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AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 4, 1999
REGISTRATION NO. 333-
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM SB-1
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
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STATE OF FRANKLIN BANCSHARES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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TENNESSEE 6022 62-1607709
(state or other jurisdiction of (Primary Standard (IRS Employer
incorporation or organization) Classification Identification No.)
Code Number
1907 NORTH ROAN STREET
JOHNSON CITY, TENNESSEE 37604
(423) 926-3600
(Address, including zip code, and telephone number, including
area code, of registrant's principal executive offices)
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CHARLES E. ALLEN, JR.
CHAIRMAN OF THE BOARD AND CHIEF FINANCIAL OFFICER
1907 NORTH ROAN STREET
JOHNSON CITY, TENNESSEE 37604
(423) 926-3600
(Name, address, including zip code, and telephone
number, including area code, of agent for service)
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WITH COPIES TO:
RANDAL R. GREENE LINDA M. CROUCH, ESQ.
PRESIDENT AND CHIEF EXECUTIVE OFFICER BAKER, DONELSON, BEARMAN & CALDWELL, P.C.
STATE OF FRANKLIN BANCSHARES, INC. 207 MOCKINGBIRD LANE, SUITE 300
1907 NORTH ROAN STREET JOHNSON CITY, TENNESSEE 37604
JOHNSON CITY, TENNESSEE 37604 (423) 928-0181
(423) 926-3600
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Approximate Date of Commencement of Proposed Sale to Public: AS SOON AS
PRACTICABLE AFTER THIS REGISTRATION STATEMENT BECOMES EFFECTIVE.
If any of the securities being registered on this Form are to be offered on a
delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, check the following box. [X]
If this form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, check the following box and list the
Securities Act Registration number of the earlier effective registration
statement for the same offering. [ ]
If this form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
Registration number of the earlier effective registration statement for the same
offering. [ ]
If this form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
Registration number of the earlier effective registration statement for the same
offering. [ ]
If delivery of this prospectus is expected to be made pursuant to Rule 434,
check the following box. [ ]
CALCULATION OF REGISTRATION FEE
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<CAPTION>
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PROPOSED PROPOSED
MAXIMUM MAXIMUM
TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING AGGREGATE AMOUNT OF
SECURITIES TO BE REGISTERED REGISTERED (1) PRICE PER SHARE OFFERING PRICE REGISTRATION FEE
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<S> <C> <C> <C> <C>
Common Stock,$1.00 par value...................... 555,555 shares $13.50 $7,500,000 $2,085
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</TABLE>
(1) Includes the maximum number of shares that may be issued in connection
with this offering.
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION ON SUCH DATE OR DATES AS MAY BE
NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER
AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL
THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF THE SECURITIES
ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH
DATE AS THE COMMISSION, ACTING PURSUANT TO SECTION 8(A), MAY DETERMINE.
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The information in this prospectus is not complete and may be changed. We may
not sell these securities until the registration statement filed with the
Securities and Exchange Commission is effective. This prospectus is not an offer
to sell these securities, and it is not soliciting an offer to buy these
securities in any state where the offer or sale is not permitted.
Subject to Completion, Dated October 4, 1999
PROSPECTUS
STATE OF FRANKLIN BANCSHARES, INC.
A MAXIMUM OF 555,555 SHARES
COMMON STOCK
We are initially offering 370,370 shares of our common stock, par value
$1.00 per share at a purchase price of $ 13.50 per share. We are offering these
shares first to our existing shareholders for a 30-day period and, thereafter,
to the extent not all shares are purchased by our existing shareholders, to the
general public. In addition, our Board of Directors may expand the offering to a
maximum of 555,555 shares. Shareholders may purchase one share of stock for each
share held of record on _________ __, 1999. To the extent shares are available,
existing shareholders may subscribe for additional shares. This right to
purchase shares will expire at 5:00 p.m. on ________ __, 1999. After this date,
any shares not purchased will be available for sale to the general public.
There are no escrow arrangements with respect to funds received for
purchase of stock. Accordingly, subscription funds received will be available
for our immediate use.
We may accept or reject any subscription for the shares in whole or in
part. If we reject a subscription, we will return the full amount of the
subscription funds promptly to the subscriber.
Prior to this offering there has been no public market for our common
stock, and we do not anticipate that such a market will develop in the
foreseeable future. Our stock is not currently traded on any national securities
exchange, and we do not have any plan to arrange for our common stock to be
traded on any national securities exchange.
INVESTING IN OUR COMMON STOCK INVOLVES RISKS. PLEASE SEE THE SECTION OF
THIS PROSPECTUS CALLED "RISK FACTORS," WHICH BEGINS ON PAGE 7, FOR A DISCUSSION
OF THE RISKS THAT YOU SHOULD CONSIDER BEFORE INVESTING IN OUR COMMON STOCK.
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THE SECURITIES OFFERED HEREBY ARE NOT SAVINGS ACCOUNTS OR DEPOSIT ACCOUNTS
OF A BANK OR SAVINGS ASSOCIATION AND ARE NOT INSURED BY THE FEDERAL DEPOSIT
INSURANCE CORPORATION OR ANY OTHER GOVERNMENT AGENCY. THESE SECURITIES
HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE
COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES
AND EXCHANGE COMMISSION 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>
PRICE TO PROCEEDS TO
PUBLIC STATE OF FRANKLIN (1)
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<S> <C> <C>
Per Share........... $13.50 $13.50
Total ............... $7,499,999.50 $7,499,999.50
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</TABLE>
(1) Before deducting estimated offering expenses of $75,000 payable by State
of Franklin.
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_____, 1999
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We have not authorized anyone to give you any information that differs
from the information in this prospectus. If you receive any different
information, you should not rely on it. We are offering to sell, and seeking
offers to buy, shares of our common stock only in jurisdictions where offers and
sales are permitted.
TABLE OF CONTENTS
<TABLE>
<CAPTION>
<S> <C>
Prospectus Summary..........................................................3
Cautionary Statements Regarding
Forward-Looking Information............................................6
Risk Factors................................................................7
Use of Proceeds............................................................11
Dividend Policy............................................................11
Capitalization.............................................................11
Dilution...................................................................12
Selected Consolidated Financial Information................................13
Management's Discussion and Analysis of
Financial Condition and Results of Operations.........................14
Business...................................................................21
Management.................................................................41
Certain Transactions.......................................................44
Principal Shareholders.....................................................45
Description of Common Stock................................................46
Market for the Shares......................................................46
Legal Matters..............................................................46
Experts....................................................................46
Where You Can Find More Information........................................46
Index to Consolidated Financial Statements................................F-1
</TABLE>
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PROSPECTUS SUMMARY
This summary highlights information contained elsewhere in this
prospectus and may not contain all of the information which is important to you.
You should read the entire prospectus, including the financial statements and
related notes, before making a decision to invest in our common stock.
Throughout this summary and the prospectus as a whole, we will use the terms
"State of Franklin," "we," and "our" to refer to State of Franklin Bancshares,
Inc. and its wholly-owned subsidiary, State of Franklin Savings Bank, unless the
context indicates otherwise.
Unless we indicate otherwise, all share, per share and financial
information in this prospectus assumes a public offering price of $13.50 per
share, the sale of 555,555 shares of common stock and does not give effect to
the use of proceeds of the offering.
STATE OF FRANKLIN BANCSHARES, INC.
We are a registered bank holding company organized under the laws of
Tennessee headquartered in Johnson City, Tennessee. On May 15, 1998, we
exchanged our shares of common stock with holders of the shares of common stock
of State of Franklin Savings Bank (to which we will refer in this document as
the "Savings Bank"). As a result, the Savings Bank became our wholly owned
subsidiary, and we now conduct our banking operations through the Savings Bank.
On June 30, 1999, we had consolidated total assets of approximately $145
million. State of Franklin Leasing Corporation is a wholly owned subsidiary of
State of Franklin which engages in equipment lease financing. The Savings Bank
offers title services through its wholly owned subsidiary John Sevier Title
Services, Inc.
OUR ADDRESS
Our principal offices are located at 1907 North Roan Street, Johnson
City, Tennessee 37604. Our telephone number is (423) 926-3600.
THE OFFERING
Common stock offered.......................... Up to 555,555 shares
Common stock to be outstanding after
the offering .......................... 1,745,982 shares
Use of Proceeds .............................. A portion of the net proceeds
will be contributed to the
Savings Bank as capital to
support its future growth. For
more information, see the
section called "Use of
Proceeds."
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SUMMARY CONSOLIDATED FINANCIAL INFORMATION
The following tables set forth our summary financial information as of
and for the six months ended June 30, 1999 and 1998, and as of and for each of
the periods ended December 31, 1998, 1997 and 1996. This information is derived
from and should be read in conjunction with our historical financial statements,
including the notes to those statements, that appear elsewhere in this
prospectus. This information should also be read in conjunction with our
consolidated condensed financial statements.
<TABLE>
<CAPTION>
For the six months
ended June 30, For the periods ended December 31,
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1999 1998 1998 1997 1996(1)
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<S> <C> <C> <C> <C> <C>
SUMMARY OF OPERATIONS
Interest income $ 4,717,978 $ 3,363,002 $ 7,576,768 $ 4,675,449 $ 1,200,130
Interest expense 2,831,913 2,110,127 4,761,135 2,976,327 687,357
Net interest income 1,886,065 1,252,875 2,815,633 1,699,122 512,773
Provision for loan losses (119,146) (127,379) (275,127) (226,095) (130,715)
Noninterest income 289,663 206,387 411,155 339,599 83,755
Noninterest expense 1,463,935 1,107,250 2,402,966 1,760,668 979,988
Income before income taxes 592,647 224,633 548,695 51,958 (514,175)
Income tax expense (197,868) (67,752) (52,206) 5,077 63,443
Net earnings 394,779 156,881 496,489 57,035 (450,732)
Basic and diluted earnings per share $ 0.35 $ 0.14 $ 0.44 $ 0.05 $ (0.74)
Dividends per common share $ -- $ -- $ -- $ -- $ --
Book value per common share $ 10.34 $ 9.94 $ 10.36 $ 9.81 $ 8.93
Average common shares
outstanding 1,125,012 1,113,898 1,117,270 1,111,280 610,000
SELECTED PERIOD-END BALANCES
Total assets $ 144,753,450 $ 106,209,618 $ 118,035,681 $ 83,372,390 $ 40,009,154
Earnings assets 136,931,716 99,928,257 110,989,164 77,343,664 36,696,043
Total securities 34,213,327 18,600,544 12,719,772 16,462,901 14,282,712
Loans, net of unearned income 98,913,389 68,883,713 86,735,298 50,729,567 17,083,858
Allowance for loan losses 748,454 482,576 630,324 355,474 130,715
Total deposits 122,910,873 85,686,259 96,364,077 72,243,884 34,217,209
Long-term debt 9,652,590 9,000,000 9,687,925 -- --
Stockholders' equity 11,628,041 11,076,842 11,570,299 10,903,100 5,448,680
SELECTED AVERAGE BALANCES (2)
Total assets $ 131,394,566 $ 95,079,394 $ 100,703,852 $ 61,690,954 $ 20,004,112
Earning assets 122,573,138 86,271,500 94,142,005 57,393,013 18,347,989
Total securities 21,570,280 17,924,525 14,356,247 15,373,442 8,231,225
Loans, net 91,373,138 58,927,512 68,239,911 33,663,895 8,477,002
Allowance for loan losses 668,389 355,321 492,899 243,095 97,997
Total deposits 108,926,783 79,550,676 84,304,134 53,230,935 17,109,101
Stockholders' equity 11,599,170 11,009,193 11,237,156 8,176,016 4,842,991
</TABLE>
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<TABLE>
<CAPTION>
For the six months
ended June 30, For the periods ended December 31,
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1999 1998 1998 1997 1996(1)
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<S> <C> <C> <C> <C> <C>
SELECTED RATIOS % % % % %
Average loans to average deposits 83.88 74.08 80.95 63.24 49.55
Allowance to end of period loans .76 .70 .73 .70 .77
Equity to assets 8.03 10.43 9.80 13.08 13.62
Leverage capital ratio 9.05 11.02 9.78 13.30 13.66
Return on assets .60 .33 .53 .10 (2.25)
Return on equity 6.81 2.85 4.42 .70 (9.31)
Dividends payout ratio -- -- -- -- --
Net interest margin 3.08 2.90 2.78 2.86 2.79
Noninterest expense to average
assets 2.02 2.09 2.39 2.85 4.90
Efficiency ratio 67.28 75.88 74.47 86.36 164.28
Net charge-offs to average loans -- -- -- -- --
Noncurrent assets to total assets .06 .57 -- .29 --
Noncurrent loans to total loans .08 .88 -- .48 --
</TABLE>
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(1) Represents the period February 15, 1996 (date of inception) to December
31, 1996.
(2) Some of these average balances have been calculated by using daily
averages where available and others by using month-end or other available
balances.
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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING INFORMATION
This prospectus includes forward-looking statements. We have based these
forward-looking statements on our current expectations and projections about
future events. These forward-looking statements are subject to risks,
uncertainties and assumptions, including, among other things:
- adverse changes in our loan portfolio and the resulting credit
risk-related losses and expenses;
- adverse changes in the economy of the East Tennessee region, our
primary market, that could further increase credit-related losses
and expenses;
- adverse changes in the East Tennessee real estate market that
could also negatively affect credit risk, as most of our loans are
made to borrowers concentrated in East Tennessee and a substantial
portion of those loans have real estate as primary or secondary
collateral;
- the consequences of continued bank acquisitions and mergers in our
market, resulting in fewer but much larger and financially
stronger competitors, which could increase competition for
financial services to our detriment;
- fluctuations in market rates and prices, which could negatively
affect our net interest margin, asset valuations and expense
expectations; and
- changes in regulatory requirements of federal and state agencies
applicable to bank holding companies and banks such as State of
Franklin and the Savings Bank.
We undertake no obligation to update publicly or otherwise revise any
forward-looking statements, whether as a result of new information, future
events or otherwise. In light of these risks, uncertainties and assumptions, the
forward-looking events discussed in this prospectus might not occur.
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<PAGE> 8
RISK FACTORS
You should review the following risk factors carefully, as well as the
other information contained in this prospectus, before you decide to invest in
our common stock.
WE DEPEND UPON THE ECONOMIC CONDITIONS IN WASHINGTON AND SULLIVAN COUNTIES,
TENNESSEE.
Our bank and branches are located and concentrated in Washington and
Sullivan counties in East Tennessee. As a result of this geographic
concentration, our results depend largely upon economic conditions in this area.
A deterioration in economic conditions could have a significant, adverse impact
on the quality of our loan portfolios and the demand for our products and
services, and therefore upon our results of operations. See the section called
"Business" for more information about this issue.
WE FACE SIGNIFICANT COMPETITION IN ALL ASPECTS OF OUR OPERATIONS.
The banking and financial services business in East Tennessee generally,
and in our market area specifically, is highly competitive. As of June 30, 1998,
we had 4.9% and 1.6% of the market share in Washington County and Sullivan
County, respectively, which are our primary markets. The competitive environment
is primarily a result of changes in regulation, changes in technology and
product delivery systems and the accelerating pace of consolidation among
financial service providers. We compete for loans, deposits and customers and
the delivery of other financial services with other commercial banks, savings
and loan associations, securities and brokerage companies, mortgage companies,
insurance companies, finance companies, money market funds, credit unions, and
other non-bank financial service providers. Many of these competitors have much
greater total assets and capitalization, and have greater access to capital
markets and offer a broader array of financial services than we do. There can be
no assurance that we will be able to compete effectively. Our results of
operations could be adversely affected as circumstances affecting the nature or
level of competition change. See the section called "Business" for more
information about this issue.
WE DEPEND UPON THE CONTRIBUTION OF OUR KEY OFFICERS.
Our success will depend substantially upon our senior officers, in
particular, Charles E. Allen, Jr. and Randal R. Greene. Our business and
financial condition could be materially adversely affected if we lose the
services of either of these persons. We do not have employment contracts with
any of our officers, and we do not carry key man insurance on the lives of any
of our officers. See the section called "Management" for more information about
our officers.
WE DEPEND UPON THE QUALITY OF OUR CREDIT PORTFOLIO.
A significant source of risk arises from the possibility that we will
sustain losses because borrowers, guarantors and related parties fail to perform
in accordance with the terms of their loans. We have adopted underwriting and
credit monitoring procedures and credit policies, including the establishment
and review of the allowance for loan losses, that management believes are
appropriate to minimize this risk. These policies assess the likelihood of
nonperformance, track loan performance and diversify our credit portfolio. Such
policies and procedures, however, may not prevent unexpected losses that could
materially adversely affect our results of operations. More information about
this issue is available in the section called "Business - Lending Policy."
A portion of our business involves commercial business and commercial
real estate loans to small businesses. We attempt to collateralize all of our
commercial loans with real estate or tangible commercial assets, but these types
of loans nonetheless involve certain risks. Payments on a loan secured by
commercial real estate properties often depends upon the successful operation or
management of the properties. The repayment of a commercial loan typically
depends upon the successful operation and income stream of the borrower. The
repayment of these loans may therefore be more difficult during adverse
conditions in the real estate market or the
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<PAGE> 9
economy. Further, commercial and commercial real estate loans may also involve
relatively large loan balances to single borrowers or groups of related
borrowers.
A SIGNIFICANT PORTION OF THE VOTING POWER OF OUR COMMON STOCK IS HELD BY OUR
OFFICERS AND DIRECTORS.
Prior to the offering, Charles E. Allen, Jr., our Chairman of the Board,
and Randal R. Greene, our President, together have the power to vote 13.64% of
our outstanding shares of common stock. Our directors and executive officers, as
a group, have the power to vote 30.19% of our common stock. Following the
offering assuming the maximum number of shares is sold and assuming neither Mr.
Allen nor Mr. Greene purchase any additional shares in the offering, they will
together have the power to vote 9.38% of our outstanding shares of common stock.
Assuming none of our directors and executive officers purchase any additional
shares in the offering, they, as a group, will have the power to vote 20.85% of
our common stock.
Mr. Allen and Mr. Greene, and the directors and executive officers as a
group, will have the ability to influence significantly the outcome of all
matters requiring a shareholder vote, including the election of directors,
adopting or amending provisions of our Charter and approving certain mergers or
other similar transactions, such as the sale of substantially all of our assets.
More information about this issue is presented in the section called
"Management."
WE ARE SUBJECT TO REGULATION BY MANY AGENCIES, AND THIS REGULATION MAY CHANGE IN
A MATERIALLY ADVERSE WAY.
We are subject to extensive regulation, supervision and examination by
the Tennessee Department of Financial Institutions, the Federal Deposit
Insurance Corporation, the Securities and Exchange Commission, and the Federal
Reserve Board. The regulatory restrictions require minimal capital ratios, and
limit and regulate the businesses in which we may engage. Our business is also
subject to other extensive regulation, such as that applicable to various types
of consumer lending, violations of which may result in significant penalties and
damages. While we are currently operating profitably and are "well capitalized"
for regulatory purposes, there can be no assurance our performance or the
regulatory environment will not change in a materially adverse way. See the
section called "Business - Supervision and Regulation" for more information
about this issue.
CHANGES IN INTEREST RATES MAY ADVERSELY AFFECT OUR PERFORMANCE.
Our operations are materially affected by general economic conditions,
the monetary and fiscal policies of the federal government, regulatory policies
of governmental authorities and other factors that affect market rates of
interest. These factors are beyond our control. Our results of operations depend
to a large extent on our "net interest income," which is the difference between
interest income on interest-earning assets, such as loans and investments, and
interest expense on interest-bearing liabilities, such as deposits and
borrowings. More information about this issue is presented in the section called
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
THERE IS NO PUBLIC MARKET FOR OUR COMMON STOCK, AND WE DO NOT ANTICIPATE THAT A
PUBLIC MARKET WILL DEVELOP IN THE FORESEEABLE FUTURE. FURTHER, THE PRICE OF OUR
COMMON STOCK MAY BE VOLATILE IN THE FUTURE.
Prior to this offering, there has been no public market for our common
stock. We do not anticipate that an active public trading market our common
stock will develop or be maintained in the foreseeable future. The public
offering price has been determined by State of Franklin and may not indicate the
market price after the offering. The future price of the common stock will be
determined by the market. Purchasers of our common stock should have a long-term
investment intent and recognize that the absence of an active and liquid trading
market may make it difficult to sell the common stock and may have an adverse
effect on the price.
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<PAGE> 10
ACQUISITIONS OF BANKS MAY HAVE AN ADVERSE EFFECT UPON OUR PERFORMANCE.
We may grow by acquiring businesses or assets that complement or expand
our existing business. Although we have no present agreements, arrangements or
commitments with respect to any acquisition, we may undertake selected
acquisitions or strategic mergers in the future. Acquisitions involve a number
of special risks, such as
- the time and attention required for our personnel to identify and
evaluate potential acquisitions and for our management to
integrate the assets, operations and personnel of the acquired
businesses,
- our ability to finance the acquisition and associated costs,
- the introduction of new products and services into our operations,
- possible adverse short-term effects on our results of operations,
- possible amortization of goodwill associated with an acquisition,
- the risk of loss of key employees of the acquired businesses.
We may issue equity securities and other forms of common stock-based
consideration in connection with future acquisitions, which could cause dilution
to investors purchasing common stock in this offering.
PURCHASERS OF THE COMMON STOCK IN THIS OFFERING WILL EXPERIENCE AN IMMEDIATE AND
SUBSTANTIAL DILUTION OF THEIR SHARES. IF ADDITIONAL COMMON STOCK IS ISSUED IN
THE FUTURE, THE SHARES PURCHASED IN THIS OFFERING WILL BE FURTHER DILUTED.
Purchasers of common stock in this offering will experience an immediate
and substantial dilution of $2.11 per share in the net tangible book value of
their shares of common stock immediately following this offering. Current
shareholders will receive a material increase in the book value of their shares.
If we issue additional common stock in the future, including shares that may be
issued in connection with acquisitions, purchasers of common stock in this
offering may experience further dilution in net tangible book value per share of
the common stock. The section called "Dilution" provides additional information
about this issue.
THERE CAN BE NO ASSURANCE THAT ANY OF THE USES FOR THE PROCEEDS OF THIS OFFERING
WILL GENERATE A PROFITABLE RETURN FOR STATE OF FRANKLIN.
The majority of the proceeds of the offering will be contributed to the
Savings Bank as capital. There can be no assurance that any of the uses to which
offering proceeds may be applied will generate a profitable return. More
information may be found in the section called "Use of Proceeds."
WE DO NOT PLAN TO PAY ANY CASH DIVIDENDS ON OUR COMMON STOCK IN THE FORESEEABLE
FUTURE.
We have not paid a cash dividend on our common stock and we have no plan
to do so in the foreseeable future. Our ability to pay dividends is restricted
by federal laws and regulations applicable to bank holding companies, and by
Tennessee laws relating to the payment of dividends by Tennessee corporations.
Because substantially all of our operations are conducted through our
subsidiaries, our ability to pay dividends depends on the ability of our
subsidiaries to pay dividends to State of Franklin. The ability of the Savings
Bank to pay dividends is also restricted by applicable regulations of the
Tennessee Department of Financial Institutions and the Federal Deposit Insurance
Corporation. As a result, we may not be able to declare a dividend to holders of
the common stock even if our present dividend policy were to change. See
"Dividend Policy" for additional information on this subject.
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<PAGE> 11
THERE ARE RISKS ASSOCIATED WITH THE YEAR 2000.
Like most financial institutions, we rely upon computers for the daily
conduct of our business and for information systems processing. There is concern
among industry experts that on January 1, 2000 some computers will be unable to
"read" the new year, and there may be widespread computer malfunctions. Our
information systems generally rely on software and hardware developed by
independent third parties. We believe that our internal systems and software and
the network connections they maintain will be adequately programmed to address
the Year 2000 issue. Based on information currently available, we do not believe
that we will incur significant costs in connection with the Year 2000 issue.
Nevertheless, there can be no assurances that all hardware and software that we
use will be Year 2000 compliant, and we cannot predict with any certainty the
costs that we might incur to respond to any Year 2000 issues. Further, the
business of many of our customers may be negatively affected by the Year 2000
issue, which could in turn negatively affect customers' ability to repay any
loans which we may have extended. Therefore, even if we do not incur significant
direct costs in connection with responding to the Year 2000 issue, there can be
no assurance that the failure or delay of our customers or other third parties
in addressing the Year 2000 issue or the costs involved in such process will not
have a material adverse effect on our business, financial condition and result
of operations. See the section "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Year 2000 Compliance" for
additional information.
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USE OF PROCEEDS
The net proceeds to us from this offering are estimated to be
approximately $7.4 million after deduction of the estimated expenses. The net
proceeds will be added to our general funds and used for general corporate
purposes. We intend to use the funds to support future expansion of operations
or diversification into other banking-related businesses and for other business
or investment purposes, although we have not identified any specific
acquisition, expansion, diversification or investment opportunities. A portion
of the net proceeds may be transferred to our subsidiaries and used for their
general corporate purposes, including the origination of loans, funding the
construction and/or the acquisition costs of establishing new branch locations,
enhancing their liquidity ratios and enhancing future access to capital markets.
It is expected that until needed for other purposes, all or part of the net
proceeds retained by us will be invested through our investment program or used
to reduce borrowings from other financial institutions.
DIVIDEND POLICY
Our Board of Directors does not intend to pay cash dividends on our
common stock in the foreseeable future. Future declaration and payment of
dividends, whether cash or stock, if any, will be determined in light of the
then current conditions, including our earnings, operations, capital
requirements, financial condition, restrictions in financing agreements and
other factors deemed relevant by the board. Our ability to pay dividends is
restricted by federal laws and regulations applicable to bank holding companies,
and by Tennessee laws relating to the payment of dividends by Tennessee
corporations. Because substantially all of our operations are conducted through
our subsidiaries, our ability to pay dividends also depends on the ability of
our subsidiaries to pay dividends to us. Our ability to pay cash dividends is
restricted by applicable regulations of the Tennessee Department of Financial
Institutions and the Federal Deposit Insurance Corporation, which we refer to in
this prospectus as the "FDIC." As a result, we may not be able to declare a
dividend to holders of the common stock even if our present dividend policy were
to change. See " Business - Supervision and Regulations - Dividends" for more
information regarding the restrictions under which we operate.
CAPITALIZATION
The following table sets forth our capitalization as of June 30, 1999 and
our capitalization as of that date after giving effect to the sale of the
maximum number of shares of common stock in this offering and the application of
the estimated net proceeds from the sale of the common stock (which we estimate
will be $7.4 million). The information set forth below should be read in
conjunction with the financial information included elsewhere in this
prospectus.
<TABLE>
<CAPTION>
June 30, 1999
---------------------------
Actual As Adjusted
------------ ------------
(Dollars in thousands)
<S> <C> <C>
Stockholders' equity:
Common Stock, $1.00 par value;10,000,000 authorized shares; 1,190,427
shares outstanding prior to the offering; and 1,745,982
shares to be outstanding after the offering ............................ $ 1,190,427 $ 1,745,982
Additional paid-in capital ................................................. 10,937,656 17,807,094
Retained earnings .......................................................... 497,571 497,571
Unrealized gain (loss) on securities ....................................... (345,023) (345,023)
Unearned compensation - ESOP ............................................... (652,590) (652,590)
------------ ------------
Total stockholders' equity ............................................... $ 11,628,041 $ 19,053,034
============ ============
</TABLE>
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<PAGE> 13
DILUTION
The net tangible book value of State of Franklin as of June 30, 1999, was
approximately $11.6 million, or $10.34 per share. Net tangible book value
represents the amount by which our total tangible assets exceeded our total
liabilities. The calculation of net tangible book value on a per share basis is
equal to net tangible book value divided by the aggregate number of basic shares
outstanding. After giving effect to the sale of the 555,555 shares of common
stock offered, at an assumed public offering price of $13.50 per share, and the
application of the net proceeds as described in "Use of Proceeds," our pro forma
net tangible book value as of June 30, 1999 would have been $19.1 million, or
$11.39 per share. This represents an immediate increase in net tangible book
value of $1.05 per share to existing shareholders and an immediate dilution of
$2.11 per share to persons purchasing common stock in this offering. The
following table illustrates this per share dilution, after deduction of
underwriting discounts and offering expenses:
<TABLE>
<S> <C> <C>
Price to public per share............................................................... $13.50
Net tangible book value per share before offering.................................... $10.34
Increase per share attributable to the sale of shares offered ....................... 1.05
Pro forma net tangible book value per share after offering.............................. 11.39
-----
Dilution in pro forma net tangible book value per share to new investors................ $ 2.11
======
</TABLE>
The following table sets forth, on a pro forma as adjusted basis as of
June 30,1999, the differences between the existing shareholders and the new
investors with respect to the number of shares purchased from State of Franklin,
the total consideration paid and the average price per share paid.
<TABLE>
<CAPTION>
Shares Purchased Total Consideration
--------------------- -------------------------
Number Percent Amount Percent Per Share
--------- ------- ----------- ------- ---------
<S> <C> <C> <C> <C> <C>
Existing shareholders 1,190,427 68.2% $11,614,080 60.8% $10.45
New investors ....... 555,555 31.8% 7,499,993 39.2% $13.50
--------- ------ ----------- ------
Total ........ 1,745,982 100.0% $19,114,073 100.0%
========= ====== =========== ======
</TABLE>
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<PAGE> 14
SELECTED CONSOLIDATED FINANCIAL INFORMATION
The following tables set forth our selected consolidated financial
information as of and for the six months ended June 30, 1999 and 1998, and as of
and for each of the periods ended December 31, 1998, 1997 and 1996. This
information is derived from and should be read in conjunction with our
historical financial statements, including the notes to those statements, that
appear elsewhere in this prospectus. This information should also be read in
conjunction with our consolidated condensed financial statements.
<TABLE>
<CAPTION>
For the six months
ended June 30, For the periods ended December 31,
-----------------------------------------------------------------------------
1999 1998 1998 1997 1996(1)
-----------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
SUMMARY OF OPERATIONS
Interest income $ 4,717,978 $ 3,363,002 $ 7,576,768 $ 4,675,449 $ 1,200,130
Interest expense 2,831,913 2,110,127 4,761,135 2,976,327 687,357
Net interest income 1,886,065 1,252,875 2,815,633 1,699,122 512,773
Provision for loan losses (119,146) (127,379) (275,127) (226,095) (130,715)
Noninterest income 289,663 206,387 411,155 339,599 83,755
Noninterest expense 1,463,935 1,107,250 2,402,966 1,760,668 979,988
Income before income taxes 592,647 224,633 548,695 51,958 (514,175)
Income tax expense (197,868) (67,752) (52,206) 5,077 63,443
Net earnings 394,779 156,881 496,489 57,035 (450,732)
Basic and diluted earnings per share $ 0.35 $ 0.14 $ 0.44 $ 0.05 $ (0.74)
Dividends per common share $ -- $ -- $ -- $ -- $ --
Book value per common share $ 10.34 $ 9.94 $ 10.36 $ 9.81 $ 8.93
Average common shares
outstanding 1,125,012 1,113,898 1,117,270 1,111,280 610,000
SELECTED PERIOD-END BALANCES
Total assets $ 144,753,450 $ 106,209,618 $ 118,035,681 $ 83,372,390 $ 40,009,154
Earnings assets 136,931,716 99,928,257 110,989,164 77,343,664 36,696,043
Total securities 34,213,327 18,600,544 12,719,772 16,462,901 14,282,712
Loans, net of unearned income 98,913,389 68,883,713 86,735,298 50,729,567 17,083,858
Allowance for loan losses 748,454 482,576 630,324 355,474 130,715
Total deposits 122,910,873 85,686,259 96,364,077 72,243,884 34,217,209
Long-term debt 9,652,590 9,000,000 9,687,925 -- --
Stockholders' equity 11,628,041 11,076,842 11,570,299 10,903,100 5,448,680
</TABLE>
- ---------
(1) Represents the period February 15, 1996 (date of inception) to December
31, 1996.
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<PAGE> 15
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The following discussion and analysis is intended to assist in
understanding our financial condition and the results of our operations.
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 1999 COMPARED TO THE THREE AND SIX
MONTHS ENDED JUNE 30, 1998
EARNINGS REVIEW
Net income totaled $216,000 for the three months ended June 30, 1999,
compared with $117,000 for the same period last year, resulting in an increase
of 85%. Net income of the six months ended June 30, 1999 was $395,000, an
increase of $238,000 or 152% over the six months ended June 30, 1998 total net
income of $157,000. Net income per common share was $0.35 compared to earnings
per share of $0.14 in 1998. Return on average assets was 0.60% and the return on
average equity was 6.81% for the six month period ended June 30, 1999.
Noninterest income increased $83,000, or 40.3%, with other fees and
service charges, net gains on loans sold and insurance commissions responsible
for most of the increase over the six months ended June 30, 1998. Noninterest
expense was $1,464,000 for the 1999 period, an increase of 32% over the 1998
period, primarily resulting from increased salaries and benefits, data
processing, and furniture and equipment expense.
NET INTEREST INCOME
Interest income and interest expense both increased from 1998 to 1999
resulting primarily from the increases in both earning assets and
interest-bearing liabilities. Net interest income of $994,000 for the three
months ended June 30, 1999 reflects an increase of $323,000 or 48% over the same
period a year ago. Net interest income of $1,886,000 for the six months ended
June 30, 1999 was up $633,000 or 51% over the same period in 1998. For the six
months ended June 30, 1999, average earning assets increased $36 million or 42%
while average interest-bearing liabilities increased $30 million or 40% compared
with the same period in 1998. Average earning assets yield declined 10 basis
points to 7.70% while the cost on interest-bearing liabilities declined 20 basis
points. Consequently, the net interest margin based on average earning assets
increased to 3.08% for the six months ended June 30, 1999, compared with 2.90%
for the same period in 1998.
PROVISION FOR LOAN LOSSES
During the six months ended June 30, 1999, the provision for possible
loan losses was $119,000 compared with $127,000 for the same period last year.
Loan charge-offs for the six months ended June 30, 1999, were $1,000 compared
with no charge-offs in 1998. The allowance for possible loan losses represented
0.76% of total loans, net of mortgage loans held-for-sale, at June 30, 1999,
compared to 0.74% at June 30, 1998. Management considers the allowance for loan
losses to be adequate to cover losses inherent in the loan portfolio.
PROVISION FOR INCOME TAXES
For the six months ended June 30, 1999, the provision for federal and
state income taxes was $198,000, an increase of $130,000 from 1998, primarily
due to the increase in income before income taxes.
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<PAGE> 16
NONINTEREST INCOME
Our noninterest income was $290,000 during the six months ended June 30,
1999, an increase of $83,000 or 40.3% over the comparable 1998 period. The
increase was attributable to increases in other fees and service charges, net
gains on loans sold, insurance commissions, and rental income of $25,000,
$86,000, $8,000, and $13,000, respectively, which were offset by decreases in
net gain on sale and maturity of securities and other income of $26,000 and
$5,000, respectively.
NONINTEREST EXPENSE
Noninterest expense totaled $734,000 for the three month period ended
June 30, 1999, an increase of $194,000 or 36%. For the six month period ended
June 30, 1999, noninterest expense was up $357,000 or 32% over the same period
in 1998. The increases were a result primarily of growth in both the loan and
deposit functions of the organization. Compensation and related benefits, data
processing expense, and other operating expenses, which include postage,
printing and supplies, and telephone expense, reflect the growth in the customer
base and the general increased size of the organization.
FOR THE YEAR ENDED DECEMBER 31, 1998 COMPARED TO THE YEAR ENDED DECEMBER 31,
1997
EARNINGS REVIEW
Our total net income for the year ended December 31, 1998 was $496,489,
an increase of $439,454 over the year ended December 31, 1997 total net income
of $57,035. Net income per common share was $0.44 compared to per share income
of $0.05 in 1997. Return on average assets was 0.49% and the return on average
equity was 4.42% for the year period ended December 31, 1998.
Operating results in 1998 reflected higher net interest income and
noninterest income. Net interest income of $2.8 million for the year ended
December 31, 1998 was up 66% over the 1997 period. Loans increased 71% and
deposits increased 33%. The 1998 provision for possible loan losses was
$275,127. Noninterest income increased $71,556, or 21%, with other fees and
service charges and net rental income responsible for most of the increase over
the year ended December 31, 1997. Noninterest expense was $2.4 million for the
1998 period, an increase of 36% over the 1997 period, primarily resulting from
increased salaries and benefits, data processing and other expenses as a result
of the opening of an additional location and our overall growth.
NET INTEREST INCOME AND MARGIN
Net interest income increased $1.1 million or 66% for the year ended
December 31, 1998 to $2.8 million compared to $1.7 million for the year ended
December 31, 1997. Total loans outstanding increased $35.7 million or 71% over
total loans at December 31, 1997.
Average deposits increased by 54% or $28.6 million to $81.8 million in
1998 compared to $53.2 million in 1997. The rate paid on average
interest-bearing liabilities decreased 16 basis points during the year ended
December 31, 1998 to 5.44%.
PROVISION FOR LOAN LOSSES
During the year ended December 31, 1998, the provision for possible loan
losses was $275,127. There were $277 in charge-offs during the year ended
December 31, 1998 and $1,335 for the year ended December 31, 1997. The allowance
for possible loan losses represented 0.73% of total loans, net of mortgage loans
held-for-sale, at December 31, 1998, compared to 0.70% at December 31, 1997. A
mortgage loan of $246,000 was made on the sale of real estate owned in 1998.
15
<PAGE> 17
PROVISION FOR INCOME TAXES
For the year ended December 31, 1998, the provision for federal income
taxes was $52,206, an increase of $57,283 from 1997, primarily due to the
increase in income before income taxes.
NONINTEREST INCOME
Our noninterest income was $411,155 during the year ended December 31,
1998, an increase of $71,556 or 21% over the comparable 1997 period. The
increase was attributable to increases in other fees and service charges, net
gain on loans sold, insurance commission and income, and net rental income of
$89,217, $31,042, $2,344, and $65,491, respectively, which were offset by
decreases in other income and net gain on sale and maturity of securities of
$7,262 and $109,276, respectively.
NONINTEREST EXPENSE
Noninterest expense totaled $2.4 million for the period ending December 31,
1998, an increase of $642,298. Compensation and related benefits of $1.0 million
accounted for 44% of the total compared to $782,029 or 44% for the year ended
December 31, 1997.
FOR THE YEAR ENDED DECEMBER 31, 1997 COMPARED TO THE PERIOD FEBRUARY 15, 1996
(DATE OF INCEPTION) TO DECEMBER 31, 1996
EARNINGS REVIEW
Our total net income for the year ended December 31, 1997 was $57,035
compared to a loss of $(450,732) for the period from inception to December 31,
1996. Net income per common share was $0.05 compared to $(0.74) in 1996. Return
on average assets was 0.09% and the return on average equity was 0.70% for the
year ended December 31, 1997.
Operating results in 1997 reflected higher net interest income and
noninterest income. Net interest income of $1.7 million for the year ended
December 31, 1997 was up 231% over the 1996 period. The 1997 provision for
possible loan losses was $226,095. Noninterest income increased $255,844, or
305%, with significant increases in all categories of other income including
other fees and service charges, net gain on sale and maturity of securities,
insurance commission income and rental income. Noninterest expense was $1.8
million for the 1997 period, an increase of 80% over the 1996 period, primarily
resulting from increased salaries and benefits. Expenses also increased due to
the opening of an additional location.
NET INTEREST INCOME AND MARGIN
Net interest income increased $1.2 million or 231% for the year ended
December 31, 1997 to $1.7 million compared to $512,773 in the period ended
December 31, 1996.
PROVISION FOR LOAN LOSSES
During the year ended December 31, 1997, the provision for possible loan
losses was $226,095. There were $1,335 charge-offs during the year ended
December 31, 1997 and no charge-offs for the period ended December 31, 1996. The
allowance for possible loan losses represented 0.70% of total loans, net of
mortgage loans held-for-sale, at December 31, 1997, compared to 0.76% at
December 31, 1996.
16
<PAGE> 18
PROVISION FOR INCOME TAXES
For the year ended December 31, 1997, the provision for federal income
taxes was ($5,077,) an increase of $58,366 from ($63,443) in 1996, primarily due
to an increased effective tax rate in 1997 and the use of the net operating loss
carryforward.
NONINTEREST INCOME
Our noninterest income was $339,599 during the year ended December 31,
1997, an increase of $255,844 or 305% over the comparable 1996 period. The
increase was attributable to increases in all categories of noninterest income.
NONINTEREST EXPENSE
Noninterest expense totaled $1.8 million for the year ended December 31,
1997, an increase of $780,680. Compensation and related benefits of $782,029
accounted for 44% of the total compared to $482,684 or 49% for the period ended
December 31, 1996.
BALANCE SHEET REVIEW
We place an emphasis on an integrated approach to our balance sheet
management. Significant balance sheet components of investment securities, loans
and sources of funds are managed in an integrated manner with the management of
interest rate risk, liquidity and capital. These components are examined below.
At June 30, 1999, assets totaled $144.8 million reflecting an increased
$26.7 million or 22.6% since December 31, 1998. The growth in assets has been
funded primarily by a $26.5 million increase in deposits.
LOANS
Loans outstanding totaled $98.9 million at June 30, 1999. This represented
an increase of 14.1% from the December 31, 1998 outstanding loans of $86.7
million.
Commercial loans increased $6.3 million at June 30, 1999, an increase of
23.6% from $26.6 million at December 31, 1998. Real estate construction lending
totaled $25.6 million compared with $22.0 million at December 31, 1998,
reflecting an increase of $3.6 million or 16.3%. Consumer loans of $8.8 million
at June 30, 1999 increased 13.3% from $7.7 million at December 31, 1998. During
the first six months of 1999, first mortgage residential loans increased $2.7
million or 7.2% to $37.9 million at June 30, 1999. The loan portfolio mix at
June 30, 1999, consists of 36% residential mortgages, 31% commercial, 24% real
estate construction, and 9% consumer loans.
INVESTMENT SECURITIES
Investment securities totaled $32.8 million at June 30, 1999. The majority
of the holdings are backed by U.S. Government or Federal Agency guarantees
limiting the credit risk associated with these securities. At June 30, 1999,
approximately $19.9 million of investment securities were held as
available-for-sale compared to $12.2 million at December 31, 1998. This $7.7
million increase, in addition to a $13.0 million increase in investments
held-to-maturity, was funded in part from a $7.6 million reduction in federal
funds and short-term interest bearing deposits.
NONPERFORMING ASSETS
There were no nonperforming assets or nonaccrual loans at June 30, 1999 and
December 31, 1998. The allowance for possible loan losses was $748,454 at June
30, 1999 compared with $630,324 at year end 1998. Management believes the
allowance for possible loan losses is adequate to provide for potential loan
losses.
17
<PAGE> 19
DEPOSITS
Total deposits at June 30, 1999 of $122.9 million, represented an increase
of $26.5 million or a 27.5% increase from $96.4 million at December 31, 1998.
Noninterest-bearing demand deposits totaled $7.1 million at June 30, 1999, an
increase of $1.5 million from December 31, 1998. Interest-bearing deposits
increased $25 million to $115.9 million at June 30, 1999.
CAPITAL
Equity capital at June 30, 1999 was $11.6 million. At June 30, 1999, all
capital ratios were in excess of the regulatory minimums, with the Savings
Bank's Tier 1, total risk-based and leverage ratio of 13.15%, 14.38% and 9.05%,
respectively.
FOR THE YEAR ENDED DECEMBER 31, 1998 COMPARED TO DECEMBER 31, 1997
INVESTMENT SECURITIES
Investment securities totaled $12.2 million at December 31, 1998. The
majority of the holdings are backed by U. S. Government or Federal Agency
guarantees limiting the credit risk associated with these securities. At
December 31, 1998, all of the investment securities were held as
available-for-sale compared to $6.5 million at December 31, 1997.
LOANS
Loans outstanding totaled $86.7 million at December 31, 1998. This
represented an increase of 71% from the December 31, 1997 outstanding loans of
$50.7 million.
Consumer loans increased to $7.7 million at December 31, 1998, an increase
of 62% from $4.8 million at December 31, 1997. Real estate construction lending
totaled $22.0 million and $11.9 million at December 31, 1998 and 1997,
respectively. Commercial loans of $26.6 million at December 31, 1998 increased
117% from $12.3 million at December 31, 1997.
NONPERFORMING ASSETS
There were no nonperforming assets or nonaccrual loans at December 31, 1998
and December 31, 1997. The allowance for possible loan losses was $630,324 and
$355,474 at December 31, 1998 and 1997, respectively. Management believes the
allowance for possible loan losses is adequate to provide for potential loan
losses.
DEPOSITS
Total deposits at December 31, 1998 of $96.4 million, represented an
increase of $24.2 million or a 33.5% increase from $72.2 million at December 31,
1997. Non-interest bearing demand deposits totaled $5.6 million at December 31,
1998, a decrease of $1.5 million from December 31, 1997. Interest bearing demand
and money market deposits increased $9.7 million to $18.4 million at December
31, 1998. Savings deposits increased $2.8 million to $6.1 million at December
31, 1998. Time deposits of $66.3 million increased from $53.2 million at
December 31, 1997.
CAPITAL
Equity capital at December 31, 1998 was $11.6 million, an increase of $0.7
million from $10.9 million at December 31, 1997. A $5,000 dividend was paid by
the Savings Bank to State of Franklin in connection with the reorganization.
This special one time dividend was approved by the Commissioner of the Tennessee
Department of Financial Institutions.
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<PAGE> 20
At December 31, 1998, all capital ratios were in excess of the regulatory
minimums, with The Savings Bank's Tier 1, total risk-based and leverage ratio of
16.24%, 14.98% and 9.44%, respectively.
LIQUIDITY
The purpose of liquidity management is to ensure that there is sufficient
cash flow to satisfy demands for credit, deposit withdrawals, and other
corporate needs. Traditional sources of liquidity include asset maturities and
growth in core deposits. Other sources of funds such as securities sold under
agreements to repurchase, negotiable certificates of deposit and other
liabilities are sources of liquidity which we have not significantly used. We
had unused sources of liquidity in the form of unused federal funds lines of
credit and lines of credit for the Federal Home Loan Bank of Cincinnati totaling
$22.0 million at June 30, 1999.
EFFECTS OF INFLATION AND CHANGING PRICES
The consolidated financial statements and related financial data presented
herein have been prepared in accordance with generally accepted accounting
principles, which require the measurement of financial position and operating
results in terms of historical dollars, without considering changes in relative
purchasing power over time due to inflation.
Unlike most industrial companies, virtually all of the assets and
liabilities of a financial institution are monetary in nature. As a result,
interest rates generally have a more significant impact on a financial
institution's performance than does the effect of inflation. In the current
interest rate environment, the liquidity and maturity structures of our assets
and liabilities are critical to maintenance of acceptable performance levels.
YEAR 2000 COMPLIANCE
The Year 2000 poses challenges to the banking industry. Many experts
believe that even the most prepared organizations may encounter some
implementation problems. The federal banking agencies are concerned that
financial institutions avoid major disruptions to service and operations. All
banks are required to have an action plan to address Year 2000 issues which must
include an indication of management awareness of the problems and the commitment
to solutions; identification of external risks; and operational issues that are
relevant to a bank's Year 2000 planning.
The Federal Financial Institutions Examination Council ("FFIEC") has issued
guidelines and target time frames to accomplish critical actions concerning Year
2000 compliance:
* By September 30, 1997, all banks should have identified affected
applications and databases. Mission critical applications should be identified
and an action plan set for Year 2000 work.
* By December 31, 1997, code enhancements and revisions, hardware upgrades,
and other associated changes should be largely completed by all banks. In
addition, for mission critical applications, programming changes should be
largely completed and testing should be well underway.
* Between January 1, 1999 and December 31, 1999, banks should be testing
and implementing their Year 2000 conversion programs.
External factors which may adversely affect us include reliance on vendors,
such as third-party data processing services and software and hardware vendors;
electronic data-sensitive exchange among other financial institutions which may
not be Year 2000 compliant; our corporate customers and other debtors.
We have been assessing our state of readiness by evaluating our information
technology ("IT") and non-IT systems. IT systems commonly include data
processing, accounting and telephone systems. With respect to our IT systems, we
19
<PAGE> 21
estimate that our Year 2000 identification, assessment and remediation efforts
are substantially complete. During 1999, further testing will be carried out in
order to ensure that all systems are working properly. We have assessed our Year
2000 status in regard to non-IT systems and have determined that no material
risk exists.
We have communicated with our significant vendors in order to determine the
extent to which interfaces with such entities are vulnerable to Year 2000 issues
and whether the products and services purchased from such entities are Year 2000
compliant. We have received either verbal or written assurance from these
vendors that they expect to address all their significant Year 2000 issues on a
timely basis. With respect to significant borrowers and depositors, we do not
anticipate any material Year 2000 issues.
We have expended $18,000 in connection with Year 2000 readiness and believe
the cost of further Year 2000 identification, assessment, remediation and
testing efforts will not exceed $7,000.
NEW ACCOUNTING AND REPORTING REQUIREMENTS
The Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 133 ("SFAS No. 133"), Accounting for Derivative
Instruments and Hedging Activities, in June 1998. The provisions of this
statement require that derivative instruments be carried at fair value for the
balance sheet. The statement continues to allow derivative instruments to be
used to hedge various risks and sets forth specific criteria to be used to
determine when hedge accounting can be used. The statement also provides for
offsetting changes in fair value or cash flows of both the derivative and the
hedged asset or liability to be recognized in earnings in the same period;
however, any changes in fair value or cash flow that represent the ineffective
portion of a hedge are required to be recognized in earnings and cannot be
deferred. For derivative instruments not accounted for as hedges, changes in
fair value are required to be recognized in earnings.
The provisions of this statement become effective for quarterly and annual
reporting beginning after June 15, 2000. Although the statement allows for early
adoption in any quarterly period after June 1998, we have no plans to adopt the
provisions of SFAS No. 133 prior to the effective date. The impact of adopting
the provisions of this statement on our financial position, results of
operations and cash flow subsequent to the effective date is not currently
estimable and will depend on our financial position and the nature and purpose
of the derivative instruments in use by management at that time.
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<PAGE> 22
BUSINESS
OVERVIEW
We are a registered bank holding company organized under the laws of
Tennessee headquartered in Johnson City, Tennessee. The Savings Bank is a wholly
owned subsidiary through which we conduct our banking operations. On June 30,
1999 we had consolidated total assets of approximately $145 million. State of
Franklin Leasing Corporation is a wholly owned subsidiary of State of Franklin
which engages in equipment lease financing. The Savings Bank offers title
services through its wholly owned subsidiary John Sevier Title Services, Inc.
We believe we can present an alternative to recent mergers of large
financial institutions by offering local ownership, local decision making and
other personalized services characteristic of local, community-based financial
institutions. The holding company structure provides flexibility for expansion
of our banking business through acquisition of other financial institutions and
provision of additional banking-related services which the traditional
commercial bank may not provide under present laws.
THE SAVINGS BANK
The Savings Bank is incorporated under the laws of the State of Tennessee.
It commenced business on February 26, 1996 as a Tennessee-chartered savings bank
whose deposits are insured by the FDIC. The Savings Bank is regulated by the
Tennessee Department of Financial Institutions and the FDIC. The Savings Bank
operates a main office and two branches in Johnson City, Washington County,
Tennessee, and one branch in Kingsport, Sullivan County, Tennessee. The Savings
Bank owns John Sevier Title Services Inc., a Tennessee-chartered and regulated
title insurance company.
SERVICES
We provide a wide range of personal and corporate banking services. Our
principal business is to accept demand and savings deposits from the general
public and to invest such funds in residential mortgage loans and, to a lesser
extent, in commercial and consumer loans in our market area. We seek savings
deposits and transaction accounts from households and businesses by offering a
full range of savings accounts, retirement and professional accounts, checking
accounts and time certificates. We also offer 24-hour automated teller machines
and other financial services.
MARKETS
Our customers are primarily individuals and households and small-to-medium
sized businesses, as well as physicians and other professionals. We are subject
to substantial competition, however, from other commercial banks, savings and
loan associations, credit unions and finance companies operating in Washington
and Sullivan counties and elsewhere in the Tri-Cities, Tennessee / Virginia
region. Particularly intense competition for loans and deposits comes from other
financial institutions in our market area.
In certain aspects of our business, we also compete with credit unions,
small loan companies, insurance companies, mortgage companies, finance
companies, brokerage houses and other financial institutions, some of which are
not subject to the same degree of regulation and restriction that we are, and
some of which have financial resources greater than ours. Our future success
will depend primarily upon the difference between the cost of our borrowing
(primarily interest paid on deposits) and income from operations (primarily
interest or fees earned on loans, sales of loans and investments). We compete
for funds with other institutions, which, in most cases, are significantly
larger than we are and are able to provide a greater variety of services than we
can. These competitors may thus obtain deposits at lower rates of interest.
21
<PAGE> 23
NET INTEREST INCOME
The following table sets forth weighted average yields earned on our
earning assets and the weighted average rates paid on our average deposits and
other interest-bearing liabilities for the six months ended June 30, 1999 and
1998 and the years indicated, and certain other information:
<TABLE>
<CAPTION>
June 30,
---------------------------------------------------------------
1999 1998
------------------------------ ------------------------------
(Fully taxable equivalent) Interest Average Interest Average
(Dollars in thousands) Average Income/ Yields/ Average Income/ Yields/
Balance Expense Rate Balance Expense Balance
------- ------- ---- ------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
ASSETS:
Interest-earning assets:
Loans, net of unearned income.............. $ 91,373 $3,730 8.2% $58,928 $2,502 8.5%
U.S. Treasury and other U.S. government
agencies................................ 21,570 717 6.7% 17,625 602 6.8%
Other earning assets ...................... 2,805 96 6.9% 933 28 6.1%
Federal funds sold......................... 6,825 174 5.1% 8,787 230 5.2%
-------- ------ ------- ------
Total interest-earning assets/interest
income.............................. 122,573 4,718 7.7% 86,273 3,363 7.8%
-------- ------ ------- ------
Cash and due from banks.................... 2,793 2,342
Other assets............................... 6,697 6,819
Allowance for loan losses.................. (668) (355)
-------- -------
Total.................................. $131,395 $95,079
======== =======
LIABILITIES AND STOCKHOLDERS' EQUITY:
Interest-bearing liabilities:
Demand deposits............................ $ 18,294 $ 354 3.9% $11,254 $ 226 4.0%
Savings.................................... 32,856 798 4.9% 3,785 83 4.4%
Individual retirement accounts............. 4,812 133 5.5% 4,242 130 6.2%
Time certificates.......................... 47,034 1,302 5.5% 56,114 1,628 5.8%
Note payable............................... 9,099 245 5.4% 1,617 42 5.2%
-------- ------ ------- ------
Total interest-bearing liabilities/
interest expense..................... 112,095 2,832 5.1% 77,013 2,110 5.5%
-------- ------ ------- ------
Non-interest bearing demand deposits...... 5,931 5,656
Other liabilities.......................... 1,769 1,402
Stockholders' equity....................... 11,599 11,009
-------- -------
Total.................................. $131,395 $95,079
======== =======
Net interest earnings...................... $1,886 $1,253
====== ======
Net interest on interest-earning assets.... 3.1% 2.9%
Return on average assets................... 0.60% 0.33%
Return on average equity................... 6.81% 2.85%
Cash dividends declared.................... -- --
Dividend payout ratio...................... -- --
</TABLE>
<TABLE>
<CAPTION>
December 31,
-------------------------------------------------------------------
1998 1997
-------------------------------- --------------------------------
(Fully taxable equivalent) Interest Average Interest Average
(Dollars in thousands) Average Income/ Yields/ Average Income/ Yields/
Balance Expense Rate Balance Expense Rate
------- ------- ---- ------- ------- ----
<S> <C> <C> <C> <C> <C> <C>
ASSETS:
Interest-earning assets:
Loans, net of unearned income.............. $ 68,732 $ 5,757 8.4% $33,907 $ 2,729 8.0%
U.S. Treasury and other U.S. government
agencies................................ 13,946 978 7.0% 14,892 1,569 10.5%
Other earning assets ...................... 3,206 195 6.1% 481 51 10.6%
Federal funds sold......................... 8,258 453 5.5% 7,659 257 3.4%
-------- ------- ------- ------
Total interest-earning assets/interest
income.............................. 94,142 7,383 7.8% 56,939 4,606 8.1%
-------- ------- ------- ------
Cash and due from banks.................... 2,414 1,993
Other assets............................... 4,641 3,002
Allowance for loan losses.................. (493) (243)
------- ------
Total.................................. $100,704 $61,691
======== =======
LIABILITIES AND STOCKHOLDERS' EQUITY:
Interest-bearing liabilities:
Demand deposits............................ $ 13,529 $ 546 4.0% $ 6,231 $ 273 4.4%
Savings.................................... 4,699 192 4.1% 2,157 117 5.4%
Individual retirement accounts............. 4,336 269 6.2% 2,490 161 6.5%
Time certificates.......................... 55,398 3,451 6.2% 37,653 2,425 6.4%
Note payable............................... 4,844 304 6.3% -- -- --
-------- ------ ------- ------
Total interest-bearing liabilities/
interest expense..................... 82,806 4,762 5.8% 48,531 2,976 6.1%
-------- ------ ------- ------
Non-interest bearing demand deposits...... 6,343 4,700
Other liabilities.......................... 319 284
Stockholders' equity....................... 11,236 8,176
-------- -------
Total.................................. $100,704 $61,691
======== =======
Net interest earnings...................... $2,621 $1,630
====== ======
Net interest on interest-earning assets.... 2.8% 2.9%
Return on average assets................... 0.47% 0.09%
Return on average equity................... 4.42% 0.70%
Cash dividends declared.................... -- --
Dividend payout ratio...................... -- --
</TABLE>
22
<PAGE> 24
The following table presents a summary of changes in interest income,
interest expense, and the interest rate differential aggregated by the changes
in volumes and rates:
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998 December 31, 1997
versus versus versus
June 30, 1998 December 31, 1997 December 31, 1996
Increase (Decrease) Increase (Decrease) Increase (Decrease)
Change due to: (1) Change Due to: (1) Change Due to: (1)
--------------------------- --------------------------- ---------------------------
(Dollars in Thousands) Volume Rate Total Volume Rate Total Volume Rate Total
------- ----- ------- ------- ----- ------- ------ ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Increase (decrease) in(2):
Loans, net of unearned income ..... $ 1,325 $ (96) $ 1,228 $ 2,892 $ 136 $ 3,028 $2,048 $ 111 $ 2,159
U.S. Treasury and other U.S. ......
government agency securities 131 (16) 115 (70) (521) (591) 863 574 1,437
Other earning assets .............. 64 (4) 68 166 (22) 144 10 5 15
Federal funds sold ................ (50) (6) (56) 35 161 196 167 (196) (29)
------- ----- ------- ------- ----- ------- ------ ------- -------
Total interest income ........ 1,397 (42) 1,355 3,023 (246) 2,777 3,088 494 3,582
------- ----- ------- ------- ----- ------- ------ ------- -------
Increase (decrease) in(2):
Demand deposits ................... 136 (8) 128 298 (25) 273 190 17 207
Savings deposits .................. 706 9 715 103 (28) 75 89 (3) 86
Individual retirement accounts .... 16 (13) 3 113 (7) 108 124 11 135
Time certificates ................. (251) (75) (326) 1,101 (75) 1,026 1,600 260 1,860
Note payable ...................... 201 2 203 304 -- 304 -- -- --
------- ----- ------- ------- ----- ------- ------ ------- -------
Total interest expense ....... 886 (165) 722 1,919 (135) 1,786 2,003 285 2,288
------- ----- ------- ------- ----- ------- ------ ------- -------
Increase in net interest income ... $ 633 $ 991 $ 1,294
======= ======= =======
</TABLE>
- ----------
(1) Increases (decreases) are attributable to volume changes and rate changes on
the following basis: Volume Change equals change in volume times prior year
rate. Rate Change equals change in rate times prior year volume. Changes that
are not due solely to volume or rate changes are allocated to volume.
(2) For purposes of this schedule, non-accruing loans are included in the
average balances and tax exempt income is reflected on a tax equivalent basis.
As tax exempt income is exempt only for Federal income tax purposes and not
Tennessee purposes, tax equivalent income is based upon an effective 34% tax
rate. Loan fees included in interest income are not material to the
presentation.
ASSET/LIABILITY MANAGEMENT
A committee composed of our officers and directors is responsible for
managing our assets and liabilities. The chairman of the committee is our
Chairman of the Board, Charles E. Allen, Jr. The committee attempts to manage
our asset growth, liquidity and capital to maximize income and reduce interest
rate risk. The committee directs our overall acquisition and allocation of funds
and reviews and discusses our assets and liability funds budget in relation to
the actual flow of funds. The committee also reviews and discusses
- peer group comparisons,
- the ratio of rate-sensitive assets to rate-sensitive liabilities,
- the ratio of allowance for loan losses to outstanding and
nonperforming loans,
- expected loan demand,
- investment opportunities,
- core deposit growth within specific categories,
- regulatory changes,
- monetary policy adjustments, and
- the overall state of the local and national economies.
23
<PAGE> 25
The matching of assets and liabilities may be analyzed by examining the
extent to which the assets and liabilities are "interest rate sensitive" and by
monitoring an institution's interest rate sensitivity "gap." An asset or
liability is said to be interest rate sensitive within a specific time period if
it will mature or reprice within that time period. The interest rate sensitivity
gap is defined as the difference between the amount of interest-earning assets
maturing or repricing within a specific time period and the amount of
interest-bearing liabilities maturing or repricing within that time period. A
gap is considered positive when the amount of interest rate sensitive assets
exceeds the amount of interest rate sensitive liabilities. A gap is considered
negative when the amount of interest rate sensitive liabilities exceeds the
amount of interest rate sensitive assets. During a period of rising interest
rates, a negative gap would tend to adversely affect net interest income while a
positive gap would tend to result in an increase in net interest income. During
a period of falling interest rates, a negative gap would tend to result in an
increase in net interest income while a positive gap would tend to adversely
affect net interest income.
The following tables contain interest sensitivity profiles for the Savings
Bank as of June 30, 1999, December 31, 1998 and 1997. The table represents a
static point in time and does not consider other variables, such as changing
spread relationships or interest rate levels. "Net repricing gap" is the
difference between total earning assets and total interest-bearing liabilities
repricing in any given period and "cumulative gap" is the sum of the net
repricing gap from period to period. Interest-bearing demand, savings and money
market account deposits are presented as repricing in the earliest period
presented.
<TABLE>
<CAPTION>
Savings Bank Only
---------------------------------------------------------
June 30, 1999
---------------------------------------------------------
After 3 After 12
months months
Within Within Within After
3 months 12 months 5 years 5 years Total
-------- --------- -------- ------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
EARNING ASSETS:
Loans ................................. $ 27,802 $ 1,642 $ 41,177 $27,835 $ 98,456
Investment securities:
Available for sale ............... -- -- 1,976 17,283 19,259
Held to maturity ................. -- -- -- 12,988 12,988
Federal funds sold .................... 3,804 -- -- -- 3,804
Interest-bearing deposits ............. -- -- -- -- --
Federal Home Loan Bank stock........... 1,368 -- -- -- 1,368
-------- -------- -------- ------- --------
Total earning assets ............. $ 32,974 $ 1,642 $ 43,153 $58,106 $135,875
======== ======== ======== ======= ========
INTEREST-BEARING LIABILITIES:
Total interest-bearing deposits ....... 79,865 20,463 15,538 -- 115,866
Long-term debt ........................ -- -- -- 9,000 9,000
-------- -------- -------- ------- --------
Total interest-bearing liabilities $ 79,865 $ 20,463 $ 15,538 $ 9,000 $124,866
======== ======== ======== ======= ========
Net repricing gap ..................... $(46,891) $(18,821) $ 27,614 $49,106 $ 11,008
Rate sensitivity gap:
Net repricing gap as a percentage
of total earning assets ............. 34.51% 13.85% (20.32)% (36.14)% (8.10)%
Cumulative gap ........................ $(46,891) $(65,712) $(38,098) $11,008 $ 11,008
Cumulative gap as a percentage of
total earning assets ................ 34.51% 48.36% 28.04% (8.10)% (8.10)%
</TABLE>
24
<PAGE> 26
<TABLE>
<CAPTION>
Savings Bank Only
---------------------------------------------------------
December 31, 1998
---------------------------------------------------------
After 3 After 12
months months
Within Within Within After
3 months 12 months 5 years 5 years Total
-------- --------- -------- ------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
EARNING ASSETS:
Loans ................................. $ 26,424 $ 7,443 $ 38,406 $14,462 $ 86,735
Investment securities:
Available for sale ............... -- -- 36 12,045 12,081
Held to maturity ................. -- -- -- -- --
Federal funds sold .................... 6,421 -- -- -- 6,421
Federal Home Loan Bank stock .......... 471 -- -- -- 471
Interest-bearing deposits ............. 5,113 -- -- -- 5,113
-------- -------- -------- ------- --------
Total earning assets ........... $ 38,429 $ 7,443 $ 38,442 $26,507 $110,821
======== ======== ======== ======= ========
INTEREST-BEARING LIABILITIES:
Interest-bearing deposits ............. $ 22,879 $ 24,515 $ 43,534 $ -- $ 90,928
Long-term debt ........................ -- -- -- 9,000 9,000
-------- -------- -------- ------- --------
Total interest-bearing liabilities $ 22,879 $ 27,515 $ 49,534 $ 9,000 $ 99,928
======== ======== ======== ======= ========
Net repricing gap ..................... $ 15,550 $(17,072) $ (5,092) $17,507 $ 10,893
Rate sensitivity gap:
Net repricing gap as a percentage
of total earning assets ............. (11.44)% 15.41% 4.59% (15.80)% (9.83)%
Cumulative gap ........................ $ 15,550 $ (1,522) $ (6,614) $10,893 $ 10,893
Cumulative gap as a percentage of
total earning assets ................ (11.44)% 1.12% 4.87% (8.02)% (8.02)%
</TABLE>
<TABLE>
<CAPTION>
Savings Bank Only
---------------------------------------------------------
December 31, 1997
---------------------------------------------------------
After 3 After 12
months months
Within Within Within After
3 months 12 months 5 years 5 years Total
-------- --------- -------- ------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
EARNING ASSETS:
Loans ................................. $ 8,116 $ 6,945 $ 11,882 $23,843 $ 50,786
Investment securities:
Available for sale ............... 4 -- 1,930 4,530 6,464
Held to maturity ................. -- -- 2,300 7,700 10,000
Federal funds sold .................... 10,094 -- -- -- 10,094
-------- -------- -------- ------- --------
Total earning assets .......... $ 18,214 $ 6,945 $ 16,112 $36,073 $ 77,344
======== ======== ======== ======= ========
INTEREST-BEARING LIABILITIES:
Interest-bearing deposits ............. $ 21,379 $ 24,977 $ 18,742 $ -- $ 65,098
-------- -------- -------- ------- --------
Total interest-bearing
liabilities ................. $ 21,379 $ 24,977 $ 18,742 $ -- $ 65,098
======== ======== ======== ======= ========
Net repricing gap ..................... $ (3,165) $(18,032) $ (2,630) $36,073 $ 12,246
Rate sensitivity gap:
Net repricing gap as a percentage
of total earning assets ............. (4.09)% (23.31)% (3.40)% 46.64% 15.83%
Cumulative gap ........................ $ (3,165) $(21,197) $(23,827) $12,246 $ 12,246
Cumulative gap as a percentage of
total earning assets ................ (4.09)% (27.41)% (30.81)% 15.83% 15.83%
</TABLE>
Management has made the following assumptions in the above analysis:
(a) Assets and liabilities are generally assigned to a period based upon
their earliest repricing period when the repricing is less than the
contractual maturity.
(b) Nonaccrual loans, if any, are included in the loan category.
(c) Investment securities available for sale are currently treated in the
same manner as comparable securities in the investment securities held
to maturity portfolio in that they are scheduled according to the
earlier of their contractual maturities or earliest repricing dates;
however, the maturities of callable agency securities are scheduled
according to their call dates when valued at a premium to par.
25
<PAGE> 27
(d) Money market deposits and savings deposits that have no contractual
maturities are scheduled in the within 3 months category.
DEPOSITS
We offer a full range of depositor accounts and services to both consumers
and businesses. None of these deposits were brokered. Our primary source of
funds is interest-bearing deposits. The following table sets forth our deposit
structure at June 30, 1999 and December 31, 1998 and 1997(in thousands).
<TABLE>
<CAPTION>
June 30, December 31,
-------- -----------------
1999 1998 1997
-------- ------- -------
<S> <C> <C> <C>
Non interest-bearing deposits:
Individuals, partnerships and corporations ... $ 5,670 $ 4,346 $ 5,838
Certified and official checks ................ 1,375 1,292 1,309
-------- ------- -------
Total non interest-bearing deposits ........ 7,045 5,638 7,147
Interest-bearing deposits:
Interest-bearing demand accounts ............. 19,102 18,306 8,648
Savings accounts ............................. 50,091 6,108 3,291
Certificates of deposit, less than $100,000 .. 36,066 49,587 40,306
Certificates of deposit, greater than $100,000 10,607 16,725 12,852
-------- ------- -------
Total interest-bearing deposits ............ 115,866 90,726 65,097
-------- ------- -------
Total deposits ............................. $122,911 $96,364 $72,244
======== ======= =======
</TABLE>
The following table presents a breakdown by category of the weighted
average rate on deposits and the average amount of deposits for the periods as
indicated (in thousands):
<TABLE>
<CAPTION>
June 30, December 31,
---------------------------------- ---------------------------------
1999 1998 1998 1997
--------------- --------------- --------------- ---------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Non interest-bearing commercial
deposits............................... 0.00% $ 3,980 0.00% $ 2,106 0.00% $ 2,440 0.00% $ 1,617
Savings deposits......................... 4.86% 32,856 4.38% 3,808 4.25% 4,699 4.25% 2,157
Money market deposits ................... 4.52% 13,317 4.63% 8,316 4.48% 10,336 4.31% 4,582
Time deposits ........................... 6.54% 51,847 5.86% 59,990 5.65% 59,734 5.89% 40.143
Interest-bearing and non interest-bearing
demand deposits .................... 1.53% 6,928 1.52% 5,331 1.64% 7,095 1.79% 4,732
-------- -------- -------- --------
Total deposits ..................... $108,927 $ 79,551 $ 84,304 $ 53,231
======== ======== ======== ========
</TABLE>
At June 30, 1999 and December 31, 1998, time deposits greater than $100,000
aggregated approximately $10.6 million and $16.7 million, respectively. The
following table indicates, as of June 30, 1999 and December 31, 1998, the dollar
amount of $100,000 or more deposits by the time remaining until maturity (in
thousands):
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
---------------------------------- -----------------------------------
1 Year 1 Year
3 Months 3 to 12 through 3 Months 3 to 12 through
or less Months 5 years Total or less Months 5 years Total
------ ------ ------ ------- ------ ------ ------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Time certificates $2,170 $4,809 $3,628 $10,607 $6,271 $5,670 $4,784 $16,725
</TABLE>
26
<PAGE> 28
ASSETS
Our management considers many criteria in managing assets, including
creditworthiness, diversification and structural characteristics, maturity and
interest rate sensitivity. The following table sets forth our interest-earning
assets by category at June 30, 1999 and 1998 and December 31, 1998 and 1997.
<TABLE>
<CAPTION>
June 30, December 31,
------------------- ------------------
1999 1998 1998 1997
-------- -------- -------- -------
(In Thousands)
<S> <C> <C> <C> <C>
Investment securities:
Available for sale ........................................... $ 19,857 $ 17,618 $ 12,249 $ 6,463
Held to maturity ............................................. 12,988 998 -- 10,000
Federal funds sold ............................................. 3,804 7,208 6,421 10,093
Federal Home Loan Bank stock ................................... 1,368 455 471 --
Short term deposits............................................. -- 5,000 5,113 --
Loans:
Real estate .................................................. 69,523 51,997 64,169 38,471
Commercial and other ......................................... 29,457 16,968 22,634 12,311
-------- -------- -------- -------
Total loans ................................................ 98,980 68,945 86,803 50,782
Less unearned income ........................................ 66 61 68 52
-------- -------- -------- -------
Loans, net of unearned income ................................ 98,914 68,884 86,735 50,730
-------- -------- -------- -------
Total interest-earning assets ............................ $136,931 $100,116 $110,989 $77,286
======== ======== ======== =======
</TABLE>
INVESTMENT PORTFOLIO
For a description of the composition of the carrying value of our
investment portfolio at June 30, 1999 and 1998 and December 31, 1998 and 1997,
see Note 13 to the Notes to Consolidated Financial Statements attached hereto.
The following table presents the maturity distribution of the amortized
cost and estimated market value of our investment portfolio at June 30, 1999 and
December 31, 1998. The weighted average yields on these instruments are
presented based on final maturity. Yields on obligations of states and political
subdivisions have not been adjusted to a fully-taxable equivalent basis.
<TABLE>
<CAPTION>
June 30, 1999 December 31, 1998
------------------------------- -------------------------------
Estimated Weighted Estimated Weighted
Amortized Market Average Amortized Market Average
Cost Value Yield Cost Value Yield
------- ------- ---- ------- ------- ----
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C>
Held to maturity:
Obligations of U.S. Government agencies:
Due after 1 year but within 5 years .. $ 1,000 $ 985 6.25% -- -- --
Due after 5 years but within 10 years 11,988 11,532 6.43% -- -- --
------- -------
Total ............................. $12,988 $12,517 6.41%
======= =======
Available for sale:
Obligations of U.S. Government agencies:
Due within 1 year .................... $ -- $ -- $ 36 $ 36 7.20%
Due after 1 year but within 5 years .. 998 976 6.06% 5,990 6,010 6.68%
Due after 5 years but within 10 years 15,268 14,891 6.66% 5,564 5,604 7.06%
Due after 10 years ................... 2,993 2,869 6.81% -- --
Other investments
Due within 1 year..................... 598 598 4.37% 598 598 4.64%
------- ------- ------- -------
Total ............................. $19,857 $19,334 6.66% $12,188 $12,248 6.71%
======= ======= ======= =======
</TABLE>
INVESTMENT POLICY
Our investment portfolio policy is designed to provide guidelines by which
the funds not otherwise needed to meet loan demand of our market area can best
be invested to meet fluctuations in the loan demand and deposit structure. Our
investment officer, Chairman Allen, seeks to balance the market and credit risk
against the potential investment return, make investments compatible with the
pledging requirements of our deposits of public funds, maintain
27
<PAGE> 29
compliance with regulatory investment requirements. The Investment Policy is
reviewed annually by the Directors. Chairman Allen reports monthly to the
Directors.
LOAN PORTFOLIO
The following table sets forth the composition of our loan portfolio net at
June 30, 1999 and 1998 and December 31, 1998 and 1997.
<TABLE>
<CAPTION>
June 30, December 31,
----------------- -----------------
1999 1998 1998 1997
------- ------- ------- -------
(In Thousands)
<S> <C> <C> <C> <C>
Real estate loans:
Construction and land development $ 2,034 $ 1,048 $ 2,013 $ 551
Secured by residential properties 56,372 44,420 51,821 34,176
Commercial real estate loans .... 11,117 6,571 9,104 6,447
------- ------- ------- -------
Total real estate loans ...... 69,523 52,039 62,938 41,174
Commercial and industrial loans ... 16,806 10,572 13,784 6,193
Installment loans ................. 12,180 5,855 9,424 3,176
Other consumer loans .............. 378 417 396 183
All other loans ................... 27 7 193 4
------- ------- ------- -------
Total loans ................... $98,914 $68,884 $86,735 $50,730
======= ======= ======= =======
</TABLE>
The following table sets forth the maturities of the loan portfolio and the
sensitivity to interest rate changes of that portion of our portfolio that
matures after one year.
<TABLE>
<CAPTION>
June 30, 1999
-------------------------------------------------
Maturity Range
-------------------------------------------------
One Year One Through Over
(In Thousands) or Less Five Years Five Years Total
------- ----------- ---------- -------
<S> <C> <C> <C> <C>
Real estate construction loans $ 1,045 $ 989 $ -- $ 2,034
Commercial and industrial loans 6,647 8,465 1,694 16,806
All other loans ............... 21,752 34,182 24,140 80,074
------- ------- ------- -------
Total loans ................. $29,444 $43,636 $25,834 $98,914
======= ======= ======= =======
</TABLE>
<TABLE>
<CAPTION>
December 31, 1998
-------------------------------------------------
Maturity Range
-------------------------------------------------
One Year One Through Over
(In Thousands) or Less Five Years Five Years Total
------- ----------- ---------- -------
<S> <C> <C> <C> <C>
Real estate construction loans $ 1,024 $ 989 $ -- $ 2,013
Commercial and industrial loans 5,452 6,943 1,389 13,784
All other loans ............... 17,391 30,474 23,073 70,938
------- ------- ------- -------
Total loans ................. $23,867 $38,406 $24,462 $86,735
======= ======= ======= =======
</TABLE>
The sensitivity to interest rate changes of that portion of our loan
portfolio that matures after one year is set forth below.
28
<PAGE> 30
Real estate, commercial and industrial loans maturing after one year as of
December 31, 1998 (in thousands):
<TABLE>
<S> <C>
Fixed rate ............................. $ 3,635
Floating rate .......................... 5,686
-------
$ 9,321
=======
</TABLE>
LENDING POLICY
While the ultimate authority to approve loans rests with our Board of
Directors, lending authority is delegated by the Directors to our loan officers
and loan committees, each of whom may make a limited amount of secured and
unsecured loans to a single borrower or related group of borrowers. Lending
limits of individual officers are documented in the respective personnel files
and are reviewed annually by the Directors. Loan officers discuss with a senior
officer any loan request which exceeds their individual lending limit. The loan
must have the joint approval from the originating officer and a senior officer.
Our President and Chief Executive Officer has the authority to approve first
mortgages for one-to-four family residential loans which conform to the
guidelines of the Farmers Home Administration, the Veterans Administration, and
the Tennessee Housing Development Authority, and other conventional investors in
any amount.
Our Lending Policy provides written guidelines for lending activities and
is reviewed at least annually by the Directors. The Directors recognize that,
from time to time, it is in State of Franklin's best interest to deviate from
the established, written credit policy and have established guidelines for
granting exceptions to the policy. Situations in which such exceptions might be
granted include the waiving of requirements for independent audited financial
statements when a comfort level with respect to the financial statements of the
borrower can be otherwise obtained; and when it is desirable to meet the terms
offered by a competitor. All exceptions granted are documented in the loan
committee's minutes.
State of Franklin's primary business lies in making real estate mortgage
loans in the market area. Real estate loans made outside the market area must be
in compliance with the exception-to-policy guidelines. Lending activities in the
real estate area tend to fall into the four general categories of
- acquisition and development,
- construction,
- permanent financing, and
- home equity.
As a general rule, we seek to maintain loan-to-collateral value ratios of
at least 80% of the actual purchase price or the appraised value, whichever is
less. This limit is reduced for certain types of real estate loans in conformity
to industry and regulatory guidelines. The following standards, established by
inter-agency guidelines by the federal bank regulators, including the FDIC, went
into effect on March 19, 1993:
29
<PAGE> 31
<TABLE>
<CAPTION>
Maximum Allowable
Loan Category Loan-to-Value Ratio
------------- -------------------
<S> <C>
Land ................................................... 65%
Land development ....................................... 75%
Owner-occupied land development ........................ 75%
Construction
Commercial, multifamily(1) and other nonresidential 80%
1-4 family residential ............................ 85%
Improved property ...................................... 85%
Owner-occupied 1-4 family and home equity(2) ........... 85%
</TABLE>
(1) Multifamily construction includes condominiums and cooperatives.
(2) A loan-to-value limit has not been established for permanent mortgage or
home equity loans or owner-occupied, 1-4 family residential property.
However, for any such loan with a loan-to-value ratio that equals or
exceeds 90% at origination, appropriate credit enhancement in the form of
either mortgage insurance or readily marketable collateral is required.
LOAN REVIEW AND NONPERFORMING ASSETS
We have an internal loan review system to determine deficiencies and
corrective action to be taken. Loans are graded as follows:
CLASS 1. Prime loans based upon liquid collateral with adequate margin or
supported by strong financial statement of recent date. Character and repayment
ability of borrower are excellent and unquestioned. Position of company in its
industry and in its community is excellent. High liquidity, minimum risk, good
ratios, low handling cost.
CLASS 2. Desirable loans of somewhat less stature than Class A, but with
strong financial statements, and/or secured by strong collateral position.
Probability of serious financial deterioration is unlikely.
CLASS 3. Satisfactory loans of average or mediocre strength; having some
deficiency or vulnerability to changing economic or industry conditions, but
currently collectible. Secured loans lacking in margin or liquidity. Loans to
individuals, perhaps supported in dollars of net worth but whose supporting
assets are illiquid. Sometimes used as a temporary classification for untested
borrowers or where information is incomplete.
CLASS 4. First classification that has relevancy to bank examiners. A
warning classification which portrays one or more deficiencies that cannot be
tolerated even in the short run. Regulatory classification "Other Assets
Especially Mentioned.
CLASS 5. Substandard credits for their steadiness or other deficient
nature. Company or individual loans with no evident future, which are
unfavorable, affecting loan-to-deposit ratio or cost of funds. Heavy leveraged
accounts, with no immediate relief or compensating features. Accounts requiring
attention of loan officer due to lack of borrower cooperation.
CLASS 6. Doubtful credits with weaknesses demanding full attention of loan
officer. Collection or liquidation in full is highly questionable. Serious
problems exist to the point where a partial loss of principal is likely.
CLASS 7. Loans where an element of probable loss is present. Critical
credits requiring immediate and drastic action. Loan should probably be charged
off. Bank examiners will probably classify such loans as "Loss."
Loans graded "5", "6" or "7" will automatically be referred to management
for inclusion on our "watch list." We also employ an outside bank consulting
firm to perform an independent annual loan review.
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Nonperforming loans are placed on non-accrual basis of accounting if (i)
there is deterioration in the financial condition of the borrower; (ii) payment
in full of principal or interest is not expected; or (iii) principal or interest
has been in default for 90 days or more, unless the obligation is well secured
and in the process of collection. The three categories of nonperforming loans
are non-accrual status loans, renegotiated debt, and loans in Chapter 13
bankruptcy unless a repayment schedule is adopted that pays out the loan.
CREDIT RISK MANAGEMENT AND RESERVE FOR LOAN LOSSES
Credit risk and exposure to loss are inherent parts of the banking
business. Management seeks to manage and minimize these risks through its loan
and investment policies and loan review procedures. Management establishes and
continually reviews lending and investment criteria and approval procedures that
it believes reflect the risk sensitive nature of our business. The loan review
procedures are set to monitor adherence to the established criteria and to
ensure that on a continuing basis such standards are enforced and maintained.
Management's objective in establishing lending and investment standards is to
manage the risk of loss and provide for income generation through pricing
policies. To effect this policy, management meets weekly to review and approve
loans and meets monthly to review investments.
The loan portfolio is regularly reviewed and management determines the
amount of loans to be charged-off. In addition, such factors as our previous
loan loss experience, prevailing and anticipated economic conditions, industry
concentrations and the overall quality of the loan portfolio are considered.
While management uses available information to recognize losses on loans and
real estate owned, 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 allowances
for losses on loans and real estate owned. Such agencies may require us to
recognize additions to the allowances based on their judgments about information
available at the time of their examinations. In addition, any loan or portion
thereof which is classified as a "loss" by regulatory examiners is charged-off.
The reserve for loan losses is increased by provisions charged to operating
expense. The reserve is reduced by charging off loans or portions of loans at
the time they are deemed by management to be uncollectible and increased when
loans previously charged off are recovered. The resulting reserve for loan
losses is viewed by management as a single, unallocated reserve available for
all loans and, in management's opinion, is adequate to provide for reasonably
foreseeable potential loan losses. Rules and formulas relative to the adequacy
of the reserve, although useful as guidelines to management, are not rigidly
applied. The reserve for loan losses was $630,000 at year end 1998, or 0.7% of
loans outstanding, net of unearned income, compared to $355,000 or 0.7% at year
end 1997. The following table presents data related to our reserve for loan
losses for the second quarter ended June 30, 1999 and 1998 and the years ended
December 31, 1998 and 1997.
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<TABLE>
<CAPTION>
June 30, December 31,
---------------- -----------------
1999 1998 1998 1997
---- ---- ---- ----
(Dollars In Thousands)
<S> <C> <C> <C> <C>
Balance at beginning of period ............................ $630 $355 $355 $130
Charge offs:
Commercial .............................................. -- -- -- --
Real estate mortgage .................................... -- -- -- 1
Installment loans to individuals ........................ 1 -- -- --
---- ---- ---- ----
Recoveries:
Commercial .............................................. -- -- -- --
Real estate mortgage .................................... -- -- -- --
Installment loans to individuals ........................ -- -- -- --
---- ---- ---- ----
Net charge offs ........................................... 1 -- -- 1
Additions to reserve charged to operations ................ 119 128 275 226
---- ---- ---- ----
Balance at end of period .................................. $748 $483 $630 $355
==== ==== ==== ====
Ratio of net charge offs during the period to average loans
outstanding during the period .......................... 0.0% 0.0% 0.0% 0.0%
Average allowance for loan losses to average total loans .. 0.8% 0.7% 0.7% 0.7%
</TABLE>
At June 30, 1999 and 1998 and December 31, 1998 and 1997, the allowance for
loan losses was allocated as follows:
<TABLE>
<CAPTION>
June 30, December 31,
-------------------------------------------------- --------------------------------------------------
1999 1998 1998 1997
------------------------ ------------------------ ----------------------- ------------------------
% of loans in % of loans in % of loans in % of loans in
each category each category each category each category
Amount to total loans Amount to total loans Amount to total loans Amount to total loans
------ -------------- ------ -------------- ------ -------------- ------ --------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial ......... $127 17% $115 15% $ 15 2% $ 12 12%
Real estate mortgage 525 70% 565 76% 460 73% 288 81%
All other .......... 96 13% 68 9% 155 25% 55 7%
---- --- ---- --- ---- --- ---- ---
Total ........... $748 100% $483 100% $630 100% $355 100%
==== === ==== === ==== === ==== ===
</TABLE>
The allocation of the allowance is presented based in part on evaluations
of past history and composition of the loan portfolio. Since these factors are
subject to change, the current allocation of the allowance is not necessarily
indicative of the breakdown of future losses.
The following table sets forth information with respect to our
nonperforming loans on the dates indicated. Accrual of interest is discontinued
when there is reasonable doubt as to the full, timely collections of interest or
principal. When a loan becomes contractually past due 90 days with respect to
interest or principal, it is reviewed and a determination is made as to whether
it should be placed on nonaccrual status. When a loan is placed on nonaccrual
status, all interest previously accrued but not collected is reversed against
current period interest income. Income on such loans is then recognized only to
the extent that cash is received and where the future collection of principal is
probable. Interest accruals are resumed on such loans only when they are brought
fully current with respect to principal and interest and when, in the judgment
of management, the loans are estimated to be fully collectible as to principal
and interest. Restructured loans are those loans on which concessions in terms
have been granted because of a borrower's financial difficulty. Interest is
generally accrued on such loans in accordance with the new terms.
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<PAGE> 34
<TABLE>
<CAPTION>
June 30, December 31,
------------ ------------
1999 1998 1998 1997
---- ---- ---- ----
Nonaccrual past due and restructured loans (Dollars in thousands):
<S> <C> <C> <C> <C>
Nonaccrual loans ................................................................ -- -- -- --
Restructured loans .............................................................. -- -- -- --
Other loans past due 90 days or more to principal or interest payments .......... $ 80 $606 $ 2 $242
Noncurrent loans as a percentage of net loans before allowance for loan losses... 0.08% 0.88% 0.00% 0.48%
Allowance for loan losses as a percentage of noncurrent loans ................... 935% 80% 31,500% 147%
</TABLE>
CAPITAL RESOURCES/LIQUIDITY
Of primary importance to depositors, creditors and regulators is the
ability to have readily available funds sufficient to repay fully maturing
liabilities. Our liquidity, represented by cash and cash due from banks, is a
result of our operating, investing and financing activities. In order to insure
funds are available at all times, we devote resources to projecting on a monthly
basis the amount of funds which will be required and maintain relationships with
a diversified customer base so funds are accessible. Liquidity requirements can
also be met through short-term borrowings or the disposition of short-term
assets which are generally matched to correspond to the maturity of liabilities.
Although we have no formal liquidity policy, in the opinion of management,
its liquidity levels are considered adequate. We are not subject to any specific
liquidity requirements imposed by regulatory orders. Management believes its
liquidity ratios meet or exceed regulatory guidelines. Management does not know
of any trends or demands which are reasonably likely to result in liquidity
increasing or decreasing in any material manner.
The following table sets forth liquidity ratios for the periods indicated:
<TABLE>
<CAPTION>
June 30, December 31,
-------------- --------------
1999 1998 1998 1997
---- ---- ---- ----
<S> <C> <C> <C> <C>
Average loans to average deposits ................... 83.9% 74.1% 81.0% 63.2%
</TABLE>
IMPACT OF INFLATION AND CHANGING PRICES
The consolidated financial statements and related consolidated financial
data presented herein have been prepared in accordance with generally accepted
accounting principles which require the measurement of financial position and
operating results in terms of historical dollars without considering the changes
in the relative purchasing power of money over time and due to inflation. The
impact of inflation on our operations is reflected in increased operating costs.
Unlike most industrial companies, virtually all of our assets and liabilities
are monetary in nature. As a result, interest rates have a more significant
impact on our performance than the effects of general levels of inflation.
Interest rates do not necessarily move in the same direction or in the same
magnitude as the price of goods and services.
CAPITAL ADEQUACY
Capital adequacy refers to the level of capital required to sustain asset
growth over time and to absorb losses. Our management's objective is to maintain
a level of capitalization that is sufficient to take advantage of profitable
growth opportunities while meeting regulatory requirements. This is achieved by
improving profitability through effectively allocating resources to more
profitable businesses, improving asset quality, strengthening service quality,
and streamlining costs. The primary measures used by management to monitor the
results of these efforts are the ratios of average equity to average assets,
average tangible equity to average tangible assets, and average equity to net
loans.
Capital guidelines require the maintenance of an amount of capital based on
risk-adjusted assets so that categories of assets with potentially higher credit
risk will require more capital backing than assets with lower risk. In addition,
financial institutions and their holding companies are required to maintain
capital to support, on a risk-adjusted basis, certain off-balance sheet
activities such as loan commitments.
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<PAGE> 35
The capital guidelines classify capital into two tiers, referred to as Tier
I and Tier II. Under risk-based capital requirements, total capital consists of
Tier I capital which is generally common stockholders' equity less goodwill and
Tier II capital which is primarily a portion of the allowance for loan losses
and certain qualifying debt instruments. In determining risk-based capital
requirements, assets are assigned risk-weights of 0% to 100%, depending
primarily on the regulatory assigned levels of credit risk associated with such
assets. Off-balance sheet items are considered in the calculation of
risk-adjusted assets through conversion factors established by the regulators.
The framework for calculating risk-based capital requires financial institutions
to meet the regulatory minimums of 4% Tier I and 8% total risk-based capital and
prepare a leveraged computation comparing Tier I capital to total average assets
less goodwill.
Our consolidated capital ratios are set forth below.
<TABLE>
<CAPTION>
June 30, December 31, December 31,
1999 1998 1997
--------- -------- -------
(Dollars in Thousands)
<S> <C> <C> <C>
CAPITAL:
Tier I capital:
Stockholders' common equity ..................................... $ 11,628 $ 11,570 $10,903
Less unrealized (loss) gain in securities ....................... (345) 40 25
Less disallowed intangibles ..................................... -- -- --
--------- -------- -------
Total Tier I capital ................................... 11,973 11,530 10,878
Tier II capital:
Qualifying allowance for loan losses ............................ 748 630 355
--------- -------- -------
Total capital .......................................... 12,722 12,161 11,233
Risk-adjusted assets ................................................. 87,355 74,160 43,237
Quarterly average assets ............................................. 137,769 108,452 77,462
RATIOS:
Tier I capital to risk-adjusted assets ............................... 13.71% 15.55% 25.16%
Tier II capital to risk-adjusted assets .............................. 0.86% 0.85% 0.82%
Total capital to risk-adjusted assets ................................ 14.56% 16.40% 25.98%
Leverage-- Tier I capital to quarterly average assets less disallowed 8.69% 10.63% 14.04%
intangibles
</TABLE>
On June 30, 1999, we exceeded the regulatory minimums and qualified as a
well-capitalized institution under the regulations.
EMPLOYEES
At June 30, 1999, we had a total of 46 employees, with 34 of those employed
on a full-time basis.
SUPERVISION AND REGULATION
GENERAL
As a Tennessee-chartered, federally-insured savings bank, the Savings
Bank is subject to extensive regulation. Lending activities and other
investments must comply with various statutory and regulatory requirements,
including prescribed minimum capital standards. The Savings Bank is regularly
examined by the FDIC and the Tennessee Department of Financial Institutions and
files periodic reports concerning its activities and financial conditions with
its regulators. The Savings Bank's relationship with depositors and borrowers is
also regulated to a great extent by both federal law and the laws of the State
of Tennessee, especially in such matters as the ownership of accounts and the
form and content of mortgage documents.
Federal and state banking laws and regulations govern all areas of the
operation of the Savings Bank, including reserves, loans, mortgages, capital,
issuance of securities, payment of dividends and establishment of branches.
Federal and state bank regulatory agencies also have the general authority to
limit the dividends paid by insured banks if such payments should be deemed to
constitute an unsafe and unsound practice. Both the Tennessee Department of
Financial
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<PAGE> 36
Institutions and the FDIC have the authority to impose penalties, initiate civil
and administrative actions and take other steps intended to prevent banks from
engaging in unsafe or unsound practices.
TENNESSEE SUPERVISION AND REGULATION
As a Tennessee-chartered savings bank, the Savings Bank is subject to
various state laws and regulations which limit the amount that can be loaned to
a single borrower, the type of permissible investments, and geographic
expansion, among other things. The Savings Bank must submit an application and
receive the approval of the Tennessee Department of Financial Institutions
before opening a new branch office or merging with another financial
institution. The Commissioner of the Department has the authority to enforce
state laws and regulations by ordering a director, officer or employee of the
Savings Bank to cease and desist from violating a law or regulation and from
engaging in unsafe or unsound banking practices.
The Savings Bank is chartered under the Savings Bank Chartering Act of
1991. The Tennessee Department of Financial Institutions has not yet promulgated
any regulations governing the operation of savings banks. However, the Savings
Bank Act contains a "parity provision" that authorizes the Department to
promulgate regulations authorizing savings banks to make any investment or
engage in any activity that is permissible for federally-chartered savings
banks, subject to the same limitations applicable to federally-chartered savings
bank, upon the Commissioner's determination that Tennessee-chartered savings
banks would be at a competitive disadvantage absent such authorization.
FEDERAL REGULATION
Deposit Insurance. Our deposit accounts are insured by the FDIC up to
applicable limits by the Bank Insurance Fund. The Bank Insurance Fund was
designated as an insurance fund pursuant to the Financial Institutions Reform,
Recovery and Enforcement Act of 1989. As insurer, the FDIC issues regulations,
conducts examinations, requires the filing of reports and generally supervises
and regulates the operations of state-chartered banks that are not members of
the Federal Reserve System. FDIC approval is required prior to any merger or
consolidation involving state, nonmember banks, or the establishment or
relocation of an office facility thereof. FDIC supervision and regulation is
intended primarily for the protection of depositors and the FDIC insurance
funds.
Pursuant to the Federal Deposit Insurance Act, as amended, all Bank
Insured Fund-insured banks must pay semiannual insurance assessments to
recapitalize the Bank Insurance Fund to a 1.25% of insured deposits ratio. In
August 1995, the FDIC substantially reduced deposit insurance premiums for
well-capitalized, well-managed Bank Insurance Fund-insured institutions to the
lowest assessment rate of 4 basis points per $100 of assessable deposits. The
Bank Insurance Fund premium reduction became effective in September 1995. Any
insured bank which does not operate in accordance with or conform to FDIC
regulations, policies and directives may be sanctioned for non-compliance. For
example, proceedings may be instituted against any insured bank or any director,
officer or employee of such bank who engages in unsafe and unsound practices,
including the violation of applicable laws and regulations. The FDIC has the
authority to terminate deposit insurance pursuant to procedures established for
that purpose.
At December 31, 1998, our deposit base for purposes of FDIC premiums was
$94.8 million. We paid FDIC insurance premiums of $9,090 in 1998.
Prompt Corrective Action. Under Section 38 of the Federal Deposit
Insurance Act, as amended, each federal banking agency is required to implement
a system of prompt corrective action for institutions which it regulates. The
federal banking agencies have promulgated substantially similar regulations to
implement this system of prompt corrective action. Under the regulations, an
institution shall be deemed to be:
- - "well capitalized" if it has a total risk-based capital ratio of 10.0% or
more, has a Tier 1 risk-based capital ratio of 6.0% or more, has a Tier 1
leverage capital ratio of 5.0% or more and is not subject to specified
requirements to meet and maintain a specific capital level for any capital
measure;
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<PAGE> 37
- - "adequately capitalized" if it has a total risk-based capital ratio of 8.0%
or more, a Tier 1 risk-based capital ratio that is 4.0% or more, or a Tier
1 leverage capital ratio that is 4.0% or more;
- - "undercapitalized" if it has a total risk-based capital ratio of less than
8.0%, a Tier 1 risk-based capital ratio that is less than 4.0% or a Tier 1
leverage capital ratio that is less than 4.0% (3.0% under certain
circumstances);
- - "significantly undercapitalized" if it has a total risk-based capital ratio
that is less than 6.0%, a Tier 1 risk-based capital ratio that is less than
3.0% or a Tier 1 leverage capital ratio that is less than 3.0%; and
- - "critically undercapitalized" if it has a ratio of tangible equity to total
assets that is equal to or less than 2.0%.
Section 38 of the Federal Deposit Insurance Act and the implementing
regulations also provide that a federal banking agency may, after notice and an
opportunity for a hearing, reclassify a well-capitalized institution as
adequately capitalized and may require an adequately capitalized institution or
an undercapitalized institution to comply with supervisory actions as if it were
in the next lower category if the institution is an unsafe or unsound condition
or engaging in an unsafe or unsound practice. (The FDIC may not, however,
reclassify a significantly undercapitalized institution as critically
undercapitalized).
An institution generally must file a written capital restoration plan
which meets specified requirements, as well as performance guaranty by each
company that controls the institution, with the appropriate federal banking
agency within 45 days of the date that the institution receives notice or is
deemed to have notice that it is undercapitalized, significantly
undercapitalized or critically undercapitalized. Immediately upon becoming
undercapitalized, an institution shall become subject to the provisions of
Section 38 of the Federal Deposit Insurance Act, which set forth various
mandatory and discretionary restrictions on its operations.
Standards for Safety and Soundness. The Federal Deposit Insurance Act
requires the federal banking regulatory agencies to prescribe, by regulation,
standards for all insured depository institutions relating to:
- internal controls, information systems and internal audit systems;
- loan documentation;
- credit underwriting;
- interest rate risk exposure;
- asset growth; and
- compensation, fees and benefits.
The federal banking agencies have adopted regulations and Interagency Guidelines
Prescribing Standards for Safety and Soundness to implement safety and soundness
standards required by the Federal Deposit Insurance Act. These Guidelines set
forth the safety and soundness standards that the federal banking agencies use
to identify and address problems at insured depository institutions before
capital becomes impaired. The agencies also adopted asset quality and earnings
standards which are part of these Guidelines. Under the regulations, if the FDIC
determines that we fail to meet any standards prescribed by these Guidelines,
the agency may require us to submit to the agency an acceptable plan to achieve
compliance with the standard, as required by the Federal Deposit Insurance Act.
The final regulations establish deadlines for the submission and review of such
safety and soundness compliance plans.
Capital Requirements. The FDIC's minimum capital standards applicable to
FDIC-regulated banks and savings bank require the most highly-rated institutions
to meet a "Tier 1" leverage capital ratio of at least 3.0% of total assets. Tier
1 (or "core capital") consists of common stockholders' equity, noncumulative
perpetual preferred stock and minority interests in consolidated subsidiaries
minus all intangible assets other than limited amounts of purchased mortgage
servicing rights and certain other accounting adjustments. All other banks must
have a Tier 1 leverage ratio of at least 100-200 basis points above the 3%
minimum. The FDIC capital regulations establish a minimum leverage ratio of not
less than 4% for banks that are not highly rated or are anticipating or
experiencing significant growth.
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<PAGE> 38
FDIC capital regulations require higher capital levels for banks which
exhibit more than a moderate degree of risk or exhibit other characteristics
which necessitate that higher than minimum levels of capital be maintained. Any
insured bank with a Tier 1 capital to total assets ratio of less than 2% is
deemed to be operating in an unsafe and unsound condition pursuant to Section
8(a) of the Federal Deposit Insurance Act unless the insured bank enters into a
written agreement, to which the FDIC is a party, to correct its capital
deficiency. Insured banks operating with Tier 1 capital levels below 2% (and
which have not entered into a written agreement) are subject to an insurance
removal action. Insured banks operating with lower than the prescribed minimum
capital levels generally will not receive approval of applications submitted to
the FDIC. Also, inadequately capitalized state nonmember banks will be subject
to such administrative action as the FDIC deems necessary.
FDIC regulations also require that savings banks meet a risk-based
capital standard. The risk-based capital standard requires the maintenance of
total capital (which is defined as Tier 1 capital and Tier 2 or supplementary
capital) to risk weighted assets of 8% and Tier 1 capital to risk-weighted
assets of 4%. In determining the amount of risk- weighted assets, all assets,
plus certain off balance sheet items, are multiplied by a risk-weight of 0% to
100%, based on the risks the FDIC believes are inherent in the type of asset or
item. The components of Tier 1 capital are equivalent to those discussed above
under the 3% leverage requirement. The components of mandatory convertible
securities, term subordinated debt, intermediate-term preferred stock and
allowance for possible loan and lease losses. Allowance for possible loan and
lease losses includable in supplementary capital is limited to a maximum of
1.25% of risk-weighted assets. Overall, the amount of capital counted toward
supplementary capital cannot exceed 100% of Tier 1 capital. The FDIC includes in
its evaluation of a bank's capital adequacy an assessment of risk-based capital
focusing principally on broad categories of credit risk. No measurement
framework for assessing the level of a bank's interest rate risk exposure has
been codified but, effective board and senior management oversight of the banks
tolerance for interest rate risk is required.
The FDIC has adopted the Federal Financial Institutions Examination
Council's recommendation regarding the adoption of Statement of Financial
Accounting Standard No. 115, "Accounting for Certain Investments in Debt and
Equity Securities." Specifically, the agencies determined that net unrealized
holding gains or losses on available for sale debt and equity securities should
not be included when calculating core and risk-based capital ratios.
FDIC capital requirements are designated as the minimum acceptable
standards for banks whose overall financial condition is fundamentally sound,
which are well-managed and have no material or significant financial weakness.
The FDIC capital regulations state that, where the FDIC determines that the
financial history or condition, including off- balance sheet risk, managerial
resources and/or the future earnings prospects of a bank are not adequate and/or
a bank has a significant volume of assets classified substandard, doubtful or
loss or otherwise criticized, the FDIC may determine that the minimum adequate
amount of capital for that bank is greater than the minimum standards
established in the regulation.
We believe that, under the current regulations, the Savings Bank has
sufficient capital to meet its minimum capital requirements. However, events
beyond the control of the Savings Bank, such as a downturn in the economy in
areas where the Savings Bank has most of its loans, could adversely affect
future earnings and, consequently, the ability of the Savings Bank to meet its
capital requirements.
Activities and Investments of Insured State-Chartered Banks. Section 24
of the Federal Deposit Insurance Act, as amended, generally limits the
activities and equity investments of FDIC-insured, state-chartered banks to
those that are permissible for national banks. Under regulations dealing with
equity investments, an insured state bank generally may not directly or
indirectly acquire or retain any equity investment of a type, or in an amount,
that is not permissible for a national bank. An insured state bank is not
prohibited from, among other things,
(1) acquiring or retaining majority interest in a subsidiary,
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<PAGE> 39
(2) investing as a limited partner in a partnership the sole purpose of
which is direct or indirect investment in the acquisition, rehabilitation
or new construction of a qualified housing project, provided that such
limited partnership investment may not exceed 2% of the bank's total
assets,
(3) acquiring up to 10% of the voting stock of a company that solely
provides or reinsures directors', trustees' and officers' liability
insurance coverage or bankers' blanket bond group insurance coverage for
insured depository institutions, and
(4) acquiring or retaining the voting shares of a depository institution
if certain requirements are met. State law also provides that the Savings
Bank may invest in any investment permissible by federally chartered
savings banks, subject to the restrictions for such entities.
FDIC regulations implementing Section 24 of the Federal Deposit Insurance
Act provide that an insured state-chartered 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 insurance fund of which it is a member and
the bank is in compliance with applicable regulatory capital requirements. Any
insured state-chartered bank or savings bank directly or indirectly engaged in
any activity that is not permitted for a national bank must cease the
impermissible activity.
Loans-to-One-Borrower. The aggregate amount of loans that we are
permitted to make under applicable regulations to any one borrower, including
related entities, is the greater of 25% of unimpaired capital with Board
approval. Based on our current capitalization of $11.6 million, our loans-to-one
borrower limit is approximately $2.9 million.
Federal Reserve System. In 1980, Congress enacted legislation which
imposed Federal Reserve requirements on all depository institutions that
maintain transaction accounts or non-personal time deposits. These reserves may
be in the form of cash or non-interest-bearing deposits with the regional
Federal Reserve Bank. NOW accounts and other types of accounts that permit
payments or transfers to third parties fall within the definition of transaction
accounts and are subject to these reserve requirements, as are any non-personal
time deposits at a bank.
Community Reinvestment Act. We are also subject to the provisions of the
Community Reinvestment Act of 1977, which requires the appropriate federal bank
regulatory agency, in connection with its regular examination of a bank, to
assess the bank's record in meeting the credit needs of the community serviced
by the bank, including low and moderate income neighborhoods. The regulatory
agency's assessment of the bank's record is made available to the public.
Further, such assessment is required of any bank which has applied, among other
things, to establish a new branch office that will accept deposits, relocate an
existing office or merge or consolidate with, or acquire the assets or assume
the liabilities of, a federally regulated financial institution. As a component
of its Community Reinvestment Act outreach, we have instituted an affordable
home loan program for first-time home buyers and low to moderate income
borrowers. We also offer Tennessee Housing Development Authority, Veterans
Administration and Federal Home Administration loans.
Interstate Banking. On September 29, 1994, the Federal government enacted
the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994. The
provisions of this Act became effective on September 29, 1995, at which time
eligible bank holding companies in any state were permitted, with Federal
Reserve approval, to acquire organizations in any other state. As such, all
existing regional compacts and substantially all existing regional limitations
on interstate acquisitions of banking organizations have been eliminated. This
Act also removed substantially all of the existing prohibitions on interstate
branching by banks. On and after June 1, 1997, a bank operating in any state may
establish one or more branches within any other state without the establishment
of a separate banking structure within the other state.
Under the Tennessee Bank Reform Act of 1996 that amended the Tennessee
Banking Act, the acquisition of Tennessee banks and bank holding companies by,
and mergers with, out-of-state banks and bank holding companies is permitted
with the prior approval of the Department subject to the requirements of the
Act. An amendment to the
38
<PAGE> 40
Bank Reform Act of 1996, effective June 1, 1997, also permits Tennessee state
banks and savings banks, with prior approval of the Department of Financial
Institutions, to operate branches outside the state of Tennessee. Although this
legislation has the potential to increase the number of competitors in our
market place, we cannot predict the actual impact of such legislation on our
competitive position. Out-of-state banks may not, under current Tennessee law,
branch de novo into Tennessee nor may out-of-state banks or bank holding
companies enter Tennessee through "branch-only" acquisition.
CHANGE IN CONTROL RESTRICTIONS
Statutory Provisions. The Change in Bank Control Act requires the written
consent of the FDIC be obtained prior to any person or company acquiring
"control" of a state-chartered savings bank. Tennessee law also requires the
prior written consent of the Department of Financial Institutions to acquire
control of a Tennessee-chartered savings bank. Upon acquiring control, a company
will be deemed to be a bank holding company and must register with the Federal
Reserve. Conclusive control is presumed to exist if, among other things, an
individual or company acquires more than 25% of any class of our voting stock.
Rebuttable control is presumed to exist if, among other things, a person
acquires more than 10% of any class of voting stock and the issuer's securities
are registered under Section 12 of the Securities Exchange Act of 1934 or the
person would be the single largest stockholder. Restrictions applicable to the
operations of a bank holding company and conditions that may be imposed by the
Federal Reserve in connection with its approval of a company to become a bank
holding company may deter companies from seeking to obtain control of State of
Franklin.
Other. While not directly restricting efforts to acquire control of State
of Franklin, certain other characteristics of our organization may discourage
attempts to acquire control of us. Our By-Laws provide that approximately
one-third of our Board of Directors are elected each year, thereby making it
more difficult for a potential acquirer of control of State of Franklin to
replace the members of the Board of Directors than it would be if directors were
elected at more frequent intervals or if a greater percentage of directors were
elected at any one time.
The restrictions contained in the Change of Bank Control Act and the
regulations promulgated thereunder will apply to acquisitions of the common
stock in the offering. In addition, as a result of all of the foregoing
restrictions on acquisitions, State of Franklin is a less attractive target for
a "takeover" attempt than other less-highly regulated companies generally.
Accordingly, these restrictions might deter offers to purchase State of Franklin
which stockholders may consider to be in their best interests, and may make it
more difficult to remove incumbent management.
REGULATION OF BANK HOLDING COMPANIES
We are subject to regulation by the Federal Reserve and are required to
file with the Federal Reserve annual reports and other information regarding its
business operations and the business operations of our subsidiaries. We are also
subject to examination by the Federal Reserve and are required to obtain Federal
Reserve approval prior to acquiring, directly or indirectly, ownership or
control of voting shares of any bank if, after such acquisition, it will own or
control, directly or indirectly, more than 5% of the voting stock of such bank.
In addition, pursuant to the provisions of the Bank Holding Company Act of 1956,
as amended, and regulations promulgated by the Federal Reserve thereunder, the
bank holding company is only able to engage in, or own or control companies that
engage in, activities deemed by the Federal Reserve to be so closely related to
banking as to be a proper incident thereto.
DIVIDENDS
During the first three years of the Savings Bank's operation it has been
precluded from declaring and paying dividends in accordance with the
requirements of the Tennessee Department of Financial Institutions. Except for a
$5,000 dividend paid by the Savings Bank to State of Franklin to cover
organizational expenses, which was approved by the Department of Financial
Institutions, earnings generated from the operation of the Savings Bank have
been used to finance the growth of the Savings Bank. Following the mandatory
initial three-year moratorium on the payment
39
<PAGE> 41
of dividends imposed by regulatory authorities, the Board of Directors will
determine whether dividends on the common stock will be declared and paid,
taking into consideration our operating results, financial condition, tax
considerations, future capital requirements and other relevant factors. The
Directors may declare a no-cash dividend if, after considering the above
factors, it appears prudent to do so. The Directors are not, however, obligated
to pay any such dividend and will only do so if it appears to be in the best
interest of State of Franklin.
Tennessee law requires that dividends be paid only from retained earnings
(or undivided profits), except that dividends may be paid from capital surplus
with the prior, written consent of the Department of Financial Institutions.
Tennessee laws regulating savings banks require certain charges against and
transfers from an institution's undivided profits account before undivided
profits can be made available for the payment of dividends. The Department
generally prohibits a newly chartered institution from paying dividends during
its first three years of operation without the Department's prior approval.
MONETARY POLICY
We, like other depository institutions, are affected by the monetary
policies implemented by the Federal Reserve. The Federal Reserve has the power
to restrict or expand the money supply through open market operations, including
the purchase and sale of government securities and the adjustment of reserve
requirements. These actions may result in significant fluctuations in market
interest rates, which could adversely affect our operations, such as our ability
to make loans and attract deposits, as well as market demand for loans.
CAPITAL ADEQUACY
See "Capital Adequacy" above for a discussion of bank regulatory
agencies' capital adequacy requirements.
40
<PAGE> 42
MANAGEMENT
DIRECTORS AND EXECUTIVE OFFICERS
The following table provides certain information regarding the directors
of State of Franklin.
<TABLE>
<CAPTION>
DIRECTOR
NAME AGE POSITIONS SINCE PRINCIPAL OCCUPATION
---- --- --------- ----- --------------------
<S> <C> <C> <C> <C>
Charles E. Allen, Jr. 38 Chairman of the Board, 1996 Banker
State of Franklin
Bancshares, Inc.;
Chairman of the Board
and Chief Financial
Officer, State of
Franklin Savings Bank
Randal R. Greene 40 President, State of 1996 Banker
Franklin Bancshares,
Inc.; President and Chief
Executive Officer, State
of Franklin Savings
Bank; Director
Charles E. Allen, Sr. 68 Director 1996 Physician
Vance W. Cheek 75 Director 1996 Banker, retired
Kenneth E. Cutshall 38 Director 1996 Physician
Steven K. Gross 52 Director 1996 Chief Financial Officer and
owner, Microporous Products, LP
Donald R. Jeanes 53 Director 1996 President, Milligan College
Verrill M. Norwood, Jr. 68 Director 1996 Environmental consultant
Cameron E. Perry 69 Director 1996 Banker, retired
Richard S. Venable 55 Director 1996 Owner and President, R.S.V., Inc.
Henry J. Williams, M.D. 63 Director 1996 Physician
</TABLE>
These persons have served as directors of the State of Franklin Savings
Bank since 1996 and as directors of State of Franklin Bancshares, Inc. since its
formation in May 1998. Charles E. Allen, Sr, M.D., is the father of Charles E.
Allen, Jr. Verrill M. Norwood, Jr., is the father-in-law of Randal R. Greene. No
director of State of Franklin is a director or executive officer of another bank
holding company, bank, savings and loan association, or credit union. The
principal occupations and employments of the persons listed above are for the
past five years except as described below:
CHARLES E. ALLEN, JR., has served as Chairman of the Board and Chief
Financial Officer of the Savings Bank since its inception in February 1996 and
Chairman of the Board of State of Franklin Bancshares, Inc. since its
organization in May 1998. He is a certified public accountant and a certified
financial planner. He served two terms in the Tennessee General Assembly from
1990-1994. Previously he was an investment broker with J.C. Bradford & Co.,
until his resignation in August 1995 to form the Savings Bank. He is also
president of Charles E. Allen Co. Inc. which manages and is owner/partner in six
Stowaway Self Service Storage facilities in East Tennessee and western North
Carolina.
RANDAL R. GREENE has served as President and Chief Executive Officer of
the Savings Bank since its inception in February 1996 and President of State of
Franklin Bancshares, Inc. since its organization in May 1998. Previously, Mr.
Greene was a senior vice president of First American National Bank serving as
division manager of the corporate
41
<PAGE> 43
division responsible for the Johnson City, Kingsport and Bristol markets. Mr.
Greene has served in various capacities in the banking industry in Johnson City
since 1984.
DONALD R. JEANES has served as the President of Milligan College since
July 1, 1997. He was formerly the minister of First Christian Church, Johnson
City, Tennessee.
DIRECTORS' COMPENSATION
During 1998, the directors did not receive any fees for attending board
or committee meetings. However, in 1998 each outside director received options
exercisable for 2,279 shares of common stock.
EXECUTIVE COMPENSATION
The following table sets forth the aggregate cash compensation paid to
our Chairman and to our President. No other executive officer received cash
compensation in excess of $100,000 (determined as of the end of 1998) for the
years ended December 31, 1998, 1997 and 1996.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG TERM
ANNUAL COMPENSATION COMPENSATION
---------------------------------- ------------
SECURITIES
UNDERLYING
NAME AND POSITION YEAR SALARY ($) BONUS ($) OPTIONS/SARS(#)
- ----------------- ---- ---------- --------- ---------------
<S> <C> <C> <C> <C>
CHARLES E. ALLEN, JR............................ 1998 114,167 15,000 25,064
CHAIRMAN OF THE BOARD 1997 105,000 -- 30,500
1996 110,000 -- --
RANDAL R. GREENE................................ 1998 114,167 15,000 25,064
PRESIDENT 1997 105,000 -- 30,500
1996 110,000 -- --
</TABLE>
The following table discloses the grant of stock options in fiscal year
1998 to the executive officers.
<TABLE>
<CAPTION>
OPTIONS/SARS GRANTED IN LAST FISCAL YEAR
- ------------------------------------------------------------------------------------------------------------------------------
INDIVIDUAL GRANTS Potential realizable
value at assumed
annual rates of stock
price appreciation for
option term(1)
- -------------------------------------------------------------------------------------------------- -----------------------
Number of Percent of
securities total options
underlying granted to Exercise or
options employees in base price Expiration
Name granted (#) fiscal year ($/sh) date 5%($) 10% ($)
---- ----------- ----------- ------ ---- ----- -------
<S> <C> <C> <C> <C> <C> <C>
Charles E. Allen, Jr...... 25,064 50% 11.00 None 173,389 439,401
Randal R. Greene ......... 25,064 50% 11.00 None 173,389 439,401
</TABLE>
- ----------
(1) Assumes a ten-year term for the options.
42
<PAGE> 44
The following table discloses information regarding stock options held at
the end of or exercised in fiscal year 1998 for each of the executive officers
as of December 31, 1998.
<TABLE>
<CAPTION>
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR
AND FISCAL YEAR-END OPTION/SAR VALUES
- ----------------------------------------------------------------------------------------------------------------------------
Shares Securities underlying Value of unexercised
acquired on Value unexercised options in-the-money options
Name exercise(1) realized(1) at December 31, 1998 at December 31, 1998 (2)
---- ----------- ----------- -------------------------------- -----------------------------
Exercisable Unexercisable Exercisable Unexercisable
----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Charles E. Allen, Jr..... --- --- 11,113 44,451 6,100 24,400
Randal R. Greene ........ --- --- 11,113 44,451 6,100 24,400
</TABLE>
- -----------------
(1) As of December 31, 1998, no options have been exercised by the executive
officers under the Stock Incentive Plan.
(2) Based on an appraisal by an independent third party of $11.00 per share.
SECURITIES LAW LIMITATIONS
Insofar as indemnification for liabilities arising under the Securities
Act may be permitted to our directors, officers or controlling persons, we have
been advised that, in the opinion of the SEC, such indemnification is against
public policy as expressed in the Securities Act and is, therefore,
unenforceable.
CERTAIN BENEFIT PLANS AND AGREEMENTS
State of Franklin Savings Bank Stock Incentive Plan
In December 1996, the Board of Directors of the Savings Bank adopted the
State of Franklin Savings Bank Stock Incentive Plan pursuant to which the Board
of Directors may grant incentive stock options (within the meaning of the
Internal Revenue Code of 1986, as amended ) and nonqualified options to our
employees for the purchase of our common stock. This plan was approved by the
shareholders in April 1999. This plan is intended to provide incentives to, and
rewards for our employees who have contributed and will continue to contribute
to our success. The option prices are determined by the Board of Directors, but
option prices may not be less than 100% of the fair market value of the common
stock on the date the option is granted. An aggregate of 500,000 shares of
common stock has been reserved for issuance under this plan subject to
appropriate adjustments for stock splits, dividends and other transactions or
events as described in the plan. All options may be exercised at such times and
in such amounts as may be determined at the time of the granting of the options
by the Board of Directors.
Options may be exercised within 30 days, or such longer period as the
Board of Directors may determine, after retirement, resignation, or termination
of the option holder's employment or service with us, but only to the extent
that they had become exercisable at retirement, resignation or termination. Any
unexercised options shall expire in the event of an option holder's retirement
or dismissal or otherwise as described above. Under certain circumstances
involving change of control of State of Frankling, the Board of Directors may
accelerate the exercisability and termination of the option.
The Board of Directors may, at any time, amend, modify, suspend or
terminate this plan; provided however, that no amendment may increase the limit
on the maximum number of shares which may be issued upon exercise of options
without approval by our shareholders.
An employee to whom an incentive stock option which qualifies under
Section 422 of the Code is granted will not recognize income at the time of
grant or exercise of such option. However, upon the exercise of an incentive
stock option, any excess in the fair market price of the common stock over the
option price constitutes a tax preference item which may have alternative
minimum tax consequences for the employee. If the employee sells such shares
more than
43
<PAGE> 45
one year after the date of transfer of such shares and more than two years after
the date of grant of the incentive stock option, the employee will generally
recognize a long-term capital gain or loss equal to the difference, if any,
between the sale prices of the shares and the option price. We will not be
entitled to a federal income tax deduction in connection with the grant or
exercise of the incentive stock option. If the employee does not hold the shares
for the required period, when the employee sells the shares, the employee will
recognize ordinary compensation income and possibly capital gain or loss
(long-term or short-term depending on the holding period of the stock sold) in
the amounts as are prescribed by the Code and the regulations thereunder and we
will generally be entitled to a Federal income tax deduction in the amount of
the ordinary compensation income recognized by the employee.
An employee to whom a nonqualified stock option is granted will not
recognize income at the time of grant of the option. When an employee exercises
a nonqualified stock option, the employee will recognize ordinary compensation
income equal to the excess, if any, of the fair market value, as of the date of
option exercise, of the shares the employee receives upon the exercise over the
option price paid. The tax basis of such shares to the employee will be equal to
the option price paid plus the amount, if any, includible in the employee's
gross income, and the employee's holding period for the shares will commence on
the date on which the employee recognizes taxable income in respect of the
shares. Gain or loss upon a subsequent sale of any common stock received upon
the exercise of a nonqualified stock option generally would be taxed as capital
gain or loss (long-term or short-term, depending upon the holding period of the
stock sold). Subject to the applicable provisions of the Code and regulations
thereunder, we will generally be limited to a Federal income tax deduction in
respect of a nonqualified stock option in an amount equal to the ordinary
compensation income recognized by the employee. This deduction will, in general,
be allowed for the taxable year in which the participant recognizes the ordinary
income.
There are options outstanding under the plan exercisable for 111,128
shares of common stock at December 31, 1998.
Stock Option Plan for Outside Directors. The Stock Option Plan for
Outside Directors was also adopted by the Board of Directors of the Savings Bank
in December 1996. This plan is intended to encourage stock ownership by our
directors and to provide those individuals with an additional incentive to
manage State of Franklin in the shareholders' best interests and to provide a
form of compensation that will attract and retain highly qualified individuals
as members of the board. This plan provides for the granting of options to
outside directors, subject to certain adjustments reflecting changes in our
capitalization. The full board may make discretionary grants of options and
determine the terms and conditions of these options. Each member of the board
who is not an employee of State of Franklin is eligible to participate; however,
grants made must be approved by the full board with such member abstaining. This
plan requires that the exercise price for each option granted under the plan
must equal 100% of the fair market value of our common stock on the date the
option is granted. Nothing contained in the plan or any agreement to be executed
pursuant to the plan will obligate State of Franklin, the board or our
shareholders to retain an optionee as a director.
There are options outstanding under this plan exercisable for 53,218
shares of common stock at December 31, 1998.
EMPLOYMENT AGREEMENTS
We do not have employment agreements with any of our executive officers.
CERTAIN TRANSACTIONS
We have had and expect to have in the future banking and other business
transactions in the ordinary course of our banking business with directors,
officers, and 10% beneficial owners and their affiliates, including members of
their families, or corporations, partnerships, or other organizations in which
the officers or directors have a controlling interest, on substantially the same
terms (including price, or interest rates and collateral) as those prevailing at
the time for comparable transactions with unrelated parties. Any of these
banking transactions will not involve more than the normal risk of
collectibility nor present other unfavorable features to State of Franklin or
the Savings Bank.
The Savings Bank leases office space from a partnership, Allen and Allen.
Charles E. Allen, Jr., the Chairman of the Board of State of Franklin and
Charles E. Allen, Sr., M.D., a director of State of Franklin, are principals in
Allen
44
<PAGE> 46
and Allen. The 2,625 square foot building houses the Savings Bank's Browns Mill
Road branch. Rent during the past two years has been $11.66 per square foot or
$30,600 annually. Effective September 1, 1999, we exercised our option to renew
the lease for three years and rent increased to $35,190 annually. This amount
includes taxes, insurance and maintenance.
PRINCIPAL SHAREHOLDERS
As of September 1, 1999, our records indicated that the following number
of shares were beneficially owned by (1) each person known by us to beneficially
own more than 5% of our shares; (2) each Director and executive officer; and (3)
all Directors and executive officers as a group. Unless otherwise indicated,
beneficial ownership is direct and the person indicated has sole voting and
investment power.
<TABLE>
<CAPTION>
Amount and Nature
of Beneficial
Ownership Percent
NAME OF BENEFICIAL OWNER (Number of Shares) of Class(1)
------------------------ ------------------ -----------
<S> <C> <C>
Charles E. Allen, Jr.(2) .................................. 125,918 10.4%
Randal R. Greene(2) ....................................... 99,706 8.3
Charles E. Allen, Sr., M.D ................................ 26,666 2.2
Vance W. Cheek ............................................ 9,166 *
Kenneth E. Cutshall, M.D................................... 22,366 1.9
Stephen K. Gross .......................................... 25,985 2.2
Donald R. Jeanes .......................................... 5,666 *
Verrill M. Norwood, Jr. ................................... 36,666 3.1
Cameron E. Perry .......................................... 11,666 *
Richard S. Venable ........................................ 11,666 *
Henry J. Williams, Jr., M.D. .............................. 57,436 4.8
Directors and executive officers as a group (11 persons)(3) 374,358 30.2%
</TABLE>
- ----------
* Less than 1%
(1) Unless otherwise indicated, beneficial ownership consists of sole voting
and investing power based on 1,190,427 shares issued and outstanding on
September 1, 1999. Such shares are deemed to be outstanding for the
purpose of computing the percentage of outstanding shares owned by each
person to whom a portion of such options relate but are not deemed to be
outstanding for the purpose of computing the percentage owned by any
other person.
(2) Includes 58,549 unallocated shares held by the Employee Stock Ownership
Plan for which Mr. Allen and Mr. Greene serve as co-trustees.
(3) Includes 49,420 shares issuable upon the exercise of options granted
under the Stock Incentive Plan and 58,549 unallocated shares held by the
Employee Stock Ownership Plan.
45
<PAGE> 47
DESCRIPTION OF COMMON STOCK
GENERAL
Our authorized capital stock consists of 10 million shares of common
stock $1.00 par value per share, of which 1,190,427 shares are issued and
outstanding. We have reserved 500,000 shares of common stock for issuance
pursuant to director and executive officer stock options. The issued and
outstanding shares of common stock are validly issued, fully paid and
nonassessable. The holders of outstanding shares of common stock are entitled to
receive dividends out of assets legally available therefor at such times and in
such amounts as the Board of Directors may from time to time determine. The
declaration and payment of dividends by the Board of Directors is subject to the
rules and regulations of the Federal Reserve Board governing the amount of
dividends which may be paid to shareholders, the manner in which dividends may
be paid and the methods, if any, by which capital stock and surplus may be
retired and reduced. For more information on the declaration of dividends, see
"Dividend Policy."
The shares of common stock are not redeemable or convertible, and the
holders thereof have no preemptive or subscription rights to purchase any
securities of State of Franklin. Upon liquidation, dissolution or winding up of
State of Franklin, the holders of common stock are entitled to receive pro rata
the assets of State of Franklin which are legally available for distribution
after payment of all debts and other liabilities. Each outstanding share of
common stock is entitled to one vote on all matters submitted to a vote of
shareholders.
TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for the common stock is Illinois Stock
Transfer Company, 209 West Jackson Boulevard, Suite 903, Chicago, Illinois
60606.
MARKET FOR THE SHARES
Prior to this offering, there has been no public market for our common
stock. It is not contemplated that a market will develop after this offering. We
have no present intention to list the shares of common stock on any national
securities exchange.
LEGAL MATTERS
The legality of the common stock offered hereby will be passed upon for
State of Franklin by Baker, Donelson, Bearman & Caldwell, P.C., Johnson City,
Tennessee.
EXPERTS
The Consolidated Financial Statements of State of Franklin Bancshares,
Inc. and subsidiaries included herein have been so included in reliance on the
report of Baylor & Backus, Johnson City, Tennessee, independent certified public
accountants, given on the authority of said firm as experts in auditing and
accounting.
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the SEC a Registration Statement on Form SB-1 (File
No. 333-_____) regarding the common stock being offered by this prospectus. This
prospectus does not contain all of the information presented in the registration
statement. For further information about us and the common stock, reference is
made to the registration statement and its exhibits. Descriptions in this
prospectus of any contract or other document are not complete. For a more
complete description, you should refer to the registration statement and the
exhibits attached to the registration statement. Copies of the registration
statement, including exhibits, may be examined without charge in the Public
Reference Section of the Securities and Exchange Commission at 450 Fifth Street,
N.W., Room 1024, Washington, D.C. 20549, and the SEC's Regional Offices located
at 500 West Madison Street, Suite 1400, Chicago, IL, 60601, and Seven World
Trade Center, 13th Floor, New York, NY 10048, or on the Internet at
http://www.sec.gov. Information about the
46
<PAGE> 48
operation of the Public Reference Room may be obtained by calling the Commission
at 1-800-SEC-0300. Copies of all or a portion of the registration statement can
be obtained from the Public Reference Section of the Commission upon payment of
prescribed fees.
We are subject to the information and reporting requirements of the
Exchange Act and file periodic reports, proxy statements and other information
with the Commission.
We intend to furnish our shareholders with annual reports containing
financial statements audited by our independent accountants and to make
available to our shareholders quarterly reports for the first three quarters of
each fiscal year containing unaudited interim information.
47
<PAGE> 49
STATE OF FRANKLIN BANCSHARES, INC.
(a Tennessee corporation)
SUBSCRIPTION AGREEMENT
I, ______________________________, do hereby subscribe for
__________________________________ (_____________) shares of the common stock of
State of Franklin Bancshares, Inc. at a price of $13.50 per share. I tender
herewith the purchase price of $_______________ in cash or cash equivalent.
IN WITNESS WHEREOF, this Subscription Agreement has been executed by the
undersigned on the ________________ day of _____________________, 1999.
OR
- -------------------------------- ---------------------------------------
Individual Investor Signature Entity (Print name of entity)
By:
---------------------------------------
Print Name:
-------------------------------
Title:
------------------------------------
------------------------------------------
Name desired on company records
------------------------------------------
Address
------------------------------------------
City, State Zip Code
----------------------------
Social Security or Tax I.D.#
- --------------------------------------------------------------------------------
ACCEPTANCE BY STATE OF FRANKLIN
This Subscription Agreement is hereby accepted on behalf of State of
Franklin Bancshares, Inc.
Date: , 1999 STATE OF FRANKLIN BANCSHARES, INC.
----------------------
By:
---------------------------------------
Title:
------------------------------------
<PAGE> 50
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGES
-----
<S> <C>
Independent Auditor's Report................................ F-2
Consolidated Statements of Financial Condition as of
December 31, 1998 and 1997................................ F-3
Consolidated Statements of Income For The Years Ended
December 31, 1998 and 1997 and the Period February 15,
1996 (Date of Inception) to December 31, 1996............. F-4
Consolidated Statements of Changes in Stockholders' Equity
For The Years Ended December 31, 1998 and 1997 and the
Period February 15, 1996 (Date of Inception) to December
31, 1996.................................................. F-5
Consolidated Statements of Cash Flows For The Years Ended
December 31, 1998 and 1997 and the Period February 15,
1996 (Date of Inception) to December 31, 1996............. F-6
Notes to Consolidated Financial Statements.................. F-7
Consolidated Balance Sheets as of June 30, 1999 (Unaudited)
and December 31, 1998 (Unaudited)......................... F-28
Consolidated Statements of Income For the Three Months Ended
June 30, 1999 (Unaudited) and 1998 (Unaudited)............ F-29
Consolidated Statements of Income For the Six Months Ended
June 30, 1999 (Unaudited) and 1998 (Unaudited)............ F-30
Consolidated Statements of Cash Flows For the Six Months
Ended June 30, 1999 (Unaudited) and 1998 (Unaudited)...... F-31
Consolidated Statements of Comprehensive Income For the Six
Months Ended June 30, 1999 (Unaudited) and 1998
(Unaudited)............................................... F-32
Notes to Consolidated Financial Statements (Unaudited)...... F-33
</TABLE>
F-1
<PAGE> 51
BAYLOR AND BACKUS
<TABLE>
<S> <C> <C>
D.G. LEONARD, CPA
R.F. VANHOY, CPA CERTIFIED PUBLIC ACCOUNTANTS E.N. BACKUS, CPA (1907-1971)
2112 NORTH ROAN STREET T.E. HULSE, CPA (1927-1975)
________________ FIRST TENNESSEE BUILDING, EIGHTH FLOOR E.R. BAYLOR, CPA (1894-1982)
P.O. BOX 1736 A.C. NICKELL, CPA (1921-1983)
T.S. JOHNSON, CPA JOHNSON CITY, TENNESSEE 37605 W.E. MORELOCK, CPA (1927-1985)
C.J. STAMPFLI, CPA (423) 282-9000 H.L. SIENKNECHT, CPA (1917-1990)
</TABLE>
INDEPENDENT AUDITOR'S REPORT
To the Stockholders and
the Board of Directors
State of Franklin Bancshares, Inc.
Johnson City, Tennessee
We have audited the accompanying consolidated statements of financial
condition of State of Franklin Bancshares, Inc. (a Tennessee corporation) and
subsidiaries as of December 31, 1998 and 1997, and the related consolidated
statements of income, changes in stockholders' equity and cash flows for the
years ended December 31, 1998 and 1997, and the period February 15, 1996 (date
of inception) to December 31, 1996. These consolidated financial statements are
the responsibility of State of Franklin Bancshares, Inc.'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 consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated 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 State of
Franklin Bancshares, Inc. and subsidiaries as of December 31, 1998 and 1997, and
the results of their operations and their cash flows for the years ended
December 31, 1998 and 1997, and the period February 15, 1996 (date of inception)
to December 31, 1996 in conformity with generally accepted accounting
principles.
BAYLOR AND BACKUS
Certified Public Accountants
Johnson City, Tennessee
February 26, 1999
MEMBERS OF AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS & TENNESSEE
SOCIETY OF CERTIFIED PUBLIC ACCOUNTANTS
F-2
<PAGE> 52
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
DECEMBER 31, 1998 AND 1997
<TABLE>
<CAPTION>
1998 1997
----------- ----------
<S> <C> <C>
ASSETS
Cash and Cash Equivalents................................... 13,928,172 12,415,800
Investments -- Held-To-Maturity (Estimated Market
1998 -- $-0-) (Estimated Market 1997 -- $10,023,214)...... -- 10,000,000
Investments -- Available-for-Sale........................... 12,248,572 6,462,901
Loans Receivable, Net....................................... 86,104,974 50,374,093
Accrued Interest Receivable, Net............................ 685,963 400,760
Land, Buildings and Equipment at Cost Less Accumulated
Depreciation of $347,134 in 1998 and $146,286 in 1997..... 4,117,351 3,568,281
Prepaid Expense and Accounts Receivable..................... 48,218 80,110
Receivable from ESOP........................................ 108,286 --
FHLB Stock.................................................. 471,200 --
Leases Receivable, Net...................................... 120,999 --
Investment in Service Bureau at Cost........................ 15,000 15,000
Deferred Tax Assets......................................... 186,946 55,445
----------- ----------
Total Assets...................................... 118,035,681 83,372,390
=========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Deposits.................................................. 96,364,077 72,243,884
Advances by Borrowers for Taxes and Insurance............. 98,784 59,911
Accrued Interest on Deposits.............................. 103,769 43,469
Accounts Payable and Accrued Expenses..................... 189,379 122,026
Notes Payable............................................. 687,925 --
FHLB Advances............................................. 9,000,000 --
Deferred Gain on REO...................................... 21,448 --
----------- ----------
Total Liabilities................................. 106,465,382 72,469,290
----------- ----------
Stockholders' Equity:
Common Stock, $1.00 Par Value, Authorized: 3,000,000
Shares; Issued: 1,180,152 Shares at December 31, 1998
and 1,111,280 Shares at December 31, 1997.............. 1,180,152 1,111,280
Common Stock Subscribed................................... 6,996 --
Paid-In Capital........................................... 10,905,359 10,160,136
Accumulated Other Comprehensive Income.................... 39,820 25,381
Retained Earnings......................................... 102,792 (393,697)
Less: Employee Stock Ownership............................ (664,820) --
----------- ----------
Total Stockholders' Equity........................ 11,570,299 10,903,100
----------- ----------
Total Liabilities and Stockholders' Equity........ 118,035,681 83,372,390
=========== ==========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-3
<PAGE> 53
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997, AND
THE PERIOD FEBRUARY 15, 1996 (DATE OF INCEPTION) TO DECEMBER 31, 1996
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Interest Income
Interest on Loans....................................... 5,756,736 2,729,255 570,212
Interest on Cash Equivalents and Investments............ 1,820,032 1,946,194 629,918
--------- --------- ---------
Total Interest Income........................... 7,576,768 4,675,449 1,200,130
--------- --------- ---------
Interest Expense
Interest on Deposits.................................... 4,457,203 2,975,541 687,357
Other Interest.......................................... 303,932 786 --
--------- --------- ---------
Total Interest Expense.......................... 4,761,135 2,976,327 687,357
--------- --------- ---------
Net Interest Income Before Provision for Loan Losses...... 2,815,633 1,699,122 512,773
Provision for Loan Losses................................. (275,127) (226,095) (130,715)
--------- --------- ---------
Net Interest Income After Provision for Loan
Losses............................................. 2,540,506 1,473,027 382,058
--------- --------- ---------
Other Income
Other Fees and Service Charges.......................... 176,455 87,238 17,557
Net Gain on Loans Sold.................................. 46,180 15,138 --
Net Gain on Sale and Maturity of Securities............. 38,769 148,045 58,125
Insurance Commission Income............................. 37,120 34,776 --
Rental Income, Net...................................... 102,330 36,839 --
Other................................................... 10,301 17,563 8,073
--------- --------- ---------
Total Other Income.............................. 411,155 339,599 83,755
--------- --------- ---------
Other Expenses
Compensation and Related Benefits....................... 1,048,393 782,029 482,684
Occupancy Expenses...................................... 246,437 190,762 45,658
Furniture and Equipment Expenses........................ 183,905 98,439 45,740
Advertising............................................. 118,102 132,316 100,342
Data Processing Expense................................. 218,251 121,240 53,107
Other................................................... 587,878 435,882 252,457
--------- --------- ---------
Total Other Expenses............................ 2,402,966 1,760,668 979,988
--------- --------- ---------
Income (Loss) Before Income Taxes......................... 548,695 51,958 (514,175)
Provision for Income Taxes................................ (52,206) 5,077 63,443
--------- --------- ---------
Net Income (Loss)......................................... 496,489 57,035 (450,732)
========= ========= =========
Basic and Diluted Earnings (Loss) Per Share............... 0.44 0.05 (0.74)
========= ========= =========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-4
<PAGE> 54
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997, AND
THE PERIOD FEBRUARY 15, 1996 (DATE OF INCEPTION) TO DECEMBER 31, 1996
<TABLE>
<CAPTION>
ACCUMULATED
COMMON OTHER EMPLOYEE
COMMON STOCK PAID-IN COMPREHENSIVE RETAINED STOCK
STOCK SUBSCRIBED CAPITAL INCOME EARNINGS OWNERSHIP TOTAL
--------- ---------- ---------- ------------- -------- --------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Net Proceeds from Initial Stock
Offering........................... 610,000 -- 5,230,415 -- -- -- 5,840,415
--------- ----- ---------- -------- -------- -------- ----------
Comprehensive Income
Other Comprehensive Income, Net of
Tax:
Unrealized Gains on Securities
Available-For-Sale:
Unrealized Holding Gains
Arising During the Period.... -- -- -- 58,997 -- -- 58,997
Net Loss........................... -- -- -- (450,732) -- (450,732)
--------- ----- ---------- -------- -------- -------- ----------
Total Comprehensive Income... -- -- -- -- -- -- (391,735)
--------- ----- ---------- -------- -------- -------- ----------
Balance at December 31, 1996......... 610,000 -- 5,230,415 58,997 (450,732) -- 5,448,680
--------- ----- ---------- -------- -------- -------- ----------
Net Proceeds from Secondary Stock
Offering........................... 501,280 -- 4,929,721 -- -- -- 5,431,001
--------- ----- ---------- -------- -------- -------- ----------
Comprehensive Income
Other Comprehensive Income, Net of
Tax:
Unrealized Gains on Securities
Available-For-Sale:
Unrealized Holding Gains
Arising During the Period
(Net of $61,152 Income
Tax)......................... -- -- -- 59,709 -- -- 59,709
Less:
Reclassification Adjustment
(Net of $48,076 Income
Tax)......................... -- -- -- (93,325) -- -- (93,325)
--------- ----- ---------- -------- -------- -------- ----------
-- -- -- -- -- -- (33,616)
Net Income......................... -- -- -- -- 57,035 -- 57,035
--------- ----- ---------- -------- -------- -------- ----------
Total Comprehensive Income... -- -- -- -- -- -- 23,419
--------- ----- ---------- -------- -------- -------- ----------
Balance at December 31, 1997......... 1,111,280 -- 10,160,136 25,381 (393,697) -- 10,903,100
--------- ----- ---------- -------- -------- -------- ----------
Net Proceeds from Sale of Stock...... 68,872 6,996 745,223 -- -- (700,000) 121,091
--------- ----- ---------- -------- -------- -------- ----------
ESOP Shares Allocated................ -- -- -- -- -- 35,180 35,180
--------- ----- ---------- -------- -------- -------- ----------
Comprehensive Income
Other Comprehensive Income, Net of
Tax:
Unrealized Gains on Securities
Available-For-Sale:
Unrealized Holding Gains
Arising During the Period
(Net of $20,496 Income
Tax)......................... -- -- -- 39,820 -- -- 39,820
Less:
Reclassification Adjustment
(Net of $14,520 Income
Tax)......................... -- -- -- (25,381) -- -- (25,381)
--------- ----- ---------- -------- -------- -------- ----------
-- -- -- -- -- -- 14,439
Net Income......................... -- -- -- -- 496,489 -- 496,489
--------- ----- ---------- -------- -------- -------- ----------
Total Comprehensive Income... -- -- -- -- -- -- 510,928
--------- ----- ---------- -------- -------- -------- ----------
Balance at December 31, 1998......... 1,180,152 6,996 10,905,359 39,820 102,792 (664,820) 11,570,299
========= ===== ========== ======== ======== ======== ==========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-5
<PAGE> 55
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1998 AND 1997, AND
THE PERIOD FEBRUARY 15, 1996 (DATE OF INCEPTION) TO DECEMBER 31, 1996
<TABLE>
<CAPTION>
1998 1997 1996
----------- ----------- -----------
<S> <C> <C> <C>
Cash Flows from Operating Activities
Net Income (Loss)......................................... 496,489 57,035 (450,732)
Items Not Affecting Cash and Cash Equivalents:
Depreciation............................................ 200,848 107,624 38,662
(Increase) in Accrued Interest.......................... (285,203) (238,330) (162,430)
Deferred Tax Assets..................................... (139,229) (5,077) (63,443)
Provisions for Loan Losses, Net......................... 274,850 224,759 130,715
(Increase) Decrease in Prepaid Expenses and Accounts
Receivable............................................ 568 (44,510) (35,600)
Increase in Interest Payable............................ 60,300 21,845 21,623
Increase (Decrease) in Accounts Payable and Accrued
Expenses.............................................. 67,353 (180,007) 302,033
Increase in Deferred Loan Fees, Net..................... 14,873 35,042 17,647
(Gain) on Sale of Investments........................... (38,769) (148,045) (58,125)
Discount Accretion...................................... (9,097) (23,559) --
Earned ESOP Shares...................................... 35,180 -- --
FHLB Stock Dividends.................................... (20,359) -- --
(Increase) in Leases Receivable, Net.................... (120,999) -- --
----------- ----------- -----------
Net Cash Provided (Used) by Operating Activities... 536,805 (193,223) (259,650)
----------- ----------- -----------
Cash Flows from Investing Activities:
Purchase of Investments................................... (20,233,390) (16,284,843) (20,095,654)
Proceeds from Maturities of Held-to-Maturity
Investments............................................. 10,000,000 -- 2,166,002
Proceeds from Sale of Available-for-Sale Investments...... 6,874,235 12,683,359 3,514,062
Proceeds from Maturities of Available-for-Sale
Investments............................................. 7,500,000 1,500,000 250,000
Principal Payments on Mortgage-Backed Securities
Available-for-Sale...................................... 143,676 72,359 --
Increase in Loans Receivable, Net......................... (35,999,155) (33,680,751) (17,101,505)
Purchases of Premises and Equipment....................... (749,918) (2,068,063) (1,646,504)
Investment in Service Bureau.............................. -- -- (15,000)
Purchase of FHLB Stock.................................... (451,000) -- --
----------- ----------- -----------
Net Cash Used by Investing Activities.............. (32,915,552) (37,777,939) (32,928,599)
----------- ----------- -----------
Cash Flows from Financing Activities:
Net Increase in Deposits.................................. 24,120,193 38,026,675 34,217,209
Net Increase in Advances by Borrowers for Taxes and
Insurance............................................... 38,873 40,303 19,608
Issuance of Common Stock, Net............................. 55,483 5,431,001 6,100,000
Organization Costs........................................ (11,355) -- (259,585)
Proceeds from Debt........................................ 10,300,000 -- --
Repayments of Debt........................................ (612,075) -- --
----------- ----------- -----------
Net Cash Provided by Financing Activities.......... 33,891,119 43,497,979 40,077,232
----------- ----------- -----------
Net Increase in Cash and Cash Equivalents...... 1,512,372 5,526,817 6,888,983
Cash and Cash Equivalents at Beginning of Period............ 12,415,800 6,888,983 --
----------- ----------- -----------
Cash and Cash Equivalents at End of Period......... 13,928,172 12,415,800 6,888,983
=========== =========== ===========
Supplemental Schedule of Noncash Investing and Financing
Activities:
Acquisition of Operating Equipment for Contributed
Capital................................................. -- 16,500 --
Acquisition of Real Estate Property through Foreclosure of
Related Loan............................................ 241,600 -- --
Origination of Mortgage Loan to Finance the Sale of
Foreclosed Real Estate.................................. 270,000 -- --
=========== =========== ===========
Supplemental Disclosures of Cash Flow Information:
Cash Paid During the Period for:
Taxes................................................... 170,415 -- --
Interest................................................ 4,700,835 2,954,482 665,733
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
F-6
<PAGE> 56
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1998, 1997 AND 1996
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Incorporation and Operations
State of Franklin Bancshares, Inc. (Company) was incorporated under the
laws of the State of Tennessee for the purpose of becoming the holding company
of State of Franklin Savings Bank (Savings Bank). The stockholders of the
Savings Bank exchanged their shares for the shares of the Company, whereby the
Savings Bank became a wholly owned subsidiary of the Company. State of Franklin
Leasing Corporation (Leasing Corp) was incorporated under the laws of the State
of Tennessee for the purpose of lease financing. The Leasing Corp is a wholly
owned subsidiary of the Company. John Sevier Title Services, Inc. (Title
Company) is the wholly owned subsidiary of the Savings Bank.
The State of Franklin Savings Bank (Savings Bank), headquartered in Johnson
City, Tennessee, was incorporated on February 15, 1996, and was the first
Tennessee Chartered Stock Savings Bank under the Savings Bank Chartering Act of
1991 (Savings Bank Act). The Savings Bank's application to the Federal Deposit
Insurance Corporation (FDIC) to obtain federal deposit insurance for the Savings
Bank's deposit accounts under the Bank Insurance Fund (BIF) was approved on
February 9, 1996. The Tennessee Department of Financial Institutions
(Department) approved the Savings Bank's registration on February 15, 1996.
The Savings Bank's initial stock offering of 610,000 shares was completely
subscribed. All shares were purchased as of March 31, 1996, the end of the
initial offering period.
A private placement offering was conducted in 1997 with 501,280 shares of
subscribed common stock sold for $11 per share. The date of the offering was
April 7, 1997, expiring on September 30, 1997. Total proceeds received related
to the offering were $5,495,380 and a receivable of $18,700 was due from
Individual Retirement Account transfers at December 31, 1997. Expenses relating
to the offering were $83,079. The net proceeds of $5,431,001 were used to
provide capital to support future operations.
The State of Franklin Savings Bank's primary market area is Washington and
Sullivan Counties and their immediate vicinity in Tennessee. The Savings Bank
has three branches in Johnson City, Tennessee, and one branch in Kingsport,
Tennessee.
The principal business of the Savings Bank is to accept savings deposits
from the general public and to invest such funds in residential mortgage loans
and, to a lesser extent, consumer and commercial loans. The Savings Bank
provides a wide variety of financial services to its customers.
A summary of significant accounting policies of the Company follows:
Basis of Financial Statement Presentation
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All significant intercompany accounts and transactions
have been eliminated. The consolidated financial statements of the Company have
been prepared in conformity with generally accepted accounting principles and
reflect the accrual method of accounting. In preparing the consolidated
financial statements, management is required to make estimates and assumptions
that affect the reported amounts of assets and liabilities as of the date of the
consolidated financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ significantly
from those estimates.
Material estimates that are particularly susceptible to significant change
relate to the determination of the allowance for losses on loans.
F-7
<PAGE> 57
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
A substantial portion of the Savings Bank's loans are secured by real
estate in local markets. Accordingly, the ultimate collectibility of a
substantial portion of the Savings Bank's loan portfolio is susceptible to
changes in local market conditions.
Management believes the allowance for loan losses is adequate.
While management uses available information to recognize losses on loans,
future additions to the allowances may be necessary based on changes in local
economic conditions. In addition, regulatory agencies, as an integral part of
their examination process, periodically review the Saving Bank's allowances for
losses on loans. Such agencies may require the Savings Bank to recognize
additions to the allowance based on their judgments about information available
to them at the time of their examination.
Land, Buildings and Equipment
Land is carried at cost. Buildings and equipment, including leasehold
improvements, are carried at cost and are being depreciated over their estimated
useful lives on the straight line method. Repairs and maintenance items are
expensed and improvements are capitalized. Upon retirement or sale, any gain or
loss will be charged to operations.
Cash Equivalents
For the purposes of the consolidated statement of cash flows, the Company
considers all highly liquid debt instruments purchased with a maturity of three
months or less to be cash equivalents.
Loans Receivable
Loans receivable are stated at unpaid principal balances, less the
allowance for loan losses and net deferred loan origination fees and unearned
discounts.
Unearned discounts on installment loans are recognized as income over the
term of the loans using a method that approximates the interest method.
Loan origination and commitment fees, as well as certain direct origination
costs, are deferred and amortized as a yield adjustment over the lives of the
related loans using the interest method. Amortization of deferred loan fees is
discontinued when a loan is placed on nonaccrual status.
Loans are placed on nonaccrual when principal or interest is delinquent for
90 days or more. Any unpaid interest previously accrued on those loans is
reversed from income, and thereafter interest is recognized only to the extent
of payments received.
The allowance for loan losses is maintained at a level which, in
management's judgment, is adequate to absorb credit losses inherent in the loan
portfolio. Management's periodic evaluation of the adequacy of the allowance is
based on the Savings Bank's past loan loss experience, known and inherent risks
in the portfolio, adverse situations that may affect the borrower's ability to
repay, estimated value of any underlying collateral, and current economic
conditions. The allowance for loan losses is increased by a provision for loan
losses, which is charged to expense, and decreased by charge-offs (net of
recoveries).
Investment and Mortgage-Backed Securities
The Company is subject to Statement of Financial Accounting Standards
(SFAS) No. 115, Accounting for Certain Investments in Debt and Equity
Securities. Accordingly, investment and mortgage-backed securities are
categorized as either held-to-maturity, trading account or available-for-sale
securities.
F-8
<PAGE> 58
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Held-to-maturity securities are bonds, notes and debentures for which the
Savings Bank has the positive intent and ability to hold to maturity and are
reported at cost, adjusted for premiums and discounts that are recognized in
interest income using the interest method over the period to maturity.
Trading account securities are investments held principally for resale in
the near term and mortgage-backed securities held for sale in conjunction with
mortgage banking activities. Trading account securities would be recorded at
their fair values. Unrealized gains and losses on trading account securities
would be included immediately in other income. The Savings Bank has no
securities in this classification at year end.
Available-for-sale securities consist of bonds, notes, debentures, and
certain equity securities not classified as trading securities or as
held-to-maturity securities. The change in unrealized holding gains and losses,
net of tax, on available-for-sale securities are reported as a separate
component of other comprehensive income until realized. Realized gains (losses)
on available-for-sale securities are included in other income (expense) and,
when applicable, are reported as a reclassification adjustment, net of tax, in
other comprehensive income. Gains and losses on the sale of available-for-sale
securities are determined using the specific-identification method. The
amortization of premiums and the accretion of discounts are recognized in
interest income using methods approximating the interest method over the period
of maturity.
Declines in the fair value of individual held-to-maturity and
available-for-sale securities below their cost that are other than temporary
would have resulted in write-downs of the individual securities to their fair
value. No write-downs have been included in earnings as realized losses.
Federal Home Loan Bank Stock
Federal Home Loan Bank (FHLB) stock is a required investment for
institutions that are members of the Federal Home Loan Bank system. The required
investment in the common stock is based on a predetermined formula and is
carried at cost on the consolidated statements of financial condition.
Foreclosed Real Estate
Foreclosed real estate includes both formally foreclosed property and
in-substance foreclosed property. In-substance foreclosed properties are those
properties for which the institution has taken physical possession, regardless
of whether formal foreclosure proceedings have taken place.
At the time of foreclosure, foreclosed real estate is recorded at the lower
of the carrying amount or fair value less cost to sell, which becomes the
property's new basis. Any write-downs based on the asset's fair value at date of
acquisition are charged to the allowance for loan losses. After foreclosure,
these assets are carried at the lower of their new cost basis or fair value less
cost to sell. Costs incurred in maintaining foreclosed real estate and
subsequent adjustments to the carrying amount of the property are included in
income (loss) on foreclosed real estate.
Income Taxes
Income taxes are provided for the tax effects of the transactions reported
in the consolidated financial statements and consist of taxes currently due plus
deferred taxes related primarily to differences between the basis of
available-for-sale securities and allowance for loan losses for financial and
income tax reporting. The deferred tax assets and liabilities represent the
future tax return consequences of those differences, which will either be
taxable or deductible when the assets and liabilities are recovered or settled.
Deferred tax assets and liabilities are reflected at income tax rates applicable
to the period in
F-9
<PAGE> 59
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
which the deferred tax assets or liabilities are expected to be realized or
settled. As changes in tax laws or rates are enacted, deferred tax assets and
liabilities are adjusted through the provision for income taxes.
Dividends
As was anticipated, for at least the first three years of operations, all
earnings which were generated from the operations of the Savings Bank were used
to finance the growth of the Savings Bank and were not available to be paid to
outside stockholders as dividends. Hereafter, in determining whether dividends
will be declared on the Common Stock, the Board of Directors will take into
account the Company's operating results, financial constitution, tax
considerations, future capital and cash flow requirements, and other relevant
factors.
Tennessee law requires that dividends be paid only from retained earnings
(or undivided profits), except that dividends may be paid from capital surplus
with the prior written consent of the Tennessee Department of Financial
Institutions. Tennessee laws regulating savings banks require certain charges
against and transfers from an institution's undivided profits account before
undivided profits can be made available for the payment of dividends. In
addition, the Department generally prohibits a newly chartered institution from
paying dividends during its first three years of operations without the
Department's prior approval.
On August 21,1998, the Savings Bank paid a special one-time dividend of
$5,000 to the Company. This dividend was used to pay expenses related to the
formation of the Holding Company. The Savings Bank had received approval from
the State of Tennessee Department of Financial Institutions.
Reclassifications
In instances where required, amounts reported in prior year's financial
statements included herein have been reclassified to put them on a comparable
basis to the amounts reported in the December 31, 1998 consolidated financial
statements.
NOTE 2. CASH AND CASH EQUIVALENTS
At December 31, 1998, 1997 and 1996, cash and cash equivalents were as
follows:
<TABLE>
<CAPTION>
1998 1997 1996
---------- ---------- ---------
<S> <C> <C> <C>
Cash Working Funds.............................. 314,605 319,216 182,648
Federal Funds Sold.............................. 6,421,000 10,094,000 5,224,956
Due from Banks.................................. 2,192,567 2,002,584 1,481,379
Short-Term Interest Bearing Deposits............ 5,000,000 -- --
---------- ---------- ---------
13,928,172 12,415,800 6,888,983
========== ========== =========
</TABLE>
F-10
<PAGE> 60
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 3. LAND, BUILDINGS AND EQUIPMENT
Fixed assets at December 31, 1998, 1997 and 1996 are summarized as follows:
<TABLE>
<CAPTION>
1998 1997 1996
---------- ---------- ----------
<S> <C> <C> <C>
Land........................................... 850,000 850,000 100,000
Buildings and Leasehold Improvements........... 2,213,345 1,964,431 1,007,406
Furniture, Fixtures and Equipment.............. 1,401,140 900,136 539,098
---------- ---------- ----------
4,464,485 3,714,567 1,646,504
Less: Accumulated Depreciation................. 347,134 146,286 38,662
---------- ---------- ----------
4,117,351 3,568,281 1,607,842
========== ========== ==========
</TABLE>
NOTE 4. LOANS RECEIVABLE
Loans receivable at December 31, 1998, 1997 and 1996 consist of the
following:
<TABLE>
<CAPTION>
1998 1997 1996
---------- ---------- ----------
<S> <C> <C> <C>
First Mortgage Loans........................... 36,823,269 24,984,570 11,356,572
Construction Loans............................. 22,024,861 11,859,068 4,217,400
Consumer Loans................................. 7,726,136 4,764,911 2,107,552
Participation Loans, Net....................... 863,162 873,263 --
Commercial Loans............................... 26,603,529 12,256,079 2,439,451
Savings Account Loans.......................... 545,011 193,130 81,178
Credit Line Advances........................... 396,618 239,115 14,324
---------- ---------- ----------
Gross Loans Receivable............... 94,982,586 55,170,136 20,216,477
---------- ---------- ----------
Less:
Undisbursed Portion of Loans in Process...... (8,179,727) (4,387,881) (3,114,972)
Net Deferred Loan Origination Fees........... (67,561) (52,688) (17,647)
Accumulated General Loan Loss Reserves....... (630,324) (355,474) (130,715)
---------- ---------- ----------
(8,877,612) (4,796,043) (3,263,334)
---------- ---------- ----------
Loans Receivable as Determined in Accordance
with Generally Accepted Accounting
Principles................................... 86,104,974 50,374,093 16,953,143
========== ========== ==========
An analysis of the allowance for loan losses
is as follows:
Balance -- Beginning of Period............ 355,474 130,715 --
Provision for Losses...................... 275,127 226,094 130,715
Actual Loan Losses........................ (277) (1,335) --
---------- ---------- ----------
Balance -- End of Period.................. 630,324 355,474 130,715
========== ========== ==========
</TABLE>
The gross amount of participation loans serviced by State of Franklin
Savings Bank is $1,220,000.
NOTE 5. SUPERVISION AND REGULATION
General
As a Tennessee-chartered federally insured savings bank, the Savings Bank
is subject to extensive regulation. Lending activities and other investments
must comply with various statutory and regulatory requirements, including
prescribed minimum capital standards. The Savings Bank is regularly examined by
F-11
<PAGE> 61
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
the FDIC and the Tennessee Department of Financial Institutions and files
periodic reports concerning its activities and financial condition with its
regulators. The Savings Bank's relationship with depositors and borrowers also
is regulated to a great extent by both federal law and the laws of the State of
Tennessee, especially in such matters as the ownership of savings accounts and
the form and content of mortgage documents.
Federal and state banking laws and regulations govern all areas of the
operation of the Savings Bank, including reserves, loans, mortgages, capital,
issuance of securities, payment of dividends and establishment of branches.
Federal and state bank regulatory agencies also have the general authority to
limit the dividends paid by insured banks if such payments should be deemed to
constitute an unsafe and unsound practice. The primary federal regulator of the
Savings Bank, the FDIC, has authority to impose penalties, initiate civil and
administrative actions and take other steps intended to prevent banks from
engaging in unsafe or unsound practices.
Tennessee law permits the Savings Bank to become a member of the Federal
Reserve System or the Federal Home Loan Bank System. The Savings Bank is a
member of the Federal Home Loan Bank of Cincinnati. The FHLB of Cincinnati
functions as a central reserve bank which provides credit for member
institutions. The Savings Bank, as a member of the FHLB of Cincinnati, is
required to own capital stock in the FHLB of Cincinnati. Provided certain
standards related to creditworthiness continue to be met, the Savings Bank will
be authorized to apply for additional advances on the security of such stock and
on certain of its residential mortgage loans and other assets (principally,
securities which are obligations of, or guaranteed by, the United States). The
Savings Bank's current advances from FHLB are disclosed in Note 10.
Tennessee Supervision and Regulation
As a Tennessee-chartered savings bank, the Savings Bank is subject to
various state laws and regulations which limit the amount that can be loaned to
a single borrower, the type of permissible investments, and geographic
expansion, among other things. The Savings Bank must submit an application and
receive the approval of the Department before opening a new branch office or
merging with another financial institution. The Commissioner of the Department
(Commissioner) has the authority to enforce state laws and regulations by
ordering a director, officer or employee of the Savings Bank to cease and desist
from violating a law or regulation and unsafe and unsound banking practices.
Federal Regulation
The Savings Bank was approved by the FDIC to have its deposit accounts
insured up to applicable limits by the Bank Insurance Fund. The BIF was
designated as an insurance fund pursuant to the Financial Institutions Reform,
Recovery and Enforcement Act of 1989 (FIRREA). As insurer, the FDIC issues
regulations, conducts examinations, requires the filing of reports and generally
supervises and regulates the operations of state-chartered banks that are not
members of the Federal Reserve System. FDIC approval is required prior to any
merger or consolidation involving state, nonmember banks, or the establishment
or relocation of an office facility thereof. FDIC supervision and regulation is
intended primarily for the protection of depositors and the FDIC insurance
funds.
Any insured bank which does not operate in accordance with or conform to
FDIC regulations, policies and directives may be sanctioned for noncompliance.
For example, proceedings may be instituted against any insured bank or any
director, officer, or employee of such bank who engages in unsafe and unsound
practices, including the violation of applicable laws and regulations. The FDIC
has the authority to terminate deposit insurance pursuant to procedures
established for that purpose. Failure to meet minimum
F-12
<PAGE> 62
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
capital requirements can initiate certain mandatory -- and possibly additional
discretionary -- actions by regulators that, if undertaken, could have a direct
material effect on the Savings Bank's financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective action,
the Savings Bank must meet specific capital guidelines that involve quantitative
measures of the Savings Bank's assets, liabilities, and certain
off-balance-sheet items as calculated under regulatory accounting practices. The
Savings Bank's capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings, and
other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Savings Bank to maintain minimum amounts and ratios (set forth in
the table below) of total and Tier 1 capital (as defined in the regulations) to
risk-weighted assets (as defined), and Tier 1 capital (as defined) to average
assets (as defined). Management believes, as of December 31, 1998, that the
Savings Bank meets all capital adequacy requirements to which it is subject.
As of December 31, 1998, the most recent notification from the FDIC
categorized the Savings Bank as well-capitalized under the regulatory framework
for prompt corrective action. The "prompt corrective action" regulations
established five categories of depository institutions: (1) well-capitalized,
(2) adequately capitalized, (3) under-capitalized, (4) significantly
under-capitalized, and (5) critically under-capitalized. Each category relates
to the level of capital for the depository institution. A "well-capitalized"
institution meets the minimum level required by regulation (i.e., total
risk-based capital ratio of 10% or greater, a Tier 1 risk-based capital ratio of
6% or greater and a leverage ratio of 5% or greater). To be categorized as
well-capitalized, the Savings Bank must maintain minimum total risk-based, Tier
1 risk-based, and Tier 1 leverage ratios as set forth in the table. There are no
conditions or events since that notification that management believes have
changed the institution's category.
<TABLE>
<CAPTION>
FOR CAPITAL
ADEQUACY PURPOSES
AND TO BE WELL
CAPITALIZED UNDER
PROMPT CORRECTIVE
ACTUAL ACTION PROVISIONS
---------------- ------------------
AMOUNT RATIO AMOUNT RATIO
------ ------ -------- ------
IN THOUSANDS (UNAUDITED)
<S> <C> <C> <C> <C>
As of December 31, 1998:
Total Risk-Based Capital (to Risk-Weighted Assets)... 11,908 16.24% >7,334 10.0%
-
Tier 1 Capital (to Risk-Weighted Assets)............. 10,989 14.98% >4,400 6.0%
-
Tier 1 Capital (to Adjusted Total Assets)............ 10,989 9.44% >5,823 5.0%
-
As of December 31, 1997:
Total Risk-Based Capital (to Risk-Weighted Assets)... 11,095 24.5% >4,524 10.0%
-
Tier 1 Capital (to Risk-Weighted Assets)............. 10,529 23.3% >2,714 6.0%
-
Tier 1 Capital (to Adjusted Total Assets)............ 10,529 13.6% >3,873 5.0%
-
</TABLE>
NOTE 6. MORTGAGE-BACKED SECURITIES
Mortgage-backed securities represent participating interests in pools of
long-term first mortgage loans originated and serviced by issuers of the
securities. Mortgage-backed securities are classified as available-for-sale
securities and carried at fair value. Premiums and discounts are amortized using
methods approximating the interest method over the remaining period to
contractual maturity, adjusted for anticipated prepayments. Expected maturities
will differ from contractual maturities because borrowers may have the right to
call or prepay obligations without call or prepayment penalties.
F-13
<PAGE> 63
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 7. EMPLOYEE AND DIRECTOR BENEFIT PLANS
Retirement Plan
The Savings Bank had a noncontributory retirement plan for all eligible
employees. The benefits were funded by an annual payment into each employee's
Individual Retirement Account. The cost of the plan was $0, $0 and $36,557 for
the periods ended December 31, 1998, 1997 and 1996, respectively. The employees
were 100% vested in the plan. The plan was terminated as of January 1, 1997.
Employee Stock Ownership Plan
The company has an employee stock ownership plan (ESOP) for those employees
who meet the eligibility requirements of the plan. The ESOP was established and
funded for 1997. On February 28, 1998, 5,236 shares of the Savings Bank with a
fair value of $57,600 were issued for the 1997 contribution. The Savings Bank
stock was exchanged for Company stock as discussed in Note 1. During the third
quarter of 1998, the ESOP borrowed $700,000 from the Company and used the funds
to purchase 63,636 shares of common stock of the Company at $11 per share. This
increased the ESOP's shares from 5,236 to 68,872. Note payments are $8,218 per
month for ten years with a fixed interest rate of 7.25%. The note balances
outstanding at December 31, 1998, 1997 and 1996 were $692,022, $0 and $0,
respectively.
A related loan was obtained for the purpose of leveraging the ESOP in the
amount of $700,000 with similar terms and collaterized with stock. The note
balances outstanding at December 31, 1998, 1997 and 1996 were $687,925, $0 and
$0, respectively.
ESOP shares are maintained in a suspense account until released and
allocated to participants' accounts. The release of shares from the suspense
account is based on the principal paid in the year in proportion to the total of
current year and remaining outstanding debt. Allocation of released shares to
participants' accounts is done as of December 31. Shares allocated and remaining
in suspense were as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------
1998 1997
------- ------
<S> <C> <C>
Number of Shares
Released and allocated.................................... 6,333 --
Committed to be Released.................................. 2,101 5,236
Suspense.................................................. 60,438 --
Fair Value
Released and allocated.................................... 69,663 --
Committed to be Released.................................. 23,111 57,600
Suspense.................................................. 664,820 --
</TABLE>
The expense recorded by the Company is based on cash contributed to the
ESOP during the year in amounts determined by the Board of Directors, plus the
excess of fair value of shares released and allocated over the ESOP's cost of
those shares. The Company's ESOP compensation costs exclude interest which is
classified as such on the consolidated statements of income. Contributions to
the ESOP are as follows:
<TABLE>
<CAPTION>
DECEMBER 31,
----------------
1998 1997
------ ------
<S> <C> <C>
Compensation Expense........................................ 76,222 57,600
Contributions............................................... 76,222 57,600
</TABLE>
F-14
<PAGE> 64
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
No dividends have been declared on the Company's stock. If dividends are
paid, the ESOP administrators will determine whether dividends on allocated and
unallocated shares will be used for debt service. Any allocated dividends used
will be replaced with common stock of equal value. For the purpose of computing
earnings per share, all ESOP shares committed to be released will be considered
outstanding.
The released Company stock will be allocated to employees based on their
salaries. Generally, all employees who work over 1,000 hours are eligible for
the plan after one year of service. Employees will be vested after seven years
of service. This plan includes a 401(k) feature that began in 1998, which allows
employees to defer up to 6% of their salary and is matched by the Company up to
the maximum allowed amount.
In connection with the 401(k) provision and the Company contribution, there
were 6,996 shares of common stock subscribed at December 31, 1998.
Stock Option Plans
On December 21, 1996, the Savings Bank's Board of Directors approved the
Stock Option Plan for Directors and the Stock Option Plan for Management. A
total of 15% of the original stock offering (91,500 shares) was reserved for
these plans. These plans were retroactively amended after year end.
Under the amended stock option plan for the outside directors, one-third of
the total shares were granted to the outside directors as compensation for
directors' fees over the next five years. Beginning when the Savings Bank had
annual profitability, the options will vest at 20% per year to each director.
This will total 2,346 shares per director. The exercise price of the options is
$10 per share. The vested portion of the options may be exercised at any time.
There is no termination date on the options, but in the event of death, the
estate must exercise the options within twelve months. If the Savings Bank is
sold or merged, the options become 100% vested.
Under the stock option plan for management, the remaining 61,000 shares
were granted to management as an incentive in the Savings Bank's performance.
The options retroactively began to vest after three consecutive quarters of
profitability. The options will vest at 20% per year for five years. The
exercise price of the options is $10 per share. The vested portion of the
options may be exercised at any time. There is no termination date on the
options, but in the event of death, the estate must exercise the options within
twelve months. If the individual leaves the service of the Savings Bank, the
options must be exercised within three months, although this requirement may be
waived by the board. If the Savings Bank is sold or merged, the options become
100% vested.
F-15
<PAGE> 65
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The stock option plans for outside directors and for management were
amended again, effective April 17, 1998, for 15% of the secondary offering
(75,192 shares). One-third of these shares was allocated to outside directors
and the remaining to management. Exercise price of these options was set at $11
per share. The other terms of these options are the same as the terms of the
original options.
<TABLE>
<CAPTION>
WEIGHTED
AWARDED AVERAGE
AND EXERCISE
UNEXERCISED VESTED PRICE
OPTIONS OPTIONS PER SHARE
----------- ------- ---------
<S> <C> <C> <C> <C>
Options Granted -- Outside Directors........ January 1, 1998 30,500 5,630 $10
During 1998 25,064 5,012 $11
Options Granted -- Management............... January 1, 1998 61,000 12,200 $10
During 1998 50,128 10,025 $11
Options Expired -- Outside Directors......................... (2,346) --
------- ------
Options Outstanding -- December 31, 1998..................... 164,346 32,867 $10.46
======= ======
</TABLE>
The State of Franklin Savings Bank accounts for these plans under APB
Opinion No. 25, Accounting for Stock Issued to Employees, under which no
compensation cost has been recognized. Had compensation cost for these plans
been determined consistent with Statement of Financial Accounting Standard No.
123, Accounting for Stock-based Compensation, (SFAS No. 123), the Savings Bank's
net income and earnings per share would not have changed. SFAS No. 123 requires
compensation cost to be calculated by the fair value based method. However, it
is not possible to estimate the fair value of the options at the grant date.
Therefore, the estimates of compensation cost have been determined by the
intrinsic value based method.
F-16
<PAGE> 66
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 8. DEPOSITS
Savings deposit balances are summarized as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1998 DECEMBER 31, 1997
------------------------------ ------------------------------
AVERAGE AVERAGE
RATE AMOUNT PERCENT RATE AMOUNT PERCENT
------- ---------- ------- ------- ---------- -------
<S> <C> <C> <C> <C> <C> <C>
Passbook................................ 4.25 6,083,930 6.31 4.25 3,285,536 4.55
Commercial Checking..................... 0.00 4,365,719 4.53 0.00 6,653,254 9.21
Christmas Club.......................... 4.25 24,198 0.03 4.25 5,048 0.01
NOW..................................... 1.64 5,848,650 6.07 1.79 3,040,127 4.21
Money Market Deposit.................... 4.48 13,730,025 14.25 4.31 6,102,285 8.44
---------- ------ ---------- ------
30,052,522 31.19 19,086,250 26.42
---------- ------ ---------- ------
Fixed Term Certificate Accounts
365 Day IRA........................... 5.27 832,859 0.86 5.75 914,838 1.27
18 Month IRA.......................... 5.34 8,058 0.01 5.97 46,188 0.06
30 Month IRA.......................... 5.12 384,998 0.40 6.04 357,024 0.49
30 Month IRA (and Keogh).............. 6.09 3,446,063 3.58 6.12 2,542,476 3.52
30 Month.............................. 6.04 10,566,996 10.97 6.08 10,241,112 14.18
12 Month Roth IRA..................... 4.3 99,665 0.10 -- -- --
18 Month Roth IRA..................... 4.9 32,773 0.03 -- -- --
30 Month Roth IRA..................... 5.69 6,866 0.01 -- -- --
7 Month............................... 5.5 10,396,334 10.79 -- -- --
30 Month Educational IRA.............. 5.5 79 0.00 -- -- --
9 Month............................... 5.49 3,195,279 3.31 -- -- --
1 Year................................ 5.39 11,280,906 11.71 5.83 15,543,368 21.52
3 Year................................ 6.15 3,256,713 3.38 6.12 1,133,764 1.57
Jumbo................................. 5.83 9,481,823 9.84 5.98 8,241,110 11.41
2 Year................................ 5.8 6,059,613 6.29 6.07 3,368,326 4.66
4 Year................................ 6.14 459,645 0.48 6.18 334,226 0.46
5 Year................................ 5.92 372,264 0.38 6.09 140,270 0.19
18 Month.............................. 5.44 2,331,932 2.42 6.05 2,170,999 3.00
182 Day Money Market.................. 4.67 4,078,315 4.23 5.44 8,104,350 11.22
90 Day Money Market................... 3.4 20,374 0.02 4.00 19,583 0.03
---------- ------ ---------- ------
66,311,555 68.81 53,157,634 73.58
---------- ------ ---------- ------
96,364,077 100.00 72,243,884 100.00
========== ====== ========== ======
</TABLE>
The contractual maturity of certificate accounts at December 31, 1998 and
1997, is as follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31, 1998
- -------------------------------------
<S> <C>
1999..................... 47,393,530
2000..................... 13,584,484
2001..................... 4,341,244
2002..................... 355,992
2003 and After........... 636,305
----------
66,311,555
==========
</TABLE>
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31, 1997
- -------------------------------------
<S> <C>
1998..................... 34,415,114
1999..................... 11,801,483
2000..................... 6,422,470
2001..................... 285,217
2002 and After........... 233,350
----------
53,157,634
==========
</TABLE>
F-17
<PAGE> 67
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 9. ACCRUED INTEREST RECEIVABLE, NET
<TABLE>
<CAPTION>
1998 1997
--------- -------
<S> <C> <C>
Loans (Net of Allowance for Uncollected Interest of $0)..... 471,133 251,986
Mortgage Backed Securities.................................. 210 1,048
Investment Securities....................................... 206,606 147,726
Cash and Due from Banks..................................... 8,014 --
--------- -------
685,963 400,760
========= =======
</TABLE>
NOTE 10. FEDERAL HOME LOAN BANK ADVANCES
Advances from FHLB are summarized as follows for the periods ended December
31, 1998 and 1997:
<TABLE>
<CAPTION>
CONTRACTUAL MATURITY 1998 1997
- -------------------- --------- -------
<S> <C> <C>
Within 10 Years:
Fixed Rate................................................ 9,000,000 --
========= =======
Weighted Average Rate..................................... 5.42% --%
</TABLE>
The Savings Bank pledges as collateral for these borrowings selected
qualifying mortgage loans (as defined) under an agreement with the FHLB. Loans
pledged at December 31, 1998 and 1997 were approximately $13,500,000 and $0,
respectively.
NOTE 11. OTHER NONINTEREST EXPENSE
Other noninterest expense amounts are summarized as follows for the periods
ended December 31, 1998, 1997 and 1996:
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Other Noninterest Expense:
Seminars and Education Expenses..................... 36,343 24,308 15,218
Insurance Expense................................... 32,241 32,322 21,213
Professional Expenses and Supervisory
Examinations..................................... 99,748 61,133 48,304
Office Supplies and Postage......................... 149,478 144,851 98,719
Telephone........................................... 82,512 43,638 17,703
Other............................................... 187,556 129,630 51,300
------- ------- -------
587,878 435,882 252,457
======= ======= =======
</TABLE>
NOTE 12. ORGANIZATION EXPENSE
The following organization expenses were netted against paid-in capital:
<TABLE>
<CAPTION>
1998 1997 1996
------- ------- -------
<S> <C> <C> <C>
Compensation and Related Benefits..................... -- -- 147,984
Supplies.............................................. -- -- 15,535
Telephone............................................. -- -- 3,199
Advertising........................................... -- -- 3,954
Other................................................. 11,355 -- 88,913
------- ------- -------
11,355 -- 259,585
======= ======= =======
</TABLE>
F-18
<PAGE> 68
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 13. INVESTMENT SECURITIES
The amortized cost and fair value of investment securities Held-to-Maturity
and Available-for-Sale at December 31, 1998 and 1997, by contractual maturity,
are shown below. Expected maturities will differ from contractual maturities
because issuers may have the right to call or prepay obligations without call or
prepayment penalties.
<TABLE>
<CAPTION>
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAINS LOSSES VALUE
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
December 31, 1998:
Available-for-Sale:
United States Government Agency Securities
Maturing:
After one year but within five years..... 5,989,785 20,515 -- 6,010,300
After five years but within ten years.... 5,564,386 39,557 -- 5,603,943
Mortgage Backed Securities:
Corporate issue............................. 35,947 211 -- 36,158
Other
Within one year............................. 598,171 -- -- 598,171
---------- ------ ----- ----------
Total.................................... 12,188,289 60,283 -- 12,248,572
========== ====== ===== ==========
December 31, 1997:
Held-to-Maturity:
United States Government Agency Securities
Maturing:
After one year but within five years..... 2,300,000 -- 4,656 2,295,344
After five years but within ten years.... 7,700,000 27,870 -- 7,727,870
---------- ------ ----- ----------
Total.................................... 10,000,000 27,870 4,656 10,023,214
========== ====== ===== ==========
Available-for-Sale:
United States Government Agency Securities
Maturing:
After one year but within five years..... 1,500,000 -- 981 1,499,019
After five years but within ten years.... 3,739,063 35,890 -- 3,774,953
After ten years............................. 1,000,000 4,330 -- 1,004,330
Mortgage Backed Securities:
Corporate issue............................. 179,304 1,407 -- 180,711
Other
Within one year............................. 3,888 -- -- 3,888
---------- ------ ----- ----------
Total.................................... 6,422,255 41,627 981 6,462,901
========== ====== ===== ==========
</TABLE>
Gross proceeds from sales of investment securities Available-for-Sale for
the period ended December 31, 1998, 1997 and 1996 were $14,374,235, $14,183,359
and $3,764,062, respectively, resulting in gross gains of $38,769, $148,045 and
$58,125, respectively.
F-19
<PAGE> 69
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 14. LEGAL PROCEEDINGS
The Company and its subsidiaries are periodically involved in legal
proceedings that are generally incidental to their businesses. At December 31,
1998, there were no legal proceedings that were expected to have a material
impact on the Company's financial statements.
NOTE 15. RELATED PARTY TRANSACTIONS
The Savings Bank has granted loans to its officers and directors.
Management believes that such loans were made in the ordinary course of business
with normal credit terms, including interest rates and collateral and do not
represent more than a normal risk of collection. Activity with related parties
during 1998, 1997 and 1996 was as follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- -------
<S> <C> <C> <C>
Loan Balances at the Beginning of the Period....... 2,046,056 555,432 --
New Loans.......................................... 2,514,787 1,656,131 580,362
Repayments......................................... (442,278) (165,507) (24,930)
--------- --------- -------
Loan Balances at the End of the Period............. 4,118,565 2,046,056 555,432
========= ========= =======
</TABLE>
Officers and directors have unsecured lines of credit that have not been
used in the amount of $49,501, $56,500 and $6,781 at December 31, 1998, 1997 and
1996, respectively.
Officers and directors also have unsecured overdraft protection accounts
with available balances in the amount of $83,892, $26,518 and $34,641 at
December 31, 1998, 1997 and 1996, respectively. Secured home-equity lines of
credit for officers and directors have an available amount of $39,579, $15,170
and $199,468 at December 31, 1998, 1997 and 1996, respectively.
Two individuals, one a director and the other an officer and director, are
also partners in a partnership in which the following significant transaction
occurred:
The Savings Bank leases the Browns Mill Office in Johnson City from the
partnership. The monthly lease payments were $2,550 per month in both 1998 and
1997 and $3,400 per month in 1996.
NOTE 16. COMMITMENTS
In the normal course of business, State of Franklin Savings Bank has
various outstanding commitments and contingent liabilities that are not
reflected in the accompanying consolidated financial statements. The principal
commitments of the Savings Bank are as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1998 DECEMBER 31, 1997
------------------------------- ------------------------------
FIXED VARIABLE FIXED VARIABLE
RATE RATE TOTAL RATE RATE TOTAL
------- --------- --------- ------ --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Mortgage Loans to Originate......... -- 294,400 294,400 -- 1,008,200 1,008,200
Unsecured Lines of Credit........... -- 511,287 511,287 -- 673,794 673,794
Overdraft Protection Accounts....... 260,595 -- 260,595 89,091 -- 89,091
Home Equity Lines of Credit......... -- 2,498,854 2,498,854 -- 1,633,350 1,633,350
Commercial.......................... -- 2,451,831 2,451,831 -- 1,377,724 1,377,724
------- --------- --------- ------ --------- ---------
260,595 5,756,372 6,016,967 89,091 4,693,068 4,782,159
======= ========= ========= ====== ========= =========
</TABLE>
Commitments under standby letters of credit totaled approximately $292,133
and $965,000 at December 31, 1998 and 1997, respectively.
F-20
<PAGE> 70
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
At December 31, 1998, the Savings Bank had unused lines of credit for funds
purchases and daylight overdrafts with two banks. The lines total $1,500,000
each and have variable interest rates based on the lending bank's daily federal
funds rate. The Savings Bank also has unused lines of credit with FHLB in the
amount of $7,902,000.
The Savings Bank is engaged in the sale of mortgage loans on the secondary
market. These loans are sold outright and are not serviced by the Savings Bank.
There were no loan sales in the year of 1996. The gain on the sale of these
mortgage loans is as follows:
<TABLE>
<CAPTION>
1998 1997
--------- ---------
<S> <C> <C>
Selling Price............................................... 5,083,213 1,161,502
Less: Carrying Value...................................... 5,016,375 1,140,479
Loan Cost........................................... 20,658 5,885
--------- ---------
Net Gain on Loans Sold.................................... 46,180 15,138
========= =========
</TABLE>
At December 31, 1998 and 1997, the Savings Bank had mortgage loans
committed to be sold totaling $1,627,400 and $180,300, respectively. Commitments
to originate loans to be sold on the secondary market were $1,758,740 and
$62,400 at December 31, 1998 and 1997, respectively.
The Savings Bank leases office space at the Browns Mill Road, Johnson City,
branch location under an operating lease expiring on August 31, 1999 with an
option to renew and extend for another three years. The Savings Bank has two
automobile leases that expire on June 15, 2000. The Savings Bank also leases
storage space at the Browns Mill Road, Johnson City, branch location under a
month-to-month operating lease.
Management expects as operating leases expire in the normal course of
business, they will be renewed or replaced by leases on other properties at
current market rental rates at the time of renewal.
Approximate minimum future rentals to be paid under the cancelable and
noncancelable leases for five years subsequent to December 31, 1998 are as
follows:
<TABLE>
<CAPTION>
NONCANCELABLE CANCELABLE
YEARS ENDED LEASES- LEASES-
DECEMBER 31, BUILDING & AUTO BUILDING
------------ --------------- ----------
<S> <C> <C>
1999..................................................... 49,426 1,560
2000..................................................... 40,013 1,560
2001..................................................... 30,600 1,560
2002..................................................... 30,600 1,560
2003..................................................... 30,600 1,560
------- -----
Total Minimum Future Rentals..................... 181,239 7,800
======= =====
</TABLE>
F-21
<PAGE> 71
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 17. FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair value of financial instruments is disclosed to comply with SFAS
No. 107, Disclosure about Fair Value of Financial Instruments. The following
tables present estimates of fair value for the Saving Bank's financial
instruments at December 31, 1998 and 1997:
<TABLE>
<CAPTION>
CARRYING FAIR
AMOUNT VALUE
---------- ----------
<S> <C> <C>
December 31, 1998:
Financial Assets:
Cash and Cash Equivalents................................. 13,928,172 13,928,172
Investment Securities..................................... 12,248,572 12,248,572
Loans..................................................... 86,104,974 86,876,374
Accrued Interest Receivable............................... 685,963 685,963
Leases Receivable, Net.................................... 120,999 120,999
Financial Liabilities:
Deposits.................................................. 96,364,077 96,684,783
Advance Payments by Borrowers for Taxes and Insurance
(Escrows).............................................. 98,784 98,784
Accrued Interest on Deposits.............................. 103,769 103,769
Notes Payable............................................. 687,925 673,283
FHLB Advances............................................. 9,000,000 9,000,000
</TABLE>
<TABLE>
December 31, 1997:
<S> <C> <C>
Financial Assets:
Cash and Cash Equivalents................................. 12,415,800 12,415,800
Investment Securities..................................... 16,462,901 16,486,116
Loans..................................................... 50,374,093 50,449,261
Accrued Interest Receivable............................... 400,760 400,760
Financial Liabilities:
Deposits.................................................. 72,243,884 72,271,957
Advance Payments by Borrowers for Taxes and Insurance
(Escrows).............................................. 59,911 59,911
Accrued Interest on Deposits.............................. 43,469 43,469
</TABLE>
The carrying amounts in the preceding table are included in the
consolidated statements of financial condition under the applicable captions.
The contract or notional amounts of the Company's financial instruments with
off-balance-sheet risk are disclosed in Note 16. No derivatives were held by the
Company. It is not practicable to estimate the fair value of Federal Home Loan
Bank stock because it is not marketable. The carrying amount of that investment
is reported at cost in the consolidated statements of financial condition.
The following describes the assumptions and methodologies used to calculate
the fair value for financial instruments.
Fair Values of Financial Instruments: Statement of Financial Accounting
Standards No. 107, Disclosures about Fair Value of Financial Instruments,
requires disclosure of fair value information about financial instruments,
whether or not recognized in the balance sheet, for which it is practicable to
estimate that value. In cases where quoted market prices are not available, fair
values are based on estimates using present value or other valuation techniques.
Those techniques are significantly affected by the assumptions used, including
the discount rate and estimates of future cash flows. In that regard, the
derived fair value estimates cannot be substantiated by comparison to
independent markets and, in many cases, could not be realized in immediate
settlement of the instruments. Statement No. 107 excludes
F-22
<PAGE> 72
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
certain financial instruments and all nonfinancial instruments from its
disclosure requirements. Accordingly, the aggregate fair value amounts presented
do not represent the underlying value of the Company.
Floating Rate Loans: Floating rate 1-4 family residential mortgage loans
reprice periodically and will lag movements in market rates. The fair value for
floating rate mortgage loans is calculated by discounting future cash flows to
their present value. Future cash flows, consisting of principal payments,
interest payments, and repricings, are discounted with current Savings Bank
prices for similar instruments applicable to the remaining maturity. Prepayment
assumptions based on historical prepayment speeds have been applied to the 1-4
family residential floating rate mortgage portfolio.
Fixed Rate Loans and Leases: The fair value for fixed rate loans and
leases is calculated by discounting future cash flows to their present value.
Future cash flows, consisting of both principal and interest payments, are
discounted with current Savings Bank prices for similar instruments applicable
to the remaining maturity. Prepayment assumptions based on historical prepayment
speeds have been applied to the fixed rate mortgage and installment loan
portfolios.
Allowance For Loan Losses: The fair value of the allowance for loan losses
is approximated by the book value. Additionally, the credit exposure known to
exist in the loan portfolio is embodied in the allowance for loan losses.
Cash and Cash Equivalents: The fair value of cash and cash equivalents are
approximated by the book value.
Investment Securities: Market quotes, when available, are used for the
fair value of investment securities.
Defined Maturity Deposits: The fair value for defined maturity deposits is
calculated by discounting future cash flows to their present value. Future cash
flows, consisting of both principal and interest payments, are discounted with
Savings Bank prices for similar instruments applicable to the remaining
maturity. For the purpose of this disclosure, defined maturity deposits include
all certificates of deposit and other time deposits.
Undefined Maturity Deposits: The fair value of undefined maturity deposits
is required by the statement to equal the book value. For the purpose of this
disclosure, undefined maturity deposits include demand deposits, checking
interest accounts, savings accounts, and money market accounts.
Long-Term Debt: The fair value of long-term debt instruments and Federal
Home Loan Bank advances is estimated using a discounted cash flow calculation,
based on current rates for similar debt.
Limitations: The foregoing fair value estimates are made at a specific
point in time, based on pertinent market data and relevant information on the
financial instrument. These estimates do not include any premium or discount
that could result from an offer to sell, at one time, the Savings Bank's entire
holdings of a particular financial instrument or category thereof. Since no
market exists for a substantial portion of the Savings Bank's financial
instruments, fair value estimates were necessarily based on judgments with
respect to future expected loss experience, current economic conditions, risk
assessments of various financial instruments involving a myriad of individual
borrowers, and other factors. Given the innately subjective nature of these
estimates, the uncertainties surrounding them and the matters of significant
judgment that must be applied, these fair value estimations cannot be calculated
with precision. Modifications in such assumptions could meaningfully alter these
estimates.
Since these fair value approximations were made solely for on- and
off-balance sheet financial instruments, no attempt was made to estimate the
value of anticipated future business and the value of nonfinancial statement
assets and liabilities. Other important elements which are not deemed to be
F-23
<PAGE> 73
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
financial assets or liabilities include the value of the Savings Bank's existing
core deposit base, premises and equipment, and goodwill. Further, certain tax
implications related to the realization of the unrealized gains and losses could
have a substantial impact on these fair value estimates and have not been
incorporated into any of the estimates.
NOTE 18. FEDERAL INCOME TAX
A reconciliation between the effective income tax expense or benefit and
the amount computed by multiplying the projected statutory federal income tax
rate for the period ended December 31, 1998, 1997 and 1996 is as follows:
<TABLE>
<CAPTION>
1998 1997 1996
-------- ------- -------
<S> <C> <C> <C>
Computed "Expected" Tax (Expense) Benefit................... (186,556) (7,794) 77,126
Bad Debt Deduction.......................................... 110,492 (73,785) (19,607)
Amortization of Organization Expense........................ 17,845 16,943 6,489
Other....................................................... (855) 1,101 (565)
Reversal of Allowance for Deferred Tax Assets............... -- 68,612 --
FHLB Dividends.............................................. 6,868 -- --
-------- ------- -------
Provision for Income Taxes.................................. (52,206) 5,077 63,443
======== ======= =======
Current Income Tax (Expense) Benefit........................ (183,707) 13,075 --
Deferred Income Tax (Expense) Benefit....................... 131,501 (7,998) 63,443
-------- ------- -------
Provision for Income Taxes.................................. (52,206) 5,077 63,443
======== ======= =======
Deferred Tax Assets:
Due to Net Operating Loss Carryforward.................... -- 68,521 132,055
Due to Unrealized Gains on Investments.................... (20,496) (13,076) --
Due to FHLB Dividends..................................... (6,868) -- --
Due to Reserve for Loan Losses............................ 214,310 -- --
-------- ------- -------
186,946 55,445 132,055
-------- ------- -------
Reserve for Deferred Tax Assets:
Beginning Balance......................................... -- (68,612) --
Amount Reserved........................................... -- -- (68,612)
Reversal of Reserved Amount............................... -- 68,612 --
-------- ------- -------
Ending Balance.................................... -- -- (68,612)
-------- ------- -------
Deferred Tax Assets -- Net.................................. 186,946 55,445 63,443
======== ======= =======
</TABLE>
The Savings Bank had a net operating loss carryforward of $195,157 which
was used to offset federal taxable income in 1998.
In assessing the realizability of the related deferred tax asset,
management considers whether it is more likely than not that some portion or all
of the deferred tax asset will not be realized. The ultimate realization of
deferred tax assets is dependent upon the existence of, or generation of,
taxable income in the periods which those temporary differences are deductible.
Management considers the projected future taxable income and tax planning
strategies in making this assessment. Based upon the projection for future
taxable income over the periods which the deferred tax asset is deductible, at
December 31, 1998, management believes it is more likely than not that the
Savings Bank will realize the benefits of these deductible differences.
F-24
<PAGE> 74
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 19. COMPREHENSIVE INCOME
In June of 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 130, (SFAS No. 130), Reporting
Comprehensive Income. This new statement establishes standards for reporting and
displaying comprehensive income and its components in a basic set of financial
statements. The purpose of reporting comprehensive income is to report a measure
of all changes in equity of an enterprise that results from recognized
transactions and other economic events of the period other than transactions
with owners in their capacity as owners.
Comprehensive income is defined as the change in equity of a business
enterprise during a period from transactions and other events and circumstances
from nonowner sources. It includes all changes in equity during a period except
those resulting from investments by owners and distributions to owners.
Reclassification adjustments are made to avoid counting in comprehensive
income items that are displayed as part of net income for a period that also had
been displayed as part of other comprehensive income in that period or earlier
periods. For example, gains on investment securities that were realized and
included in net income of the current period that also had been included in
other comprehensive income as unrealized holding gains in the period in which
they arose must be deducted through other comprehensive income of the period in
which they are included in net income to avoid including them in comprehensive
income twice.
State of Franklin Savings Bank adopted SFAS No. 130 effective December 31,
1997 and restated the previous year's financial statements to comply with the
new reporting requirements.
NOTE 20. EARNINGS (LOSS) PER SHARE
Statement of Financial Accounting Standards No. 128 (SFAS No. 128),
Earnings Per Share, is effective for fiscal years ending after December 15,
1997. This statement presents standards for computing and presenting earnings
per share (EPS) and applies to entities with publicly held common stock or
potential common stock. SFAS No. 128 simplifies previous standards for computing
EPS and makes them comparable to international EPS standards. It replaces the
presentation of primary EPS with the presentation of basic EPS. Basic EPS
excludes dilution and is computed by dividing income available to common
stockholders by the weighted-average number of common shares outstanding for the
period. Diluted EPS reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock or resulted in the issuance of common stock that then shared
in the earnings of the entity. Diluted EPS is computed similarly to fully
diluted EPS.
The Savings Bank adopted SFAS No. 128 effective January 1, 1997 and
restated the previous year's financial statements to comply with the new
reporting requirements.
<TABLE>
<CAPTION>
1998 1997 1996
--------- --------- --------
<S> <C> <C> <C>
Net Income Available to Common Shareholders............... 496,489 57,035 (450,733)
========= ========= ========
Average Shares
Average Shares -- Basic................................. 1,117,270 1,111,280 610,000
Effect of Dilutive Common Stock Options................. 6,484 8,316 --
--------- --------- --------
Average Shares -- Diluted............................... 1,123,754 1,119,596 610,000
========= ========= ========
Basic Earnings (Loss) Per Share........................... 0.44 0.05 (0.74)
========= ========= ========
Diluted Earnings (Loss) Per Share......................... 0.44 0.05 (0.74)
========= ========= ========
</TABLE>
F-25
<PAGE> 75
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 21. CONDENSED PARENT COMPANY ONLY FINANCIAL STATEMENTS
Statement of Financial Position
<TABLE>
<CAPTION>
DECEMBER 31,
1998
------------
<S> <C>
Assets:
Cash and Cash Equivalents................................... 897
Investments -- Available-for-Sale........................... 593,164
Receivable from ESOP........................................ 108,286
Investments in Subsidiaries................................. 11,565,733
----------
Total Assets................................. 12,268,080
==========
Liabilities:
Short Term Borrowings -- Subsidiary......................... 2,743
Notes Payable............................................... 687,925
----------
Total Liabilities................................. 690,668
----------
Stockholders' Equity:
Common Stock, $1.00 Par Value, Authorized: 3,000,000 Shares;
Issued: 1,180,152 Shares.................................. 1,180,152
Common Stock Subscribed..................................... 6,996
Paid-In Capital............................................. 10,907,472
Accumulated Other Comprehensive Income...................... 39,820
Retained Earnings........................................... 107,792
Less: Employee Stock Ownership.............................. (664,820)
----------
Total Stockholders' Equity........................ 11,577,412
----------
Total Liabilities and Stockholders' Equity... 12,268,080
==========
</TABLE>
Statement of Income
<TABLE>
<CAPTION>
PERIOD ENDED
DECEMBER 31,
1998
------------
<S> <C>
Interest Income............................................. 8,634
Dividends from Banking Subsidiary........................... 5,000
-------
Income Before Income Taxes and Equity in Undistributed
Earnings of Subsidiaries.................................. 13,634
Provision for Income Taxes.................................. (2,743)
-------
Income before Equity in Undistributed Earnings of
Subsidiaries.............................................. 10,891
Equity in Undistributed Earnings of Subsidiaries............ 485,598
-------
Net Income.................................................. 496,489
=======
</TABLE>
F-26
<PAGE> 76
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Statement of Cash Flows
<TABLE>
<CAPTION>
PERIOD ENDED
DECEMBER 31,
1998
------------
<S> <C>
Cash Flows from Operating Activities
Net Income................................................ 496,489
Items Not Affecting Cash and Cash Equivalents:
Equity in Undistributed Earnings of Subsidiaries....... (485,598)
Increase in Payable to Subsidiary...................... 2,743
--------
Net Cash Provided by Operating Activities......... 13,634
--------
Cash Flows from Investing Activities
Purchase of Investments................................... (707,634)
Proceeds from Sale of Available-for-Sale Investments...... 114,470
Investment in Subsidiary.................................. (100,000)
--------
Net Cash Used by Investing Activities............. (693,164)
--------
Cash Flows from Financing Activities
Issuance of Common Stock, Net............................. 3,857
Organization Costs........................................ (11,355)
Proceeds from Debt........................................ 700,000
Repayments of Debt........................................ (12,075)
--------
Net Cash Provided by Financing Activities......... 680,427
--------
Net Increase in Cash and Cash Equivalents......... 897
Cash and Cash Equivalents at Beginning of Period............ --
--------
Cash and Cash Equivalents at End of Period........ 897
========
</TABLE>
F-27
<PAGE> 77
PART 1 -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
STATE OF FRANKLIN BANCSHARES, INC.
CONSOLIDATED BALANCE SHEETS -- UNAUDITED
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1999 1998
------------ ------------
<S> <C> <C>
ASSETS
Cash and Due from Banks..................................... $ 2,790,196 $ 2,507,173
Federal Funds Sold.......................................... 3,804,000 6,421,000
Short-Term Interest Bearing Deposits........................ 0 5,000,000
Investments -- HTM.......................................... 12,987,995 0
Investments -- AFS.......................................... 19,857,132 12,248,572
Loans Held for Sale......................................... 436,813 1,627,400
Loans and Leases Receivable................................. 98,476,576 85,228,897
Less: Allowance for Loan Loss............................. (748,454) (630,324)
------------ ------------
Loans and Leases Receivable, Net.......................... 97,728,122 84,598,573
------------ ------------
Accrued Interest Receivable, Net............................ 1,164,054 685,963
Land, Buildings & Equip at Cost Less Accum Depr of $347,134
in 1998 and $472,996 in 1999.............................. 4,076,728 4,117,351
Prepaid Expense and Accounts Receivable..................... 102,230 48,218
Investment in Service Bureau at Cost........................ 15,000 15,000
Deferred Tax Assets......................................... 422,979 186,946
FHLB Stock.................................................. 1,368,200 471,200
Cash due from ESOP.......................................... 0 108,286
------------ ------------
Total Assets...................................... $144,753,450 $118,035,681
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Interest-free Checking.................................... $ 7,044,477 $ 5,539,590
Interest-bearing Deposits................................. 115,866,396 90,824,486
Advances by borrowers for Taxes and Insurance............. 215,149 98,784
Accrued Interest on Deposits.............................. 72,165 103,769
Accounts Payable and Accrued Expenses..................... 253,183 189,379
FHLB Advances............................................. 9,000,000 9,000,000
Deferred Gain on REO...................................... 21,449 21,449
Notes Payable............................................. 652,590 687,925
------------ ------------
Total Liabilities................................. $133,125,409 $106,465,382
------------ ------------
Stockholders' Equity:
Common Stock, $1.00 Par Value............................. 1,190,427 1,180,152
Common Stock Subscribed................................... 0 6,996
Paid-in Capital........................................... 10,937,656 10,905,359
Accumulated Other Comprehensive Income.................... (345,023) 39,820
Retained Earnings......................................... 497,571 102,792
Unearned Compensation -- ESOP............................. (652,590) (664,820)
------------ ------------
Total Stockholders' Equity........................ $ 11,628,041 11,570,299
------------ ------------
Total Liabilities and Stockholders' Equity........ $144,753,450 $118,035,681
============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-28
<PAGE> 78
STATE OF FRANKLIN BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME -- UNAUDITED
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30,
---------------------------
1999 1998
----------- -----------
<S> <C> <C>
Interest Income:
Interest and Fees on Loans................................ $1,921,330 $1,357,425
Other Interest Income..................................... 581,750 449,102
---------- ----------
Total Interest Income............................. 2,503,081 1,806,527
---------- ----------
Interest Expense:
Interest on Deposits...................................... 1,384,985 1,093,842
Other Interest Expense.................................... 124,330 42,018
---------- ----------
Total Interest Expense............................ 1,509,316 1,135,860
---------- ----------
Net Interest Income Before Provision for Loan Loss.......... 993,765 670,667
Provision for Loan Losses................................... (70,641) (77,736)
---------- ----------
Net Interest Income After Provision for Loan Loss........... 923,123 592,931
---------- ----------
Other Income:
Other Fees and Service Charges............................ 55,196 40,191
Net Gain on Loans Sold.................................... 18,136 11,622
Net Gain on Sale and Maturity of Securities............... 12,724 14,235
Insurance Commission Income............................... 15,678 11,075
Rental Income, Net........................................ 31,269 16,928
Other..................................................... (24) 3,163
---------- ----------
Total Other Income................................ 132,978 97,214
---------- ----------
Other Expenses:
Compensation and Related Benefits......................... 306,873 235,411
Occupancy Expenses........................................ 56,359 50,217
Furniture and Equipment Expense........................... 77,972 45,026
Advertising............................................... 28,589 28,865
Data Processing Expense................................... 65,973 50,328
Other..................................................... 198,054 130,461
---------- ----------
Total Other Expenses.............................. 733,820 540,308
---------- ----------
Income Before Income Tax............................... 322,281 149,837
Provision for Income Taxes.................................. (106,575) (33,161)
---------- ----------
Net Income............................................. $ 215,706 $ 116,676
========== ==========
Earnings per share:
Basic..................................................... $ 0.19 $ 0.10
Diluted................................................... 0.19 0.10
========== ==========
Weighted average shares outstanding:
Basic..................................................... 1,126,149 1,115,207
Diluted................................................... 1,138,830 1,123,525
========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-29
<PAGE> 79
STATE OF FRANKLIN BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF INCOME -- UNAUDITED
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
-------------------------
1999 1998
---------- ----------
<S> <C> <C>
Interest Income:
Interest and Fees on Loans................................ $3,730,261 $2,502,163
Other Interest Income..................................... 987,717 860,839
---------- ----------
Total Interest Income............................. 4,717,978 3,363,002
---------- ----------
Interest Expense:
Interest on Deposits...................................... 2,587,230 2,068,109
Other Interest Expense.................................... 244,684 42,018
---------- ----------
Total Interest Expense............................ 2,831,913 2,110,127
---------- ----------
Net Interest Income Before Provision for Loan Loss.......... 1,886,065 1,252,875
Provision for Loan Losses................................... (119,146) (127,379)
---------- ----------
Net Interest Income After Provision for Loan Loss........... 1,766,919 1,125,496
---------- ----------
Other Income:
Other Fees and Service Charges............................ 105,445 79,960
Net Gain on Loans Sold.................................... 85,899 18,249
Net Gain on Sale and Maturity of Securities............... 12,724 38,769
Insurance Commission Income............................... 26,443 18,297
Rental Income, Net........................................ 59,154 45,805
Other..................................................... -- 5,307
---------- ----------
Total Other Income................................ 289,663 206,387
---------- ----------
Other Expenses:
Compensation and Related Benefits......................... 614,485 482,508
Occupancy Expenses........................................ 126,932 111,161
Furniture and Equipment Expense........................... 130,037 87,312
Advertising............................................... 64,217 53,134
Data Processing Expense................................... 153,810 97,983
Other..................................................... 374,455 275,152
---------- ----------
Total Other Expenses.............................. 1,463,935 1,107,250
---------- ----------
Income Before Income Tax............................... 592,647 224,633
Provision for Income Taxes.................................. (197,868) (67,752)
---------- ----------
Net Income............................................. $ 394,779 $ 156,881
========== ==========
Earnings per share:
Basic..................................................... $ 0.35 $ 0.14
Diluted................................................... 0.35 0.14
========== ==========
Weighted average shares outstanding:
Basic..................................................... 1,125,012 1,113,898
Diluted................................................... 1,136,479 1,122,216
========== ==========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-30
<PAGE> 80
STATE OF FRANKLIN BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS -- UNAUDITED
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
-----------------------------
1999 1998
------------ ------------
<S> <C> <C>
Cash Flows from Operating Activities:
Net Income (Loss)......................................... $ 394,779 $ 156,881
Items Not Affecting Cash:
Depreciation........................................... 125,862 96,564
(Increase) in Accrued Interest......................... (478,092) (280,409)
Deferred Income Taxes (Benefit)........................ 42,871 27,723
Provisions for Loan Losses............................. 118,130 127,102
(Increase) Decrease in Prepaid Expenses and Accounts
Receivable........................................... (54,012) 30,163
(Decrease) in Interest Payable......................... (31,604) 46,462
Increase in Accounts Payable and Accrued Expenses...... 63,804 34,986
(Decrease) in Deferred Loan Fees, Net.................. (972) 8,063
(Gain) on Sale of Investments.......................... (12,724) (38,770)
Discount Accretion..................................... (3,033) 32,635
Increase in Deferred Gain on Sale of REO............... -- 21,449
Earned ESOP Shares..................................... 35,335 --
FHLB Stock Dividends................................... (26,300) --
Net (Increase) Decrease in Loans Held for Sale......... 1,190,587 (1,384,700)
------------ ------------
Net Cash Provided (Used) by Operating
Activities...................................... 1,364,632 (1,121,851)
------------ ------------
Cash Flows from Investing Activities:
Purchase of Investments................................... (27,907,489) (19,524,638)
Proceeds from Maturities of Held-to-Maturity
Investments............................................ -- 11,500,000
Proceeds from Sale of Available-for-Sale Investments...... -- 6,220,996
Proceeds from Maturities of Available-for-Sale
Investments............................................ 6,595,000 --
Principal payments on Mortgage Backed Securities -- AFS... 35,965 71,458
(Increase) Decrease in Federal Funds Sold................. 2,617,000 2,886,000
(Increase) Decrease in Short-Term Interest Bearing
Deposits............................................... 5,000,000 (5,000,000)
Increase in Loans Receivable, Net......................... (13,129,550) (16,777,509)
Purchases of Premises and Equipment....................... (85,239) (675,641)
Purchases of Federal Home Loan Bank Stock................. (870,700) (454,800)
------------ ------------
Net Cash (used) by Investing Activities................ (27,745,013) (21,754,134)
------------ ------------
Cash Flows from Financing Activities:
Net Increase in Deposits.................................. 26,546,797 13,442,375
Net Increase in Advances by Borrowers for Taxes and
Insurance.............................................. 116,366 118,215
Issuance of Common Stock, Net............................. 35,576 57,596
Repayment of Debt......................................... (35,335) --
Organization Costs........................................ -- (4,123)
Proceeds from FHLB Advances............................... -- 9,000,000
------------ ------------
Net Cash provided by Financing Activities.............. 26,663,404 22,614,063
------------ ------------
Net Increase (Decrease) in Cash................... 283,024 (261,922)
Cash and Due from Banks at Beginning of Period.............. 2,507,173 2,321,800
------------ ------------
Cash and Due from Banks at End of Period.......... $ 2,790,196 $ 2,059,878
============ ============
Supplemental Schedule of Noncash Investing and Financing
Activities:
Unrealized Gain on Securities Available-For-Sale, Net of
Deferred Tax Liability.................................... $ (345,023) $ (11,232)
------------ ------------
REO Sold in Exchange for Loan Receivable.................... $ -- $ 245,681
============ ============
Supplemental Disclosures of Cash Flow Information:
Cash Paid During the Period for:
Income Taxes........................................... $ 169,460 $ --
Interest............................................... $ 2,863,517 $ 2,063,665
============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-31
<PAGE> 81
STATE OF FRANKLIN BANCSHARES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME -- UNAUDITED
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30,
---------------------------
1999 1998
----------- ----------
<S> <C> <C>
Net Income.................................................. $ 215,706 $116,676
--------- --------
Other Comprehensive income, before tax:
Unrealized gain (loss) on securities available for sale:
Unrealized holdings gain (loss) arising during the
period................................................ (548,758) (29,213)
Less: Reclassification adjustment for (gains) included
in net income......................................... (6,807) 13,528
--------- --------
Other comprehensive income (loss)................. (555,565) (15,685)
Income taxes (benefit) related to other comprehensive
income.................................................... (188,892) (5,333)
--------- --------
Total Comprehensive Income (loss)................. $(150,967) $106,324
========= ========
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30,
-------------------------
1999 1998
---------- ---------
<S> <C> <C>
Net Income.................................................. $ 394,779 $156,881
--------- --------
Other Comprehensive income, before tax:
Unrealized gain (loss) on securities available for sale:
Unrealized holdings gain (loss) arising during the
period................................................ (583,096) (57,664)
Less: Reclassification adjustment for (gains) included
in net income......................................... (12,724) 40,646
--------- --------
Other comprehensive income (loss)................. (595,820) (17,018)
Income taxes (benefit) related to other comprehensive
income.................................................... (202,579) (5,786)
--------- --------
Total Comprehensive Income (loss)................. $ 1,538 $145,649
========= ========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-32
<PAGE> 82
STATE OF FRANKLIN BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- UNAUDITED
NOTE 1. INCORPORATION AND OPERATIONS
State of Franklin Bancshares, Inc. (Company) was incorporated under the
laws of the State of Tennessee for the purpose of becoming the holding company
of State of Franklin Savings Bank. The stockholders of the Savings Bank
exchanged their shares for the shares of the Company, whereby the Savings Bank
became the Company's wholly owned subsidiary. State of Franklin Leasing
Corporation was incorporated under the laws of the state of Tennessee for the
purpose of lease financing. The Leasing Corp is a wholly owned subsidiary of the
Company. John Sevier Title Services, Inc. is the wholly owned subsidiary of the
Savings Bank.
NOTE 2. BASIS OF PREPARATION
The accompanying unaudited consolidated financial statements include the
accounts of the Company and its subsidiaries. All significant intercompany
accounts and transactions have been eliminated. These financial statements were
prepared in accordance with generally accepted accounting principles for interim
financial information in accordance with the instructions for Form 10-QSB.
Accordingly, they do not include all disclosures necessary for a complete
presentation of the consolidated statements of financial condition,
comprehensive income, and cash flows in conformity with generally accepted
accounting principles. However, all adjustments which are, in the opinion of
management, necessary for the fair presentation of the interim financial
statements have been included. All such adjustments are of a normal recurring
nature. The statement of comprehensive income for the six months ended June 30,
1999, is not necessarily indicative of the results which may be expected for the
entire year.
These consolidated financial statements should be read in conjunction with
the audited consolidated financial statements and notes thereto for the Company
for the year ended December 31, 1998.
NOTE 3. RECLASSIFICATIONS
In instances where required, amounts reported in prior year's financial
statements included herein have been reclassified to put them on a comparable
basis to the amounts reported in the December 31, 1998 consolidated financial
statements.
NOTE 4. EMPLOYEE STOCK OWNERSHIP PLAN AND TRUST (ESOP)
At June 30, 1999, the ESOP had 78,529 shares of which approximately 15,990
shares were released and allocated, 3,212 shares were considered committed to be
released and 59,327 shares were unallocated. For the six months ended June 30,
1999, compensation related to the ESOP of approximately $57,800 was expensed.
Unallocated ESOP shares are not considered outstanding for the earnings per
share calculation.
NOTE 5. ORGANIZATION EXPENSE
There were no miscellaneous organization expenses of the Company netted
against paid-in capital for the six month period ended June 30, 1999.
Miscellaneous organization expenses of $11,355 were netted against paid-in
capital in 1998.
F-33
<PAGE> 83
STATE OF FRANKLIN BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- UNAUDITED -- (CONTINUED)
NOTE 6. LOANS RECEIVABLE
Loans receivable at June 30, 1999 and December 31, 1998, consist of the
following:
<TABLE>
<CAPTION>
1999 1998
----------- ----------
<S> <C> <C>
First Mortgage Loans............................... 37,871,102 35,195,869
Construction Loans................................. 25,605,763 22,024,861
Consumer Loans..................................... 8,754,721 7,726,136
Participation Loans, Net........................... 413,296 863,162
Commercial Loans................................... 32,940,835 26,603,529
Savings Account Loans.............................. 380,026 545,011
Credit Line Advances............................... 114,611 396,618
Lease Finance...................................... 459,277 120,999
----------- ----------
Gross Loans Receivable........................... 106,539,631 93,476,185
----------- ----------
Less:
Undisbursed Portion of Loans in Process.......... (7,996,465) (8,179,727)
Net Deferred Loan Origination Fees............... (66,589) (67,561)
Accumulated General Loan Loss Allowance.......... (748,454) (630,324)
----------- ----------
(8,811,508) (8,877,612)
----------- ----------
Loans Receivable, Net.............................. 97,728,122 84,598,573
=========== ==========
</TABLE>
An analysis of the allowance for loan losses at June 30, 1999 and December
31, 1998 is as follows:
<TABLE>
<CAPTION>
1999 1998
----------- ----------
<S> <C> <C>
Balance -- Beginning of Period..................... 630,324 355,474
Provision for Losses............................... 119,146 275,127
Net Charge-Offs.................................... (1,016) (277)
----------- ----------
Balance -- End of Period........................... 748,454 630,324
=========== ==========
</TABLE>
F-34
<PAGE> 84
STATE OF FRANKLIN BANCSHARES, INC.
<PAGE> 85
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 1. INDEMNIFICATION OF OFFICERS AND DIRECTORS.
Our Charter and Bylaws provide for the indemnification of the Company's
directors, officers, employees and agents to the full extent permitted by the
Tennessee Business Corporation Act ("TBCA").
Indemnification may be provided by State of Franklin in other situations
upon court order or upon a determination by (1) a disinterested majority of our
Board of Directors; (2) independent legal counsel in a written opinion; or (3) a
majority of our shareholders that indemnification of the director, officer,
employee or agent is proper because such person met the applicable standard of
conduct specified by the TBCA and our Charter and Bylaws. Indemnification may be
authorized if the individual (1) acted in good faith; (2) reasonably believed
that his conduct was in or not opposed to the best interest of the corporation;
and (3) in the case of any criminal proceeding, had no reasonable cause to
believe his conduct was unlawful. The termination of any action, suit or
proceeding by judgment, order, settlement, conviction, or plea of nolo
contendere or its equivalent, shall not, of itself, create a presumption that
the above standard of conduct has not been met. No director can be held
personally liable to State of Franklin for monetary damages for any breach of
his fiduciary duty to the corporation; provided that, a director may be liable
(1) for breach of the director's duty of loyalty to State of Franklin and its
shareholders; (2) for acts or omission not in good faith or involving
intentional misconduct or a knowing violation of law; or (3) for any liability
under Section 48-18-304 of the Tennessee Business Corporation Act.
The TBCA provides that State of Franklin may not indemnify a director in
connection with any action, suit or proceeding in which a judgement or other
final adjudication established the director's liability (1) for a breach of the
duty of loyalty to State of Franklin or its shareholders; (2) for acts or
omissions not in good faith or which involve intentional misconduct or a knowing
violation of law; or (3) for unlawful distributions pursuant to TBCA Section
48-18-304.
In addition, the TBCA and State of Franklin's Charter and Bylaws
authorize us to purchase officer and director liability insurance. We have
purchased officer and director liability insurance.
ITEM 2. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The estimated expenses in connection with this offering are as set forth
in the following table. All amounts except the SEC registration fee are
estimated.
<TABLE>
<S> <C>
SEC Registration Fee $ 2,085
Printing and Engraving Expenses 10,000
Accounting Fees and Expenses 10,000
Legal Fees and Expenses 20,000
Blue Sky Fees and Expenses 5,000
Transfer Agent's and Registrar's Fees and Expenses 5,000
Miscellaneous 22,915
-------
Total $75,000
=======
</TABLE>
ITEM 3. UNDERTAKINGS.
(a) The undersigned Registrant hereby undertakes to file, during any
period in which the Registrant offers or sells securities, a post-effective
amendment to this registration statement (1) to include any prospectus required
by section 10(a)(3) of the Securities Act of 1933; (2) to reflect in the
prospectus any facts or events which, individually or together, represent a
fundamental change in the information in the registration statement;
notwithstanding the foregoing, any increase or decrease in the volume of
securities offered (if the total dollar value would not exceed that which was
registered) and any deviation from the low or high end of the estimated maximum
offering range may be reflected in the form of prospectus filed with the
Securities and Exchange Commission
<PAGE> 86
pursuant to Rule 424(b) if, in the aggregate, the changes in the volume and
price represent no more than a 20% change in the maximum aggregate offering
price set forth in the "Calculation of Registration Fee" table in the effective
registration statement; and (3) to include any additional or changed material
information on the plan of distribution.
(b) For determining liability under the Securities Act of 1933, the
undersigned Registrant hereby undertakes to treat each post-effective amendment
as a new registration statement of the securities offered, and the offering of
the securities at that time to be the initial bona fide offering.
(c) The undersigned Registrant hereby undertakes to file a post-effective
amendment to remove from registration any of the securities that remain unsold
at the end of the offering.
(d) Insofar as indemnification for liabilities arising under the
Securities Act of 1933 may be permitted to directors, officer and controlling
persons of the Registrant pursuant to the foregoing provisions, or otherwise,
the Registrant has been advised that in the opinion of the Securities and
Exchange Commission such indemnification is against public policy as expressed
in the Act and is, therefore, unenforceable. In the event that a claim for
indemnification against such liabilities (other than the payment by the
Registrant of expenses incurred or paid by a director, officer or controlling
person of the Registrant in the successful defense of any action, suit or
proceeding) is asserted by such director, officer or controlling person in
connection with the securities being registered, the Registrant will, unless in
the opinion of its counsel the matter has been settled by controlling precedent,
submit to a court of appropriate jurisdiction the question whether such
indemnification by it is against public policy as expressed in the Act and will
be governed by the final adjudication of such issue.
ITEM 4. RECENT SALES OF UNREGISTERED SECURITIES.
None.
ITEMS 5 AND 6. INDEX AND DESCRIPTION OF EXHIBITS
The following exhibits are filed as part of this Registration Statement.
<TABLE>
<CAPTION>
Exhibit No. Description
- ----------- -----------
<S> <C>
3.1* Charter of State of Franklin Bancshares, Inc.
3.2* Bylaws of State of Franklin Bancshares, Inc.
5 Opinion and Consent of Baker, Donelson, Bearman & Caldwell,
P.C. as to the validity of the common stock registered hereunder.
10.1** 1998 Incentive and Nonqualifed Stock Option Plan
10.2** 1998 Non-Employee Director Plan
23.1 Consent of Baker, Donelson, Bearman & Caldwell, P.C. (contained in
Exhibit 5).
23.2 Consent of Baylor & Backus
24 Powers of Attorney (included on signature page)
99.1 Form of Subscription Agreement (included in prospectus)
</TABLE>
- ----------
* Incorporated herein by reference to the Registrant's Form 10-KSB, filed
with the Securities and Exchange Commission on March 23, 1999 (File
number 000-24675).
** Incorporated herein by reference to the Registrant's Form 10-SB, filed
with the Federal Deposit Insurance Corporation, April, 1999.
<PAGE> 87
Pursuant to the requirements of the Securities Act of 1933, the
Registrant has duly caused this Registration Statement on Form SB-1 to be signed
on its behalf by the undersigned, thereunto duly authorized in the City of
Johnson City, State of Tennessee on September 30, 1999.
STATE OF FRANKLIN BANCSHARES, INC.
By: /s/ Charles E. Allen, Jr.
-----------------------------------------
Charles E. Allen, Jr.
Chairman of the Board and Chief
Financial Officer
By: /s/ Randal R. Greene
-----------------------------------------
Randal R. Greene
President and Chief Executive Officer
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature
appears below hereby constitute and appoints Charles E. Allen, Jr. and Randal R.
Greene, or either of them, his true and lawful attorney- in-fact and agent, with
full power of substitution and resubstitution, for him and in his name, place
and stead, in any and all capacities, to sign any and all amendments to this
Registration Statement, and to file the same, with all exhibits thereto, and
other documents in connection therewith, with the Securities and Exchange
Commission, granting unto said attorney-in-fact and agent full power and
authority to do and perform each and every act and thing requisite and necessary
to be done as fully to all intents and purposes as he might or could do in
person, hereby ratifying and confirming all that said attorney-in-fact and
agent, or his substitute or substitutes, may lawfully do or cause to be done by
virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities and on the dates indicated:
<TABLE>
<CAPTION>
Signature Capacity Date
- --------- -------- ----
<S> <C> <C>
/s/ Charles E. Allen, Jr. Chairman of the Board, Chief Financial Officer and September 30, 1999
- ------------------------------------ Director (principal financial and accounting officer)
Charles E. Allen, Jr.
/s/ Randal R. Greene President, Chief Executive Office and Director September 30, 1999
- ------------------------------------ (principal executive officer)
Randal R. Greene
/s/ Charles E. Allen, Sr. Director September 30, 1999
- ------------------------------------
Charles E. Allen, Sr.
/s/ Vance W. Cheek Director September 30, 1999
- -----------------------------------
Vance W. Cheek
/s/ Kenneth E. Cutshall Director September 30, 1999
- ------------------------------------
Kenneth E. Cutshall, M.D.
/s/ Stephen Gross Director September 30, 1999
- ------------------------------------
Stephen Gross
/s/ Donald R. Jeanes Director September 30, 1999
- ------------------------------------
Donald R. Jeanes
/s/ Verrill M. Norwood, Jr. Director September 30, 1999
- ------------------------------------
Verrill M. Norwood, Jr.
/s/ Cameron E. Perry Director September 30, 1999
- -----------------------------------
Cameron E. Perry
/s/ Richard S Venable Director September 30, 1999
- ------------------------------------
Richard S. Venable
/s/ Henry J. Williams Director September 30, 1999
- ------------------------------------
Henry J. Williams, M.D.
</TABLE>
<PAGE> 1
Exhibit 23.1
Baker Donelson Bearman & Caldwell
SunTrust Building, Suite 300
207 Mockingbird Lane
Johnson City, Tennessee 37604
October 1, 1999
Board of Directors
State of Franklin Bancshares, Inc.
1907 North Roan Street
Johnson City, TN 37604
RE: Registration Statement on Form SB-1
Dear Board of Directors:
We have acted as counsel to State of Franklin Bancshares, Inc., a
Tennessee corporation (the "Company"), in connection with the registration of
555,555 shares of common stock (the "Common Stock") of the Company. The Company
has filed a Registration Statement on Form SB-1 pursuant to the Securities Act
of 1933, as amended (the "Registration Statement").
We have acted as counsel for the Company in connection with the
proposed transaction and have assisted with the preparation of the Registration
Statement and various corporate documents related thereto. We have examined and
relied upon the following documents and instruments for the purpose of giving
this opinion, which, to our knowledge and in our judgment, are all of the
documents and instruments that are necessary for us to examine for such purpose:
1. The Registration Statement, the prospectus filed therewith
(the "Prospectus") and all exhibits thereto;
2. A copy of the Company's Charter certified by the Tennessee
Secretary of State;
3. A copy of the Company's Bylaws certified by the Secretary of
the Company;
4. The minute book of the Company; and
5. The stock records of the Company.
In giving our opinion, we have assumed without investigation the
authenticity of any document or instrument submitted to us as an original, the
conformity to the authentic original of
<PAGE> 2
any document or instrument submitted to us as a certified, conformed or
photostatic copy and the genuineness of all signatures on such originals or
copies.
Based upon the foregoing and having regard for such legal
considerations as we deem relevant, we are of the opinion that (i) the Company
is a corporation duly incorporated and validly existing under the laws of the
State of Tennessee and (ii) the Common Stock, when issued in accordance with the
Registration Statement, will be validly issued, fully paid and nonassessable.
Our opinion is subject to the following qualifications and limitations:
a. The opinions expressed herein are subject to the effect of
applicable bankruptcy, insolvency, reorganization or similar
laws affecting the enforcement of creditors' rights and
equitable principles limiting the availability of equitable
remedies on the enforceability of contracts, agreements and
instruments.
b. Members of our firm are qualified to practice law in the State
of Tennessee and nothing contained herein shall be deemed to
be an opinion as to any law, rule or regulation other than the
law of the State of Tennessee and the federal law of the
United States.
c. The opinions set forth herein are expressed as of the date
hereof and, except during the time prior to the effectiveness
of the Registration Statement filed with the Securities and
Exchange Commission, we disclaim any undertaking to advise you
of any changes which may subsequently be brought to our
attention in the facts and the law upon which such opinions
are based.
This opinion is intended to be used as an exhibit to the Registration
Statement filed with the Securities and Exchange Commission. Except for such
use, neither this opinion nor copies hereof may be relied upon by, delivered to,
or quoted in whole or in part without our prior written consent.
We consent to the reference of our firm name under the caption "Legal
Matters" in the Prospectus and to the use of our opinion as an exhibit to the
Registration Statement. In giving these consents, we do not admit that we come
within the category of persons whose consent is required under Section 7 of the
Securities Act of 1933, as amended, or the rules and regulations of the
Securities and Exchange Commission thereunder.
Very truly yours,
Linda M. Crouch
Baker, Donelson, Bearman & Caldwell
<PAGE> 1
Exhibit 23.2
[BAYLOR & BACKUS LETTERHEAD]
CONSENT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders of State of Franklin Bancshares,
Inc.:
We consent to the inclusion in this registration statement on Form SB-1
(Registration No. 333-__________) of our reports, dated February 26, 1999, on
our audits of the consolidated financial statements of State of Franklin
Bancshares, Inc. We also consent to the reference of our firm under the caption
"Experts."
Baylor & Backus
Baylor & Backus
Johnson City, Tennessee
September 30, 1999
