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FORM 10-KSB
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1999
OR
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
Commission file number 000-24675
STATE OF FRANKLIN BANCSHARES, INC.
(Name of small business issuer in its charter)
TENNESSEE 62-1607709
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1907 NORTH ROAN STREET
JOHNSON CITY, TENNESSEE 37604
(Address of principal executive offices and Zip Code)
Issuer's telephone number (423) 926-3300
Securities registered under Section 12(b) of the Exchange Act: NONE
Securities registered under Section 12(g) of the Exchange Act: COMMON STOCK
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the registrant was required to file such reports), and (2)
has been subject to such filing requirements for the past 90 days.
Yes X No
---- ----
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [X]
THE REGISTRANT'S REVENUES FOR THE TWELVE MONTHS ENDED DECEMBER 31, 1999 WERE
$10,974,084.
THE AGGREGATE MARKET VALUE OF THE SHARES OF COMMON STOCK HELD BY
NONAFFILIATES OF THE REGISTRANT AS OF MARCH 15, 2000 IS APPROXIMATELY $13.1
MILLION. (For purposes of this calculation only, all executive officers and
directors are classified as affiliates.)
Indicate the number of shares outstanding of each of the registrant's classes
of common stock, as of the latest practicable date. OUTSTANDING AT MARCH 15,
2000, COMMON STOCK, $1.00 PAR VALUE, 1,345,465 SHARES.
Documents Incorporated by Reference: PROXY STATEMENT RELATED TO 2000 ANNUAL
MEETING OF SHAREHOLDERS.
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<PAGE>
PART I
ITEM 1. DESCRIPTION OF BUSINESS
THE COMPANY
State of Franklin Bancshares, Inc. (State of Franklin) is a registered bank
holding company organized under the laws of Tennessee and headquartered in
Johnson City, Tennessee. State of Franklin Savings Bank (The Savings Bank) is a
wholly owned subsidiary through which we conduct our banking operations. On
December 31, 1999, we had consolidated total assets of approximately $160
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 was incorporated under the laws of the State of Tennessee
and commenced business on February 26, 1996, as a Tennessee-chartered savings
bank whose deposits are insured by the Federal Deposit Insurance Corporation's
(generally known as the "FDIC") Bank Insurance Fund. 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, 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.
2
<PAGE>
NET INTEREST INCOME
The following table sets forth weighted average yields earned by State of
Franklin on our earning assets and the weighted average rates paid on our
average deposits and other interest-bearing liabilities for the years indicated,
and certain other information:
<TABLE>
<CAPTION>
1999 1998
---------------------------------------------------------------
(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 $ 99,726 $ 8,220 8.24% $ 68,157 $ 5,767 8.46%
U.S. Treasury and other U.S. government agencies 28,825 1,887 6.55% 17,237 1,183 6.86%
Other earning assets 1,630 101 6.18% 3,172 172 5.44%
Federal funds sold 4,670 224 4.79% 8,645 454 5.25%
---------- --------- --------- --------
Total interest-earning assets/interest income 134,851 10,432 7.74% 97,211 7,577 7.79%
---------- --------- --------- --------
Cash and due from banks 1,949 1,564
Other assets 5,033 4,498
Allowance for loan losses (737) (631)
---------- ---------
Total $ 141,096 $102,641
========== =========
LIABILITIES AND STOCKHOLDERS' EQUITY:
Interest-bearing liabilities:
Interest-bearing checking deposits $ 5,334 $ 110 2.07% $ 3,644 $ 78 2.14%
Savings 40,780 1,972 4.84% 4,589 208 4.52%
Individual retirement accounts 13,940 631 4.53% 10,194 468 4.59%
Time certificates 52,849 2,950 5.58% 63,928 3,720 5.82%
Borrowed funds 9,352 507 5.42% 5,337 288 5.40%
---------- --------- --------- --------
Total interest-bearing liabilities/interest expense 122,255 6,170 5.05% 87,693 4,761 5.43%
---------- --------- -------- --------- -------- -------
Non-interest bearing demand deposits 6,206 3,886
Other liabilities 1,112 269
Stockholders' equity 11,523 10,794
---------- ---------
Total $ 141,096 $102,641
========== =========
Net interest earnings $ 4,262 $ 2,816
========= ========
Net interest on interest-earning assets 3.16% 2.90%
Return on average assets 0.77% 0.29%
Return on average equity 9.44% 2.80%
Cash dividends declared -- --
Dividend payout ratio -- --
</TABLE>
3
<PAGE>
The following table summarizes changes in interest income, interest
expense, and the interest rate differential aggregated by the changes in volumes
and rates:
<TABLE>
<CAPTION>
December 31, 1999 December 31, 1998
Versus Versus
December 31, 1998 December 31, 1997
Increase (Decrease) Increase (Decrease)
Change Due to: (1) Change Due to: (1)
------------------ ------------------
(Dollars in Thousands) Volume Rate Total Volume Rate Total
--------- ------- ------- -------- ------ -------
<S> <C> <C> <C> <C> <C> <C>
Increase (decrease) in: (2)
Loans, net of unearned income $ 2,602 $ (149) $2,454 $ 2,892 $ 136 $3,028
U.S. Treasury and other U.S. government agency securities 759 (55) 704 (70) (521) (591)
Other earning assets (95) 24 72 166 (22) 144
Federal funds sold (191) (40) 230 35 (161) 196
--------- ------- ------- -------- ------ -------
Total interest income 2,855 2,777
------- -------
Increase (decrease) in: (2)
Interest-bearing checking deposits 35 (2) 33 298 (25) 273
Savings deposits 1,750 14 1,765 103 (28) 75
Individual retirement accounts 170 (6) 164 113 (7) 108
Time certificates (618) (152) (770) 1,101 (75) 1,026
Borrowed funds 217 1 218 304 -- 304
--------- ------- ------- -------- ------ -------
Total interest expense 1,409 1,786
------- -------
Increase (decrease) in net interest income $ 1,446 $ 991
======== =======
<FN>
- ------------------------------------
(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.
</TABLE>
LIABILITY AND ASSET 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.
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
4
<PAGE>
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 table is an interest sensitivity profile for the Savings Bank
as of December 31, 1999 and 1998. 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>
December 31, 1999
--------------------------------------------------------------------
After 3 months
Within Within 12 After 12 months After 5
3 months months Within 5 years years Total
---------- ---------------- ----------------- --------- ---------
<S> <C> <C> <C> <C> <C>
(Dollars in thousands)
EARNING ASSETS:
Loans $ 33,133 $ 3,066 $ 46,452 $ 31,944 $114,595
Investment securities:
Available for sale 1,141 966 18,866 20,973
Held to maturity 1,000 12,988 13,988
Federal funds sold 308 308
Interest-bearing
deposits 133 133
Federal Home Loan Bank stock 1,418 1,418
---------- ---------------- ----------------- --------- ---------
Total earning assets $ 36,134 $ 3,066 $ 48,418 $ 63,798 $151,416
========== ================ ================= ========= =========
INTEREST-BEARING LIABILITIES:
Interest-bearing deposits $ 71,530 $ 32,862 $124,475
Short-term debt 4,048 $ 20,083 $ 4,048
Long-term debt 9,000 9,000
---------- ---------------- ----------------- --------- ---------
Total interest-bearing liabilities $ 75,578 $ 32,862 $ 20,083 $ 9,000 $137,523
========== ================ ================= ========= =========
Net repricing gap $ (39,444) $ (29,796) $ 28,335 $ 54,798 $ 13,893
Rate sensitivity gap:
Net repricing gap as a percentage
of total earning assets (26.05)% (19.68)% 18.71% 36.19% 9.18%
Cumulative gap $ (39,444) $ (69,240) $ (40,906) $ 13,893 $ 13,893
Cumulative gap as a percentage
of total earning assets (26.05)% (45.73)% (27.02)% 9.18% 9.18%
</TABLE>
5
<PAGE>
<TABLE>
<CAPTION>
December 31, 1998
------------------------------------------------------------------------
After 3 months
Within Within 12 After 12 months After 5
3 months months Within 5 years years Total
---------- ---------------- ----------------- ------------ ---------
<S> <C> <C> <C> <C> <C>
(Dollars in thousands)
EARNING ASSETS:
Loans $ 16,424 $ 7,443 $ 38,406 $ 14,286 $ 86,559
Investment securities:
Available for sale 36 12,045 12,081
Held to maturity --
Federal funds sold 6,421 6,421
Interest-bearing deposits 5,113 5,113
---------- ---------------- ----------------- ------------ ---------
Total earning assets $ 37,958 $ 7,443 $ 38,442 $ 26,331 $116,174
========== ================ ================= ============ =========
INTEREST-BEARING LIABILITIES:
Interest-bearing deposits $ 22,879 $ 24,515 $ 43,534 $ $ 90,928
Long-term debt 3,000 6,000 9,000
---------- ---------------- ----------------- ------------ ---------
Total interest-bearing liabilities $ 22,879 $ 27,515 $ 49,534 $ -- $ 99,928
========== ================ ================= ============ =========
Net repricing gap $ 15,079 $ (20,072) $ (11,092) $ 26,331 $ 10,246
Rate sensitivity gap:
Net repricing gap as a percentage
of total earning assets 13.69% (18.22)% (10.07)% 23.90% 9.30%
Cumulative gap $ 15,079 $ (4,993) $ (16,085) $ 10,246 $ 10,246
Cumulative gap as a percentage
of total earning assets 13.69% (4.53)% (14.60)% 9.30% 9.30%
</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 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.
(d) Money market deposits and savings deposits that have no contractual
maturities are scheduled in the within 3 months category.
6
<PAGE>
DEPOSITS
We offer a full range of depositor accounts and services to both consumers
and businesses. None of these deposits were brokered. Our primary sources of
funds are interest-bearing deposits. The following table sets forth our
deposit structure at December 31, 1999 and 1998 (in thousands).
<TABLE>
<CAPTION>
1999 1998
-------- -------
<S> <C> <C>
Non interest-bearing deposits:
Individuals, partnerships and corporations $ 5,846 $ 4,346
Certified and official checks 1,916 1,292
-------- -------
Total non interest-bearing deposits 7,762 5,638
Interest-bearing deposits:
Interest-bearing demand accounts 19,960 18,306
Savings accounts 43,695 6,108
Certificates of deposit, less than $100,000 46,199 49,587
Certificates of deposit, greater than $100,000 14,621 16,725
-------- -------
Total interest-bearing deposits 124,475 90,726
-------- -------
Total deposits $132,237 $96,364
======== =======
</TABLE>
The following table shows, by category, the weighted average rate on
deposits and the average amount of deposits for the periods indicated:
<TABLE>
<CAPTION>
December 31,
---------------------------------------------------------------
1999 1998
--------------------------- ------------------------------
(In Thousands)
<S> <C> <C> <C> <C>
Non interest-bearing deposits 0.00% $ 6,206 0.00% $ 3,886
Savings deposits 4.84% 40,780 4.52% 4,589
Money market deposits 4.53% 13,940 4.59% 10,194
Time deposits 5.58% 52,849 5.82% 63,929
Interest-bearing demand deposits 2.07% 5,334 2.14% 3,644
---------- ---------
Total deposits $ 119,109 $ 86,242
========== =========
</TABLE>
At December 31, 1999 and 1998, time deposits greater than $100,000
aggregated approximately $14.6 million and $16.7 million, respectively. The
following table indicates, as of December 31, 1999 and 1998, the dollar amount
of deposits of $100,000 or more by the time remaining until maturity (in
thousands):
<TABLE>
<CAPTION>
1999 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 $ 1,876 $ 7,335 $ 5,410 $ 14,621 $ 6,271 $ 5,670 $ 4,784 $16,725
</TABLE>
7
<PAGE>
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 earning assets by
category at December 31, 1999 and 1998.
<TABLE>
<CAPTION>
1999 1998
-------- --------
<S> <C> <C>
(In Thousands)
Investment securities:
Available for sale $ 21,441 $ 12,249
Held to maturity 13,988
Short-term interest-bearing deposits 133 5,000
Federal funds sold 308 6,421
Federal Home Loan Bank stock 1,418 471
Loans:
Real estate 74,375 51,311
Commercial and other 40,591 35,494
-------- --------
Total loans 114,966 86,805
Less unearned income 73 68
-------- --------
Loans, net of unearned income 114,893 86,737
-------- --------
Total earning assets $152,181 $110,878
======== ========
</TABLE>
INVESTMENT PORTFOLIO
For a description of the composition of the carrying value of our
investment portfolio at December 31, 1999 and 1998, see Note 12 to the
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 December 31, 1999
and 1998. The weighted average yields on these instruments are presented based
on final maturity.
<TABLE>
<CAPTION>
1999 1998
---- ----
Amortized Estimated Weighted Amortized Estimated Weighted
Cost Market Value Average Yield Cost Market Value Average Yield
--------- ------------ ------------- --------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
(Dollars in Thousands)
Held to maturity:
- -----------------------------------------
Obligations of U.S. Government agencies:
Due after 1 year but within 5 years $ 1,000 $ 973 6.25%
Due after 5 years but within 10 years 12,988 12,328 6.55%
--------- ------------
Total $ 13,988 $ 13,301 6.53%
========= ============
Available for sale:
- -----------------------------------------
Obligations of U.S. Government agencies:
Due within 1 year $ 0 $ 0 0.00%
Due after 1 year but within 5 years 998 966 6.06% $ 10,555 $ 10,613 6.68%
Due after 10 years 2,993 2,813 6.94% 999 1,001 7.06%
Other - due within 1 year 1,609 1,609 5.05% 36 36 7.20%
--------- ------------ --------- ------------
Total $ 22,365 $ 21,441 6.55% $ 11,590 $ 11,650 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, and maintain compliance
with regulatory investment requirements. The Investment Policy is reviewed
annually by the Directors. Chairman Allen reports monthly to the Directors.
8
<PAGE>
LOAN PORTFOLIO
The following table sets forth the composition of our loan portfolio at
December 31, 1999 and 1998.
<TABLE>
<CAPTION>
1999 1998
-------- -------
<S> <C> <C>
(In Thousands)
Real estate loans:
Construction and land development $ 1,490 $ 2,013
Secured by residential properties 65,220 51,821
Commercial real estate loans 7,665 9,104
-------- -------
Total real estate loans 74,375 62,938
Commercial and industrial loans 23,060 13,784
Installment loans 16,954 9,424
Other consumer loans 418 396
All other loans 86 17
-------- -------
Total loans $114,893 $86,559
======== =======
</TABLE>
The following tables set forth the maturities of the loan portfolio and its
sensitivity to interest rate changes.
<TABLE>
<CAPTION>
December 31, 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 $ 1,490 $ -- $ -- $ 1,490
Commercial and industrial loans 7,616 10,777 4,667 23,060
All other loans 27,089 35,977 27,277 90,343
--------- ------------ ----------- --------
Total loans $ 36,195 $ 46,754 $ 31,944 $114,893
========= ============ =========== ========
</TABLE>
The sensitivity to interest rate changes of that portion of our loan
portfolio that matures after one year is set forth below.
Real estate and commercial and industrial loans maturing after one year as
of December 31, 1999 (in thousands):
Fixed rate $ 13,354
Floating rate 50,156
Other loans maturing after one year:
Fixed rate 13,966
Floating rate 1,222
-------
Total loans maturing after one year $78,698
=======
9
<PAGE>
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:
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:
Maximum Allowable
Loan Category Loan-to-Value Ratio
-------------- --------------------
Land 65%
Land development 75%
Owner-occupied commercial 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%
--------------------------
(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.
10
<PAGE>
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.
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.
At December 31, 1999 the Savings Bank had non accrual loans totaling
$221,781 and no restructured loans or loans 90 days or more past due. The
Savings Bank has no loans to foreign borrowers and we are not aware of any
problems that would significantly increase the amount or number of problem
loans in the coming months.
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
11
<PAGE>
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. 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 $810,000 at year end 1999, or 0.71% of loans outstanding, net of
unearned income, compared to $630,000 or 0.74% at year end 1998. During these
periods both charge-offs and loans on non accrual have remained relatively low.
Management does not foresee any events that will significantly increase loan
losses in the coming months; however, increases to the reserve were made
primarily as a result of growth and the risk associated with the size of the
loan portfolio. While the reserve has increased significantly, it has remained
relatively level as a percent of total loans. The following table presents data
related to State of Franklin's reserve for loan losses for the years ended
December 31, 1999 and 1998.
<TABLE>
<CAPTION>
1999 1998
------ ------
(Dollars In Thousands)
<S> <C> <C>
Balance at beginning of period $ 630 $ 355
Charge offs:
Commercial -- --
Real estate mortgage -- --
Installment loans to individuals 1 --
------ ------
Recoveries:
Commercial -- --
Real estate mortgage -- --
Installment loans to individuals -- --
------ ------
Net charge offs
Additions to reserve charged to operations 181 275
------ ------
Balance at end of period $ 810 $ 630
====== ======
Ratio of net charge offs during the period to average loans outstanding during the period 0.00% 0.00%
Average allowance for loan losses to average total loans 0.71% 0.74%
</TABLE>
At December 31, 1999 and 1998, the allowance for loan losses was allocated as
follows:
<TABLE>
<CAPTION>
(Dollars in thousands)
1999 1998
---- ----
Percent of loans in each Percent of loans in each
Amount category to total loans Amount category to total loans
------ ------------------------ ------ ------------------------
<S> <C> <C> <C> <C>
Commercial $ 80 20% $ 15 2%
Real estate mortgage 527 65% 460 73%
All other 203 15% 155 25%
------ ------------------------ ------ ------------------------
Total $ 810 100% $ 630 100%
====== ======================== ====== ========================
</TABLE>
12
<PAGE>
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 n 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.
<TABLE>
<CAPTION>
Nonperforming assets (Dollars in thousands): December 31,
------------------
1999 1998
-------- --------
<S> <C> <C>
Nonaccrual loans $ 222 --
Restructured loans -- --
Other loans past due 90 days or more to principal or interest payments -- $ 2
Nonperforming loans as a percentage of net loans before allowance for loan losses 0.00% 0.00%
Allowance for loan losses as a percentage of nonperforming loans 365% 31,500%
</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:
1999 1998
------- -------
Average loans to average deposits 83.7% 79.0%
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.
13
<PAGE>
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.
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>
December 31, 1999 December 31, 1998
------------------ -------------------
<S> <C> <C>
(Dollars in Thousands)
CAPITAL:
Tier I capital:
Stockholders' common equity $ 13,498 $ 11,570
Less unrealized (loss) gain in securities (610) 40
Less disallowed intangibles -- --
------------------ -------------------
Total Tier I capital 14,109 11,530
Tier II capital:
Qualifying allowance for loan losses 810 630
------------------ -------------------
Total capital 14,919 12,161
Risk-adjusted assets 101,395 74,160
Quarterly average assets 155,226 108,452
RATIOS:
Tier I capital to risk-adjusted assets 13.86% 15.55%
Tier II capital to risk-adjusted assets .80% .85%
Total capital to risk-adjusted assets 14.66% 16.40%
Leverage - Tier I capital to quarterly average
assets less disallowed intangibles 9.09% 10.63%
</TABLE>
On December 31, 1999, we exceeded the regulatory minimums and
qualified as a well-capitalized institution under the regulations.
14
<PAGE>
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 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
15
<PAGE>
authority to terminate deposit insurance pursuant to procedures established for
that purpose.
At December 31, 1999, our deposit base for purposes of FDIC premiums was
$134 million. We paid FDIC insurance premiums of $0 in 1996, $4,552 in 1997,
$9,000 in 1998 and $12,374 in 1999.
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;
- "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
16
<PAGE>
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.
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
17
<PAGE>
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,
(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 $12.2 million, our loans-to-one borrower
limit is approximately $3.1 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
18
<PAGE>
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 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 our
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, we 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.
19
<PAGE>
DIVIDENDS
- ---------
During the first three years of the Savings Bank's operation it was
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. The effect of the special
one-time dividend was eliminated through consolidating entries.
Following the mandatory initial three-year moratorium on the payment of
dividends imposed by regulatory authorities, the Board of Directors may now
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 non-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. The Directors do not anticipate that a dividend
will be paid in the foreseeable future.
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.
RECENT LEGISLATION
- -------------------
Bills are presently pending before the United States Congress, and
additional bills may be introduced in the future in the Congress and the
Tennessee General Assembly, to alter the structure, regulation and competitive
relationships of the nation's financial institutions.
On December 19, 1991, President Bush signed the Federal Deposit Insurance
Corporation's Improvement Act of 1991 ("FDICIA"), the principal initial effect
of which was to permit the Bank Insurance Fund (the "BIF") to borrow up to $30
billion from the U.S. Treasury (to be repaid through deposit insurance premiums
over 15 years) and to permit the BIF to borrow working capital from the Federal
Financing Bank in an amount up to 90 percent of the value of the assets the FDIC
has acquired from failed banks, which it is estimated would yield approximately
$40 billion in working capital. The bill followed a year-long effort initiated
by the Bush Administration to enact major banking legislation. Virtually none
of the Administration's major systemic proposals, including nationwide
interstate banking and branching or ownership of financial institutions by
commercial entities, were included in the final bill. However, a number of
additional pervasive supervisory measures, some of which are described below,
were included in the FDICIA. The effect of these measures will be to a great
extent dependent on the manner in which bank regulatory authorities choose to
enforce regulations which have been recently issued pursuant to the FDICIA.
The Gramm-Leach-Bailey Financial Modernization Act of 1999 permits bank
20
<PAGE>
holding companies meeting certain management, capital, and community
reinvestment act standards to engage in a substantially broader range of
non-banking activities than permitted previously, including insurance
underwriting and merchant banking activities. The Act repeals sections 20 and
32 of the Glass Steagall Act, permitting affiliations of banks with securities
firms and registered investment companies. The Act authorizes financial holding
companies, permitting banks to be owned by security firms, insurance companies
and merchant banking companies and visa-versa. Some of these affiliations are
also permissible for bank subsidiaries. The Act gives the Federal Reserve Board
authority to regulate financial holding companies, but provides for functional
regulation of subsidiary activities.
The Gramm-Leach-Bailey Financial Modernization Act also modifies financial
privacy and community reinvestment laws. The new financial privacy provisions
generally prohibit financial institutions such as State of Franklin from
disclosing non-public personal financial information to third parties unless
customers have the opportunity to opt out of the disclosure. The Act also
magnifies the consequences of a bank receiving a less than a satisfactory
community reinvestment act rating, by freezing new activities until the
institution achieves a better community reinvestment act rating.
EMPLOYEES
At December 31, 1999, we had a total of 48 employees with 36 of those
employed on a full-time basis.
ITEM 2. DESCRIPTION OF PROPERTY
Our principal office is located at 1907 North Roan Street, Johnson City,
Washington County, Tennessee. The Savings Bank owns the land and the
approximately 36,000 square foot building, 18,000 feet of which is leasable
space. This property serves as the main office of the Savings Bank. The
Savings Bank also operates branch offices at 3300 Browns Mill Road and 612 West
Walnut Street, Johnson City, Tennessee; and 240 West Center Street, Kingsport,
Sullivan County, Tennessee. The Savings Bank owns the land and the buildings in
Kingsport. The West Walnut branch is also owned by the Savings Bank. The
Savings Bank leases the Browns Mill Road office from Allen and Allen. Charles
E. Allen, Jr., chairman and chief financial officer of the Savings Bank, and
Charles E. Allen, Sr., M.D., a director of the Savings Bank, are principals of
Allen and Allen. The lease was negotiated at arm's length and was approved by
the Department and the FDIC. Rent for the 2,625 square foot building for three
years will be $35,190 annually. This amount includes taxes, insurance and
maintenance costs.
All facilities have improvements including drive-through tellers, vaults,
night depository and certain facilities have safe deposit boxes.
ITEM 3. LEGAL PROCEEDINGS
There are no pending legal proceedings to which State of Franklin is a
party or of which any of our properties are subject that are expected to be
material; nor are there material proceedings known to us to be contemplated by
any governmental authority; nor are there material proceedings known to us,
pending or contemplated, in which any director, officer or affiliate or any
principal security holder of State of Franklin, or any associate of any of the
foregoing, is a party or has an interest adverse to State of Franklin.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
21
<PAGE>
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
There is no established public trading market for our Common Stock. Our
management is aware that isolated transactions in the Common Stock occur from
time to time. To the best of the knowledge of State of Franklin transactions in
the Common Stock during 1999 were for prices ranging from $11.00 to $13.50 per
share. In October 1999 we filed with the SEC a Registration Statement on Form
SB-1 (File No. 333-88393) regarding an offering of 370,370 shares of common
stock at a purchase price of $13.50 per share. The Board of Directors may
expand the offering to a maximum of 555,555 shares. As of March 15, 2000,
155,038 shares of the current offering have been sold, generating proceeds of
$2,093,013.
There were 923 holders of record of the Common Stock as of December 31,
1999.
State of Franklin currently intends to retain its earnings, if any, for use
in the business and does not anticipate paying any cash dividends in the
foreseeable future. The board of directors cannot predict when such dividends,
if any, will ever be made. The payment of dividends, if any, shall at all times
be subject to the payment of expenses, the maintenance of reasonable working
capital and risk reserves, and minimum capitalization requirements for banks.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
GENERAL
The following discussion and analysis is intended to assist in
understanding the financial condition and the results of operations of State of
Franklin. References to "State of Franklin" include State of Franklin
Bancshares, Inc. and/or State of Franklin Savings Bank.
FOR THE YEAR ENDED DECEMBER 31, 1999 COMPARED TO THE YEAR ENDED DECEMBER 31,
1998
EARNINGS REVIEW
Total net income of State of Franklin for the year ended December 31, 1999
was $1,087,097, an increase of $590,608 over the year ended December 31, 1998
total net income of $496,454. Net income per share was $0.95 compared to per
share income of $0.44 in 1998. Return on average assets was 0.77% and the
return on average equity was 9.43% for the year period ended December 31, 1999.
Operating results in 1999 reflected higher net interest income and
noninterest income. Net interest income of $4.3 million for the year ended
December 31, 1999 was up 51% over the 1998 period. Loans increased 34% and
deposits increased 37%. The 1999 provision for possible loan losses was
$181,429. Noninterest income increased $130,831, or 32%, with other fees and
service charges and net gain on loans sold responsible for most of the increase
over the year ended December 31, 1998. Noninterest expense was $3.0 million for
the 1999 period, an increase of 26% over the 1998 period, primarily resulting
from increased salaries and benefits, data processing and other expenses as a
result of the overall growth of State of Franklin.
NET INTEREST INCOME AND MARGIN
Net interest income increased $1.4 million or 51% for the year ended
December 31, 1999 to $4.3 million compared to $2.8 million for the year ended
December 31, 1998. Total loans outstanding increased $29.2 million or 34% over
total loans at December 31, 1998.
22
<PAGE>
Average deposits increased by 38% or $32.9 million to $119.1 million in
1999 compared to $86.2 million in 1998. The rate paid on average
interest-bearing liabilities decreased 38 basis points during the year ended
December 31, 1999 to 5.05%.
PROVISION FOR LOAN LOSSES
During the year ended December 31, 1999, the provision for possible loan
losses was $181,429. There were $1,450 in charge-offs during the year ended
December 31, 1999 and $277 for the year ended December 31, 1998. The allowance
for possible loan losses represented 0.71% of total loans, net of mortgage loans
held-for-sale, at December 31, 1999, compared to 0.74% at December 31, 1998.
PROVISION FOR INCOME TAXES
For the year ended December 31, 1999, the provision for income taxes was
$507,805, an increase of $455,599 from 1998, primarily due to the increase in
income before income taxes.
NONINTEREST INCOME
State of Franklin's noninterest income was $541,986 during the year ended
December 31, 1999, an increase of $130,831 or 32% over the comparable 1998
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 $101,019, $55,582, $2,414, and $8,163, respectively, which were offset
by decreases in other income and net gain on sale and maturity of securities of
$10,301 and $26,045, respectively.
NONINTEREST EXPENSE
Noninterest expense totaled $3.0 million for the period ending December 31,
1999, an increase of $624,298. Compensation and related benefits of $1.3
million accounted for 42% of the total compared to $1.0 million or 44% for the
year ended December 31, 1998.
BALANCE SHEET REVIEW
State of Franklin places 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.
INVESTMENT SECURITIES
Investment securities totaled $35.4 million at December 31, 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
December 31, 1999, available-for-sale securities totaled $21.4 million and
held-to-maturity totaled $14 million compared to $12.0 million
available-for-sale and no held-to-maturity investment at December 31, 1998. At
December 31, 1999, we had experienced gross unrealized losses of $924,603 in our
available-for-sale investment securities and $687,162 in our held-to-maturity
securities due to changes in market rates. All securities were purchased at or
below par value and are redeemable at par value upon maturity of the investment.
Due to the credit quality of these investments, no realized losses are
expected.
LOANS
Loans outstanding totaled $114.9 million at December 31, 1999. This
represented an increase of 32% from the December 31, 1998 outstanding loans of
$86.9 million.
Consumer loans increased to $9.7 million at December 31, 1999, an increase
of 26% from $7.7 million at December 31, 1998. Real estate construction lending
totaled $23.5 million and $22.0 million at December 31, 1999 and 1998,
respectively. Commercial loans of $41.9 million at December 31, 1999, an
increased 58% from $26.6 million at December 31, 1998.
23
<PAGE>
NON-PERFORMING ASSETS
Nonaccrual loans totaled $221,781 at December 31, 1999 and $0 at December
31, 1998. Loans past due 90 days or more were $0 at December 31, 1999 and
$2,000 at December 31, 1998. The allowance for possible loan losses was $810,303
and $630,324 at December 31, 1999 and 1998, respectively. Management believes
the allowance for possible loan losses is adequate to provide for potential loan
losses.
DEPOSITS
Total deposits at December 31, 1999 of $132.2 million, represented an
increase of $35.9 million or a 37% increase from $96.4 million at December 31,
1998. Non-interest bearing demand deposits totaled $7.8 million at December 31,
1999, a increase of $2.2 million or 40% from December 31, 1998. Interest
bearing demand and money market deposits increased $1.7 million to $20.1 million
at December 31, 1999. Savings deposits increased $37.5 million to $43.6 million
at December 31, 1999. Time deposits of $60.8 million decreased from $66.3
million at December 31, 1998. The decline in time deposits was due mainly to a
shift into a new savings product offered by the Bank. The millennium saving
account was offered through out 1999 and guaranteed a 5% rate through year-end.
CAPITAL
Equity capital at December 31, 1999 was $13.5 million, an increase of $1.9
million from $11.6 million at December 31, 1998. The increase in equity capital
was due in part to a new stock offering beginning in November. By December 31,
1999, State of Franklin had issued 111,092 additional shares of stock resulting
in an addition to capital of $1.5 million. At December 31, 1999, all capital
ratios were in excess of the regulatory minimums, with State of Franklin's Tier
1, total risk-based and leverage ratio of 13.86%, 14.66% and 9.09%,
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 State of Franklin has not
significantly used. State of Franklin had unused sources of liquidity in the
form of unused federal funds lines of credit and a line of credit for the
Federal Home Loan Bank of Cincinnati totaling $14 million at December 31, 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 State of
Franklin's assets and liabilities are critical to maintenance of acceptable
performance levels.
YEAR 2000
State of Franklin experienced a successful transition into the 21st century
primarily resulting from extensive testing and correcting problems in advance of
the change date. We will continue to test operating systems during the first
half of 2000 to insure all programs are operating properly. There have been no
occurrences of Y2K failure during the first ten weeks of the year 2000.
24
<PAGE>
ITEM 7. FINANCIAL STATEMENTS
The consolidated financial statements of State of Franklin are set forth below.
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
INDEX TO AUDIT REPORT
DECEMBER 31, 1999 AND 1998
AUDITED CONSOLIDATED FINANCIAL STATEMENTS:
PAGES
-----
Independent Auditor's Report 26
Consolidated Statements of Financial Condition 27
Consolidated Statements of Income 28
Consolidated Statements of Changes in Stockholders' Equity 29
Consolidated Statements of Cash Flows 30 - 31
Notes to Consolidated Financial Statements 32 - 55
Statement of Management Responsibility 56
25
<PAGE>
<TABLE>
<CAPTION>
<S> <C> <C>
BAYLOR AND BACKUS
D.G. LEONARD, CPA CERTIFIED PUBLIC ACCOUNTANTS E.N. BACKUS, CPA (1907-1971)
R.F. VANHOY, CPA 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, 1999 and 1998, and the related consolidated statements of
income, changes in stockholders' equity and cash flows for the years ended
December 31, 1999, 1998 and 1997. 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, 1999 and 1998, and the
results of their operations and their cash flows for the years ended December
31, 1999, 1998 and 1997 in conformity with generally accepted accounting
principles.
BAYLOR AND BACKUS
Certified Public Accountants
Johnson City, Tennessee
March 15, 2000
MEMBERS OF AMERICAN INSTITUTE OF CERTIFIED PUBLIC ACCOUNTANTS & TENNESSEE
SOCIETY OF CERTIFIED PUBLIC ACCOUNTANTS
26
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
DECEMBER 31, 1999 AND 1998
A S S E T S
1999 1998
------------------ ----------------
<S> <C> <C>
Cash and Due from Banks 2,785,509 2,507,172
Federal Funds Sold 308,000 6,421,000
Short-Term Interest-Bearing Deposits 133,148 5,000,000
------------------ ----------------
Total Cash and Cash Equivalents 3,226,657 13,928,172
------------------ ----------------
Investments - Held-To-Maturity
(Estimated Market 1999 - $13,301,184)
(Estimated Market 1998 - $-0-) 13,988,346 --
Investments - Available-for-Sale 21,440,591 12,248,572
Loans Held for Sale 453,562 ,627,400
Loans and Leases Receivable 114,439,773 85,228,897
Less: Allowance for Loan and Lease Loss (810,303) (630,324)
------------------ ----------------
Loans and Leases Receivable, Net 113,629,470 84,598,573
------------------ ----------------
Accrued Interest Receivable, Net 1,271,439 685,963
Land, Buildings and Equipment at Cost Less Accumulated
Depreciation of $607,618 in 1999 and $347,134 in 1998 4,058,242 4,117,351
Prepaid Expense and Accounts Receivable 77,907 48,218
Receivable from ESOP -- 108,286
FHLB Stock 1,417,700 471,200
Investment in Service Bureau at Cost 15,000 15,000
Deferred Tax Assets 599,503 186,946
------------------ ----------------
Total Assets 160,178,417 118,035,681
================== ================
L I A B I L I T I E S A N D S T O C K H O L D E R S' E Q U I T Y
Liabilities:
Interest-Free Deposits 7,762,451 5,638,066
Interest-Bearing Deposits 124,475,175 90,726,011
Advances by Borrowers for Taxes and Insurance 117,372 98,784
Accrued Interest on Deposits 95,734 103,769
Accounts Payable and Accrued Expenses 488,630 189,379
Notes Payable 626,615 687,925
FHLB Advances 13,092,707 9,000,000
Deferred Gain on REO 21,448 21,448
------------------ ----------------
Total Liabilities 146,680,132 106,465,382
------------------ ----------------
Stockholders' Equity:
Common Stock, $1.00 Par Value,
Authorized: 10,000,000 Shares; Issued: 1,301,519 Shares
at December 31, 1999 and 1,180,152 Shares at December 31, 1998 1,301,519 1,180,152
Common Stock Subscribed -- 6,996
Paid-In Capital 2,243,730 10,905,359
Accumulated Other Comprehensive Income (610,238) 39,820
Retained Earnings 1,189,889 102,792
Less: Employee Stock Ownership (626,615) (664,820)
------------------ ----------------
Total Stockholders' Equity 13,498,285 11,570,299
------------------ ----------------
Total Liabilities and Stockholders' Equity 160,178,417 118,035,681
================== ================
</TABLE>
27
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997
-------------- ------------- ------------
<S> <C> <C> <C>
Interest Income
Interest on Loans 8,220,542 5,756,736 2,729,255
Other Interest Income 2,211,555 1,820,032 1,946,194
-------------- ------------- ------------
Total Interest Income 10,432,097 7,576,768 4,675,449
-------------- ------------- ------------
Interest Expense
Interest on Deposits 5,663,933 4,457,203 2,975,541
Other Interest Expense 506,556 303,932 786
-------------- ------------- ------------
Total Interest Expense 6,170,489 4,761,135 2,976,327
-------------- ------------- ------------
Net Interest Income Before Provision for
Loan Losses 4,261,608 2,815,633 1,699,122
Provision for Loan Losses (181,429) (275,127) (226,095)
-------------- ------------- ------------
Net Interest Income After Provision for Loan
Losses 4,080,179 2,540,506 1,473,027
-------------- ------------- ------------
Other Income
Other Fees and Service Charges 277,474 176,455 87,238
Net Gain on Loans Sold 101,762 46,180 15,138
Net Gain on Sale and Maturity of Securities 12,724 38,769 148,045
Insurance Commission Income 39,534 37,120 34,776
Rental Income, Net 110,493 102,330 36,839
Other -- 10,301 17,563
-------------- ------------- ------------
Total Other Income 541,987 411,155 339,599
-------------- ------------- ------------
Other Expenses
Compensation and Related Benefits 1,275,949 1,048,393 782,029
Occupancy Expenses 278,804 246,437 190,762
Furniture and Equipment Expenses 258,480 183,905 98,439
Advertising 147,032 118,102 132,316
Data Processing Expense 320,692 218,251 121,240
Other 746,307 587,878 435,882
-------------- ------------- ------------
Total Other Expenses 3,027,264 2,402,966 1,760,668
-------------- ------------- ------------
Income Before Income Taxes 1,594,902 548,695 51,958
Provision for Income Taxes (507,805) (52,206) 5,077
-------------- ------------- ------------
Net Income 1,087,097 496,489 57,035
============== ============= ============
Basic Earnings Per Share 0.97 0.44 0.05
============== ============= ============
Diluted Earnings Per Share 0.95 0.44 0.05
============== ============= ============
</TABLE>
28
<PAGE>
<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>
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
------------
Net Proceeds
from Sale of Stock 121,367 (6,996) 1,338,371 -- -- -- 1,452,742
------------
ESOP Shares Allocated -- -- -- -- -- 38,205 38,205
------------
Comprehensive Income
Other Comprehensive Income,
Net of Tax:
Unrealized Losses on Securities
Available-For-Sale:
Unrealized Holding Losses
Arising During the Period
(Net of $339,205 Income Tax) -- -- -- (658,456) -- -- (658,456)
Less: Reclassification Adjustment
(Net of $4,326 Income Tax) -- -- -- 8,398 -- -- 8,398
------------
Net Income -- -- -- -- 1,087,097 -- (650,058)
1,087,097
------------
Total Comprehensive Income -- -- -- -- -- -- 437,039
--------- ---------- ---------- -------- --------- --------- ------------
Balance at December 31, 1999 1,301,519 -- 12,243,730 (610,238) 1,189,889 (626,615) 13,498,285
========= ========== ========== ======== ========= ========= ============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
29
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997
-------------- ------------- --------------
<S> <C> <C> <C>
Cash Flows from Operating Activities
Net Income 1,087,097 496,489 57,035
Items Not Affecting Cash and Cash Equivalents:
Depreciation 260,484 200,848 107,624
(Increase) in Accrued Interest (585,476) (285,203) (238,330)
Deferred Tax Assets (71,570) (139,229) (5,077)
Provisions for Loan Losses 181,429 275,127 226,094
(Increase) Decrease in Prepaid Expenses
and Accounts Receivable 78,597 23,673 (44,510)
Increase (Decrease) in Interest Payable (8,035) 60,300 21,845
Increase (Decrease) in Accounts Payable
Increase in Deferred Loan Fees, Net 4,993 14,873 35,042
(Gain) on Sale of Investments (12,724) (38,769) (148,045)
Discount Accretion (10,046) (9,097) (23,559)
Earned ESOP Shares 38,205 12,075 --
FHLB Stock Dividends (75,800) (20,359) --
(Increase) Decrease in Loans Available-For-Sale 1,173,838 (1,447,100) (180,300)
------------- -------------- --------------
Net Cash Provided (Used) by Operating Activities 2,354,095 (789,019) (372,188)
------------- -------------- --------------
Cash Flows from Investing Activities
Purchase of Held-to-Maturity Investments (13,987,813) -- --
Purchase of Available-for-Sale Investments (17,041,379) (20,233,390) (16,284,843)
Proceeds from Maturities of Held-to-Maturity Investments -- 10,000,000 --
Proceeds from Sale of Available-for-Sale Investments 255,734 6,874,235 12,683,359
Proceeds from Maturities of Available-for-Sale Investments 6,595,000 7,500,000 1,500,000
Principal Payments on Mortgage-Backed Securities 35,965 143,676 72,359
Increase in Loans Receivable, Net (29,217,319) (34,673,331) (33,501,786)
Purchases of Premises and Equipment (201,375) (749,918) (2,068,063)
Purchase of FHLB Stock (870,700) (451,000) --
------------- -------------- --------------
Net Cash Used by Investing Activities (54,431,887) (31,589,728) (37,598,974)
------------- -------------- --------------
</TABLE>
30
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, 1999, 1998 AND 1997
1999 1998 1997
------------- -------------- --------------
<S> <C> <C> <C>
Cash Flows from Financing Activities
Net Increase in Deposits 35,873,550 24,120,193 38,026,675
Net Increase in Advances by Borrowers
for Taxes and Insurance 18,588 38,873 40,303
Issuance of Common Stock, Net 1,452,742 55,483 5,431,001
Organization Costs -- (11,355) --
Proceeds from Debt 4,092,707 10,300,000 --
Repayments of Debt (61,310) (612,075) --
------------- -------------- --------------
Net Cash Provided by Financing Activities 1,376,277 33,891,119 43,497,979
------------- -------------- --------------
Net Increase (Decrease) in Cash and Cash Equivalents (10,701,515) 1,512,372 5,526,817
Cash and Cash Equivalents at Beginning of Period 13,928,172 12,415,800 6,888,983
------------- -------------- --------------
Cash and Cash Equivalents at End of Period 3,226,657 13,928,172 12,415,800
============= ============== ==============
Supplemental Schedule of Noncash Investing and Financing Activities:
Increase (Decrease) in Unrealized Gain on Securities
Available-For-Sale, Net of Deferred Tax Liability (650,058) 14,439 (33,616)
Acquisition of Operating Equipment for Contributed Capital - -- 16,500
Acquisition of Real Estate Property through
Foreclosure of Related Loan 0,973 241,600 --
Origination of Mortgage Loan to Finance
the Sale of Foreclosed Real Estate 81,000 270,000 --
============= ============== ==============
Supplemental Disclosures of Cash Flow Information:
Cash Paid During the Period for:
Taxes 275,960 170,415 --
============= ============== ==============
Interest 6,178,524 4,700,835 2,954,482
============= ============== ==============
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
31
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
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.
A second private placement offering began on November 17, 1999. The
number of shares originally offered was 370,370 with a maximum of
555,555 shares. The offering price is $13.50. A total of 111,092
shares had been sold through December 31, 1999, generating gross
proceeds of $1,499,742.
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.
32
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 1 Continued
- -------
Material estimates that are particularly susceptible to significant
change relate to the determination of the allowance for losses on
loans.
A substantial portion of the Savings Bank's loans is 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 Savings 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.
CASH AND CASH EQUIVALENTS
Cash and highly liquid investments with maturities of three months or
less when purchased are considered cash and cash equivalents for the
purposes of the consolidated statements of cash flows. Cash and cash
equivalents consist primarily of cash and due from banks and federal
funds sold.
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.
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).
33
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 1 Continued
- -------
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.
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.
34
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 1 Continued
- -------
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 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 condition, 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,
1999 consolidated financial statements.
NOTE 2 LAND, BUILDINGS AND EQUIPMENT
- ------- --------------------------------
Fixed assets at December 31, 1999, 1998 and 1997 are summarized as
follows:
<TABLE>
<CAPTION>
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Land 850,000 850,000 850,000
Buildings and Leasehold Improvements 2,296,821 2,213,345 1,964,431
Furniture, Fixtures and Equipment 1,519,039 1,401,140 900,136
--------- --------- ---------
4,665,860 4,464,485 3,714,567
Less: Accumulated Depreciation 607,618 347,134 146,286
--------- --------- ---------
4,058,242 4,117,351 3,568,281
========= ========= =========
</TABLE>
35
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 3 LOANS AND LEASES RECEIVABLE
- ------- ------------------------------
Loans and leases receivable at December 31, 1999, 1998 and 1997
consist of the following:
1999 1998 1997
-------------- -------------- -------------
<S> <C> <C> <C>
First Mortgage Loans 43,715,282 35,195,869 24,984,570
Construction Loans 23,525,380 22,024,861 11,859,068
Consumer Loans 9,703,102 7,726,136 4,764,911
Participation Loans, Net 533,676 863,162 873,263
Commercial Loans 41,919,362 26,603,529 12,256,079
Savings Account Loans 248,964 545,011 193,130
Credit Line Advances 419,062 396,618 239,115
Direct Finance Leases 904,705 120,999 --
-------------- -------------- -------------
Gross Loans and Leases Receivable 120,969,533 93,476,185 55,170,136
-------------- -------------- -------------
Less:
Undisbursed Portion of Loans in Process (6,457,206) (8,179,727) (4,387,881)
Net Deferred Loan Origination Fees (72,554) (67,561) (52,688)
Accumulated General Loan Loss Allowance (810,303) (630,324) (355,474)
-------------- -------------- -------------
(7,340,063) (8,877,612) (4,796,043)
------------- -------------- -------------
Loans and Leases Receivable - Net 113,629,470 84,598,573 50,374,093
============== ============== =============
An analysis of the allowance for loan and lease
losses is as follows:
1999 1998 1997
-------------- -------------- -------------
Balance - Beginning of Period 630,324 355,474 130,715
Provision for Losses 181,429 275,127 226,094
Actual Loan and Lease Losses (1,450) (277) (1,335)
-------------- -------------- -------------
Balance - End of Period 810,303 630,324 355,474
============== ============== =============
</TABLE>
The gross amount of participation loans serviced by State of Franklin
Savings Bank was $1,067,240 and $1,220,000 for December 31, 1999 and
1998, respectively.
36
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 4 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 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 that
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 9.
TENNESSEE SUPERVISION AND REGULATION
As a Tennessee-chartered savings bank, the Savings Bank is subject to
various state laws and regulations that 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.
37
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 4 Continued
- -------
FEDERAL REGULATION
The Company is subject to regulation by the Federal Reserve Bank (FRB)
and is required to file annual reports with the FRB. The Company is
subject to examination by the FRB and is required to obtain FRB
approval prior to aquiring, directly or indirectly, ownership or
control of more than 5% of the voting stock of a bank. The Company is
only able to engage in, own, or control companies that engage in
activities closely related to banking.
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 that 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 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, 1999, that the Savings Bank meets all
capital adequacy requirements to which it is subject.
As of December 31, 1999, 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.
38
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 4 Continued
- -------
The capital ratios for State of Franklin Savings Bank are as
follows:
<TABLE>
<CAPTION>
For Capital
Adequacy Purposes
And To Be Well
Capitalized Under
Prompt Corrective
Actual Action Provisions
----------- ------------------
In Thousands (Unaudited) Amount Ratio Amount Ratio
- -------------------------- ------------- ----------------
<S> <C> <C> <C> <C>
As of December 31, 1999:
Total Risk-Based Capital
(to Risk-Weighted Assets) 13,303 13.12% >=10,140 10.0%
Tier 1 Capital
(to Risk-Weighted Assets) 12,222 12.05% >=6,084 6.0%
Tier 1 Capital
(to Adjusted Total Assets) 12,222 7.91% >=7,730 5.0%
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%
</TABLE>
<TABLE>
<CAPTION>
For Capital
Adequacy Purposes
And To Be Well
Capitalized Under
Prompt Corrective
Actual Action Provisions
------------- ------------------
In Thousands (Unaudited) Amount Ratio Amount Ratio
- -------------------------- ------------- ----------------
<S> <C> <C> <C> <C>
As of December 31, 1999:
Total Risk-Based Capital
(to Risk-Weighted Assets) 14,919 14.66% >=10,176 10.0%
Tier 1 Capital
(to Risk-Weighted Assets) 14,109 13.86% >=6,106 6.0%
Tier 1 Capital
(to Adjusted Total Assets) 14,109 9.09% >=7,769 5.0%
As of December 31, 1998:
Total Risk-Based Capital
(to Risk-Weighted Assets) 12,161 16.40% >=7,416 10.0%
Tier 1 Capital
(to Risk-Weighted Assets) 11,530 15.55% >=4,450 6.0%
Tier 1 Capital
(to Adjusted Total Assets) 11,530 10.63% >=5,423 5.0%
</TABLE>
39
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 5 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.
NOTE 6 EMPLOYEE AND DIRECTOR BENEFIT PLANS
- ------- ---------------------------------------
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, 1999, 1998 and
1997 were $626,615, $692,022 and $0, respectively.
A related loan was granted 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, 1999, 1998 and 1997 were
$626,615, $687,925 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,
1999 1998
------- -------
<S> <C> <C>
Number of Shares
Released and allocated 16,054 6,333
Committed to be Released 5,188 2,101
Suspense 59,804 60,438
Fair Value
Released and allocated 216,729 69,663
Committed to be Released 70,038 23,111
Suspense 807,354 664,820
</TABLE>
40
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 6 Continued
- -------
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:
December 31,
1999 1998
--------- -------
Compensation Expense 127,272 76,222
Contributions 127,272 76,222
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.
41
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 6 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.
A new stock incentive plan was started October 15, 1999. 34,000 stock
options were granted for management employees with an exercise price
of $13.50. These vested options vest over five years and expire after
ten years. These are significant restrictions imposed based on
continued employment.
<TABLE>
<CAPTION>
Weighted
Average
Awarded Exercise
And Price
Unexercised Vested Per
Options Options Share.
------------ -------- -------
<S> <C> <C> <C> <C>
Options Granted - Outside Directors January 1, 1999 55,564 24,993 $ 10.45
Options Granted - Management January 1, 1999 111,128 44,452 $ 10.45
During 1999 34,000 -- $ 13.50
Options Exercised (554) -- $ 10.00
Options Expired - Outside Directors (4,997) -- $ 10.00
-------- -------
Options Outstanding - December 31, 1999 195,141 69,445
======= ======
</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. Statement of Financial
Accounting Standards No. 123, Accounting for Stock-based Compensation,
(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.
42
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 7 DEPOSITS
- ------- --------
Savings deposit balances are summarized as follows:
December 31, 1999 December 31, 1998
-------------------------- --------------------------
Average Average
Rate Amount Percent Rate Amount Percent
------- ---------- ------- ------- ---------- -------
<S> <C> <C> <C> <C> <C> <C>
Passbook 4.85 43,568,092 32.95 4.25 6,083,930 6.31
Interest-Free Checking -- 7,762,451 5.87 -- 4,365,719 4.53
Christmas Club 4.25 11,402 0.01 4.25 24,198 0.03
NOW 1.99 6,285,555 4.75 1.64 5,848,650 6.07
Money Market Deposit 4.48 13,790,665 10.43 4.48 13,730,025 14.25
----------- ------- ---------- -------
71,418,165 54.01 30,052,522 31.19
----------- ------- ---------- -------
Fixed Term Certificate Accounts
365 Day IRA 4.91 726,758 0.55 5.27 832,859 0.86
18 Month IRA 4.67 34,926 0.03 5.34 8,058 0.01
30 Month IRA 4.81 332,300 0.25 5.12 384,998 0.40
30 Month IRA (and Keogh) 5.93 4,648,935 3.51 6.09 3,446,063 3.58
30 Month 5.98 15,788,902 11.94 6.04 10,566,996 10.97
12 Month Roth IRA 5.88 110,186 0.08 4.30 99,665 0.10
18 Month Roth IRA 4.89 36,473 0.03 4.90 32,773 0.03
30 Month Roth IRA 5.62 11,399 0.01 5.69 6,866 0.01
7 Month 4.05 627,372 0.47 5.50 10,396,334 10.79
30 Month Educational IRA 5.50 83 -- 5.50 79 --
9 Month 4.64 625,716 0.47 5.49 3,195,279 3.31
11 Month 5.67 8,316,791 6.29 -- -- --
1 Year 5.01 5,614,080 4.24 5.39 11,280,906 11.71
13 Month 5.18 8,037,759 6.08 -- -- --
3 Year 6.14 3,353,635 2.54 6.15 3,256,713 3.38
Jumbo 5.67 4,505,908 3.41 5.83 9,481,823 9.84
2 Year 5.37 3,400,250 2.57 5.80 6,059,613 6.29
4 Year 6.03 541,219 0.41 6.14 459,645 0.48
5 Year 5.89 399,481 0.30 5.92 372,264 0.38
18 Month 5.07 1,575,902 1.19 5.44 2,331,932 2.42
182 Day Money Market 4.61 2,110,308 1.60 4.67 4,078,315 4.23
90 Day Money Market 3.40 21,078 0.02 3.40 20,374 0.02
----------- ------- ---------- -------
60,819,461 45.99 66,311,555 68.81
----------- ------- ---------- -------
132,237,626 100.00 96,364,077 100.00
=========== ======== ========== =======
</TABLE>
The contractual maturity of certificate accounts at December 31, 1999 and
1998, is as ollows:
<TABLE>
<CAPTION>
Year Ending December 31, 1999 Year Ending December 31, 1998
- ---------------------------------- -----------------------------
<S> <C> <C> <C>
2000 42,805,186 1999 47,393,530
2001 5,447,698 2000 13,584,484
2002 11,749,728 2001 4,341,244
2003 789,631 2002 355,992
2004 and After 27,218 2003 and After 636,305
---------- ----------
60,819,461 66,311,555
========== ===========
</TABLE>
43
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 8 ACCRUED INTEREST RECEIVABLE, NET
- -------- -----------------------------------
1999 1998
--------- -------
<S> <C> <C>
Loans (Net of Allowance for Uncollected Interest of $0) 640,909 471,133
Mortgage Backed Securities -- 210
Investment Securities 620,334 206,606
Cash and Due from Banks 1,015 8,014
--------- -------
1,262,258 685,963
========= =======
</TABLE>
NOTE 9 FEDERAL HOME LOAN BANK ADVANCES
- -------- -----------------------------------
Advances from FHLB are summarized as follows for the periods ended
December 31, 1999 and 1998:
<TABLE>
<CAPTION>
Contractual Maturity 1999 1998
---------- ----------
<S> <C> <C>
Cash Management (Rate Floats Daily) (Within 1 Year) 4,045,000 --
========== ==========
Fixed Rate (Within 10 Years) 9,000,000 9,000,000
========== ==========
Weighted Average Rate 5.43% 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, 1999 and 1998 were approximately
$19,669,661 and $13,500,000, respectively.
NOTE 10 OTHER NONINTEREST EXPENSE
- -------- ---------------------------
Other noninterest expense amounts are summarized as follows for the
periods ended December 31, 1999, 1998 and 1997:
<TABLE>
<CAPTION>
1999 1998 1997
------- ------- -------
<S> <C> <C> <C>
Other Noninterest Expense:
Seminars and Education Expenses 42,550 36,343 24,308
Insurance Expense 42,237 32,241 32,322
Professional Expenses and Supervisory Examinations 118,729 99,748 61,133
Office Supplies and Postage 156,513 149,478 144,851
Telephone 114,625 82,512 43,638
Other 271,658 187,556 129,630
------- ------- -------
746,312 587,878 435,882
======= ======= =======
</TABLE>
44
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 11 ORGANIZATION EXPENSE
- -------- ---------------------
The following organization expenses were netted against paid-in
capital:
<TABLE>
<CAPTION>
1999 1998 1997
---- ------ ----
<S> <C> <C> <C>
Compensation and Related Benefits -- -- --
Supplies -- -- --
Telephone -- -- --
Advertising -- -- --
Other -- 11,355 --
---- ------ ----
-- 11,355 --
==== ====== ====
</TABLE>
NOTE 12 INVESTMENT SECURITIES
- -------- ----------------------
The amortized cost and fair value of investment securities
held-to-maturity and available-for-sale at December 31, 1999 and 1998,
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>
December 31, 1999:
---------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
----------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Available-for-Sale:
United States Government
Agency Securities Maturing:
After one year
but within five years 997,706 -- 31,336 966,370
After five years
but within ten years 15,765,456 -- 713,089 15,052,367
Over ten years
but within fifteen years 2,993,262 -- 180,178 2,813,084
Equity Securities
Callable after five years
but within ten years 1,000,000 -- -- 1,000,000
Other
Within one year 1,608,770 -- -- 1,608,770
----------- ---------- ---------- ----------
Total Available-for-Sale 22,365,194 -- 924,603 21,440,591
=========== ========== ========== ==========
Held-to-Maturity:
United States Government
Agency Securities Maturing:
After one year
but within five years 1,000,000 -- 27,138 972,862
After five years
but within ten years 12,988,346 -- 660,024 12,328,322
----------- ---------- ---------- ----------
Total Held-to-Maturity 13,988,346 -- 687,162 13,301,184
=========== ========== ========== ==========
</TABLE>
45
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
December 31, 1998:
---------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value.
---------------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
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
============ ========== ========== ==========
</TABLE>
Gross proceeds from sales of investment securities available-for-sale
for the period ended December 31, 1999, 1998 and 1997 were $6,630,965,
$14,374,235 and $14,183,359, respectively, resulting in gross gains of
$12,724, $38,769 and $148,045, respectively.
NOTE 13 LEGAL PROCEEDINGS
- -------- ------------------
The Company and its subsidiaries are periodically involved in legal
proceedings that are generally incidental to their businesses. At
December 31, 1999, there were no legal proceedings that were expected
to have a material impact on the Company's financial statements.
46
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 14 RELATED PARTY TRANSACTIONS
- -------- ----------------------------
Activity with 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. related parties during 1999, 1998 and 1997 was as
follows:
<TABLE>
<CAPTION>
1999 1998 1997
----------- ------------ ------------
<S> <C> <C> <C>
Loan Balances at the Beginning of the Period 4,118,565 2,046,056 555,432
New Loans 1,950,877 2,514,787 1,656,131
Repayments (1,024,694) (442,278) (165,507)
----------- ------------ ------------
Loan Balances at the End of the Period 5,044,748 4,118,565 2,046,056
=========== ============ ============
</TABLE>
Officers and directors have unsecured lines of credit that have not
been used in the amount of $151,964, $49,501 and $56,500 at December
31, 1999, 1998 and 1997, respectively.
Officers and directors also have unsecured overdraft protection
accounts with available balances in the amount of $55,468, $83,892 and
$26,518 at December 31, 1999, 1998 and 1997, respectively. Secured
home-equity lines of credit for officers and directors have an
available amount of $172,164, $39,579 and $15,170 at December 31,
1999, 1998 and 1997, 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 for
all of 1998 and 1997 and part of 1999, increasing to $2,932 during
1999.
NOTE 15 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, 1999 December 31, 1998
-------------------------------------------------------------------------
Fixed Variable Fixed Variable
Rate Rate Total Rate Rate Total
---------- ------------ ------------ --------- ----------- ----------
<S> <C> <C> <C> <C> <C> <C>
Mortgage Loans
to Originate 100,000 1,896,550 1,996,550 -- 294,400 294,400
Unsecured Lines
of Credit -- 526,107 526,107 -- 511,287 511,287
Overdraft Protection
Accounts 318,458 -- 318,458 260,595 -- 260,595
Home Equity
Lines of Credit -- 3,879,949 3,879,949 -- 2,498,854 2,498,854
Commercial -- 3,795,484 3,795,484 -- 2,451,831 2,451,831
---------- ------------- ----------- --------- ----------- ----------
418,458 10,098,090 10,516,548 260,595 5,756,372 6,016,967
========== ============= =========== ========= =========== ==========
</TABLE>
47
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 15 Continued
- --------
Commitments under standby letters of credit totaled approximately
$215,407 and $242,133 at December 31, 1999 and 1998, respectively.
At December 31, 1999, the Savings Bank had unused lines of credit for
funds purchases and daylight overdrafts with two banks. The lines
total $4,000,000 and have variable interest rates based on the lending
bank's daily federal funds rate. The Savings Bank also has available
lines of credit with FHLB in the amount of $21,944,600.
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. The gain on the sale of these mortgage loans is
as follows:
<TABLE>
<CAPTION>
1999 1998
--------- ---------
<S> <C> <C>
Selling Price 8,832,597 5,083,213
Less: Carrying Value 8,690,751 5,016,375
Loan Cost 40,084 20,658
--------- ---------
Net Gain on Loans Sold 101,762 46,180
========= =========
</TABLE>
At December 31, 1999 and 1998, the Savings Bank had mortgage loans
committed to be sold totaling $453,562 and $1,627,400, respectively.
Commitments to originate loans to be sold on the secondary market were
$416,050 and $1,758,740 at December 31, 1999 and 1998, respectively.
The Savings Bank leases office space at the Browns Mill Road, Johnson
City, branch location under an operating lease which was scheduled to
expire on August 31, 1999 with an option to renew and extend for
another three years. The Savings Bank exercised the option and the
lease has been extended until August 31, 2002. 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, 1999
are as follows:
<TABLE>
<CAPTION>
Noncancelable Cancelable
Years Ended Leases Leases -
December 31, Building & Auto Building
- ------------------------------ --------------- ---------
<S> <C> <C>
2000 43,034 1,680
2001 35,190 1,680
2002 35,190 1,680
2003 35,190 1,680
2004 35,190 1,680
--------------- ---------
Total Minimum Future Rentals 183,794 8,400
=============== =========
</TABLE>
48
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 16 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 Savings
Bank's financial instruments at
December 31, 1999 and 1998:
- ------------------------------
<TABLE>
<CAPTION>
Carrying Fair
Amount Value
----------- -----------
<S> <C> <C>
Financial Assets:
Cash and Cash Equivalents 3,226,657 3,226,657
Investment Securities 35,428,937 34,741,775
Loans 114,083,032 113,565,759
Accrued Interest Receivable 1,271,439 1,271,439
Financial Liabilities:
Deposits 132,237,626 132,286,777
Advance Payments by Borrowers
for Taxes and Insurance (Escrows) 117,371 117,371
Accrued Interest on Deposits 95,734 95,734
Notes Payable 626,615 596,843
FHLB Advances 13,092,708 13,092,708
December 31, 1998:
- -------------------
Carrying Fair
Amount Value
----------- -----------
Financial Assets:
Cash and Cash Equivalents 13,928,172 13,928,172
Investment Securities 12,248,572 12,248,572
Loans 86,225,973 86,997,373
Accrued Interest Receivable 685,963 685,963
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>
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 15. 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.
49
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 16 Continued
- --------
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 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.
50
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 16 Continued
- --------
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 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.
51
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 17 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, 1999, 1998 and 1997
is as follows:
1999 1998 1997
---------- ---------- ---------
<S> <C> <C> <C>
Computed "Expected" Tax (Expense) Benefit (602,076) (186,556) (7,794)
Bad Debt Deduction 68,490 110,492 (73,785)
Amortization of Organization Expense 23,232 17,845 16,943
Other (23,223) (855) 1,101
Reversal of Allowance for Deferred Tax Assets -- -- 68,612
FHLB Dividends 25,772 6,868 --
---------- ---------- ---------
Provision for Income Taxes (507,805) (52,206) 5,077
========== ========== =========
Current Income Tax (Expense) Benefit (579,375) (183,707) 13,075
Deferred Income Tax (Expense) Benefit 71,570 131,501 (7,998)
---------- ---------- ---------
Provision for Income Taxes (507,805) (52,206) 5,077
========== ========== =========
Deferred Tax Assets:
Due to Net Operating Loss Carryforward 3,517 -- 68,521
Due to Unrealized (Gains) Losses on Investments 314,365 (20,496) (13,076)
Due to FHLB Dividends (26,294) (6,868) --
Due to Reserve for Loan Losses 307,915 214,310 --
---------- ---------- ---------
599,503 186,946 55,445
---------- ---------- ---------
Reserve for Deferred Tax Assets:
Beginning Balance -- -- (68,612)
Amount Reserved -- -- --
Reversal of Reserved Amount -- -- 68,612
---------- ---------- ---------
Ending Balance -- -- --
---------- ---------- ---------
Deferred Tax Assets - Net 599,503 186,946 55,445
========== ========== =========
</TABLE>
The Savings Bank had a net operating loss carryforward of $195,157
which was used to offset federal taxable income in 1998. The holding
company has a net operating loss carryforward of $10,435 for 1999.
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, 1999, management believes it is more likely than not that
the Savings Bank will realize the benefits of these deductible
differences.
NOTE 18 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.
52
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 18 CONTINUED
- --------
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 19 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>
1999 1998 1997
--------- --------- ---------
<S> <C> <C> <C>
Net Income Available to Common Shareholders 1,087,097 496,489 57,035
========= ========= =========
Average Shares
Average Shares - Basic 1,123,721 1,117,270 1,111,280
Effect of Dilutive Common Stock Options 24,828 6,484 8,316
--------- --------- ---------
Average Shares - Diluted 1,148,549 1,123,754 1,119,596
========= ========= =========
Basic Earnings Per Share 0.97 0.44 0.05
========= ========= =========
Diluted Earnings Per Share 0.95 0.44 0.05
========= ========= =========
</TABLE>
53
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 20 CONDENSED PARENT COMPANY ONLY FINANCIAL STATEMENTS
- -------- -------------------------------------------------------
STATEMENT OF FINANCIAL POSITION
December 31, December 31,
1999 1998
-------------- ----------------
<S> <C> <C>
Assets:
Cash and Cash Equivalents 1,467,135 897
Investments - Available-for-Sale 467,471 593,164
Receivable from ESOP -- 108,286
Investments in Subsidiaries 12,200,724 11,565,733
Deferred Tax Assets 3,099 --
-------------- ----------------
Total Assets 14,138,429 12,268,080
============== ================
Liabilities:
Notes Payable 626,615 687,925
Accounts Payable and Accrued Expenses 13,529 2,743
-------------- ----------------
Total Liabilities 640,144 690,668
-------------- ----------------
Stockholders' Equity:
Common Stock, $1.00 Par Value,
Authorized: 10,000,000 Shares; Issued: 1,301,519 Shares 1,301,519 1,180,152
Common Stock Subscribed -- 6,996
Paid-In Capital 12,243,730 10,907,472
Accumulated Other Comprehensive Income (610,238) 39,820
Retained Earnings 1,189,889 107,792
Less: Employee Stock Ownership (626,615) (664,820)
-------------- ----------------
Total Stockholders' Equity 13,498,285 11,577,412
-------------- ----------------
Total Liabilities and Stockholders' Equity 14,138,429 12,268,080
============== ================
STATEMENT OF INCOME
Period Ended Period Ended
December 31, December 31,
1999 1998
-------------- ----------------
Interest Income 27,041 8,634
Other Operating Expenses (35,205) 5,000
-------------- ----------------
Income (Loss) before Income Taxes and Equity
in Undistributed Earnings of Subsidiaries (8,164) 13,634
Provision for Income Taxes (3,099) (2,743)
-------------- ----------------
Income (Loss) before Equity in Undistributed Earnings of Subsidiaries (5,065) 10,891
Equity in Undistributed Earnings of Subsidiaries 1,092,162 485,598
-------------- ----------------
Net Income 1,087,097 496,489
============== ================
</TABLE>
54
<PAGE>
<TABLE>
<CAPTION>
STATE OF FRANKLIN BANCSHARES, INC.
JOHNSON CITY, TENNESSEE
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1999, 1998 AND 1997
NOTE 20 Continued
- --------
Period Ended Period Ended
December 31, December 31,
1999 1998
-------------- -------------
<S> <C> <C>
Cash Flows from Operating Activities
Net Income 1,087,097 496,489
Items Not Affecting Cash and Cash Equivalents:
Equity in Undistributed Earnings of Subsidiaries (1,092,162) (485,598)
Deferred Tax Asset (3,099) --
Increase in Accounts Payable 10,786 2,743
Earned ESOP Shares 38,205 12,075
(Increase) Decrease in Accounts Receivable 108,286 (8,218)
-------------- -------------
Net Cash Provided by Operating Activities 149,113 17,491
-------------- -------------
Cash Flows from Investing Activities
Purchase of Available-for-Sale Investments (130,041) (707,634)
Proceeds from Sale of Available-for-Sale Investments 255,734 114,470
Investment in Subsidiary (200,000) (100,000)
-------------- -------------
Net Cash Used by Investing Activities (74,307) (693,164)
-------------- -------------
Cash Flows from Financing Activities
Issuance of Common Stock, Net 1,452,742 --
Organization Costs -- (11,355)
Proceeds from Debt -- 700,000
Repayments of Debt (61,310) (12,075)
-------------- -------------
Net Cash Provided by Financing Activities 1,391,432 676,570
-------------- -------------
Net Increase in Cash and Cash Equivalents 1,466,238 897
Cash and Cash Equivalents at Beginning of Period 897 --
-------------- -------------
Cash and Cash Equivalents at End of Period 1,467,135 897
============== =============
</TABLE>
55
<PAGE>
STATE OF FRANKLIN BANCSHARES, INC.
STATEMENT OF MANAGEMENT RESPONSIBILITY
The management of State of Franklin Bancshares, Inc. and its
subsidiaries is responsible for the preparation, content and integrity
of the consolidated financial statements and all other information
included in this annual report. The consolidated financial statements,
which include management's best estimates where judgment is required,
are prepared in accordance with generally accepted accounting
principles applied on a consistent basis and meet the requirements of
the appropriate regulatory agencies.
The Company has established and maintains a system of internal
controls designed to provide reasonable assurance as to the integrity
and reliability of the consolidated financial statements and related
information, the protection of assets and customer deposits from
material loss or misuse, and the detection of fraudulent financial
reporting. The Company's system of internal controls includes written
policies and procedures, proper delegation of authority and
organizational division of responsibilities, and the careful selection
and training of qualified personnel.
Management recognizes that the cost of a system of internal controls
should not exceed the benefits derived and that there are inherent
limitations to be considered in the potential effectiveness of any
system. However, management believes that the system of internal
controls provides reasonable assurances that financial transactions
are recorded properly to permit the preparation of reliable
consolidated financial statements.
Management also recognizes its responsibility for conducting the
Company's affairs in an ethical and socially responsible manner. This
responsibility is characterized and reflected in key policy statements
covering, among other subjects, proper conduct of business practices.
The Company maintains a systematic program to communicate, review and
assess compliance with these policies.
The Audit Committee of the Board of Directors has the responsibility
for the recommendation of the independent certified public accountants
for the Company. The Board of Directors, through its Audit Committee,
is responsible for ensuring that both management and the independent
certified public accountants fulfill their respective responsibilities
with regard to the financial statements. The independent certified
public accountants have free access to the Audit Committee.
The Company's consolidated financial statements have been audited by
Baylor and Backus. Their responsibility is to express an opinion on
the Company's consolidated financial statements and, in performing
their audit, to evaluate the Company's internal control system to the
extent they deem necessary in order to issue an opinion on the
Company's consolidated financial statements. As described further in
their report, their opinion is based on their audits, which were
conducted in accordance with generally accepted auditing standards and
is believed by them to provide a reasonable basis for their opinion.
Charles E. Allen, Jr. Randal R. Greene
Chairman of the Board President
56
<PAGE>
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS
This item is incorporated by reference to pages 4, 5, and 10 of State of
Franklin's Proxy Statement related to its 2000 Annual Meeting of Shareholders.
ITEM 10. EXECUTIVE COMPENSATION.
This item is incorporated by reference to pages 9 and 10 of State of
Franklin's Proxy Statement related to its 2000 Annual Meeting of Shareholders.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
This item is incorporated by reference to page 8 of State of Franklin's
Proxy Statement related to its 2000 Annual Meeting of Shareholders.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
This item is incorporated by reference to page 10 of State of Franklin's
Proxy Statement related to its 2000 Annual Meeting of Shareholders.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(1) Exhibits
--------
Exhibit No. Description
----------- -----------
3.1* Charter of State of Franklin Bancshares, Inc.
3.2* Bylaws of State of Franklin Bancshares, Inc.
21 Subsidiaries of State of Franklin Bancshares, Inc.
27 Financial Data Schedule (For SEC use only)
-----------------
* Incorporated herein by reference to the Registrant's Form 10-KSB, filed
with the Securities and Exchange Commission on March 28, 1999
(File number 000-24675).
(2) Reports on Form 8-K
----------------------
No reports on Form 8-K were filed during the quarter ended December 31,
1999.
57
<PAGE>
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
has caused this report to be signed on its behalf by the undersigned, thereunto
duly authorized.
STATE OF FRANKLIN BANCSHARES, INC.
By: /s/ Charles E. Allen, Jr.
-----------------------------
Chairman of the Board
Date: March 27, 2000
<TABLE>
<CAPTION>
Signature Capacity Date
- --------- ----------- ----------
<S> <C> <C>
/s/ Charles E. Allen, Jr. Chairman of the Board, Director March 27, 2000
- ------------------------------
Chares E. Allen, Jr. (principal executive, financial, and accounting officer)
- ------------------------------ --------------------------------------------------------
/s/ Randal R. Greene President, Director March 27, 2000
- ------------------------------
Randal R. Greene (principal executive officer)
- ------------------------------ --------------------------------------------------------
/s/ Stephen Gross Director March 27, 2000
- ------------------------------
Steven Gross
- ------------------------------
/s/Donald R. Jeanes Director March 27, 2000
- ------------------------------
Donald R. Jeanes
- ------------------------------
/s/ Henry J. Williams, M.D. Director March 27, 2000
- ------------------------------
Henry J. Williams, M.D.
- ------------------------------
/s/ Kenneth E. Cutshall, M.D. Director March 27, 2000
- ------------------------------
Kenneth E. Cutshall, M.D.
- ------------------------------
/s/ Charles E. Allen, Sr. Director March 27, 2000
- ------------------------------
Charles E. Allen, Sr.
- ------------------------------
/s/ Richard S. Venable Director March 27, 2000
- ------------------------------
Richard S. Venable
- ------------------------------
/s/ Verrill M. Norwood, Jr. Director March 27, 2000
- ------------------------------
Verrill M. Norwood, Jr.
- ------------------------------
/s/ Cameron E. Perry Director March 27, 2000
- ------------------------------
Cameron E. Perry
- ------------------------------
/s/ Vance W. Cheek Director March 27, 2000
- ------------------------------
Vance W. Cheek
- ------------------------------
</TABLE>
58
<PAGE>
Exhibit 21
Subsidiaries of State of Franklin Bancshares, Inc.
State of Franklin Savings Bank, a Tennessee-chartered savings bank, is a
wholly-owned subsidiary of State of Franklin Bancshares, Inc., as is State of
Franklin Leasing Corporation, a Tennessee corporation. John Sevier Title
Services, Inc., a Tennessee corporation, is a wholly owned subsidiary of State
of Franklin Savings Bank.
59
<PAGE>
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
This schedule contains summary financial data extracted from the financial
statements of State Of Franklin Bancshares, Inc. for the twelve months ended
December 31, 1999 and is qualified in its entirety to such financial statements.
</LEGEND>
<MULTIPLIER> 1
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> DEC-31-1999
<CASH> 2785509
<INT-BEARING-DEPOSITS> 133148
<FED-FUNDS-SOLD> 308000
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 21440591
<INVESTMENTS-CARRYING> 13988346
<INVESTMENTS-MARKET> 13301184
<LOANS> 114439773
<ALLOWANCE> (810303)
<TOTAL-ASSETS> 160178417
<DEPOSITS> 132237626
<SHORT-TERM> 4093000
<LIABILITIES-OTHER> 9770891
<LONG-TERM> 578615
0
0
<COMMON> 1301519
<OTHER-SE> 12196766
<TOTAL-LIABILITIES-AND-EQUITY> 160178417
<INTEREST-LOAN> 8220542
<INTEREST-INVEST> 2211556
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 10432098
<INTEREST-DEPOSIT> 5663933
<INTEREST-EXPENSE> 6170489
<INTEREST-INCOME-NET> 4261609
<LOAN-LOSSES> 181429
<SECURITIES-GAINS> 12724
<EXPENSE-OTHER> 3027264
<INCOME-PRETAX> 1594902
<INCOME-PRE-EXTRAORDINARY> 1594902
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1087097
<EPS-BASIC> .97
<EPS-DILUTED> .95
<YIELD-ACTUAL> 3.19
<LOANS-NON> 222
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 630324
<CHARGE-OFFS> 1450
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 810303
<ALLOWANCE-DOMESTIC> 810303
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
