio
included securities with a fair value of $45.5 million which were classified as
available-for-sale and securities with amortized cost of $12.5 million which
were classified as held-to-maturity. The Bank classifies each security between
the available-for-sale and held-to-maturity categories when the security is
purchased. The Bank seeks to maintain a target ratio of approximately 80% of its
portfolio as available-for-sale and approximately 20% as held-to-maturity.
Accounting rules allowed institutions to transfer securities from
held-to-maturity to available-for-sale at the end of 1995 without any adverse
consequences. In December 1995, the Bank transferred securities held-to-maturity
with a fair value of approximately $31.2 million to the available-for-sale
classification.
INVESTMENT DEBT SECURITIES. The Bank's investment debt securities totaled
$35.8 million at March 31, 1998. It is the policy of the Bank to invest in debt
securities issued by the United States Government, its agencies, municipalities
and corporations. The Bank purchases only investment grade debt securities for
its investment portfolio and at March 31, 1998, none of its investment debt
securities were in default or otherwise classified. The Bank seeks to balance
its investment debt securities purchases between higher yielding U.S. government
and related securities which are virtually risk-free but which have lower yields
and corporate debt securities which offer higher yields. Corporate debt
securities present greater risks than U.S. Government securities because of the
increased possibility that the corporate obligor, compared to the U.S.
Government, will default. To control risks, the Bank limits its investment in
corporate debt securities to those rated in the three highest grades by a
nationally recognized rating organization.
Debt securities are generally purchased with a remaining term to maturity of
two to three years. However, recently, the Bank has begun to purchase certain
callable debt securities with terms up to five to seven years in order to
increase yields. At March 31, 1998, more than 97% of the carrying value of the
Bank's investment debt securities had remaining terms to maturity of five years
or less.
EQUITY SECURITIES. The Bank invests a limited amount of its assets in
corporate equity securities. Under New York law, a savings bank is permitted to
invest in corporate equity securities provided certain conditions are met,
including requirements that the security must be listed on a national securities
exchange and must have paid dividends at least quarterly for ten consecutive
years. These investments are made to diversify the Bank's investments and
provide opportunities for capital appreciation as well as dividend income. All
equity securities are classified as available-for-sale. The Bank does not
regularly trade such securities and does not purchase them for the purpose of
near term sale. Equity securities had a fair value of $2.4 million at March 31,
1998. The Bank intends to invest approximately an additional $50,000 per month
in equity securities.
86
<PAGE>
FEDERAL HOME LOAN BANK STOCK. At March 31, 1998, the Bank held $1.3 million
in stock of the FHLBNY, which was necessary to be a member of the FHLBNY.
Membership requires the purchase of stock equal to 1% of the Bank's residential
mortgage loans. If the Bank borrows from the FHLBNY, the Bank must own stock at
least equal to 5% of its borrowings. The yield on this stock was 7.4%
(annualized) for the three months ended March 31, 1998.
MORTGAGE-BACKED SECURITIES. The Bank invests in mortgage-backed securities
to supplement the yields on its loan portfolio. At March 31, 1998, the Bank's
mortgage-backed securities portfolio included $12.0 million in fair value
classified as available-for-sale and $7.8 million in amortized cost classified
as held-to-maturity. At March 31, 1998, more than 95% of the Bank's
mortgage-backed securities were issued or guaranteed by Fannie Mae, Freddie Mac
or Ginnie Mae. The Bank's mortgage-backed securities portfolio had a weighted
average yield of 6.49% at March 31, 1998.
Mortgage-backed securities generally have higher yields than other debt
securities because of the longer terms and the uncertainties associated with the
timing of mortgage repayments. In addition, mortgage-backed securities are more
liquid than individual mortgage loans and may be used to collateralize
borrowings of the Bank. However, these securities generally yield less than the
loans that underlie them because of the cost of payment guarantees or credit
enhancements that reduce credit risk. Mortgage-backed securities of the type
held by the Bank are generally weighted at 20%, rather than the 50% weighting
for performing residential one- to four-family mortgage loans, in determining
risk-based capital ratios.
While investment and mortgage-backed securities carry a reduced credit risk
as compared to loans, such securities remain subject to the risk that a
fluctuating interest rate environment, along with other factors such as the
geographic distribution of the underlying mortgage loans, may alter the
prepayment rate of such mortgage loans and so affect both the prepayment speed,
and value, of such securities. See "Risk Factors--Interest Rate Risk."
The following table sets forth certain information regarding the amortized
cost and fair value of the Bank's available-for-sale and held-to-maturity
securities portfolios at the dates indicated.
<TABLE>
<CAPTION>
AT DECEMBER 31,
-----------------------------------------------------------
AT MARCH 31,
1998 1997 1996 1995
---------------------- ---------------------- ---------------------- -----------
AMORTIZED FAIR AMORTIZED FAIR AMORTIZED FAIR AMORTIZED
COST VALUE COST VALUE COST VALUE COST
----------- --------- ----------- --------- ----------- --------- -----------
<S> <C> <C> <C> <C> <C> <C> <C>
(IN THOUSANDS)
SECURITIES AVAILABLE-FOR-SALE:
U.S. Treasury securities................. $ 12,048 $ 12,137 $ 15,045 $ 15,141 $ 14,497 $ 14,550 $ 3,053
U.S. Government agencies................. 4,495 4,485 996 1,005 4,988 4,993 5,502
Corporate debt obligations............... 14,485 14,512 13,819 13,861 13,233 13,252 24,545
Mortgage-backed securities............... 11,886 11,981 12,144 12,211 11,833 11,722 7,764
----------- --------- ----------- --------- ----------- --------- -----------
Total debt securities.................. 42,914 43,115 42,004 42,218 44,551 44,517 40,864
Equity securities........................ 1,340 2,360 1,192 1,922 628 1,077 418
----------- --------- ----------- --------- ----------- --------- -----------
Total Available-for-sale............... 44,254 45,475 43,196 44,140 45,179 45,594 41,282
----------- --------- ----------- --------- ----------- --------- -----------
SECURITIES HELD-TO-MATURITY:
U.S. Government agencies................. 2,001 1,997 1,992 1,995 -- -- --
Corporate debt obligations............... 2,359 2,376 1,854 1,870 -- -- --
State and municipal sub-divisions........ 284 288 425 430 858 867 1,472
Mortgage-backed securities............... 7,835 7,828 8,279 8,274 10,899 10,766 9,716
----------- --------- ----------- --------- ----------- --------- -----------
Total held-to-maturity................. 12,479 12,489 12,550 12,569 11,757 11,633 11,188
----------- --------- ----------- --------- ----------- --------- -----------
TOTAL SECURITIES....................... $ 56,733 $ 57,964 $ 55,746 $ 56,709 $ 56,936 $ 57,227 $ 52,470
----------- --------- ----------- --------- ----------- --------- -----------
----------- --------- ----------- --------- ----------- --------- -----------
<CAPTION>
FAIR
VALUE
---------
<S> <C>
SECURITIES AVAILABLE-FOR-SALE:
U.S. Treasury securities................. $ 3,068
U.S. Government agencies................. 5,542
Corporate debt obligations............... 24,679
Mortgage-backed securities............... 7,752
---------
Total debt securities.................. 41,041
Equity securities........................ 736
---------
Total Available-for-sale............... 41,777
---------
SECURITIES HELD-TO-MATURITY:
U.S. Government agencies................. --
Corporate debt obligations............... --
State and municipal sub-divisions........ 1,501
Mortgage-backed securities............... 9,794
---------
Total held-to-maturity................. 11,295
---------
TOTAL SECURITIES....................... $ 53,072
---------
---------
</TABLE>
87
<PAGE>
The table below sets forth certain information regarding the carrying value,
weighted average yields and stated maturity of the Bank's securities at March
31, 1998. There were no securities (exclusive of obligations of the U.S.
Government and any federal agencies) issued by any one entity with a total
carrying value in excess of 10% of the Bank's equity at that date.
<TABLE>
<CAPTION>
ONE TO FIVE YEARS MORE THAN TEN YEARS
ONE YEAR OR LESS FIVE TO TEN YEARS
------------------------ ------------------------ ------------------------ ------------------------
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>
U.S. Treasury
securities............ $ 5,501 6.10% $ 6,636 6.31% $ -- --% $ -- --%
U.S. Government
agencies.............. 500 6.53 4,996 6.21 990 6.06 -- --
Corporate debt
obligations........... 1,751 6.33 15,120 6.20 -- -- -- --
State and municipal..... -- -- 284 4.65 -- -- -- --
Mortgage-backed
securities............ -- -- 4,948 6.46 1,194 7.50 13,674 6.41%
----------- --- ----------- --- ----------- --- ----------- ---
Total................. $ 7,752 6.18% $ 31,984 6.25% $ 2,184 6.85% $ 13,674 6.41%
----------- --- ----------- --- ----------- --- ----------- ---
----------- --- ----------- --- ----------- --- ----------- ---
<CAPTION>
TOTAL DEBT SECURITIES
-----------------------------------
CARRYING AVERAGE MARKET
VALUE YIELD VALUE
----------- ----------- ---------
<S> <C> <C> <C>
U.S. Treasury
securities............ $ 12,137 6.21% $ 12,137
U.S. Government
agencies.............. 6,486 6.21 6,482
Corporate debt
obligations........... 16,871 6.21 16,888
State and municipal..... 284 4.65 288
Mortgage-backed
securities............ 19,816 6.49 19,809
----------- ----- ---------
Total................. $ 55,594 6.30% $ 55,604
----------- ----- ---------
----------- ----- ---------
</TABLE>
SOURCES OF FUNDS
GENERAL. The Bank's primary source of funds is deposits. In addition, the
Bank derives funds for loans and investments from loan and security repayments
and prepayments and revenues from operations. Scheduled payments on loans and
mortgage-backed and investment securities are a relatively stable source of
funds, while savings inflows and outflows and loan and mortgage-backed and
investment securities prepayments are significantly influenced by general
interest rates and money market conditions.
DEPOSITS. The Bank offers several types of deposit programs to its
customers, including passbook and statement savings accounts, NOW accounts,
money market deposit accounts, checking accounts and savings certificates.
Deposit account terms vary according to the minimum balance required, the time
periods the funds must remain on deposit and the interest rate, among other
factors. The Bank's deposits are obtained predominantly from its Cortland County
market area. The Bank relies primarily on customer service and long-standing
relationships with customers to attract and retain these savings deposits;
however, market interest rates and rates offered by competing financial
institutions significantly affect the Bank's ability to attract and retain
savings deposits. The Bank does not use brokers to obtain deposits and has no
brokered deposits. At March 31, 1998, the Bank had $198.2 million of deposits.
The Bank prices its deposit offerings based upon market and competitive
conditions in its market area. Pricing determinations are made weekly by a
committee of senior officers. The Bank seeks to price its deposit offerings to
be competitive with other institutions in its market area. Due to declining
market interest rates, savings certificates with rates of 6.00% or more totaled
$7.6 million, or 3.8%, of total deposits at March 31, 1998 compared to $44.6
million, or 22.0%, at December 31, 1995.
88
<PAGE>
The following table sets forth the distribution of the Bank's deposit
accounts at the dates indicated. Interest rates shown for non-time accounts are
the rates in effect at March 31, 1998.
<TABLE>
<CAPTION>
AT DECEMBER 31,
---------------------------------------------------------
AT MARCH 31, 1998
1997 1996 1995
---------------------- ---------------------- ---------------------- ---------
PERCENT PERCENT PERCENT
AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT
--------- ----------- --------- ----------- --------- ----------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
NON-TIME ACCOUNTS:
Passbook, statement savings and club accounts
(2.75-3.0%)................................. $ 63,658 32.11% $ 62,769 31.42% $ 63,003 30.79% $ 62,138
NOW accounts (1.76%).......................... 9,280 4.69 9,704 4.86 10,089 4.93 9,638
Demand accounts............................... 9,128 4.60 10,604 5.31 9,563 4.67 8,158
Money market accounts (2.76%)................. 8,314 4.19 8,435 4.22 9,343 4.57 10,054
--------- ----- --------- ----- --------- ----- ---------
Total non-time accounts..................... $ 90,380 45.59% $ 91,512 45.81% $ 91,998 44.96% $ 89,988
--------- ----- --------- ----- --------- ----- ---------
--------- ----- --------- ----- --------- ----- ---------
TIME ACCOUNTS:
3.00--3.99%................................... $ 370 0.19% $ 164 0.08% $ 381 0.19% $ 923
4.00--4.99%................................... 7,004 3.53 8,066 4.04 20,750 10.14 8,518
5.00--5.99%................................... 92,917 46.87 90,507 45.30 70,609 34.50 59,073
6.00--6.99%................................... 7,155 3.62 9,120 4.57 20,375 9.96 37,399
7.00--7.99%................................... 406 0.20 399 0.20 525 0.25 7,207
8.00--8.99%................................... 2 -- 2 -- 2 -- 2
--------- ----- --------- ----- --------- ----- ---------
Total time accounts......................... $ 107,854 54.41% $ 108,258 54.19% $ 112,642 55.04% $ 113,122
--------- ----- --------- ----- --------- ----- ---------
--------- ----- --------- ----- --------- ----- ---------
<CAPTION>
PERCENT
OF TOTAL
-----------
<S> <C>
NON-TIME ACCOUNTS:
Passbook, statement savings and club accounts
(2.75-3.0%)................................. 30.59%
NOW accounts (1.76%).......................... 4.75
Demand accounts............................... 4.02
Money market accounts (2.76%)................. 4.95
-----
Total non-time accounts..................... 44.31%
-----
-----
TIME ACCOUNTS:
3.00--3.99%................................... 0.45%
4.00--4.99%................................... 4.20
5.00--5.99%................................... 29.08
6.00--6.99%................................... 18.41
7.00--7.99%................................... 3.55
8.00--8.99%................................... --
-----
Total time accounts......................... 55.69%
-----
-----
</TABLE>
The following table sets forth the deposit flows at the Bank during the
periods indicated.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
THREE MONTHS ENDED --------------------------------
MARCH 31, 1998 1997 1996 1995
------------------- ---------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Net withdrawals............................................ $ (3,557) $ (13,191) $ (7,231) $ (5,737)
Interest credited.......................................... 2,021 8,321 8,761 8,588
------- ---------- --------- ---------
Net increase (decrease) in deposits........................ $ (1,536) $ (4,870) $ 1,530 $ 2,851
------- ---------- --------- ---------
------- ---------- --------- ---------
</TABLE>
The following table sets forth the amount of savings certificates
outstanding and the remaining period to maturity of such deposits at March 31,
1998.
<TABLE>
<CAPTION>
AMOUNT DUE DURING THE
TWELVE MONTHS ENDED MARCH 31, DUE AFTER
------------------------------- MARCH 31,
INTEREST RATE 1999 2000 2001 2001 TOTAL
- --------------------------------------------------------- --------- --------- --------- ----------- ----------
<S> <C> <C> <C> <C> <C>
(IN THOUSANDS)
3.00 - 3.99%............................................. $ 370 $ -- $ -- $ -- $ 370
4.00 - 4.99%............................................. 7,004 -- -- -- 7,004
5.00 - 5.99%............................................. 54,754 13,827 13,200 11,136 92,917
6.00 - 6.99%............................................. 1,882 3,608 1,281 384 7,155
7.00 - 7.99%............................................. -- 406 -- -- 406
8.00 - 8.99%............................................. -- 2 -- -- 2
--------- --------- --------- ----------- ----------
Total.................................................... $ 64,010 $ 17,843 $ 14,481 $ 11,520 $ 107,854
--------- --------- --------- ----------- ----------
--------- --------- --------- ----------- ----------
</TABLE>
89
<PAGE>
At March 31, 1998, the Bank had $13.7 million in savings certificates with
balances of $100,000 or more ("jumbo deposits"), representing 6.93% of all
deposits. The following table sets forth information regarding those deposits,
all of which had $100,000 minimum balance requirements. The interest rates shown
are rates offered on March 31, 1998 for deposits of the stated maturity with
balances of at least $100,000 and do not represent the rates payable on the
deposits outstanding. Rates offered for jumbo deposits in Individual Retirement
Accounts at certain maturities were slightly higher
<TABLE>
<CAPTION>
INTEREST PERCENTAGE OF PERCENTAGE OF
ORIGINAL TERM RATE BALANCE TOTAL DEPOSITS TOTAL JUMBO DEPOSITS
- ---------------------------------------------------- ---------- --------- ----------------- ---------------------
<S> <C> <C> <C> <C>
(IN THOUSANDS)
1-3 Months.......................................... 3.94% $ 2,434 1.23 % 17.71 %
4-6 Months.......................................... 4.74% 2,492 1.26 18.14
7-12 Months......................................... 5.12% 2,900 1.46 21.10
Over Twelve Months.................................. 5.16-5.83 % 5,917 2.98 43.05
--------- --- ------
Totals.............................................. $ 13,743 6.93 % 100.00 %
--------- --- ------
--------- --- ------
</TABLE>
BORROWINGS. The Bank maintains an available line of credit with the Federal
Home Loan Bank of New York for use in the event of unanticipated funding needs
which cannot be satisfied from other sources. The Bank has not borrowed funds in
recent years except for a brief period after the closure of Nationar, the Bank's
correspondent bank, when demand deposits that the Bank maintained at Nationar
were temporarily frozen. After the Conversion, the Company or the Bank may used
borrowed funds to assist in the process of leveraging the capital raised in the
Conversion. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Liquidity and Capital."
SUBSIDIARY ACTIVITIES
The Bank is permitted under New York and federal law to own subsidiaries for
certain limited purposes, generally to engage in activities which are
permissible for a subsidiary of a national bank. The Bank has one subsidiary,
which was incorporated in New York in 1986 but which has been inactive for many
years and does not engage in any business at this time.
PROPERTIES
The Bank conducts its business through its headquarters in the City of
Cortland, a nearby drive-up facility, and two branches in adjacent communities
in Cortland County. The Bank also has a representative office in Ithaca for the
origination of mortgage loans. The Bank believes that these properties are
adequate for current needs. The following table sets forth certain information
regarding the Bank's deposit-taking offices at March 31, 1998.
<TABLE>
<CAPTION>
DATE OWNED/ NET BOOK
LOCATION ACQUIRED LEASED VALUE
- ----------------------------------------------------------------------------- --------- --------- ---------------
<S> <C> <C> <C>
(IN THOUSANDS)
One North Main Street, Cortland, NY 13045
and nearby drive through facility at 29-31 North Main Street............... Various Owned $ 887
12 South Main Street, Homer, NY 13077........................................ Various Owned 983
860 Route 13, Cortlandville, NY 13045........................................ Various Owned 497
200 East Buffalo Street, Ithaca, NY 14850.................................... 1998 Leased None
</TABLE>
PERSONNEL
At March 31, 1998, the Bank employed 95 full-time equivalent employees. The
employees are not represented by a collective bargaining unit, and the Bank
considers its relationship with its employees to be
90
<PAGE>
good. See "Management of the Bank--Benefits" for a description of certain
compensation and benefit programs offered to the Bank's employees.
LEGAL PROCEEDINGS
In the ordinary course of its operations, the Bank is a party to routine
litigation involving claims incidental to the savings bank business. Management
believes that no current litigation, threatened or pending, to which the Bank or
its assets is or may become a party, poses a substantial likelihood of potential
loss or exposure which would have a material adverse effect on the financial
condition or results of operations of the Bank or the Company.
REGULATION
Set forth below is a brief summary of certain laws which relate to the
regulation and supervision of the Bank.
GENERAL
The Bank is subject to extensive regulation, examination, and supervision by
the Banking Department and the FDIC. The Bank's deposit accounts are insured up
to applicable limits by the Bank Insurance Fund of the FDIC. The Bank must file
reports with the Banking Department and the FDIC concerning its activities and
financial condition, and it must get regulatory approvals before entering into
certain transactions, such as mergers with other banks. The Banking Department
and the FDIC conduct periodic examinations of the Bank to determine the safety
and soundness of the Bank and whether the Bank is complying with regulatory
requirements. The Company, as a bank holding company, will be regulated by the
Federal Reserve. The Company will be required to file reports with the Federal
Reserve and the SEC under the federal securities laws.
The laws and regulations which govern the Bank and the Company are under
regular review and revision. It is not possible to predict what changes may
occur in the future, nor is it possible to predict what effects any changes may
have on the Bank or the Company. A change by the Banking Department, the FDIC,
the Federal Reserve, Congress or the New York State legislature could have a
material adverse impact on the Company, the Bank and the operations of both.
The following discussion is intended to be a summary of the material
statutes and regulations applicable to savings banks and their holding
companies, and is not a comprehensive description of all statutes and
regulations which govern the Bank and the Company.
BANKING REGULATION
BUSINESS ACTIVITIES. The Bank derives its lending, investment and other
authority primarily from the Banking Law and the regulations of the
Superintendent and the New York State Banking Board, as limited by FDIC
regulations and other federal laws and regulations. The Bank may make
investments and engage in activities only as permitted under specific laws and
regulations which grant powers to the Bank. The Bank may invest in real estate
mortgages, consumer and commercial loans, certain types of debt securities,
including certain corporate debt securities and obligations of federal, state
and local government agencies, certain types of corporate equity securities and
certain other assets. The Bank may invest up to 7.5% of its assets in certain
corporate stock and may also invest up to 7.5% of its assets in certain mutual
fund securities. Investment in stock of a single corporation is limited to the
lesser of 2% of the outstanding stock of such corporation or 1% of the Bank's
assets, except as set forth below. In order to qualify for investment by the
Bank, the equity securities must meet certain tests of financial performance.
The Bank may also make investments not otherwise permitted under the Banking
Law. This authority permits investments in otherwise impermissible investments
of up to 1% of the Bank's assets in any single investment, subject to certain
restrictions, and to an aggregate limit for all such investments of up to 5% of
assets. Additionally,
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instead of investing in securities as specifically permitted in the Banking Law,
the Bank may elect to invest under a prudent person standard in a wider range of
debt and equity securities. The Bank has not exercised the right to invest under
this prudent person standard. If the Bank elects to utilize the "prudent person"
standard, it will be unable to use the other provisions of the Banking Law and
regulations which permit specific investments. New York State chartered savings
banks may also exercise trust powers upon approval of the Banking Board. The
Bank has not sought such approval.
The Bank may invest in service corporation subsidiaries that engage in
activities in which savings banks may engage directly, plus any additional
activities which may be authorized by the Banking Board. Investment in the
stock, capital notes and debentures of all service corporations is limited to 3%
of the Bank's assets, and such investments, together with the Bank's loans to
its service corporations, may not exceed 10% of the Bank's assets. The Bank does
not have any operating service corporation subsidiaries.
The exercise of these state-authorized powers is limited by FDIC regulations
and other federal laws and regulations. In particular, FDIC regulations limit
the investment activities of state-chartered FDIC-insured savings banks such as
the Bank.
Under FDIC regulations, the Bank generally may not directly or indirectly
acquire or retain any equity investment that is not permissible for a national
bank. In addition, the Bank may not directly or indirectly through a subsidiary,
engage as "principal" in any activity that is not permissible for a national
bank unless the FDIC has determined that such activities would pose no risk to
the applicable FDIC insurance fund and the Bank is in compliance with applicable
regulatory capital requirements.
Savings bank life insurance activities are permitted if (i) the FDIC does
not decide that such activities pose a significant risk to the applicable
deposit insurance fund, (ii) the insurance underwriting is conducted through a
division of the Bank that meets the definition of a separate department under
FDIC regulations and (iii) the Bank discloses to purchasers of life insurance
policies and other products that they are not insured by the FDIC, among other
things.
Also excluded from the prohibition on making investments not permitted for
national banks are certain investments in common and preferred stock listed on a
national securities exchange and in shares of an investment company registered
under the Investment Company Act of 1940, as amended. The Bank's total
investment in such securities may not exceed 100% of the Tier I capital as
calculated under FDIC regulations. The Bank qualifies for this exclusion and has
used its authority to invest in corporate equity securities, which had a fair
value of $2.4 million at March 31, 1998, or 7.8% of Tier I capital and 1.0% of
total assets. The authority to continue these investments may terminate if the
FDIC determines that the investments pose a safety and soundness risk to the
Bank or if the Bank converts its charter (other than a mutual to stock
conversion) or undergoes a change in control.
LOANS TO ONE BORROWER. The Bank, as a New York State chartered savings
bank, may make mortgage loans to any borrower or group of borrowers without
regard to mandatory maximum loan amount limits based upon capital or any other
measure imposed by law, except for general concepts of prudence and safety and
soundness. However, with certain exceptions, the Bank may not make non-mortgage
loans for commercial, corporate or business purposes (including lease financing)
to a single borrower, in an aggregate amount in excess of 15% of the Bank's net
worth, plus an additional 10% of the Bank's net worth if such amount is secured
by certain types of readily marketable collateral. Similar limits apply to most
other types of non-mortgage loans. The Bank currently complies with these
limits.
CAPITAL REQUIREMENTS. The FDIC regulates the capital adequacy of the Bank.
The FDIC's regulations divide capital into two tiers. The first tier ("Tier I")
includes common equity, retained earnings, certain non-cumulative perpetual
preferred stock (excluding auction rate issues) and minority interests in equity
accounts of consolidated subsidiaries, minus goodwill and other intangible
assets (except mortgage servicing rights and purchased credit card relationships
subject to certain limitations). Supplementary ("Tier II") capital includes,
among other items, cumulative perpetual and long-term limited-life preferred
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stock, mandatory convertible securities, certain hybrid capital instruments,
term subordinated debt and the allowance for loan and lease losses, subject to
certain limitations, less required deductions.
The FDIC requires that the highest rated banks maintain a Tier I leverage
ratio (Tier I capital to adjusted total assets) of at least 3.0%. All other
banks subject to FDIC capital requirements must maintain a Tier I leverage ratio
of 4.0% to 5.0% or more. As of March 31, 1998, the Bank's Tier I leverage
capital ratio was 13.26%.
The Bank must also meet a risk-based capital standard. The risk-based
standard requires the Bank to maintain total capital (defined as Tier I and Tier
II capital) to risk-weighted assets of at least 8% of which at least 4% must be
Tier I capital. In determining the amount of risk-weighted assets, all assets,
plus certain off-balance sheet assets, are multiplied by a risk-weight of 0% to
100%, based on the risks the FDIC believes are inherent in the type of asset. As
of March 31, 1998, the Bank maintained a 21.94% Tier I risk-based capital ratio
and a 23.19% total risk-based capital ratio.
LIMITATIONS ON CAPITAL DISTRIBUTIONS. Under the Banking Law, a stock form
savings bank may pay dividends out of its net profits, unless there is an
impairment of capital. A savings bank may not declare dividends in any year
which exceed the total net profits of that year combined with the bank's
retained net profits of the preceding two years, subject to certain adjustments,
without the Superintendent's approval. Furthermore, after the Conversion, the
Bank may not declare a dividend which would cause it to fail to meet its capital
requirements and may not declare a dividend that would cause its capital to
decline below the liquidation account created in the Conversion.
The FDIC and the Superintendent may prohibit a savings bank from paying
dividends if, in either of their opinions, the payment of dividends would
constitute an unsafe or unsound practice.
BRANCHING. The Bank may establish branches within or outside New York State
upon written approval of the Superintendent. In general, the Bank must comply
with the laws and regulations of a host state before being permitted to
establish a branch in another state. As of June 1, 1997, the Interstate Banking
Act permits federal banking agencies to approve merger transactions between
banks located in different states, regardless of whether the merger would be
prohibited under state law. The Bank has no present plans to open branches
outside the state, but the ease of interstate branching has the effect of
increasing the number of potential competitors of the Bank.
COMMUNITY REINVESTMENT. Under the Community Reinvestment Act, the Bank
must, consistent with its safe and sound operation, help meet the credit needs
of its entire community, including low and moderate income neighborhoods. There
are no specific lending requirements or programs nor does the law limit the
Bank's discretion to develop products and services that it believes are best
suited to its particular community. The FDIC periodically assesses the Bank's
record of meeting the credit needs of its community and must take such record
into account in its evaluation of certain applications made by the Bank.
FDIC regulations provide that the Bank's performance under the Community
Reinvestment Act is evaluated based on its actual performance in meeting
community needs. In particular, the rating system focuses on three tests: (a) a
lending test, to evaluate the Bank's record of making loans in its assessment
areas; (b) an investment test, to evaluate the Bank's record of investing in
community development projects, affordable housing, and programs benefiting low
or moderate income individuals and businesses; and (c) a service test, to
evaluate the Bank's delivery of banking services. The Bank received a
satisfactory rating from the FDIC at its last examination under the Community
Reinvestment Act.
The Banking Law imposes similar community reinvestment obligations on the
Bank. The Banking Department makes an annual written assessment of the Bank's
compliance. The Banking Department considers the Bank's state community
reinvestment rating when reviewing an application to engage in certain
transactions, including mergers, asset purchases and the establishment of branch
offices or
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automated teller machines. The Bank received a satisfactory rating from the
Banking Department at its last state community reinvestment examination.
TRANSACTIONS WITH RELATED PARTIES. The Bank's authority to engage in
transactions with its "affiliates" is limited by Sections 23A and 23B of the
Federal Reserve Act. In general, an affiliate of the Bank is any company that
controls the Bank or any other company that is controlled by a company that
controls the Bank, excluding the Bank's subsidiaries other than any that are
insured depository institutions. Section 23A limits the aggregate amount of
transactions with any individual affiliate to 10% of the capital and surplus of
the Bank and also limits the aggregate amount of transactions with all
affiliates to 20% of the Bank's capital and surplus. Extensions of credit to
affiliates must be secured by certain specified collateral, and the purchase of
low quality assets from affiliates is generally prohibited. Section 23B provides
that certain transactions with affiliates, including loans and asset purchases,
must be on terms and under circumstances, including credit standards, that are
at least as favorable to the Bank as those prevailing at the time for comparable
transactions with non-affiliated companies. In the absence of comparable
transactions, such transactions may only occur under terms and circumstances,
including credit standards, that in good faith would be offered to or would
apply to non-affiliated companies.
The Bank's authority to extend credit to its directors, executive officers,
and 10% stockholders, as well as to entities controlled by such persons, is
currently governed by the requirements of Sections 22(g) and 22(h) of the
Federal Reserve Act and Regulation O of the Federal Reserve. Among other things,
these provisions require that extensions of credit to insiders (a) be made on
terms that are substantially the same as, and follow credit underwriting
procedures that are not less stringent than, those prevailing for comparable
transactions with unaffiliated persons and that do not involve more than the
normal risk of repayment or present other unfavorable features and (b) not
exceed certain limitations on the amount of credit extended to such persons,
individually and in the aggregate, which limits are based, in part, on the
amount of the Bank's capital. In addition, extensions of credit in excess of
certain limits must be approved by the Bank's Board of Directors. However,
recent legislation permits the Bank to make loans to executive officers,
directors and principal stockholders on preferential terms, provided the
extension of credit is made pursuant to a benefit or compensation program of the
Bank that is widely available to employees of the Bank or its affiliates and
does not give preference to any insider over other employees of the Bank or
affiliate. The Bank has no such benefit or compensation programs.
ENFORCEMENT. The FDIC and the Banking Department have enforcement authority
over the Bank. The Superintendent may order the Bank to appear and explain an
apparent violation of law, to discontinue unauthorized or unsafe practices and
to keep prescribed books and accounts. If any director or officer of the Bank
has violated any law, or has continued unauthorized or unsafe practices in
conducting the business of the Bank after having been notified by the
Superintendent to discontinue such practices, the New York Banking Board may
remove the individual from office after notice and an opportunity to be heard.
The Superintendent may impose civil monetary penalties and also may take
possession of the Bank under specified statutory criteria.
The FDIC's enforcement authority includes, among other things, the ability
to assess civil money penalties, to issue cease and desist orders and to remove
directors and officers. Under federal law, the FDIC is required to take prompt
action to correct deficiencies in undercapitalized banks. A bank is categorized
as "well capitalized" or "adequately capitalized" if its ratio of total capital
to risk-weighted assets is at least 10.0% or 8.0%, respectively, its ratio of
Tier I capital to risk-weighted assets is at least 6.0% or 4.0%, respectively,
its ratio of Tier I capital to total assets is at least 5.0% or 4.0% (3.0% if
the institution has the best supervisory rating), respectively, and it is not
subject to any order or directive by the FDIC to meet a specific capital level.
Banks that do not meet these standards are classified as "undercapitalized." A
bank with a total risk-based capital ratio of less than 6.0% or a ratio of Tier
I capital to risk-weighted assets or total assets of less than 3.0% is
considered to be "significantly undercapitalized." A bank with a tangible
capital to assets ratio of 2% or less is deemed to be "critically
undercapitalized."
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Dividends, other capital distributions or the payment of management fees to
any controlling person are prohibited if, following such distribution or
payment, a bank would be undercapitalized. An undercapitalized bank must file a
plan to restore its capital within 45 days after being notified that it is
undercapitalized. Undercapitalized, significantly undercapitalized and
critically undercapitalized institutions are subject to increasing prohibitions
on permitted activities, and increasing levels of regulatory supervision, based
upon the severity of their capital problems. The FDIC is required to monitor
closely the condition of an undercapitalized bank. Enforcement action taken by
the FDIC can escalate to the appointment of a conservator or receiver of a
critically undercapitalized bank.
Based upon its existing capital ratios and regulatory classification, the
Bank qualifies as "well capitalized" and the FDIC prompt corrective action
regulations are not expected to have a material effect on the Bank or the
Company.
STANDARDS FOR SAFETY AND SOUNDNESS. The FDIC, together with the other
federal bank regulatory agencies, has prescribed guidelines which establish
minimum general standards relating to internal controls and information systems,
internal audit systems, loan documentation, credit underwriting, interest rate
exposure, asset growth, and compensation, fees and benefits. In general, the
guidelines require, among other things, appropriate systems and practices to
identify and manage the risks and exposures specified in the guidelines. The
guidelines also cover asset quality and earnings evaluation and monitoring as
well. The guidelines prohibit excessive compensation as an unsafe and unsound
practice and describe compensation as excessive when the amounts paid are
unreasonable or disproportionate to the services performed by an executive
officer, employee, director or principal stockholder. In addition, the FDIC may
order an institution that has been given notice by the FDIC that it is not
satisfying any of such safety and soundness standards to submit a compliance
plan. If an institution then fails to submit an acceptable plan or fails in any
material respect to implement an accepted compliance plan, the FDIC must issue
an order directing action to correct the deficiency and may issue an order
directing other actions of the types to which an undercapitalized bank is
subject under the "prompt corrective action" requirements described below. If an
institution fails to comply with such an order, the FDIC may seek enforcement in
judicial proceedings and civil money penalties.
INSURANCE OF ACCOUNTS. Deposit insurance premiums payable to the FDIC are
based upon a system which categorizes insured institutions based upon their
perceived risks to the FDIC insurance fund. The FDIC assigns an institution to
one of three capital categories: (a) well capitalized, (b) adequately
capitalized or (c) undercapitalized. The FDIC also assigns an institution to one
of three supervisory categories based on an evaluation by the institution's
primary federal regulator and information that the FDIC considers relevant to
the institution's financial condition and the risk posed to the deposit
insurance funds. Deposit insurance premiums depend on an institution's capital
and supervisory categories. At present, the Bank pays no deposit insurance
premium based upon its risk-based categorization.
However, as of January 1, 1997, the Bank is required to pay a share of the
cost of the bonds issued in the late 1980s to recapitalize the now defunct
Federal Savings and Loan Insurance Corporation. The Bank must pay an annual
assessment for this purpose, which was at an annual rate of 0.0126% of its
insured deposits for the three months ended March 31, 1998. This assessment is
recorded as a deposit insurance premium expense for financial statement
purposes.
FEDERAL HOME LOAN BANK SYSTEM. The Bank is a member of the FHLBNY, which is
one of the regional Federal Home Loan Banks composing the Federal Home Loan Bank
System. Each Federal Home Loan Bank provides facilities which allow its members
to borrow funds. The Bank has not used the borrowing facilities of the FHLBNY.
The Bank must own stock in the FHLBNY at least equal to the greater of 1% of the
principal amount of its unpaid residential mortgage loans and similar
obligations at the beginning of each year or 5% of its advances from the FHLBNY.
At March 31, 1998, the Bank held $1.3 in fair value of capital stock of the
FHLBNY, which satisfied this requirement. The annualized yield on FHLBNY stock
for the quarter ended March 31, 1998 was 7.4%. If the Bank materially increases
its
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residential mortgage loans, or obtains significant advances from the FHLBNY, the
Bank would be required to increase its investment in FHLBNY capital stock.
Advances from the FHLBNY must be secured by specified types of collateral, and
long-term advances may be obtained only for the purpose of providing funds for
residential housing finance.
The Federal Home Loan Banks 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 earnings that the FHLBNY can pay
as dividends to its members and could also result in the FHLBNY imposing a
higher rate of interest on advances. Further, there can be no assurance that the
impact of current or future federal laws on the FHLBNY will not also cause a
decrease in the value of FHLBNY capital stock.
THE FEDERAL RESERVE SYSTEM. The Bank is required, under the regulations of
the Federal Reserve, to maintain non-interest-earning reserves against its
transaction accounts (primarily NOW and regular checking accounts). The Bank is
generally able to satisfy the reserve requirements with cash on hand and other
non-interest bearing deposits which it maintains for other purposes, so the
reserve requirements do not impose a material financial burden on the Bank.
HOLDING COMPANY REGULATION
FEDERAL HOLDING COMPANY REGULATIONS. Upon consummation of the Conversion,
the Company will become a bank holding company. Bank holding companies are
subject to regulation and examination by the Federal Reserve under the Bank
Holding Company Act. The Federal Reserve has enforcement authority over bank
holding companies, including, among other things, the ability to assess civil
money penalties, to issue cease and desist or removal orders and to require a
bank holding company to divest subsidiaries (including bank subsidiaries). A
bank holding company must serve as a source of strength for its subsidiary bank.
The Federal Reserve may require a bank holding company to contribute additional
capital to an undercapitalized subsidiary bank. The status of the Company as a
registered bank holding company does not exempt it from federal and state laws
and regulations applicable to corporations generally, including, without
limitation, certain provisions of the federal securities laws.
The Company will be subject to capital adequacy guidelines for bank holding
companies (on a consolidated basis) which are substantially similar to the FDIC
mandated capital adequacy guidelines applicable to the Bank. On a pro forma
consolidated basis after the Conversion, the Company's capital will exceed these
requirements.
As a bank holding company, the Company must obtain Federal Reserve approval
before: (i) acquiring, directly or indirectly, ownership or control of any
voting shares of another bank or bank holding company if, after the acquisition,
it would own or control more than 5% of such shares (unless it already owns or
controls the majority of such shares); (ii) acquiring all or substantially all
of the assets of another bank or bank holding company; or (iii) merging or
consolidating with another bank holding company.
Federal law generally prohibits a bank holding company from engaging in, or
acquiring control of any company engaged in, non-banking activities. One of the
principal exceptions to this prohibition is activities found by the Federal
Reserve to be so closely related to banking or managing or controlling banks as
to be a proper incident to banking activities. Some of the activities that have
been found to be closely related to banking are: operating a savings
association, mortgage company, finance company, credit card company or factoring
company; performing certain data processing services; providing investment and
financial advice; underwriting and acting as an insurance agent for certain
types of credit-related insurance; leasing property on a full-payout,
non-operating basis; selling money orders, travelers' checks and United States
Savings Bonds; real estate and personal property appraising; providing tax
planning and preparation services; and, subject to certain limitations,
providing brokerage services.
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The Federal Reserve has issued a policy statement stating that a bank
holding company should pay cash dividends only to the extent that the holding
company's net income for the past year is sufficient to cover both the cash
dividends and a rate of earnings retention that is consistent with the holding
company's capital needs and overall financial condition. The Federal Reserve has
indicated that it would be inappropriate for a company experiencing financial
problems to borrow funds to pay dividends. The Federal Reserve may prohibit a
bank holding company from paying any dividends if the holding company's bank
subsidiary is classified as "undercapitalized."
Bank holding companies are required to give the Federal Reserve prior notice
of any purchase or redemption of its outstanding equity securities if the gross
consideration for the purchase or redemption, when combined with the net
consideration paid for all such purchases or redemptions during the preceding 12
months, equals 10% or more of their consolidated net worth. This notification
requirement does not apply to any company that meets the well-capitalized
standard for commercial banks, has a safety and soundness examination rating of
at least a "2" and is not subject to any unresolved supervisory issues. It is
currently anticipated that the Company will qualify for this exemption from the
notice requirement.
A notice must be submitted to the Federal Reserve if any person, company, or
group acting in concert, seeks to acquire 10% or more of the Company's
outstanding Common Stock, unless the Federal Reserve has found that the
acquisition will not result in a change in control of the Company. The Federal
Reserve has 60 days within which to act on the notice, taking into account such
factors as the financial and managerial resources of the acquiror, the
convenience and needs of the communities served by the Company and the Bank, and
the anti-trust effects of the acquisition. Furthermore, any company that seeks
to obtain control of the Company must obtain the approval of the Federal
Reserve. For this purpose, control is generally defined as the ownership or
power to vote 25% or more of any class of the Company's voting stock or the
ability to control in any manner the election of a majority of the directors of
the Company.
NEW YORK STATE BANK HOLDING COMPANY REGULATION. In general, under New York
law, a company owning only one banking institution will not be deemed to be a
bank holding company. However, the Banking Law requires the prior approval of
the New York Banking Board before any action is taken that causes any company
(broadly defined) to acquire direct or indirect control of a banking institution
organized in the State of New York, such as the Bank. Control, for this purpose,
is generally defined to mean the power to direct or cause the direction of the
management and policies of the banking institution and is presumed to exist if
the company owns, controls or holds with the power to vote 10% or more of the
voting stock of the banking institution.
Furthermore, if the Company were to acquire ownership, control or the power
to vote 10% or more of the voting stock of another bank or bank holding company
it would become a bank holding company under state law. Under the Banking Law,
the prior approval of the Banking Department is required before; (1) any action
is taken that causes any company to become a bank holding company; (2) any
action is taken that causes any banking institution to become or be merged or
consolidated with a subsidiary of a bank holding company; (3) any bank holding
company acquires direct or indirect ownership or control of more than 5% of the
voting stock of a banking institution; (4) any bank holding company or any of
its subsidiaries acquires all or substantially all of the assets of a banking
institution; or (5) any action is taken that causes any bank holding company to
merge with another bank holding company.
FEDERAL SECURITIES LAWS
Upon completion of the Conversion, the Company's Common Stock will be
registered with the SEC. The Company will then be subject to the information,
proxy solicitation, insider trading restrictions and other requirements under
the Securities Exchange Act of 1934. Therefore, the Company will be required,
among other things, to prepare and file quarterly and annual reports of its
financial condition and results of operations.
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Shares of Common Stock purchased by an affiliate of the Company will be
subject to the resale restrictions of SEC Rule 144. If the Company satisfies its
obligation to file certain information with the SEC, each affiliate of the
Company who complies with the other conditions of Rule 144 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 (a) 1% of the outstanding shares of the
Company or (b) 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 of 1933 under certain circumstances.
TAXATION
GENERAL
The following is a discussion of material tax matters and does not purport
to be a comprehensive description of the Federal, New York State and Delaware
income tax rules applicable to the Bank or the Company. For a discussion of the
tax consequences of the Conversion, see "The Conversion--Effects of Conversion
on Depositors and Borrowers--Tax Effects."
FEDERAL TAXATION
GENERAL. The Bank is taxed for Federal income tax purposes in accordance
with the Internal Revenue Code of 1986, as amended, in substantially the same
manner as all other business corporations, subject to certain special provisions
applicable to financial institutions. The Bank files its Federal income tax
returns on a calendar year basis. The Bank has not been audited by the Internal
Revenue Service during the last five years. For Federal income tax purposes,
after the Conversion, the Company and the Bank will file consolidated income tax
returns and report their income on a calendar year basis using the accrual
method of accounting and will be subject to Federal income taxation in the same
manner as other corporations, but generally subject, as to the Bank, to the same
special provisions applicable to financial institutions filing tax returns on an
unconsolidated basis.
BAD DEBT DEDUCTION. In 1996, the Internal Revenue Code was amended,
effective for tax years beginning in 1996, to change the method by which the
Bank may take tax deductions for bad debts. The Bank is now required, for
Federal income tax purposes, to use the experience method in determining its tax
bad debt deduction, which generally permits tax deductions for bad debts based
upon a six year moving average of actual loan loss experience. Furthermore,
institutions which had previously used a more advantageous method must recapture
(i.e., treat as taxable income) a part of the institution's existing tax bad
debt reserve. For the Bank, the amount required to be recaptured was $378,000,
representing the excess of its tax bad debt reserve at December 31, 1995 over
the level of the reserve at December 31, 1987, referred to as the "excess
reserve." This amount is being recaptured over a period of six years beginning
in 1996. In accordance with generally accepted accounting principles, the Bank
had already established a deferred tax liability representing the tax effect of
the recapture of its excess reserve. The Bank will continue to repay the Federal
income taxes related to this recapture through tax year 2001.
DISTRIBUTIONS. If the Bank makes certain types of distributions
("non-dividend distributions") to the Company which are not in the nature of
dividends, such distributions will be considered to have been made first from
the Bank's unrecaptured tax bad debt reserves (including the balance of its
reserves as of December 31, 1987 which are not part of excess reserves). An
amount based on the non-dividend distribution will be included in the Bank's
income for tax purposes. Non-dividend distributions subject to this rule include
distributions in excess of the Bank's current and accumulated earnings and
profits, as calculated for Federal income tax purposes, distributions in
redemption of stock, and distributions in partial or complete liquidation.
Dividends paid out of the Bank's current or accumulated earnings and profits are
not subject to this rule.
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The amount of additional taxable income caused by a non-dividend
distribution is an amount that, when reduced by the tax attributable to the
income, is equal to the amount of the distribution. Thus, if after the
Conversion, the Bank makes a non-dividend distribution to the Company,
approximately one and one-half times the amount of such non-dividend
distribution would be includable in income for Federal income tax purposes,
assuming a 34% Federal corporate income tax rate. The Company and the Bank do
not anticipate that the Bank will pay any non-dividend distributions to the
Company after the Conversion. See "Regulation" and "Dividend Policy" for limits
on the payment of dividends by the Bank. The Bank does not intend to pay
dividends that would result in a recapture of any portion of its tax bad debt
reserves.
CORPORATE ALTERNATIVE MINIMUM TAX. The Internal Revenue Code imposes a tax
on alternative minimum taxable income at a rate of 20%. In general, the
alternative minimum tax is imposed if, because of high levels of certain
deductions and tax-exempt income, there is a substantial difference between a
corporation's gross income and its taxable income. Certain payments of
alternative minimum tax may be used as credits against regular tax liabilities
in future years. The Bank has not been subject to the alternative minimum tax
and has no such amounts available as credits for carryover to future years.
DIVIDENDS RECEIVED DEDUCTION. The Company may exclude from its income 100%
of dividends received from the Bank as a member of the same affiliated group of
corporations. A 70% dividends received deduction generally applies with respect
to dividends received from domestic corporations that are not members of such
affiliated group, except that an 80% dividends received deduction applies if the
Company and the Bank own more than 20% of the stock of a corporation paying a
dividend. Under pending legislative proposals, the 70% dividends received
deduction would be reduced to 50% with respect to dividends paid after enactment
of such legislation.
NEW YORK STATE TAXATION
GENERAL. The Bank and the Company will report income on a combined calendar
year basis to New York State. New York State franchise tax on banking
corporations is imposed in an amount equal to the greater of (i) 9% of the
Bank's "entire net income" allocable to New York State during the taxable year
or (ii) the applicable alternative minimum tax. The alternative minimum tax is
generally the greatest of (a) .01% of the value of the Bank's assets allocable
to New York State with certain modifications, (b) 3% of the Bank's "alternative
entire net income" allocable to New York State or (c) $250. Entire net income is
based on Federal taxable income, subject to certain modifications and
alternative entire net income is equal to entire net income without certain
deductions.
BAD DEBT DEDUCTION. The Bank is currently using a six year moving average
experience method, similar to the Federal method, to calculate the New York bad
debt deduction.
The Bank's New York State income tax returns have been audited by the New
York State Department of Finance through tax year 1996.
DELAWARE STATE TAXATION
As a Delaware holding company not earning income in Delaware, the Company is
exempt from Delaware corporate income tax but is required to file an annual
report with and pay an annual franchise tax to the State of Delaware. The
minimum tax is generally equal to $5,000 for each 1,000,000 shares of authorized
capital stock, regardless of whether such stock has been issued.
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MANAGEMENT OF THE COMPANY
DIRECTORS AND EXECUTIVE OFFICERS
The Board of Directors of the Company currently consists of seven members,
each of whom is also a director of the Bank. The seven directors are Joseph H.
Compagni, Patrick J. Hayes, M.D., Robert S. Kashdin, CPA, Harvey Kaufman, Donald
P. Reed, Terrance D. Stalder and Wesley D. Stisser, Jr. Each of them has served
as a director since the Company's incorporation in June 1998. The Board of
Directors of the Company is divided into three classes, each of which contains
approximately one-third of the Board. The initial terms of office of the
directors of the Company have been staggered so that the terms of office of
directors Hayes and Kashdin expire at the first annual meeting of stockholders
of the Company after the Conversion, the terms of directors Compagni and Reed
expire at the second annual meeting after the Conversion and the terms of
directors Kaufman, Stalder and Stisser expire at the third annual meeting after
the Conversion. Thereafter, directors will be elected by the stockholders of the
Company for staggered three-year terms, or until their successors are elected
and qualified.
The executive officers of the Company are Wesley D. Stisser, Jr., President
and Chief Executive Officer, and Steven A. Covert, Executive Vice President and
Chief Financial Officer. See "Management of the Bank--Executive Officers." The
executive officers of the Company are elected annually and hold office until
their respective successors have been elected and qualified or until death,
resignation or removal by the Board of Directors.
Information concerning the directors and officers of the Company, principal
occupations, employment and compensation of the directors and officers of the
Company during the past five years is set forth under "Management of the
Bank--Biographical Information."
COMMITTEES OF THE COMPANY
The Company has established or plans to establish the following committees
of its Board of Directors.
THE HUMAN RESOURCES COMMITTEE. The Human Resources Committee, not yet
appointed, will function on compensation matters for the Company. The committee
will also be responsible for administering and making grants or awards under the
Stock Option Plan and the PRRP when and if approved by the stockholders, and
will oversee the Company's activities related to the ESOP.
THE AUDIT COMMITTEE. The Audit Committee, consisting of directors Compagni,
Kashdin and Stalder, will function on matters related to the accounting,
bookkeeping and auditing functions of the Company and will meet periodically
with the Company's independent certified public accountants to arrange for the
Company's annual financial statement audit and to review and evaluate
recommendations made during the annual audit. The Audit Committee will also
review and approve the internal auditing procedures of the Company.
THE INVESTMENT COMMITTEE. The Investment Committee, consisting of directors
Hayes, Kashdin, Stalder and Stisser, will make decisions regarding the
securities investments of the Company and recommend related policies and
procedures to the Board.
The Bylaws of the Company provide that the Company may establish a
nominating committee to nominate persons for election to the Board of Directors.
The Board has not yet decided whether to establish a nominating committee and no
procedures have been established for submitting stockholder suggestions for
nominations to the committee or the Board of Directors. The Bylaws of the
Company provide that a stockholder may nominate a person for election as a
director only if advance notice of intent to nominate the person is provided to
the Company and certain procedural and notice provisions are followed. For the
first annual meeting of stockholders, advance notice must be given to the
Secretary of the Company not later than ten days after notice of the meeting is
sent to stockholders or the date of the meeting is publicly announced, whichever
is earlier. See "Restrictions on Acquisition of the Company and
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the Bank--Restrictions in the Company's Certificate of Incorporation and
Bylaws--Certain Bylaw Provisions."
DIRECTORS' COMPENSATION
It is anticipated that directors of the Company who are not employees of the
Company or the Bank or any of their subsidiaries shall receive an attendance fee
of $500 for each Board of Directors meeting and $400 for each committee meeting.
The chair of each committee will be entitled to an additional fee of $100 per
meeting. The Chairman of the Board, currently Mr. Kaufman, will receive an
annual retainer of $3,000 in addition to per meeting fees. Directors will also
be eligible for participation in the Stock Option Plan and the PRRP expected to
be implemented by the Company. See "Management of the Bank--Benefits-- Stock
Option Plan" and "--Personnel Recognition and Retention Program."
EXECUTIVE COMPENSATION
Since the formation of the Company, none of the officers of the Company have
received remuneration from the Company. It is currently expected that, unless
and until the Company becomes actively involved in business activities separate
from those conducted by the Bank, no separate compensation will be paid to the
officers of the Company. However, the Bank has entered into employment contracts
with four of its executive officers, including the two executive officers of the
Company. See "Management of the Bank--Employment Contracts." Decisions regarding
the Company's executive compensation will be made by the Company's Board of
Directors, acting upon the recommendations of the Human Resources Committee.
Executive Officers of the Company who are directors will not vote on their own
compensation.
INDEMNIFICATION AND LIABILITY OF DIRECTORS
The Certificate of Incorporation of the Company provides that a director,
officer, employee or agent of the Company shall be indemnified by the Company to
the fullest extent authorized by the General Corporation Law of the State of
Delaware against all expenses, liability and loss reasonably incurred or
suffered by such person in connection with his or her activities as a director
or officer of the Company or as a director or officer of another company, if the
director or officer held such position at the request of the Company. Delaware
law requires that such director, officer, employee or agent, in order to be
indemnified, must have acted in good faith and in a manner reasonably believed
to be not opposed to the best interest of the Company and, with respect to any
criminal action or proceeding, did not have reasonable cause to believe his or
her conduct was unlawful.
The Certificate of Incorporation of the Company and Delaware law also
provide that the indemnification provisions of such certificate and the Delaware
General Corporation Law are not exclusive of any other right which a person
seeking indemnification may have or later acquire under any statute, provision
of the Certificate of Incorporation or Bylaws of the Company, agreement, vote of
stockholders or disinterested directors, or otherwise. The Certificate of
Incorporation of the Company also provides that a director shall not be
personally liable to the Company or its stockholders for monetary damages for
breach of fiduciary duty as a director except for breaches of the duty of
loyalty, acts or omissions in bad faith or involving intentional misconduct or
violation of law, liability for the unlawful payment of dividends or unlawful
stock purchases or redemptions or transactions where the director derives
improper personal benefit.
These provisions may have the effect of deterring stockholder derivative
actions, since the Company may ultimately be responsible for expenses for both
parties to the action.
In addition, the Certificate of Incorporation of the Company and Delaware
law also provide that the Company may maintain insurance, at its expense, to
protect itself and any director, officer, employee or agent of the Company or
another corporation, partnership, joint venture, trust or other enterprise
against any expense, liability or loss, whether or not the Company has the power
to indemnify such person against
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such expense, liability or loss under the Delaware General Corporation Law. The
Company intends to obtain such insurance.
MANAGEMENT OF THE BANK
DIRECTORS
There are currently ten directors of the Bank, all of whom serve for one
year terms, and seven of whom are directors of the Company. The following table
sets forth certain information regarding the Board of Directors of the Bank.
Ages are as of August 13, 1998.
<TABLE>
<CAPTION>
DIRECTOR
NAME AGE POSITION(S) HELD WITH THE BANK SINCE
- -------------------------------------------- --- ---------------------------------------------------- -----------
<S> <C> <C> <C>
Wesley D. Stisser, Jr....................... 62 President, Chief Executive Officer and Director 1983
Edward E. Hatter, Jr........................ 60 Director 1977
Judith F. Riehlman.......................... 57 Director 1987
Terrance D. Stalder......................... 56 Director 1987
Harvey Kaufman.............................. 63 Director and Chairman of the Board 1989
Joseph H. Compagni.......................... 55 Director 1990
Donald P. Reed.............................. 57 Director 1991
Roland Fragnoli............................. 68 Director 1992
Patrick J. Hayes, M.D....................... 49 Director 1994
Robert S. Kashdin, CPA...................... 55 Director 1995
</TABLE>
Three directors of the Bank retired effective June 30, 1998. Among them,
they had approximately 97 years of service with the Bank. In recognition of
their years of service with the Bank and the goodwill that their continued
affiliation with the Bank will engender in the community, the Bank has agreed to
provide them with a retirement benefit and consulting arrangement in the amount
of $50,000 per director, payable in installments over a period of three years.
The full amount payable was accrued as an expense by the Bank during the quarter
ended June 30, 1998. In addition, the former Comptroller of the Bank also
retired in June 1998. The Bank agreed to pay him one year's salary as a
severance benefit. The full amount of the payment was accrued as an expense by
the Bank during the quarter ended June 30, 1998.
EXECUTIVE OFFICERS
The following table sets forth certain information regarding the executive
officers of the Bank. Ages are as of August 13, 1998.
<TABLE>
<CAPTION>
NAME AGE POSITION(S) HELD WITH THE BANK
- ------------------------- --- ---------------------------------------------------------------------------
<S> <C> <C>
Wesley D. Stisser, Jr.... 62 President, Chief Executive Officer and Director
F. Michael Stapleton..... 59 Executive Vice President and Chief Operating Officer
Steven A. Covert......... 36 Executive Vice President and Chief Financial Officer
Kerry D. Meeker.......... 45 Senior Vice President and Senior Loan Officer
</TABLE>
Each of the executive officers of the Bank is expected to retain his and her
office after the Conversion until the next annual meeting of the Board of
Directors of the Bank and their successors are elected and qualified or until
they are removed or replaced. Officers are re-elected by the Board of Directors
annually and serve at the pleasure of the Board.
BIOGRAPHICAL INFORMATION
The following biographical information is provided for the directors and
executive officers of the Bank. Professional background and employment history
are provided for at least the past five years.
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DIRECTORS
WESLEY D. STISSER, JR. serves as President and Chief Executive Officer of
the Bank, a position he has held since 1983. Mr. Stisser has been with the Bank
for 45 years. He is a graduate of the Graduate School of Savings Banking at
Brown University and the School for Executive Development sponsored by the
Community Bankers Association. An eagle scout and recipient of the Silver Beaver
Award B.S.A., Mr. Stisser is an active member of numerous professional, civic
and community service organizations. He is presently a member of the New York
Savings Bank Life Insurance Fund's Board of Directors and is Chairman of the
Cortland City Police Commission. He is a former member of the Board of Directors
for Cortland Memorial Hospital, serving as its Chairman, and is a member of the
SUNY Cortland College Foundation.
EDWARD E. HATTER, JR. was a principal of Hatter Fuel Co., from which he
retired in 1987. Mr. Hatter was active in several community organizations,
serving as Chairman of the Easter Seals drive and holding various offices in the
New York State Jaycees, the Rotary Club and the University Club. He is currently
active in the March of Dimes drive, the Town and River Cruise Club and the Royal
Palm Yacht Club. He was district chairman of the Tioughnioga-Baden Powell
Council, B.S.A. Mr. Hatter resides part time in Florida. Mr. Hatter established
Briarwood Estates, a development of upscale homes and continues to control
remaining unsold lots.
JUDITH F. RIEHLMAN is the Cortland County Clerk. Mrs. Riehlman and her
husband own and operate a family run farm and Birchlawn Structures, a furniture
retailer. Active in numerous community organizations, Mrs. Riehlman currently
serves as Chairperson of the Cortland County Republican Committee, President of
the American Agricultural Foundation, Inc. and as a Director of Family
Counseling Services.
TERRANCE D. STALDER is the Associate Vice President for Finance and
Management at SUNY Cortland. Mr. Stalder is a member of various community
organizations and serves on the Village of Homer Planning Board, the Board of
Trustees of the Cortland YMCA and is a member of the Cortland Rotary Club.
HARVEY KAUFMAN retired as Superintendent of the Cortland City Schools
District in 1992 and currently provides administrative consulting services in
the field of education. He was elected Chairman of the Board of Directors of the
Bank in June of 1997. He is a former Cortland City Police Commissioner, past
president of the Cortland County Chamber of Commerce, past president of the New
York State Association of Small City School Districts, and was a member of the
New York State Assembly Task Force on the Regents Action Plan. Mr. Kaufman is
also currently the Chairman of the J.M. Murray Center and Cortland Memorial
Hospital Services, a for profit affiliate of Cortland Memorial Hospital.
JOSEPH H. COMPAGNI is President of Economy Paving Co., Inc., which
constructs highways and bridges in New York State. He is currently a director of
the New York State Associated General Contractors and has been a director of the
Cortland Memorial Hospital, J.M. Murray Center, Cortland Family Health Network,
Cortland Rotary Club and Cortland YMCA.
DONALD P. REED is the principal of Reed's Seeds, a business which sells crop
seeds, farm seeds, farm chemicals and fertilizer. He is also Chairman of the
Board of Dryden Mutual Insurance Company. Mr. Reed is a former director of Key
Bank of Central New York, formerly the Homer National Bank.
ROLAND FRAGNOLI is the President of the Homer Men & Boys clothing stores, a
local retailer with which he has been associated for 50 years. He is a member of
various service and community clubs and serves on the Tompkins Cortland
Community College Foundation Board. Mr. Fragnoli is a former director of Key
Bank of Central New York, formerly the Homer National Bank.
PATRICK J. HAYES, M.D. is a practicing physician in Cortland. He is a past
president of the Cortland Memorial Hospital Medical Staff and currently serves
as Chief of Staff of Cortland Health Center. Dr. Hayes is a member of the Board
of the American Lung Association of Central New York, Inc.
ROBERT S. KASHDIN, C.P.A. has been a practicing certified public accountant
for over 30 years and is the present managing partner of the CPA firm of Port,
Kashdin and McSherry located in Cortland.
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Mr. Kashdin is a member in numerous community and professional organizations
including past chairman of the New York State Society of CPA's Agri Business
Committee and District Treasurer of Rotary District 7170. He is a former Board
member of the Jewish Homes of Central New York and the United Way of Cortland
County.
EXECUTIVE OFFICERS WHO ARE NOT DIRECTORS
F. MICHAEL STAPLETON joined the Bank in June 1998. From February 1986
through April 1998, Mr. Stapleton was with OnBank and Trust Co., holding
positions of Senior Vice President and Regional President. He then continued
with Manufacturers and Traders Trust Company after it acquired OnBank. He is the
Chairman of the Loretto Foundation, which provides care for the elderly, and is
a director of Meals on Wheels of Syracuse and the Mercy Health and
Rehabilitation Center. Mr. Stapleton is also the Chairman of the Cayuga County
Economic Development Council, a director of the Industrial Development
Foundation of Auburn and Cayuga County, and a member of the Auburn Industrial
Development Authority, all of which are involved in fostering economic
development in central New York.
STEVEN A. COVERT joined the Bank in June 1998. From August 1995 to June
1998, he was Executive Vice President and Chief Financial Officer of Success
Bancshares, Inc., a bank holding company in Chicago, Illinois. He was Senior
Vice President and Chief Financial Officer of Ithaca Bancorp, Inc., a savings
and loan holding company in Ithaca, New York, from July 1993 to December 1994
and was Vice President and Chief Financial Officer of Skaneateles Bancorp, Inc.,
a bank holding company in Skaneateles, New York, from January 1991 to July 1993.
Mr. Covert is a certified public accountant and prior to joining the banking
industry, he was employed by KPMG Peat Marwick LLP as an auditor. Mr. Covert has
been a member of various community organizations including the United Way and an
organization that provides food for the homeless.
KERRY D. MEEKER joined the Bank in 1996 as Senior Vice President and Senior
Loan Officer. Prior to joining the Bank, he held the position of Vice President
and Chief Loan Officer of Oneida Savings Bank since 1989. He previously served
as a Vice President and Commercial Loan Officer of Marine Midland Bank and as a
Senior Financial Analyst at Bankers Trust Company. He is a member of the Rotary
Club of Cortland; has served as President of the Greater Oneida Chamber of
Commerce, Inc.; Treasurer of the Oneida Improvement Committee, Inc.; President
of the Oneidas Club; President of the Sherrill-- Kenwood Community Chest, Inc.;
and is a past member of the Rotary Club of Oneida.
COMMITTEES AND MEETINGS OF THE BOARD OF DIRECTORS OF THE BANK
The Board of Directors of the Bank meets on a monthly basis and may have
additional special meetings from time to time. During 1997, the Board of
Directors met 14 times. No current director attended fewer than 75% of the total
number of Board meetings and meetings of committees of which such director was a
member during 1997.
The Bank has established the following committees of its Board of Directors:
THE EXECUTIVE COMMITTEE consists of directors Compagni, Hayes, Kashdin,
Kaufman, Reed, Riehlman, Stalder and Stisser. The committee meets quarterly and
functions on matters of general policy and strategy. The committee has the power
of the Board of Directors with respect to most matters. The committee met 5
times during 1997.
THE AUDIT COMMITTEE consists of directors Stalder, Kashdin and Hayes. The
committee meets periodically with the Bank's independent certified public
accountants to arrange for the Bank's annual financial statement audit and to
review and evaluate recommendations made during the annual audit. The committee
also reviews the regulatory reports of examination and reviews and approves the
Bank's internal auditing procedures. The committee met 6 times during 1997.
THE HUMAN RESOURCES COMMITTEE consists of directors Hayes, Compagni and
Kashdin. The committee reviews and makes recommendations to the Board regarding
compensation of the executive officers and
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employees of the Bank. The committee also functions on matters related to the
pension and other compensation plans of the Bank. The committee met 6 times
during 1997.
THE LOAN COMMITTEE consists of directors Fragnoli, Kaufman, Reed, Riehlman
and Stisser. The committee reviews the allowance for loan losses and approves
periodic additions to the allowance. The committee also evaluates the Bank's
problem loans and functions on matters related to the Community Reinvestment
Act. The committee must also approve all loans which, individually or with other
existing loans to the same borrower or related borrowers, exceed $200,000. The
committee met 11 times during 1997.
THE ASSET/LIABILITY COMMITTEE consists of directors Fragnoli, Hatter,
Kashdin and Stisser. The committee reviews the Bank's interest rate sensitivity
position on a quarterly basis. The committee reviews internally prepared data as
well as reports prepared by an outside firm analyzing the interest rate
sensitivity of the Bank's assets and liabilities. The committee met 4 times
during 1997.
In addition, the Board has an Operations, Systems and Security Committee and
a Marketing and Community Affairs Committee. From time to time, the Board of
Directors may appoint other special committees to address specific matters which
the Board determines should be considered at the committee level. The Chairman
of the Board is an ex officio member of all committees except for those to which
he is specifically appointed and the President is an ex officio member of all
committees except for the Human Resources Committee and the Examining Committee.
DIRECTORS' COMPENSATION
The Board of Directors of the Bank has established a revised fee structure
for directors to be implemented after the Conversion. Each director of the Bank
who is not an employee of the Company or the Bank or any of their subsidiaries
will receive an annual retainer of $3,000 plus an attendance fee of $250 for
each Board of Directors meeting and $400 for each committee meeting attended.
The Chairman of the Board will receive a $12,000 annual retainer plus attendance
fees, except that no attendance fees will be paid to the Chairman of the Board
for attendance at a committee meeting in an ex officio capacity. The chair of
each committee will be receive an additional $100 per committee meeting. It is
anticipated that directors will also receive benefits under the Stock Option
Plan and the PRRP expected to be implemented by the Company upon receipt of
stockholder approval. See "--Benefits--Stock Option Plan" and "--Personnel
Recognition and Retention Program."
Directors may defer the receipt of their fees by making annual elections.
The deferred amounts are paid by the Bank to a trust which invests the funds
among investment options selected by each director. However, the funds
contributed to the trust are subject to the claims of creditors of the Bank and
are not taxable to the director until received. The Bank expenses the amount of
the deferred fees upon payment to the trust. The director may receive the
deferred fees, together with income earned thereon, in either a lump sum or in
an annuity upon retirement or reaching age 72 1/2.
EXECUTIVE COMPENSATION
Decisions regarding the Bank's executive compensation are made by the Bank's
Board of Directors, upon the recommendations made by the Human Resources
Committee. The President and Chief Executive Officer, who is a director, does
not vote on his own compensation.
The following table sets forth the cash compensation paid by the Bank for
services rendered in all capacities during 1997 to the President and Chief
Executive Officer and all executive officers of the Bank who received
compensation in excess of $100,000.
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SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL COMPENSATION (1)
--------------------------------------------
OTHER ANNUAL ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY($) BONUS($) COMPENSATION($) COMPENSATION (2)
- ---------------------------------------------- --------- ---------- ----------- ------------------- -----------------
<S> <C> <C> <C> <C> <C>
Wesley D. Stisser, Jr., President and Chief
Executive Officer........................... 1997 $ 167,890 $ -- $ -- $ 7,336
</TABLE>
- ------------------------
(1) In accordance with SEC policy, summary compensation information is excluded
for 1996 and 1995 because neither the Bank nor the Company were public
companies during such years. For 1997 there were no: (a) perquisites with an
aggregate value in excess of the lesser of $50,000 or 10% of the total of
the individual's salary and bonus for the year; (b) payments of above-market
preferential earnings on deferred compensation; (c) payments of earnings
with respect to long-term incentive plans prior to settlement or maturation;
or (d) preferential discounts on stock. For 1997, the Bank had no restricted
stock or stock related plans in existence.
(2) All other compensation includes life insurance premiums of $211 and matching
contributions under the Bank's 401(k) Plan of $7,125.
TRANSACTIONS WITH CERTAIN RELATED PERSONS
The directors and executive officers of the Bank maintain normal deposit
account relationships with the Bank on terms and conditions no more favorable
than those available to the general public. The Bank does not make loans to
directors. In the ordinary course of business, the Bank makes loans to
non-director officers and employees, as well as other related parties. All such
loans to executive officers and their related parties are on substantially the
same terms, including interest rate and collateral, as those prevailing at the
same time for comparable loans to other customers and do not involve more than
the normal risk of collectibility or present other unfavorable features.
Directors Kaufman and Compagni are uncompensated volunteer members of the
Board of Directors of the J.M. Murray Center, a not-for-profit corporation
providing services to the developmentally disabled. The J.M. Murray Center has a
loan in which the Bank is a 50% participant with another local bank. The loan is
secured by a mortgage on a light manufacturing facility operated by the borrower
as a source of employment for the developmentally disabled.
REPORT OF INDEPENDENT EXECUTIVE COMPENSATION EXPERT
Pursuant to the Conversion Regulations, the Bank has obtained the opinion of
William M. Mercer, Incorporated, an independent executive compensation expert,
regarding the total compensation for the executive officers and directors of the
Bank. The opinion states that the total cash compensation for executive officers
and total remuneration for directors of the Bank, viewed as a whole and on an
individual basis, is reasonable and proper in comparison to the compensation
provided to officers and directors of similarly situated publicly-traded
financial institutions. The opinion further states that the amount of shares of
Common Stock to be purchased by the ESOP, and expected to be covered by the PRRP
and the Stock Option Plan, as a whole, are reasonable in comparison to similar
publicly-traded financial institutions. These opinions are based upon published
professional survey data of similarly situated publicly-traded financial
institutions.
EMPLOYMENT CONTRACTS
The Bank has recently entered into employment contracts with Mr. Stisser,
Mr. Stapleton, Mr. Covert and Mr. Meeker. The contracts with Mr. Stisser and Mr.
Stapleton provide for three-year terms and the contracts with Mr. Covert and Mr.
Meeker provide for two-year terms. The annual salaries under the four contracts
are $175,000 for Mr. Stisser, $110,000 for Mr. Stapleton, $110,000 for Mr.
Covert and $80,000 for
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Mr. Meeker, subject to such bonuses or increases as may be approved by the Board
of Directors. The contracts also provide that each officer will be entitled to
participate in all other retirement and fringe benefit plans provided by the
Bank to employees generally, except that they are not entitled to participate in
the Employee Severance Plan because the contracts separately address the issues
covered by that plan. Mr. Covert also received an additional up front payment of
$35,000 which is refundable if he is terminated for cause, or resigns other than
after certain changes in employment conditions, within the first six months
after his employment commences.
If the Bank terminates the executive officer's employment other than for
cause, he will be entitled to a lump sum payment. For Mr. Stisser, Mr. Stapleton
and Mr. Covert, the payment is generally equal to the greater of one year's
salary or salary for the unexpired term of the contract. For Mr. Meeker, the
payment is generally equal to the lesser of one year's salary or his salary for
the remainder of the term of the contract. All the contracts provide that the
payment will also be made if the officer resigns after material breach by the
Bank or after certain adverse changes in the terms and conditions of employment.
The contracts for the executive officers further provide that, subject to
certain conditions, if employment is terminated within six months after a change
in control of the Bank or the Company, or if the executive officer resigns after
certain adverse changes in terms and conditions of employment, the officer will
be entitled to receive a lump sum payment generally equal to 299% of the annual
salary payable to the officer prior to such termination, but in no event more
than the maximum amount permitted to be paid without the imposition of an excise
tax under Section 280G of the Internal Revenue Code. Under certain
circumstances, the amount of the payment to be made to some of the executive
officers may be less. For purposes of the contracts, a "change in control" will
generally be deemed to occur when a person or group of persons acting in concert
acquires beneficial ownership of 25% or more of any class of equity security of
the Company or the Bank, upon stockholder approval of a merger or consolidation
unless certain conditions are met, upon a change of the majority of the Board of
Directors of the Company or the Bank or upon liquidation or sale of
substantially all the assets of the Company or the Bank. Under certain
circumstances, severance benefits payable under the contracts are reduced by the
value of Stock Option Plan and PRRP awards, if any, which the officer receives.
The aggregate amount payable on account of these change in control provisions
cannot be determined at this time because the amount of the payments depend upon
future salary levels, average past compensation as of the date of the payment
which determines the scope of the excise tax cap on payments, and other factors.
However, if the employment of the four executive officers of the Bank were
terminated under circumstances in which they would be entitled to receive the
entire change in control payments under their contracts at their current salary
rates without reduction based upon the application of Section 280G of the
Internal Revenue Code or any other contract provision, the aggregate amount
payable to them as a result of such provisions would be approximately $1.4
million.
BENEFITS
PENSION PLAN. The Bank maintains a non-contributory, tax-qualified defined
benefit pension plan for eligible employees. All employees and officers with
more than 1,000 hours of service per year who have attained age 21 and completed
one year of service are eligible to participate in the pension plan. The pension
plan provides a benefit for each participant. The annual benefit is equal to 2%
of the participant's average annual compensation multiplied by the participant's
number of years of service, with an offset for social security. A participant is
entitled to a maximum of 30 years of service under the pension plan.
Average annual compensation is the average annual compensation for the
highest three years during the last ten years prior to retirement. A participant
is fully vested in his or her pension after five years of service. The pension
plan is funded by the Bank on an actuarial basis, and all assets are held in
trust by the pension plan trustee. The following table illustrates the annual
benefit payable upon normal retirement at age 65 in the normal form of benefit
under the pension plan at various levels of average annual compensation and
years of service under the pension plan. The amounts in the table are subject to
social security benefit offset allowance. For the current plan year, the maximum
permitted average annual
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compensation for determining pension benefits under the Bank's pension plan was
$160,000 and the maximum annual pension benefit was $130,000.
<TABLE>
<CAPTION>
YEARS OF CREDITED SERVICE
AVERAGE ANNUAL ------------------------------------------
COMPENSATION 15 20 25 30
- ------------------------------------------------------ --------- --------- --------- ---------
<S> <C> <C> <C> <C>
$ 75,000.............................................. $ 22,500 $ 30,000 $ 37,500 $ 45,000
100,000.............................................. 30,000 40,000 50,000 60,000
125,000.............................................. 37,500 50,000 62,500 75,000
150,000.............................................. 45,000 60,000 75,000 90,000
160,000.............................................. 48,000 64,000 80,000 96,000
175,000.............................................. 48,000 64,000 80,000 96,000
200,000.............................................. 48,000 64,000 80,000 96,000
225,000.............................................. 48,000 64,000 80,000 96,000
</TABLE>
At March 31, 1998, Mr. Stisser had 44 years of credited service under the
pension plan.
The Bank is currently evaluating the termination of this pension plan and
expects to terminate the plan during the third quarter of 1998. The termination
of the plan would result in a one-time expense in an amount estimated to be
approximately $330,000, after which the Bank anticipates it would have no
further expenses under the pension plan. Upon termination, employees would be
fully vested in their existing benefits, which would be settled through the
purchase of annuities or other qualified distributions using the assets of the
pension plan.
401(K) PLAN. The Bank maintains a tax-qualified savings and profit sharing
plan under Section 401(k) of the Internal Revenue Code. Salaried employees with
at least one year of service who are at least age 21 may make pretax salary
deferrals and after tax contributions under the 401(k) Plan. Salary deferrals
are made by election and are limited to 10% of compensation up to $160,000 (for
1997), or to a limit imposed under the Internal Revenue Code ($10,000 subject to
annual adjustment). The Bank makes matching contributions equal to 75% of the
amount of salary contributions, up to 6% of salary. Employees are fully vested
in their salary deferrals and after tax contributions, and become incrementally
vested in the Bank's contribution after one year and fully vested in the Bank's
contributions after five years.
The 401(k) Plan has recently been amended to provide that one of the funds
which an employee may choose as an investment vehicle for his or her account is
a fund consisting of Common Stock of the Company. 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 401(k) Plan will then submit
subscription forms on behalf of the employee who elects to invest in the Common
Stock funds. 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.
The Bank is currently evaluating, and expects to adopt, an amendment of the
401(k) Plan to reduce the maximum amount which an employee may defer to 6% of
compensation from 10% and reduce the Bank's matching percentage from 75% to 50%
of the first 6% of compensation that the employee defers. The Bank would not be
required to recognize any expense in connection with the amendment.
EMPLOYEE STOCK OWNERSHIP PLAN. The Company has established, and the Bank
has adopted, an ESOP and related trust to become effective upon completion of
the Conversion. Substantially all employees of the Bank or the Company who have
attained age 21 and have completed one year of service are eligible to become
participants in the ESOP. The ESOP intends to purchase 8% of the Common Stock
issued in the Conversion, including shares contributed to the Foundation, using
the proceeds of a loan from the Company. If the ESOP is unable to purchase its
shares in the Subscription Offering, the ESOP intends to purchase such shares in
the open market or in privately negotiated transactions after the Conversion.
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Although future contributions to the ESOP will be discretionary, the Company and
the Bank intend to make annual contributions to the ESOP in an aggregate amount
at least equal to the payments due on the loan. It is expected that this loan
will be for a term of twenty years and will call for level annual principal and
interest payments designed to amortize the loan over its term. The loan will
permit optional pre-payment. The Company and the Bank may contribute more to the
ESOP than is necessary to service the loan.
Shares purchased by the ESOP will be pledged as collateral for the loan from
the Company and will be allocated among participants as the loan is repaid. An
equal number of shares per year will be released over the term of the loan. The
released shares, and any subsequently acquired shares that are not pledged to
secure a loan, will be allocated among ESOP participants generally on the basis
of the participant's total taxable compensation for the year of allocation.
Benefits generally become vested at the rate of 20% per year beginning after the
participant's first year of service, with 100% vesting after five years of
service. Employees will not receive credit for service prior to the Conversion
for vesting purposes. Participants are immediately vested upon termination of
employment due to death, retirement at age 65 or older, permanent disability or
upon the occurrence of a change of control. Forfeitures (shares allocated to an
employee which are not yet vested when such employee's employment terminates)
will be reallocated among remaining participating employees, in the same
proportion as contributions. Vested benefits may be paid in a single sum or
installment payments and are payable upon death, retirement at age 65 or older,
disability or termination of employment.
A corporate trustee for the ESOP not affiliated with the Bank or the
Company, currently expected to be Marine Midland Bank, will be appointed prior
to the Conversion and will continue thereafter. The trustee, subject to its
fiduciary duty, must vote all allocated shares held in the ESOP in accordance
with instructions received from the employees to whom the shares have been
allocated. Allocated shares for which no instructions have been received and
shares not yet allocated are voted generally in the same proportion as allocated
shares for which voting instructions are received. The Human Resources Committee
of the Company will oversee the Company's activities related to the ESOP.
The ESOP may purchase additional shares of Common Stock in the future, in
the open market or otherwise, and may do so either with borrowed funds or with
cash dividends, employer contributions or other cash flow.
STOCK OPTION PLAN. After the Conversion, the Board of Directors of the
Company intends to adopt the Stock Option Plan. If implemented prior to the
first anniversary of the Conversion, the Conversion Regulations require that the
plan be first approved by stockholders at a meeting held no earlier than six
months after the Conversion. The plan is expected to allow for options covering
10% of the Common Stock issued in the Conversion, including Common Stock
contributed to the Foundation. No final determinations have been made by the
Board of Directors as to the specific terms of the Stock Option Plan or the
amount of awards thereunder. However, the Conversion Regulations provide that no
officer or employee may receive more than 25% of the options granted and that
non-employee directors may not receive more than 5% individually or more than
30% in the aggregate of the options granted, if the plan is implemented within
one year after the Conversion.
The purpose of the Stock Option Plan is to attract and retain qualified
personnel in key positions, provide directors, officers and key employees with a
proprietary interest in the Company as an incentive to contribute to the success
of the Company and its subsidiaries and reward directors, officers and key
employees for outstanding performance. Although the terms of the Stock Option
Plan have not yet been determined, it is expected that the Stock Option Plan
will provide for the grant of: (i) options to purchase the Company's Common
Stock intended to qualify for special tax benefits under Section 422 of the
Internal Revenue Code ; (ii) options that do not qualify for special tax
benefits; and (iii) rights exercisable only upon a change of control. The Stock
Option Plan is expected to be in effect for 10 years. Stock options granted to
non-employee directors will not qualify for the special tax treatment. If Mr
Stisser and the non-employee directors are granted the maximum number of options
permitted, Mr. Stisser would receive
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options to purchase from 132,759 to 206,557 shares and each non-employee
director would receive options to purchase from 17,701 to 27,541 shares. No
final determination regarding the amount of options to be granted to directors,
officers and employees has been made and such determination is not currently
expected to be made until just prior to, if not after, the solicitation of
proxies for the anticipated stockholders' meeting at which the Stock Option Plan
is presented for approval.
The Stock Option Plan will be administered by the Human Resources Committee
of the Board of Directors, which will determine which officers and employees
will be granted benefits under the plan, the nature and amount of the benefits,
the exercise price of any options granted, any vesting conditions in addition to
those imposed by the Conversion Regulations, and other conditions which may be
imposed. It is expected that the Stock Option Plan will permit options to be
granted for terms of up to 10 years (5 years for certain options granted to
employees who are 10% stockholders) and at exercise prices no less than the fair
market value at date of grant (110% of fair market value for certain options
granted to employees who are 10% stockholders).
The Stock Option Plan is expected to provide for the exercisability and
vesting of options granted thereunder in the manner specified by the Human
Resources Committee. The Conversion Regulations generally require that options
granted under plans implemented within one year after the Conversion begin
vesting no earlier than one year from the date of stockholder approval of the
plan and thereafter vest at a rate of no more than 20% per year. It is also
expected that, in the event of death or disability, grants would be 100% vested,
and options granted to officers or employees would terminate upon or within a
fixed period after termination of employment.
The Stock Option Plan, to the extent permitted by the Conversion Regulations
and subject to applicable vesting requirements, may provide for rights, either
attached to or independent of each option, which, upon a change of control, will
allow the holder to exercise the rights and receive a lump sum cash payment
instead of being required to exercise a stock option, pay the exercise price,
and then receive stock. See "--Employment Contracts" for a discussion of
additional amounts which may be payable upon a change in control.
An employee who receives a stock option that qualifies for special tax
benefits will not have taxable income when the option is granted or exercised,
unless shares received upon exercise are disposed of within one year after the
stock is received or within two years after the grant of the option. Likewise,
the Company gets no tax deduction as a result of the grant or exercise of that
option unless the employee disposes of the stock in violation of the limits
described in the preceding sentence. For options that do not qualify for the
special tax treatment, or if an employee with an option that does qualify
violates the restrictions on disposition, the employee will be deemed to receive
ordinary taxable income when the option is exercised in an amount equal to the
excess of the fair market value of the Common Stock on the date of exercise over
the exercise price. The amount of ordinary taxable income deemed to be received
by an optionee may be a deductible expense for tax purposes for the Company.
PERSONNEL RECOGNITION AND RETENTION PROGRAM. After the Conversion, the
Company also intends to establish the PRRP to provide officers, employees and
non-employee directors with a proprietary interest in the Company in a manner
designed to encourage such persons to remain with the Bank and the Company at no
cost to the recipients of such awards. The plan will provide for the award of
shares of Common Stock, the full ownership of which will gradually vest over
five years. If implemented prior to the first anniversary of the Conversion, the
Conversion Regulations require that the adoption of the plan be subject to
stockholder approval obtained at a meeting held at least six months after the
Conversion.
The PRRP is expected to cover 4% of the shares of Common Stock issued in the
Conversion, including Common Stock contributed to the Foundation. These shares
are expected to be acquired through open market purchases, if permitted, or from
authorized but unissued shares. The Conversion Regulations provide that no
individual employee may receive more than 25% of the shares of any plan and that
non-employee directors may not receive more than 5% of the shares individually
or 30% in the
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aggregate for all directors, in the case of plans implemented within one year
after the Conversion. If Mr. Stisser and the non-employee directors are awarded
the maximum number of shares permitted, Mr. Stisser would receive from 53,103 to
82,623 shares and each non-employee director would receive from 7,080 to 11,016
shares. No final determination regarding the amount of shares to be awarded to
directors, officers and employees has been made and such determination is not
currently expected to be made until just prior to, if not after, the
solicitation of proxies for the anticipated stockholders' meeting at which the
PRRP is presented for approval.
The plan will be administered by the Human Resources Committee, which will
have similar authority with respect to the plan as it will have for the Stock
Option Plan discussed above. The Conversion Regulations require gradual five
year vesting of awards, in the same manner as stock option grants.
When shares under the plan vest, the recipient will recognize income equal
to the fair market value of the Common Stock at that time. The amount of income
recognized by the participants may be a deductible expense for tax purposes for
the Company. For financial reporting purposes, the Company will record
compensation expense as and when the awards vest equal to the fair market value
of the Common Stock on the date the Company first awarded those shares. This is
expected to significantly increase compensation expense for the Company after
the plan is approved. Dividends, if any, paid on unvested shares will be held
and then distributed to the grantee as and when the shares vest. It is expected
that the plan will be structured so that persons awarded shares under the plan
will be permitted to vote those shares prior to the vesting of the shares.
If authorized but unissued shares are used to fund the PRRP after the
Conversion, the interests of existing stockholders will be diluted. See "Pro
Forma Data."
EMPLOYEE SEVERANCE PLAN. The Bank has also adopted an employee severance
plan which provides for benefits to all employees of the Bank in the event of a
change in control, other than employees who have separate contracts providing
change-in-control benefits. In general, the plan provides benefits to employees
with at least one year of service with the Bank. If the employee's employment is
terminated within one year after a change in control of the Bank or the Company,
then each covered employee is entitled to a payment equal to one week of salary
for each month of service with the Bank, up to a severance payment equal to two
years' salary, which would be the amount payable after 8 years and 8 months of
service. The employee is not entitled to a benefit under the plan if the
termination is for cause.
OTHER STOCK BENEFIT PLANS. After the Conversion, the Board of Directors may
adopt other stock benefit plans for employees, officers or directors. Examples
of such plans which the Board may consider are employee stock purchase plans
under Section 423 of the Internal Revenue Code and plans for the payment of
directors' fees in stock of the Company. Employee stock purchase plans generally
involve the grant of options to purchase stock of the employer or its holding
company at a price which is as low as 85% of the fair market value of the stock
on the date the option is granted or on the date it is exercised. Under an
employee stock purchase plan, options are generally granted to all employees who
meet certain hours and years of service standards, without discrimination in
favor of officers. Employee stock purchase plans, in order to qualify under the
Internal Revenue Code, must be approved by stockholders. Directors' fee payment
plans generally involve the use of either authorized but unissued stock or stock
repurchased on the open market to pay directors' fees, in lieu of cash payments
for such fees.
It is impossible at this time to predict whether any such plans will be
adopted and, if they are adopted, what the terms and conditions of the plans
will be. If and to the extent required under applicable laws and regulations,
the plans will be submitted to stockholders for approval.
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RESTRICTIONS ON ACQUISITION OF THE COMPANY AND THE BANK
GENERAL
Certain provisions in the Company's Certificate of Incorporation and Bylaws
and in its management remuneration provided for in the Conversion, together with
provisions of Delaware corporate law, may have anti-takeover effects. In
addition, the Bank's Restated Organization Certificate and Bylaws and management
remuneration provided for in the Conversion may have anti-takeover effects as
described below. Finally, regulatory restrictions may make it difficult for
persons or companies to acquire control of either the Company or the Bank.
RESTRICTIONS IN THE COMPANY'S CERTIFICATE OF INCORPORATION AND BYLAWS
GENERAL. The following discussion is a general summary of material
provisions of the Company's Certificate of Incorporation and Bylaws and certain
other statutory and regulatory provisions relating to stock ownership and
transfers, the Board of Directors and business combinations, which might be
deemed to have a potential "anti-takeover" effect. These provisions may have the
effect of discouraging a future takeover attempt which is not approved by the
Board of Directors but which individual Company stockholders may deem to be in
their best interests or in which stockholders may receive a substantial premium
for their shares over then current market prices. As a result, stockholders who
might desire to participate in such a transaction may not have an opportunity to
do so. Such provisions will also render the removal of the current Board of
Directors or management of the Company more difficult. The following description
of certain of the provisions of the Certificate of Incorporation and Bylaws of
the Company is necessarily general and reference should be made in each case to
such Certificate of Incorporation and Bylaws, which are incorporated herein by
reference. See "Additional Information" as to how to obtain a copy of these
documents.
LIMITATION ON VOTING RIGHTS. The Certificate of Incorporation of the
Company provides that in no event shall any record owner of any outstanding
Common Stock which is beneficially owned, directly or indirectly, by a person
who beneficially owns in excess of 10% of the then outstanding shares of Common
Stock (the "Limit") be entitled or permitted to any vote in respect of the
shares held in excess of the Limit. Beneficial ownership is determined pursuant
to Rule 13d-3 of the General Rules and Regulations promulgated pursuant to the
Securities Exchange Act of 1934, and includes shares beneficially owned by such
person or any of his affiliates (as defined in the Company's Certificate of
Incorporation), shares which such person or his affiliates have the right to
acquire pursuant to any agreement, arrangement or understanding or upon the
exercise of conversion rights, exchange rights, warrants or options or otherwise
and shares as to which such person and his affiliates have sole or shared voting
or investment power, but shall not include shares that are subject to a publicly
solicited revocable proxy and that are not otherwise deemed to be beneficially
owned by such person and his affiliates. No director or officer (or any
affiliate thereof) of the Company shall, solely by acting in such capacity, be
deemed to beneficially own any shares beneficially owned by any other director
or officer (or affiliate thereof) nor will the ESOP or any similar plan of the
Company or the Bank or any trustee with respect thereto (solely by reason of
such trustee's capacity) be deemed to beneficially own any shares held under any
such plan. The Certificate of Incorporation of the Company further provides that
the provisions limiting voting rights may only be amended upon the vote of the
holders of at least 80% of the voting power of all then outstanding shares of
capital stock entitled to vote thereon (after giving effect to the provision
limiting voting rights).
BOARD OF DIRECTORS. The Board of Directors of the Company is divided into
three classes, each of which shall contain approximately one-third of the whole
number of the members of the Board. Each class shall serve a staggered term,
with approximately one-third of the total number of directors being elected each
year. The Company's Certificate of Incorporation and Bylaws provide that the
size of the Board shall be determined by a majority of the total number of
authorized directorships, whether or not there exist any vacancies in previously
authorized directorships at the time any such resolution is presented to the
Board
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for adoption (referred to as the "Whole Board"). The Certificate of
Incorporation and the Bylaws provide that any vacancy occurring in the Board,
including a vacancy created by an increase in the number of directors or
resulting from death, resignation, retirement, disqualification, removal from
office or other cause, shall be filled for the remainder of the unexpired term
exclusively by a majority vote of the directors then in office. The division of
the Board into three classes is intended to provide for continuity of the Board
of Directors and to make it more difficult and time consuming for a stockholder
group to use its voting power to gain control of the Board of Directors without
the consent of the incumbent Board of Directors of the Company. Directors may be
removed by the stockholders only for cause by the affirmative vote of the
holders of at least 80% of the voting power of all then outstanding shares of
capital stock entitled to vote thereon.
In the absence of these provisions, the vote of the holders of a majority of
the shares could remove the entire Board, with or without cause, and replace it
with persons of such holders' choice.
CUMULATIVE VOTING, SPECIAL MEETINGS AND ACTION BY WRITTEN CONSENT. The
Certificate of Incorporation expressly provides that there shall not be
cumulative voting, which makes it more difficult for stockholders with a
minority interest in the Company to obtain representation on the Board of
Directors. Moreover, special meetings of stockholders of the Company may be
called only by a resolution adopted by a majority of the Whole Board of
Directors. The Certificate of Incorporation also provides that any action
required or permitted to be taken by the stockholders of the Company may be
taken only at an annual or special meeting and prohibits stockholder action by
written consent in lieu of a meeting.
AUTHORIZED SHARES. The Certificate of Incorporation authorizes the issuance
of 18,000,000 shares of Common Stock and 2,000,000 shares of Preferred Stock.
These shares exceed the number to be issued in the Conversion so the Company
will have the flexibility to effect, among other transactions, financings,
acquisitions, stock dividends, stock splits and employee stock options. However,
these additional authorized shares may also be used by the Board of Directors
consistent with its fiduciary duty to deter 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, and liquidation preferences. As a result of the ability to
fix voting rights for a series of preferred stock, the Board has the power to
the extent consistent with its fiduciary duty to issue a series of preferred
stock to persons friendly to management in order to attempt to block a
post-tender offer merger or other transaction by which a third party seeks
control, and thereby assist management to retain its position. The Company's
Board currently has no plans for the issuance of additional shares, other than
the issuance of shares in the Conversion and the contribution of Common Stock to
the Foundation.
STOCKHOLDER VOTE REQUIRED TO APPROVE BUSINESS COMBINATIONS WITH INTERESTED
STOCKHOLDERS. The Certificate of Incorporation requires the approval of the
holders of at least 80% of the Company's outstanding shares of voting stock
entitled to vote thereon to approve certain "Business Combinations" with an
"Interested Stockholder," each as defined therein, and related transactions.
Under Delaware law, absent this provision, business combinations, including
mergers, consolidations and sales of all or substantially all of the assets of a
corporation must, subject to certain exceptions, be approved by the vote of the
holders of only a majority of the outstanding shares of Common Stock of the
Company and any other affected class of stock. Under the Certificate of
Incorporation, the approval of the holders of at least 80% of the shares of
capital stock entitled to vote thereon is required for any business combination
involving an Interested Stockholder (as defined below) unless (i) the proposed
transaction has been approved by a majority of those members of the Company's
Board of Directors who are unaffiliated with the Interested Stockholder and were
directors prior to the time when the Interested Stockholder became an Interested
Stockholder or (ii) the proposed transaction meets certain conditions which are
designed to afford the stockholders a fair price in consideration for their
shares. The term "Interested Stockholder" is defined to include, among others,
any individual, a group acting in concert, corporation, partnership, association
or other entity (other than the Company or its subsidiary) who or which is the
beneficial owner, directly or indirectly, of
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10% or more of the outstanding shares of voting stock of the Company. This
provision of the Certificate of Incorporation applies to any "Business
Combination," which is defined to include: (i) any merger or consolidation of
the Company or any of its subsidiaries with any Interested Stockholder or
Affiliate (as defined in the Certificate of Incorporation) of an Interested
Stockholder or any corporation which is, or after such merger or consolidation
would be, an Affiliate of an Interested Stockholder; (ii) any sale, lease,
exchange, mortgage, pledge, transfer, or other disposition to or with any
Interested Stockholder or Affiliate of 25% or more of the assets of the Company
or combined assets of the Company and its subsidiary; (iii) the issuance or
transfer to any Interested Stockholder or its Affiliate by the Company (or any
subsidiary) of any securities of the Company (or any subsidiary) in exchange for
any cash, securities or other property the value of which equals or exceeds 25%
of the fair market value of the Common Stock of the Company; (iv) the adoption
of any plan for the liquidation or dissolution of the Company proposed by or on
behalf of any Interested Stockholder or Affiliate thereof; and (v) any
reclassification of securities, recapitalization, merger or consolidation of the
Company with any of its subsidiaries which has the effect of increasing the
proportionate share of Common Stock or any class of equity or convertible
securities of the Company or subsidiary owned directly or indirectly, by an
Interested Stockholder or Affiliate thereof.
EVALUATION OF OFFERS. The Certificate of Incorporation of the Company
further provides that the Board of Directors of the Company, when evaluating any
offer to (i) make a tender or exchange offer for any equity security of the
Company, (ii) merge or consolidate the Company with another corporation or
entity or (iii) purchase or otherwise acquire all or substantially all of the
properties and assets of the Company, may, in connection with the exercise of
its judgment in determining what is in the best interest of the Company and the
stockholders of the Company, give due consideration to all relevant factors,
including, without limitation, those factors that directors of any subsidiary
(including the Bank) may consider in evaluating any action that may result in a
change or potential change of control of such subsidiary, and the social and
economic effects of acceptance of such offer on: the Company's present and
future customers and employees and those of its subsidiaries (including the
Bank); the communities in which the Company and the Bank operate or are located;
the ability of the Company to fulfill its corporate objectives as a bank holding
company; and the ability of the Bank to fulfill the objectives of a stock
savings bank under applicable statutes and regulations. By having these
standards in the Certificate of Incorporation of the Company, the Board of
Directors may be in a stronger position to oppose such a transaction if the
Board concludes that the transaction would not be in the best interest of the
Company, even if the price offered is significantly greater than the then market
price of any equity security of the Company.
AMENDMENT OF CERTIFICATE OF INCORPORATION AND BYLAWS. Amendments to the
Company's Certificate of Incorporation must be approved by a majority vote of
its Board of Directors and also by a majority of the outstanding shares of its
voting stock, provided, however, that an affirmative vote of the holders of at
least 80% of the outstanding voting stock entitled to vote (after giving effect
to the provision limiting voting rights) is required to amend or repeal certain
provisions of the Certificate of Incorporation of the Company, including the
provision limiting voting rights, the provisions relating to approval of certain
business combinations, calling special meetings, the number and classification
of directors, director and officer indemnification by the Company and amendment
of the Company's Bylaws and Certificate of Incorporation. The Company's Bylaws
may be amended by a majority of the Whole Board of Directors, or by a vote of
the holders of at least 80% (after giving effect to the provision limiting
voting rights) of the total votes eligible to be voted at a duly constituted
meeting of stockholders.
CERTAIN BYLAW PROVISIONS. The Bylaws of the Company also require a
stockholder who intends to nominate a candidate for election to the Board of
Directors, or who intends to bring on any business to be conducted at an annual
stockholders' meeting to give at least 90 days advance notice to the Secretary
of the Company. The notice provision requires a stockholder who desires to raise
such business to provide certain information to the Company concerning the
nature of the new business, the stockholder and the stockholder's interest in
the business matter. Similarly, a stockholder wishing to nominate any person for
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election as a director must provide the Company with certain information
concerning the nominee and the proposing stockholder.
ANTI-TAKEOVER EFFECTS OF MANAGEMENT COMPENSATION ARRANGEMENTS
The Company and the Bank have entered into agreements with four officers and
the Bank has adopted an Employee Severance Plan which provide payments and
benefits in connection with a change in control of the Company or the Bank. See
"Management of the Bank--Employment Contracts," and "--Employee Severance Plan."
Furthermore, in the future, the Stock Option Plan and the PRRP may provide for
accelerated benefits to participants in the event of a change in control of the
Company or the Bank or a tender or exchange offer for their stock, but such
provisions are currently not permitted. See "Management of the Bank--Benefit
Plans--Stock Option Plan," and "--Benefit Plans--Personnel Recognition and
Retention Program." These provisions could deter offers to acquire the
outstanding shares of the Company which might be viewed by stockholders to be in
their best interests.
The directors and executive officers of the Bank intend to purchase in the
aggregate from approximately 1.92% to 3.0% of the shares of Common Stock to be
issued in the Conversion, including shares issued to the Foundation. In
addition, the ESOP intends to purchase 8% of the Common Stock issued in the
Conversion, including Common Stock contributed to the Foundation. The Company
anticipates that it will reacquire 4% of the Common Stock issued in the
Conversion to fund the PRRP and expects to grant options to purchase shares
equal to 10% of the Common Stock issued in the Conversion under the Stock Option
Plan to directors and executive officers. As a result, assuming that the PRRP
awards and stock options are satisfied out of shares repurchased by the Company,
directors, executive officers and employees have the potential to control the
voting of from approximately 23.9% to 25.0% of the Company's Common Stock,
enabling them to prevent transactions requiring the approval of at least 80% of
the Company's outstanding shares of voting stock described above.
The Company's Board of Directors believes that the provisions of the
Certificate of Incorporation and Bylaws are in the best interest of the Company
and its stockholders. 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 and that these provisions will encourage
such negotiations and discourage non-negotiated takeover attempts.
DELAWARE CORPORATE LAW
BUSINESS COMBINATIONS. In general, Section 203 of the Delaware General
Corporation Law ("Section 203") provides that a "Person" (as defined therein)
who owns 15% or more of the outstanding voting stock of a Delaware corporation
(an "Interested Stockholder") may not consummate a merger or other business
combination transaction with such corporation at any time during the three-year
period following the date such "Person" became an Interested Stockholder. The
term "business combination" is defined broadly to cover a wide range of
corporate transactions including mergers, sales of assets, issuances of stock,
transactions with subsidiaries and the receipt of disproportionate financial
benefits.
The statute exempts the following transactions from the requirements of
Section 203: (i) any business combination if, prior to the date a person became
an Interested Stockholder, the Board of Directors approved either the business
combination or the transaction which resulted in the stockholder becoming an
Interested Stockholder; (ii) any business combination involving a person who
acquired at least 85% of the outstanding voting stock in the transaction in
which he became an Interested Stockholder, excluding, for purposes of
determining the number of shares outstanding, shares owned by the corporation's
directors who are also officers and certain employee stock plans; (iii) any
business combination with an Interested Stockholder that is approved by the
Board of Directors and by a two-thirds vote of the outstanding voting stock not
owned by the Interested Stockholder; and (iv) certain business combinations that
are proposed
115
<PAGE>
after the corporation had received other acquisition proposals and which are
approved or not opposed by a majority of certain continuing members of the Board
of Directors. A corporation may exempt itself from the requirements of the
statute by adopting an amendment to its Certificate of Incorporation or Bylaws
electing not to be governed by Section 203. At the present time, the Board of
Directors does not intend to propose any such amendment.
RESTRICTIONS IN THE BANK'S RESTATED ORGANIZATION CERTIFICATE AND NEW BYLAWS
The Restated Organization Certificate and Bylaws of the Bank include
provisions which could have anti-takeover effects which provisions are
comparable to the provisions contained in the Company's Certificate of
Incorporation and Bylaws. These provisions include, for example, limits on
voting of more than 10% of the stock of the Bank held by a single person or
groups, super-majority stockholder voting requirement to approve certain
business combinations, no cumulative voting and a staggered Board of Directors.
REGULATORY RESTRICTIONS
The Conversion Regulations prohibit any person, prior to the completion of
the Conversion, from transferring, or from entering into any agreement or
understanding to transfer, to the account of another, legal or beneficial
ownership of the subscription rights issued under the Plan of Conversion or the
Common Stock to be issued upon their exercise. The Plan of Conversion also
prohibits any person, prior to the completion of the Conversion, from offering,
or making an announcement of an offer or intent to make an offer, to purchase
such subscription rights or Common Stock.
As permitted by the Conversion Regulations, the Restated Organization
Certificate of the Bank prohibits, for three years after the Conversion, any
person from acquiring or making an offer to acquire more than 10% of the stock
of the Bank. In addition, the Banking Law requires the approval of the New York
Banking Board before any person or company acquires the power to vote, directly
or indirectly, more than 10% of the voting stock of the Bank.
In addition, any proposal to acquire 10% of any class of equity security of
the Company generally would be subject to approval by the Federal Reserve under
the Change in Bank Control Act. Federal law generally provides that no "person,"
acting directly or indirectly or through or in concert with one or more other
persons, may acquire "control," as that term is defined in Federal Reserve
regulations, of a state bank or its holding company without giving at least 60
days written notice to the Federal Reserve and providing the Federal Reserve an
opportunity to disapprove the proposed acquisition. Such acquisitions of control
may be disapproved by the Federal Reserve if it is determined, among other
things, that (i) the acquisition would substantially lessen competition or
result in a monopoly; (ii) the financial condition of the acquiring person might
jeopardize the financial stability of the savings institution or prejudice the
interests of its depositors; or (iii) the competency, experience or integrity of
the acquiring person or the proposed management personnel indicates that it
would not be in the interest of the depositors or the public to permit the
acquisition of control by such person. Such change in control restrictions on
the acquisition of Company stock are not limited to three years after the
Conversion but will apply for as long as the regulations are in effect. Persons
holding revocable or irrevocable proxies may be deemed to be beneficial owners
of such securities under Federal Reserve regulations and therefore prohibited
from voting all or the portion of such proxies in excess of the 10% aggregate
beneficial ownership limit. Such regulatory restrictions may prevent or inhibit
proxy contests for control of the Company or the Bank which have not received
prior regulatory approval.
116
<PAGE>
DESCRIPTION OF CAPITAL STOCK OF THE COMPANY
GENERAL
The Company is authorized to issue 18,000,000 shares of Common Stock having
a par value of $.01 per share and 2,000,000 shares of preferred stock having a
par value of $.01 per share (the "Preferred Stock"). The Company currently
expects to issue up to 8,262,318 shares of Common Stock and no shares of
Preferred Stock in the Conversion, including shares contributed to the
Foundation. Except for shares issued in connection with the Conversion, the
Company presently does not have plans to issue Common Stock, except for shares
that may be issued upon the exercise of stock options which may be granted
pursuant to the Stock Option Plan. The Company may also elect to fund awards
under the PRRP with authorized but unissued Common Stock. Each share of the
Company's Common Stock will have the same relative rights as, and will be
identical in all respects with, each other share of Common Stock. Upon payment
of the purchase price for the Common Stock, in accordance with the Plan of
Conversion, all such stock will be duly authorized, fully paid and
nonassessable.
The Common Stock of the Company will represent nonwithdrawable capital, will
not be an account of an insurable type, and will not be insured by the FDIC or
any other government agency.
COMMON STOCK
DIVIDENDS. The Company can pay dividends out of statutory surplus or from
certain net profits if, as and when declared by its Board of Directors. The
payment of dividends by the Company is subject to limitations which are imposed
by law and applicable regulation. See "Dividend Policy" and "Regulation." The
holders of Common Stock of the Company will be entitled to receive and share
equally in such dividends as may be declared by the Board of Directors of the
Company out of funds legally available therefor. If the Company issues Preferred
Stock, the holders of it may have a priority over the holders of the Common
Stock with respect to dividends.
VOTING RIGHTS. Upon the Conversion, the holders of Common Stock of the
Company will possess exclusive voting rights in the Company. They will elect the
Company's Board of Directors and act on such other matters as are required to be
presented to them under Delaware law or as are otherwise presented to them by
the Board of Directors. Except as discussed in "Restrictions on Acquisition of
the Company and the Bank," each holder of Common Stock will be entitled to one
vote per share. Stockholders will not have any right to cumulate votes in the
election of directors, which means that a stockholder may not cast more votes
for any one nominee than the number of shares owned by that stockholder, even if
there is more than one seat up for election. Thus, a stockholder owning 100
shares of Common Stock may cast a total of 300 votes if there are three
vacancies being filled, but may not cast more than 100 votes for any one
nominee. If the Company issues Preferred Stock, holders of the Preferred Stock
may also possess voting rights. Certain matters require an 80% stockholder vote
(after giving effect to the provision limiting voting rights). See "Restrictions
on Acquisition of the Company and the Bank."
As a mutual savings bank, corporate powers and control of the Bank are
vested in its Board of Directors, who elect the officers of the Bank and who
fill any vacancies on the Board of Directors prior to the Conversion. Subsequent
to Conversion, voting rights will be vested exclusively in the Company as the
sole owner of the shares of capital stock of the Bank, and voting rights will be
exercised at the direction of the Company's Board of Directors. Consequently,
the holders of the Common Stock will not have direct control of the Bank.
LIQUIDATION. In the event of any liquidation, dissolution or winding up of
the Bank, the Company, as holder of the Bank's capital stock, would be entitled
to receive, after payment or provision for payment of 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 (See "The
Conversion--Effects of Conversion on Depositors and Borrowers--Liquidation
Rights"), all assets of the Bank available for distribution. In the
117
<PAGE>
event of liquidation, dissolution or winding up of the Company, the holders of
its Common Stock would be entitled to receive, after payment or provision for
payment of all of its debts and liabilities, all of the assets of the Company
available for distribution. If Preferred Stock is issued, the holders thereof
may have a priority over the holders of the Common Stock in the event of
liquidation or dissolution.
PREEMPTIVE RIGHTS; REDEMPTION. Holders of the Common Stock of the Company
will not be entitled to preemptive rights with respect to any shares which may
be issued. The Common Stock is not subject to redemption.
INDEMNIFICATION AND LIMIT ON LIABILITY. The Company's Certificate of
Incorporation contains provisions which limit the liability of directors,
officers and employees of the Company and indemnify such individuals. See
"Management of the Company--Indemnification and Liability of Directors."
PREFERRED STOCK
None of the shares of the Company's authorized Preferred Stock will be
issued in the Conversion. Such stock may be issued with such designations,
powers, preferences and rights as the Board of Directors may from time to time
determine. The Board of Directors can, without stockholder approval, issue
Preferred Stock with voting, dividend, liquidation and conversion rights which
could dilute the voting strength of the holders of the Common Stock and may
assist management in impeding an unfriendly takeover or attempted change in
control. The Company presently does not have plans to issue Preferred Stock.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the Common Stock is Registrar and
Transfer Company.
EXPERTS
The consolidated financial statements of Cortland Savings Bank and its
subsidiary as of December 31, 1997 and 1996, and for each of the years in the
three-year period ended December 31, 1997, have been included herein and in the
registration statement filed with the SEC in reliance upon the report of KPMG
Peat Marwick LLP, independent certified public accountants, appearing elsewhere
herein, and upon the authority of said firm as experts in accounting and
auditing.
RP Financial, LC. has consented to the publication herein of the summary of
its report to the Bank and Company setting forth its opinion as to the estimated
pro forma market value of the Common Stock upon Conversion and its opinion with
respect to subscription rights.
LEGAL AND TAX OPINIONS
The legality of the Common Stock, the federal income tax consequences of the
Conversion and certain matters related to the Foundation will be passed upon for
the Bank and Company by Serchuk & Zelermyer, LLP, White Plains, New York,
counsel to the Bank and Company. Certain legal matters will be passed upon for
CIBC Oppenheimer Corp. and Trident Securities, Inc. by Thacher Proffitt & Wood,
New York, New York.
ADDITIONAL INFORMATION
The Company has filed with the SEC a registration statement under the
Securities Act of 1933 with respect to the Common Stock offered hereby. As
permitted by the rules and regulations of the SEC, this Prospectus does not
contain all the information set forth in the registration statement. Such
information, including the Appraisal, which is an exhibit to the registration
statement, can be examined without charge at the public reference facilities of
the SEC located at 450 Fifth Street, N.W., Washington, D.C. 20549, and copies of
such material can be obtained from the SEC at prescribed rates. In addition, the
SEC maintains a
118
<PAGE>
web site (http://www.sec.gov) that contains reports, proxy and information
statements and other information regarding registrants that file electronically
with the SEC, including the Company. The Appraisal may also be inspected by
Eligible Account Holders and Supplemental Eligible Account Holders at the
offices of the Bank during normal business hours. 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, of necessity, brief descriptions
thereof and are not necessarily complete; each such statement is qualified by
reference to such contract or document.
The Bank has filed an application for Conversion with the Banking
Department. Pursuant to the rules and regulations of the Banking Department,
this Prospectus omits certain information contained in that application. The
application may be examined at the principal office of the Banking Department,
Two Rector Street, New York, New York 10006 and at the principal office of the
Bank, One North Main Street, Cortland, New York 13045.
In connection with the Conversion, the Company will register its Common
Stock with the SEC under Section 12(g) of the Securities Exchange Act of 1934
and, upon such registration, the Company and the holders of its stock will
become subject to the proxy solicitation rules, reporting requirements and
restrictions on stock purchases and sales by directors, officers and greater
than 10% stockholders, the annual and periodic reporting and certain other
requirements of the Securities Exchange Act of 1934. Under the Plan of
Conversion, the Company has undertaken that it will not terminate such
registration for a period of at least three years following the Conversion.
Copies of the Certificate of Incorporation and the Bylaws of the Company and
the Restated Organization Certificate and Bylaws of the Bank are available
without charge from the Bank upon written or oral request.
119
<PAGE>
CORTLAND SAVINGS BANK
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<S> <C>
Independent Auditors' Report.......................................................... F-2
Consolidated Balance Sheets at December 31, 1997 and 1996 and at March 31, 1998
(unaudited)......................................................................... F-3
Consolidated Statements of Income for the Years Ended December 31, 1997, 1996 and 1995
and for the three months ended March 31, 1998 and 1997 (unaudited).................. 52
Consolidated Statements of Net Worth for the Years Ended December 31, 1997, 1996 and
1995 and the three months ended March 31, 1998 (unaudited).......................... F-4
Consolidated Statements of Cash Flows for the Years Ended December 31, 1997, 1996 and
1995 and the three months ended March 31, 1998 and 1997 (unaudited)................. F-5
Notes to Financial Statements......................................................... F-7
</TABLE>
All data as of and for the three month periods ended March 31, 1998 and 1997
are unaudited
All schedules are omitted because the required information is not applicable
or is included in the Consolidated Financial Statements or related Notes.
The Financial Statements of the Company have been omitted because the
Company has not yet issued any stock, has no assets, no liabilities and has not
conducted any business other than of an organizational nature.
F-1
<PAGE>
KPMG Peat Marwick LLP
113 South Salina Street
Syracuse, NY 13202
INDEPENDENT AUDITORS' REPORT
The Board of Trustees
Cortland Savings Bank:
We have audited the accompanying consolidated balance sheets of Cortland
Savings Bank and subsidiary as of December 31, 1997 and 1996, and the related
consolidated statements of income, net worth and cash flows for each of the
years in the three-year period ended December 31, 1997. These consolidated
financial statements are the responsibility of the Bank's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Cortland
Savings Bank and subsidiary at December 31, 1997 and 1996, and the results of
their operations and their cash flows for each of the years in the three-year
period ended December 31, 1997 in conformity with generally accepted accounting
principles.
/s/ KPMG Peat Marwick LLP
March 19, 1998
F-2
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
MARCH 31, 1998 AND DECEMBER 31, 1997 AND 1996
(IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31,
---------------------------
1997 1996
MARCH 31, ------------ -------------
1998
------------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Cash and due from banks........................... $ 4,613 $ 4,679 $ 9,736
Federal funds sold................................ 5,200 3,400 2,800
Securities available-for-sale, at fair value...... 45,475 44,140 45,594
Securities held-to-maturity (fair value of $12,489
(unaudited), $12,569 and $11,633 at March 31,
1998 and December 31, 1997 and 1996,
respectively)................................... 12,479 12,550 11,757
Loans held for sale............................... -- 2,541 --
Loans receivable, net of deferred fees............ 156,430 157,565 160,563
Less allowance for loan losses.................... 2,230 2,143 1,952
------------ ------------ -------------
Net loans................................... 154,200 155,422 158,611
Premises and equipment, net....................... 3,446 3,447 3,655
Federal Home Loan Bank stock, at cost............. 1,303 1,291 1,228
Accrued interest receivable....................... 1,660 1,679 1,912
Deferred income taxes............................. 1,086 1,908 1,245
Real estate owned................................. 760 964 563
Other assets...................................... 2,166 1,708 999
------------ ------------ -------------
$ 232,388 $ 233,729 $ 238,100
------------ ------------ -------------
------------ ------------ -------------
LIABILITIES AND NET WORTH
Liabilities:
Deposits:
Demand accounts............................... $ 9,128 $ 10,604 $ 9,563
Passbook, statement savings and club
accounts.................................... 63,658 62,769 63,003
Savings certificates.......................... 107,854 108,258 112,642
Money market accounts......................... 8,314 8,435 9,343
NOW accounts.................................. 9,280 9,704 10,089
------------ ------------ -------------
Total deposits.............................. 198,234 199,770 204,640
Advance payments by borrowers for property taxes
and insurance................................. 705 1,329 1,373
Other liabilities............................... 2,055 1,890 1,742
------------ ------------ -------------
Total liabilities........................... 200,994 202,989 207,755
------------ ------------ -------------
Commitments and contingencies (note 12)
Net worth:
Surplus fund.................................... 5,541 5,541 5,541
Retained earnings............................... 25,121 24,628 24,556
Accumulated other comprehensive income.......... 732 571 248
------------ ------------ -------------
Total net worth............................. 31,394 30,740 30,345
------------ ------------ -------------
$ 232,388 $ 233,729 $ 238,100
------------ ------------ -------------
------------ ------------ -------------
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF NET WORTH
THREE-MONTHS ENDED MARCH 31, 1998 AND
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
ACCUMULATED
OTHER
SURPLUS RETAINED COMPREHENSIVE
FUND EARNINGS INCOME TOTAL
--------- --------- ----------------- ---------
<S> <C> <C> <C> <C>
Balance at December 31, 1994...................................... $ 5,541 $ 21,267 $ 68 $ 26,876
Comprehensive income:
Change in net unrealized gain (loss) on securities, net of tax
and reclassification adjustment............................... -- -- 230 230
Net income...................................................... -- 1,924 -- 1,924
--------- --------- ----- ---------
Comprehensive income.............................................. -- 1,924 230 2,154
--------- --------- ----- ---------
Balance at December 31, 1995...................................... 5,541 23,191 298 29,030
Comprehensive income:
Change in net unrealized gain (loss) on securities, net of tax
and reclassification adjustment............................... -- -- (50) (50)
Net income...................................................... -- 1,365 -- 1,365
--------- --------- ----- ---------
Comprehensive income.............................................. -- 1,365 (50) 1,315
--------- --------- ----- ---------
Balance at December 31, 1996...................................... 5,541 24,556 248 30,345
Comprehensive income:
Change in net unrealized gain (loss) on securities, net of tax
and reclassification adjustment............................... -- -- 323 323
Net income...................................................... -- 72 -- 72
--------- --------- ----- ---------
Comprehensive income.............................................. -- 72 323 395
--------- --------- ----- ---------
Balance at December 31, 1997...................................... 5,541 24,628 571 30,740
Comprehensive income:
Change in net unrealized gain (loss) on securities, net of tax
and reclassification adjustment (unaudited)................... -- -- 161 161
Net income (unaudited).......................................... -- 493 -- 493
--------- --------- ----- ---------
Comprehensive income (unaudited).................................. -- 493 161 654
--------- --------- ----- ---------
Balance at March 31, 1998 (unaudited)............................. $ 5,541 $ 25,121 $ 732 $ 31,394
--------- --------- ----- ---------
--------- --------- ----- ---------
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE-MONTHS ENDED MARCH 31, 1998 AND 1997 AND
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
MARCH 31, YEARS ENDED DECEMBER 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Net income.................................................. $ 493 $ 411 $ 72 $ 1,365 $ 1,924
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization............................. 118 146 579 507 497
Decrease (increase) in accrued interest receivable........ 19 (41) 233 431 23
Provision for loan losses................................. 75 225 3,300 1,380 600
Write-down of real estate owned........................... 50 -- 365 59 --
Net (gains) losses on sales of securities................. (6) (7) (46) (15) (16)
Nationar (recovery) provision............................. -- -- (45) -- 100
Net losses (gains) on sale of real estate owned........... (44) -- (11) 37 (47)
Net amortization of premiums and discounts................ 1 (55) 104 251 566
Net gain on sale of loans held for sale................... (30) -- -- -- --
Proceeds from sale of loans held for sale................. 3,131 -- -- -- --
Increase (decrease) in other liabilities.................. 165 6 148 (70) 426
Deferred income taxes..................................... 706 (9) (869) (342) (323)
(Increase) decrease in other assets....................... (458) 91 (709) 1,597 (1,715)
--------- --------- --------- --------- ---------
Net cash provided by operating activities............. 4,220 767 3,121 5,200 2,035
--------- --------- --------- --------- ---------
Cash flows from investing activities:
Net decrease (increase) in loans............................ 542 683 (3,746) (2,064) (6,654)
Proceeds from recovery of Nationar.......................... -- -- 45 -- --
Proceeds from sales of securities available-for-sale........ 2,006 1,533 3,121 1,057 3,412
Proceeds from maturities and principle reductions of
securities available-for-sale............................. 5,155 4,695 18,040 21,959 1,692
Purchases of securities available-for-sale.................. (8,214) (8,254) (19,237) (27,139) (12,985)
Purchases of securities held-to-maturity.................... (1,522) -- (3,847) (2,964) (2,991)
Proceeds from maturities and principle reductions of
securities held-to-maturity............................... 1,593 434 3,054 2,382 21,883
Proceeds from sale of real estate owned..................... 243 39 340 274 372
Additions to premises and equipment......................... (117) (215) (371) (291) (255)
Purchase of FHLB stock...................................... (12) -- (63) (1,228) --
--------- --------- --------- --------- ---------
Net cash provided (used) by investing activities...... (326) (1,085) (2,664) (8,014) 4,474
--------- --------- --------- --------- ---------
Cash flows from financing activities:
(Decrease) increase in deposits............................. (1,536) (1,648) (4,870) 1,530 2,800
Decrease in advance payments by borrowers for property taxes
and insurance............................................. (624) (684) (44) (356) (45)
--------- --------- --------- --------- ---------
Net cash (used) provided by financing activities...... (2,160) (2,332) (4,914) 1,174 2,755
--------- --------- --------- --------- ---------
Net increase (decrease) in cash and cash equivalents.......... 1,734 (2,650) (4,457) (1,640) 9,264
Cash and cash equivalents at beginning of period.............. 8,079 12,536 12,536 14,176 4,912
--------- --------- --------- --------- ---------
Cash and cash equivalents at end of period.................... $ 9,813 $ 9,886 $ 8,079 $ 12,536 $ 14,176
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
F-5
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
THREE-MONTHS ENDED MARCH 31, 1998 AND 1997 AND
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS
ENDED
MARCH 31, YEARS ENDED DECEMBER 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Non-cash investing activities:
Transfer of securities held-to-maturity to securities
available-for-sale...................................... $ -- $ -- $ -- $ -- $ 31,053
Transfer of loans held-to-maturity to loans
held-for-sale........................................... 661 -- 2,541 -- --
Transfer of loans held-for-sale to loans
held-to-maturity........................................ 101 -- -- -- --
Additions to real estate owned............................ 45 33 1,095 711 645
Cash paid during the three-months and year for:
Interest.................................................. 2,021 2,062 8,321 8,761 8,588
Income taxes.............................................. -- 54 1,125 1,644 1,420
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(1) BUSINESS
Cortland Savings Bank and subsidiary (the "Bank") are organized under the
laws of New York. The Bank is subject to regulation by the New York State
Banking Department and the Federal Deposit Insurance Corporation (FDIC) and is a
mutual savings bank. The financial services subsidiary has been inactive since
its formation in 1986. The Bank's lending activity is concentrated in Cortland
County and surrounding areas.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(A) BASIS OF PRESENTATION
The consolidated financial statements include the accounts of Cortland
Savings Bank and its wholly-owned subsidiary, Cortland Financial Services, Inc.
All significant intercompany balances and transactions have been eliminated in
consolidation.
The balance sheet as of March 31, 1998 and the related statements of income
and cash flows for the three month periods ended March 31, 1998 and 1997 and
changes in net worth for the three month period ended March 31, 1998 are
unaudited and, in the opinion of management, all adjustments (consisting of
normal recurring accruals) necessary for a fair presentation as of March 31,
1998 and for the results for the unaudited periods have been made.
The consolidated financial statements have been prepared in conformity with
generally accepted accounting principles. Certain prior year amounts have been
reclassified to conform to the current year's classifications. A description of
the significant accounting policies is presented below. In preparing the
consolidated financial statements, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities as of the date of the balance
sheet and revenues and expenses for the period. Actual results could differ from
those estimates.
(B) CASH AND CASH EQUIVALENTS
Cash and cash equivalents include vault cash, amounts due from banks and
Federal funds sold which represents short-term highly liquid investments.
(C) SECURITIES
The Bank classifies its debt securities as either available-for-sale or
held-to-maturity as the Bank does not hold any securities considered to be
trading. Equity securities are classified as available-for-sale. Held-
to-maturity securities are those debt securities the Bank has the ability and
intent to hold until maturity. All other debt securities are classified as
available-for-sale.
Available-for-sale securities are recorded at fair value. Held-to-maturity
securities are recorded at amortized cost. Unrealized holding gains and losses,
net of the related tax effect, on available-for-sale securities are excluded
from earnings and reported as a separate component of net worth until realized.
Transfers of securities between categories are recorded at fair value at the
date of transfer.
F-7
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
A decline in the fair value of an available-for-sale or held-to-maturity
security that is deemed to be other than temporary results in a charge to
earnings resulting in the establishment of a new cost basis for the security.
Premiums and discounts are amortized or accreted over the life of the
related security as an adjustment to yield using the interest method. Dividend
and interest income are recognized when earned. Realized gains and losses on
securities are included in earnings and are calculated using the specific
identification method, for determining the cost of the securities sold.
(D) LOANS
Loans are reported at the principal amount outstanding, net of deferred
fees. Fees and certain direct origination costs related to lending activities
are recognized using the interest method over the lives of the loans. Management
has the ability and intent to hold its loans to maturity except for education
loans which are sold to a third party upon reaching repayment status.
The accrual of interest on loans (including impaired loans) is generally
discontinued and previously accrued interest is reversed when loan payments are
90 days or more past due or when, by the judgment of management, collectibility
becomes uncertain. Subsequent recognition of income occurs only to the extent
that payment is received. Loans are returned to an accrual status when both
principal and interest are current and the loan is determined to be performing
in accordance with the applicable loan terms.
(E) ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses consists of the provision charged to
operations based upon past loan loss experience, management's evaluation of the
loan portfolio under current economic conditions and such other factors that
require current recognition in estimating loan losses. Loan losses and
recoveries of loans previously written-off are charged or credited to the
allowance as incurred or realized, respectively.
Management believes that the allowance for loan losses is adequate.
Management uses presently available information to recognize losses on loans;
however, future additions to the allowance may be necessary based on changes in
economic conditions. In addition, various regulatory agencies, as an integral
part of their examination process, periodically review the Bank's allowance for
loan losses and may require the Bank to recognize additions to the allowance
based on their judgment of information available to them at the time of their
examination.
The Bank estimates losses on impaired loans based on the present value of
expected future cash flows (discounted at the loan's effective interest rate) or
the fair value of the underlying collateral if the loan is collateral dependent.
An impairment loss exists if the recorded investment in a loan exceeds the value
of the loan as measured by the aforementioned methods. A loan is considered
impaired when it is probable that the Bank will be unable to collect all amounts
due according to the contractual terms of the loan agreement. Generally, all
commercial mortgage loans and commercial loans in a delinquent payment status
(90 days or more delinquent) are considered impaired. Residential mortgage
loans, consumer loans, home equity lines of credit and education loans are
evaluated collectively since they are homogenous and generally carry smaller
individual balances. Impairment losses are included as a component of the
allowance for loan losses. The Bank recognizes interest income on impaired loans
using the cash basis of
F-8
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
income recognition. Cash receipts on impaired loans are generally applied
according to the terms of the loan agreement, or as a reduction of principal,
based upon management judgment and the related factors discussed above.
(F) REAL ESTATE OWNED
Real estate acquired in settlement of loans is carried at the lower of the
unpaid loan balance or fair value less estimated costs to sell. Write-downs from
the unpaid loan balance to fair value at the time of foreclosure are charged to
the allowance for loan losses. Subsequent write-downs to fair value, net of
disposal costs, are charged to other expenses.
(G) PREMISES AND EQUIPMENT
Land is carried at cost and buildings and improvements and furniture and
equipment are carried at cost less accumulated depreciation. Depreciation is
computed on the straight-line method over the estimated useful lives of the
assets (3-39 years for building and improvements; 3-7 years for furniture and
equipment.)
(H) EMPLOYEE BENEFIT PLANS
The Bank maintains a non-contributory defined benefit pension plan that
covers substantially all employees. The benefits under the pension plan are
based on the employee's years of service and compensation. The Bank also has a
defined contribution 401(k) Savings Plan for all full time salaried employees.
Employees are permitted to contribute up to 10% of base pay to the Savings Plan,
subject to certain limitations. The Bank matches 75% of each employee's
contribution up to 6%.
(I) POSTRETIREMENT BENEFITS
The Bank maintains a non-contributory health and life insurance plan that
provides postretirement benefits to current and retired employees and certain
eligible dependents who meet minimum age and service requirements. The estimated
costs of providing benefits are accrued over the years the employees render
services necessary to earn those benefits.
(J) INCOME TAXES
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in the period that
includes the enactment date.
(K) COMPREHENSIVE INCOME
On January 1, 1998, the Bank adopted the provisions of Statement of
Financial Accounting Standards No. 130, REPORTING COMPREHENSIVE INCOME. This
statement establishes standards for reporting and display
F-9
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
of comprehensive income and its components. Comprehensive income includes the
reported net income of a bank adjusted for items that are currently accounted
for as direct entries to net worth, such as the mark to market adjustment on
securities available for sale, foreign currency items and minimum pension
liability adjustments. At the Bank, comprehensive income represents net income
plus other comprehensive income, which consists of the net change in unrealized
gains or losses on securities available for sale for the period. Accumulated
other comprehensive income represents the net unrealized gains or losses on
securities available for sale as of the balance sheet dates. Comprehensive
income for the three-month periods ended March 31, 1998 and 1997 (unaudited) was
$654,000 and $242,000, respectively.
The following summarizes the components of other comprehensive income (in
thousands):
<TABLE>
<CAPTION>
THREE-MONTHS
ENDED YEARS ENDED DECEMBER 31,
MARCH 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Other comprehensive income, before tax:
Net unrealized holding gain on securities............................... $ 283 $ (275) $ 575 $ (68) $ 398
Reclassification adjustment for (gains) losses included in net income... (6) (7) (46) (15) (16)
--------- --------- --------- --- ---------
Other comprehensive income, before tax.................................... 277 (282) 529 (83) 382
Income tax expense related to items of other comprehensive income......... 116 (114) 206 (33) 152
--------- --------- --------- --- ---------
Other comprehensive income, net of tax.................................... $ 161 $ (168) $ 323 $ (50) $ 230
--------- --------- --------- --- ---------
--------- --------- --------- --- ---------
</TABLE>
(L) FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK
The Bank does not engage in the use of derivative financial instruments. The
Bank's off-balance sheet financial instruments are limited to commitments to
extend credit.
(M) NEW ACCOUNTING STANDARDS
Effective January 1, 1998, the Bank adopted the remaining provisions of
Statement of Financial Accounting Standards ("SFAS") No. 125, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,"
which relate to the accounting for securities lending, repurchase agreements,
and other secured financing activities. These provisions, which were delayed for
implementation by SFAS No. 127, are not expected to have a material impact on
the Bank. In addition, the FASB is considering certain amendments and
interpretations of SFAS No. 125 which, if enacted in the future, could affect
the accounting for transactions within their scope.
F-10
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(3) SECURITIES
Securities are summarized as follows (in thousands):
<TABLE>
<CAPTION>
MARCH 31, 1998
--------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
----------- ----------- ------------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C>
Available-for-sale:
U.S. Government securities....................................... $ 16,543 $ 97 $ 18 $ 16,622
Mortgage-backed securities....................................... 11,886 123 28 11,981
Corporate debt securities........................................ 14,485 45 18 14,512
----------- ----------- --- ---------
Total debt securities.......................................... 42,914 265 64 43,115
Equity securities................................................ 1,340 1,031 11 2,360
----------- ----------- --- ---------
$ 44,254 $ 1,296 $ 75 $ 45,475
----------- ----------- --- ---------
----------- ----------- --- ---------
Held-to-maturity:
U.S. Government securities....................................... 2,001 1 5 1,997
Mortgage-backed securities....................................... 7,835 82 89 7,828
Corporate debt securities........................................ 2,359 18 1 2,376
State and municipal sub-divisions................................ 284 4 -- 288
----------- ----------- --- ---------
$ 12,479 $ 105 $ 95 $ 12,489
----------- ----------- --- ---------
----------- ----------- --- ---------
</TABLE>
<TABLE>
<CAPTION>
DECEMBER 31, 1997
--------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
----------- ----------- ------------- ---------
<S> <C> <C> <C> <C>
Available-for-sale:
U.S. Government securities....................................... $ 16,041 $ 105 $ -- $ 16,146
Mortgage-backed securities....................................... 12,144 120 53 12,211
Corporate debt securities........................................ 13,819 46 4 13,861
----------- ----------- --- ---------
Total debt securities.......................................... 42,004 271 57 42,218
Equity securities................................................ 1,192 748 18 1,922
----------- ----------- --- ---------
$ 43,196 $ 1,019 $ 75 $ 44,140
----------- ----------- --- ---------
----------- ----------- --- ---------
Held-to-maturity:
U.S. Government securities....................................... $ 1,992 $ 3 $ -- $ 1,995
Mortgage-backed securities....................................... 8,279 87 92 8,274
Corporate debt securities........................................ 1,854 16 -- 1,870
State and municipal sub-divisions................................ 425 5 -- 430
----------- ----------- --- ---------
$ 12,550 $ 111 $ 92 $ 12,569
----------- ----------- --- ---------
----------- ----------- --- ---------
</TABLE>
F-11
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(3) SECURITIES (CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31, 1996
--------------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
----------- ----------- ------------- ---------
<S> <C> <C> <C> <C>
Available-for-sale:
U.S. Government securities....................................... $ 19,485 $ 63 $ 5 $ 19,543
Mortgage-backed securities....................................... 11,833 56 167 11,722
Corporate debt securities........................................ 13,233 44 25 13,252
----------- ----------- ----- ---------
Total debt securities.......................................... 44,551 163 197 44,517
Equity securities................................................ 628 452 3 1,077
----------- ----------- ----- ---------
$ 45,179 $ 615 $ 200 $ 45,594
----------- ----------- ----- ---------
----------- ----------- ----- ---------
Held-to-maturity:
Mortgage-backed securities....................................... $ 10,899 $ 64 $ 197 $ 10,766
State and municipal sub-divisions................................ 858 9 -- 867
----------- ----------- ----- ---------
$ 11,757 $ 73 $ 197 $ 11,633
----------- ----------- ----- ---------
----------- ----------- ----- ---------
</TABLE>
The following table presents the carrying value and fair value of debt
securities at March 31, 1998 (unaudited), based on the earlier of call or
maturity date (in thousands):
<TABLE>
<CAPTION>
AMORTIZED FAIR
COST VALUE
----------- ---------
<S> <C> <C>
Available-for-sale:
Due within one year.................................................. $ 7,731 $ 7,752
Due after one year through five years................................ 22,300 22,392
Due after five years through ten years............................... 997 990
Due after ten years.................................................. -- --
----------- ---------
31,028 31,134
Mortgage-backed securities......................................... 11,886 11,981
----------- ---------
$ 42,914 $ 43,115
----------- ---------
----------- ---------
Held-to-maturity:
Due within one year.................................................. $ -- $ --
Due after one year through five years................................ 4,644 4,661
Due after five years through ten years............................... -- --
Due after ten years.................................................. -- --
----------- ---------
4,644 4,661
Mortgage-backed securities......................................... 7,835 7,828
----------- ---------
$ 12,479 $ 12,489
----------- ---------
----------- ---------
</TABLE>
F-12
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(3) SECURITIES (CONTINUED)
The following table presents the carrying value and fair value of debt
securities at December 31, 1997, based on the earlier of call or maturity date
(in thousands):
<TABLE>
<CAPTION>
AMORTIZED FAIR
COST VALUE
----------- ---------
<S> <C> <C>
Available-for-sale:
Due within one year.................................................. $ 11,075 $ 11,096
Due after one year through five years................................ 17,784 17,908
Due after five years through ten years............................... 1,001 1,003
Due after ten years.................................................. -- --
----------- ---------
29,860 30,007
Mortgage-backed securities......................................... 12,144 12,211
----------- ---------
$ 42,004 $ 42,218
----------- ---------
----------- ---------
Held-to-maturity:
Due within one year.................................................. $ 1,638 $ 1,639
Due after one year through five years................................ 2,633 2,656
Due after five years through ten years............................... -- --
Due after ten years.................................................. -- --
----------- ---------
4,271 4,295
Mortgage-backed securities......................................... 8,279 8,274
----------- ---------
$ 12,550 $ 12,569
----------- ---------
----------- ---------
</TABLE>
Gross gains of $6,000 and $7,000 were realized on sales of securities during
the three months ended March 31, 1998 and 1997 (unaudited), respectively. There
were no gross losses realized on sales of securities during the three months
ended March 31, 1998 and 1997 (unaudited). Gross gains of $46,000 and $15,000
were realized on sales of securities in 1997 and 1996, respectively. There were
no gross losses realized on sales of securities in 1997 and 1996. Gross gains
and losses of $47,000 and $31,000, respectively, were realized on sales of
securities in 1995.
In February 1995, the Superintendent of Banks for the State of New York
seized Nationar, a check-clearing and trust company, freezing all of Nationar's
assets. The Bank held $100,000 of Nationar capital debentures. Based on
information set forth in certain publicly available documents, at that time,
management believed that there was a reasonable likelihood that the Bank would
not recover all amounts owed by Nationar. Accordingly, management established a
reserve of $100,000 for the Nationar capital debentures as of December 31, 1995.
During 1997, the Bank recovered $45,000 on the Nationar capital debenture.
Securities carried at $511,000 at March 31, 1998 (unaudited) and December
31, 1997 were pledged for other purposes required by law.
F-13
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(4) LOANS RECEIVABLE
Loans receivable are summarized as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------
1997 1996
MARCH 31, 1998 ---------- ----------
--------------
(UNAUDITED)
<S> <C> <C> <C>
Mortgage loans:
Residential........................................ $ 96,218 $ 96,328 $ 94,994
Partially guaranteed by VA......................... 384 444 590
Insured by FHA..................................... 829 847 1,041
Commercial......................................... 30,560 30,867 35,119
-------------- ---------- ----------
127,991 128,486 131,744
-------------- ---------- ----------
Other loans:
Commercial......................................... 6,528 7,049 8,020
Automobile......................................... 9,050 8,902 6,378
Home equity line of credit......................... 6,139 5,924 5,882
Property improvement............................... 828 907 1,031
Guaranteed student................................. 1,708 1,507 1,552
Other consumer..................................... 4,391 5,031 6,289
-------------- ---------- ----------
28,644 29,320 29,152
-------------- ---------- ----------
Total loans...................................... 156,635 157,806 160,896
Less:
Net deferred fees.................................. 205 241 333
-------------- ---------- ----------
$ 156,430 $ 157,565 $ 160,563
-------------- ---------- ----------
-------------- ---------- ----------
</TABLE>
In an effort to accelerate resolution of certain of its problem assets, in
December 1997 the Bank identified certain loans for bulk sale. Prior to December
31, 1997 the carrying value of the loans anticipated to be sold was
approximately $4,247,000, of which approximately $3,484,000 were then non-
performing and approximately $763,000 were then performing.
In anticipation of the bulk sale, the loans to be sold in such transaction
have been included on the Bank's consolidated balance sheet as of December 31,
1997 as loans held for sale at their fair value, based on an estimated sales
price. The Bank charged-off $1,698,000 against the allowance for loan losses to
reflect the fair value of the loans. In February 1998, the Bank transferred an
additional $661,000 (unaudited) of loans to loans held for sale and completed
the bulk transaction in March 1998. The proceeds of the sale approximated the
carrying value of the loans.
F-14
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(4) LOANS RECEIVABLE (CONTINUED)
Changes in the allowance for loan losses are summarized as follows (in
thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31, YEARS ENDED DECEMBER 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Balance at beginning of period............. $ 2,143 $ 1,952 $ 1,952 $ 2,002 $ 1,752
Provision charged to operations............ 75 225 3,300 1,380 600
Recoveries................................. 51 105 170 283 255
Loans charged off.......................... (39) (202) (3,279) (1,713) (605)
--------- --------- --------- --------- ---------
Balance at end of period................... $ 2,230 $ 2,080 $ 2,143 $ 1,952 $ 2,002
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
At March 31, 1998, December 31, 1997 and 1996, impaired loans totaled
$756,000 (unaudited), $2,742,000 (of which $1,208,000 were loans held for sale)
and $3,381,000, respectively. At March 31, 1998, impaired loans included
$756,000 (unaudited) of loans for which the related allowance for loan losses
was $181,000 (unaudited). At December 31, 1997, impaired loans included $895,000
of loans for which the related allowance for loan losses was $234,000 and
$1,847,000 of impaired loans (of which $1,208,000 were loans held for sale) with
no related allowance for loan losses. At December 31, 1996, impaired loans
included $920,000 of loans for which the related allowance for loan losses was
$289,000 and $2,461,000 of impaired loans with no related allowance for loan
losses as a result of the adequacy of collateral values and cash flow analysis.
The average recorded investment in impaired loans was $1,749,000 and $3,131,000
during the three months ended March 31, 1998 and 1997 (unaudited), respectively
and $2,699,000, $3,514,000 and $3,334,000 during the years ended December 31,
1997, 1996 and 1995, respectively. Interest income recognized on impaired loans
was $52,000 and $33,000 during the three months ended March 31, 1998 and 1997
(unaudited), respectively and $290,000, $223,000 and $250,000 during the years
ended December 31, 1997, 1996 and 1995, respectively, all of which was
recognized using the cash basis of income recognition.
The principal balances of loans not accruing interest amounted to
approximately $1,458,000 (unaudited), $3,785,000 (of which $2,276,000 were loans
held for sale) and $3,633,000 at March 31, 1998, December 31, 1997 and 1996,
respectively. Interest income that would have been recorded if the non-accruing
loans had been performing in accordance with their original terms was
approximately $37,000 and $110,000 during the three month periods ended March
31, 1998 and 1997 (unaudited), respectively, and $402,000, $307,000 and $107,000
during the years ended December 31, 1997, 1996 and 1995, respectively.
In the ordinary course of business, the Bank makes loans to non-trustee
officers and employees, as well as to other related parties on substantially the
same terms, including interest rate and collateral, as those prevailing at the
same time for comparable transactions with other customers and do not involve
more than normal risk of collectibility or present other unfavorable features.
F-15
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(4) LOANS RECEIVABLE (CONTINUED)
A summary of the changes in these outstanding loans is as follows (in
thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER
31,
--------------------
1997 1996
THREE MONTHS --------- ---------
ENDED MARCH 31,
1998
---------------
(UNAUDITED)
<S> <C> <C> <C>
Balance at beginning of period............................ $ 2,207 $ 2,459 $ 2,248
New loans and increase in existing loans.................. 269 459 587
Loan principal repayments................................. (409) (711) (376)
------ --------- ---------
Balance at end of period.................................. $ 2,067 $ 2,207 $ 2,459
------ --------- ---------
------ --------- ---------
</TABLE>
(5) PREMISES AND EQUIPMENT
Premises and equipment are summarized as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1997 1996
THREE MONTHS --------- ---------
ENDED MARCH 31,
1998
---------------
(UNAUDITED)
<S> <C> <C> <C>
Land...................................................... $ 886 $ 836 $ 836
Buildings and improvements................................ 2,772 2,937 2,914
Furniture and equipment................................... 1,924 2,825 2,495
------ --------- ---------
5,582 6,598 6,245
Less accumulated depreciation............................. 2,136 3,151 2,590
------ --------- ---------
$ 3,446 $ 3,447 $ 3,655
------ --------- ---------
------ --------- ---------
</TABLE>
Depreciation and amortization expense amounted to $118,000 and $146,000
during the three months ended March 31, 1998 and 1997 (unaudited), respectively
and $579,000, $507,000 and $497,000 during the years ended December 31, 1997,
1996 and 1995, respectively.
(6) ACCRUED INTEREST RECEIVABLE
Accrued interest receivable is summarized as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1997 1996
MARCH 31, 1998 --------- ---------
---------------
(UNAUDITED)
<S> <C> <C> <C>
Loans..................................................... $ 1,010 $ 1,081 $ 1,248
Securities................................................ 650 598 664
------ --------- ---------
$ 1,660 $ 1,679 $ 1,912
------ --------- ---------
------ --------- ---------
</TABLE>
F-16
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(7) DEPOSITS
At March 31, 1998 and December 31, 1997 and 1996, the aggregate amounts of
time deposits in denominations of $100,000 or more were approximately
$13,744,000 (unaudited), $10,164,000 and $15,459,000, respectively.
Contractual maturities of savings certificates are summarized as follows (in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31, 1997
MARCH 31, 1998 -----------------
--------------
(UNAUDITED)
<S> <C> <C>
Within one year........................................... $ 64,010 $ 66,304
One through two years..................................... 17,843 17,125
Two through three years................................... 14,481 12,895
Three through four years.................................. 4,461 5,321
Four through five years................................... 7,059 6,530
Five years and over....................................... -- 83
-------------- --------
Total savings certificates................................ $ 107,854 $ 108,258
-------------- --------
-------------- --------
</TABLE>
Interest expense on deposits is summarized as follows (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31, YEARS ENDED DECEMBER 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Passbook, statement savings and club
accounts................................... $ 474 $ 467 $ 1,936 $ 1,922 $ 1,991
Savings certificates......................... 1,439 1,494 5,983 6,354 6,005
Money market accounts........................ 57 63 243 288 339
NOW accounts................................. 40 40 166 194 227
--------- --------- --------- --------- ---------
$ 2,010 $ 2,064 $ 8,328 $ 8,758 $ 8,562
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
(8) BORROWINGS
During 1996, the Bank became a member of the Federal Home Loan Bank (FHLB).
As a member, the Bank is required to own capital stock in the FHLB and is
authorized to apply for advances from the FHLB. At March 31, 1998 and December
31, 1997 the Bank may borrow up to $26,058,000 (unaudited) and $24,558,000,
respectively from the FHLB.
During the three-month period ended March 31, 1998 (unaudited), 1997 and
1996, the Bank did not hold borrowings with the FHLB.
F-17
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(9) INCOME TAXES
Income taxes were allocated as follows (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31,
MARCH 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Income before income tax expense (benefit)........... $ 333 $ 311 $ (16) $ 853 $ 1,400
Changes in net worth, for changes in unrealized gains
on securities...................................... 116 112 206 (33) 153
--------- --------- --------- --------- ---------
$ 449 $ 423 $ 190 $ 820 $ 1,553
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
The components of income tax expense (benefit) attributable to income from
operations are (in thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
MARCH 31, YEARS ENDED DECEMBER 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Current:
Federal........................................ $ (283) $ 254 $ 672 $ 989 $ 1,247
State.......................................... (90) 66 181 206 476
--------- --------- --------- --------- ---------
(373) 320 853 1,195 1,723
--------- --------- --------- --------- ---------
Deferred:
Federal........................................ 546 (41) (698) (298) (237)
State.......................................... 160 32 (171) (44) (86)
--------- --------- --------- --------- ---------
706 (9) (869) (342) (323)
--------- --------- --------- --------- ---------
$ 333 $ 311 $ (16) $ 853 $ 1,400
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
F-18
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(9) INCOME TAXES (CONTINUED)
Actual tax expense (benefit) attributable to income before income taxes
differed from "expected" tax expense (benefit), computed by applying the U.S.
Federal statutory tax rate of 34% to income before income tax as follows (in
thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
YEARS ENDED DECEMBER 31,
MARCH 31,
-------------------- -------------------------------
1998 1997 1997 1996 1995
--------- --------- --------- --------- ---------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Computed "expected" tax expense (benefit)................................ $ 281 $ 245 $ 19 $ 754 $ 1,130
Increase (decrease) in income taxes resulting from:
State taxes, net of Federal tax benefits............................. 47 61 7 107 257
Non-taxable interest income.......................................... (7) (10) (35) (48) (37)
Non-deductible expenses.............................................. 4 4 16 20 --
Other items, net..................................................... 8 11 (23) 20 50
--------- --------- --------- --------- ---------
$ 333 $ 311 $ (16) $ 853 $ 1,400
--------- --------- --------- --------- ---------
--------- --------- --------- --------- ---------
</TABLE>
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities are (in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1997 1996
MARCH 31, 1998 --------- ---------
--------------
(UNAUDITED)
<S> <C> <C> <C>
Deferred tax assets:
Non-deductible reserves..................................................... $ 25 $ 25 $ 44
Non-accrual interest........................................................ 27 126 53
Losses on real estate owned................................................. 119 124 87
Loan bulk sale.............................................................. -- 666 --
Allowance for loan losses................................................... 1,153 1,118 1,047
Net deferred loan fees...................................................... 115 127 135
Postretirement benefit obligation........................................... 648 638 619
Deferred trustee fees....................................................... 38 30 --
Other....................................................................... 31 31 31
------- --------- ---------
Total gross deferred tax assets........................................... 2,156 2,885 2,016
------- --------- ---------
Deferred tax liabilities:
Accumulated depreciation on premises and equipment.......................... (96) (97) (122)
Prepaid pension cost........................................................ (322) (321) (292)
Unrealized gains on securities.............................................. (489) (373) (167)
Securities discount accretion............................................... (45) (62) (31)
Tax allowance for loan losses in excess of base year amount................. (118) (124) (159)
------- --------- ---------
Total gross deferred tax liabilities...................................... (1,070) (977) (771)
------- --------- ---------
Net deferred tax assets................................................... $ 1,086 $ 1,908 $ 1,245
------- --------- ---------
------- --------- ---------
</TABLE>
F-19
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(9) INCOME TAXES (CONTINUED)
Realization of deferred tax assets is dependent upon the generation of
future taxable income or the existence of sufficient taxable income within the
carryback period. A valuation allowance is provided when it is more likely than
not that some portion of the deferred tax assets will not be realized. In
assessing the need for a valuation allowance, management considers the scheduled
reversal of the deferred tax liabilities, the level of historical taxable income
and projected future taxable income over the periods in which the temporary
differences comprising the deferred tax assets will be deductible. Management
believes that no valuation allowance is necessary.
Included in the surplus fund at December 31, 1997 is approximately
$3,700,000 representing aggregate provisions for loan losses taken under the
Internal Revenue Code. Use of these reserves to pay dividends in excess of
earnings and profits or to redeem stock, or if the institution fails to qualify
as a bank for Federal income tax purposes, would result in taxable income to the
Bank.
(10) EMPLOYEE BENEFITS
The status of the pension plan at the latest valuation dates of October 1,
is as follows (in thousands):
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
Actuarial present value of accumulated benefit obligation:
Vested....................................................................................... $ 2,951 $ 2,492
Non-vested................................................................................... 16 113
--------- ---------
Total accumulated benefit obligation....................................................... $ 2,967 $ 2,605
--------- ---------
--------- ---------
Actuarial present value of projected benefit obligation for service rendered to date........... 3,490 3,296
Plan assets at fair value; primarily listed stocks, cash and short-term investments............ 5,068 4,194
--------- ---------
Plan assets in excess of projected benefit obligation.......................................... 1,578 898
Unrecognized transition asset.................................................................. 16 (25)
Unrecognized net gain resulting from past experience different from that assumed............... (788) (152)
--------- ---------
Prepaid pension cost (included in other assets).............................................. $ 806 $ 721
--------- ---------
--------- ---------
</TABLE>
Net pension expense for the years ended December 31, included in salaries
and employee benefits, is detailed as follows (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- ---------
<S> <C> <C> <C>
Service cost--benefits earned during the period..................... $ 87 $ 84 $ 75
Interest cost on projected benefit obligation....................... 242 236 223
Actual return on plan assets........................................ (970) (497) (638)
Net amortization and deferral....................................... 620 176 371
--------- --------- ---------
Net pension (benefit) expense..................................... $ (21) $ (1) $ 31
--------- --------- ---------
--------- --------- ---------
</TABLE>
F-20
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(10) EMPLOYEE BENEFITS (CONTINUED)
Assumptions used to develop the net periodic pension information were:
<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- ---------
<S> <C> <C> <C>
Discount rate.................................................... 7.75% 7.50% 8.25%
Expected long-term rate of return on plan assets................. 8.00% 8.00% 8.00%
Rate of increase in compensation levels.......................... 5.00% 5.50% 6.00%
</TABLE>
Contributions to the defined contribution 401(k) Savings Plan were
approximately $16,000 and $17,000 during the three months ended March 31, 1998
and 1997 (unaudited), respectively and $64,000, $63,000 and $68,000 during the
years ended December 31, 1997, 1996 and 1995, respectively.
(11) OTHER POSTRETIREMENT BENEFIT PLANS
The following table presents the plan's funded status as of October 1, the
date of the most recent valuation (in thousands):
<TABLE>
<CAPTION>
1997 1996
--------- ---------
<S> <C> <C>
Accumulated postretirement benefit obligation:
Retirees and dependents................................................ $ 786 $ 567
Fully eligible active plan participants and dependents................. 137 283
Other active plan participants......................................... 674 657
--------- ---------
Total accumulated postretirement benefit obligation.................. $ 1,597 $ 1,507
--------- ---------
--------- ---------
Accumulated postretirement benefit obligation............................ (1,597) (1,507)
Plan assets at fair value................................................ -- --
--------- ---------
Funded status............................................................ (1,597) (1,507)
Unrecognized gain........................................................ (2) (19)
--------- ---------
Accrued postretirement benefit cost included in other liabilities.... $ (1,599) $ (1,526)
--------- ---------
--------- ---------
</TABLE>
Net periodic postretirement benefit cost includes the following components
(in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- ---------
<S> <C> <C> <C>
Service cost--benefits earned during the period....................... $ 37 $ 41 $ 34
Interest cost......................................................... 107 111 103
--------- --------- ---------
Net periodic postretirement benefit cost............................ $ 144 $ 152 $ 137
--------- --------- ---------
--------- --------- ---------
</TABLE>
The assumptions are as follows:
<TABLE>
<CAPTION>
1997 1996 1995
--------- --------- ---------
<S> <C> <C> <C>
Discount rate.................................................. 7.75% 7.50% 8.25%
Average health care cost trend rate............................ 8.00% 10.00% 10.50%
First year ultimate trend rate (year 2005)..................... 5.00% 5.50% 5.50%
Salary increase................................................ 5.50% 5.50% 6.00%
</TABLE>
F-21
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(11) OTHER POSTRETIREMENT BENEFIT PLANS (CONTINUED)
The effect of a one percentage point increase in the assumed health care
cost trend rates for each future year on the aggregate of the service and
interest cost components of net periodic postretirement health care benefit cost
and the accumulated postretirement benefit obligation for health care benefits
would increase these amounts for 1997 by approximately 18%, to $170,000, and by
approximately 16%, to $1,853,000, respectively.
(12) COMMITMENTS AND CONTINGENCIES
The Bank is a party to financial instruments with off-balance sheet risk in
the normal course of business to meet the financing needs of its customers.
These financial instruments consist of commitments to extend credit and involve,
to varying degrees, elements of credit, market and interest rate risk in excess
of the amounts recognized in the consolidated balance sheet. Credit risk
represents the accounting loss that would be recognized at the reporting date if
obligated counterparties failed completely to perform as contracted. Market risk
represents risk that future changes in market prices make financial instruments
less valuable.
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since some of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Bank evaluates each customer's
creditworthiness on a case-by-case basis. The amount of collateral obtained, if
deemed necessary by the Bank upon extension of credit, is based on management's
evaluation of the customer's financial position. Collateral held varies, but may
include real estate, accounts receivable, inventory, property, plant and
equipment and income-producing commercial properties. Substantially all
commitments to extend credit, if exercised, will represent loans secured by real
estate.
The Bank was committed to originate fixed and adjustable rate mortgages of
approximately $3,809,000 (unaudited), $3,667,000 and $1,440,000 at March 31,
1998, December 31, 1997 and 1996, respectively. Unused lines of credit, which
includes home equity, consumer, commercial and credit cards, amounted to
$9,600,000 (unaudited) and $9,155,000 at March 31, 1998 and December 31, 1997,
respectively.
The Bank's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for loan commitments is represented by
the contractual or notional amount of these instruments. The Bank uses the same
credit policies in making commitments as it does for on-balance sheet
instruments. The Bank controls its credit risk through credit approvals, limits,
and monitoring procedures.
In the normal course of business, there are various outstanding legal
proceedings. In the opinion of management, the aggregate amount involved in such
proceedings is not material to the financial condition or results of operations
of the Bank.
(13) CONCENTRATIONS OF CREDIT
A substantial portion of the Bank's loans are mortgage and consumer loans in
Central New York State. Accordingly, the ultimate collectibility of a
substantial portion of the Bank's loan portfolio is
F-22
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(13) CONCENTRATIONS OF CREDIT (CONTINUED)
susceptible to changes in market conditions in this area. A majority of the
Bank's loan portfolio is secured by real estate.
The Bank's concentrations of credit risk are disclosed in the schedule of
loan classifications. Other than general economic risks, management is not aware
of any material concentrations of credit risk to any industry or individual
borrower.
(14) REGULATORY MATTERS
The Bank is regulated by the Federal Deposit Insurance Corporation (FDIC)
and the State of New York Banking Department and is subject to the capital
adequacy requirements of the FDIC.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Bank must meet specific guidelines that involve
quantitative measures of assets, liabilities, and certain off-balance sheet
items as calculated under regulatory accounting practices. Capital amounts are
also subject to qualitative judgments by the FDIC about components, risk
weightings, and other factors. Failure to meet minimum capital requirements can
initiate certain mandatory, and possibly additional discretionary, actions by
the FDIC that, if undertaken, could have a direct material effect on the Bank's
financial statement.
The Federal Deposit Insurance Corporation Improvement Act of 1991 (FDICIA),
established capital levels for which insured institutions are categorized as
well capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized, or critically undercapitalized.
As of December 31, 1997 and 1996, the most recent notification from the FDIC
categorized the bank as well capitalized under the regulatory framework for
prompt corrective actions. To be categorized as well capitalized, the Bank must
meet the minimum ratios as set forth in the table. There have been no conditions
or events since that notification that management believes have changed the
Bank's category. Management believes, as of December 31, 1997, that the Bank
meets all capital adequacy requirements to which it is subject.
F-23
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(14) REGULATORY MATTERS (CONTINUED)
The following is a summary of the Bank's actual capital amounts and ratios
compared to the FDIC minimum capital adequacy requirements and the FDIC
requirements for classification as a well capitalized institution under prompt
corrective action provisions (in thousands):
<TABLE>
<CAPTION>
TO BE CLASSIFIED AS
MINIMUM CAPITAL WELL-CAPITALIZED UNDER
ADEQUACY REQUIREMENTS PROMPT CORRECTIVE
ACTUAL ACTION PROVISIONS
-------------------- --------------------- ----------------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
--------- --------- --------- ---------- --------- -----------
<S> <C> <C> <C> <C> <C> <C>
AS OF MARCH 31, 1998 (UNAUDITED)
Total capital (to risk weighted assets)................ $ 32,408 23.19% $ 11,181 a8.00% $ 13,976 a10.00%
Tier 1 Capital (to risk weighted assets)............... 30,662 21.94% 5,590 a4.00% 8,385 a6.00%
Tier 1 Capital (to average assets)..................... 30,662 13.26% 9,246 a4.00% 11,558 a5.00%
AS OF DECEMBER 31, 1997
Total capital (to risk weighted assets)................ $ 31,938 22.56% $ 11,325 a8.00% $ 14,156 a10.00%
Tier 1 Capital (to risk weighted assets)............... 30,169 21.31% 5,662 a4.00% 8,493 a6.00%
Tier 1 Capital (to average assets)..................... 30,169 12.89% 9,363 a4.00% 11,704 a5.00%
AS OF DECEMBER 31, 1996
Total capital (to risk weighted assets)................ $ 31,813 23.17% $ 10,982 a8.00% $ 13,728 a10.00%
Tier 1 Capital (to risk weighted assets)............... 30,097 21.92% 5,491 a4.00% 8,237 a6.00%
Tier 1 Capital (to average assets)..................... 30,097 12.73% 9,457 a4.00% 11,822 a5.00%
</TABLE>
On August 14, 1995, the FDIC performed a review of the Bank's compliance
with governing consumer and civil rights laws, the Community Reinvestment Act
(CRA) and the Bank Secrecy Act. The review encompassed: Truth in Lending; Truth
in Savings; Real Estate Settlement Procedures; Fair Credit Reporting; Electronic
Fund Transfers; Right to Financial Privacy; Expedited Funds Availability; Equal
Credit Opportunity; Credit Practices Rule, Preservation of Consumer Claims and
Defenses; Flood Insurance; Interest on Deposits; and Fair Housing. On December
26, 1995, the Bank received the FDIC's written report on the examination and a
related Memorandum of Understanding.
As recommended in the Memorandum of Understanding, the Board of Trustees of
the Bank developed a written compliance policy which included appropriate
training of personnel in all Bank functions related to compliance, implementing
internal review procedures to ensure ongoing compliance, providing financial
training for the compliance officer, and instituting a formal review process
whereby loan disclosure statements are reviewed prior to issuance. As a result
of the examination, the Bank is required to submit progress reports describing
specific actions taken with regard to each violation on a quarterly basis, until
further notice. No enforcement action by the FDIC is contemplated, however,
nothing contained in the Memorandum of Understanding prevents the FDIC from
taking further supervisory action it deems appropriate. The Memorandum of
Understanding did not have a material impact on the Bank's consolidated
financial statements.
F-24
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(15) FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used by the Bank in estimating
fair values of financial instruments:
CASH AND CASH EQUIVALENTS: The fair values are considered to
approximate the carrying values, as reported in the balance sheet.
SECURITIES: Fair values of securities are based on exchange
quoted market prices, where available. If quoted market prices are
not available, fair values are based on quoted market prices of
similar instruments.
LOANS AVAILABLE FOR SALE: The fair value of loans available for
sale on an aggregate basis, are based on quoted market prices.
LOANS RECEIVABLE: For variable rate loans that reprice frequently
and loans due on demand with no significant change in credit risk,
fair values are considered to approximate carrying values. The
fair values for certain mortgage loans (e.g., one-to-four family
residential) and other consumer loans are based on quoted market
prices of similar loans sold on the secondary market, adjusted for
differences in loan characteristics. The fair values for other
loans (e.g., commercial real estate and rental property mortgage
loans) are estimated using discounted cash flow analyses, using
interest rates currently being offered for loans with similar
terms to borrowers of similar credit rating. The carrying amount
of accrued interest approximates its fair value.
FHLB STOCK: The carrying value of this instrument, which is
redeemable at par, approximates fair value.
OFF-BALANCE-SHEET INSTRUMENTS: Fair values for the Bank's
off-balance-sheet instruments (lines of credit and commitments to
fund loans) are based on fees currently charged to enter into
similar agreements, taking into account the remaining terms of the
agreements and the counterparties' credit standing. The fair value
of these financial instruments is immaterial and has therefore
been excluded from the table below.
DEPOSITS: The fair values of demand deposits (interest and
non-interest checking), passbook, statement savings, club and
money market accounts are, by definition, equal to the amount
payable on demand at the reporting date (i.e., their carrying
amounts). Fair values for fixed-rate certificates of deposits and
individual retirement accounts are estimated using a discounted
cash flow calculation that applies interest rates currently being
offered on these products to a schedule of aggregated expected
monthly maturities on time deposits.
F-25
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(15) FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED)
The estimated carrying values and fair values of the Bank's financial
instruments are as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------
MARCH 31, 1998 1997 1996
---------------------- ---------------------- ----------------------
CARRYING FAIR CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE AMOUNT VALUE
---------- ---------- ---------- ---------- ---------- ----------
(UNAUDITED)
<S> <C> <C> <C> <C> <C> <C>
(IN THOUSANDS)
Financial assets:
Cash and cash equivalents............. $ 9,813 $ 9,813 $ 8,079 $ 8,079 $ 12,536 $ 12,536
Securities............................ 57,954 57,964 56,690 56,709 57,351 57,227
Loans held for sale................... -- -- 2,541 2,541 -- --
Loans receivable, net................. 154,200 154,440 155,422 155,657 158,611 158,954
FHLB stock............................ 1,303 1,303 1,291 1,291 1,228 1,228
Financial liabilities:
Deposits:
Demand accounts..................... 9,128 9,128 10,604 10,604 9,563 9,563
Passbook, statement savings and club
accounts.......................... 63,658 63,658 62,679 62,679 63,003 63,003
Savings certificates................ 107,854 107,683 108,258 108,099 112,642 112,520
Money market accounts............... 8,314 8,314 8,435 8,435 9,343 9,343
NOW accounts........................ 9,280 9,280 9,704 9,704 10,089 10,089
</TABLE>
Fair value estimates are made at a specific point in time, based on relevant
market information and information about the financial instrument. These
estimates are subjective in nature and involve uncertainties and matters of
significant judgment and, therefore, cannot be determined with precision.
Changes in assumptions could significantly affect the estimates.
(16) SUBSEQUENT EVENTS--ADOPTION OF PLAN OF CONVERSION (UNAUDITED)
On March 23, 1998, the Board of Trustees of the Bank, subject to regulatory
approval and approval by the depositors of the Bank, unanimously adopted a Plan
of Conversion (the Plan) to convert from a New York State chartered mutual
savings bank to a New York State chartered stock savings bank with the
concurrent formation of a holding company. The transaction is expected to be
accomplished through the sale of the holding company's common stock in an amount
equal to the pro forma market value of the Bank after giving effect to the
conversion. A subscription offering of the sale of the Holding Company's common
stock will be offered initially to the Bank's depositors and employee benefit
plans of the Bank. At the time of the conversion, the Bank will establish a
liquidation account in an amount equal to its total net worth as of the date of
the latest balance sheet appearing in the final prospectus. 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
F-26
<PAGE>
CORTLAND SAVINGS BANK AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE MONTHS ENDED MARCH 31, 1998 AND 1997 (UNAUDITED)
AND YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
(16) SUBSEQUENT EVENTS--ADOPTION OF PLAN OF CONVERSION (UNAUDITED) (CONTINUED)
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.
In connection with the conversion, the Bank proposes to create a charitable
foundation to be funded by the Holding Company by contributing a number of
authorized but unissued shares of common stock or grants of cash to the
charitable foundation, immediately following the conversion. Such contribution,
once made, will not be recoverable by the Bank or the Holding Company. The
Holding Company will recognize expense equal to the fair value of the stock in
the quarter in which the contribution occurs, which is expected to be the third
or fourth quarter of 1998. Such expense will reduce earnings and could have a
material impact on the Bank's earnings for such quarter and for 1998.
The cost of conversion and offering will be deferred and reduce the proceeds
from the shares sold in the offering. If the conversion and offering are not
completed, all costs will be charged to expense.
F-27
<PAGE>
NO DEALER, SALESPERSON OR ANY OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY
INFORMATION OR TO MAKE ANY REPRESENTATION OTHER THAN AS CONTAINED IN THIS
PROSPECTUS IN CONNECTION WITH THE OFFERING MADE HEREBY, AND, IF GIVEN OR MADE,
SUCH OTHER INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN
AUTHORIZED BY CNY FINANCIAL CORPORATION OR CORTLAND SAVINGS BANK. THIS
PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO
BUY ANY OF THE SECURITIES 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 IN SUCH JURISDICTION. NEITHER
THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE HEREUNDER SHALL UNDER ANY
CIRCUMSTANCES CREATE ANY IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE
AFFAIRS OF CNY FINANCIAL CORPORATION OR CORTLAND SAVINGS BANK SINCE ANY OF THE
DATES AS OF WHICH INFORMATION IS FURNISHED HEREIN OR SINCE THE DATE HEREOF.
[LOGO]
(PROPOSED HOLDING COMPANY FOR CORTLAND SAVINGS BANK)
7,043,750 SHARES
COMMON STOCK
PROSPECTUS
CIBC OPPENHEIMER
TRIDENT SECURITIES, INC.
THESE SECURITIES ARE NOT DEPOSITS OR ACCOUNTS AND ARE NOT FEDERALLY INSURED OR
GUARANTEED
AUGUST 12, 1998
UNTIL THE LATER OF SEPTEMBER 16, 1998, OR 25 DAYS AFTER THE COMMENCEMENT OF THE
SUBSCRIPTION OFFERING, 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.
