424(b)(3)
PROSPECTUS
Up to 6,809,250 Shares of Common Stock
Lincoln Bancorp
1121 East Main Street
Plainfield, Indiana 46168
(317) 839-6539
================================================================================
Lincoln Federal Savings Bank based in Plainfield, Indiana is converting
from the mutual form to the stock form of organization. Upon completion of the
conversion, Lincoln Federal Savings Bank will become a wholly-owned subsidiary
of Lincoln Bancorp, which was formed in September, 1998. The common stock of
Lincoln Bancorp is being offered to the public under the terms of a Plan of
Conversion which must be approved by the Office of Thrift Supervision and by a
majority of the votes eligible to be cast by members of Lincoln Federal Savings
Bank. The offering will not go forward if Lincoln Federal Savings Bank does not
receive these approvals. Lincoln Bancorp has received conditional approval to
have its common stock listed for quotation on the Nasdaq National Market System
under the symbol "LNCB."
================================================================================
TERMS OF OFFERING
An independent appraiser has estimated the market value of the
converted Lincoln Federal Savings Bank to be between $43,050,000 and
$58,950,000, which establishes the number of shares to be offered based upon a
price of $10 per share. This estimate assumes a contribution by Lincoln Bancorp
of 200,000 shares of common stock to Lincoln Federal Charitable Foundation, Inc.
Subject to Office of Thrift Supervision approval, the maximum number of shares
to be offered may be increased to 6,809,250 shares. Based on these estimates, we
are making the following offering of shares of common stock.
<TABLE>
<CAPTION>
Minimum Midpoint Maximum Supermaximum
<S> <C> <C> <C> <C>
o Price Per Share: $10 $10 $10 $10
o Number of Shares 4,305,000 5,100,000 5,895,000 6,809,250
o Conversion Expenses $1,208,048 $1,283,372 $1,358,717 $1,445,350
o Net Proceeds to Lincoln Bancorp $41,841,952 $49,716,628 $57,591,283 $66,647,150
o Net Proceeds per share to Lincoln Bancorp $9.72 $9.75 $9.77 $9.79
(excluding the shares issued to Lincoln Federal
Charitable Foundation, Inc.)
</TABLE>
Please refer to Risk Factors beginning on page 16 of this document.
These securities are not deposits or accounts and are not insured or guaranteed
by the Federal Deposit Insurance Corporation or any other government agency.
Neither the Securities and Exchange Commission, the Office of Thrift
Supervision, nor any state securities regulator has approved or disapproved
these securities or determined if this prospectus is accurate or complete. Any
representation to the contrary is a criminal offense.
Charles Webb and Company will use its best efforts to help Lincoln Bancorp sell
at least the minimum number of shares but does not guarantee this number will be
sold. All funds received from subscribers will be held in an escrow savings
account at Lincoln Federal Savings Bank earning interest at the passbook rate of
2.72% until the completion or termination of the Conversion.
For information on how to subscribe, call the Stock Information Center at (317)
837-5036.
CHARLES WEBB & COMPANY
A Division of Keefe, Bruyette & Woods, Inc.
Prospectus dated November 12, 1998
<PAGE>
TABLE OF CONTENTS
Page
Questions and Answers....................................................... 4
Summary..................................................................... 6
Selected Consolidated Financial Data of
Lincoln Federal Savings Bank and Subsidiary.............................. 9
Recent Developments of Lincoln Federal Savings Bank......................... 12
Risk Factors................................................................ 16
Proposed Purchases by Directors and Executive Officers...................... 21
Lincoln Bancorp............................................................. 22
Lincoln Federal Savings Bank................................................ 22
Market Area................................................................. 22
Lincoln Federal Charitable Foundation, Inc.................................. 23
Use of Proceeds............................................................. 25
Dividends................................................................... 26
Market for the Common Stock................................................. 27
Competition................................................................. 27
Capitalization.............................................................. 27
Pro Forma Data.............................................................. 29
Comparison of Valuation and Pro Forma Information With No Foundation........ 36
Regulatory Capital Compliance............................................... 37
The Conversion.............................................................. 38
Establishment of the Foundation...................................... 39
Offering of Common Stock............................................. 45
Subscription Offering................................................ 46
Community Offering................................................... 48
Limitations on Common Stock Purchases................................ 50
Management's Discussion and Analysis of Financial Condition and Results
of Operations of
Lincoln Federal Savings Bank and Subsidiary.............................. 54
Business of Lincoln Federal Savings Bank.................................... 74
Management of Lincoln Bancorp............................................... 94
Management of Lincoln Federal Savings Bank.................................. 94
Executive Compensation and Related Transactions of
Lincoln Federal Savings Bank........................................... 96
Regulation.................................................................. 100
Taxation.................................................................... 107
Restrictions on Acquisition of the Holding Company.......................... 108
Description of Capital Stock................................................ 112
Transfer Agent.............................................................. 113
Registration Requirements................................................... 114
Legal and Tax Matters....................................................... 114
Experts..................................................................... 114
Additional Information...................................................... 114
Index to Consolidated Financial Statements.................................. F-1
Glossary.................................................................... G-1
This document contains forward-looking statements which involve risks
and uncertainties. Lincoln Bancorp's actual results may differ significantly
from the results discussed in the forward-looking statements. Factors that might
cause such a difference include, but are not limited to, those discussed in
"Risk Factors" beginning on page 16 of this Prospectus.
Please see the Glossary beginning on page G-1 for the meaning of
capitalized terms that are used in this Prospectus.
<PAGE>
[map of Indiana with Clinton, Hendricks and Montgomery Counties highlighted]
<PAGE>
QUESTIONS AND ANSWERS ABOUT THE STOCK OFFERING
Q: What is the purpose of the offering?
A: The offering means that you will have the opportunity to share in our
future as a shareholder of the newly formed holding company named
Lincoln Bancorp which will own Lincoln Federal Savings Bank. The stock
offering will increase our capital and the amount of funds available to
us for lending and investment activities. This will give us greater
flexibility to diversify operations and expand into other geographic
markets if we choose to do so. As a stock savings association operating
through a holding company structure, we will have the ability to plan
and develop long-term growth and improve our future access to the
capital markets. In addition, our shareholders might also receive
dividends and benefit from any long-term appreciation of our stock
price if our earnings are sufficient in the future.
Q: How do I purchase the stock?
A: You must complete and return the Stock Order Form to us, together with
your payment, on or before Noon, Plainfield time, on December 14, 1998.
Q: How much stock may I purchase?
A: The minimum purchase is 25 shares (or $250). Each person with
subscription rights, in his capacity as such, may purchase up to 25,000
shares (or $250,000) in the Subscription Offering, subject to an
overall maximum of 68,093 shares ($680,930). Joint account holders
ordering through a single account may not collectively exceed these
purchase limitations. Joint account holders ordering through more than
one account may each purchase up to 25,000 shares, subject to the
overall maximum of 68,093 shares.
For example, if you have more than one account at Lincoln Federal
Savings Bank, each in the same name, you may purchase up to 25,000
shares in the Subscription Offering. If you have only one account at
Lincoln Federal Savings Bank held jointly with your spouse, together
you and your spouse may only purchase up to 25,000 shares in the
Subscription Offering. If you and your spouse hold two or more joint
accounts, you may each purchase up to 25,000 shares, subject to the
overall maximum of 68,093 shares.
If we have a Community Offering, each purchaser may purchase up to
25,000 shares in that offering. However, your total purchases in the
Conversion may not exceed 68,093 shares (or $680,930). In certain
instances, your purchase may be grouped together with purchases by
other persons who are associated with you. We may increase or decrease
the maximum purchase limitation. If the offering is oversubscribed,
shares will be allocated based upon a formula.
Q: What happens if there are not enough shares to fill all orders?
A: You might not receive any or all of the shares you want to purchase. If
there is an oversubscription, the stock will be offered on a priority
basis to the following persons:
o Persons who had a deposit account with us on June 30, 1997.
(Lincoln Bancorp's employee stock ownership plan will have
priority over such persons if more than 5,895,000 shares are
sold, to the extent of any shares sold over 5,895,500 and up
to the number of shares subscribed for by such plan). Any
remaining shares will be offered to:
o The employee stock ownership plan of Lincoln Bancorp. Any
remaining shares will be offered to:
o Persons who had a deposit account with us on September 30,
1998. Any remaining shares will be offered to:
o Other depositors of ours, as of October 31, 1998, and our
borrowers as of June 19, 1984 who remain borrowers on October
31, 1998.
If the above persons do not subscribe for all of the shares, the
remaining shares will be offered to certain members of the general
public in a Community Offering, with preference given to people who
live in Hendricks, Montgomery and Clinton Counties, Indiana.
Q: What particular factors should I consider when deciding whether or not
to buy the stock?
A: Before you decide to purchase stock, you should read this Prospectus.
In particular, you should read and consider the Risk Factors section on
pages 16 to 21 of this document.
Q: As a depositor of Lincoln Federal Savings Bank, what will happen if I
do not purchase any stock?
A: You presently have voting rights while we are in the mutual form;
however, once we convert to the stock form you will lose your voting
rights unless you purchase stock. Even if you do purchase stock, your
voting rights will depend on the amount of stock that you own and not
on your deposit account at Lincoln Federal Savings Bank. You are not
required to purchase stock. Your deposit account, certificate accounts
and any loans you may have with us will not otherwise be affected by
the Conversion.
Q: Can I purchase stock on behalf of someone else who does not have an
account or is not a borrower at Lincoln Federal Savings Bank?
A: No. You may not transfer the subscription rights that you have as a
depositor or borrower at Lincoln Federal Savings Bank. You will be
required to certify that you are purchasing shares solely for your own
account and that you have no agreement or understanding with another
person involving the transfer of the shares that you purchase. We will
not honor orders for shares of the Common Stock by anyone known to us
to be a party to such an agreement and we will pursue all legal
remedies against any person who is a party to such an agreement.
Q: How may I pay for my shares of stock?
A: First, you may pay for stock by check, cash (only if presented in
person) or money order. Interest will be paid by Lincoln Federal
Savings Bank on these funds at its passbook rate, which is currently
2.72% per annum, from the day the funds are received until the
completion or termination of the Conversion. Second, you may authorize
us to withdraw funds from your savings account(s) or certificate(s) of
deposit at Lincoln Federal Savings Bank for the amount of funds you
specify for payment. You will not have access to these funds from the
day we receive your order until completion or termination of the
Conversion.
Q: Can I purchase shares using funds in any IRA accounts I hold?
A: Applicable regulations do not permit the purchase of common stock from
your existing Lincoln Federal Savings Bank IRA account. To accommodate
our depositors, however, we have made arrangements with an outside
trustee to allow such purchases. Please call our Stock Information
Center for additional information.
Q: Who can help answer any other questions I may have about the stock
offering?
A: In order to make an informed investment decision, you should read this
entire document. After reading this document, if you have questions or
need assistance, you should contact:
Stock Information Center
Lincoln Federal Savings Bank
P.O. Box 720
1121 East Main Street
Plainfield, Indiana 46168
(317) 837-5036
<PAGE>
SUMMARY
This summary highlights selected information from this document and may
not contain all the information that is important to you. To understand the
stock offering fully, you should read carefully this entire document, including
the consolidated financial statements and the notes to the consolidated
financial statements of Lincoln Federal Savings Bank. References in this
document to "we", "us", "our" and "Lincoln Federal" refer to Lincoln Federal
Savings Bank. In certain instances where appropriate, "us" or "our" refer
collectively to Lincoln Bancorp and Lincoln Federal Savings Bank. References in
this document to "the Holding Company" refer to Lincoln Bancorp.
The Companies
Lincoln Bancorp
1121 East Main Street
Plainfield, Indiana 46168
(317) 839-6539
Lincoln Bancorp is not currently an operating company and has not
engaged in any significant business to date. It was formed in September, 1998,
as an Indiana corporation to be the holding company for Lincoln Federal Savings
Bank. The holding company structure will provide greater flexibility in terms of
operations, expansion and diversification. See page 22.
Lincoln Federal Savings Bank
1121 East Main Street
Plainfield, Indiana 46168
(317) 839-6539
We are a community- and customer-oriented federal mutual savings bank.
We provide financial services to individuals, families and small business.
Historically, we have attracted deposits from the general public and have
emphasized residential mortgage lending, primarily one- to four-family mortgage
loans. We also offer commercial real estate loans, real estate construction
loans, land loans, multi-family residential loans, home equity loans and other
types of consumer loans, and commercial loans. On June 30, 1998, we had total
assets of $304.5 million, deposits of $211.2 million, and equity capital of
$42.8 million. See page 22.
The Stock Offering
Lincoln Bancorp is offering for sale between 4,305,000 and 5,895,000
shares of its Common Stock at $10 per share. This offering may be increased to
6,809,250 shares without further notice to you if market or financial conditions
change prior to the completion of this stock offering or if additional shares of
stock are needed to fill the order of our employee stock ownership plan.
Stock Purchases
Lincoln Bancorp will offer shares of its Common Stock to our depositors
who held deposit accounts as of certain dates and to our borrowers with
outstanding loans as of certain dates. The shares will be offered first in a
Subscription Offering and any remaining shares may be offered in a Community
Offering to members of the general public with preference given to residents of
Hendricks, Montgomery and Clinton Counties. See pages 45 to 51. We have engaged
Charles Webb & Company to assist in the marketing of the Common Stock.
Prohibition on Transfer of Subscription Rights
You may not sell or assign your subscription rights. Any transfer of
subscription rights is prohibited by law. If you exercise your subscription
rights, you will be required to certify that you are purchasing shares solely
for your own account and that you have no agreement or understanding regarding
the sale or transfer of shares. We intend to pursue any and all legal and
equitable remedies in the event we become aware of the transfer of subscription
rights and will not honor orders known by us to involve the transfer of such
rights. In addition, persons who violate the purchase limitations may be subject
to sanctions and penalties imposed by the Office of Thrift Supervision.
The Offering Range and Determination of the Price Per Share
The offering range is based on an independent appraisal of the pro
forma market value of the Common Stock by Keller & Company, Inc., an appraisal
firm experienced in appraisals of savings associations. Keller & Company, Inc.
has estimated that, in its opinion, as of August 14, 1998, and as updated as of
October 23, 1998, the aggregate pro forma market value of the Common Stock
ranged between $43,050,000 and $58,950,000 (with a mid-point of $51,000,000).
This appraisal assumes that the Holding Company issues 200,000 shares of Common
Stock to Lincoln Federal Charitable Foundation, Inc. The appraisal was based in
part upon our financial condition and operations and the effect of the
additional capital raised by the sale of Common Stock in this offering. The
$10.00 price per share was determined by our board of directors and is the price
most commonly used in stock offerings involving conversions of mutual savings
associations. If the pro forma market value of the Common Stock changes to
either below $43,050,000 or above $68,092,500, we will notify you and provide
you with the opportunity to modify or cancel your order. See pages 52 to 53.
Termination of the Offering
The Subscription Offering will terminate at 12:00 noon, Plainfield
time, on December 14, 1998. The Community Offering, if any, may terminate at any
time without notice but no later than January 28, 1999, without approval by the
OTS.
Benefits to Management from the Offering
Our full-time employees will participate in our employee stock
ownership plan, which is a form of retirement plan that will purchase shares of
Lincoln Bancorp's Common Stock. We also intend to implement a management
recognition and retention plan and a stock option plan following completion of
the Conversion, which will benefit our officers and directors. If we award
shares under the recognition and retention plan and the stock option plan out of
our authorized but unissued shares of Common Stock, your ownership and voting
interests would be diluted by 3.9% or 9.1%, respectively, assuming the sale of
5.1 million shares and the contribution of 200,000 shares to the Foundation. Net
income per share and book value per share will also decrease if shares are
awarded from authorized but unissued shares. However, the management recognition
and retention plan and stock option plan may not be adopted until at least six
months after the Conversion and are subject to shareholder approval and
compliance with OTS regulations. See page 98 to 100.
The following chart indicates the amount of Common Stock we expect will
be held by the recognition and retention plan, the employee stock ownership plan
and the stock option plan following the Conversion. The chart assumes that 4% of
the number of shares sold in the Conversion (including the 200,000 shares issued
to Lincoln Federal Charitable Foundation, Inc.) will be awarded under the
recognition and retention plan, 8% will be issued to the employee stock
ownership plan and 10% will be issued pursuant to the stock option plan.
Number of Shares (1) Value of Shares (2)
Recognition and Retention Plan 212,000 $2,120,000
Employee Stock Ownership Plan 424,000 $4,240,000 (3)
Stock Option Plan 530,000 N/A (4)
1 Assumes the sale of 5,100,000 shares of Common Stock, the midpoint of the
Estimated Valuation Range, and the issuance of 200,000 shares to Lincoln
Federal Charitable Foundation, Inc.
2 Assumes a value of $10 per share of Common Stock. Actual amounts will
depend upon the future market value of the Common Stock, which cannot be
determined at this time.
3 The Trustee of the ESOP will be required to vote nondirected shares and the
shares held in the suspense account to reflect the instructions it has
received fom participants in the ESOP regarding allocated shares.
4 The value of awards issued under the Stock Option Plan will depend upon the
exercise price of the stock options and the market value of the Common
Stock when the options are exercised, neither of which can be determined at
this time.
We also have entered into a three-year employment contract with T. Tim
Unger, our President and Chief Executive Officer, in connection with the
Conversion which provides for an annual salary of $135,000, subject to increases
by our board of directors. The employment contract also provides for severance
pay in an amount up to three times his annual salary in the event his employment
is terminated without cause following a change in control of the Holding
Company. See pages 96 to 97. We also intend to issue 200,000 shares of stock to
Lincoln Federal Charitable Foundation, Inc. We expect, however, that as a
condition to its approval of the establishment of the Foundation, the OTS will
require that all shares of Common Stock held by the Foundation be voted in the
same ratio as all other shares of Common Stock on all proposals considered by
the shareholders of the Holding Company. See pages 23 to 25.
Lincoln Federal Charitable Foundation, Inc.
Our Plan of Conversion provides for the establishment of Lincoln
Federal Charitable Foundation, Inc. to provide grants or donations for
charitable activities in our market area. We have historically made donations to
charitable organizations in our primary market area. During the 12-month period
ended December 31, 1997, we made charitable donations of $31,900, and during the
nine-month period ended September 30, 1998 we made charitable donations of
$16,400. Lincoln Federal Charitable Foundation, Inc. is incorporated under
Indiana law as a nonprofit corporation without members and operates under the
guidance of its Board of Directors. Upon the completion of the Conversion, the
Board will initially consist of three members of the Board of Directors of
Lincoln Bancorp. Lincoln Bancorp intends to issue 200,000 shares, or $2 million,
of Common Stock to Lincoln Federal Charitable Foundation, Inc. immediately
following the Conversion. This issuance of additional shares of Common Stock to
Lincoln Federal Charitable Foundation, Inc. will dilute the ownership and voting
interests of any shares you may purchase by 3.8%, assuming the sale of 5,100,000
shares of Common Stock. See pages 23 to 25. Use of the Proceeds Raised from the
Sale of Common Stock
Lincoln Bancorp intends to use a portion of the proceeds from the stock
offering to make a loan to our employee stock ownership plan to fund its
purchase of 8% of the Common Stock sold in the Conversion and issued to the
Foundation. Lincoln Bancorp will use 50% of the proceeds that remain after it
pays expenses incurred in connection with the Conversion to purchase all of the
capital stock to be issued by Lincoln Federal Savings Bank. Lincoln Bancorp will
retain the balance of the proceeds as a possible source of funds for the payment
of dividends, if any, to shareholders, to repurchase shares of Common Stock in
the future, to acquire one or more other financial institutions or assets of
other financial institutions, or for other general corporate purposes. The
Holding Company has no present plans, agreements or understandings to acquire
another financial institution or the assets of another financial institution or
to repurchase shares of Common Stock. Lincoln Federal intends to use the
proceeds it receives in the Conversion to support its lending activities, to
repay advances from the Federal Home Loan Bank of Indianapolis and to purchase
mortgage-backed securities and, possibly, loan participations from other
financial institutions. On a short-term basis, both the Holding Company and
Lincoln Federal may invest the net proceeds that they retain in short- or
intermediate-term investments. See pages 25 to 26.
Dividends
The Holding Company currently has not adopted a policy regarding the
payment of dividends, if any, on the Common Stock. Following consummation of the
Conversion, the Board of Directors of the Holding Company intends to implement a
policy of paying quarterly cash dividends on the Common Stock. Declarations of
dividends by the Holding Company's Board of Directors will depend upon a number
of factors, including the amount of the net proceeds retained by the Holding
Company in the Conversion, investment opportunities available to the Holding
Company or to Lincoln Federal, capital requirements, the Holding Company's and
Lincoln Federal's financial condition and results of operations, tax
considerations, statutory and regulatory limitations, and general economic
conditions. There can be no assurances that dividends will in fact be paid on
the Common Stock or that, if paid, such dividends will not be reduced or
eliminated in future periods. See pages 26 to 27.
Market for the Common Stock
Lincoln Bancorp has received conditional approval to have its Common
Stock listed for quotation on the Nasdaq National Market System under the symbol
"LNCB." Even though we expect that the shares of Common Stock will be quoted on
the Nasdaq National Market System, there can be no guarantee that an active and
liquid trading market for the shares will develop and be maintained. The Common
Stock may not be appropriate as a short-term investment. If you purchase shares,
you may not be able to sell them when you want to at a price that is equal to or
more than the price you paid. See page 27.
Important Risks in Owning the Holding Company's Common Stock
Before you decide to purchase stock in the offering, you should read
the Risk Factors section on pages 16 to 21 of this document.
<PAGE>
SELECTED CONSOLIDATED FINANCIAL DATA OF
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
The following selected consolidated financial data of Lincoln Federal
and its subsidiary is qualified in its entirety by, and should be read in
conjunction with, the consolidated financial statements, including notes
thereto, included elsewhere in this Prospectus. Information at June 30, 1998 and
for the six months ended June 30, 1998 and 1997 is unaudited but, in the opinion
of management, includes all adjustments (comprising only normal recurring
accruals) necessary for a fair presentation of the financial position and
results of operations as of and for such dates. The results of operations at and
for the six months ended June 30, 1998 are not necessarily indicative of the
results of operations for the entire year.
<TABLE>
<CAPTION>
AT JUNE 30, AT DECEMBER 31,
1998 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ----
(In thousands)
Summary of Financial Condition Data:
<S> <C> <C> <C> <C> <C> <C>
Total assets............................... $304,500 $321,391 $345,552 $319,777 $309,010 $225,500
Cash and interest bearing
deposits in other banks (1)........... 23,765 18,958 10,394 8,882 21,488 5,937
Investment securities available for sale... 58,940 29,399 118 116 114 115
Investment securities held to maturity..... 3,500 9,635 15,185 11,600 12,748 9,748
Mortgage loans held for sale............... 19,264(2) --- 24,200 15,534 16,141 8,779
Loans...................................... 184,850 249,996 282,813 270,933 245,159 190,131
Allowance for loan losses.................. (1,432) (1,361) (1,241) (1,121) (1,046) (1,056)
Net loans.................................. 183,418(3) 248,635 (3) 281,572 269,812 244,113 189,075
Investment in limited partnerships......... 2,633 2,706 3,187 3,583 5,019 5,432
Deposits................................... 211,160 203,852 210,823 196,117 185,219 177,498
Borrowings................................. 47,889 72,827 94,412 85,604 90,294 17,645
Equity capital - substantially restricted.. 42,795 41,978 37,919 34,930 31,546 28,165
</TABLE>
(1) Includes certificates of deposits in other financial institutions.
(2) Loans held for sale at June 30, 1998 consist of loans sold to a private
investor in a transaction that closed in July, 1998. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations of Lincoln Federal Savings Bank and Subsidiary --
Asset/Liability Management."
(3) See "Management's Discussion and Analysis of Financial Condition and
Results of Operations of Lincoln Federal Savings Bank and Subsidiary --
Asset/Liability Management" for a discussion of the decline in our net
loans.
<PAGE>
<TABLE>
<CAPTION>
SIX MONTHS
ENDED JUNE 30, YEAR ENDED DECEMBER 31,
1998 1997 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ---- ----
(In thousands)
Summary of Operating Data:
<S> <C> <C> <C> <C> <C> <C> <C>
Total interest income............................... $11,413 $12,867 $25,297 $24,453 $22,065 $18,309 $15,713
Total interest expense.............................. 6,855 7,745 15,652 15,119 14,486 9,418 7,512
-------- ------ ------ ------ ------ ------ ------
Net interest income.............................. 4,558 5,122 9,645 9,334 7,579 8,891 8,201
Provision for loan losses........................... 410 50 298 120 100 (1) 369
-------- ------ ------ ------ ------ ------ ------
Net interest income after provision
for losses on loans............................ 4,148 5,072 9,347 9,214 7,479 8,892 7,832
-------- ------ ------ ------ ------ ------ ------
Other income (losses):
Net realized-and unrealized-gain (loss) on loans
held for sale.................................. (114) (18) 299 (160) 1,463 (1,380) 643
Net realized- and unrealized-gains on securities
available for sale............................. 105 --- 118 --- --- --- ---
Equity in losses of limited partnerships......... (268) (327) (681) (596) (1,595) (663) (450)
Other............................................ 378 285 674 503 473 529 684
-------- ------ ------ ------ ------ ------ ------
Total other income (loss)...................... 101 (60) 410 (253) 341 (1,514) 877
-------- ------ ------ ------ ------ ------ ------
Other expenses:
Salaries and employee benefits................... 1,318 1,022 2,247 1,719 1,529 1,360 1,156
Net occupancy expenses........................... 135 133 272 236 272 287 273
Equipment expenses............................... 300 249 526 361 176 174 156
Deposit insurance expense........................ 100 85 194 1,725 438 408 284
Data processing expense.......................... 369 268 581 313 228 201 180
Professional fees................................ 177 140 238 69 48 41 54
Mortgage servicing rights amortization........... 126 5 67 12 9 54 267
Other............................................ 570 546 960 668 544 375 232
-------- ------ ------ ------ ------ ------ ------
Total other expenses.......................... 3,095 2,448 5,085 5,103 3,244 2,900 2,602
-------- ------ ------ ------ ------ ------ ------
Income before income taxes, extraordinary item
and cumulative effect of change in
accounting principle........................... 1,154 2,564 4,672 3,858 4,576 4,478 6,107
Income taxes..................................... 187 701 1,159 870 1,193 1,095 2,287
-------- ------ ------ ------ ------ ------ ------
Income before extraordinary item and cumulative
effect of change in accounting principle......... 967 1,863 3,513 2,988 3,383 3,383 3,820
Extraordinary item-early extinguishment of debt,
net of income taxes of $99....................... 150 --- --- --- --- --- ---
Cumulative effect of change
in accounting principle........................ --- --- --- --- --- --- 356
-------- ------ ------ ------ ------ ------ ------
Net income.....................................$ 817 $1,863 $3,513 $2,988 $3,383 $3,383 $4,176
======== ====== ====== ====== ====== ====== ======
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
SIX MONTHS
ENDED JUNE 30, YEAR ENDED DECEMBER 31,
1998 1997 1997 1996 1995 1994 1993
---- ---- ---- ---- ---- ---- ----
Supplemental Data:
<S> <C> <C> <C> <C> <C> <C> <C>
Return on assets (1) (2)........................ .53 1.07 1.02 .90 1.09 1.32 2.06
Return on equity (1) (3)........................ 3.81 9.52 8.71 8.08 9.92 11.08 15.84
Equity to assets (4)............................ 14.05 11.25 13.06 10.97 10.92 10.21 12.49
Interest rate spread during period (1) (5)...... 2.39% 2.53% 2.41% 2.36% 1.99% 3.24% 3.86%
Net yield on interest-earning assets (1) (6).... 3.06 3.05 2.92 2.91 2.55 3.67 4.34
Efficiency ratio (7)............................ 66.43 48.36 50.57 56.19 40.96 39.31 28.66
Other expenses to average assets (1)(8)......... 2.15 1.40 1.47 1.54 1.05 1.13 1.29
Average interest-earning assets to average
interest-bearing liabilities................. 114.59 111.21 110.88 111.80 111.31 111.18 112.05
Non-performing assets to total assets (4)....... .57 .99 1.14 .73 .75 .04 .13
Allowance for loan losses to total loans
outstanding (4) (9).......................... .70 .40 .54 .40 .39 .40 .53
Allowance for loan losses to
non-performing loans (4)..................... 87.16 36.91 37.56 50.80 46.81 780.60 350.08
Net charge-offs to average
total loans outstanding ..................... .15 --- .06 --- .01 --- .01
Number of full service offices (4).............. 4 4 4 4 4 4 4
</TABLE>
(1) Information for six months ended June 30, 1998 and 1997 has been
annualized. Interim results are not necessarily indicative of the
results of operations for an entire year.
(2) Net income divided by average total assets.
(3) Net income divided by average total equity.
(4) At end of period.
(5) Interest rate spread is calculated by substracting combined average
interest cost from combined average interest rate earned for the period
indicated.
(6) Net interest income divided by average interest-earning assets.
(7) Other expenses (excluding federal income tax expense) divided by the
sum of net interest income and noninterest income. Excluding the effect
of the one-time SAIF assessment, the efficiency ratio would have been
42.28% for the year ended December 31, 1996.
(8) Other expenses divided by average total assets.
(9) Total loans include loans held for sale.
<PAGE>
RECENT DEVELOPMENTS OF LINCOLN FEDERAL SAVINGS BANK
The following table sets forth selected consolidated financial
condition data for Lincoln Federal and its subsidiary at September 30, 1998, and
December 31, 1997, and selected consolidated operating data for Lincoln Federal
and its subsidiary for the three months and nine months ended September 30, 1998
and 1997. Information at September 30, 1998 and for the three and nine months
ended September 30, 1998 and 1997 is unaudited but, in the opinion of
management, includes all adjustments (comprising only normal recurring accruals)
necessary for a fair presentation of the financial position and results of
operations as of and for such dates. The selected financial and other data of
Lincoln Federal set forth below does not purport to be complete and should be
read in conjunction with, and is qualified in its entirety by, the more detailed
information, including the consolidated financial statements and related notes
thereto, appearing elsewhere herein. The operating results for the three and
nine months ended September 30, 1998 are not necessarily indicative of the
results that may be expected for the year ending December 31, 1998.
<TABLE>
<CAPTION>
At September 30, At December 31,
Summary of Financial Condition Data: 1998 1997
---------------- ---------------
(In Thousands)
<S> <C> <C>
Total assets $321,825 $321,391
Cash and interest bearing deposits in other banks (1) 42,765 18,958
Investment securities available for sale 74,843 29,399
Investment securities held to maturity 2,250 9,635
Mortgage loans held for sale -- --
Loans 187,497 249,996
Allowance for loan losses (1,482) (1,361)
Net loans 186,015 248,635
Investment in limited partnerships 2,454 2,706
Deposits 212,623 203,852
Borrowings 52,889 72,827
Equity capital - substantially restricted 43,239 41,978
</TABLE>
(1) Includes certificates of deposit in other financial institutions
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
Summary of Operating Data: 1998 1997 1998 1997
-------- ------ -------- --------
(In thousands)
<S> <C> <C> <C> <C>
Total interest income $ 5,564 $6,475 $16,977 $19,342
Total interest expense 3,384 4,145 10,239 11,890
-------- ------ -------- --------
Net interest income 2,180 2,330 6,738 7,452
Provision for loan losses 41 30 451 80
-------- ------ -------- --------
Net interest income after provision
for losses on loans 2,139 2,300 6,287 7,372
Other income 99 460 200 400
Other expenses 1,343 956 4,438 3,404
-------- ------ -------- --------
Income before income taxes and extraordinary item 895 1,804 2,049 4,368
Income taxes 214 632 401 1,333
-------- ------ -------- --------
Income before extraordinary item 681 1,172 1,648 3,035
Extraordinary item - early extinguishment
of debt, net of income taxes of $99 150
-------- ------ -------- --------
Net income $ 681 $1,172 $ 1,498 $ 3,035
======== ====== ======== ========
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
At or for the At or for the
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
---- ---- ---- ----
Supplemental Data:
<S> <C> <C> <C> <C>
Return on assets (ratio of net income to average
total assets (1).................................................. .88 % 1.32 % .65 % 1.15 %
Return on equity (ratio of net income to
average total equity (1).......................................... 6.32 11.37 4.65 10.11
Equity to assets at end of period.................................... 13.44 12.06 13.44 12.06
Interest rate spread during period (1) (2)........................... 2.26 2.43 2.33 2.50
Net yield on interest-earning assets (1) (3)......................... 2.96 2.83 3.02 2.98
Efficiency ratio (4)................................................. 58.93 34.27 63.97 43.35
Other expenses to average assets (1)................................. 1.75 1.08 1.91 1.29
Average interest-earning assets to average
interest-bearing liabilities...................................... 115.23 107.95 115.08 110.12
Non-performing assets to total assets at end of period............... .49 1.28 .49 1.28
Allowance for loan losses to total loans
outstanding at end of period (5).................................. .79 .53 .79 .53
Allowance for loan losses to
non-performing loans at end of period............................. 95.61 30.37 95.61 3.37
Net charge-offs to average
total loans outstanding .......................................... --- --- .15 % ---
</TABLE>
(1) Ratios have been annualized. Interim results are not necessarily
indicative of the results of operations for an entire year.
(2) Interest rate spread is calculated by substracting combined average
interest cost from combined average interest rate earned for the period
indicated.
(3) Net interest income divided by average interest-earning assets.
(4) Other expenses (excluding federal income tax expense) divided by the
sum of net interest income and noninterest income.
(5) Total loans include loans held for sale.
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
Financial Condition at September 30, 1998 Compared to Financial Condition at
December 31, 1997
Our total assets increased by $434,000, or .14%, to $321.8 million at
September 30, 1998 from $321.4 million at December 31, 1997. Our loans
receivable decreased $62.5 million, or 25.0% due primarily to the securitization
of approximately $39.9 million of one- to four-family residential loans and the
sale of an additional $19.3 million of loans. Subsequent to the loan
securitization, we sold $21.1 million of these mortgage-backed securities
available for sale and retained the remaining $18.8 million in our
mortgage-backed securities available-for-sale portfolio. Cash and
interest-bearing deposits in other banks increased by $23.8 million and
mortgage-backed securities available for sale and other investment securities
available for sale and held to maturity increased by $38.1 million at September
30, 1998, compared to December 31, 1997. These increases were primarily due to
the loan securitization and the loan sale. Deposits increased by $8.8 million,
or 4.3% due primarily to a certificate of deposit promotion in February of 1998
that produced $4.3 million of new deposits. FHLB advances decreased $19.9
million, or 27.4%, at September 30, 1998 compared to December 31, 1997. Proceeds
from the sales of mortgage-backed securities available for sale were used to
repay a portion of the FHLB advances. Equity capital increased $1.3 million, or
3.0%, to $43.2 million. The increase was due to net income of $1.5 million
offset by a decrease in unrealized gains on securities available for sale.
Comparison of Operating Results for the Three Months Ended September 30, 1998
and 1997
Net Income. Net income decreased $491,000 to $681,000 for the
three-month period ended September 30, 1998 from $1.2 million for the same
period in 1997. The decrease was primarily a result of a decrease in net
interest income and other income and an increase in other expense. Our net
interest income declined primarily because we securitized certain loans in our
portfolio and sold the resulting mortgage-backed securities on the secondary
market. Because we no longer hold these loans in our portfolio, we expect our
net interest income to remain at reduced levels in the future as well. The
decrease in net income during the 1998 period compared to the 1997 period was
also due to increased non-interest income during 1997 that resulted from a gain
of approximately $283,000 on loans held for sale and $118,000 on the sale of
securities. These gains resulted from declining interest rates during the 1997
period. Non-interest expense increased during the 1998 period as a result of the
additional personnel we have hired recently.
Net Interest Income. Net interest income decreased $150,000, or 6.4%,
to $2.2 million for the three-month period ended September 30, 1998, from $2.3
million for the comparable period in 1997. Net interest income declined $8,000
due to a decrease in our volume of net interest earning assets and liabilities
and decreased $142,000 as a result of a reduction in interest rate spread. Our
interest rate spread was 2.26% and 2.43% for the 1998 and 1997 periods,
respectively. Our net yield on interest-earning assets was 2.96% and 2.83%, for
the 1998 and 1997 periods, respectively. Although our interest rate spread
decreased by 17 basis points during the 1998 period, our yield on
interest-earning assets increased 13 basis points because our average
interest-earning assets as a percentage of interest-bearing liabilities
increased from 108.0% for the 1997 period to 115.2% for the 1998 period.
Provision for Loan Losses. Our provisions for loan losses for the three
months ended September 30, 1998 and for the comparable period in 1997 were
$41,000 and $30,000, respectively, an increase of $11,000. During the 1998
period, we had net recoveries of $9,000. There were no charge-offs or recoveries
during the 1997 period.
Other Income. Our other income decreased $361,000 for the three-month
period ended September 30, 1998 as compared to the comparable period in 1997.
This decrease in other income was primarily due to the recovery of unrealized
losses on loans held for sale recorded during the third quarter in 1997 of
approximately $283,000.
Other Expenses. Our non-interest expense increased $387,000 to $1.3
million from $956,000 in 1997. A significant portion of the increase was
attributable to an increase in salaries and employee benefits. Salaries and
employee benefits were $683,000 for the three months ended September 30, 1998
compared to $502,000 for the three months ended September 30, 1997, an increase
of $181,000, or 36.1%. We have increased our number of employees and added
personnel with specialized skills to more effectively service our existing
customers and to position us for future customer and product growth. The
remaining increase resulted from increases in a variety of expense categories
and was not attributable to any one item.
Income Tax Expense. Income tax expense decreased $418,000, or 66.1%,
from the three months ended September 30, 1997 to the same period in 1998. This
variation in income tax expense was directly related to the decrease in our
taxable income and to the low income housing credits earned during those
periods.
Comparison of Operating Results for the Nine Months Ended September 30, 1998 and
1997
Net Income. Net income decreased $1.5 million to $1.5 million for the
nine-month period ended September 30, 1998 from $3.0 million for the same period
in 1997. The decrease was primarily a result of a decrease in net interest
income and an increase in our provision for loan losses and other expense.
Net Interest Income. Net interest income decreased $714,000, or 9.6%,
to $6.7 million for the nine-month period ended September 30, 1998, from $7.5
million for the comparable period in 1997. Net interest income declined $237,000
due to a decrease in our volume of net interest earning assets and liabilities
and decreased $477,000 as a result of a reduction in our net interest rate
spread. Our interest rate spread was 2.33% and 2.50% for the 1998 and 1997
periods, respectively. Our net yield on interest-earning assets was 3.02% and
2.98%, for the 1998 and 1997 periods, respectively. Although our interest rate
spread decreased by 17 basis points during the 1998 period, our yield on
interest-earning assets increased 4 basis points because our average
interest-earning assets as a percentage of interest-bearing liabilities
increased from 110.1% for the 1997 period to 115.1% for the 1998 period.
Provision for Loan Losses. Our provisions for loan losses for the nine
months ended September 30, 1998 and for the comparable period in 1997 were
$451,000 and $80,000 respectively, an increase of $371,000. We maintain an
allowance for loan losses based upon a quarterly evaluation of the size and
known inherent risk in the components of our loan portfolio, our past loan loss
experience, adverse situations which may affect borrowers' ability to repay
loans, estimated value of underlying loan collateral, current and, to a lesser
extent, expected future economic conditions and peer comparisons. We increased
our provision for loan losses in 1998 compared to 1997 primarily because of our
more aggressive collection efforts to reduce nonperforming and delinquent loans,
our higher concentration of delinquent loans in the remaining portfolio after
our securitization and loan sale, our higher mix of consumer and development
loans in our portfolio and our high level of nonperforming loans as compared to
our peer groups. While management estimates loan losses using the best available
information, no assurance can be given that future additions to the allowance
will not be necessary based on changes in economic and real estate market
conditions, further information obtained regarding problem loans, identification
of additional problem loans and other factors, both within and outside of
management's control.
Other Income. Our other income decreased $200,000 for the nine-month
period ended September 30, 1998 as compared to the comparable period in 1997.
This decrease in other income was primarily due to the recovery of unrealized
losses on loans held for sale recorded during 1997 of approximately $266,000
offset by an increase in loan servicing income of $131,000.
Other Expenses. Our non-interest expense increased $1.0 million to $4.4
million from $3.4 million in 1997. A significant portion of the increase was
attributable to an increase in salaries and employee benefits. Salaries and
employee benefits were $2.0 million for the nine months ended September 30, 1998
compared to $1.5 million for the nine months ended September 30, 1997, an
increase of approximately $500,000, or 33.3%. We have increased our number of
employees and added personnel with specialized skills to more effectively
service our existing customers and to position us for future customer and
product growth. In addition, mortgage servicing rights amortization increased
$153,000 due to increased servicing activity and the adoption of new accounting
standards. The remaining increase resulted from increases in a variety of
expense categories and was not attributable to any one item.
Income Tax Expense. Income tax expense decreased $932,000, or 69.9%,
from the nine months ended September 30, 1997 to the same period in 1998. This
variation in income tax expense was directly related to our decrease in taxable
income and to the low income housing credits earned during those periods.
Extraordinary Item - Early Extinguishment of Debt, Net of Income
Taxes. Prepayment penalties of $249,000 on FHLB advances were recorded during
the nine months ended September 30, 1998. Due to the securitization of loans and
loans held for sale and the subsequent sales of a portion of these
mortgage-backed securities, funds were available to prepay a portion of our FHLB
advances.
<PAGE>
RISK FACTORS
In addition to the other information in this document, you should
consider carefully the following risk factors in evaluating an investment in the
Common Stock.
Commercial Real Estate and Multi-Family Lending
As of June 30, 1998, we had commercial real estate and multi-family
loans of $14.5 million and $1 million, respectively, or 7.0% and .5% of our
total loan portfolio. Although commercial real estate and multi-family loans
provide higher interest rates and shorter terms, these loans have higher credit
risks than one- to four-family residential loans. Commercial and multi-family
real estate loans often involve large loan balances to single borrowers or
groups of related borrowers. In addition, payment experience on loans secured by
such properties typically depends upon the successful operation of the
properties and thus may be subject to a greater extent to adverse conditions in
the real estate market or in the general economy. Accordingly, the nature of the
loans makes them more difficult for management to monitor and evaluate. We have
no commercial or multi-family real estate loans that were non-performing as of
June 30, 1998. Although we believe that our current level of reserves is
adequate, if a significant number of borrowers under these types of loans
develop problems, we may be required to increase by a significant amount our
allowance for loan losses because of the relatively large size of these loans.
This, in turn, would reduce our net income. See "Business of Lincoln Federal
Savings Bank - Lending Activities," and "- Non-Performing and Problem Assets."
Risks Related to Construction Loans
As of June 30, 1998, we had 48 real estate construction loans in our
portfolio in an aggregate amount of $7.7 million, including loans in the
aggregate amount of $3.4 million to builders to acquire and develop residential
real estate projects, $4.0 million for the construction of one- to four-family
residential properties, a substantial portion of which were for the construction
of speculative projects, and $368,000 for the construction of commercial real
estate. Construction lending generally is considered riskier than one- to
four-family residential lending because construction loans may have larger loan
balances and, in the case of loans to developers, may depend upon the successful
completion of the project and the ability of the developer to sell the property.
In addition, risk of loss on a construction loan depends largely upon the
accuracy of the initial estimate of the property's value at completion of
construction or development and the estimated cost (including interest) of
construction. If our appraisal of the value of the completed project proves to
be overstated, we may have inadequate security for the repayment of the loan
upon completion of construction of the project. As of June 30, 1998, we had
$808,000 of non-performing construction loans, all of which were loans for the
acquisition and development of residential real estate projects. We generally
intend to increase the amounts of real estate construction loans in our
portfolio following the Conversion. See "Business of Lincoln Federal Savings
Bank - Non-Performing and Problem Assets."
Geographic Concentration of Loans
All of our real estate mortgage loans are secured by properties located
in Indiana, mostly in Hendricks, Montgomery and Clinton Counties. The economy in
those counties is based on a mixture of agriculture and industry, as well as a
variety of service, wholesale and retail businesses. A weakening in the local
real estate market or in the local or national economy, or a reduction in the
workforce at the manufacturing facilities in our market area could result in an
increase in the number of borrowers who default on their loans and a reduction
in the value of the collateral securing the loans, which could reduce our
earnings.
<PAGE>
Lack of Active Market for Common Stock
Even though we expect that the Common Stock will be listed for
quotation on the Nasdaq National Market System, there can be no guarantee that
an active trading market will develop and be maintained. If an active market
does not develop, you may not be able to sell your shares promptly or perhaps at
all, or sell your shares at a price equal to or above the price you paid for the
shares. The Common Stock may not be appropriate as a short-term investment. See
"Market for the Common Stock."
Decreased Return on Average Equity and Increased Expenses Immediately After
Conversion Which Could Adversely Affect Trading Price of Common Stock
Return on average equity (net income divided by average equity) is a
ratio commonly used to compare the performance of a savings association to its
peers. For the six-month periods ended June 30, 1998 and 1997, our returns on
average equity (on an annualized basis) were 3.81% and 9.52%, respectively. As a
result of the Conversion, our equity will increase substantially and our
expenses will likely increase because of the costs associated with our employee
stock ownership plan ("ESOP"), proposed management recognition and retention
plan ("RRP"), and the costs of being a public company. Initially, we intend to
invest the Conversion proceeds in short-term investments, which generally have
lower yields. Because of the increases in our equity and expenses, our return on
equity is likely to decrease as compared to our performance in previous years. A
lower return on equity could adversely affect the trading price of our shares.
Assuming that the market value of the shares of Common Stock remains at
$10 per share, that 5,300,000 shares of Common Stock are sold in the Conversion
and issued to the Foundation, that an amount of stock equal to 4% of the shares
issued in the Conversion are awarded under the RRP and that 8% of the shares
issued in the Conversion are issued to the ESOP, we would incur expenses in
connection with the RRP in the aggregate amount of $2,120,000 over the 5-year
period following shareholder approval of the RRP. Using these assumptions, we
would also incur expenses in connection with the ESOP in the aggregate amount of
$4,240,000 over the 20-year period commencing upon the effective date of the
Conversion. In each case, the actual expense will depend on the actual number of
awards made under the plans, the number of shares issued in the Conversion and
the actual market value of the Common Stock. These factors cannot be determined
at this time. We also expect to incur additional costs as a public company for
such matters as mailing material to shareholders, holding an annual meeting and
increased legal and accounting fees. We cannot estimate the amount of these
expenses at this time, however. Because we expect the income we earn with the
capital we receive in the Conversion to exceed these increased expenses, we do
not expect that these additional expenses will cause a material decrease in our
annual net income from historical amounts.
Limited Growth Potential and Difficulty in Fully Leveraging Capital
We experience strong competition in our local market area in both
originating loans and attracting deposits, primarily from commercial banks,
thrifts and credit unions. We also face competition from other types of
financial service companies such as mortgage bankers and securities firms. See
"Competition." Management believes that we must grow in the future to leverage
the new capital raised in the Conversion. Due to strong competition in our
market area, we may be able to sustain future growth only at modest levels. As a
result, our ability to leverage quickly the net proceeds from the Conversion is
likely to be quite limited. Accordingly, for the near term, return on equity is
likely to be modest or could even decline from present levels due to the limited
growth prospects discussed above. In addition, we anticipate that the Conversion
proceeds will be invested initially in short- or intermediate-term investment
securities, which generally carry a lower yield than residential mortgage loans.
Any increase in the proportion of our assets consisting of these securities
would adversely affect our asset yield and interest rate spread.
Competition in Primary Market Area
We face strong competition in our primary market area from state and
national banks, state and federal savings associations, credit unions, and
certain nonbanking consumer lenders. We also face competition from mutual funds
and brokerage and investment banking firms operating locally and elsewhere. Many
of these competitors have substantially greater resources than are available to
us and may offer services that we do not or cannot provide. This competitive
environment for both loans and deposits may limit our ability to significantly
increase our market share in our primary market area.
Market for Common Stock
Because our income depends to a large extent upon the spread between
the interest rates we pay for deposits and the interest we earn on our loans,
our stream of earnings relies to a large extent upon overall trends in interest
rates. Due to uncertainty among investors as to interest rate trends and to the
recent volatility in the stock market, as well as to various recent proposals to
overhaul the federal banking statutes, many recent conversions of mutual savings
associations to the stock form of ownership have encountered inconsistent and
unpredictable subscription levels. In addition, the offering of Common Stock may
compete with similar stock offerings by other converting mutual savings
associations, which could reduce demand for the Common Stock. Because of these
uncertainties, there can be no assurance that there will be sufficient demand to
sell the minimum number of shares of Common Stock that we offer in the
Conversion.
Allowance for Loan Losses
We have maintained our allowance for loan losses based upon historical
practice and in accordance with generally accepted accounting principles. We
determine the adequacy of our allowance for loan losses based upon estimates
that are particularly susceptible to significant changes in the economic
environment and changes in market conditions. Thus, a weakening in the local or
national economy would likely require us to increase our allowance for loan
losses to account for the increased likelihood that we would experience losses
from our loan portfolio. At June 30, 1998, our allowance for loan losses was
$1.4 million, or .7% of total loans outstanding, which is near the levels
maintained by our peer group of savings associations. Our ratio of allowances
for loan losses to non-performing assets is 82.3%, however, which is below our
peer group level. Although this discrepancy between us and our peer group is
largely attributable to two non-performing loans in our portfolio, one of which
we recently partially charged-off, this ratio indicates we may be required to
increase our loan loss allowances in the future in light of our level of
non-performing assets. In addition, there can be no assurance that our allowance
for loan losses will be adequate in the event of a protracted economic decline
in our market area or that banking regulators, when reviewing our loan portfolio
in the future, will not require us to increase our allowance for loan losses. In
either event, any future increase in our allowance for loan losses would
adversely affect earnings.
Dependence on New Management
Our successful operations depend to a considerable degree upon our new
management, including T. Tim Unger, who became our President and Chief Executive
Officer in January, 1996, and John M. Baer, who became our Chief Financial
Officer in June, 1997. We have established several other key positions in the
past two years which have been filled by persons hired from outside Lincoln
Federal. These positions include our Accounting Supervisor, Branch Coordinator,
Loan Customer Service Supervisor, Secondary Marketing Manager, Compliance
Officer, Marketing Director and Auditor. In addition, we are currently in the
process of seeking to hire a Vice President to oversee our lending function. We
believe that the addition of these key personnel will allow us to provide
quality service to our customers in the future and will address concerns raised
by regulators regarding inadequate staffing levels in light of our growth over
the past several years. There can be no assurance, however, that our new
management will be successful in operating Lincoln Federal or that staffing
levels will be adequate once all of these positions are filled.
We have entered into a three-year employment agreement with Mr. Unger,
who is 58 years of age. The employment agreement requires certain payments to
Mr. Unger if he is terminated without "just cause" by us or by an entity that
acquires us, or if Mr. Unger terminates the employment agreement "for cause."
The loss of Mr. Unger's services could adversely affect us. While the board of
directors is seeking to attract and retain additional management either as a
successor or supplement to Mr. Unger, there is no assurance that such
individuals will be attracted or retained. If such individuals are retained,
their participation in our management could result in changes to our operating
strategy which could affect our profitability. We do not carry key-man insurance
on Mr. Unger. See "Management of Lincoln Federal Savings Bank" and "Executive
Compensation and Related Transactions of Lincoln Federal- Employment Contract."
Anti-Takeover Provisions and Statutory Provisions That Could Discourage Hostile
Acquisitions of Control
Provisions in the Holding Company's articles of incorporation and
bylaws, the corporation law of the state of Indiana, and certain federal
regulations may make it difficult and expensive to pursue a tender offer, change
in control or takeover attempt which our management opposes. As a result,
shareholders who might desire to participate in such a transaction may not have
an opportunity to do so. Such provisions will also render the removal of the
current board of directors or management of the Holding Company, or the
appointment of new directors to the Board, more difficult. For example, the
Holding Company's Bylaws provide that directors must be residents of Hendricks,
Montgomery or Clinton County, Indiana, must have maintained a deposit or loan
relationship with us for at least nine months and, with respect to a
non-employee director, must have served as a member of a civic or community
organization in Hendricks, Montgomery or Clinton County for at least 12 months
in the five-year period prior to being nominated to the Board (or in the case of
existing directors, prior to September 10, 1998). The Holding Company's Board
may waive one or more of these requirements for new directors appointed in
connection with the acquisition of another financial institution or the
acquisition or opening of a new branch. Further restrictions include:
restrictions on the acquisition of the Holding Company's equity securities and
limitations on voting rights; the classification of the terms of the members of
the board of directors; certain provisions relating to meetings of shareholders;
denial of cumulative voting by shareholders in the election of directors; the
issuance of preferred stock and additional shares of Common Stock without
shareholder approval; and super majority provisions for the approval of certain
business combinations. These provisions may adversely affect the trading price
of our stock. See "Restrictions on Acquisition of the Holding Company."
Potential Impact of Changes in Interest Rates and the Current Interest Rate
Environment
Our ability to make a profit, like that of most financial institutions,
substantially depends upon our net interest income, which is the difference
between the interest income we earn on our interest-earning assets (such as
mortgage loans) and the interest expense we pay on our interest-bearing
liabilities (such as deposits). As of June 30, 1998, approximately 63.2% of our
mortgage loans have rates of interest which are fixed for the term of the loan
("fixed rate") and which we generally originate with terms of up to 30 years,
while deposit accounts have significantly shorter terms to maturity. Because our
interest-earning assets generally had fixed rates of interest and longer
effective maturities than our interest-bearing liabilities, the yield on our
interest-earning assets generally will adjust more slowly to changes in interest
rates than the cost of our interest-bearing liabilities. As a result, our net
interest income will be adversely affected by material and prolonged increases
in interest rates. In addition, rising interest rates may adversely affect our
earnings because there might be a lack of customer demand for loans. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations of Lincoln Federal Savings Bank and Subsidiary - Asset/Liability
Management."
Changes in interest rates also can affect the average life of loans and
mortgage-backed securities. Historically lower interest rates in recent periods
have resulted in increased prepayments of loans and mortgage-backed securities
as borrowers refinanced their mortgages in order to reduce their borrowing cost.
Under these circumstances, we are subject to reinvestment risk to the extent
that we are not able to reinvest such prepayments at rates which are comparable
to the rates on the prepaid loans or securities.
Possible Voting Control by Directors and Officers
Our directors and executive officers intend to subscribe for 360,000
shares of Common Stock which, at the midpoint of the Estimated Valuation Range,
would constitute 6.8% of the outstanding shares (including the shares to be
issued to the Foundation). When aggregated with the shares of Common Stock our
executive officers and directors expect to acquire through the Stock Option Plan
and RRP, subject to shareholder approval, at the first shareholder meeting
following the Conversion, our executive officers and directors would own
approximately 990,700 shares of Common Stock, or 17.2% of the outstanding shares
at the midpoint of the Estimated Valuation Range (including the shares to be
issued to the Foundation and assuming that shares issued pursuant to the RRP are
acquired on the open market and shares issued pursuant to the Stock Option Plan
are issued from authorized but unissued shares). This ownership of Common Stock
by our management could make it difficult to obtain majority support for
shareholder proposals which are opposed by management. See "Proposed Purchases
by Directors and Executive Officers," "Executive Compensation and Related
Transactions of Lincoln Federal," "Description of Capital Stock," "Restrictions
on Acquisition of the Holding Company," and "Lincoln Federal Charitable
Foundation, Inc. - Potential Anti-Takeover Effect."
Possible Dilutive Effect of RRP and Stock Options
If the Conversion is completed and shareholders approve the RRP and
Stock Option Plan, we intend to issue shares to our officers and directors
through these plans. If the shares for the RRP are issued from our authorized
but unissued stock, your voting control could be diluted by up to approximately
3.9% at the midpoint of the Estimated Valuation Range. If the shares for the
Stock Option Plan are issued from our authorized but unissued stock, your voting
control could be diluted by up to approximately 9.1% at the midpoint of the
Estimated Valuation Range. In either case, the trading price of our Common Stock
may be reduced. See "Pro Forma Data" and "Executive Compensation and Related
Transactions of Lincoln Federal."
Financial Institution Regulation and Future of the Thrift Industry
We are subject to extensive regulation, supervision, and examination by
the Office of Thrift Supervision ("OTS") and the Federal Deposit Insurance
Corporation (the "FDIC"). Several bills have been introduced in the Congress
that would consolidate the OTS with the Office of the Comptroller of the
Currency. If a version of one of these bills is approved, we may be required to
become a state or national commercial bank and become subject to regulation by a
different government agency. As a result of these bills, our investment
authority and the ability of the Holding Company to engage in diversified
activities may be limited or prohibited, which could affect our profitability.
It is impossible at this time to predict the impact of any such legislation on
our operations. See "Regulation."
Impact of Proposed Legislation on Holding Company Activities
Current law generally does not impose any restrictions on the
permissible business activities of a unitary savings and loan holding company.
See "Regulation - Savings and Loan Holding Company Regulation." The U.S. House
of Representatives recently approved a bill (H.R. 10) which includes a provision
that would generally prohibit a company that filed a holding company application
with the OTS after March 31, 1998 from engaging in diversified business
activities. If this provision were to become law, the Holding Company would not
be regulated as a unitary savings and loan holding company but, rather, would be
subject to the activities restrictions that apply to savings and loan holding
companies that control more than one savings association. Such restrictions, if
enacted, could adversely affect our ability to enter into new lines of business,
although we have no current intentions to do so.
Restrictions on Repurchase of Shares
During the first year following the Conversion, the Holding Company may
not generally repurchase its shares except in unusual circumstances as permitted
by the OTS. During each of the second and third years following the Conversion,
the Holding Company may repurchase up to 5% of its outstanding shares. During
those periods, if we decide that repurchases above those limits would be a good
use of funds, we would not be able to do so, without obtaining OTS approval.
There is no assurance that OTS approval would be given. See "The Conversion -
Restrictions on Repurchase of Stock by the Holding Company."
Risk of Delayed Offering
Although we expect to complete the Conversion within the time periods
indicated in this Prospectus, it is possible that adverse market, economic or
other factors could significantly delay the completion of the Conversion, which
could significantly increase our Conversion costs. In this case, however, you
would have the right to modify or rescind your subscription and to have your
subscription funds returned to you promptly, with interest. In the event that
the Conversion is not completed, we will remain a mutual savings bank, and all
subscription funds will be promptly returned to subscribers, with interest. See
"The Conversion."
Income Tax Consequences of Subscription Rights
If the Internal Revenue Service were to determine that the subscription
rights offered to you in connection with the Conversion have an ascertainable
value, your exercise of your subscription rights could result in the recognition
of taxable income. In the opinion of Keller & Company, Inc. ("Keller"), however,
the subscription rights do not have an ascertainable fair market value. See "The
Conversion - Principal Effects of Conversion - Tax Effects."
Year 2000 Compliance
As the year 2000 approaches, concerns have been raised that existing
computer software programs and operating systems may not be able to process data
containing dates after December 31, 1999. Many existing software products were
designed to accommodate only a two digit year (e.g., 1998 is reflected as "98").
Our operating, processing and accounting operations are maintained on computers
and could be affected by Year 2000 issues. We also rely on third-party vendors
for data processing. We are currently working with our third-party vendors to
assess their Year 2000 readiness. While no assurance can be given that our
third-party vendors will be Year 2000 compliant, we have been advised that our
vendors are taking appropriate steps to address the issues on a timely basis.
Based on certain preliminary estimates, we believe that our expenses related to
upgrading our systems and software for Year 2000 issues will not exceed
$300,000. We also believe that our testing for Year 2000 compliance should be
completed by the second quarter of 1999. While we currently have no reason to
believe that the cost of addressing these issues will materially affect our
products, services or our ability to compete effectively, no assurance can be
made that we or our third-party vendors will successfully and timely become Year
2000 compliant. We do not believe, however, that the cost of addressing Year
2000 issues presents a material event or uncertainty reasonably likely to affect
our future financial results.
Establishment of the Foundation
Consistent with our commitment to the communities we serve, the Plan of
Conversion provides for the establishment of Lincoln Federal Charitable
Foundation, Inc. (the "Foundation"), which has been incorporated under Indiana
law as a nonprofit corporation without members. The Foundation will provide
grants and donations to support not-for-profit community groups and other types
of organizations or projects in our local community. We expect that these
activities by the Foundation will enhance our visibility and reputation in the
communities we serve and will enhance the long-term value of our community
banking franchise. Immediately following the Conversion, we intend to fund the
Foundation with 200,000 authorized but unissued shares of Common Stock. We will
be unable to recover these shares of Common Stock once they have been
contributed to the Foundation. We have received an opinion of our special
counsel, Barnes & Thornburg, Indianapolis, Indiana ("Barnes & Thornburg") that
the Holding Company may deduct this contribution of Common Stock to the
Foundation from its income. We have also received confirmation from the Internal
Revenue Service (the "IRS") that the Foundation qualifies as an exempt
organization under section 501(c)(3) of the Internal Revenue Code of 1986, as
amended (the "Code"). There can be no assurance, however, that in the event a
challenge is made to the establishment of the Foundation in connection with the
Conversion, such a challenge would not be successful or would not cause a delay
in the consummation of the Conversion.
Assuming the sale of shares at the midpoint of the Estimated Valuation
Range and the issuance of shares to the Foundation, the Holding Company will
have 5,300,000 shares issued and outstanding, of which the Foundation will own
200,000 shares, or 3.8%. The issuance of additional shares of Common Stock to
the Foundation will dilute the value of any shares of Common Stock that you
purchase in the Conversion by 3.8% and will adversely affect the reported
earnings of the Holding Company in 1998, the year in which we expect the
Foundation will be established. In addition, under certain circumstances the
establishment of the Foundation may have an anti-takeover effect. See "Lincoln
Federal Charitable Foundation, Inc.," "Pro Forma Data" and "The Conversion -
Establishment of the Foundation."
PROPOSED PURCHASES BY DIRECTORS AND EXECUTIVE OFFICERS
The following table sets forth the intended purchases of Common Stock
by each director and executive officer of Lincoln Federal and their Associates
in the Conversion. All directors and executive officers will pay the same
Purchase Price as all subscribers and will be subject to the same terms and
conditions. In addition, directors and executive officers may not re-sell the
shares of Common Stock that they purchase in the Conversion for at least one
year from the date of the Conversion. All shares will be purchased for
investment purposes and not for purposes of resale. The table assumes that
5,100,000 shares (the midpoint of the Estimated Value Range) of the Common Stock
will be sold at $10.00 per share, 200,000 shares will be issued to the
Foundation and that sufficient shares will be available to satisfy
subscriptions.
<TABLE>
<CAPTION>
Aggregate Total
Price of Shares Proposed
Intended to be Subscribed Percent
Name Position Purchases For (1) of Shares (2)
- ---- -------- --------- ------- -------------
<S> <C> <C> <C>
Lester N. Bergum Director $ 200,000 20,000 .38%
W. Thomas Harmon Director 500,000 50,000 .94
Jerry R. Holifield Director 200,000 20,000 .38
Wayne E. Kessler Director 100,000 10,000 .19
David E. Mansfield Director 200,000 20,000 .38
John C. Milholland Director 500,000 50,000 .94
T. Tim Unger Director, President and
Chief Executive Officer 500,000 50,000 .94
Edward E. Whalen Chairman 300,000 30,000 .57
John L. Wyatt Director 300,000 30,000 .57
Frank A. Beardsley Emeritus Director 300,000 30,000 .57
Charles Jones Emeritus Director 250,000 25,000 .47
All Other Executive
Officers 250,000 25,000 .47
---------- ------- ----
All Directors and
Executive Officers
as a group (12 persons)(3) $3,600,000 360,000 6.79%
========== ======= ====
</TABLE>
(1) Does not include shares subject to stock options which may be granted
under the Stock Option Plan, or shares which may be awarded under the
RRP.
(2) Based upon the midpoint of the Estimated Valuation Range of 5,100,000
shares, plus the 200,000 shares expected to be issued to the
Foundation.
(3) Assuming that all shares awarded under the RRP are purchased on the
open market and all shares subject to stock options are issued from
authorized but unissued shares, and upon (i) the full vesting of the
restricted stock awards to directors and executive officers
contemplated under the RRP and (ii) the exercise in full of all options
expected to be granted to directors and executive officers under the
Stock Option Plan, all directors and executive officers as a group
would beneficially own 896,095 shares (18.3%), 990,700 shares (17.2%),
1,085,305 shares (16.4%), and 1,194,101 shares (15.7%) upon sales at
the minimum, midpoint, maximum, and 15% above the maximum of the
Estimated Valuation Range, respectively. These percentages take into
account shares expected to be issued to the Foundation. See "Executive
Compensation and Related Transactions of Lincoln Federal - RRP" and "-
Stock Option Plan."
LINCOLN BANCORP
The Holding Company was formed in September, 1998 as an Indiana
corporation to be the holding company for Lincoln Federal. The Holding Company
has not engaged in any significant business to date and, for that reason, its
financial statements are not included herein. Prior to the closing of the
Conversion, the Holding Company must receive approval from the OTS to become a
savings and loan holding company through the acquisition of all of the capital
stock of Lincoln Federal to be issued upon completion of the Conversion.
Although such approval has not yet been received from the OTS, the Holding
Company has no reason to believe such approval will not be provided before the
end of 1998.
The Holding Company will initially receive 50% of the net Conversion
proceeds after payment of expenses incurred in connection with the Conversion.
Under current law, the holding company structure will provide the Holding
Company with greater flexibility than Lincoln Federal to diversify its business
activities, either through newly-formed subsidiaries or through acquisitions.
The Holding Company has no present plans regarding diversification, acquisitions
or expansion, however. The Holding Company initially will not conduct any active
business and does not intend to employ any persons other than its officers,
although it may utilize Lincoln Federal's support staff from time to time.
The office of the Holding Company is located at 1121 East Main Street,
P.O. Box 510, Plainfield, Indiana, 46168. The telephone number is (317)
839-6539.
LINCOLN FEDERAL SAVINGS BANK
We have operated for more than 110 years as an independent,
community-oriented savings association. We were originally organized in 1884 as
Ladoga Federal Savings and Loan Association, located in Ladoga, Indiana. In 1979
we merged with Plainfield First Federal Savings and Loan Association, a federal
savings and loan association located in Plainfield, Indiana which was originally
organized in 1896. Following the merger, we changed our name to Lincoln Federal
Savings and Loan Association and, in 1984, we changed our name to its current
form, Lincoln Federal Savings Bank. We currently conduct our business from four
full-service offices located in Hendricks, Montgomery and Clinton Counties,
Indiana, with our main office located in Plainfield. We expect to open a new
office in Avon, Indiana in January, 1999. We offer a variety of lending, deposit
and other financial services to our retail and commercial customers.
We attract deposits from the general public and originate mortgage
loans, most of which are secured by one- to four-family residential real
property in Hendricks, Montgomery and Clinton Counties. We also offer commercial
real estate loans, real estate construction loans, land loans, multi-family
residential loans, consumer loans (including home equity loans and automobile
loans) and commercial loans. We derive most of our funds for lending from
deposits of our customers, which consist primarily of certificates of deposit,
demand accounts and savings accounts.
We have attained our strong capital position by focusing primarily on
one- to four-family residential real estate mortgage lending in Hendricks,
Montgomery and Clinton Counties, Indiana and, to a limited extent, in other
nearby counties. At June 30, 1998, we had total assets of $304.5 million,
deposits of $211.2 million and equity capital of $42.8 million, or 14.1% of
assets. For the fiscal year ended December 31, 1997, we had net income of $3.5
million, a return on assets of 1.0% and a return on equity of 8.7%, and for the
six-month period ended June 30, 1998, we had net income of $817,000, a return on
assets of .5% and a return on equity of 3.8%, on an annualized basis.
MARKET AREA
Our primary market area is Hendricks, Montgomery and Clinton Counties,
Indiana. Our main office is located in Plainfield, which is located in Hendricks
County in central Indiana, approximately 15 miles west of Indianapolis. We also
have offices in Crawfordsville, the county seat of Montgomery County, which is
approximately 45 miles west of Indianapolis, in Frankfort, the county seat of
Clinton County, located approximately 50 miles northwest of Indianapolis, and in
Brownsburg, which is approximately 20 miles west of Indianapolis. In January,
1999, we intend to open our newest office in Avon, which is approximately 20
miles west of Indianapolis. Most of our deposits and lending activities come
from individuals residing in, and entities located in our three-county market
area.
Hendricks, Montgomery and Clinton counties had a combined population of
162,000 in 1997, representing growth of 15% from the 1990 population of 141,000.
The per capital income for those counties was $20,000 in 1997, compared to a per
capita income for all of Indiana of $17,700 and for the United States of
$18,100. The combined unemployment rate in the three counties was 2.4% in 1997,
compared to an unemployment rate in Indiana of 3.5% and a national unemployment
rate of 4.9%. The primary industries in our primary market area include
agriculture, manufacturing and services.
LINCOLN FEDERAL CHARITABLE FOUNDATION, INC.
Pursuant to the Plan, the Holding Company intends to establish a
charitable foundation in connection with the Conversion. The Plan provides that
Lincoln Federal and the Holding Company will establish the Foundation, which was
incorporated under Indiana law as a nonprofit corporation without members in
June, 1998, and which will be funded with shares of Common Stock contributed by
the Holding Company. The contribution of Common Stock to the Foundation will
dilute the interests of shareholders and will have an adverse impact on the
reported earnings of the Holding Company in 1998, the year in which we
anticipate the Foundation will be established.
Dilution of Shareholders' Interests. The Holding Company proposes to
fund the Foundation with 200,000 shares of Common Stock. Assuming the sale of
Common Stock at the midpoint of the Estimated Valuation Range, upon completion
of the Conversion and establishment of the Foundation, the Holding Company will
have 5,300,000 shares issued and outstanding of which the Foundation will own
200,000 shares of Common Stock, or 3.8%. Using these assumptions, persons
purchasing shares of Common Stock in the Conversion would have their ownership
and voting interests in the Holding Company diluted by 3.8%. See "Pro Forma
Data."
Impact on Earnings. The Holding Company will recognize as an expense
the full amount of its contribution of Common Stock to the Foundation during the
quarter in which the contribution is made. As a result, the Holding Company's
contribution of Common Stock to the Foundation will have an adverse impact on
its earnings for the quarter and the year in which the contribution is made. We
currently expect that the Holding Company will contribute 200,000 shares of
Common Stock to the Foundation in the fourth quarter of 1998. This $2.0 million
expense will be partially offset by the tax benefit related to the expense.
We have been advised by Barnes & Thornburg that the contribution to the
Foundation will be tax deductible, subject to an annual limitation based on 10%
of the Holding Company's annual taxable income. Assuming a contribution of $2.0
million in Common Stock, the Holding Company estimates a net tax effected
expense of $1.3 million (based on a 34% marginal tax rate). Management expects
that the establishment and funding of the Foundation will have an adverse impact
on the Holding Company's earnings for that year. In light of the expected
contribution of Common Stock to the Foundation, we expect that the direct
charitable contributions that we make in the future will be restricted to
nominal, tax-deductible donations to local charitable organizations. In
addition, we do not currently anticipate making additional contributions to the
Foundation within the first five years following the initial contribution.
<PAGE>
Tax Considerations. We have been advised by Barnes & Thornburg that an
organization created for the above-described purposes would qualify as a Section
501(c)(3) exempt organization under the Code, and would be classified as a
private foundation. We have received confirmation from the IRS that the
Foundation will be recognized as an exempt organization. The Foundation has
received a determination letter from the Internal Revenue Service that it
qualifies as a Section 501(c)(3) exempt organization under the Code.
Barnes & Thornburg's opinion further provides that the Holding
Company's contribution of its own stock to the Foundation would not constitute
an act of self-dealing, and that the Holding Company would be entitled to a
deduction in the amount of the fair market value of the Common Stock at the time
of the contribution, subject to an annual limitation based on 10% of the Holding
Company's annual taxable income. The Holding Company, however, would be able to
carry forward any unused portion of the deduction for five years following the
contribution. Thus, the Holding Company expects to receive a tax benefit of
approximately $680,000 in 1998 and/or over the subsequent five-year period based
upon a contribution of $2.0 million of Common Stock to the Foundation.
Assuming the sale of Common Stock at the maximum of the Estimated
Valuation Range, the Holding Company estimates that for federal income tax
purposes, all of the deduction should be deductible over the six-year period.
Although we have received the opinion of Barnes & Thornburg that the Holding
Company will be entitled to the deduction of the charitable contribution, there
can be no assurances that the IRS will permit such a deduction. In such event,
the Holding Company's tax benefit related to the contribution of Common Stock to
the Foundation would have to be fully expensed, resulting in further reduction
in earnings in the year in which the IRS makes such a determination.
Comparison of Valuation and Other Factors Assuming the Foundation is
Not Established as Part of the Conversion. In making its independent appraisal
of the estimated pro forma market value of the Common Stock, Keller took into
account the establishment of the Foundation. The pro forma aggregate price of
the Common Stock being offered for sale in the Conversion, assuming the issuance
of 200,000 shares to the Foundation, is currently estimated to be between $43.1
million and $59.0 million, subject to increase to $68.1 million, with a midpoint
of $51 million. The pro forma price to book ratio and the pro forma price to
annualized earnings ratio, at and for the six months ended June 30, 1998, are
61.1% and 16.1x, respectively, at the midpoint of the Estimated Valuation Range.
In the event that the Foundation were not included in the Conversion,
Keller has estimated that the pro forma market value of the Common Stock would
be $55 million at the midpoint of the Estimated Valuation Range based on a pro
forma price to book ratio and the pro forma price to earnings ratio at 61.2% and
16.1x, respectively. Based upon this estimate, the $2,000,000 of Common Stock to
be contributed to the Foundation would reduce the amount of Common Stock to be
offered in the Conversion by 370,000 shares (or $3,700,000), 400,000 shares (or
$4,000,000), 430,000 shares (or $4,300,000) or 464,500 shares (or $4,645,000) at
the minimum, midpoint, maximum and 15% above the maximum of the Estimated
Valuation Range, respectively, from the amount of Common Stock that would be
offered in the Conversion without the Foundation. Accordingly, certain of our
account holders who subscribe to purchase Common Stock in the Subscription
Offering would receive fewer shares depending on the size of the depositor's
stock order and the amount of his or her qualifying deposits with us and the
overall level of subscriptions. See "Comparison of Valuation and Pro Forma
Information with No Foundation" and "Pro Forma Data." This estimate by Keller
was prepared solely for purposes of providing Eligible Account Holders and
subscribers with information with which to make an informed decision on the
Conversion.
The decrease in the amount of Common Stock being offered as a result of the
issuance of Common Stock to the Foundation will not significantly affect our
capital position. Our regulatory capital currently exceeds applicable
requirements and will further exceed such requirements following the Conversion.
Our tangible, core and risk-based capital ratios at June 30, 1998 would be
19.0%, 19.0% and 34.5%, respectively, and our pro forma net income for the six
months ended June 30, 1998, would be $1.5 million at the midpoint of the
Estimated Valuation Range, taking into account the proceeds from the Conversion.
On a consolidated basis, the Holding Company's pro forma book value at June 30,
1998 would be $86.8 million, or approximately 24.9% of pro forma consolidated
assets, assuming the sale of shares at the midpoint of the Estimated Valuation
Range. Pro forma book value per share and pro forma net income per share for the
six months ended June 30, 1998, would be $16.38 and $.31, respectively. If the
Foundation were not established in the Conversion, based on the Keller estimate,
the Holding Company's pro forma book value would be approximately $89.9 million,
or approximately 25.6% of pro forma consolidated assets at the midpoint of the
Estimated Valuation Range, and pro forma net income would be $1.6 million. Pro
forma book value per share and pro forma net income per share would be
substantially similar with or without the establishment of the Foundation. See
"Comparison of Valuation and Pro Forma Information with No Foundation."
Potential Anti-Takeover Effect. Upon completion of the Conversion, the
Foundation will own 3.8% of the total shares of the Common Stock outstanding,
based upon the midpoint of the Estimated Valuation Range. We anticipate that the
OTS will require, as a condition to its approval of the Conversion, that the
shares of Common Stock held by the Foundation be voted in the same ratio as all
other shares of the Common Stock on all proposals considered by the shareholders
of the Holding Company. Because of this condition, we do not believe the
Foundation will have an anti-takeover effect on the Holding Company. However, in
the event that the OTS were to waive this voting restriction, the Foundation's
Board of Directors would exercise sole voting power over the shares of Common
Stock held by the Foundation and would no longer be subject to the restriction.
See "The Conversion-Establishment of the Foundation-Regulatory Conditions
Imposed on the Foundation."
As the Foundation's Board of Directors will initially consist of three
members of our Board of Directors, if the OTS were to waive this voting
restriction (although we do not currently anticipate that we will seek such a
waiver), our management may benefit to the extent that the Board of Directors of
the Foundation determines to vote the shares of Common Stock held by the
Foundation in favor of proposals supported by our management. In that case,
assuming the sale of shares at the midpoint of the Estimated Valuation Range,
the shares held by the Foundation, when aggregated with shares purchased
directly by our officers and directors, shares expected to be held by the RRP
and by the ESOP, and shares subject to stock options assumed to be fully
exercised by our directors and officers, would exceed 20% of the outstanding
Common Stock, which could enable management to defeat shareholder proposals
requiring 80% approval.
This potential voting control by management may preclude takeover
attempts that certain shareholders deem to be in their best interest and may
tend to perpetuate management. However, since the ESOP shares are allocated to
all of our eligible employees, and any unallocated shares will be voted by the
Trustee in the same proportions as allocated shares are voted, and because the
RRP and the Stock Option Plan must first be approved by shareholders no sooner
than six months following completion of the Conversion, management of the
Holding Company does not expect to have voting control of all shares covered by
the ESOP and other stock-based benefit plans. See "Executive Compensation and
Related Transactions of Lincoln Federal." Moreover, as the Foundation sells its
shares of Common Stock over time, its ownership interest and voting power in the
Holding Company is expected to decrease.
Potential Challenges. To date, there has been limited precedent with
respect to the establishment and funding of a charitable foundation as part of a
conversion of a mutual savings association to stock form. As such, the
Foundation and the OTS's non-objection to the Conversion may be subject to
potential challenges notwithstanding that the Boards of Directors of Lincoln
Federal and the Holding Company have carefully considered the various factors
involved in the establishment of the Foundation in reaching their determination
to establish the Foundation as part of the Conversion. See "The
Conversion-Establishment of the Foundation-Purpose of the Foundation." If
challenges were to be instituted seeking to require us to eliminate
establishment of the Foundation in connection with the Conversion, no assurances
can be made that the resolution of such challenges would not result in a delay
in the consummation of the Conversion or that any objecting persons would not be
ultimately successful in obtaining such removal or other relief against Lincoln
Federal and the Holding Company. In addition, if we are forced to eliminate the
Foundation, the Holding Company may be required to resolicit subscribers in the
offering of Common Stock.
Approval of Members. Establishment of the Foundation is subject to the
approval of a majority of the total outstanding votes of our members eligible to
be cast at the Special Meeting. The Foundation will be considered as a separate
matter from approval of the Plan of Conversion. If our members approve the Plan
of Conversion, but not the establishment of the Foundation, we intend to
complete the Conversion without the establishment of the Foundation. Failure to
approve the Foundation may materially increase the pro forma market value of the
Common Stock being offered for sale in the Offering since the Estimated
Valuation Range, as set forth herein, takes into account the proposed
contribution to the Foundation. If the pro forma market value of the Holding
Company without the Foundation is either greater than $68.1 million or less than
$43.1 million, or if the OTS otherwise requires a resolicitation of subscribers,
we will establish a new Estimated Valuation Range and commence a resolicitation
of subscribers (i.e., subscribers will be permitted to continue their orders, in
which case they will need to affirmatively reconfirm their subscriptions prior
to the expiration of the resolicitation offering or their subscription funds
will be promptly refunded with interest.) Any change in the Estimated Valuation
Range must be approved by the OTS. See "The Conversion - Stock Pricing" and "-
Number of Shares to be Issued."
USE OF PROCEEDS
The Holding Company will retain 50% of the net proceeds from the
offering, after payment of expenses incurred in connection with the Conversion,
and will use the balance of the proceeds to purchase all of the capital stock
issued by Lincoln Federal in connection with the Conversion. A portion of the
net proceeds to be retained by the Holding Company will be loaned to our ESOP to
fund its purchase of 8% of the shares of the Holding Company sold in the
Conversion and issued to the Foundation. On a short-term basis, the balance of
the net proceeds retained by the Holding Company initially may be invested in
cash and short-term investments. The Holding Company may also use the proceeds
as a source of funds to acquire one or more other financial institutions, to
acquire assets from other financial institutions, to pay dividends, if any, to
shareholders or to repurchase shares of Common Stock. The Holding Company does
not, however, have any present plans, negotiations or agreements to acquire
another financial institution or to acquire assets from another financial
institution. Neither Lincoln Federal nor the Holding Company will take any
action to further the payment of a return of capital dividend for one year
following the Conversion. In the event the Foundation is approved by our
members, the Holding Company proposes to fund the Foundation with 200,000 shares
of the Holding Company's Common Stock.
Lincoln Federal intends to use a portion of the net proceeds that it
receives from the Holding Company to support its lending activities and possibly
to acquire loan participations from other financial institutions. Lincoln
Federal may also use a portion of the net proceeds to fund the purchase of up to
4% of the shares for the RRP which we anticipate will be adopted by our Board
following the Conversion, subject to shareholder approval, and to repay
approximately $17.0 million in FHLB advances that mature in December, 1998. We
anticipate that the balance of the proceeds may be used to purchase
mortgage-backed securities in the secondary market or loan participations from
other financial institutions. On an interim basis, we may use some of the net
proceeds to invest in short- or intermediate-term U.S. government securities and
other federal agency securities. See "Business of Lincoln Federal Savings Bank -
Investments."
The following table shows estimated gross and net proceeds based upon
shares of Common Stock being sold in the Conversion at the minimum, midpoint,
maximum and 15% above the maximum of the Estimated Valuation Range.
<TABLE>
<CAPTION>
15% Above
Minimum, Midpoint, Maximum, Maximum,
4,305,000 5,100,000 5,895,000 6,809,250
Shares Shares Shares Shares
Sold at Price Sold at Price Sold at Price Sold at Price
of $10.00 of $10.00 of $10.00 of $10.00(2)
---------------------------------------------------------------------------
(in thousands)
<S> <C> <C> <C> <C>
Gross Proceeds.......................... $43,050 $51,000 $58,950 $68,093
Less:
Estimated Underwriting Commissions
and Other Expenses(1) (2)............ 1,208 1,283 1,359 1,445
------- ------- ------- -------
Estimated net Conversion
proceeds(1).......................... 41,842 49,717 57,591 66,648
Purchase by Holding Company of
100% of Capital Stock of
Lincoln Federal...................... 20,921 24,859 28,796 33,324
------- ------- ------- -------
Net proceeds retained by
Holding Company...................... $20,921 $24,858 $28,795 $33,324
======= ======= ======= =======
</TABLE>
(1) In calculating estimated net Conversion proceeds, it has been assumed that
no sales will be made through selected dealers, that all shares are sold in
the Subscription Offering, that 70% of the shares of Common Stock are
acquired by residents of Indiana and 30% are acquired by residents of other
states, that executive officers and directors of Lincoln Federal and their
Associates purchase 360,000 shares of Common Stock, that the ESOP acquires
8% of the shares of Common Stock sold in the Conversion and issued to the
Foundation, and that 200,000 shares of Common Stock are issued to the
Foundation.
(2) As adjusted to give effect to an increase in the number of shares which
could occur due to an increase in the Estimated Valuation Range of up to
15% to reflect changes in market and financial conditions following the
commencement of the Subscription Offering and the Community Offering, if
any.
The actual net proceeds may differ from the estimated net proceeds
calculated above for various reasons, including variances in the actual amount
of legal and accounting expenses incurred in connection with the Conversion,
commissions paid for sales made through other dealers, and the actual number of
shares of Common Stock sold in the Conversion. Any variance in the actual net
proceeds from the estimates provided in the table above is not expected to be
material.
DIVIDENDS
Although the Holding Company has not established a dividend policy, the
Holding Company's management intends to implement a policy regarding the payment
of cash dividends on the Common Stock following the Conversion. Dividends, when
and if paid, will be subject to determination and declaration by the Board of
Directors in its discretion, which will take into account the Holding Company's
consolidated financial condition and results of operations, tax considerations,
industry standards, economic conditions, capital levels, regulatory restrictions
on dividend payments by us to the Holding Company, general business practices
and other factors. In addition, from time to time in an effort to manage capital
at a desirable level, the board may determine to pay special cash dividends.
Special cash dividends may be paid in addition to, or in lieu of, regular cash
dividends. Neither Lincoln Federal nor the Holding Company will take any action
to further the payment of a return of capital dividend for one year following
the Conversion. In any event, there can be no assurance that regular or special
dividends will be paid, or, if paid, will continue to be paid. See "Regulation -
Savings Association Regulatory Capital" and "- Dividend Limitations."
The Holding Company is not subject to OTS regulatory restrictions on
the payment of dividends to its shareholders although the source of such
dividends depend in part upon the receipt of dividends from Lincoln Federal. The
Holding Company is subject, however, to the requirements of Indiana law, which
generally limit the payment of dividends to amounts that will not affect the
ability of the Holding Company, after the dividend has been distributed, to pay
its debts in the ordinary course of business and that will not exceed the
difference between the Holding Company's total assets and total liabilities plus
preferential amounts payable to shareholders with rights superior to those of
the holders of Common Stock.
In addition to the foregoing, the portion of Lincoln Federal's earnings
which has been appropriated for bad debt reserves and deducted for federal
income tax purposes cannot be used to pay cash dividends to the Holding Company
without the payment of federal income taxes by Lincoln Federal at the then
current income tax rate on the amount deemed distributed, which would include
the amount of any federal income taxes attributable to the distribution. See
"Taxation - Federal Taxation" and the Notes to the Consolidated Financial
Statements at page F-9. The Holding Company does not contemplate any
distribution by us that would result in a recapture of our bad debt reserve or
otherwise create federal tax liabilities.
MARKET FOR THE COMMON STOCK
The Holding Company has never issued Common Stock to the public.
Consequently, there is no established market for the Common Stock. The Holding
Company has received conditional approval to have the Common Stock listed for
quotation on the Nasdaq National Market System under the symbol "LNCB" upon the
successful closing of the offering, subject to certain conditions which we
believe will be met. We have been advised that Keefe, Bruyette and Woods, Inc.
("Keefe, Bruyette") intends to act as a market maker for the Common Stock. In
order for the Common Stock to be traded on the Nasdaq National Market System,
there must be at least three market makers for the Common Stock. We anticipate
that we will be able to secure two other market makers to enable the stock to be
listed for quotation on the Nasdaq National Market System.
The existence of a public trading market will depend upon the presence
in the market of both willing buyers and willing sellers at any given time. The
presence of a sufficient number of buyers and sellers at any given time is a
factor over which neither the Holding Company nor any broker or dealer has
control. Although the shares issued in the Conversion are expected to be traded
on the Nasdaq National Market System, there can be no guarantee that an active
or liquid trading market for the Common Stock will be developed and be
maintained. Further, the absence of an active and liquid trading market may make
it difficult to sell the Common Stock and may have an adverse effect on the
price of the Common Stock. Purchasers should consider the potentially illiquid
and long-term nature of their investment in the shares offered hereby.
The aggregate price of the Common Stock is based upon an independent
appraisal of the pro forma market value of the Common Stock. However, there can
be no assurance that an investor will be able to sell the Common Stock purchased
in the Conversion at or above the Purchase Price.
COMPETITION
We originate most of our loans to and accept most of our deposits from
residents of Hendricks, Montgomery and Clinton Counties, Indiana. We are subject
to competition from various financial institutions, including state and national
banks, state and federal savings associations, credit unions, and certain
nonbanking consumer lenders that provide similar services in those counties with
significantly larger resources than are available to us. We also compete with
money market funds with respect to deposit accounts and with insurance companies
with respect to individual retirement accounts.
The primary factors influencing competition for deposits are interest
rates, service and convenience of office locations. We compete for loan
originations primarily through the efficiency and quality of the services that
we provide borrowers and through interest rates and loan fees charged.
Competition is affected by, among other things, the general availability of
lendable funds, general and local economic conditions, current interest rate
levels, and other factors that we cannot readily predict.
CAPITALIZATION
The following table presents our historical capitalization at June 30,
1998, and the pro forma consolidated capitalization of the Holding Company as of
that date, giving effect to the sale of Common Stock offered by this Prospectus
based on the minimum, midpoint, maximum and 15% above the maximum of the
Estimated Valuation Range and to the expected issuance to the Foundation of
200,000 shares of Common Stock, and subject to the other assumptions set forth
below. The pro forma data set forth below may change significantly at the time
the Holding Company completes the Conversion due to, among other factors, a
change in the Estimated Valuation Range or a change in the current estimated
expenses of the Conversion. If the Estimated Valuation Range changes so that
between 4,305,000 and 6,809,250 shares are not sold in the Conversion,
subscriptions will be returned to subscribers who do not affirmatively elect to
continue their subscriptions during the offering at the revised Estimated
Valuation Range.
<TABLE>
<CAPTION>
At June 30, 1998
Pro Forma Holding Company
Capitalization Based on Sale of
4,305,000 5,100,000 5,895,000 6,809,250
Shares Shares Shares Shares
Sold at Sold at Sold at Sold at
Lincoln Federal Price of Price of Price of Price of
Historical $10.00 $10.00 $10.00 $10.00 (8)
---------- ------ ------ ------ ----------
(In thousands)
<S> <C> <C> <C> <C> <C>
Deposits (1)..................................... $211,160 $211,160 $ 211,160 $211,160 $211,160
========= ========= ========= ======= ========
Federal Home Loan Bank advances.................. $ 45,686 $ 45,686 $ 45,686 $ 45,686 $ 45,686
========= ========= ========= ======= ========
Note payable..................................... $ 2,203 $ 2,203 $ 2,203 $ 2,203 $ 2,203
========= ========= ========= ======= ========
Equity Capital:
Preferred stock, without par
value, 2,000,000 shares
authorized, none issued.......................
Common Stock, without par
value, 20,000,000 shares
authorized: sold in the Conversion(2) ....... $ 41,842 $ 49,717 $ 57,591 $ 66,648
Shares issued to Foundation (3)............. 2,000 2,000 2,000 2,000
Equity capital and net unrealized gain on
securities available for sale (4)............ $ 42,795 42,795 42,795 42,795 42,795
Expense of contribution to Foundation (5)........ (1,320) (1,320) (1,320) (1,320)
Common Stock acquired by ESOP(6) .............. (3,604) (4,240) (4,876) (5,607)
Common Stock acquired by the RRP (7)........... (1,802) (2,120) (2,438) (2,804)
--------- --------- --------- ------- --------
Equity Capital................................... $ 42,795 $ 79,911 $ 86,832 $93,752 $101,712
========= ========= ========= ======= ========
</TABLE>
<PAGE>
(1) Excludes accrued interest. Withdrawals from deposit accounts for the
purchase of Common Stock are not reflected. Such withdrawals will
reduce pro forma deposits by the amount thereof.
(2) The number of shares to be issued in the Conversion may be increased or
decreased based on market and financial conditions prior to the
completion of the Conversion. Assumes estimated expenses of $1,208,000,
$1,283,000, $1,359,000 and $1,445,000 at the minimum, midpoint, maximum
and adjusted maximum of the Estimated Valuation Range, respectively.
See "Use of Proceeds."
(3) Reflects 200,000 shares to be issued to the Foundation at an assumed
value of $10.00 per share.
(4) Equity capital is substantially restricted. See Notes to Lincoln
Federal's Consolidated Financial Statements. See also "The Conversion -
Principal Effects of Conversion - Effect on Liquidation Rights." Equity
capital does not reflect the federal income tax consequences of the
restoration to income of Lincoln Federal's special bad debt reserve for
income tax purposes which would be required in the unlikely event of a
liquidation or if a substantial portion of equity capital were
otherwise used for a purpose other than absorption of bad debt losses
and are required as to post-1987 reserves under a recently enacted law.
See "Taxation - Federal Taxation."
(5) Net of the tax effect of the contribution of Common Stock based upon a
34% marginal tax rate. The realization of the deferred tax benefit is
limited annually to 10% of the Holding Company's annual taxable income,
subject to the ability of the Holding Company to carry forward any
unused portion of the deduction for five years following the year in
which the contribution is made.
(6) Assumes purchases by the ESOP of a number of shares equal to 8% of the
shares sold in the Conversion and issued to the Foundation. The funds
used to acquire the ESOP shares will be borrowed from the Holding
Company. See "Use of Proceeds." Lincoln Federal intends to make
contributions to the ESOP sufficient to service and ultimately retire
its debt. The Common Stock acquired by the ESOP is reflected as a
reduction of equity capital. See "Executive Compensation and Related
Transactions of Lincoln Federal - Employee Stock Ownership Plan and
Trust."
(7) Assuming the receipt of shareholder approval, the Holding Company
intends to implement the RRP. Assuming such implementation, the RRP
will purchase an amount of shares equal to 4% of the Common Stock sold
in the Conversion and issued to the Foundation for issuance to
directors and officers of the Holding Company and Lincoln Federal. Such
shares may be purchased from authorized but unissued shares or on the
open market. The Holding Company currently intends that the RRP will
purchase the shares on the open market. Under the terms of the RRP,
assuming it is adopted within one year of the Conversion, shares will
vest at the rate of 20% per year. The Common Stock to be purchased by
the RRP represents unearned compensation and is, accordingly, reflected
as a reduction to pro forma equity captial. As shares of the Common
Stock granted pursuant to the RRP vest, a corresponding reduction in
the charge against capital will occur. In the event that authorized but
unissued shares are acquired, the interests of existing shareholders
will be diluted. Assuming that 5,100,000 shares of Common Stock, the
midpoint of the Estimated Valuation Range, are issued in the
Conversion, 200,000 shares are issued to the Foundation and that all
awards under the RRP are from authorized but unissued shares, the
Holding Company estimates that the per share book value for the Common
Stock would be diluted $.63 per share, or 3.9% on a pro forma basis as
of June 30, 1998 at the midpoint of the Estimated Valuation Range. The
dilution would be $.68 per share (3.8%) and $.59 per share (3.8%) at
the minimum and maximum levels, respectively, of the Estimated
Valuation Range on a pro forma basis at June 30, 1998.
(8) As adjusted to give effect to an increase in the number of shares which
could occur due to an increase in the Estimated Valuation Range of up
to 15% to reflect changes in market and financial conditions following
the commencement of the Subscription Offering and Community Offering,
if any.
<PAGE>
PRO FORMA DATA
We estimate that we will receive net Conversion proceeds in an amount
ranging from $41.8 million to $66.6 million. This estimate assumes (i) that all
shares of Common Stock are sold in the Subscription Offering, (ii) that 70% of
the shares are acquired by residents of Indiana and 30% are acquired by
residents of other states, (iii) that our executive officers and directors and
their Associates purchase 360,000 shares of Common Stock, (iv) that 200,000
shares of common Stock are issued to the Foundation, and (v) that the ESOP
acquires 8% of the shares of Common Stock sold in the Conversion and issued to
the Foundation. The following tables set forth the pro forma combined
consolidated net income of the Holding Company for the six months ended June 30,
1998 and for the year ended December 31, 1997 as though the Conversion offering
had been consummated at the beginning of those periods, respectively, and the
investable net proceeds had been invested at 5.59% for the six months ended June
30, 1998 and 5.86% for the year ended December 31, 1997 (the yield on one-year
U.S. government securities). The actual net proceeds to the Holding Company from
the sale of Common Stock cannot be determined until the Conversion is completed.
OTS regulations specify that the pro forma yield on net proceeds be calculated
as the arithmetic average of the average yield on Lincoln Federal's
interest-earning assets and the average cost of deposits. Lincoln Federal did
not use this methodology to calculate pro forma yield, however, and instead
assumed a yield based on one-year U.S. government securities. This latter
methodology more accurately reflects Lincoln Federal's and the Holding Company's
intent to invest the net proceeds initially in U.S. government securities. The
pro forma after-tax return for the Holding Company on a consolidated basis is
assumed to be 3.35% for the six months ended June 30, 1998 and 3.52% for the
year ended December 31, 1997, after giving effect to (i) the yield on investable
net proceeds from the Conversion offering and (ii) adjusting for taxes using a
federal statutory tax rate of 34% and a net state statutory income tax rate of
6%. Historical and per share amounts have been calculated by dividing historical
amounts and pro forma amounts by the indicated number of shares of Common Stock,
as adjusted to give effect to the shares purchased by the ESOP and the effect of
the issuance of shares to the Foundation, assuming that such number of shares
had been outstanding during each of the entire periods.
Book value represents the difference between the stated amount of
consolidated assets and consolidated liabilities of the Holding Company computed
in accordance with generally accepted accounting principles. Book value does not
necessarily reflect current market value of assets and liabilities, or the
amounts, if any, that would be available for distribution to shareholders in the
event of liquidation. See "The Conversion - Principal Effects of Conversion -
Effect on Liquidation Rights." Book value also does not reflect the federal
income tax consequences of the restoration to income of our special bad debt
reserves for income tax purposes, which would be required in the unlikely event
of liquidation or if a substantial portion of retained earnings were otherwise
used for a purpose other than absorption of bad debt losses. See "Taxation -
Federal Taxation." Pro forma book value includes only net proceeds from the
Conversion offering as though it occurred as of the indicated dates and does not
include earnings on the proceeds for the periods then ended.
The following table gives effect to the issuance of authorized but
unissued shares of the Holding Company's Common Stock to the Foundation
concurrently with the completion of the Conversion. The pro forma book values at
the dates indicated should not be considered as reflecting the potential trading
value of the Holding Company's stock. There can be no assurance that an investor
will be able to sell the Common Stock purchased in the Conversion at prices
within the range of the pro forma book values of the Common Stock or at or above
the Purchase Price. The pro forma net income derived from the assumptions set
forth above should not be considered indicative of the actual results of
operations of the Holding Company that would have been attained for any period
if the Conversion had been actually consummated at the beginning of such periods
and the assumptions regarding investment yields should not be considered
indicative of the actual yield expected to be achieved during any future period.
Actual Conversion expenses may vary from the estimates set forth below. In
addition, the following tables do not reflect withdrawals from deposit accounts
for the purchase of Common Stock. Such withdrawals will reduce pro forma
deposits by the amount thereof.
<PAGE>
<TABLE>
<CAPTION>
At or for the Six Months Ended June 30, 1998
4,305,000 Shares 5,100,000 Shares 5,895,000 Shares 6,809,250 Shares (1)
Sold at Sold at Sold at Sold at
$10.00 Per Share $10.00 Per Share $10.00 Per Share $10.00 Per Share
---------------- ---------------- ---------------- ----------------
(In thousands, except share data)
<S> <C> <C> <C> <C>
Gross proceeds..................... $43,050 $51,000 $58,950 $68,093
Plus:
Shares contributed to Foundation
(200,000 shares)................ 2,000 2,000 2,000 2,000
--------- --------- --------- ---------
Pro forma market capitalization.. $45,050 $53,000 $60,950 $70,093
========= ========= ========= =========
Gross proceeds..................... $43,050 51,000 58,950 68,093
Less offering expenses............. (1,208) (1,283) (1,359) (1,445)
--------- --------- --------- ---------
Estimated net conversion proceeds (2) 41,842 49,717 57,591 66,648
Less:
Common Stock acquired
by ESOP (3)................... (3,604) (4,240) (4,876) (5,607)
Common Stock acquired
by the RRP (4)................ (1,802) (2,120) (2,438) (2,804)
--------- --------- --------- ---------
Investable net proceeds............ $36,436 $43,357 $50,277 $58,237
========= ========= ========= =========
Consolidated net income (5):
Historical ...................... $967 $967 $967 $967
Pro forma income on investable
net proceeds (6)................ 610 726 842 975
Pro forma ESOP adjustment (3).... (54) (64) (73) (84)
Pro forma RRP adjustment (4) .... (108) (127) (146) (168)
--------- --------- --------- ---------
Pro forma net income ............ $1,415 $1,502 $1,590 $1,690
========= ========= ========= =========
Consolidated net income per share (8)(9):
Historical ..................... $0.23 $0.20 $0.17 $0.15
Pro forma income on investable
net proceeds.................... 0.15 0.15 0.15 0.15
Pro forma ESOP adjustment (3).... (0.01) (0.01) (0.01) (0.01)
Pro forma RRP adjustment (4)..... (0.03) (0.03) (0.03) (0.03)
--------- --------- --------- ---------
Pro forma net income per share... $0.34 $0.31 $0.28 $0.26
========= ========= ========= =========
Consolidated book value (7) :
Historical....................... $42,795 $42,795 $42,795 $42,795
Estimated net conversion
proceeds (2)................... 41,842 49,717 57,591 66,648
Plus: Shares contributed
to Foundation................... 2,000 2,000 2,000 2,000
Less: Contribution to Foundation (2,000) (2,000) (2,000) (2,000)
Plus: Tax benefit of the contribution
to Foundation................... 680 680 680 680
Less:
Common Stock acquired
by ESOP (3)................... (3,604) (4,240) (4,876) (5,607)
Common Stock acquired
by the RRP (4)................ (1,802) (2,120) (2,438) (2,804)
--------- --------- --------- ---------
Pro forma book value............. $79,911 $86,832 $93,752 $101,712
========= ========= ========= =========
Consolidated book value per share (7)(9):
Historical ...................... $9.50 $8.07 $7.02 $6.11
Estimated net conversion proceeds 9.29 9.38 9.45 9.51
Plus: Shares contributed
to Foundation................... 0.44 0.38 0.33 0.29
Less: Contribution to Foundation (0.44) (0.38) (0.33) (0.29)
Plus: Tax benefit of the contribution
to Foundation................... 0.15 0.13 0.11 0.10
Less:
Common Stock acquired
by the ESOP (3)............... (0.80) (0.80) (0.80) (0.80)
Common Stock acquired
by the RRP (4)................ (0.40) (0.40) (0.40) (0.40)
--------- --------- --------- ---------
Pro forma book value per share... $17.74 $16.38 $15.38 $14.52
========= ========= ========= =========
Offering price as a percentage of pro
forma book value per share....... 56.37% 61.05% 65.02% 68.87%
========= ========= ========= =========
Ratio of offering price to pro forma net
income per share (annualized) ... 14.71x 16.13x 17.86x 19.23x
========= ========= ========= =========
Number of shares used in
calculating net income per share (8) 4,162,620 4,897,200 5,631,780 6,476,585
========= ========= ========= =========
Number of shares used in
calculating book value........... 4,505,000 5,300,000 6,095,000 7,009,205
========= ========= ========= =========
</TABLE>
(Footnotes on following page.)
<PAGE>
(1) As adjusted to give effect to an increase in the number of shares which
could occur due to an increase in the Estimated Valuation Range of up to
15% to reflect changes in market and financial conditions following
commencement of the Subscription Offering and the Community Offering, if
any.
(2) See "Use of Proceeds" for assumptions utilized to determine the investable
net proceeds of the sale of Common Stock.
(3) It is assumed that 8% of the shares of Common Stock sold in the Conversion
and issued to the Foundation will be purchased by the ESOP. The funds used
to acquire the ESOP shares will be borrowed by the ESOP from the Holding
Company (see "Use of Proceeds"). Lincoln Federal intends to make annual
contributions to the ESOP in an amount at least equal to the principal and
interest requirements on the debt. Lincoln Federal's total annual expense
in payment of the ESOP debt is based upon 20 equal annual installments of
principal with an assumed tax benefit of 40%. The pro forma net income
assumes: (i) Lincoln Federal's total contributions are equivalent to the
debt service requirement for the year; (ii) that 18,020, 21,200, 24,380 and
28,035 shares at the minimum, midpoint, maximum and 15% above the maximum
of the range, respectively, were committed to be released during the six
months ended June 30, 1998 at an average fair value of $10.00 per share in
accordance with SOP 93-6; (iii) only the ESOP shares committed to be
released were considered outstanding for purposes of the net income per
share calculations; and (iv) the effective tax rate applicable to the debt
was 40%. Expense for the ESOP will be based on the number of shares
committed to be released to participants for the year at the average market
value of the shares during the year. Accordingly, Lincoln Federal's total
annual expense in payment of the ESOP for such years may be higher than
that discussed above. The loan to the ESOP is reflected as a reduction of
book value.
(4) Assuming the receipt of shareholder approval, the Holding Company intends
to implement the RRP. Assuming such implementation, the RRP will purchase
an amount of shares equal to 4% of the Common Stock sold in the Conversion
and issued to the Foundation, or 180,200, 212,000, 243,800 and 280,400
shares of Common Stock at the minimum, midpoint, maximum and 15% above the
maximum of the Estimated Price Range, respectively, for issuance to
directors and officers of the Holding Company and Lincoln Federal. Such
shares may be purchased from authorized but unissued shares or on the open
market. The Holding Company currently intends that the RRP will purchase
the shares on the open market, and the estimated net Conversion proceeds
have been reduced for the purchase of the shares in determining estimated
proceeds available for investment. Under the terms of the RRP, if it is
adopted within one year of the Conversion, shares will vest at the rate of
20% per year. A tax benefit of 40% has been assumed. The Common Stock to be
purchased by the RRP represents unearned compensation and is, accordingly,
reflected as a reduction to pro forma book value. As shares of the Common
Stock granted pursuant to the RRP vest, a corresponding reduction in the
charge against capital will occur. In the event that authorized but
unissued shares are acquired by the RRP, the interests of existing
shareholders will be diluted. Assuming that 5,100,000 shares of Common
Stock are issued in the Conversion, the midpoint of the Estimated Valuation
Range, that 200,000 shares of Common Stock are issued to the Foundation,
and that all awards under the RRP are from authorized but unissued shares,
the Holding Company estimates that the per share book value for the Common
Stock would be diluted $.63 per share, or 3.9% on a pro forma basis as of
June 30, 1998, at the midpoint of the Estimated Valuation Range. The
dilution would be $.68 per share (3.8%) and $.59 per share (3.8%) at the
minimum and maximum levels, respectively, of the Estimated Valuation Range
on a pro forma basis as of June 30, 1998.
(5) Represents income from continuing operations before the extraordinary item
of $150,000 for early extinguishment of debt, net of tax. Does not give
effect to the non-recurring expense that will be recognized in 1998 as a
result of the establishment of the Foundation. The Holding Company will
recognize an after-tax expense for the amount of the contribution to the
Foundation which is expected to be $1.3 million. Assuming the issuance to
the Foundation was expensed during the six months ended June 30, 1998, pro
forma net income per share would be $.02, $.04, $.05, and $.06, at the
minimum, midpoint, maximum and 15% above the maximum of the Estimated
Valuation Range, respectively.
<PAGE>
(6) Assuming investable net proceeds had been invested since the beginning of
the period at 5.59% for the six months ended June 30, 1998 (the yield on
one-year U.S. government securities) and an assumed effective tax rate of
40%.
(7) Book value represents the excess of assets over liabilities. The effect of
the liquidation account is not reflected in these computations. (For
additional information regarding the liquidation account, see "The
Conversion - Principal Effects of Conversion - Effect on Liquidation
Rights.")
(8) The number of shares used in calculating net income per share was
calculated using the indicated number of shares sold and the shares issued
to the Foundation reduced by the assumed number of ESOP shares that would
be unallocated at the end of the first allocation period. Allocation of
ESOP shares is assumed to occur on the first day of the fiscal year.
(9) Assuming the receipt of shareholder approval, the Holding Company intends
to implement the Stock Option Plan. Assuming such implementation, Common
Stock in an aggregate amount equal to 10% of the shares sold in the
Conversion and issued to the Foundation will be reserved for issuance by
the Holding Company upon the exercise of the stock options granted under
the Stock Option Plan. No effect has been given to the shares of Common
Stock reserved for issuance under the Stock Option Plan. Upon the exercise
of stock options granted under the Stock Option Plan, the interest of
existing shareholders will be diluted. The Holding Company estimates that
the per share book value for the Common Stock would be diluted $.58 per
share, or 3.5% on a pro forma basis as of June 30, 1998, assuming the sale
of 5.1 million shares in the Conversion, the midpoint of the Estimated
Valuation Range, the issuance of 200,000 shares to the Foundation and the
exercise of 530,000 options at an exercise price of $10.00 per share. This
dilution further assumes that the shares will be issued from authorized,
but unissued, shares. The dilution would be $.71 per share (4.0%) and $.49
per share (3.2%) at the minimum and maximum levels, respectively, of the
Estimated Valuation Range on a pro forma basis as of June 30, 1998.
<PAGE>
<TABLE>
<CAPTION>
At or for the Year Ended December 31, 1997
4,305,000 Shares 5,100,000 Shares 5,895,000 Shares 6,809,250 Shares (1)
Sold at Sold at Sold at Sold at
$10.00 Per Share $10.00 Per Share $10.00 Per Share $10.00 Per Share
---------------- ---------------- ---------------- ----------------
(In thousands, except share data)
<S> <C> <C> <C> <C>
Gross proceeds..................... $43,050 $51,000 $58,950 $68,093
Plus:
Shares contributed to Foundation
(200,000 shares)................ 2,000 2,000 2,000 2,000
--------- --------- --------- ---------
Pro forma market capitalization.. $45,050 $53,000 $60,950 $70,093
========= ========= ========= =========
Gross proceeds..................... $43,050 $51,000 $58,950 $68,093
Less offering expenses............. (1,208) (1,283) (1,359) (1,445)
--------- --------- --------- ---------
Estimated net conversion proceeds (2) 41,842 49,717 57,591 66,648
Less:
Common Stock acquired
by ESOP (3)................... (3,604) (4,240) (4,876) (5,607)
Common Stock acquired
by the RRP (4)................ (1,802) (2,120) (2,438) (2,804)
--------- --------- --------- ---------
Investable net proceeds............ $36,436 $43,357 $50,277 $58,237
========= ========= ========= =========
Consolidated net income (5):
Historical ...................... $3,513 $3,513 $3,513 $3,513
Pro forma income on investable
net proceeds (6)................ 1,283 1,526 1,770 2,050
Pro forma ESOP adjustment (3).... (108) (127) (146) (168)
Pro forma RRP adjustment (4) .... (216) (254) (293) (336)
--------- --------- --------- ---------
Pro forma net income ............ $4,472 $4,658 $4,844 $5,059
========= ========= ========= =========
Consolidated net income per share (8)(9):
Historical ..................... $0.84 $0.72 $0.62 $0.54
Pro forma income on investable
net proceeds.................... 0.31 0.31 0.31 0.32
Pro forma ESOP adjustment (3).... (0.03) (0.03) (0.03) (0.03)
Pro forma RRP adjustment (4)..... (0.05) (0.05) (0.05) (0.05)
--------- --------- --------- ---------
Pro forma net income per share... $1.07 $0.95 $0.85 $0.78
========= ========= ========= =========
Consolidated book value (7) :
Historical....................... $41,978 $41,978 $41,978 $41,978
Estimated net conversion
proceeds (2)................... 41,842 49,717 57,591 66,648
Plus: Shares contributed
to Foundation................... 2,000 2,000 2,000 2,000
Less: Contribution to Foundation (2,000) (2,000) (2,000) (2,000)
Plus: Tax benefit of the contribution
to Foundation................... 680 680 680 680
Less:
Common Stock acquired
by ESOP (3)................... (3,604) (4,240) (4,876) (5,607)
Common Stock acquired
by the RRP (4)................ (1,802) (2,120) (2,438) (2,804)
--------- --------- --------- ---------
Pro forma book value............. $79,094 $86,015 $92,935 $100,895
========= ========= ========= =========
Consolidated book value per share (7)(9):
Historical ...................... $9.32 $7.92 $6.89 $5.99
Estimated net conversion proceeds 9.29 9.38 9.45 9.51
Plus: Shares contributed
to Foundation................... 0.44 0.38 0.33 0.29
Less: Contribution to Foundation (0.44) (0.38) (0.33) (0.29)
Plus: Tax benefit of the contribution
to Foundation................... 0.15 0.13 0.11 0.10
Less:
Common Stock acquired
by the ESOP (3)............... (0.80) (0.80) (0.80) (0.80)
Common Stock acquired
by the RRP (4)................ (0.40) (0.40) (0.40) (0.40)
--------- --------- --------- ---------
Pro forma book value per share... $17.56 $16.23 $15.25 $14.40
========= ========= ========= =========
Offering price as a percentage of pro
forma book value per share....... 56.95% 61.61% 65.57% 69.44%
========= ========= ========= =========
Ratio of offering price to pro forma
net income per share ............ 9.35x 10.53x 11.76x 12.82x
========= ========= ========= =========
Number of shares used in
calculating net income per share (8) 4,162,620 4,897,200 5,631,780 6,476,585
========= ========= ========= =========
Number of shares used in
calculating book value........... 4,505,000 5,300,000 6,095,000 7,009,250
========= ========= ========= =========
</TABLE>
(Footnotes on following page.)
<PAGE>
(1) As adjusted to give effect to an increase in the number of shares which
could occur due to an increase in the Estimated Valuation Range of up to
15% to reflect changes in market and financial conditions following
commencement of the Subscription Offering and the Community Offering, if
any.
(2) See "Use of Proceeds" for assumptions utilized to determine the investable
net proceeds of the sale of Common Stock.
(3) It is assumed that 8% of the shares of Common Stock sold in the Conversion
and issued to the Foundation will be purchased by the ESOP. The funds used
to acquire the ESOP shares will be borrowed by the ESOP from the Holding
Company (see "Use of Proceeds"). Lincoln Federal intends to make annual
contributions to the ESOP in an amount at least equal to the principal and
interest requirements on the debt. Lincoln Federal's total annual expense
in payment of the ESOP debt is based upon 20 equal annual installments of
principal with an assumed tax benefit of 40%. The pro forma net income
assumes: (i) Lincoln Federal's total contributions are equivalent to the
debt service requirement for the year; (ii) that 18,020, 21,200, 24,380 and
28,035 shares at the minimum, midpoint, maximum and 15% above the maximum
of the range, respectively, were committed to be released during the year
ended December 31, 1997 at an average fair value of $10.00 per share in
accordance with SOP 93-6; (iii) only the ESOP shares committed to be
released were considered outstanding for purposes of the net income per
share calculations; and (iv) the effective tax rate applicable to the debt
was 40%. Expense for the ESOP will be based on the number of shares
committed to be released to participants for the year at the average market
value of the shares during the year. Accordingly, Lincoln Federal's total
annual expense in payment of the ESOP for such years may be higher than
that discussed above. The loan to the ESOP is reflected as a reduction of
book value.
(4) Assuming the receipt of shareholder approval, the Holding Company intends
to implement the RRP. Assuming such implementation, the RRP will purchase
an amount of shares equal to 4% of the Common Stock sold in the Conversion
and issued to the Foundation, or 180,200, 212,000, 243,800 and 280,400
shares of Common Stock at the minimum, midpoint, maximum and 15% above the
maximum of the Estimated Price Range, respectively, for issuance to
directors and officers of the Holding Company and Lincoln Federal. Such
shares may be purchased from authorized but unissued shares or on the open
market. The Holding Company currently intends that the RRP will purchase
the shares on the open market, and the estimated net Conversion proceeds
have been reduced for the purchase of the shares in determining estimated
proceeds available for investment. Under the terms of the RRP, if it is
adopted within one year of the Conversion, shares will vest at the rate of
20% per year. A tax benefit of 40% has been assumed. The Common Stock to be
purchased by the RRP represents unearned compensation and is, accordingly,
reflected as a reduction to pro forma book value. As shares of the Common
Stock granted pursuant to the RRP vest, a corresponding reduction in the
charge against capital will occur. In the event that authorized but
unissued shares are acquired by the RRP, the interests of existing
shareholders will be diluted. Assuming that 5,100,000 shares of Common
Stock are issued in the Conversion, the midpoint of the Estimated Valuation
Range, that 200,000 shares of Common Stock are contributed to the
Foundation, and that all awards under the RRP are from authorized but
unissued shares, the Holding Company estimates that the per share book
value for the Common Stock would be diluted $.62 per share, or 3.8% on a
pro forma basis as of December 31, 1997, at the midpoint of the Estimated
Valuation Range. The dilution would be $.68 per share (3.9%) and $.59 per
share (3.9%) at the minimum and maximum levels, respectively, of the
Estimated Valuation Range on a pro forma basis as of December 31, 1997.
(5) Does not give effect to the non-recurring expense that will be recognized
in 1998 as a result of the establishment of the Foundation. The Holding
Company will recognize an after-tax expense for the amount of the
contribution to the Foundation which is expected to be $1.3 million.
Assuming the issuance to the Foundation was expensed during the year ended
December 31, 1997, pro forma net income per share would be $.75, $.68,
$.63, and $.58, at the minimum, midpoint, maximum and 15% above the maximum
of the Estimated Valuation Range, respectively.
(6) Assuming investable net proceeds had been invested since the beginning of
the period at 5.86% for the year ended December 31, 1997 (the yield on
one-year U.S. government securities) and an assumed effective tax rate of
40%.
<PAGE>
(7) Book value represents the excess of assets over liabilities. The effect of
the liquidation account is not reflected in these computations. (For
additional information regarding the liquidation account, see "The
Conversion - Principal Effects of Conversion - Effect on Liquidation
Rights.")
(8) The number of shares used in calculating net income per share was
calculated using the indicated number of shares sold and the shares issued
to the Foundation reduced by the assumed number of ESOP shares that would
be unallocated at the end of the first allocation period. Allocation of
ESOP shares is assumed to occur on the first day of the fiscal year.
(9) Assuming the receipt of shareholder approval, the Holding Company intends
to implement the Stock Option Plan. Assuming such implementation, Common
Stock in an aggregate amount equal to 10% of the shares sold in the
Conversion and issued to the Foundation will be reserved for issuance by
the Holding Company upon the exercise of the stock options granted under
the Stock Option Plan. No effect has been given to the shares of Common
Stock reserved for issuance under the Stock Option Plan. Upon the exercise
of stock options granted under the Stock Option Plan, the interest of
existing shareholders will be diluted. The Holding Company estimates that
the per share book value for the Common Stock would be diluted $.57 per
share, or 3.5% on a pro forma basis as of December 31, 1997, assuming the
sale of 5.1 million shares in the Conversion, the midpoint of the Estimated
Valuation Range, the issuance of 200,000 shares to the Foundation and the
exercise of 530,000 options at an exercise price of $10.00 per share. This
dilution further assumes that the shares will be issued from authorized,
but unissued, shares. The dilution would be $.69 per share (3.9%) and $.48
per share (3.2%) at the minimum and maximum levels, respectively, of the
Estimated Valuation Range on a pro forma basis as of December 31, 1997.
<PAGE>
COMPARISON OF VALUATION AND PRO FORMA INFORMATION WITH NO FOUNDATION
In the event that the Foundation were not established as part of the
Conversion, Keller has estimated that the pro forma aggregate market
capitalization of the Holding Company would be approximately $55 million at the
midpoint, which is approximately $2.0 million greater than the pro forma
aggregate market capitalization of the Holding Company if the Foundation is
included, and would result in an approximately $4 million increase in the amount
of Common Stock offered for sale in the Conversion. The pro forma price to book
ratio and pro forma price to net income ratio would be approximately the same
under both the current appraisal and the estimate of the value of the Holding
Company without the Foundation. Further, assuming the midpoint of the Estimated
Valuation Range, pro forma book value per share and pro forma net income per
share would be $16.38 and $.31, respectively and $16.34 and $.31, respectively,
with the Foundation or without the Foundation. The pro forma price to book ratio
at the midpoint of the Estimated Valuation Range with and without the Foundation
would be 61.1% and 61.2%, respectively. The pro forma price to net income ratio
at the midpoint of the Estimated Valuation Range with and without the Foundation
would be, in each case, 16.13x. There is no assurance that, in the event that
the Foundation were not formed, the appraisal prepared at the time would have
concluded that the pro forma market value of the Holding Company would be the
same as the estimate herein. Any appraisals prepared at that time would be based
on the facts and circumstances existing at that time, including, among other
things, market and economic conditions.
For comparative purposes only, set forth below are certain pricing
ratios and financial data and ratios, at the minimum, midpoint, maximum and 15%
above the maximum of the Estimated Valuation Range, assuming the Conversion was
completed at June 30, 1998.
<TABLE>
<CAPTION>
At or for the Six Months Ended June 30, 1998
15% Above
At the Minimum At the Midpoint At the Maximum the Maximum,
With No With No With No With No
Foundation Foundation Foundation Foundation Foundation Foundation Foundation Foundation
---------- ---------- ---------- ---------- ---------- ---------- ---------- ----------
(Dollars in thousands, except per shares amounts)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Estimated offering amount......$ 43,050 $46,750 $51,000 $55,000 $58,950 $63,250 $68,093 $72,738
Pro forma market
capitalization............ 45,050 46,750 53,000 55,000 60,950 63,250 70,093 72,738
Total assets................... 341,616 344,395 348,537 351,577 355,457 358,759 363,417 367,018
Total liabilities.............. 261,705 261,705 261,705 261,705 261,705 261,705 261,705 261,705
Pro forma book value........... 79,911 82,690 86,832 89,872 93,752 97,054 101,712 105,313
Pro forma consolidated
net income.................. 1,415 1,467 1,502 1,558 1,590 1,648 1,690 1,752
Pro forma book value per share. 17.74 17.68 16.38 16.34 15.38 15.35 14.52 14.48
Pro forma consolidated net
income per share............ 0.34 0.33 0.31 0.31 0.28 0.29 0.26 0.26
Pro forma pricing ratios:
Offering price as a percentage
of pro forma book value
per share................ 56.37% 56.56% 61.05% 61.20% 65.02% 65.15% 68.87% 69.06%
Offering price to pro forma
net income per share
(annualized) (1).......... 14.71x 15.15x 16.13x 16.13x 17.86x 17.24x 19.23x 19.23x
Pro forma market
capitalization to assets.. 13.19% 13.57% 15.21% 15.64% 17.15% 17.63% 19.29% 19.82%
Pro forma financial ratios:
Return on assets
(annualized) (2).......... 0.81% 0.84% 0.85% 0.87% 0.88% 0.90% 0.91% 0.94%
Return on equity
(annualized) (3).......... 3.54% 3.54% 3.45% 3.46% 3.39% 3.39% 3.32% 3.32%
Equity to assets............... 23.39% 24.01% 24.91% 25.56% 26.38% 27.05% 27.99% 28.69%
- ------------------
</TABLE>
(1) If the contribution to the Foundation had been expensed during the six
months ended June 30, 1998, the offering price to pro forma net income per
share would have been 27.57x, 29.08x, 30.28x and 31.44x at the minimum,
midpoint, maximum and 15% above the maximum of the Estimated Valuation
Range, respectively.
(2) If the contribution to the Foundation had been expensed during the six
months ended June 30, 1998, return on assets would have been .43%, .47%,
.51% and .56% at the minimum, midpoint, maximum and 15% above the maximum
of the Estimated Valuation Range, respectively.
(3) If the contribution to the Foundation had been expensed during the six
months ended June 30, 1998, return on equity would have been 1.89%, 1.94%,
1.98% and 2.02% at the minimum, midpoint, maximum and 15% above the maximum
of the Estimated Valuation Range, respectively.
<PAGE>
REGULATORY CAPITAL COMPLIANCE
The following table compares Lincoln Federal's historical and pro forma
regulatory capital levels as of June 30, 1998 to Lincoln Federal's capital
requirements historically and after giving effect to the Conversion.
<TABLE>
<CAPTION>
At June 30, 1998
Pro Forma Capital Based on Sale of
4,305,000 Shares 5,100,000 Shares 5,895,000 Shares 6,809,250 Shares
Lincoln Federal Sold at Price of Sold at Price of Sold at Price of Sold at Price of
Historical $10.00 $10.00 $10.00 $10.00 (1)
Amount Ratio (2) Amount (4) Ratio (2) Amount (4)Ratio (2) Amount (4)Ratio (2) Amount (4) Ratio (2)
--------------------------------------------------------------------------------------------------------
(Dollars in thousands)
Equity capital based upon
generally accepted
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
accounting principles. $42,795 14.1% $58,990 18.4% $61,974 19.1% $64,957 19.9% $68,388 20.7%
======= ==== ====== ==== ======= ==== ======= ==== ======= ====
Tangible capital :
Historical or
pro forma........... $42,248 13.9% $58,443 18.2% $61,427 19.0% $64,410 19.7% $67,841 20.5%
Required.............. 4,569 1.5% 4,812 1.5% 4,857 1.5% 4,901 1.5% 4,953 1.5%
------- ---- ------ ---- ------- ---- ------- ---- ------- ----
Excess.............. $37,679 12.4% $53,631 16.7% $56,570 17.5% $59,509 18.2% $62,888 19.0%
======= ==== ====== ==== ======= ==== ======= ==== ======= ====
Core capital :
Historical or
pro forma .......... $42,248 13.9% $58,443 18.2% $61,427 19.0% $64,410 19.7% $67,841 20.5%
Required.............. 9,138 3.0% 9,624 3.0% 9,713 3.0% 9,803 3.0% 9,906 3.0%
------- ---- ------ ---- ------- ---- ------- ---- ------- ----
Excess.............. $33,110 10.9% $48,819 15.2% $51,714 16.0% $54,607 16.7% $57,935 17.5%
======= ==== ====== ==== ======= ==== ======= ==== ======= ====
Risk-based capital (3):
Historical or
pro forma .......... $43,680 24.6% $59,875 33.0% $62,859 34.5% $65,842 36.0% $69,273 37.8%
Required.............. 14,217 8.0% 14,520 8.0% 14,568 8.0% 14,616 8.0% 14,670 8.0%
------- ---- ------ ---- ------- ---- ------- ---- ------- ----
Excess.............. $29,463 16.6% 45,355 25.0% $48,291 26.5% $51,226 28.0% $54,603 29.8%
======= ==== ====== ==== ======= ==== ======= ==== ======= ====
</TABLE>
(1) As adjusted to give effect to an increase in the number of shares which
could occur due to an increase in the Estimated Valuation Range of up
to 15%, including 200,000 shares to be issued to the Foundation, to
reflect changes in market and financial conditions following
commencement of the Subscription Offering and the Community Offering,
if any.
(2) Tangible and core capital levels are shown as a percentage of total
assets; risk-based capital levels are shown as a percentage of
risk-weighted assets.
(3) Pro forma risk-based capital amounts and percentages assume net
proceeds have been invested in 20% risk-weighted assets. Computations
of ratios are based on historical adjusted total assets of $304,599,000
and risk-weighted assets of $177,718,000.
(4) Capital levels are increased for contribution of 50% of the net
proceeds of the Offering by the Holding Company and reduced for charges
to capital resulting from the ESOP and RRP. See notes (3) and (4) on
page 34.
<PAGE>
THE CONVERSION
THE BOARDS OF DIRECTORS OF LINCOLN FEDERAL AND THE HOLDING COMPANY AND
THE OTS HAVE APPROVED THE PLAN SUBJECT TO THE PLAN'S APPROVAL BY OUR MEMBERS AT
A SPECIAL MEETING OF MEMBERS, AND SUBJECT TO THE SATISFACTION OF CERTAIN OTHER
CONDITIONS IMPOSED BY THE OTS IN ITS APPROVAL. OTS APPROVAL, HOWEVER, DOES NOT
CONSTITUTE A RECOMMENDATION OR ENDORSEMENT OF THE PLAN BY THE OTS.
General
On July 2, 1998, our Board of Directors adopted a Plan of Conversion
(the "Plan") pursuant to which we will convert from a federal mutual savings
bank to a federal stock savings bank, and become a wholly-owned subsidiary of
the Holding Company. The Conversion will include adoption of the proposed
Federal Stock Charter and Bylaws which will authorize the issuance of capital
stock by us. Under the Plan, our capital stock is being sold to the Holding
Company and the Common Stock of the Holding Company is being offered to our
customers and, if necessary, to the general public, with a preference given to
residents of Hendricks, Montgomery and Clinton Counties, Indiana. The Plan has
also been approved by the OTS, subject to approval of the Plan by our members. A
Special Meeting of Members (the "Special Meeting") has been scheduled for that
purpose on December 21, 1998. The approval of the Plan by the OTS does not
constitute a recommendation or endorsement of the Plan by the OTS.
We have mailed to each person eligible to vote at the Special Meeting a
proxy statement (the "Proxy Statement"). The Proxy Statement contains
information concerning the business purposes of the Conversion and the effects
of the Plan and the Conversion on voting rights, liquidation rights, the
continuation of our business and existing savings accounts, FDIC insurance and
loans. The Proxy Statement also describes the manner in which the Plan may be
amended or terminated.
In furtherance of our commitment to the communities we serve, the Plan
provides for the establishment of the Foundation as part of the Conversion. The
Foundation is intended to complement our existing community reinvestment
activities and to establish a common bond between us and the communities that we
serve, thereby enabling those communities to share in the growth and
profitability of the Holding Company over the long term. Consistent with our
goal, the Holding Company intends to donate to the Foundation immediately
following the Conversion 200,000 shares of its authorized but unissued Common
Stock. See "Establishment of the Foundation."
Reasons for Conversion
As a stock institution, we will be structured in the form used by
commercial banks, most business entities, and a growing number of savings
associations. Converting to the stock form is intended to have a positive effect
on our future growth and performance by: (i) affording our depositors and
employees the opportunity to become shareholders of the Holding Company and
thereby participate more directly in our future and the Holding Company's
future; (ii) providing the Holding Company with the flexibility to grow through
mergers and acquisitions by permitting the offering of the Holding Company's
stock to the shareholders of acquired companies; (iii) providing substantially
increased net worth and equity capital for investment in our business, thus
enabling management to pursue new and additional lending and investment
opportunities and to expand operations; and (iv) providing future access to
capital markets through the sale of stock of the Holding Company in order to
generate additional capital to accommodate or promote future growth. We believe
that the increased capital and operating flexibility will enhance our
competitiveness with other types of financial services organizations. Although
our current members will, upon Conversion, lose the voting and liquidation
rights they presently have as members (except to the limited extent of their
rights in the liquidation account established in the Conversion), they are being
offered a priority right to purchase shares in the Conversion and thereby obtain
voting and liquidation rights in the Holding Company.
The net proceeds to us from the sale of Common Stock offered hereby,
after retention by the Holding Company of 50% of the net proceeds after payment
of expenses incurred in connection with the Conversion, will increase our
existing net worth and thus provide an even stronger capital base to support our
lending and investment activities. This increase in our net worth, when combined
with the extra expenses we will incur as a publicy-traded company, will also,
however, likely cause our return on equity to decrease in comparison with our
performance in previous years. The net proceeds will also enable us to take
advantage of new opportunities that may arise, including the possible
acquisition of another financial institution or the acquisition of assets from
another financial institution, although we have no such present plans,
discussions or agreements with respect to any such acquisitions. In addition,
the Conversion will provide us with new opportunities to attract and retain
talented and experienced personnel by offering stock incentive programs.
Our Board of Directors believes that the Conversion to a holding
company structure is the best way to enable us to diversify our business
activities should we choose to do so. Currently, there are no plans, written or
oral, for the Holding Company to engage in any material activities apart from
holding our shares of stock that it acquires in connection with the Conversion,
although the Board may determine to further expand the Holding Company's
activities after the Conversion.
The additional Common Stock of the Holding Company being authorized in
the Conversion will be available for future acquisitions (although the Holding
Company has no current plans, discussions or agreements with respect to any
acquisition) and for issuance and sale to raise additional equity capital,
subject to market conditions and generally without shareholder approval. The
Holding Company's ability to raise additional funds through the sale of equity
or debt securities to the public or institutional investors should also be
enhanced by the increase in its equity capital base provided by the Conversion.
Although the Holding Company currently has no plans with respect to future
issuances of equity or debt securities, the more flexible operating structure
provided by the Holding Company and the stock form of ownership is expected to
assist us in competing aggressively with other financial institutions in our
market area.
<PAGE>
The Conversion will also permit our members who subscribe for shares of
Common Stock to become shareholders of the Holding Company, thereby allowing
members to indirectly own stock in the financial institution in which they
maintain deposit accounts. Such ownership may encourage shareholders to promote
us to others, thereby further contributing to our growth.
Establishment of the Foundation
General. In furtherance of our commitment to the communities
we serve, the Plan provides that Lincoln Federal and the Holding Company will
establish the Foundation, which was incorporated under Indiana law as a
nonprofit corporation without members, and will fund the Foundation with Common
Stock of the Holding Company. By further enhancing our visibility and reputation
in the communities that we serve, we believe that the Foundation will enhance
the long-term value of our community banking franchise. The Foundation will be
dedicated to charitable purposes, including community development activities
within the communities that we serve.
Purpose of the Foundation. We intend for the Foundation to provide
funding to support charitable causes and community development activities. In
recent years, we have emphasized community lending and community development
activities within the communities that we serve. The Foundation is being formed
as a complement to our existing community activities, not as a replacement for
those activities. While we intend to continue to emphasize community lending and
community development activities following the Conversion, those activities are
not our sole corporate purpose. The Foundation, on the other hand, will be
completely dedicated to engaging in community activities and promoting
charitable causes, and may be able to support such activities in ways that are
not currently available to us.
We believe that the Foundation will enable us to assist our local
communities in areas beyond community development and lending. In this regard,
our Board of Directors believes the establishment of a charitable foundation is
consistent with our commitment to community service. The Board further believes
that the funding of the Foundation with Common Stock of the Holding Company will
enable the communities that we serve to share in any future growth and success
of the Holding Company upon completion of the Conversion. The Foundation will
accomplish that goal by providing for continued ties between the Foundation and
us, thereby forming a partnership with our community. The establishment of the
Foundation will also enable the Holding Company and Lincoln Federal to develop a
unified charitable donation strategy and will centralize the responsibility for
administration and allocation of corporate charitable funds. Charitable
foundations have been formed by other financial institutions for this purpose,
among others. We do not expect, however, that the contribution to the Foundation
will take the place of our traditional community lending activities.
Structure of the Foundation. The Foundation has been incorporated under
Indiana law as a nonprofit corporation without members. The Foundation's Board
of Directors will initially consist of three members of the Holding Company's
Board of Directors: Wayne E. Kessler, Edward E. Whalen and John L. Wyatt. It is
anticipated that at the time of the Conversion, at least one additional director
independent of the Holding Company and its affiliates will be added to the
Board. Each director, officer and employee of the Holding Company, as well as
any person who has the power to direct the management or policies of the Holding
Company or any other person who owes a fiduciary duty to the Holding Company,
must comply with the regulations of the OTS regarding conflicts of interest if
such person is also a director of the Foundation, a member of the distribution
committee or an employee of the Foundation. For information concerning the
intended purchases of Common Stock by members of the Foundation's Board, see
"Proposed Purchases by Directors and Executive Officers." Upon completion of the
Conversion, the Foundation and its directors will hold, in the aggregate,
270,000 shares of Common Stock, or 6.0%, 5.1%, 4.4% or 3.9% at the minimum,
midpoint, maximum and 15% above the maximum of the Estimated Valuation Range.
The Foundation's articles of incorporation and bylaws provide that, for a period
of at least five years from the date of the Conversion, at least one seat on the
Foundation's board of directors shall be reserved for a director of Lincoln
Federal or any successor organization. In addition, the Foundation's articles of
incorporation and bylaws provide that, for a period of at least five years from
the date of the Conversion, at least one seat on the Foundation's board of
directors shall be reserved for an independent director from the local community
who is not affiliated with Lincoln Federal or the Holding Company who has
appropriate experience with local grant making activities. The Foundation's
board is in the process of selecting a person to serve on the board who is
unaffiliated with Lincoln Federal and the Holding Company but who has business
and community ties with our market area, and who has experience serving on local
charities or other non-profit organizations.
<PAGE>
The members of the Foundation, consisting of its Board members, will
elect the directors at the annual meeting of the Foundation. The Board may
consist of between three and thirteen directors. Directors will be divided into
three classes with each class appointed for staggered three-year terms. The
articles of incorporation of the Foundation provide that the Foundation is
organized exclusively for charitable purposes, including community development,
as set forth in Section 501(c)(3) of the Code. The Foundation's articles of
incorporation further provide that no part of the net earnings of the Foundation
will inure to the benefit of, or be distributable to its directors, officers or
members, except that the Foundation may pay reasonable compensation for services
rendered by such persons.
The authority for the affairs of the Foundation will be vested in its
Board of Directors, which will be responsible for establishing the Foundation's
policies with respect to grants or donations, consistent with the purposes for
which the Foundation was established. Although no formal policy governing
Foundation grants exists at this time, the Foundation's Board of Directors will
adopt such a policy upon establishment of the Foundation. As directors of a
nonprofit corporation, directors of the Foundation will at all times be bound by
their fiduciary duty to advance the Foundation's charitable goals, to protect
the assets of the Foundation and to act in a manner consistent with the
charitable purpose for which the Foundation is established.
The Directors of the Foundation will also be responsible for directing
the activities of the Foundation, including the management of the Common Stock
of the Holding Company held by the Foundation. However, we expect that, as a
condition to receiving the approval of the OTS to the Conversion, the Foundation
will be required to commit to the OTS that all shares of Common Stock held by
the Foundation will be voted in the same ratio as all other shares of the
Holding Company's Common Stock on all proposals considered by shareholders of
the Holding Company; provided, however, that, consistent with this condition,
the OTS would waive this voting restriction under certain circumstances if
compliance with the voting restriction would: (i) cause a violation of the law
of the State of Indiana and the OTS determines that federal law would not
preempt the application of the laws of Indiana to the Foundation; (ii) would
cause the Foundation to lose its tax-exempt status, or cause the Internal
Revenue Service to deny the Foundation's request for a determination that it is
an exempt organization or otherwise have a material and adverse tax consequence
on the Foundation; or (iii) would cause the Foundation to be subject to an
excise tax under Section 4941 of the Code. In order for the OTS to waive such
voting restriction, the Holding Company's or the Foundation's legal counsel
would be required to render an opinion satisfactory to the OTS that compliance
with the voting requirement would have the effect described in clauses (i), (ii)
or (iii) above. Under those circumstances, the OTS would grant a waiver of the
voting restriction upon submission of such legal opinions(s) by the Holding
Company or the Foundation that are satisfactory to the OTS. In the event that
the OTS were to waive the voting requirement, the directors would direct the
voting of the Common Stock held by the Foundation.
The Foundation's place of business will be located at our
administrative offices. We expect that initially the Foundation will have no
employees but, rather, will utilize the members of our staff who, generally,
will not receive any additional compensation for work they perform on behalf of
the Foundation. The Board of Directors of the Foundation has appointed Edward E.
Whalen as president, and will appoint such other officers as may be necessary to
manage the operations of the Foundation. In this regard, it is expected that we
will be required to provide the OTS with a commitment that, to the extent
applicable, we will comply with the affiliate restrictions set forth in Sections
23A and 23B of the Federal Reserve Act with respect to any transactions between
us and the Foundation.
The Holding Company intends to capitalize the Foundation with 200,000
shares of Common Stock. We elected to fund the Foundation with Common Stock
rather than cash because we desired to form a bond with the communities we serve
in a manner that would allow them to share in any future growth and success of
the Holding Company and Lincoln Federal over the long term. The funding of the
Foundation with stock also provides the Foundation with a potentially larger
endowment than if the Holding Company contributed cash to the Foundation since,
as a shareholder, the Foundation will share in any future growth and success of
the Holding Company. As such, the contribution of Common Stock to the Foundation
has the potential to provide a self-sustaining funding mechanism which reduces
the amount of cash that the Holding Company, if it were not making the stock
donation, would have to contribute to the Foundation in future years in order to
maintain a level amount of charitable grants and donations.
The Foundation will receive working capital from any dividends that may
be paid on the Common Stock in the future and, subject to applicable federal and
state laws, loans collateralized by the Common Stock or from the proceeds of the
sale of any of the Common Stock in the open market from time to time as may be
permitted to provide the Foundation with additional liquidity. As a private
foundation under Section 501(c)(3) of the Code, the Foundation generally will be
required to distribute annually in grants or donations a minimum of 5% of the
average fair market value of its net investment assets. One of the conditions
imposed on the gift of Common Stock by the Holding Company is that the amount of
Common Stock that may be sold by the Foundation in any one year shall not exceed
5% of the average market value of the assets held by the Foundation, except
where the Board of Directors of the Foundation determines that the failure to
sell an amount of Common Stock greater than such amount would result in a
longer-term reduction of the value of the Foundation's assets and as such would
jeopardize the Foundation's capacity to carry out its charitable purposes. Upon
completion of the Conversion and the contribution of shares to the Foundation
immediately following the Conversion, the Holding Company would have 4,505,000,
5,300,000, 6,095,000 and 7,009,250 shares issued and outstanding at the minimum,
midpoint, maximum and 15% above the maximum of the Estimated Valuation Range.
Because the Holding Company will have an increased number of shares outstanding,
the voting and ownership interests of shareholders in the Holding Company's
Common Stock would be diluted by 3.8% at the midpoint of the Estimated Valuation
Range, as compared to their interests in the Holding Company if the Foundation
were not established. For additional discussion of the dilutive effect,
including the dilution in ownership and book value per share resulting from the
contribution of the Holding Company's Common Stock to the Foundation, see "Pro
Forma Data" and "Comparison of Valuation and Pro Forma Information with No
Foundation."
Tax Considerations. We have been advised by Barnes & Thornburg that an
organization created and operated for the above charitable purposes would
generally qualify as a Section 501(c)(3) exempt organization under the Code, and
further that such an organization would likely be classified as a private
foundation. The IRS has approved the Foundation's request to be recognized as an
exempt organization under Section 501(c)(3) of the Code, effective June 12,
1998, the date of the Foundation's organization.
Barnes & Thornburg, however, has not rendered any advice on the
condition that we expect will be imposed by the OTS requiring that all shares of
Common Stock of the Holding Company held by the Foundation be voted in the same
ratio as all other outstanding shares of Common Stock of the Holding Company on
all proposals considered by shareholders of the Holding Company. Consistent with
the expected condition, in the event that the Holding Company or the Foundation
receives an opinion of its legal counsel that compliance with this voting
restriction would cause the Foundation to lose its tax-exempt status or
otherwise have a material and adverse tax consequence on the Foundation, or
subject the Foundation to an excise tax under Section 4941 of the Code, it is
expected that the OTS would waive such voting restriction upon submission of a
legal opinion(s) by the Holding Company or the Foundation satisfactory to the
OTS. See "-Regulatory Conditions Imposed on the Foundation."
Under Indiana law, the Holding Company is authorized by statute to make
charitable contributions. Under the Code, the Holding Company is generally
allowed a deduction for federal income tax purposes for charitable contributions
made to qualifying donees within the taxable year of up to 10% of its taxable
income (with certain modifications) for such year. Charitable contributions made
by the Holding Company in excess of the annual deductible amount will be
deductible over each of the five succeeding taxable years, subject to certain
limitations.
We believe that the Conversion presents a unique opportunity to
establish and fund a charitable foundation given the substantial amount of
additional capital being raised in the Conversion. In making such a
determination, we considered the dilutive impact of the contribution of Common
Stock to the Foundation on the amount of Common Stock available to be offered
for sale in the Conversion. Based on such consideration, we believe that the
contribution to the Foundation in excess of the 10% annual deduction limitation
is justified given our capital position and earnings, the substantial additional
capital being raised in the Conversion and the potential benefits of the
Foundation to the communities that we serve. In this regard, assuming the sale
of the Common Stock at the midpoint of the Estimated Valuation Range, the
Holding Company would have pro forma equity capital of $86.8 million, or 24.9%
of pro forma consolidated assets, and Lincoln Federal's pro forma tangible, core
and total risk-based capital ratios would be 19.0%, 19.0% and 34.5%,
respectively. See "Regulatory Capital Compliance," "Capitalization," and
"Comparison of Valuation and Pro Forma Information with No Foundation." Thus,
the amount of the contribution will not adversely affect the financial condition
of the Holding Company and Lincoln Federal and we therefore believe that the
amount of the charitable contribution is reasonable given our pro forma capital
positions. As such, we believe that the contribution does not raise safety and
soundness concerns.
<PAGE>
We have received the opinion of Barnes & Thornburg that the Holding
Company's contribution of its own stock to the Foundation would not constitute
an act of self-dealing, and that the Holding Company will be entitled to a
deduction in the amount of the fair market value of the stock at the time of the
contribution, subject to the annual deduction limitation described above. The
Holding Company, however, would be able to carry forward any unused portion of
the deduction for five years following the contribution, subject to certain
limitations. Barnes & Thornburg has not, however, rendered advice as to fair
market value for purposes of determining the amount of the tax deduction. If the
Foundation had been established in 1997, the Holding Company would have received
a tax benefit of approximately $680,000 in 1997 and/or over the subsequent
five-year period (based on our pre-tax income for 1997, an assumed marginal tax
rate of 34% and a deduction for the contribution of Common Stock equal to $2.0
million). The Holding Company is permitted under the Code to carry over the
excess contribution over the five-year period following the contribution to the
Foundation. The Holding Company estimates that all of the deduction should be
deductible over the six-year period. Neither the Holding Company nor Lincoln
Federal expect to make any further contributions to the Foundation within the
first five years following the initial contribution. After that time, we may
consider future contributions to the Foundation. Any such decisions would be
based on an assessment of, among other factors, our financial condition at that
time, the interests of our shareholders and depositors, and the financial
condition and operations of the Foundation.
Although we have received the opinion of Barnes & Thornburg that the
Holding Company is entitled to a deduction for the charitable contribution,
there can be no assurances that the IRS will allow the Holding Company to deduct
its contribution of Common Stock to the Foundation. In such event, the Holding
Company's tax benefit related to the contribution to the Foundation would be
expensed without tax benefit, resulting in a reduction in earnings in the year
in which the IRS makes such a determination. See "Risk Factors-Establishment of
the Foundation."
As a private foundation, earnings and gains, if any, from the sale of
Common Stock or other assets are generally exempt from federal and state
corporate income taxation. However, investment income, such as interest,
dividends and capital gains, of a private foundation will generally be subject
to a federal excise tax of 2.0%. The Foundation will be required to make an
annual filing with the IRS within four and one-half months after the close of
the Foundation's fiscal year to maintain its tax-exempt status. The Foundation
will be required to publish a notice that the annual information return will be
available for public inspection for a period of 180 days after the date of such
public notice. The information return for a private foundation must include,
among other things, an itemized list of all grants made or approved, showing the
amount of each grant, the recipient, any relationship between a grant recipient
and the Foundation's managers and a concise statement of the purpose of each
grant. The Foundation will also be required to file a bi-annual report with the
Secretary of State of Indiana.
Regulatory Conditions Imposed on the Foundation. We expect that, before
the OTS will approve the Conversion, it will require the Foundation to agree to
the following conditions: (i) the Foundation will be subject to examination by
the OTS; (ii) the Foundation must comply with supervisory directives imposed by
the OTS; (iii) the Foundation will operate in accordance with written policies
adopted by the Board of Directors, including a conflict of interest policy; and
(iv) any shares of Common Stock held by the Foundation must be voted in the same
ratio as all other outstanding shares of Common Stock on all proposals
considered by shareholders of the Holding Company; provided, however, that the
OTS would waive this voting restriction under certain circumstances if
compliance with the voting restriction would: (a) cause a violation of the laws
of the State of Indiana and the OTS determines that federal law would not
preempt the application of the laws of Indiana to the Foundation; (b) would
cause the Foundation to lose its tax-exempt status or otherwise have a material
and adverse tax consequence on the Foundation; or (c) would cause the Foundation
to be subject to an excise tax under Section 4941 of the Code. In order for the
OTS to waive such voting restriction, the Holding Company's or the Foundation's
legal counsel would be required to render an opinion satisfactory to the OTS.
There can be no assurances that a legal opinion addressing these issues could be
rendered, or if rendered, that the OTS would grant an unconditional waiver of
the voting restriction. In no event would the voting restriction survive the
sale of shares of the Common Stock held by the Foundation.
Various OTS regulations may be deemed to apply to the Foundation
including regulations regarding (i) transactions with affiliates, (ii) conflicts
of interest, (iii) capital distributions and (iv) repurchases of capital stock
within the three-year period subsequent to a mutual-to-stock conversion. Because
at least initially only three of the nine directors of the Holding Company and
Lincoln Federal are expected to serve as directors of the Foundation and,
following the Conversion the Foundation and those three directors will hold less
than 10% of the outstanding shares of the Holding Company's Common Stock, the
Holding Company and Lincoln Federal do not believe that the Foundation should be
deemed an affiliate of Lincoln Federal. The Holding Company and Lincoln Federal
anticipate that the Foundation's affairs will be conducted in a manner
consistent with the OTS' conflict of interest regulations and, in keeping
therewith, Lincoln Federal's Board of Directors readopted the Plan of Conversion
and approved the establishment of the Foundation with the three directors who
also serve on the Board of the Foundation not participating in such action.
Lincoln Federal has provided information to the OTS demonstrating that the
initial contribution of Common Stock to the Foundation would be within the
amount which Lincoln Federal would be permitted to make as a capital
distribution assuming such contribution is deemed to have been made by Lincoln
Federal.
Principal Effects of Conversion
General. Each savings depositor in a mutual savings bank such as
Lincoln Federal has both a savings account and a pro rata ownership in the net
worth of that institution, based upon the balance in his or her savings account.
This ownership interest has no tangible market value separate from the savings
account. Upon conversion to stock form, the ownership of our net worth will be
represented by the outstanding shares of stock to be owned by the Holding
Company. Certificates are issued to evidence ownership of the capital stock.
These stock certificates are transferable and, therefore, the shares may be
transferred with no effect on any account the seller may hold with us.
Continuity. While the Conversion is being accomplished, we will
continue without interruption our normal business of accepting deposits and
making loans. After the Conversion, we will continue to provide services for
account holders and borrowers under current policies carried on by our present
management and staff.
Our directors at the time of Conversion will continue to serve as our
directors after the Conversion until the expiration of their current terms, and
thereafter, if reelected. All of our executive officers at the time of
Conversion will retain their positions after the Conversion.
Effect on Deposit Accounts. Under the Plan, each of our depositors at
the time of the Conversion will automatically continue as a depositor after the
Conversion, and each deposit account will remain the same with respect to
deposit balance, interest rate and other terms. Each account will also continue
to be insured by the FDIC in exactly the same way as before. Depositors will
continue to hold their existing certificates, passbooks and other evidence of
their accounts.
Effect on Loans of Borrowers. None of our loans will be affected by the
Conversion. The amount, interest rate, maturity and security for each loan will
be unchanged.
Effect on Voting Rights of Members. Currently in our mutual form, our
depositor and certain borrower members have voting rights and may vote for the
election of directors. Following the Conversion, depositors and borrowers will
cease to have voting rights. All voting rights in Lincoln Federal will be vested
in the Holding Company as our sole shareholder. Voting rights in the Holding
Company will be vested exclusively in its shareholders, with one vote for each
share of Common Stock. Neither the Common Stock to be sold in the Conversion nor
the capital stock of Lincoln Federal will be insured by the FDIC or by any other
government entity.
Effect on Liquidation Rights. Current federal regulations and the Plan
of Conversion provide for the establishment of a "liquidation account" by us for
the benefit of our deposit account holders with balances of no less than $50.00
on June 30, 1997 ("Eligible Account Holders"), and our deposit account holders
with balances of no less than $50.00 on September 30, 1998 ("Supplemental
Eligible Account Holders"), who continue to maintain their accounts with us
after the Conversion. The liquidation account will be credited with our net
worth as reflected in the latest statement of financial condition in the final
prospectus used in the Conversion. Each Eligible Account Holder and Supplemental
Eligible Account Holder will, with respect to each deposit account held, have a
related inchoate interest in a portion of the balance of the liquidation
account. This inchoate interest is referred to in the Plan as a "subaccount
balance." In the event of a complete liquidation of us after the Conversion (and
only in such event), Eligible Account Holders and Supplemental Eligible Account
Holders would be entitled to a distribution from the liquidation account in an
amount equal to the then current adjusted subaccount balance then held, before
any liquidation distribution would be made to the Holding Company as our sole
shareholder. We believe that a liquidation of Lincoln Federal is unlikely.
Each Eligible Account Holder will have a subaccount balance in the
liquidation account for each deposit account held as of June 30, 1997 (the
"Eligibility Record Date"). Each Supplemental Eligible Account Holder will have
a subaccount balance in the liquidation account for each deposit account held as
of September 30, 1998 (the "Supplemental Eligibility Record Date"). Each initial
subaccount balance will be the amount determined by multiplying the total
opening balance in the liquidation account by a fraction, the numerator of which
is the amount of the qualifying deposit (a deposit of at least $50 as of June
30, 1997, or September 30, 1998, respectively) of such deposit account, and the
denominator of which is the total of all qualifying deposits on that date. If
the amount in the deposit account on any subsequent annual closing date of
Lincoln Federal is less than the balance in such deposit account on any other
annual closing date, or the balance in such account on the Eligibility Record
Date or the Supplemental Eligibility Record Date, as the case may be, this
interest in the liquidation account will be reduced by an amount proportionate
to any such reduction, and will not thereafter be increased despite any
subsequent increase in the related deposit account. An Eligible Account
Holder's, as well as a Supplemental Eligible Account Holder's, interest in the
liquidation account will cease to exist if the deposit account is closed. The
liquidation account will never increase and will be correspondingly reduced as
the interests in the liquidation account are reduced or cease to exist. In the
event of liquidation, any assets remaining after the above liquidation rights of
Eligible Account Holders and Supplemental Eligible Account Holders are satisfied
will be distributed to the Holding Company as our sole shareholder.
A merger, consolidation, sale of bulk assets, or similar combination or
transaction in which we are not the surviving entity would not be considered to
be a "liquidation" under which distribution of the liquidation account could be
made, provided the surviving institution is an FDIC-insured institution. In such
a transaction, the liquidation account would be assumed by the surviving
institution. The OTS has stated that the consummation of a transaction of the
type described in the preceding sentence in which the surviving entity is not an
FDIC-insured institution would be reviewed on a case-by-case basis to determine
whether the transaction should constitute a "complete liquidation" requiring
distribution of any then-remaining balance in the liquidation account.
The creation and maintenance of the liquidation account will not
restrict the use of or application of any of the net worth accounts, except that
we may not declare or pay a cash dividend on or repurchase our capital stock if
the effect of such dividend or repurchase would be to cause our net worth to be
reduced below the aggregate amount then required for the liquidation account.
Tax Effects. We intend to proceed with the Conversion on the basis of
an opinion from Barnes & Thornburg as to all tax matters that are material to
the Conversion. The opinion is based, among other things, on certain
representations made by us, including the representation that the exercise price
of the subscription rights to purchase the Common Stock will be approximately
equal to the fair market value of the stock at the time of the completion of the
Conversion. We have received an opinion of Keller which, based on certain
assumptions, concludes that the subscription rights to purchase the Common Stock
issued in the Conversion do not have any economic value at the time of
distribution or at the time the subscription rights are exercised, whether or
not a Community Offering takes place, and Barnes & Thornburg's opinion is given
in reliance thereon. Barnes & Thornburg's opinion provides substantially as
follows:
1. Our change in form from a mutual savings bank to a stock savings and
bank will qualify as a reorganization under Section 368(a)(1)(F) of the
Internal Revenue Code of 1986, as amended (the "Code"), and no gain or
loss will be recognized to us in either our mutual form or our stock
form by reason of the Conversion.
2. No gain or loss will be recognized by the converted savings bank upon
receipt of money from the Holding Company for the converted savings
bank's capital stock, and no gain or loss will be recognized by the
Holding Company upon the receipt of money for Common Stock of the
Holding Company.
3. The basis of the assets of the converted savings bank will be the same
as the basis in our hands prior to the Conversion.
4. The holding period of the assets of the converted savings bank will
include the period during which the assets were held by us in our
mutual form prior to Conversion.
5. No gain or loss will be realized by our deposit account holders or
borrowers, upon the constructive issuance to them of withdrawable
deposit accounts of the converted savings bank immediately after the
Conversion, interests in the liquidation account, and/or on the
distribution to them of nontransferable subscription rights to purchase
Common Stock.
6. The basis of an account holder's deposit accounts in the converted
savings bank after the Conversion will be the same as the basis of his
or her deposit accounts with us prior to the Conversion.
7. The basis of each account holder's interest in the liquidation account
will be zero. The basis of the non-transferable subscription rights
will be zero.
8. The basis of the Holding Company Common Stock to its shareholders will
be the actual purchase price ($10.00) thereof, and a shareholder's
holding period for Common Stock acquired through the exercise of
subscription rights will begin on the date on which the subscription
rights are exercised.
9. No taxable income will be realized by Eligible Account Holders,
Supplemental Eligible Account Holders or Other Members as a result of
the exercise of the nontransferable subscription rights.
10. The converted savings bank in its stock form will succeed to and take
into account our earnings and profits or deficit in earnings and
profits, in our mutual form, as of the date of Conversion.
The opinion also concludes in effect that:
1. No taxable income will be realized by us on the issuance of
subscription rights to eligible subscribers to purchase shares of
Common Stock at fair market value.
2. The converted savings bank will succeed to and take into account the
dollar amounts of those accounts of Lincoln Federal in its mutual form
which represent bad debt reserves in respect of which Lincoln Federal
in its mutual form has taken a bad debt deduction for taxable years on
or before the date of the transfer.
3. The creation of the liquidation account will have no effect on our
taxable income, deductions, or additions to bad debt reserves or
distributions to shareholders under Section 593 of the Code.
Barnes & Thornburg has also issued an opinion stating in essence that
the Conversion will not be a taxable transaction to the Holding Company or to us
under any Indiana tax statute imposing a tax on income, and that our depositors
and borrowers will be treated under such laws in a manner similar to the manner
in which they will be treated under federal income tax law.
The opinions of Barnes & Thornburg and Keller, unlike a letter ruling
issued by the Internal Revenue Service, are not binding on the Service and the
conclusions expressed herein may be challenged at a future date. The Service has
issued favorable rulings for transactions substantially similar to the proposed
Conversion, but any such ruling may not be cited as precedent by any taxpayer
other than the taxpayer to whom the ruling is addressed. We do not plan to apply
for a letter ruling concerning the transactions described herein.
<PAGE>
Offering of Common Stock
Under the Plan of Conversion, up to 5,895,000 shares of Common Stock
are being offered for sale, initially through the Subscription Offering (subject
to a possible increase to 6,809,250 shares). See "- Subscription Offering." The
Plan of Conversion requires, with certain exceptions, that a number of shares
equal to at least 4,305,000 be sold in order for the Conversion to be completed.
Shares may also be offered to the public in a Community Offering which is
expected to commence after the Subscription Offering terminates, but may begin
at any time during the Subscription Offering. The Community Offering may expire
no later than January 28, 1999, unless extended by us and the Holding Company.
The offering may be extended, subject to OTS approval, until 24 months following
the members' approval of the Plan of Conversion, or until December 21, 2000. The
actual number of shares to be sold in the Conversion will depend upon market and
financial conditions at the time of the Conversion, provided that no fewer than
4,305,000 shares or more than 6,809,250 shares will be sold in the Conversion.
The per share price to be paid by purchasers in the Community Offering, if any,
for any remaining shares will be $10.00, the same price paid by subscribers in
the Subscription Offering. See "--Stock Pricing."
The Subscription Offering expires at 12:00 noon, Plainfield time, on
December 14, 1998. OTS regulations and the Plan of Conversion require that we
complete the sale of Common Stock within 45 days after the close of the
Subscription Offering. This 45-day period expires on January 28, 1999. In the
event we are unable to complete the sale of Common Stock within this 45-day
period, we may request an extension of this time period from the OTS. No single
extension granted by the OTS, however, may exceed 90 days. No assurance can be
given that an extension would be granted if requested. The OTS has, however,
granted extensions due to the inability of mutual financial institutions to
complete a stock offering as a result of the development of adverse conditions
in the stock market. If an extension is granted, we will promptly notify
subscribers of the granting of the extension of time and will promptly return
subscriptions unless subscribers affirmatively elect to continue their
subscriptions during the period of extension. Such extensions may not be made
beyond December 21, 2000.
As permitted by OTS regulations, the Plan of Conversion provides that
if, for any reason, purchasers cannot be found for an insignificant residue of
unsubscribed shares of the Common Stock, our Board of Directors will seek to
make other arrangements for the sale of the remaining shares. Such other
arrangements will be subject to the approval of the OTS. If such other purchase
arrangements cannot be made, the Plan of Conversion will terminate. In the event
that the Conversion is not completed, we will remain a mutual savings bank, all
subscription funds will be promptly returned to subscribers with interest earned
thereon at our passbook rate, which is currently 2.72% per annum (except for
payments to have been made through withdrawal authorizations which will have
continued to earn interest at the contractual account rates), and all withdrawal
authorizations will be canceled.
Subscription Offering
In accordance with OTS regulations, nontransferable rights to subscribe
for the purchase of the Holding Company's Common Stock have been granted under
the Plan of Conversion to the following persons in the following order of
priority: (1) our Eligible Account Holders; (2) the ESOP; (3) our Supplemental
Eligible Account Holders; and (4) our members other than Eligible Account
Holders and Supplemental Eligible Account Holders, at the close of business on
October 31, 1998, the voting record date for the Special Meeting, including
holders of deposit accounts on October 31, 1998 and borrowers of Lincoln Federal
on June 19, 1984, who remain borrowers on October 31, 1998 ("Other Members").
All subscriptions received will be subject to the availability of Common Stock
after satisfaction of all subscriptions of all persons having prior rights in
the Subscription Offering, and to the maximum and minimum purchase limitations
set forth in the Plan of Conversion (and described below). The June 30, 1997,
date for determination of Eligible Account Holders and the September 30, 1998
date for determination of Supplemental Eligible Account Holders were selected in
accordance with federal regulations applicable to the Conversion.
Category I: Eligible Account Holders. Each Eligible Account Holder, in
his capacity as such (counting all persons on a single joint account as one
Eligible Account Holder), is permitted to subscribe for up to 25,000 shares of
the Holding Company's Common Stock, provided that each Eligible Account Holder
may not subscribe for more than 68,093 shares in the Conversion including shares
subscribed for by such person's Associates or persons acting in concert as a
group.
If sufficient shares are not available in this Category I, shares will
be allocated in a manner that will allow each Eligible Account Holder, to the
extent possible, to purchase a number of shares sufficient to make his or her
allocation consist of the lesser of 100 shares or the amount subscribed for.
Thereafter, unallocated shares will be allocated to subscribing Eligible Account
Holders in the proportion that the amounts of their respective qualifying
deposits bear to the total amount of qualifying deposits of all subscribing
Eligible Account Holders.
The "qualifying deposits" of an Eligible Account Holder is the amount
of the deposit balances (provided such aggregate balance is not less than
$50.00) in his or her deposit accounts, including demand deposit accounts, as of
the close of business on June 30, 1997. Subscription rights received by
directors and officers in this category based upon their increased deposits in
Lincoln Federal during the year preceding June 30, 1997, are subordinated to the
subscription rights of other Eligible Account Holders. Notwithstanding the
foregoing, shares of Common Stock with a value in excess of $58,950,000, the
maximum of the Estimated Valuation Range, may be sold to the ESOP before
satisfying the subscriptions of Eligible Account Holders.
Category II: The ESOP. The Holding Company's tax-qualified ESOP is
permitted to subscribe for up to 10% of the aggregate number of shares of the
Holding Company's Common Stock sold in the Conversion and issued to the
Foundation, provided that shares remain available after satisfying the
subscription rights of Eligible Account Holders for up to $58,950,000. The ESOP
intends to subscribe for a number of shares equal to 8% of the Holding Company's
Common Stock sold in the Conversion and issued to the Foundation. The ESOP's
right to purchase shares of Common Stock under this category shall be
subordinated to all rights received by the Eligible Account Holders to purchase
shares pursuant to Category I; provided, however, that notwithstanding any
provision of the Plan of Conversion to the contrary, the ESOP shall have a
priority right to purchase any such shares of Common Stock sold in the
Conversion exceeding the maximum of the Estimated Valuation Range. If the ESOP
is unable to purchase all or part of the shares of Common Stock for which it
subscribes, the ESOP may purchase such shares on the open market or may purchase
authorized but unissued shares of the Holding Company. Any purchase by the ESOP
of authorized but unissued shares could dilute the interests of the Holding
Company's shareholders.
Category III: Supplemental Eligible Account Holders. Each Supplemental
Eligible Account Holder, in his capacity as such (counting all persons on a
single joint account as one Supplemental Eligible Account Holder), is permitted
to subscribe for up to 25,000 shares of the Holding Company's Common Stock,
provided that each Supplemental Account Holder may not subscribe for more than
68,093 shares in the Conversion including shares subscribed for by such person's
Associates or person acting in concert as a group, to the extent that shares of
the Holding Company's Common Stock remain available for purchase after
satisfaction of the subscription rights of all Eligible Account Holders and the
ESOP. Any subscription rights received by a person as a result of his or her
status as an Eligible Account Holder will reduce to the extent thereof the
subscription rights granted to such person as a result of his or her status as a
Supplemental Eligible Account Holder.
If sufficient shares are not available in this Category III, shares
will be allocated in a manner that will allow each Supplemental Eligible Account
Holder, to the extent possible, to purchase a number of shares sufficient to
make his or her allocation consist of the lesser of 100 shares or the amount
subscribed for. Thereafter, unallocated shares will be allocated to subscribing
Supplemental Eligible Account Holders in the proportion that the amounts of
their respective qualifying deposits bear to the total amount of qualifying
deposits of all subscribing Supplemental Eligible Account Holders.
The "qualifying deposits" of a Supplemental Eligible Account Holder is
the amount of the deposit balances (provided such aggregate balance is not less
than $50) in his or her deposit accounts, including demand deposit accounts, as
of the close of business on September 30, 1998.
Category IV: Other Members. Each savings account holder, other than an
Eligible Account Holder or a Supplemental Eligible Account Holder, who is
entitled to vote at the Special Meeting due to the existence of a savings
account on October 31, 1998, and each borrower as of June 19, 1984 who remains a
borrower on October 31, 1998 (an "Other Member"), in his capacity as such
(counting all persons on a single joint account as one Other Member), is
permitted to subscribe for up to 25,000 shares of the Holding Company's Common
Stock, provided that each Other Member may not subscribe for more than 68,093
shares in the Conversion, including shares subscribed for by such person's
Associates or persons acting in concert as a group, to the extent that shares
remain available for purchase after satisfaction of the subscription rights of
all Eligible Account Holders, the ESOP and all Supplemental Eligible Account
Holders.
If sufficient shares are not available in this Category IV, shares will
be allocated pro rata among subscribing Other Members in the same proportion
that the number of shares subscribed for by each Other Member bears to the total
number of shares subscribed for by all Other Members.
Timing of Offering and Method of Payment. The Subscription Offering
will expire at 12:00 noon, Plainfield time, on December 14, 1998 (the
"Expiration Date"). The Expiration Date may be extended by Lincoln Federal and
the Holding Company for successive 90-day periods, subject to OTS approval, to
December 21, 2000.
Subscribers must, before the Expiration Date, or such date to which the
Expiration Date may be extended, return an original Order Form to us, properly
completed, together with checks or money orders in an amount equal to the
Purchase Price ($10.00 per share) multiplied by the number of shares for which
subscription is made. Payment for stock purchases can also be accomplished
through authorization on the original Order Form of withdrawals from accounts
with us (including a certificate of deposit, but excluding IRA accounts). Funds
must actually be in the account when an order for the purchase of Common Stock
is submitted. We have the right to reject any orders transmitted by facsimile or
on copies of Order Forms and any payments made by wire transfer. The
beneficiaries of IRA accounts are deemed to have the same subscription rights as
other depositors. However, the IRA accounts maintained with us do not permit
investment in the Common Stock. A depositor interested in using his or her IRA
funds to purchase Common Stock must do so through a self-directed IRA account.
Since we do not offer such accounts, we will allow such a depositor to make a
trustee-to-trustee transfer of the IRA funds on deposit with us that he wishes
to invest. There will be no early withdrawal or IRS interest penalties for such
transfers. The new trustee would hold the Common Stock in a self-directed
account in the same manner that we now hold the depositor's IRA funds. An annual
administrative fee would be payable to the new trustee.
Depositors interested in using funds in a Lincoln Federal IRA to
purchase Common Stock should contact us at (317) 837-5036 as soon as possible so
that the necessary forms may be forwarded for execution and returned prior to
the Expiration Date of the Subscription Offering.
In the event an Order Form (i) is not delivered and is returned to us
by the United States Postal Service or we are unable to locate the addressee,
(ii) is not received or is received after the Expiration Date, (iii) is
defectively completed or executed, or (iv) is not accompanied by full payment
for the shares subscribed for (including instances where a savings account or
certificate balance from which withdrawal is authorized is insufficient to fund
the amount of such required payment), the subscription rights for the person to
whom such rights have been granted will lapse as though that person failed to
return the completed Order Form within the time period specified. We may, but
will not be required to, waive any irregularity on any Order Form within the
time period specified. We may, but will not be required to, waive any
irregularity on any Order Form or require the submission of corrected Order
Forms or the remittance of full payment for subscribed shares by such date as we
specify. The waiver of an irregularity on an Order Form in no way obligates us
to waive any other irregularity on that, or any irregularity on any other, Order
Form. Waivers will be considered on a case by case basis. Photocopies of Order
Forms, payments from private third parties, or electronic transfers of funds
will not be accepted. Our interpretation of the terms and conditions of the Plan
and of the acceptability of the Order Forms will be final. We have the right to
investigate any irregularity on any Order Form.
To ensure that each purchaser receives a prospectus at least 48 hours
before the Expiration Date in accordance with Rule 15c2-8 of the Securities
Exchange Act of 1934, as amended (the "1934 Act"), no prospectus will be mailed
any later than five days prior to such date or hand delivered any later than two
days prior to such date. Execution of the Order Form will confirm receipt or
delivery in accordance with Rule 15c2-8. Order Forms will only be distributed
with a prospectus.
Until completion or termination of the Conversion, subscribers who
elect to make payment through authorization of withdrawal from accounts with us
will not be permitted to reduce the deposit balance in any such accounts below
the amount required to purchase the shares for which they subscribed. In such
cases interest will continue to be credited on deposits authorized for
withdrawal until the completion of the Conversion. Interest at the passbook
rate, which is currently 2.72% per annum will be paid on amounts submitted by
check. Authorized withdrawals from certificate accounts for the purchase of
Common Stock will be permitted without the imposition of early withdrawal
penalties or loss of interest. However, withdrawals from certificate accounts
that reduce the balance of such accounts below the required minimum for specific
interest rate qualification will cause the cancellation of the certificate
accounts at the effective date of the Conversion, and the remaining balance will
earn interest at the passbook savings rate. Stock subscriptions received and
accepted by us are final and may not be revoked by the purchaser. Subscriptions
may be withdrawn only in the event that we extend the Expiration Date of the
Subscription Offering as described above.
Members in Non-Qualified States or Foreign Countries. We will make
reasonable efforts to comply with the securities laws of all states in the
United States in which persons entitled to subscribe for stock pursuant to the
Plan reside. However, no person will be offered or sold or receive any stock
pursuant to the Subscription Offering if such person resides in a foreign
country or resides in a state in the United States with respect to which all of
the following apply: (i) a small number of persons otherwise eligible to
subscribe for shares of Common Stock reside in such state; (ii) the granting of
subscription rights or the offer or sale of Common Stock to such persons would
require us or the Holding Company or our respective officers and directors,
under the securities laws of such state, to register as a broker, dealer,
salesman or selling agent, or to register or otherwise qualify the Common Stock
for sale in such state; and (iii) such registration, qualification or filing in
our judgment or in the judgment of the Holding Company would be impracticable or
unduly burdensome for reasons of cost or otherwise.
To assist in the Subscription Offering and the Community Offering, if
any, the Holding Company has established a Stock Information Center that you may
contact at (317) 837-5036. Callers to the Stock Information Center will be able
to request a Prospectus and other information relating to the offering.
Community Offering
To the extent shares remain available for purchase after filling all
orders received in the Subscription Offering, we may offer shares of the Common
Stock in a Community Offering to the general public, with preference given to
residents of Hendricks, Montgomery and Clinton Counties, Indiana, the counties
in which our banking offices are located. The right of any person to purchase
shares in the Community Offering is subject to our right to accept or reject
such purchase in whole or in part.
The Community Offering may expire no later than January 28, 1999,
unless extended by us and the Holding Company. Persons wishing to purchase stock
in the Community Offering, if conducted, should return the Order Form to us,
properly completed, together with a check or money order in the amount equal to
the Purchase Price ($10.00 per share) multiplied by the number of shares which
that person desires to purchase. However, as noted above, we may terminate the
Community Offering as soon as we receive orders for at least the minimum number
of shares available for purchase in the Conversion.
The maximum number of shares of Common Stock which may be purchased in the
Community Offering by any person (including such person's Associates) or persons
acting in concert is 25,000 in the aggregate. A member who, together with his
Associates and persons acting in concert, has subscribed for shares in the
Subscription Offering may subscribe for a number of additional shares in the
Community Offering that does not exceed the lesser of (i) 25,000 shares or (ii)
the number of shares which, when added to the number of shares subscribed for by
the member (and his Associates and persons acting in concert) in the
Subscription Offering, would not exceed 68,093. We reserve the right to reject
any orders received in the Community Offering in whole or in part.
If all the Holding Company Common Stock offered in the Subscription
Offering is subscribed for, no Holding Company Common Stock will be available
for purchase in the Community Offering. Purchase orders received during the
Community Offering will be filled up to a maximum of 2% of the total number of
shares of Common Stock issued in the Conversion, with any remaining unfilled
purchase orders to be allocated on an equal number of shares basis. If the
Community Offering extends beyond 45 days following the expiration of the
Subscription Offering, subscribers will have the right to increase, decrease or
rescind subscriptions for stock previously submitted. All sales of Holding
Company Common Stock in the Community Offering will be at the same price per
share as the sales of Holding Company Common Stock in the Subscription Offering.
Cash and checks received in the Community Offering will be placed in a
special savings account with us, and will earn interest at the passbook rate,
which is currently 2.72% per annum from the date of deposit until completion or
termination of the Conversion. In the event that the Conversion is not
consummated for any reason, all funds submitted pursuant to the Community
Offering will be promptly refunded with interest as described above.
Delivery of Certificates
Certificates representing shares issued in the Subscription Offering
and in the Community Offering, if any, pursuant to Order Forms will be mailed to
the persons entitled to them at the addresses of such persons specified in
properly completed Order Forms as soon as practicable following consummation of
the Conversion. Any certificates returned as undeliverable will be held by the
Holding Company until claimed by the person legally entitled to them or
otherwise disposed of in accordance with applicable law.
Marketing Arrangements
To assist us and the Holding Company in marketing the Common Stock, we
have retained the services of Webb, which is a division of Keefe, Bruyette, as
our financial advisor. Keefe, Bruyette is a broker-dealer registered with the
Securities and Exchange Commission (the "SEC") and a member of the National
Association of Securities Dealers, Inc. (the "NASD"). Webb will assist us in the
Conversion as follows: (1) in training and educating our employees regarding the
mechanics and regulatory requirements of the conversion process; (2) in managing
the Stock Information Center by assisting stock subscribers and keeping records
of all stock subscriptions; (3) in preparing marketing materials; (4) in
obtaining proxies from our members with respect to the Special Meeting; and (5)
in assisting with the Community Offering. For providing these services, we have
agreed to pay Webb a management fee of $25,000 and a success fee based on the
aggregate dollar amount of shares of Common Stock sold in the Conversion other
than shares sold to executive officers, directors and employees (or members of
their immediate families) or to the ESOP or the Foundation. The success fee will
be calculated based upon 1.15% of the Common Stock sold to residents of Indiana,
plus .75% of the Common Stock sold to non-residents of Indiana. The management
fee will be applied against the success fee. Webb will not seek reimbursement
for out-of-pocket expenses, but will be reimbursed for legal fees, not to exceed
$40,000, and expenses of counsel. Offers and sales in the Subscription Offering
and the Community Offering will be on a best efforts basis and, as a result,
Webb is not obligated to purchase any shares of the Common Stock. Keefe,
Bruyette intends to make a market in the Common Stock, although it is under no
obligation to do so.
We have also agreed to indemnify Webb, under certain circumstances,
against liabilities and expenses (including legal fees) arising out of Webb's
engagement by us, including liabilities under the Securitities Act of 1933 (the
"1933 Act").
Selected Dealers
With the prior approval of Lincoln Federal, Webb may enter into an
agreement with certain dealers chosen by Lincoln Federal and Webb (together, the
"Selected Dealers") to assist in the sale of shares in the Community Offering.
Selected Dealers will receive commissions at an agreed upon rate, not to exceed
5.5%, for all shares sold by such Selected Dealers. During the Community
Offering, Selected Dealers may only solicit indications of interest from their
customers to place orders with us as of a certain date (the "Order Date") for
the purchase of shares of Common Stock. When and if the Holding Company, Lincoln
Federal and Webb believe that enough indications of interest and orders have
been received in the Subscription Offering and the Community Offering, if any,
to consummate the Conversion, Webb will request, as of the Order Date, Selected
Dealers to submit orders to purchase shares for which they have previously
received indications of interest from the customers. Selected Dealers will send
confirmations of the orders to such customers on the next business day after the
Order Date. Selected Dealers will debit the accounts of their customers on the
date which will be three business days from the Order Date (the "Settlement
Date"). On the Settlement Date, funds received by Selected Dealers will be
remitted to us. It is anticipated that the Conversion will be consummated on the
Settlement Date. However, if consummation is delayed after payment has been
received by us from Selected Dealers, funds will earn interest at the passbook
rate, which is currently 2.72% per annum, until the completion of the offering.
Funds will be returned promptly in the event the Conversion is not consummated.
Limitations on Common Stock Purchases
The Plan includes a number of limitations on the number of shares of
Common Stock which may be purchased during the Conversion. These are summarized
below:
(1) No fewer than 25 shares may be purchased by any person purchasing
shares of Common Stock in the Conversion (provided that sufficient
shares are available).
(2) No Eligible Account Holder, Supplemental Eligible Account Holder or
Other Member, in his capacity as such (including all persons on a
single joint account as one member), may subscribe for more than 25,000
shares. Notwithstanding the foregoing, the maximum number of shares of
Common Stock which may be purchased in the Conversion by any Eligible
Account Holder, Supplemental Eligible Account Holder or Other Member
(including such person's Associates or group acting in concert and
counting all persons on a single joint account as one member) shall be
68,093 shares in the aggregate, except that the ESOP may purchase in
the aggregate not more than 10% of the total number of shares offered
in the Conversion. The maximum number of shares of Common Stock which
may be purchased in the Community Offering, if any, by any person
(including such person's Associates or persons acting in concert) is
25,000 in the aggregate. A member who, together with his Associates and
persons acting in concert, has subscribed for shares in the
Subscription Offering may subscribe for a number of additional shares
in the Community Offering that does not exceed the lesser of (i) 25,000
shares or (ii) the number of shares which, when added to the number of
shares subscribed for by the member (and his Associates and persons
acting in concert) in the Subscription Offering (including all persons
on a joint account), would not exceed 68,093. The ESOP expects to
purchase a number of shares equal to 8% of the total number of shares
sold in the Conversion and issued to the Foundation. Lincoln Federal's
and the Holding Company's Boards of Directors may, however, in their
sole discretion, increase the maximum purchase limitation set forth
above up to 9.99% of the shares of Common Stock sold in the Conversion,
provided that orders for shares exceeding 5% of the shares of Common
Stock sold in the Conversion may not exceed, in the aggregate, 10% of
the shares sold in the Conversion. The maximum purchase limitation
likely would be increased only if an insufficient number of
subscriptions is received to sell the number of shares of Common Stock
at the minimum of the Estimated Valuation Range. If the Boards of
Directors decide to increase the purchase limitation, all persons who
subscribe for shares of Common Stock offered in the Conversion will be
given the opportunity to increase their subscriptions accordingly,
subject to the rights and preferences of any person who has priority
subscription rights. Subscribers will be notified in writing delivered
to the address indicated on their respective Stock Order Forms. The
overall purchase limitation may be reduced in the sole discretion of
the Boards of Directors of the Holding Company and Lincoln Federal.
(3) No more than 34.0% of the shares of Common Stock may be purchased
in the Conversion by directors and officers of Lincoln Federal and the
Holding Company and their Associates. This restriction does not apply
to shares purchased by the ESOP.
OTS regulations define "acting in concert" as (i) knowing participation
in a joint activity or interdependent conscious parallel action towards a common
goal whether or not pursuant to an express agreement, or (ii) a combination or
pooling of voting or other interests in the securities of an issuer for a common
purpose pursuant to any contract, understanding, relationship, agreement or
other arrangement, whether written or otherwise. The Holding Company and Lincoln
Federal may presume that certain persons are acting in concert based upon, among
other things, joint account relationships or the fact that such persons have
filed joint Schedules 13D with the SEC with respect to other companies.
The term "Associate" of a person is defined to mean (i) any corporation
or organization (other than Lincoln Federal or its subsidiary or the Holding
Company) of which such person is a director, officer, partner or 10%
shareholder; (ii) any trust or other estate in which such person has a
substantial beneficial interest or serves as trustee or in a similar fiduciary
capacity; provided, however that such term shall not include any employee stock
benefit plan of the Holding Company or Lincoln Federal in which such a person
has a substantial beneficial interest or serves as a trustee or in a similar
fiduciary capacity, and (iii) any relative or spouse of such person, or relative
of such spouse, who either has the same home as such person or who is a director
or officer of Lincoln Federal or its subsidiary or the Holding Company.
Directors are not treated as Associates of one another solely because of their
board membership. Compliance with the foregoing limitations does not necessarily
constitute compliance with other regulatory restrictions on acquisitions of the
Common Stock. For a further discussion of limitations on purchases of the Common
Stock during and subsequent to the Conversion, see "- Restrictions on Sale of
Stock by Directors and Officers," "- Restrictions on Purchase of Stock by
Directors and Officers Following Conversion," and "Restrictions on Acquisition
of the Holding Company."
Restrictions on Repurchase of Stock by the Holding Company
Repurchases of its shares by the Holding Company will be restricted for
a period of three years from the date of the Conversion. OTS regulations
currently prohibit the Holding Company from repurchasing any of its shares
within one (1) year following the Conversion except in exceptional
circumstances. So long as we continue to meet certain capitalization
requirements, the Holding Company may repurchase shares in an open-market
repurchase program (which cannot exceed 5% of its outstanding shares in a
twelve-month period except in exceptional circumstances) during the second and
third year following the Conversion by giving appropriate prior notice to the
OTS. The OTS has authority to waive these restrictions under certain
circumstances. Unless repurchases are permitted under the foregoing regulations,
the Holding Company may not, for a period of three years from the date of the
Conversion, repurchase any of its capital stock from any person, except in the
event of an offer to purchase by the Holding Company on a pro rata basis from
all of its shareholders which is approved in advance by the OTS, except in
exceptional circumstances established to the satisfaction of the OTS, or except
for purchases of shares required to fund the RRP. The Holding Company may use
some of the net proceeds received from the sale of the Common Stock offered by
this Prospectus to repurchase such Common Stock, subject to OTS requirements.
Under Indiana law, the Holding Company will be precluded from
repurchasing its equity securities if, after giving effect to such repurchase,
the Holding Company would be unable to pay its debts as they become due or the
Holding Company's assets would be less than its liabilities and obligations to
preferential shareholders.
Restrictions on Sale of Stock by Directors and Officers
All shares of the Common Stock purchased by directors and officers of
Lincoln Federal or the Holding Company in the Conversion will be subject to the
restriction that such shares may not be sold or otherwise disposed of for value
for a period of one year following the date of purchase, except for any
disposition of such shares (i) following the death of the original purchaser or
(ii) by reason of an exchange of securities in connection with a merger or
acquisition approved by the applicable regulatory authorities. Sales of shares
of the Common Stock by the Holding Company's directors and officers will also be
subject to certain insider trading and other transfer restrictions under the
federal securities laws. See "Regulation - Federal Securities Laws" and
"Description of Capital Stock."
Each certificate for such restricted shares will bear a legend
prominently stamped on its face giving notice of the restrictions on transfer,
and instructions will be issued to the Holding Company's transfer agent to the
effect that any transfer within such time period of any certificate or record
ownership of such shares other than as provided above is a violation of the
restriction. Any shares of Common Stock issued pursuant to a stock dividend,
stock split or otherwise with respect to restricted shares will be subject to
the same restrictions on sale.
Restrictions on Purchase of Stock by Directors and Officers Following Conversion
OTS regulations provide that for a period of three years following the
Conversion, without prior written approval of the OTS, neither directors nor
officers of Lincoln Federal or the Holding Company nor their Associates may
purchase shares of the Common Stock of the Holding Company, except from a dealer
registered with the SEC. This restriction does not, however, apply to negotiated
transactions involving more than one percent of the Holding Company's
outstanding Common Stock, to shares purchased pursuant to stock option or other
incentive stock plans approved by the Holding Company's shareholders, or to
shares purchased by employee benefit plans maintained by the Holding Company
which may be attributable to individual officers or directors.
Restrictions on Transfer of Subscription Rights and Common Stock
Prior to the completion of the Conversion, OTS regulations and the Plan
of Conversion prohibit any person with subscription rights, including our
Eligible Account Holders, Supplemental Eligible Account Holders and Other
Members, from transferring or entering into any agreement or understanding to
transfer the legal or beneficial ownership of the subscription rights issued
under the Plan or the shares of Common Stock to be issued upon their exercise.
Such rights may be exercised only by the person to whom they are granted and
only for his or her account. Each person exercising such subscription rights
will be required to certify that he or she is purchasing shares solely for his
or her own account and that he or she has no agreement or understanding
regarding the sale or transfer of such shares. The regulations also prohibit any
person from offering or making an announcement of an offer or intent to make an
offer to purchase such subscription rights or shares of Common Stock prior to
the completion of the Conversion. We intend to pursue any and all legal and
equitable remedies in the event we become aware of the transfer of subscription
rights and will not honor orders known by us to involve the transfer of such
rights. In addition, persons who violate the purchase limitations may be subject
to sanctions and penalties imposed by the OTS.
Stock Pricing
The aggregate purchase price of the Holding Company Common Stock being
sold in the Conversion will be based on the appraised aggregate pro forma market
value of the Common Stock, as determined by an independent valuation. We
retained Keller, which is experienced in the valuation and appraisal of
financial institutions, including savings associations involved in the
conversion process, to prepare an appraisal. Keller will receive a fee of
$25,000 for its appraisal, plus out-of-pocket expenses up to $1,000. Keller has
also prepared a business plan for us for a fee of $6,000, plus out-of-pocket
expenses. We have agreed to indemnify Keller, under certain circumstances,
against liabilities and expenses (including legal fees) arising out of Keller's
engagement by us.
Keller has prepared an appraisal that establishes the Estimated
Valuation Range of the estimated pro forma market value of the Common Stock, as
of August 14, 1998, and as updated as of October 23, 1998, from a minimum of
$43,050,000 to a maximum of $58,950,000, with a midpoint of $51,000,000. This
appraisal assumes that the Holding Company issues 200,000 shares of Common Stock
to the Foundation. A copy of the appraisal is on file and available for
inspection at the offices of the OTS, 1700 G Street, N.W., Washington, D.C.
20552 and the Central Regional Office of the OTS, 200 West Madison, Suite 1300,
Chicago, Illinois 60606. The appraisal has also been filed as an exhibit to the
Holding Company's Registration Statement with the SEC, and may be reviewed at
the SEC's public reference facilities. See "Additional Information." The
appraisal involved a comparative evaluation of our operating and financial
statistics with those of other financial institutions. The appraisal also took
into account such other factors as the market for savings associations
generally, prevailing economic conditions, both nationally and in Indiana, which
affect the operations of savings associations, the competitive environment
within which we operate, and the effect of our becoming a subsidiary of the
Holding Company. No detailed individual analysis of the separate components of
Lincoln Federal's and the Holding Company's assets and liabilities was performed
in connection with the evaluation. The Board of Directors reviewed with
management Keller's methods and assumptions and accepted Keller's appraisal as
reasonable and adequate. The Holding Company, in consultation with Webb, has
determined to offer the Common Stock in the Conversion at a price of $10.00 per
share. The Holding Company's decision regarding the Purchase Price was based
solely on its determination that $10.00 per share is a customary purchase price
in conversion transactions. The Estimated Valuation Range may be increased or
decreased to reflect market and financial conditions prior to the completion of
the Conversion.
Promptly after the completion of the Subscription Offering and the
Community Offering, if any, Keller will confirm to us that, to the best of
Keller's knowledge and judgment, nothing of a material nature has occurred which
would cause Keller to conclude that the amount of the aggregate proceeds
received from the sale of the Common Stock in the Conversion was incompatible
with its estimate of our total pro forma market value at the time of the sale.
If, however, the facts do not justify such a statement, a new Estimated
Valuation Range and price per share may be set. Under such circumstances, the
Holding Company will be required to resolicit subscriptions. In that event,
subscribers would have the right to modify or rescind their subscriptions and to
have their subscription funds returned promptly with interest and holds on funds
authorized for withdrawal from deposit accounts would be released or reduced;
provided that if our pro forma market value upon Conversion, excluding the
contribution of 200,000 shares to the Foundation, has increased to an amount
which does not exceed $68,092,500 (15% above the maximum of the Estimated
Valuation Range, excluding the contribution of 200,000 shares to the Foundation)
the Holding Company and Lincoln Federal do not intend to resolicit subscriptions
unless it is determined after consultation with the OTS that a resolicitation is
required.
Depending upon market and financial conditions, the number of shares
issued may be more or less than the range in number of shares shown above. A
change in the number of shares to be issued in the Conversion will not affect
subscription rights. In the event of an increase in the maximum number of shares
being offered, persons who exercise their maximum subscription rights will be
notified of such increase and of their right to purchase additional shares.
Conversely, in the event of a decrease in the maximum number of shares being
offered, persons who exercise their maximum subscription rights will be notified
of such decrease and of the accompanying reduction in the number of shares for
which subscriptions may be made. In the event of a resolicitation, subscribers
will be afforded the opportunity to increase, decrease or maintain their
previously submitted order. The Holding Company will be required to resolicit if
the price per share is changed such that the total aggregate purchase price is
not within the minimum and 15% above the maximum of the Estimated Valuation
Range.
THE INDEPENDENT VALUATION IS NOT INTENDED AND MUST NOT BE CONSTRUED AS
A RECOMMENDATION OF ANY KIND AS TO THE ADVISABILITY OF VOTING TO APPROVE THE
CONVERSION OR OF PURCHASING THE SHARES OF THE COMMON STOCK. MOREOVER, BECAUSE
SUCH VALUATION IS NECESSARILY BASED UPON ESTIMATES AND PROJECTIONS OF A NUMBER
OF MATTERS (INCLUDING CERTAIN ASSUMPTIONS AS TO THE AMOUNT OF NET PROCEEDS AND
THE EARNINGS THEREON), ALL OF WHICH ARE SUBJECT TO CHANGE FROM TIME TO TIME, NO
ASSURANCE CAN BE GIVEN THAT PERSONS PURCHASING SHARES IN THE CONVERSION WILL
THEREAFTER BE ABLE TO SELL THE SHARES AT PRICES RELATED TO THE FOREGOING
VALUATION OF THE PRO FORMA MARKET VALUE.
Number of Shares to be Issued
It is anticipated that the total offering of Common Stock (the number
of shares of Common Stock issued in the Conversion multiplied by the Purchase
Price of $10.00 per share) will be within the current minimum and 15% above the
maximum of the Estimated Valuation Range. Unless otherwise required by the OTS,
no resolicitation of subscribers will be made and subscribers will not be
permitted to modify or cancel their subscriptions so long as the change in the
number of shares to be issued in the Conversion, in combination with the
Purchase Price, results in an offering within the minimum and 15% above the
maximum of the Estimated Valuation Range.
An increase in the total number of shares of Common Stock to be issued
in the Conversion would decrease both a subscriber's ownership interest and the
Holding Company's pro forma net worth and net income on a per share basis while
increasing (assuming no change in the per share price) pro forma net income and
net worth on an aggregate basis. A decrease in the number of shares to be issued
in the Conversion would increase both a subscriber's ownership interest and the
Holding Company's pro forma net worth and net income on a per share basis while
decreasing (assuming no change in the per share price) pro forma net income and
net worth on an aggregate basis. For a presentation of the effects of such
changes, see "Pro Forma Data."
Interpretation and Amendment of the Plan
To the extent permitted by law, all interpretations of the Plan by
Lincoln Federal and the Holding Company will be final. The Plan provides that,
if deemed necessary or desirable by the Boards of Directors of the Holding
Company and Lincoln Federal, the Plan may be substantively amended by the Boards
of Directors, as a result of comments from regulatory authorities or otherwise,
with the concurrence of the OTS. Moreover, if the Plan of Conversion is so
amended, subscriptions which have been received prior to such amendment will not
be refunded unless otherwise required by the OTS.
Conditions and Termination
Completion of the Conversion requires the approval of the Plan by the
affirmative vote of not less than a majority of the total number of votes of
members eligible to be cast at the Special Meeting and the sale of all shares of
the Common Stock within 24 months following approval of the Plan by the members.
If these conditions are not satisfied, the Plan will be terminated and we will
continue business in the mutual form of organization. The Plan may be terminated
by the Boards of Directors of Lincoln Federal and the Holding Company at any
time prior to the Special Meeting and, with the approval of the OTS, by such
Boards of Directors at any time thereafter. Furthermore, OTS regulations and the
Plan of Conversion require that the Holding Company complete the sale of Common
Stock within 45 days after the close of the Subscription Offering. The OTS may
grant an extension of this time period if necessary, but no assurance can be
given that an extension would be granted. See "- Offering of Common Stock."
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OF LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
General
Lincoln Bancorp was formed as an Indiana corporation on September 10,
1998 for the purpose of issuing the Common Stock and owning all of the capital
stock of Lincoln Federal issued in the Conversion. As a newly formed
corporation, the Holding Company has no operating history. All information in
this section should be read in conjunction with the consolidated financial
statements and notes thereto included within this document.
Lincoln Federal's principal business has historically consisted of
attracting deposits from the general public and making loans secured by
residential real estate. Our earnings primarily depend upon net interest income,
which is the difference between our interest income and interest expense.
Interest income is a function of the balances of loans and investments
outstanding during a given period and the yield earned on such loans and
investments. Interest expense is a function of the amount of deposits and
borrowings outstanding during the same period and interest rates paid on such
deposits and borrowings. Our earnings are also affected by provisions for loan
losses, service charges, operating expenses and income taxes.
We are also affected by prevailing economic conditions, as well as
government policies and regulations concerning, among other things, monetary and
fiscal affairs, housing and financial institutions. See "Regulation." Deposit
flows are influenced by a number of factors, including interest rates paid on
competing investments, account maturities and levels of personal income and
savings within our market. In addition, deposit growth is affected by how
customers perceive the stability of the financial services industry amid various
current events such as regulatory changes, failures of other financial
institutions and financing of the deposit insurance fund. Lending activities are
influenced by the demand for and supply of housing lenders, the availability and
cost of funds and various other items. Sources of funds for our lending
activities include deposits, payments on loans, borrowings and income provided
from operations.
Current Business Strategy
Our business strategy is to continue to operate a well-capitalized,
profitable and independent community savings bank dedicated primarily to
residential lending with an emphasis on personal service, and to provide a full
range of financial services to our customers. We have sought to implement this
strategy by (i) emphasizing the origination of one- to four-family residential
mortgage loans in our market area, (ii) seeking to increase the percentage of
higher-yielding commercial and consumer loans, (iii) purchasing investment
securities and loan participations, (iv) maintaining levels of capital well in
excess of regulatory requirements, and (v) improving asset quality.
The highlights of our business strategy are as follows:
o Profitability. Although no assurance can be made regarding
future profitability, we have been profitable in each of the
past five fiscal years. We had net income of $3.5 million in
fiscal 1997, $3.0 million in fiscal 1996, and $3.4 million in
fiscal 1995. Our net income for the six months ended June 30,
1998, was $817,000. Our average return on average assets for
the five years ended December 31, 1997, was 1.28%. Our returns
on average assets for the year ended December 31, 1997, and
the six months ended June 30, 1998 (on an annualized basis)
were 1.02% and .53%, respectively. This reduction in income
during the six-month period ended June 30, 1998 is largely
attributable to measures we took to restructure our balance
sheet, including the securitization of certain adjustable-rate
and low-yielding fixed-rate residential loans, and the sale of
certain residential loans in our portfolio.
o Origination of One- to Four-Family Residential Loans. Our
primary lending activity is the origination of one- to
four-family residential loans secured by property in our
primary market area. As of June 30, 1998, approximately 85% of
the loans in this category in our portfolio were secured by
property located in Hendricks, Montgomery and Clinton
Counties.
o Commercial Real Estate and Consumer Loans. We intend to
continue our recent emphasis on making higher-yielding
commercial real estate and consumer loans. We intend that the
higher yields that we earn on these types of loans will at
least partially offset the decline in interest income we have
experienced following the securitization and sale of certain
one- to four-family residential loans in our portfolio. From
December 31, 1995 to June 30, 1998, the percentage of consumer
loans in our portfolio has increased from 3.8% to 10.8% of our
gross loans receivable. The percentage of commercial real
estate loans has increased from 5.3% to 7.0% of gross loans
receivable over the same period as the result of the decrease
of the size of our overall loan portfolio. This increase in
consumer loans is largely attributable to a marketing campaign
designed to encourage our existing customers to apply for home
equity loans or lines of credit with us.
o Capital Position. At June 30, 1998, we exceeded all of our
regulatory capital requirements, and our equity capital was
$42.8 million, or 14.1% of total assets. Assuming net proceeds
at the midpoint of the Estimated Valuation Range, our pro
forma equity to assets ratio (excluding $24.9 million of net
proceeds to be retained by the Holding Company) at such date
would have been 19.1%. Assuming net proceeds at the minimum,
maximum and 15% above the maximum of the Estimated Valuation
Range, our pro forma equity to assets ratio (excluding the
proceeds to be retained by the Holding Company) at such date
would have been 18.4%, 19.1% and 19.9%, respectively. This
increase in our equity capital, along with the likely increase
in our expenses following the Conversion, will likely cause
our return on equity to decline, which could adversely affect
the trading price of the shares of Common Stock.
o Asset Quality. Following the Conversion, we intend to take
further measures to improve the quality of our assets.
Historically, our underwriting criteria for one- to
four-family residential loans focused heavily on the value of
the collateral securing the loan. We are currently revising
our lending policies to emphasize factors such as the income,
debt-to-income ratio, stability of earnings and past credit
history of a potential borrower in making credit decisions. We
have also recently established uniform underwriting criteria
to be used by each of our branch offices and we intend to
centralize the underwriting function in our Plainfield office
in the near future. We also intend to establish more
aggressive collection efforts for the non-performing loans in
our portfolio. We intend for these measures to reduce the
amount of non-performing loans in our portfolio and to
increase the ratio of our allowance for loan losses to
non-performing assets, which is currently below levels
maintained by our peer group of savings associations.
Asset/Liability Management--Qualitative and Quantitative Information About
Market Risk
Qualitative Information About Market Risk
An important component of our asset/liability management policy
includes examining the interest rate sensitivity of our assets and liabilities
and monitoring the expected effects of interest rate changes on our net
portfolio value. An asset or liability is interest rate sensitive within a
specific time period if it will mature or reprice within that time period. If
our assets mature or reprice more quickly or to a greater extent than our
liabilities, our net portfolio value and net interest income would tend to
increase during periods of rising interest rates but decrease during periods of
falling interest rates. Conversely, if our assets mature or reprice more slowly
or to a lesser extent than our liabilities, our net portfolio value and net
interest income would tend to decrease during periods of rising interest rates
but increase during periods of falling interest rates. Our policy has been to
mitigate the interest rate risk inherent in the historical business of savings
associations, the origination of long-term loans funded by short-term deposits,
by pursuing certain strategies designed to decrease the vulnerability of our
earnings to material and prolonged changes in interest rates.
ALCO Committee. Our board of directors has delegated responsibility for
the day-to-day management of interest rate risk to the Asset/Liability ("ALCO")
Committee, which consists of our President, T. Tim Unger, Chief Financial
Officer John M. Baer, Vice President-Lending Maxwell O. Magee, Branch
Coordinator Jim Standish, and Marketing Director Angela Coleman. The ALCO
Committee meets weekly to manage and review Lincoln Federal's assets and
liabilities. The ALCO Committee establishes daily interest rates for deposits
and approves the interest rates on one- to four-family residential loans, which
are based upon current rates established by the Federal Home Loan Mortgage
Corporation ("FHLC"). The ALCO Committee also approves interest rates for other
types of loans based upon the national prime rate and local market rates.
Loan Portfolio Restructuring. Our principal strategy to reduce exposure
to fluctuating market interest rates is to manage the interest-rate sensitivity
of our interest-earning assets and interest-bearing liabilities. In early 1997,
our new management concluded that our asset portfolio exposed us to significant
risks in the event of a material and prolonged increase or decrease in interest
rates. To address this problem, in 1997 we securitized and sold certain one- to
four-family residential loans in our portfolio in order to reduce our exposure
to interest rate risk. We presented to FHLMC pools of one- to four-family
residential mortgage loans with either fixed interest rates or variable interest
rates pegged to the 11th District Cost of Funds Index ("COFI"). COFI loans
increase our exposure to interest rate risk because the COFI index does not
follow, and usually lags behind, the U.S. Treasury yield curve, which is the
index we use to establish the interest rates for our deposits. In addition, many
of the COFI loans did not adjust quickly enough to changes in market interest
rates as the result of annual rate adjustment limitations in the loan
agreements.
Many of the loans we securitized did not include all of the
documentation required by FHLMC. We were able to securitize these loans by
representing to FHLMC that, other than the loans with the missing
documentation specifically identified in the FHLMC Master Commitment, the
loans that we securitized did not otherwise vary from FHLMC's standard
underwriting and mortgage eligibility requirements.
After grouping these loans into pools with similar loans that we
originated, we assigned the notes and mortgages to FHLMC in consideration
for several mortgage-backed securities representing the different loan pools. In
August, 1997, we securitized approximately $76.2 million of one- to four-family
residential mortgage loans in this manner, consisting of $26.9 million in COFI
loans and $49.3 million in fixed-rate loans. We immediately sold on the
secondary market all of the mortgage-backed securities representing the COFI
loans and $27.4 million of the securities backed by lower-yielding fixed-rate
loans for a gain of $118,000. We retained in our investment portfolios
mortgage-backed securities representing $21.9 million of higher-yielding
fixed-rate loans.
In April, 1998, we securitized an additional $39.9 million of our one-
to four-family residential mortgage loans, consisting of $14.2 million of COFI
loans and $25.7 million of fixed-rate loans for a gain of $105,000. We sold on
the secondary market the mortgage-backed security representing the COFI loans
and $6.9 million of lower-yielding fixed-rate loans. We retained in our
investment portfolio mortgage-backed securities representing $18.8 million of
higher-yielding fixed-rate loans.
We continue to service all of the loans that we originated that have
been securitized by FHLMC in consideration of a fee of .25% and .375% of
the outstanding loan balance for fixed-rated and variable-rate loans,
respectively. Investors who purchased the mortgage-backed securities are repaid
from the regular principal and interest payments made by the borrowers on the
underlying loans, which "pass through" to the investors. FHLMC acts as a
guarantor with respect to these regular payments to the investors in
consideration of a fee that varies up to .375% of the outstanding balance on
loans in the different loan pools.
Although the loans that we securitized were sold without recourse, we
agreed to indemnify FHLMC pursuant to the Master Commitment in the event that
FHLMC makes a payment to an investor pursuant to its guarantee on certain loans
noted in the Master Commitment as lacking the documentation required by FHLMC's
underwriting standards. Our indemnification to FHLMC pursuant to this provision
is limited, however, solely to losses that arise as a result of the
documentation exception or discrepancy noted in the Master Commitment. FHLMC
may also require us to repurchase a loan upon a borrower's default if the
due diligence information contained in the loan data report that we provided to
FHLMC was not accurate, true or complete, if we fail to provide additional
information or documentation to FHLMC upon request, or if we breach any
representation or warranty in the Master Commitment. We have not experienced any
significant losses on these loans in the past and do not anticipate any
significant losses as a result of this indemnification.
In June, 1998, we sold an additional $19.3 million of our
adjustable-rate COFI loans in a whole-loan sale to a private investor that
closed in July, 1998. We recognized a loss of $218,000 from this transaction.
The securitization of certain of our loans and the whole loan sale reduced the
heavy concentration of fixed-rate and adjustable-rate COFI mortgages in our
portfolio while converting those assets to more liquid and marketable
mortgage-backed securities. In the aggregate, we have sold $75.4 million of the
securities generated from the securitization and have retained securities with a
face value of $40.7 million in our available-for-sale securities portfolio. We
used the proceeds from these sales of mortgage-backed securities to repay
outstanding FHLB advances from a balance of $106.9 million at June 30, 1997 to
$45.7 million at June 30, 1998. We also used some of the proceeds from these
sales to purchase interest rate-sensitive securities. We also restructured our
remaining FHLB debt by prepaying advances with higher interest rates and
extending the repayment terms of other debt, thereby reducing our exposure to
interest rate risk and reducing our cost of funds.
Because of the lack of customer demand for adjustable rate loans in our
market area, we primarily originate fixed-rate real estate loans which accounted
for approximately 63.2% of our loan portfolio at June 30, 1998. We continue to
offer and attempt to increase our volume of adjustable rate loans when market
interest rates make these type loans more attractive to customers. Following the
Conversion, we believe there will be sufficient demand in our market area to
continue our policy of emphasizing lending in the one- to four-family real
estate loan area. In addition, we hope to increase our commercial real estate,
consumer and commercial loan portfolios. There is no assurance, however, that we
will be able to do so. See "Business of Lincoln Federal Savings Bank--Lending
Activities."
Net Portfolio Value. We believe it is critical to measure and manage
the effect of changing interest rates on our net portfolio value ("NPV"). This
approach calculates the difference between the present value of expected cash
flows from assets and the present value of expected cash flows from liabilities,
as well as cash flows from off-balance sheet contracts. We manage assets and
liabilities within the context of the marketplace, regulatory limitations and
within limits established by our Board of Directors on the amount of change in
NPV which is acceptable given certain interest rate changes.
The OTS issued a regulation, which uses a net market value methodology
to measure the interest rate risk exposure of savings associations. Under this
OTS regulation, an institution's "normal" level of interest rate risk in the
event of an assumed change in interest rates is a decrease in the institution's
NPV in an amount not exceeding 2% of the present value of its assets. Savings
associations with over $300 million in assets or less than a 12% risk-based
capital ratio are required to file OTS Schedule CMR. Data from Schedule CMR is
used by the OTS to calculate changes in NPV (and the related "normal" level of
interest rate risk) based upon certain interest rate changes (discussed below).
Because we have assets greater than $300 million, we are required to file
Schedule CMR. Under the regulation, associations which must file are required to
take a deduction (the interest rate risk capital component) from their total
capital available to calculate their risk based capital requirement if their
interest rate risk exposure is greater than "normal." The amount of that
deduction is one-half of the difference between (a) the institution's actual
calculated exposure to a 200 basis point interest rate increase or decrease
(whichever results in the greater pro forma decrease in NPV) and (b) its
"normal" level of exposure which is 2% of the present value of its assets.
Quantitative Information About Market Risk
Presented below, as of June 30, 1998, is an analysis performed by the
OTS of our interest rate risk as measured by changes in NPV for instantaneous
and sustained parallel shifts in the yield curve, in 200 basis point increments,
up and down 400 basis points and in accordance with the proposed regulations. At
June 30, 1998, 2% of the present value of our assets was approximately $6.2
million. Because the interest rate risk of a 200 basis point increase in market
rates (which was greater than the interest rate risk of a 200 basis point
decrease) was $9.6 million at June 30, 1998, we would have been required to
deduct $1.7 million from our capital if the OTS' NPV methodology had been in
effect. Our exposure to interest rate risk results primarily from the
concentration of fixed rate mortgage loans in our portfolio.
<TABLE>
<CAPTION>
Change Net Portfolio Value NPV as % of PV of Assets
In Rates $ Amount $ Change % Change NPV Ratio Change
- --------------------------------------------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
+400 bp* $27,926 ($21,585) (44)% 9.89% (599) bp
+200 bp 39,959 (9,552) (19)% 13.40% (248) bp
0 bp 49,511 --- --- 15.88% ---
-200 bp 52,047 2,536 5% 16.33% 44 bp
-400 bp 54,929 5,419 11% 16.81% 93 bp
</TABLE>
* Basis points.
In contrast, the following chart presents the calculation of our
exposure to interest rate risk as of June 30, 1997, as determined by the OTS.
<TABLE>
<CAPTION>
Change Net Portfolio Value NPV as % of PV of Assets
In Rates $ Amount $ Change % Change NPV Ratio Change
- --------------------------------------------------------------------------------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
+400 bp* $13,323 ($30,728) (70)% 4.19% (814) bp
+200 bp 29,054 (14,996) (34)% 8.60% (373) bp
0 bp 44,050 --- --- 12.33% ---
-200 bp 51,284 7,233 16% 13.89% 156 bp
-400 bp 53,944 9,894 22% 14.32% 199 bp
</TABLE>
* Basis points.
These charts indicate the extent to which our exposure to interest rate
risk declined during the one-year period beginning June 30, 1997. For example,
in the event of a 200 basis point (or 2%) increase in interest rates, the net
portfolio value of our assets would have declined by $15 million, or 34%, at
June 30, 1997, and by $9.6 million, or 19%, at June 30, 1998. This reduction in
our exposure to interest rate risk is largely attributable to the securitization
and sale of the adjustable-rate COFI loans and certain fixed-rate loans in our
portfolio in the transactions described above.
As with any method of measuring interest rate risk, certain
shortcomings are inherent in the methods of analysis presented above. For
example, although certain assets and liabilities may have similar maturities or
periods to repricing, they may react in different degrees to changes in market
interest rates. Also, the interest rates on certain types of assets and
liabilities may fluctuate in advance of changes in market interest rates, while
interest rates on other types may lag behind changes in market rates.
Additionally, certain assets, such as adjustable-rate loans, have features which
restrict changes in interest rates on a short-term basis and over the life of
the asset. Further, in the event of a change in interest rates, expected rates
of prepayments on loans and early withdrawals from certificates could likely
deviate significantly from those assumed in calculating the table.
<PAGE>
Average Balances and Interest Rates and Yields
The following tables present at June 30, 1998 and for the six-month
periods ended June 30, 1998 and 1997, and the years ended December 31, 1997,
1996 and 1995, the average daily balances, of each category of our
interest-earning assets and interest-bearing liabilities, and the interest
earned or paid on such amounts.
<TABLE>
<CAPTION>
At June 30, Six Months Ended June 30,
1998 1998 1997
------------------- --------------------------------- --------------------------------
Average Average Average Average
Balance Yield/Cost Balance Interest(6) Yield/Cost Balance Interest(6) Yield/Cost
------- ---------- ------- ----------- ---------- ------- ----------- ----------
(Dollars in thousands)
Assets:
Interest-earning assets:
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning deposits.......... $ 20,737 5.69% $19,094 $ 485 5.08% $ 2,570 $ 96 7.47%
Mortgage-backed securities
available for sale (1)........... 43,206 7.34 33,880 1,268 7.49
Other investment securities
available for sale (1)........... 14,828 6.41 382 13 6.81 117 4 6.84
Other investment securities
held to maturity ................ 3,500 5.94 6,177 187 6.05 14,508 433 5.97
Loans receivable (2) (5)........... 204,115 7.79 233,078 9,244 7.93 313,688 12,142 7.74
Stock in FHLB of Indianapolis...... 5,447 7.93 5,447 216 7.93 4,946 192 7.76
------- ---- ------- ------ ---- ------- ------ ----
Total interest-earning assets.... 291,833 7.48 298,058 11,413 7.66 335,829 12,867 7.66
------- ---- ------- ------ ---- ------- ------ ----
Non-interest earning assets, net of
allowance for loan losses and
unrealized gain/loss on securities
available for sale................. 12,667 12,713 12,779
------ ------ ------
Total assets..................... $304,500 $310,771 $348,608
======== ======== ========
Liabilities and equity capital:
Interest-bearing liabilities:
Interest-bearing demand deposits... $ 7,487 2.06 $ 7,782 79 2.03 $ 7,506 77 2.05
Savings deposits................... 20,609 3.12 20,883 322 3.08 27,036 417 3.08
Money market savings deposits...... 28,631 4.89 28,074 687 4.89 18,968 459 4.84
Certificates of deposit............ 153,039 5.71 150,799 4,248 5.63 152,935 4,136 5.41
FHLB advances...................... 45,686 5.60 52,577 1,519 5.78 95,530 2,656 5.56
------ ------ ----- ------ -----
Total interest-bearing liabilities 255,452 5.28 260,115 6,855 5.27 301,975 7,745 5.13
Other liabilities..................... 6,253 7,722 7,489
----- ----- -----
Total liabilities.............. 261,705 267,837 309,464
Equity capital........................ 42,795 42,934 39,144
------ ------ ------
Total liabilities and
equity capital............. $304,500 $310,771 $348,608
======== ======== ========
Net interest-earning assets........... $ 36,381 $ 37,943 $ 33,854
======== ========= =========
Net interest income................... $4,558 $5,122
====== ======
Interest rate spread (3).............. 2.20% 2.39% 2.53%
==== ==== ====
Net yield on weighted average
interest-earning assets (4)........ N/A 3.06% 3.05%
==== ====
Average interest-earning
assets to average
interest-bearing liabilities....... 114.59% 111.21%
====== ======
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Year Ended December 31,
1997 1996 1995
Average Average Average Average Average Average
Balance Interest(6) Yield/Cost Balance Interest(6)Yield/Cost Balance Interest(6) Yield/Cost
(Dollars in thousands)
Assets:
Interest-earning assets:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-bearing deposits............$11,853 $ 653 5.51% $ 3,969 $ 256 6.45% $ 4,710 $ 332 7.05%
Mortgage-backed securities
available for sale (1)............. 13,089 1,086 8.30 --- --- --- --- --- ---
Other investment securities
available for sale (1)............. 66 5 7.58 117 9 7.69 115 9 7.83
Other investment securities
held to maturity .................. 12,758 768 6.02 15,355 933 6.08 14,225 856 6.02
Loans receivable (2) (5).............286,912 22,369 7.80 296,288 22,902 7.73 274,307 20,529 7.48
Stock in FHLB of Indianapolis........ 5,199 416 8.00 4,522 353 7.81 4,288 339 7.91
-------- ------ -------- ------ -------- ------
Total interest-earning assets......329,877 25,297 7.67 320,251 24,453 7.64 297,645 22,065 7.41
------ ------ ------
Non-interest earning assets,
net of allowance
for loan losses and unrealized
gain/loss on securities
available for sale.................. 15,694 11,243 11,785
-------- -------- --------
Total assets......................$345,571 $331,494 $309,430
======== ======== ========
Liabilities and equity capital:
Interest-bearing liabilities:
Interest-bearing demand deposits..... 7,438 154 2.07 7,198 151 2.10 6,525 143 2.19
Savings deposits.....................$25,159 781 3.10 $32,253 1,092 3.39 35,444 1,295 3.65
Money market savings deposits........ 21,278 1,044 4.91 7,003 320 4.57 3,233 108 3.34
Certificates of deposit..............151,507 8,425 5.56 152,381 8,675 5.69 148,786 8,456 5.68
FHLB advances........................ 92,121 5,248 5.70 87,621 4,881 5.57 73,403 4,484 6.11
-------- ------ -------- ------ -------- ------
Total interest-bearing liabilities.297,503 15,652 5.26 286,456 15,119 5.28 267,391 14,486 5.42
Other liabilities....................... 7,729 8,070 7,946
-------- -------- --------
Total liabilities................305,232 294,526 275,337
Equity capital.......................... 40,339 36,968 34,093
-------- -------- --------
Total liabilities and
equity capital..............$345,571 $331,494 $309,430
======== ======== ========
Net interest-earning assets............ $32,374 $33,795 $ 30,254
======== ======== =========
Net interest income..................... $9,645 $9,334 $7,579
====== ====== ======
Interest rate spread (3)................ 2.41% 2.36% 1.99%
==== ==== ====
Net yield on weighted average
interest-earning assets (4).......... 2.92% 2.91% 2.55%
==== ==== ====
Average interest-earning
assets to average
interest-bearing liabilities........ 110.88% 111.80% 111.31%
====== ====== ======
</TABLE>
<PAGE>
(1) Mortgage-backed securities available for sale and other investment
securities available for sale are at amortized cost prior to SFAS No.
115 adjustments.
(2) Total loans, including loan held for sale, less loans in process.
(3) Interest rate spread is calculated by subtracting weighted average
interest rate cost from weighted average interest rate yield for the
period indicated.
(4) The net yield on weighted average interest-earning assets is calculated
by dividing net interest income by weighted average interest-earning
assets for the period indicated. No net yield amount is presented at
June 30, 1998, because the computation of net yield is applicable only
over a period rather than at a specific date.
(5) The balances include nonaccrual loans.
(6) Interest income on loans receivable includes loan fee income of
$264,000 and $287,000 for the six months ended June 30, 1998 and1997
and $554,000, $490,000, and $340,000 for the years ended December 31,
1997, 1996, and 1995.
Interest Rate Spread
Our results of operations have been determined primarily by net
interest income and, to a lesser extent, fee income, miscellaneous income and
general and administrative expenses. Net interest income is determined by the
interest rate spread between the yields earned on interest-earning assets and
the rates paid on interest-bearing liabilities and by the relative amounts of
interest-earning assets and interest-bearing liabilities.
<PAGE>
The following table sets forth the weighted average effective interest
rate that we earned on our loan and investment portfolios, the weighted average
effective cost of our deposits and advances, our interest rate spread and the
net yield on weighted average interest-earning assets for the periods and as of
the dates shown. Average balances are based on average daily balances.
<TABLE>
<CAPTION>
Six Months Ended
At June 30, June 30, Year Ended December 31,
1998 1998 1997 1997 1996 1995
-------------------------------------------------------------------------
Weighted average interest rate earned on:
<S> <C> <C> <C> <C> <C> <C>
Interest-earning deposits.................... 5.69% 5.08% 7.47% 5.51% 6.45% 7.05%
Mortgage-backed securities available for sale 7.34 7.49 --- 8.30 --- ---
Other investment securities available for sale 6.41 6.81 6.84 7.58 7.69 7.83
Other investment securities held to maturity. 5.94 6.05 5.97 6.02 6.08 6.02
Loans........................................ 7.79 7.93 7.74 7.80 7.73 7.48
FHLB stock................................... 7.93 7.93 7.76 8.00 7.81 7.91
Total interest-earning assets.............. 7.48 7.66 7.66 7.67 7.64 7.41
Weighted average interest rate cost of:
Interest-bearing demand deposits............. 2.06 2.03 2.05 2.07 2.10 2.19
Savings deposits............................. 3.12 3.08 3.08 3.10 3.39 3.65
Money market savings deposits................ 4.89 4.89 4.84 4.91 4.57 3.34
Certificates of deposit...................... 5.71 5.63 5.41 5.56 5.69 5.68
FHLB advances................................ 5.60 5.78 5.56 5.70 5.57 6.11
Total interest-bearing liabilities......... 5.28 5.27 5.13 5.26 5.28 5.42
Interest rate spread (1)........................ 2.20 2.39 2.53 2.41 2.36 1.99
Net yield on weighted average
interest-earning assets (2).................. N/A 3.06 3.05 2.92 2.91 2.55
</TABLE>
(1) Interest rate spread is calculated by subtracting combined weighted
average interest rate cost from combined weighted average interest rate
earned for the period indicated. Interest rate spread figures must be
considered in light of the relationship between the amounts of
interest-earning assets and interest-bearing liabilities.
(2) The net yield on weighted average interest-earning assets is calculated
by dividing net interest income by weighted average interest-earning
assets for the period indicated. No net yield figure is presented at June
30, 1998 because the computation of net yield is applicable only over a
period rather than at a specific date.
<PAGE>
The following table describes the extent to which changes in interest rates
and changes in volume of interest-related assets and liabilities have affected
our interest income and expense during the periods indicated. For each category
of interest-earning asset and interest-bearing liability, information is
provided on changes attributable to (1) changes in rate (changes in rate
multiplied by old volume) and (2) changes in volume (changes in volume
multiplied by old rate). Changes attributable to both rate and volume which
cannot be segregated have been allocated proportionally to the change due to
volume and the change due to rate.
<TABLE>
<CAPTION>
Increase (Decrease) in Net Interest Income
------------------------------------------
Total
Due to Due to Net
Rate Volume Change
---- ------ ------
(In thousands)
Six months ended June 30, 1998 compared
to six months ended June 30, 1997
Interest-earning assets:
<S> <C> <C> <C>
Interest-earning deposits.................................. $ (99) $ 488 $ 389
Mortgage-backed securities available for sale.............. --- 1,268 1,268
Other investment securities available for sale............. --- 9 9
Other investment securities held to maturity............... 18 (264) (246)
Loans receivable........................................... 838 (3,736) (2,898)
FHLB stock................................................. 4 20 24
------ ------ ------
Total.................................................... 761 (2,215) (1,454)
------ ------ ------
Interest-bearing liabilities:
Interest-bearing demand deposits........................... (2) 4 2
Savings deposits........................................... --- (95) (95)
Money market savings deposits.............................. 5 223 228
Certificates of deposit.................................... 257 (145) 112
FHLB advances.............................................. 291 (1,428) (1,137)
------ ------ ------
Total.................................................... 551 (1,441) (890)
------ ------ ------
Net change in net interest income............................ $ 210 $ (774) $ (564)
======= ======= ========
Year ended December 31, 1997 compared
to year ended December 31, 1996
Interest-earning assets:
Interest-earning deposits.................................. $(42) $439 $397
Mortgage-backed securities available for sale.............. --- 1,086 1,086
Other investment securities available for sale............. --- (4) (4)
Other investment securities held to maturity............... (9) (156) (165)
Loans receivable........................................... 197 (730) (533)
FHLB stock................................................. 9 54 63
------ ------ ------
Total.................................................... 155 689 844
------ ------ ------
Interest-bearing liabilities:
Interest-bearing demand deposits........................... (2) 5 3
Savings deposits........................................... (85) (226) (311)
Money market savings deposits.............................. 25 699 724
Certificates of deposit.................................... (200) (50) (250)
FHLB advances.............................................. 112 255 367
------ ------ ------
Total.................................................... (150) 683 533
------ ------ ------
Net change in net interest income............................ $305 $ 6 $311
==== ====== ====
Year ended December 31, 1996 compared
to year ended December 31, 1995
Interest-earning assets:
Interest-earning deposits.................................. $ (27) $ (49) $ (76)
Mortgage-backed securities available for sale.............. --- --- ---
Other investment securities available for sale............. --- --- ---
Other investment securities held to maturity............... 8 69 77
Loans receivable........................................... 690 1,683 2,373
FHLB stock................................................. (4) 18 14
------ ------ ------
Total.................................................... 667 1,721 2,388
------ ------ ------
Interest-bearing liabilities:
Interest-bearing demand deposits........................... (6) 14 8
Savings deposits........................................... (91) (112) (203)
Money market savings deposits.............................. 51 161 212
Certificates of deposit.................................... 14 205 219
FHLB advances.............................................. (419) 816 397
------ ------ ------
Total.................................................... (451) 1,084 633
------ ------ ------
Net change in net interest income............................ $1,118 $ 637 $1,755
====== ====== ======
</TABLE>
<PAGE>
Financial Condition at June 30, 1998 Compared to Financial Condition at December
31, 1997
Total assets decreased $16.9 million, or 5.3%, at June 30, 1998
compared to December 31, 1997. The decrease was primarily due to the
securitization of approximately $39.9 million of one- to four-family residential
loans and the subsequent sale of approximately $21.1 million of these
mortgage-backed securities. Cash and interest-bearing deposits in other banks
increased by $4.8 million, and mortgage-backed securities available for sale and
other investment securities available for sale and held to maturity increased by
$23.4 million at June 30, 1998, compared to December 31, 1997. These increases
were primarily due to the loan securitization. A portion of the proceeds
received from the sales of mortgage-backed securities available for sale was
used to repay FHLB advances, thus reducing both the asset and liability sides of
the balance sheet.
Loans, Loans Held for Sale and Allowance for Loan Losses. The decrease
in our net loans including loans held for sale of $50.0 million, or 18.5%, from
December 31, 1997 to June 30, 1998 was due to the securitization of $39.9
million of loans in the second quarter of 1998. The loans securitized were one-
to four-family residential loans. The strategy behind the securitization and
sale of mortgage-backed securities was to change the mix of assets on our
balance sheet to reduce interest rate risk and to improve the liquidity of our
assets. In addition, at June 30, 1998, we had committed to sell loans of $19.3
million in a transaction that closed in July, 1998. We have no plans to
securitize or sell additional portfolio loans. We continue to service all loans
sold and securitized.
The allowance for loan losses increased to $1.43 million at June 30,
1998 from $1.36 million at December 31, 1997. The allowance as a percentage of
total loans including loans held for sale increased to .70% from .54% due
primarily to a decline in total loans as a result of a loan securitization and a
loan sale in the second quarter. The higher percentage level of the allowance
was considered necessary after considering several factors including: (i) a more
aggressive collection effort to reduce nonperforming and delinquent loans; (ii)
a higher concentration of delinquent loans in the remaining portfolio after our
securitizations and loan sale; (iii) a higher mix of consumer and development
loans in our portfolio; and (iv) the high level of nonperforming loans as
compared to our peer groups. The allowance for loan losses as a percentage of
non-performing loans was 87.2% and 37.6% at June 30, 1998 and December 31, 1997,
respectively. Although our allowance as a percentage of total loans was near
peer group levels and the allowance as a percentage of non-performing loans was
below our peer group at June 30, 1998, we believe the level of our allowance was
adequate based on our quarterly evaluation of the allowance.
Non-performing loans were $1.6 million and $3.6 million at each date,
respectively. The decline in non-performing loans was a result of a combination
of factors including improved collection efforts on one- to four-family
residential and consumer loans. During the six months ended June 30, 1998, we
also charged-off $301,000 in non-performing loans, a non-performing loan
totaling $367,000 was paid off and we received additional collateral on loans
totaling $218,000, allowing us to remove these loans from non-accrual status.
During the six months ended June 30, 1998, we had net charge-offs of $339,000 of
which $301,000 was related to a residential acquisition and development loan.
The borrowers had not responded to normal collection efforts and we filed a
foreclosure suit. We obtained an appraisal of the property and charged-off a
portion of the loan balance down to an estimated value. Included in
non-performing loans at June 30, 1998 were impaired loans of approximately
$808,000. Impaired loans at June 30, 1998 consisted of loans to two borrowers
collateralized by residential acquisition and development real estate. A
provision for losses of $121,000 had been recorded on impaired loans.
Other Assets. At June 30, 1998, other assets were approximately $2.1
million. The components of other assets at June 30, 1998 were capitalized
mortgage servicing rights of $735,000, an investment in Family Financial Life
Insurance Company of $650,000, cash surrender life insurance of $320,000 and
various other assets totaling $439,000. At December 31, 1997, other assets were
approximately $1.3 million. The increase at June 30, 1998 of $865,000 as
compared to the balance at December 31, 1997 was primarily due to our investment
in Family Financial Life Insurance Company during 1998. See "Business of Lincoln
Federal Savings Bank-Service Corporation Subsidiary."
Deposits. Deposits increased $7.3 million, or 3.6%, at June 30, 1998,
compared to December 31, 1997. Certificates of deposit increased $7.0 million,
or 4.8%, while other deposits increased $266,000, or .5%. The increase in
deposits was primarily due to a certificate of deposit special in February, 1998
that produced $4.3 million of new deposits.
Borrowed Funds. FHLB advances decreased $24.4 million, or 34.9%, at
June 30, 1998 compared to December 31, 1997. Proceeds from the sales of
mortgage-backed securities available for sale were used to repay a portion of
FHLB advances.
Other Liabilities. At June 30, 1998, other liabilities were
approximately $1.5 million. The components of other liabilities at June 30, 1998
were advances by borrowers for taxes and insurance of $613,000, deferred
directors fees of $573,000 and various other liabilities totaling $332,000. Our
directors and directors emeritus may, pursuant to a deferred compensation
agreement, defer payment of some or all of their directors fees, bonuses or
other compensation into a retirement account. Under this agreement, deferred
directors fees are to be distributed either in a lump-sum payment or in equal
annual or monthly installments over any period of from two to ten years. At
December 31, 1997, other liabilities were approximately $1.6 million. The
components of other liabilities at December 31, 1997 were advances by borrowers
for taxes and insurance of $723,000, deferred directors fees of $550,000 and
various other liabilities totaling $308,000.
Equity Capital. Equity capital increased $817,000, or 1.9%, from $42.0
million at December 31, 1997 to $42.8 million at June 30, 1998. The increase was
due primarily to net income of $817,000.
Financial Condition at December 31, 1997 Compared to Financial Condition at
December 31, 1996
Total assets decreased $24.2 million, or 7.0%, at December 31, 1997
compared to December 31, 1996. The decrease was primarily due to the
securitization of approximately $76.2 million of one- to four- family
residential loans and loans held for sale and the subsequent sale of
approximately $54.3 million of these mortgage-backed securities. Cash and
interest-bearing deposits in other banks increased by $8.6 million, and
mortgage-backed securities available for sale and other investment securities
available for sale and held to maturity increased by $23.7 million at December
31, 1997 compared to December 31, 1996. These increases were primarily due to
the loan securitization. In addition, a portion of the proceeds received from
the sales of mortgage-backed securities available for sale was used to repay
FHLB advances.
Loans, Loans Held for Sale and Allowance for Loan Losses. Our net
loans, including loans held for sale, decreased $57.0 million, or 18.6%, from
December 31, 1996 to December 31, 1997 due to the securitization of loans in the
third quarter of 1997. The loans securitized were one- to four-family
residential loans. The strategy behind the securitization was to change the mix
of assets on our balance sheet to reduce interest rate risk and to improve the
liquidity of our assets. The loan to deposit ratio had grown as high as 156% in
recent years, and it was necessary to obtain Federal Home Loan Bank advances to
fund our loan growth. The allowance for loan losses as a percentage of total
loans, including loans held for sale, increased to .54% from .40% as a result of
the decrease in loans outstanding during the period. The allowance for loan
losses as a percentage of non-performing loans was 37.6% and 24.5% at December
31, 1997 and 1996, respectively. Non-performing loans were $3.6 million and $2.4
million at each date, respectively. Included in non-performing loans at December
31, 1997 were impaired loans of $1.6 million. 77.8% of our impaired loans at
December 31, 1997, consisting of loans to three borrowers, were collateralized
by residential acquisition and development real estate. A provision for losses
of $237,000 had been recorded on impaired loans.
Other Assets. At December 31, 1997, other assets were approximately
$1.3 million. The components of other assets at December 31, 1997 were
capitalized mortgage servicing rights of $530,000, cash surrender value of life
insurance of $320,000 and various other assets totaling $429,000. At December
31, 1996, other assets were approximately $334,000. The increase at December 31,
1997 of $945,000 as compared to the balance at December 31, 1996 was primarily
due a $445,000 increase in capitalized mortgage servicing rights and our
investment in the cash surrender value of life insurance in 1997. Mortgage
servicing rights increased as a direct result of the adoption of new accounting
standards and an increase in our mortgage servicing portfolio. At December 31,
1997 and 1996, we serviced loans of $85.0 million and $36.8 million,
respectively.
Deposits. Deposits decreased $7.0 million, or 3.3%, during the period
ended December 31, 1997. Certificates of deposit decreased $11.4 million, or
7.3%, while other deposits increased $4.4 million, or 8.3%. The decrease in
deposits was primarily due to a reduction in public funds of approximately $7.3
million at December 31, 1997 as compared to 1996. This decline was a result of
less aggressive bidding on public funds when other lower cost funding options
were available.
Borrowed Funds. FHLB advances decreased $21.1 million, or 23.1%, at
December 31, 1997 compared to December 31, 1996. Proceeds from the sales of
mortgage-backed securities available for sale were used to repay a portion of
these FHLB advances.
Other Liabilities. At December 31, 1997, other liabilities were
approximately $1.6 million. The components of other liabilities at December 31,
1997 were advances by borrowers for taxes and insurance of $723,000, deferred
directors fees of $550,000 and various other liabilities totaling $308,000. At
December 31, 1996, other liabilities were approximately $1.9 million. The
components of other liabilities at December 31, 1996 were advances by borrowers
for taxes and insurance of $937,000, deferred directors fees of $421,000 and
various other liabilities totaling $555,000.
Equity Capital. Equity capital increased $4.1 million, or 10.7%, from
$37.9 million at December 31, 1996 to $42.0 million at December 31, 1997. The
increase was due to net income of $3.5 million and a net change in holding gains
on investments available for sale of $545,000.
Comparison of Operating Results For Six Months Ended June 30, 1998 and 1997
General. Net income for the six months ended June 30, 1998 decreased
$1.0 million to $817,000 compared to $1.9 million for the six months ended June
30, 1997. The decline in net income was primarily a result of a reduction in net
interest income, an increase in the provision for loan losses, an increase in
other expenses and an extraordinary item related to the prepayment of FHLB
advances offset by a reduction in tax expense. Annualized return on average
assets for the six months ended June 30, 1998 and 1997 was .53% and 1.07%,
respectively. Annualized return on average equity was 3.81% for the 1998 period
and 9.52% for the 1997 period.
Our net interest income declined primarily because we securitized
certain loans in our portfolio and sold the resulting mortgage-backed securities
on the secondary market. Because we no longer hold these loans in our portfolio,
we expect our net interest income to remain at reduced levels in the future as
well. We also incurred one-time expenses during the period in connection with
the prepayment of FHLB advances that we paid from the proceeds from the sale of
these mortgage-backed securities. As a result of these prepayments and the
restructuring of our other indebtedness to the FHLB, however, we significantly
decreased our exposure to interest rate risk. See "- Asset/Liability
Management." Thus, even though the securitization and sale of certain loans in
our portfolio and the prepayment penalties we incurred reduced our net interest
income during the period, these measures also significantly reduced our future
exposure to interest rate risk by decreasing the impact that possible future
interest rate increases may have on our earnings.
Because of our growth over the past several years, we recently hired
several full-time employees, which increased our operating expenses and reduced
our net income. See "- Salaries and Employee Benefits." In addition to these
increased salary expenses, we expect to incur additional increased expenses in
the future in connection with the ESOP and, assuming shareholder approval, the
RRP which is expected to be adopted following the Conversion. See "Executive
Compensation and Related Transactions of Lincoln Federal - Employee Stock
Ownership Plan and Trust" and "- RRP." We believe that the additional expenses
incurred in connection with the additional personnel we hired is necessary for
us to effectively service our existing customers and to position ourselves for
future growth. We also believe that the expenses we expect to incur in
connection with the ESOP and RRP will assist us in our future operations by
providing our directors, officers and employees with an ownership interest in
the Holding Company in a manner designed to encourage them to continue their
service with us. Accordingly, we believe that, although these increased
operating expenses will decrease our net income, we will benefit from these
expenses in future periods because of our increased capacity to serve our
customers and the increased likelihood that we will be able to attract and
retain capable management.
Interest Income. Total interest income was $11.4 million for the 1998
period compared to $12.9 million for the 1997 period. The decrease in interest
income was due primarily to a decrease in our average earning assets. Average
earning assets decreased $37.8 million, or 11.2%, primarily due to a decrease in
average loans of $80.6 million offset by an increase in average mortgage-backed
securities available for sale of $33.9 million. Our average yield on
interest-earning assets was 7.66% for the six-month periods ended June 30, 1998
and 1997.
Interest Expense. Interest expense decreased $890,000, or 11.5%, during
the six-month period ended June 30, 1998 as compared to the same period in 1997.
The decrease in interest expense was primarily the result of a decrease in
average interest-bearing liabilities of $41.9 million, or 13.9%. The decline in
average interest-bearing liabilities was primarily attributable to the repayment
of FHLB advances. Our average balance of FHLB advances decreased $43.0 million.
Our average cost of interest-bearing liabilities increased from 5.13% for the
1997 period to 5.27% for the 1998 period resulting primarily from an increase of
22 basis points in the cost of both our certificates of deposit and FHLB
advances.
Net Interest Income. Net interest income decreased $564,000, or 11.0%,
during the six-month period ended June 30, 1998 as compared to the same period
in 1997. Net interest income declined $774,000 due to a decrease in our volume
of net interest earning assets and liabilities and increased $210,000 as a
result of an improvement in our net yield on interest earning assets. Our
interest rate spread was 2.39% and 2.53% for the 1998 and 1997 periods,
respectively. Our net yield on interest-earning assets was 3.06% and 3.05% for
the 1998 and 1997 periods, respectively. Although our interest rate spread
decreased during the 1998 period, our yield on interest-earning assets improved
slightly because our average interest-earning asset as a percentage of
interest-bearing liabilities increased from 110.9% for the 1997 period to 114.6%
for the 1998 period.
Provision for Loan Losses. We maintain an allowance for loan losses
based upon a quarterly evaluation of the size and known inherent risk in the
components of our loan portfolio, our past loan loss experience, adverse
situations which may affect borrowers' ability to repay loans, estimated value
of underlying loan collateral, current and, to a lesser extent, expected future
economic conditions and peer comparisons. Our provision for loan losses for the
six months ended June 30, 1998 was $410,000 as compared to $50,000 for the same
period in 1997. We increased our provision for loan losses in 1998 compared to
1997 primarily because of our more aggressive collection efforts to reduce
nonperforming and delinquent loans, our higher concentration of delinquent loans
in the remaining portfolio after our securitization and loan sale, our higher
mix of consumer and development loans in our portfolio and our high level of
nonperforming loans as compared to our peer groups. While management estimates
loan losses using the best available information, no assurance can be given that
future additions to the allowance will not be necessary based on changes in
economic and real estate market conditions, further information obtained
regarding problem loans, identification of additional problem loans and other
factors, both within and outside of management's control.
Net realized and unrealized gain (loss) on loans held for sale. Net
realized and unrealized losses on loans held for sale of $114,000 were recorded
during the six months ended June 30, 1998, an increase of $96,000 over the net
losses of $18,000 recorded during the same period in 1997. The increased losses
in 1998 relate primarily to unrealized losses on the $19.3 million of loans held
for sale at June 30, 1998 which were lower-yielding loans as compared to the
loans remaining in the loan portfolio.
Net realized and unrealized gains on securities available for sale.
Proceeds from sales of securities available for sale during the six months ended
June 30, 1998 amounted to $21.1 million. Net gains of $105,000 were realized on
those sales. No realized or unrealized gains or losses on securities available
for sale were recorded during the six months ended June 30, 1997.
Equity in losses of limited partnerships. Equity in losses of limited
partnerships decreased $59,000, or 18.0%, from $327,000 for the six months ended
June 30, 1997 to $268,000 for the same period in 1998 due to the operating
results of our limited partnership investments. See "Business of Lincoln Federal
Savings Bank - Investments - Investments in Multi-Family Low- and
Moderate-Income Housing Projects."
Other Income. Other income increased $93,000, or 32.6%, from $285,000
for the six months ended June 30, 1997 to $378,000 for the same period in 1998.
This increase was due to increases in a variety of other income categories and
was not attributable to any one item.
Salaries and Employee Benefits. Salaries and employee benefits were
$1.3 million for the six months ended June 30, 1998 compared to $1.0 million for
the same period in 1997, an increase of 30.0%. These increases were primarily a
result of additional personnel. We had 74 full-time equivalent employees at June
30, 1998 compared to 70 full-time equivalent employees at June 30, 1997. We have
increased our number of employees and added personnel with the specialized
skills to more effectively service our existing customers and to position us for
future customer and product growth.
Net Occupancy and Equipment Expenses. Occupancy expenses increased
$2,000, or 1.5%, and equipment expenses increased $51,000, or 20.5%, from the
six months ended June 30, 1997 compared to the same period in 1998. The
increases in occupancy and equipment expenses were primarily attributable to
increased deprecation and amortization on computers, software and other
equipment and fees associated with computer equipment maintenance.
Data Processing Expense. Data processing expense increased $101,000, or
37.7%, from the six-month period ended June 30, 1997 to the same period in 1998.
This increase was primarily due to additional costs associated with Year 2000
compliance and testing.
Professional Fees. Professional fees increased $37,000, or 26.4%, from
the six-month period ended June 30, 1997 to the same period in 1998. This
increase was due to a variety of increased expenses and was not attributable to
any one item.
Mortgage Servicing Rights Amortization. Mortgage servicing rights
amortization increased $121,000 from $5,000 for the six-month period ended June
30, 1997 to $126,000 for the same period in 1998 due to increased servicing
activity and the adoption of Statement of Financial Accounting Standards
("SFAS") No. 122, "Accounting for Mortgage Serving Rights," and SFAS No. 125,
"Accounting for Transfers of Financial Assets, Servicing Rights and
Extinguishment of Liabilities." Average mortgage loans serviced for others were
approximately $89.6 million for the 1998 period as compared to $41.7 million for
the 1997 period.
Income Tax Expense. Income tax expense decreased $613,000, or 87.4%,
from the six months ended June 30, 1997 to the same period in 1998. These
variations in income tax expense are directly related to our taxable income and
the low- income housing tax credits earned during those periods. The effective
tax rate was 16.2% and 27.3% for 1998 and 1997, respectively. Our effective rate
declined in 1998 as compared to 1997 because our low-income housing tax credits
remained relatively constant while our level of income declined. We expect our
effective tax rate to increase in future periods. See "Business of Lincoln
Federal Savings Bank Investments - Investments in Multi-Family Low- and
Moderate-Income Housing Projects."
Extraordinary Item - Early Extinguishment of Debt, Net of Income Taxes.
Prepayment penalties of $249,000 on FHLB advances were recorded during the six
months ended June 30, 1998. Due to the securitization of loans and loans held
for sale and the subsequent sales of a portion of these mortgage-backed
securities, funds were available to prepay a portion of our FHLB advances.
Comparison of Operating Results For Years Ended December 31, 1997, 1996, and
1995
General. Net income for the years ended December 31, 1997, 1996 and
1995 was $3.5 million, $3.0 million and $3.4 million, respectively. Return on
average assets for the years ended December 31, 1997, 1996 and 1995 was 1.02%,
.90% and 1.09%, respectively. Return on average equity was 8.71% for 1997, 8.08%
for 1996 and 9.92% for 1995.
Interest Income. Total interest income increased from $24.5 million in
1996 to $25.3 million in 1997. Average earning assets increased $9.6 million, or
3.0%, from $320.2 million to $329.8 million from 1996 to 1997. Volume increases,
primarily from mortgage-backed securities available for sale and interest
earning deposits, accounted for $689,000 of the increase while higher interest
rates accounted for $155,000 of the increase. For the year ended December 31,
1996, total interest income totaled $24.5 million, an increase of $2.4 million,
or 10.9%, from the $22.1 million recorded in 1995. The increase was due to an
increase in the average earning assets accompanied by an increase in the average
yield. Average earning assets increased $22.6 million, or 7.6%, during this
period while the average yield on earning assets increased 23 basis points to
7.64% from 7.41%. The increase in average loans and the increased loan yield
were the primary factors contributing to these increases.
Interest Expense. Interest expense increased $533,000, or 3.5%, from
1996 to 1997. The increase in interest expense was primarily the result of an
increase in average interest-bearing liabilities of $11.0 million, or 3.9%, from
$286.5 million to $297.5 million. The growth in average interest-bearing
liabilities was primarily attributable to the growth in money market savings
deposits and FHLB advances offset by the decline in saving deposits. The average
balance of money market saving deposits and FHLB advances increased $14.3
million, or 203.8%, and $4.5 million, or 5.1%, respectively, while savings
deposits decreased by $7.1 million, or 22.0%. We utilized the deposit growth and
increased borrowings from the FHLB to fund loan activity and the subsequent
increase in mortgage-backed securities available for sale. Interest expense
increased $633,000, or 4.4%, from 1995 to 1996. Volume increases in
interest-bearing liabilities resulted in a $1.1 million increase in interest
expense while lower interest rates reduced expense by $451,000. The average cost
of interest-bearing liabilities decreased from 5.42% in 1995 to 5.28% in 1996.
Net Interest Income. Net interest income increased $311,000, or 3.3%,
from $9.3 million in 1996 to $9.6 million in 1997. $305,000 of our $311,000
increase in net interest income in 1997 was due to an increase in our interest
rate spread. Net interest income increased $1.8 million, or 23.2%, from 1995 to
1996. Our net interest income increased $1.1 million due to an increase in our
volume of net interest earning assets and $637,000 due to an increase in our
interest rate spread. Our interest rate spread was 2.41%, 2.36% and 1.99% for
1997, 1996 and 1995, respectively.
Provision for Loan Losses. Our provision for loan losses for the year
ended December 31, 1997 was $298,000. The 1997 provision and the related
increase in the allowance for loan losses were considered adequate, based on
size, condition and components of the loan portfolio. Provisions for loan losses
of $120,000 and $100,000 were made in 1996 and 1995, respectively. The
allowances for loan losses at December 31, 1996 and 1995 were also considered
adequate, based on size, condition, and components of the loan portfolios. The
increase in the provision in 1997 was due to the adoption of a more conservative
methodology for determining the adequacy of the allowance for loan losses rather
than a deterioration of the loan portfolio. Our current methodology assigns risk
factors based on loan type in addition to providing for non-performing and other
classified loans. The methodology used prior to 1997 focused primarily on
non-performing and other classified loans and did not assign risk factors to the
remaining loan portfolio based on loan type. While management estimates loan
losses using the best available information, no assurance can be given that
future additions to the allowance will not be necessary based on changes in
economic and real estate market conditions, further information obtained
regarding problem loans, identification of additional problem loans and other
factors, both within and outside of management's control.
Net realized and unrealized gain (loss) on loans held for sale. Net
realized and unrealized gains on loans held for sale of $299,000 were recorded
in 1997, an increase of $459,000 over the net losses of $160,000 recorded in
1996. In 1995, net realized and unrealized gains on loans held for sale were
$1.5 million which consisted primarily of unrealized gains recorded as we
recovered from unrealized losses recorded in the previous year as a result of
changes in interest rates.
Net realized and unrealized gains on securities available for sale.
Proceeds from sales of securities available for sale during 1997 amounted to
$54.5 million. Net gains of $118,000 were realized on those sales. No realized
or unrealized gains or losses on securities available for sale were recorded in
1996 and 1995.
Equity in losses of limited partnerships. Equity in losses of limited
partnerships increased $85,000, or 14.3%, from $596,000 for 1996 to $681,000 for
1997 due to the operating results of our limited partnership investments. In
comparison, losses of $1.6 million were recorded in 1995. In 1995, an additional
loss estimate of approximately $800,000 was recorded on our investment in Pedcor
Investments - 1987-I, L.P. This additional loss estimate was recorded to reserve
for fees earned by the general partner but payable at a future date based on
cash flow of the partnership. Although it was not possible to determine the
exact amount of the fees that will eventually be paid and should therefore be
accrued, we believe that the additional expense recorded was adequate based on
all available information. See "Business of Lincoln Federal Savings Bank -
Investments - Investments in Multi-Family Low- and Moderate-Income Housing
Projects."
Other Income. Other income increased $171,000, or 34.0%, from $503,000
for 1996 to $674,000 for 1997. This increase was due to an increase in loan
servicing fee income of $104,000 and smaller increases in a variety of other
income categories. Other income increased $30,000 or 6.3%, from $473,000 for
1995 to $503,000 for 1996.
Salaries and Employee Benefits. Salaries and employee benefits were
$2.2 million for 1997 compared to $1.7 million for 1996 and $1.5 million for
1995, increases of 29.4% and 13.3%, respectively. These increases were primarily
a result of additional personnel. We had 72, 69 and 58 full-time equivalent
employees at December 31, 1997, 1996 and 1995, respectively. We have increased
our number of employees and added personnel with the specialized skills to more
effectively service our existing customers and to position us for future
customer and product growth.
Net Occupancy and Equipment Expenses. Occupancy expenses increased
$36,000, or 15.3%, and equipment expenses increased $165,000, or 45.7%, from
1996 to 1997. The increases in occupancy and equipment expenses were primarily
attributable to increased deprecation and amortization on computers, software
and other equipment. Occupancy expenses for 1995 were at approximately the same
level as in 1997 and equipment expenses for 1995 were $185,000 less than the
1996 expenses. A significant portion of the equipment placed in service in 1995
was purchased in the fourth quarter of that year; therefore, a full year of
depreciation expense was not recorded until 1996.
Deposit Insurance Expense. Deposit insurance expense decreased $1.5
million, or 88.8%, from $1.7 million in 1996 to $194,000 in 1997. This decrease
was due to the recapitalization of the Savings Association Insurance Fund
(`SAIF") in 1996 which resulted in a decline in our deposit insurance
assessments in future periods. A one-time SAIF special assessment of
approximately $1.3 million was recorded in 1996. Prior to the recapitalization
of SAIF, we paid an assessment of $.23 per $100 of deposits. Subsequent to the
recapitalization, the assessment was reduced to $.0644 per $100 of deposits.
Deposit insurance expense for 1995 was $438,000.
Data Processing Expense. Data processing expense increased $268,000, or
85.6%, from 1996 to 1997 primarily due to expenses relating to the software
conversion of the general ledger and the loan and deposit subsidiary records.
Data processing expense increased $85,000, or 37.3%, from 1995 to 1996 primarily
due to the overall growth of our institution.
Professional Fees. Professional fees increased $169,000 from $69,000 in
1996 to $238,000 in 1997 primarily due to consulting fees paid in connection
with our loan securitization initiative. During 1997, we engaged an outside
consultant to review our loan portfolio and assist us with the securitization of
loans. We incurred $139,000 of expense in relation to this project. Professional
fees increased $21,000 from 1995 to 1996 primarily due to the overall growth of
our institution.
Mortgage Servicing Rights Amortization. Mortgage servicing rights
("MSR") amortization increased $55,000 from 1996 to 1997 due in part to
increased servicing activity. Average mortgage loans serviced for others were
approximately $68.1 million for 1997 compared to $35.2 million for 1996. In
1997, we adopted SFAS No. 122, "Accounting for Mortgage Serving Rights", and
SFAS No. 125, "Accounting for Transfers of Financial Assets, Servicing Rights
and Extinguishment of Liabilities". The adoption of these Statements also
contributed to the increase in amortization recorded in 1997. MSR amortization
increased $3,000 from 1995 to 1996.
Other Expense. Other expenses, consisting primarily of expenses related
to advertising, directors' fees, contributions, loan expenses, supplies, and
postage increased $292,000, or 43.7%, from 1996 to 1997. The increase was in
part due to approximately $175,000 of additional expense in 1997 as compared to
1996 for directors' compensation and related plans. The remaining increase
resulted from increases in a variety of expense categories and was not
attributable to any one item. Other expenses increased $124,000, or 22.8%, from
1995 to 1996. The increase resulted from increases in a variety of expense
categories and was not attributable to any one item.
Income Tax Expense. Income tax expense increased $289,000, or 33.2%,
from 1996 to 1997. Income tax expense decreased 323,000, or 27.1%, from 1995 to
1996. These variations in income tax expense are directly related to the taxable
income for those years. The effective tax rate was 24.8%, 22.6% and 26.1% for
1997, 1996 and 1995, respectively.
Liquidity and Capital Resources
Our primary sources of funds are deposits, borrowings and the proceeds
from principal and interest payments on loans and mortgage-backed securities and
the sales of loans and mortgage-backed securities available for sale. While
maturities and scheduled amortization of loans and mortgage-backed securities
are a predictable source of funds, deposit flows and mortgage and
mortgage-backed securities prepayments are greatly influenced by general
interest rates, economic conditions and competition.
Our primary investing activity is the origination of loans. During the
years ended December 31, 1997, 1996 and 1995, cash used to originate loans
exceeded repayments and other changes by $20.0 million, $11.4 million and $25.4
million, respectively. The growth in loans in 1997 was funded by proceeds from
the sale of mortgage-backed securities available for sale while growth in
deposits and FHLB advances funded our 1996 and 1995 loan growth.
During the six-month period ended June 30, 1998, cash repayments and
other changes exceeded cash used to originate loans by $5.3 million. During the
six-month period ended June 30, 1997, cash used to originate loans exceeded
repayments and other changes by $14.7 million.
During the years ended December 31, 1997, 1996 and 1995, we purchased
mortgage-backed securities and other securities available for sale and held to
maturity in the amounts of $7.8 million, $11.4 million and $9.3 million,
respectively. During the years ended December 31, 1997, 1996 and 1995, we
received proceeds from maturities of mortgage-backed securities and other
securities available for sale and held to maturity of $6.8 million, $7.9 million
and $10.4 million, respectively. During the year ended December 31, 1997, we
received proceeds for the sale of mortgage-backed and other securities available
for sale of $54.4 million which funds were used to fund our loan growth and
reduce the level of our FHLB advances. We did not receive any proceeds for the
sale of securities during 1996 and 1995.
During the six-months ended June 30, 1998, we purchased mortgage-backed
securities and other securities available for sale and held to maturity of $14.9
million. We did not purchase any securities during the six-months ended June 30,
1997. During the six-months ended June 30, 1998 and 1997, we received proceeds
from maturities of mortgage-backed securities and other securities available for
sale and held to maturity of $10.3 million and $1.8 million, respectively.
During the six-months ended June 30, 1998, we received proceeds for the sale of
mortgage-backed securities available for sale of $21.1 million which funds were
used to reduce our level of outstanding FHLB advances. We did not receive any
proceeds for the sale of securities during the six-months ended June 30, 1997.
We had outstanding loan commitments and unused lines of credit of $14.2
million at June 30, 1998. In addition, at June 30, 1998, we had committed to
sell loans of $19.3 million. We anticipate that we will have sufficient funds
from loan repayments, loan sales, and from our ability to borrow additional
funds from the FHLB of Indianapolis to meet our current commitments.
Certificates of deposit scheduled to mature in one year or less at June 30, 1998
totaled $111.6 million. We believe that a significant portion of such deposits
will remain with us based upon historical deposit flow data and our competitive
pricing in our market area.
Liquidity management is both a daily and long-term function of our
management strategy. In the event that we should require funds beyond our
ability to generate them internally, additional funds are available through the
use of FHLB advances. We had outstanding FHLB advances in amount of $45.7
million at June 30, 1998.
Federal law requires that savings associations maintain an average
daily balance of liquid assets in a minimum amount not less than 4% or more than
10% of their withdrawable accounts plus short-term borrowings. Liquid assets
include cash, certain time deposits, certain bankers' acceptances, specified
U.S. government, state or federal agency obligations, certain corporate debt
securities, commercial paper, certain mutual funds, certain mortgage-related
securities, and certain first-lien residential mortgage loans. The OTS recently
amended its regulation that implements this statutory liquidity requirement to
reduce the amount of liquid assets a savings association must hold from 5% of
net withdrawable accounts and short-term borrowings to 4%. The OTS also
eliminated the requirement that savings associations maintain short-term liquid
assets constituting at least 1% of their average daily balance of net
withdrawable deposit accounts and current borrowings. The revised OTS rule also
permits savings associations to calculate compliance with the liquidity
requirement based upon their average daily balance of liquid assets during each
quarter rather than during each month, as was required under the prior rule. The
OTS may impose monetary penalties on savings associations that fail to meet
these liquidity requirements. As of June 30, 1998, we had liquid assets of $70.9
million, and a regulatory liquidity ratio of 36.0%. We also have available $2
million under a line of credit with the FHLB-Indianapolis. Our unfunded loan
commitments at June 30, 1998 were $14.2 million, and we had $237,000 in standby
letters of credit outstanding at that date. It is our belief that upon
completion of the Conversion our liquidity ratios will increase.
Pursuant to OTS capital regulations, savings associations must
currently meet a 1.5% tangible capital requirement, a 3% leverage ratio (or core
capital) requirement, and a total risk-based capital to risk-weighted assets
ratio of 8%. At June 30, 1998, our tangible capital ratio was 13.9%, our core
capital ratio was 13.9%, and our risk-based capital to risk-weighted assets
ratio was 24.6%. Therefore, at June 30, 1998, our capital levels exceeded all
applicable regulatory capital requirements currently in effect. The following
table provides the minimum regulatory capital requirements and our capital
ratios as of June 30, 1998:
<TABLE>
<CAPTION>
At June 30, 1998
OTS Requirement Lincoln Federal's Capital Level
% of % of Amount
Capital Standard Assets Amount Assets(1) Amount of Excess
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Tangible capital............................ 1.5% $4,569 13.9% $42,248 $37,679
Core capital (2)............................ 3.0 9,138 13.9 42,248 33,110
Risk-based capital.......................... 8.0 14,217 24.6 43,680 29,463
</TABLE>
(1) Tangible and core capital levels are shown as a percentage of adjusted
total assets; risk-based capital levels are shown as a percentage of
risk-weighted assets.
(2) The OTS has proposed and is expected to adopt a core capital requirement
for savings associations comparable to that recently adopted by the OCC for
national banks. The new regulation, as proposed, would require at least 3%
of total adjusted assets for savings associations that received the highest
supervisory rating for safety and soundness, and 4% to 5% for all other
savings associations. The final form of such new OTS core capital
requirements may differ from this proposal. We expect to be in compliance
with such new requirements. See "Regulation - Regulatory Capital."
For definitions of tangible capital, core capital and risk-based
capital, see "Regulation - Savings Association Regulatory Capital."
As of June 30, 1998, management is not aware of any current
recommendations by regulatory authorities which, if they were to be implemented,
would have, or are reasonably likely to have, a material adverse effect on our
liquidity, capital resources or results of operations.
Current Accounting Issues
In November 1993, the American Institute of Certified Public
Accountants issued Statement of Position ("SOP") 93-6, "Employer's Accounting
for Employee Stock Ownership Plans." The SOP, among other things, changed the
measure of compensation expense recorded by employers from the cost of employee
stock ownership plan shares allocated to employees during the period to the fair
value of employee stock ownership plan shares allocated. Assuming the
acquisition of shares of stock by the ESOP, the application of SOP 93-6 is
likely to result in fluctuations in compensation expense due to changes in the
fair value of the stock.
In October, 1995, the FASB issued SFAS No. 123 entitled "Accounting for
Stock-Based Compensation." SFAS No. 123 establishes a fair value based method of
accounting and disclosing the amount of stock-based compensation paid to
employees. Historically, Accounting Principles Board ("APB") Opinion No. 25
"Accounting for Stock Issued to Employees" has measured compensation cost using
the method based on the award's intrinsic value. Those electing to remain with
the accounting in APB Opinion No. 25 must make pro forma disclosures of net
income and, when presented, earnings per share, as if the fair value based
method of accounting defined in SFAS 123 had been applied. The disclosure
provisions of SFAS No. 123 will be adopted by management upon completion of the
Conversion. We do not believe that adoption of SFAS No. 123 disclosure
provisions will have a material adverse effect on our consolidated financial
position or results of operations.
In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers
of Financial Assets, Servicing Rights and Extinguishment of Liabilities," that
provides accounting guidance on transfers of financial assets, servicing of
financial assets, and extinguishment of liabilities. SFAS No. 125 introduces an
approach to accounting for transfers of financial assets that provides a means
of dealing with more complex transactions in which the seller disposes of only a
partial interest in the assets, retains rights or obligations, makes use of
special purpose entities in the transaction, or otherwise has continuing
involvement with the transferred assets. The new accounting method provides that
the carrying amount of the financial assets transferred be allocated to
components of the transaction based on their relative fair values. Transactions
subject to the provisions of SFAS No. 125 include, among others, transfers
involving repurchase agreements, securitizations of financial assets, loan
participations and transfers of receivables with recourse. An entity that
undertakes an obligation to service financial assets recognizes either a
servicing asset or liability for the servicing contract. A servicing asset or
liability that is purchased or assumed is initially recognized at its fair
value. Servicing assets and liabilities are amortized in proportion to and over
the period of estimated net servicing income or net servicing loss and are
subject to subsequent assessments for impairment based on fair value. SFAS No.
125 provides that a liability is removed from the balance sheet only if the
debtor either pays the creditor and is relieved of its obligation for the
liability or is legally released from being the primary obligor. SFAS No. 125 is
effective for applicable transactions occurring after December 31, 1996, and is
to be applied prospectively. Retroactive application is not permitted. The
adoption of SFAS No. 125 has not had a material adverse effect on our financial
position or results of operations.
In February 1997, the FASB issued SFAS No. 128, Earnings per Share,
establishing standards for computing and presenting earnings per share (EPS) and
applies to entities with publicly held common stock or potential common stock,
such as the shares issuable under our proposed stock option plan, as well as any
other entity that chooses to present EPS in its financial statements.
This Statement simplifies the current standards of APB Opinion No. 15,
Earnings per Share, and makes them comparable to international EPS standards. It
eliminates the presentation of primary EPS and requires presentation of basic
EPS (the principal difference being that common stock equivalents are not
considered in the computation of basic EPS). It also requires dual presentation
of basic and diluted EPS on the face of the income statement for all entities
with complex capital structures and requires a reconciliation of the numerator
and denominator of the basic EPS computation to the numerator and denominator of
the diluted EPS computation.
Basic EPS includes no 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 the potential common shares 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 that of fully
diluted EPS pursuant to Opinion No. 15. We do not expect the adoption of SFAS
No. 128 to have a material impact on our financial position or results of
operations.
The Statement is effective for our financial statements issued for
periods ending after December 15, 1997, including interim periods. Earlier
application is not permitted. The Statement requires restatement of all
prior-period EPS data presented.
In February 1997, the FASB issued SFAS No. 129, Disclosure of
Information about Capital Structure, continuing the current requirements to
disclose certain information about an entity's capital structure found in APB
Opinion No. 10, Omnibus Opinion--1966, Opinion No. 15, and SFAS No. 47,
Disclosure of Long-Term Obligations. It consolidates specific disclosure
requirements from those standards. SFAS No. 129 is effective for our financial
statements issued for periods ending after December 15, 1997, including interim
periods. We do not expect the adoption of SFAS No. 129 to have a material impact
on our financial position or results of operations.
In June 1997, the FASB issued SFAS No. 130, Reporting Comprehensive
Income, establishing standards for reporting and display of comprehensive income
and its components (revenues, expenses, gains, and losses) in a full set of
general-purpose financial statements. It requires that all items that are
required to be recognized under accounting standards as components of
comprehensive income be reported in a financial statement that is displayed with
the same prominence as other financial statements. This Statement does not
require a specific format for that financial statement but requires that an
enterprise display an amount representing total comprehensive income for the
period in that financial statement.
SFAS No. 130 requires us to (a) classify items of other comprehensive
income by their nature in a financial statement and (b) display the accumulated
balance of other comprehensive income separately from retained earnings and
additional paid-in capital in the equity section of a statement of financial
position.
The Statement is effective for fiscal years beginning after December
15, 1997. Reclassification of financial statements for earlier periods provided
for comparative purposes is required.
In June 1997, the FASB issued SFAS No. 131, Disclosures about Segments
of an Enterprise and Related Information, establishing standards for the way
public business enterprises report information about operating segments in
annual financial statements and requires that those enterprises report selected
information about operating segments in interim financial reports issued to
shareholders. It also establishes standards for related disclosures about
products and services, geographic areas, and major customers. This Statement
supersedes SFAS No. 14, Financial Reporting for Segments of a Business
Enterprise, but retains the requirement to report information about major
customers. It amends SFAS No. 94, Consolidation of All Majority-Owned
Subsidiaries, to remove the special disclosure requirements for previously
unconsolidated subsidiaries. This Statement does not apply to nonpublic business
enterprises or to not-for-profit organizations.
SFAS No. 131 requires that a public business enterprise report
financial and descriptive information about its reportable operating segments.
Operating segments are components of an enterprise about which separate
financial information is available that is evaluated regularly by the chief
operating decision maker in deciding how to allocate resources and in assessing
performance. Generally, financial information is required to be reported on the
basis that it is used internally for evaluating segment performance and deciding
how to allocate resources to segments.
This Statement requires that a public business enterprise report a
measure of segment profit or loss, certain specific revenue and expense items,
and segment assets. It requires reconciliations of total segment revenues, total
segment profit or loss, total segment assets, and other amounts disclosed for
segments to corresponding amounts in the enterprise's general-purpose financial
statements. This Statement also requires that a public business enterprise
report descriptive information about the way that the operating segments were
determined, the products and services provided by the operating segments,
differences between the measurements used in reporting segment information and
those used in the enterprise's general-purpose financial statements, and changes
in the measurement of segment amounts from period to period.
SFAS No. 131 is effective for financial statements for periods
beginning after December 15, 1997. In the initial year of application,
comparative information for earlier years is to be restated. This Statement need
not be applied to interim financial statements in the initial year of its
application, but comparative information for interim periods in the initial year
of application is to be reported in financial statements for interim periods in
the second year of application. We do not expect the adoption of SFAS No. 131 to
have a material impact on our financial condition or results of operations.
In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, requiring companies to record derivatives on
the balance sheet at their fair value. SFAS No. 133 also acknowledges that the
method of recording a gain or loss depends on the use of the derivative. If
certain conditions are met, a derivative may be specifically designated as (a) a
hedge of the exposure to changes in the fair value of a recognized asset or
liability or an unrecognized firm commitment, (b) a hedge of the exposure to
variable cash flows of a forecasted transaction, or (c) a hedge of the foreign
currency exposure of a net investment in a foreign operation, an unrecognized
form commitment, an available-for-sale security, or a
foreign-currency-denominated forecasted transaction.
For a derivative designated as hedging the exposure to changes in the
fair value of a recognized asset or liability or a firm commitment (referred to
as a fair value hedge), the gain or loss is recognized in earnings in the period
of change together with the offsetting loss or gain on the hedged item
attributable to the risk being hedged. The effect of that accounting is to
reflect in earnings the extent to which the hedge is not effective in achieving
offsetting changes in fair value.
For a derivative designated as hedging the exposure to variable cash
flows of a forecasted transaction (referred to as a cash flow hedge), the
effective portion of the derivative's gain or loss is initially reported as a
component of other comprehensive income (outside earnings) and subsequently
reclassified into earnings when the forecasted transaction affects earnings. The
ineffective portion of the gain or loss is reported in earnings immediately.
For a derivative designated as hedging the foreign currency exposure of
a net investment in a foreign operation, the gain or loss is reported in other
comprehensive income (outside earnings) as part of the cumulative transaction
adjustment. The accounting for a fair value hedge described above applies to a
derivative designated as a hedge of the foreign currency exposure of an
unrecognized firm commitment or an available-for-sale security. Similarly, the
accounting for a cash flow hedge described above applies to a derivative
designated as a hedge of the foreign currency exposure of a
foreign-currency-denominated forecasted transaction.
For a derivative not designated as a hedging instrument, the gain or
loss is recognized in earnings in the period of change.
The new Statement applies to all entities. If hedge accounting is
elected by the entity, the method of assessing the effectiveness of the hedging
derivative and the measurement approach of determining the hedge's effectiveness
must be established at the inception of the hedge.
SFAS No. 133 amends SFAS No. 52 and supercedes SFAS Nos. 80, 105, and
119. SFAS No. 107 is amended to include the disclosure provisions about the
concentrations of credit risk from SFAS No. 105. Several Emerging Issues Task
Force consensuses are also changed or nullified by the provisions of SFAS No.
133.
SFAS No. 133 will be effective for all fiscal years beginning after
June 15, 1999. Early application is encouraged; however, this Statement may not
be applied retroactively to financial statements of prior periods.
Due to the recent issuance of this statement, we have not determined
the timing or impact on our operation of adopting this Statement.
Impact of Inflation
The consolidated financial statements presented herein have been prepared
in accordance with generally accepted accounting principles. These principles
require the measurement of financial position and operating results in terms of
historical dollars, without considering changes in the relative purchasing power
of money over time due to inflation.
Our primary 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, however, do not
necessarily move in the same direction or with the same magnitude as the price
of goods and services, since such prices are affected by inflation. In a period
of rapidly rising interest rates, the liquidity and maturities structures of our
assets and liabilities are critical to the maintenance of acceptable performance
levels.
The principal effect of inflation, as distinct from levels of interest
rates, on earnings is in the area of noninterest expense. Such expense items as
employee compensation, employee benefits and occupancy and equipment costs may
be subject to increases as a result of inflation. An additional effect of
inflation is the possible increase in the dollar value of the collateral
securing loans that we have made. We are unable to determine the extent, if any,
to which properties securing our loans have appreciated in dollar value due to
inflation.
Year 2000 Issue
Our lending and deposit activities, like those of most financial
institutions, depend significantly upon computer systems. See "Business of
Lincoln Federal Savings Bank -- Year 2000 Considerations." We are addressing the
potential problems associated with the possibility that the computers which
control our operating systems, facilities and infrastructure may not be
programmed to read four-digit date codes. This could cause some computer
applications to be unable to recognize the change from the year 1999 to the year
2000, which could cause computer systems to generate erroneous data or to fail.
We are working with the companies that supply or service our systems that rely
on computers to identify and remedy any Year 2000 related problems. We have
contacted the approximately 20 companies that supply or service our material
operations requesting that they certify that they have plans to make their
respective systems Year 2000 compliant. We have established a December 31, 1998
deadline for these service providers to respond. We currently expect to complete
testing for Year 2000 compliance by the second quarter of 1999. We have been
advised by our electronic data service provider, whose systems are integral to
our operations, that it intends for its systems to be Year 2000 compliant by
December 31, 1998. We have already begun testing the data that we maintain on
our electronic data service provider's system and will continue to do so during
1999.
Our Board of Directors reviews on a quarterly basis our progress in
addressing Year 2000 issues. We believe that our expenses related to upgrading
our systems and software for Year 2000 compliance will not exceed $300,000. As
of June 30, 1998, we had spent approximately $100,000 in connection with Year
2000 compliance. Although we believe we are taking the necessary steps to
address the Year 2000 compliance issue, no assurances can be given that some
problems will not occur or that we will not incur significant additional
expenses in future periods. In the event that we are ultimately required to
purchase replacement computer systems, programs and equipment, or to incur
substantial expenses to make our current systems, programs and equipment Year
2000 compliant, our net income and financial condition could be adversely
affected.
In addition to possible expenses related to our own systems and those
of our service providers, we could incur losses if Year 2000 problems affect any
of our depositors or borrowers. Such problems could include delayed loan
payments due to Year 2000 problems affecting any of our significant borrowers or
impairing the payroll systems of large employers in our market area. We have
contacted our commercial borrowers whose loans exceed $300,000 requesting that
they certify by the end of November, 1998, that their computer systems are, or
soon will be Year 2000 compliant. In addition, we require borrowers under new
commercial loans that we originate to certify that they will give all necessary
attention to insure that their information technology will be Year 2000
compliant. Because our loan portfolio to individual borrowers is diversified and
our market area does not depend significantly upon one employer or industry, we
do not expect any such Year 2000 related difficulties that may affect our
depositors and borrowers to significantly affect our net earnings or cash flow.
BUSINESS OF LINCOLN FEDERAL SAVINGS BANK
General
We were originally organized in 1884 as Ladoga Federal Savings and Loan
Association, located in Ladoga, Indiana. In 1979 we merged with Plainfield First
Federal Savings and Loan Association, a federal savings and loan association
located in Plainfield, Indiana which was originally organized in 1896. Following
the merger, we changed our name to Lincoln Federal Savings and Loan Association
and, in 1984, we adopted our current name, Lincoln Federal Savings Bank. We
currently conduct our business from four full-service offices located in
Hendricks, Montgomery and Clinton Counties, Indiana, with our main office
located in Plainfield. We expect to open a new office in Avon, Indiana in
December, 1998. Our principal business consists of attracting deposits from the
general public and originating fixed-rate and adjustable-rate loans secured
primarily by first mortgage liens on one- to four-family residential real
estate. Our deposit accounts are insured up to applicable limits by the SAIF of
the FDIC.
We offer a number of financial services, including: (i) one- to
four-family residential real estate loans; (ii) commercial real estate loans;
(iii) real estate construction loans; (iv) land loans; (v) multi-family
residential loans; (vi) consumer loans, including home equity loans and
automobile loans; (vii) commercial loans; (viii) money market demand accounts
("MMDAs"); (ix) savings accounts; (x) checking accounts; (xi) NOW accounts; and
(xii) certificates of deposit.
Lending Activities
We have historically concentrated our lending activities on the
origination of loans secured by first mortgage liens for the purchase,
construction or refinancing of one- to four-family residential real property.
One- to four-family residential mortgage loans continue to be the major focus of
our loan origination activities, representing 77.1% of our total loan portfolio
at June 30, 1998. We also offer commercial real estate loans, real estate
construction loans and consumer loans. To a limited extent, we also offer
multi-family loans, land loans and commercial loans. Mortgage loans secured by
commercial real estate totaled approximately 7.0% of our total loan portfolio at
June 30, 1998. Real estate construction loans totaled approximately 3.7% of our
total loans as of June 30, 1998. Consumer loans, which consist primarily of home
equity and second mortgage loans, have increased significantly in the past two
years from $11.3 million, or 3.8% of our loan portfolio at December 31, 1995, to
$22.4 million, or 10.8% of our loan portfolio at June 30, 1998.
<PAGE>
<TABLE>
<CAPTION>
At June 30, At December 31,
1998 1997 1996 1995
Percent Percent Percent Percent
Amount of Total Amount of Total Amount of Total Amount of Total
------ -------- ------ -------- ------ -------- ------ --------
(Dollars in thousands)
TYPE OF LOAN
Real estate mortgage loans:
One-to-four-family
<S> <C> <C> <C> <C> <C> <C> <C> <C>
residential (1)................$159,887 77.12% $205,976 81.03% $269,618 84.84% $248,947 84.48%
Multi-family..................... 1,048 .51 1,133 .45 1,111 .35 1,012 .34
Commercial real estate........... 14,457 6.97 14,914 5.87 14,830 4.66 15,727 5.34
Construction..................... 7,722 3.72 9,912 3.90 13,159 4.14 7,838 2.66
Land............................. 1,699 .82 1,455 .57 2,725 .86 9,877 3.35
Commercial.......................... 141 .07 242 .10 --- --- --- .---
Consumer loans:
Home equity and
second mortgages............... 18,525 8.93 17,218 6.77 13,239 4.17 7,858 2.67
Other............................ 3,849 1.86 3,340 1.31 3,124 .98 3,409 1.16
-------- ------ -------- ------ -------- ------ -------- ------
Gross loans receivable.........$207,328 100.00% $254,190 100.00% $317,806 100.00% $294,668 100.00%
======== ====== ======== ====== ======== ====== ======== ======
TYPE OF SECURITY
One-to-four-family
residential real estate (1)....$185,766 89.60% $232,966 91.65% $290,956 91.55% $264,142 89.64%
Multi-family real estate......... 1,048 .51 1,133 .45 1,111 .35 1,012 .34
Commercial real estate........... 14,825 7.15 15,054 5.92 19,890 6.26 16,229 5.51
Land............................. 1,699 .82 1,455 .57 2,725 .86 9,877 3.35
Deposits......................... 1,114 .54 1,106 .44 1,155 .37 995 .34
Auto............................. 2,150 1.04 2,041 .80 1,502 .47 1,690 .57
Other security................... 341 .16 426 .17 356 .11 611 .21
Unsecured ....................... 385 .18 9 -- 111 .03 113 .04
-------- ------ -------- ------ -------- ------ -------- ------
Gross loans receivable......... 207,328 100.00 254,190 100.00% 317,806 100.00 294,668 100.00
Deduct:
Allowance for loan losses........... 1,432 .69 1,361 .54 1,241 .39 1,121 .38
Deferred loan fees (1).............. 1,143 .55 1,690 .66 2,707 .85 2,854 .97
Loans in process.................... 2,071 1.00 2,504 .99 8,086 2.55 5,347 1.81
-------- ------ -------- ------ -------- ------ -------- ------
Net loans receivable.............$202,682 97.76% $248,635 97.81% $305,772 96.21% $285,346 96.84%
======== ====== ======== ====== ======== ====== ======== ======
Mortgage Loans:
Adjustable-rate.................. $74,809 36.79% $95,106 37.95% $117,062 37.20% $112,193 38.52%
Fixed-rate....................... 128,529 63.21 155,502 62.05 197,620 62.80 179,066 61.48
-------- ------ -------- ------ -------- ------ -------- ------
Total..........................$203,338 100.00% $250,608 100.00% $314,682 100.00% $291,259 100.00%
======== ====== ======== ====== ======== ====== ======== ======
</TABLE>
<PAGE>
1994 1993
Percent Percent
Amount of Total Amount of Total
------ -------- ------ --------
TYPE OF LOAN
Real estate mortgage loans:
One-to-four-family
residential (1)............... $228,489 83.78% $176,115 83.77%
Multi-family.................... 559 .20 857 .41%
Commercial real estate.......... 12,780 4.69 12,249 5.83%
Construction.................... 19,343 7.09 8,610 4.09%
Land............................ 1,435 .53 5,343 2.54%
Commercial......................... --- --- --- ---%
Consumer loans:
Home equity and
second mortgages.............. 7,018 2.57 5,355 2.55%
Other........................... 3,108 1.14 1,713 .81%
-------- ------ -------- ------
Gross loans receivable........ $272,732 100.00% $210,242 100.00%
======== ====== ======== ======
TYPE OF SECURITY
One-to-four-family
residential real estate (1)... $253,150 92.82% $190,080 90.41%
Multi-family real estate........ 559 .21 857 .41%
Commercial real estate.......... 14,480 5.31 12,249 5.83%
Land............................ 1,435 .53 5,343 2.54%
Deposits........................ 959 .35 591 .28%
Auto............................ 1,635 .60 926 .44%
Other security.................. 392 .14 72 .03%
Unsecured ...................... 122 .04 124 .06%
-------- ------ -------- ------
Gross loans receivable........ 272,732 100.00 210,242 100.00%
Deduct:
Allowance for loan losses.......... 1,047 .39 1,056 .50%
Deferred loan fees (1)............. 2,703 .99 2,116 1.01%
Loans in process................... 8,728 3.20 9,216 4.38%
-------- ------ -------- ------
Net loans receivable............ $260,254 95.42% $197,854 94.11%
======== ====== ======== ======
Mortgage Loans:
Adjustable-rate.................$ 84,365 31.29% $ 51,757 24.82%
Fixed-rate...................... 185,259 68.71 156,772 75.18%
-------- ------ -------- ------
Total......................... $269,624 100.00% $208,529 100.00%
======== ====== ======== ======
(1) Net loans held for sale included in the above categories amounted to
$19,264,000, $24,201,000, $15,534,000, $16,141,000 and $8,779,000 at
June 30, 1998 and December 31, 1996, 1995, 1994, and 1993,
respectively. There were no loans held for sale at December 31, 1997.
<PAGE>
The following table sets forth certain information at December 31,
1997, regarding the dollar amount of loans maturing in our loan portfolio based
on the contractual terms to maturity. Demand loans having no stated schedule of
repayments and no stated maturity and overdrafts are reported as due in one year
or less. This schedule does not reflect the effects of possible prepayments or
enforcement of due-on-sale clauses. Management expects prepayments will cause
actual maturities to be shorter.
<TABLE>
<CAPTION>
Balance Due During Years Ended December 31,
Outstanding at 2001 2003 2008 2013
December 31, to to to and
1997 1998 1999 2000 2002 2007 2012 following
(In thousands)
Real estate mortgage loans:
One- to four-family
<S> <C> <C> <C> <C> <C> <C> <C> <C>
residential loans................ $205,976 $ 180 $ 71 $ 304 $2,847 $16,336 $43,541 $142,697
Multi-family loans.................... 1,133 67 --- --- 76 131 687 172
Commercial real estate loans....... 14,914 4,796 253 415 195 2,952 3,917 2,386
Construction loans................. 9,912 7,137 2,666 109 --- --- --- ---
Land loans......................... 1,455 1,190 265 --- --- --- --- ---
Commercial......................... 242 87 16 56 83 --- --- ---
Consumer loans:
Installment loans................. 2,234 100 303 506 1,279 37 9 ---
Loans secured by deposits.......... 1,106 517 504 14 71 --- --- ---
Home equity loans and
and second mortgages............. 17,218 1,218 393 250 1,103 14,254 --- ---
-------- ------- ------ ------ ------ ------- ------- --------
Total consumer loans............. 20,558 1,835 1,200 770 2,453 14,291 9 ---
-------- ------- ------ ------ ------ ------- ------- --------
Total.......................... $254,190 $15,292 $4,471 $1,654 $5,654 $33,710 $48,154 $145,255
======== ======= ====== ====== ====== ======= ======= ========
</TABLE>
The following table sets forth, as of December 31, 1997, the dollar
amount of all loans due after one year that have fixed interest rates and
floating or adjustable interest rates.
<TABLE>
<CAPTION>
Due After December 31, 1998
Fixed Rates Variable Rates Total
----------- -------------- -----
(In thousands)
Real estate mortgage loans:
<S> <C> <C> <C>
One- to four-family residential loans............. $132,186 $73,610 $205,796
Multi-family loans................................ 321 745 1,066
Commercial real estate loans...................... 6,626 3,492 10,118
Construction loans................................... 2,775 --- 2,775
Land loans........................................ 265 --- 265
Commercial........................................... 155 --- 155
Installment loans.................................... 2,134 --- 2,134
Loans secured by deposits............................ 589 --- 589
Home equity loans and second mortgages............... 5,080 10,920 16,000
-------- ------- --------
Total............................................. $150,131 $88,767 $238,898
======== ======= ========
</TABLE>
One- to Four-Family Residential Loans. Our primary lending activity
consists of the origination of one- to four-family residential mortgage loans
secured by property located in our primary market area. We generally do not
originate one- to four-family residential mortgage loans if the ratio of the
loan amount to the lesser of the current cost or appraised value of the property
(the "Loan-to-Value Ratio") exceeds 95%. We require private mortgage insurance
on loans with a Loan-to-Value Ratio in excess of 80%. The cost of such insurance
is factored into the annual percentage rate on such loans.
In the past, our underwriting criteria for one- to four-family
residential loans focused heavily on the value of the collateral securing the
loan and placed less emphasis on the borrower's debt servicing capacity and
other credit factors. We are currently revising our lending policies to
emphasize factors other than the value of the underlying collateral, such as the
income, debt-to-income ratio, stability of earnings and past credit history of a
potential borrower, in making credit decisions. We have also recently
established uniform underwriting criteria to be used by each of our branch
offices which are based on the FHLMC lending criteria. We originate fixed-rate
loans which provide for the payment of principal and interest over a period of
up to 30 years.
We also offer adjustable-rate mortgage ("ARM") loans pegged to the
one-year U.S. Treasury securities yield adjusted to a constant maturity. We no
longer offer adjustable rate COFI loans because that index adjusts less rapidly
to changes in interest rates compared to other indices. We may offer discounted
initial interest rates on ARM loans, but we require that the borrower qualify
for the loan at the fully-indexed rate (the index rate plus the margin). A
substantial portion of the ARM loans in our portfolio at June 30, 1998 provide
for maximum rate adjustments per year and over the life of the loan of 2% and
6%, respectively. Our residential ARMs are amortized for terms up to 30 years.
Although we would generally prefer to originate mortgage loans that have
adjustable rather than fixed interest rates, the current low-interest rate
environment has reduced borrower demand for ARM loans.
In two separate transactions in August, 1997 and April, 1998, we
securitized approximately $41.1 million of the COFI loans in our portfolio and
sold the resulting mortgage-backed securities on the secondary market. In June,
1998 we sold in a direct, whole-loan sale to a private investor an additional
$19.3 million of COFI loans. Because this loan sale did not close until the
third quarter of 1998, these loans are reflected as "Loans held for sale" in the
June 30, 1998 financial statements. Following the closing of this whole-loan
sale, the amount of COFI loans in our portfolio was reduced to $4.8 million. We
also pooled $75.0 million of fixed-rate one- to four-family residential loans
into FHLMC mortgage-backed securities. We sold on the secondary market $34.3
million of these securities which were backed by lower-yielding, fixed-rate
loans. We continue to hold in our investment portfolio $40.7 million of these
securities that are backed by higher-yielding, fixed-rate mortgage loans that we
originated. See "Management's Discussion and Analysis of Lincoln Federal Savings
Bank and Subsidiary - Asset/Liability Management."
With the exception of the loans that were securitized during 1997 and
1998 and in the whole-loan sale in 1998, we determine when we originate a one-
to four-family residential loan whether we intend to hold the loan until
maturity or sell it in the secondary market. We generally sell on the secondary
market all of the fixed-rate loans that we originate with terms of more than 15
years that are written to FHLMC standards and retain in our loan portfolio any
loans that we originate that are not written to FHLMC standards. We retain the
servicing rights on the loans that we sell.
ARM loans decrease the risk associated with changes in interest rates
by periodically repricing, but involve other risks because, as interest rates
increase, the underlying payments by the borrower also increase, thus increasing
the potential for default by the borrower. At the same time, the marketability
of the underlying collateral may be adversely affected by higher interest rates.
Upward adjustment of the contractual interest rate is also limited by the
maximum periodic and lifetime interest rate adjustment permitted by the loan
documents, and, therefore, is potentially limited in effectiveness during
periods of rapidly rising interest rates. At June 30, 1998, approximately 33.4%
of our one- to four-family residential loans had adjustable rates of interest.
All of the one- to four-family residential mortgage loans that we
originate include "due-on-sale" clauses, which give us the right to declare a
loan immediately due and payable in the event that, among other things, the
borrower sells or otherwise disposes of the real property subject to the
mortgage and the loan is not repaid. However, we occasionally permit assumptions
of existing residential mortgage loans on a case-by-case basis.
At June 30, 1998, approximately $159.9 million, or 77.1% of our
portfolio of loans, consisted of one- to four-family residential loans.
Approximately $808,000, or .5% of total residential loans, were included in
non-performing assets as of that date. See "--Non-Performing and Problem
Assets."
Commercial Real Estate and Multi-Family Loans. Our commercial real
estate loans are secured by churches, warehouses, office buildings, hotels and
other commercial properties. We generally originate commercial real estate loans
as five-year balloon loans amortized over a 10- or 15-year period, with an
adjustable interest rate indexed primarily to the prime rate. At June 30, 1998
we had $2.9 million in outstanding balloon loans secured by commercial and
multi-family real estate. We generally require a Loan-to-Value Ratio of at least
75% on commercial real estate loans, although we may make loans with a
Loan-to-Value Ratio of up to 80% on loans secured by owner-occupied commercial
real estate or by multi-family residential properties.
Commercial real estate loans generally are larger than one- to
four-family residential loans and involve a greater degree of risk. Commercial
real estate loans often involve large loan balances to single borrowers or
groups of related borrowers. Payments on these loans depend to a large degree on
results of operations and management of the properties and may be affected to a
greater extent by adverse conditions in the real estate market or the economy in
general. Accordingly, the nature of the loans makes them more difficult for
management to monitor and evaluate. In addition, balloon loans may involve a
greater degree of risk to the extent the borrower is unable to obtain financing
or cannot repay the loan when the loan matures and the balloon payment is due.
At June 30, 1998 our largest commercial real estate borrower had loans
outstanding in the aggregate amount of $2.2 million which were secured by motels
located throughout Central Indiana. Also as of that date, our largest commercial
real estate loan had an outstanding balance of $1,357,000 and was secured by a
church located in Plainfield, Indiana. At June 30, 1998, approximately $14.5
million, or 7.0% of our total loan portfolio, consisted of commercial real
estate loans. On the same date, there were no commercial real estate loans
included in non-performing assets. Following the Conversion, we generally intend
to increase the amount of commercial real estate loans in our portfolio.
At June 30, 1998, approximately $1 million, or .5% of our total loan
portfolio, consisted of mortgage loans secured by multi-family dwellings (those
consisting of more than four units). We write multi-family loans on terms and
conditions similar to our commercial real estate loans. The largest multi-family
loan as of June 30, 1998 was $351,000 and was secured by an apartment building
in Clayton, Indiana. On the same date, there were no multi-family loans included
in non-performing assets.
Multi-family loans, like commercial real estate loans, involve greater
risk than do residential loans. Also, the loans-to-one-borrower limitation
limits our ability to make loans to developers of apartment complexes and other
multi-family units.
Construction Loans. We offer construction loans to developers for the
acquisition and development of residential and nonresidential real estate and to
builders of one- to four-family residential properties. A significant portion of
these loans are made on a speculative basis (i.e., before the builder/developer
obtains a commitment from a buyer). At June 30, 1998, approximately $7.7
million, or 3.7% of our total loan portfolio, consisted of construction loans.
Of these loans, approximately $3.4 million were for the acquisition and
development of residential housing developments and $4.0 million financed the
construction of one-to four-family residential properties. As of June 30, 1998,
our largest construction loan relationship and largest construction loan had a
balance of $1.2 million and was secured by a residential housing development
located in Avon, Indiana. As of June 30, 1998, this loan was peforming according
to its terms. Also on that date, construction loans in the amount of $808,000
were included in non-performing assets.
Construction loans on residential properties where the borrower has
entered into a verifiable sales contract to a non-related party to purchase the
completed home may be made with a maximum Loan-to-Value Ratio of the lesser of
90% of the price stipulated in the sales contract or 80% of the appraised value
of the property. With respect to residential properties constructed on a
speculative basis, we generally require a Loan-to-Value Ratio of 75% of the "as
completed" appraised value of the property. Although speculative loans make up a
significant percentage of our construction loan portfolio, we generally will
finance only one speculative construction project per builder. Residential
construction loans are generally written with a fixed rate of interest and for
an initial term of six months. We generally offer construction loans on
commercial land development projects with a maximum Loan-to-Value Ratio of 75%
of the appraised value of the property or 80% of the property's cost plus 80% of
the cost of verifiable improvements to the property. Construction loans on
commercial real estate properties are generally written for a term not to exceed
30 months.
While providing a comparable, and in some cases higher, yield than a
conventional mortgage loan, construction loans involve a higher level of risk.
For example, if a project is not completed and the borrower defaults, we may
have to hire another contractor to complete the project at a higher cost. Also,
a project may be completed, but may not be salable, resulting in the borrower
defaulting and requiring that we take title to the project.
Land Loans. At June 30, 1998, approximately $1.7 million, or .8% of our
total loan portfolio, consisted of mortgage loans secured by undeveloped real
estate. We impose a maximum Loan-to-Value Ratio of 65% of the appraised value of
the land or 90% of the cost of the undeveloped land for pre-development land
acquisition loans. We write these loans for a maximum term of 12 months. At June
30, 1998, our largest land loan totaled $416,000 and was secured by bare land
located in Plainfield, Indiana.
Land loans present greater risk than conventional loans since land
development borrowers who are over budget may divert the loan funds to cover
cost-overruns rather than direct them toward the purpose for which such loans
were made. In addition, land loans are more difficult to monitor than
conventional mortgage loans. As such, a defaulting borrower could cause us to
take title to partially improved land that is unmarketable without further
capital investment.
Consumer Loans. Our consumer loans consist of variable- and fixed-rate
home equity loans and lines of credit, automobile, recreational vehicle, boat
and motorcycle loans and loans secured by deposits. We do not make indirect
consumer loans. Consumer loans tend to have shorter terms and higher yields than
permanent residential mortgage loans. At June 30, 1998, our consumer loans
aggregated approximately $22.4 million, or 10.8% of our total loan portfolio.
Included in consumer loans at June 30, 1998 were $12.6 million of variable-rate
home equity lines of credit. These variable-rate loans improve our exposure to
interest rate risk.
Our home equity lines of credit and fixed-term loans are generally
written for up to 95% of the available equity (the appraised value of the
property less any first mortgage amount) if we hold the first mortgage, and up
to 90% of the available equity if we do not hold the first mortgage. Our home
equity and second mortgage loans increased significantly from $7.9 million at
December 31, 1995 to $18.5 million at June 30, 1998, primarily as the result of
a marketing campaign directed at our existing customers. We generally will write
automobile loans for up to 100% of the acquisition price for a new automobile
and up to the NADA retail value for a used automobile. New car loans are written
for terms of up to 60 months and used car loans are written for terms up to 48
months, depending on the age of the car. Loans for recreational vehicles and
boats are written for no more than 80% of the purchase price or "verified
value," whichever is less, for a maximum term of 120 months and 84 months,
respectively. Motorcycles loans are written for no more than 75% of the purchase
price or "verified value" with a term not to exceed 48 months. All of our
consumer loans have a fixed rate of interest except for home equity lines of
credit, which are offered at a variable rate. At June 30, 1998, consumer loans
in the amount of $27,000 were included in non-performing assets.
Consumer loans may entail greater risk than residential mortgage loans,
particularly in the case of consumer loans that are unsecured or are secured by
rapidly depreciable assets, such as automobiles. Further, any repossessed
collateral for a defaulted consumer loan may not provide an adequate source of
repayment of the outstanding loan balance. In addition, consumer loan
collections depend on the borrower's continuing financial stability, and thus
are more likely to be affected by adverse personal circumstances. Furthermore,
the application of various federal and state laws, including bankruptcy and
insolvency laws, may limit the amount which can be recovered on such loans. See
"- Non-Performing and Problem Assets." There can be no assurances that
additional delinquencies will not occur in the future.
Commercial Loans. We offer commercial loans, which consist primarily of
loans to businesses that are secured by assets other than real estate. As of
June 30, 1998, commercial loans amounted to $141,000. Commercial loans tend to
bear somewhat greater risk than residential mortgage loans, depending on the
ability of the underlying enterprise to repay the loan. Although commercial
loans have not historically comprised a large portion of our loan portfolio, we
intend to increase the amount of loans we make to small businesses in the future
in order to increase our rate of return and diversify our portfolio. As of June
30, 1998, none of our commercial loans were included in nonperforming assets.
Origination, Purchase and Sale of Loans. Historically, we have confined
our loan origination activities primarily to Hendricks, Montgomery and Clinton
Counties. At June 30, 1998, we did not have any mortgage loans secured by
property located outside of Indiana. Our loan originations are generated from
referrals from existing customers, real estate brokers, and newspaper and
periodical advertising. Loan applications are currently underwritten and
processed at our offices in Hendricks, Montgomery and Clinton counties, although
we intend to centralize the underwriting function in our main office in
Plainfield in the near future.
Our loan approval process is intended to assess the borrower's ability
to repay the loan, the viability of the loan and the adequacy of the value of
the property that will secure the loan. To assess the borrower's ability to
repay, we study the employment and credit history and information on the
historical and projected income and expenses of our mortgagors.
We generally require appraisals on all real property securing our
first-mortgage loans and require an attorney's opinion and a valid lien on the
mortgaged real estate. Appraisals for all real property securing first-mortgage
loans are performed by independent appraisers who are state-licensed. We require
fire and extended coverage insurance in amounts at least equal to the principal
amount of the loan and also require flood insurance to protect the property
securing our interest if the property is in a flood plain. We also generally
require private mortgage insurance for all residential mortgage loans with
Loan-to-Value Ratios of greater than 80%. We generally require escrow accounts
for insurance premiums and taxes for residential mortgage loans that we
originate.
Our underwriting standards for consumer loans are intended to protect
against some of the risks inherent in making consumer loans. Borrower character,
paying habits and financial strengths are important considerations.
We occasionally purchase participation interests in loans originated by
other financial institutions in order to diversify our portfolio, supplement
local loan demand and to obtain more favorable yields. The participations that
we purchase normally represent a portion of residential or commercial real
estate loans originated by other Indiana financial institutions, most of which
are secured by property located in Indiana. As of June 30, 1998, however, we had
only $145,000 in loan participations in our asset portfolio.
The following table shows loan origination and repayment activity for
Lincoln Federal during the periods indicated:
<TABLE>
<CAPTION>
Six Months Ended
June 30, Year Ended December 31,
1998 1997 1997 1996 1995
(In thousands)
<S> <C> <C> <C> <C> <C>
Gross loans receivable at
beginning of period.............................$254,190 $317,806 $317,806 $294,668 $272,732
-------- -------- -------- -------- --------
Loans Originated:
Real estate mortgage loans:
One-to-four family loans (1)................ 24,491 24,354 44,472 54,396 46,754
Multi-family loans.......................... 68 140 259
Commercial real estate loans................ 2,472 1,734 6,608 3,033 5,650
Construction loans.......................... 3,347 3,738 10,411 15,640 19,515
Land loans.................................. 580 680 3,053 6,227 2,888
Commercial loans.............................. --- --- 242 --- ---
Consumer loans................................ 7,805 4,839 12,432 14,303 2,880
-------- -------- -------- -------- --------
Total originations........................ 38,695 35,345 77,286 93,739 77,946
Purchases (sales) of participation loans, net...... (47,666) (78,887) (4,681) (7,786)
Reductions:
Repayments and other deductions............... 37,694 22,783 61,904 65,818 48,157
Transfers from loans to real estate owned..... 197 --- 111 102 67
-------- -------- -------- -------- --------
Total reductions............................ 37,891 22,783 62,015 65,920 48,224
-------- -------- -------- -------- --------
Total gross loans receivable at
end of period...........................$207,328 $330,368 $254,190 $317,806 $294,668
======== ======== ======== ======== ========
</TABLE>
(1) Includes certain home equity loans.
Our total loan originations during the period ended June 30, 1998
totaled $38.7 million, compared to $35.3 million during the period ended June
30, 1997. For the year ended December 31, 1997, our loan originations totaled
$77.3 million, compared to $93.7 million and $77.9 million in the years ended
December 31, 1996 and 1995, respectively.
Origination and Other Fees. We realize income from late charges,
checking account service charges, loan servicing fees and fees for other
miscellaneous services. Late charges are generally assessed if a loan payment is
not received within a specified number of days after it is due. The grace period
depends on the individual loan documents. We also receive a loan servicing fee
of 1/4% on fixed-rate loans and 3/8% on ARM loans that we service for others.
Non-Performing and Problem Assets
After a mortgage loan becomes 10 days past due, we deliver a
delinquency notice to the borrower. When loans are 30 to 60 days in default, we
send additional delinquency notices and make personal contact by telephone with
the borrower to establish acceptable repayment schedules. When loans become 60
days in default, we again contact the borrower, this time in person, to
establish acceptable repayment schedules. When a mortgage loan is 90 days
delinquent, we will have either entered into a workout plan with the borrower or
referred the matter to our attorney for collection. Management is authorized to
commence foreclosure proceedings for any loan upon making a determination that
it is prudent to do so.
We review mortgage loans on a regular basis and place one- to
four-family residential loans on a non-accrual status when they become 120 days
delinquent. Other loans are placed on a non-accrual status when they become 90
days delinquent. Generally, when loans are placed on a non-accrual status,
unpaid accrued interest is written off.
Non-performing Assets. At June 30, 1998, $1,741,000, or .6% of our
total assets, were non-performing (non-performing loans and non-accruing loans)
compared to $3,669,000, or 1.1%, of our total assets at December 31, 1997. At
June 30, 1998, residential loans accounted for $808,000 of our non-performing
assets, construction loans accounted for $808,000 of our non-performing assets,
and consumer loans accounted for $27,000 of our non-performing assets. We had
real estate owned ("REO") properties in the amount of $98,000 as of June 30,
1998.
The table below sets forth the amounts and categories of our
non-performing assets (non-performing loans, foreclosed real estate and troubled
debt restructurings) for the last three years. It is our policy that all earned
but uncollected interest on all loans be reviewed monthly to determine if any
portion thereof should be classified as uncollectible for any loan past due in
excess of 90 days. We deem any delinquent loan that is 90 days or more past due
to be a non-performing asset.
<TABLE>
<CAPTION>
At June 30, At December 31,
1998 1997 1996 1995
(Unaudited) (Dollars in thousands)
Non-performing assets:
<S> <C> <C> <C> <C>
Non-performing loans................................ $1,601 $ 3,257 $ 2,397 $1,797
Troubled debt restructurings........................ 42 367 46 598
------ ------- ------ ------
Total non-performing loans........................ 1,643 3,624 2,443 2,395
Foreclosed real estate.............................. 98 45 75 ---
------ ------- ------ ------
Total non-performing assets....................... $1,741 $ 3,669 $2,518 $2,395
====== ======= ====== ======
Non-performing loans to total loans.................... .80% 1.45% .80% .83%
====== ======= ====== ======
Non-performing assets to total assets.................. .57% 1.14% .73% .75%
====== ======= ====== ======
</TABLE>
Interest income of $30,000 and $93,000 for the six months ended June
30, 1998 and the year ended December 31, 1997, respectively, was recognized on
the non-performing loans summarized above. Interest income of $80,000 and
$225,000 for the six months ended June 30, 1998 and the years ended December 31,
1997, respectively, would have been recognized under their original loan terms.
At June 30, 1998, we held loans delinquent from 30 to 89 days totalling
$5.1 million. As of that date, we were not aware of any other loans in which
borrowers were experiencing financial difficulties and were not aware of any
assets that would need to be disclosed as non-performing assets.
Our two largest non-performing loans at June 30, 1998 were made to
separate borrowers in connection with the development of residential
subdivisions in Hendricks County, Indiana. We have placed both loans on
non-accrual status. We originated the larger of the two loans in January, 1994
in the original amount of $1.2 million. The loan became delinquent in September,
1995, and as of June 30, 1998, the borrower owed $673,000. We have written this
amount down to $372,000 on our books, reflecting the market value of the
collateral less the estimated costs of foreclosing on the property. In addition,
we have established a reserve for this loan due to its classified status. We
have turned the collection of this loan over to our attorney and a foreclosure
action has been filed.
The other significant delinquent loan in our portfolio was originated
in September, 1993 in the original principal amount of $600,000. We extended an
additional loan for $295,000 to the same borrower in August, 1995. Both loans
became delinquent in September, 1996. As of June 30, 1998, the borrower owed an
aggregate amount of $435,000 on the two loans. We have continuously worked with
the borrower since the loans became delinquent to restructure the repayment
terms of the loans. We have not charged the loan off but, due to its classified
status, we have established a reserve based on management's estimate of the
value of the collateral. We have not initiated foreclosure proceedings on this
loan.
<PAGE>
Delinquent Loans. The following table sets forth certain information at
June 30, 1998, and at December 31, 1997, 1996, and 1995, relating to
delinquencies in our portfolio. Delinquent loans that are 90 days or more past
due are considered non-performing assets.
<TABLE>
<CAPTION>
At June 30, 1998 At December 31, 1997
30-89 Days 90 Days or More 30-89 Days 90 Days or More
Principal Principal Principal Principal
Number Balance Number Balance Number Balance Number Balance
of Loans of Loans of Loans of Loansof Loans of Loans of Loansof Loans
(Dollars in thousands)
Residential
<S> <C> <C> <C> <C> <C> <C> <C> <C>
mortgage loans.......... 99 4,707 19 766 140 6,040 26 1,228
Commercial
real estate loans....... 1 93 --- --- --1 100 1 367
Multi-family
mortgage loans.......... ----- --- --- --- ------ --- --- ---
Construction loans......... --- --- 3 808 --- --- 3 1,214
Land loans................. 1 6 --- --- --- --- --- ---
Consumer loans............. 20 258 2 27 29 379 20 448
--- ------ -- ------ --- ------ -- ------
Total................... 121 $5,064 24 $1,601 170 $6,519 50 $3,257
=== ====== == ====== === ====== == ======
Delinquent loans to
total loans............. 3.27% 3.91%
==== ====
</TABLE>
<TABLE>
<CAPTION>
At December 31, 1996 At December 31, 1995
30-89 Days 90 Days or More 30-89 Days 90 Days or More
Principal Principal Principal Principal
Number Balance Number Balance Number Balance Number Balance
of Loans of Loans of Loansof Loans of Loans of Loans of Loans of Loans
Residential
<S> <C> <C> <C> <C> <C> <C> <C> <C>
mortgage loans......... 143 6,613 11 797 156 6,598 12 452
Commercial
real estate loans...... 2 609 --- --- --- --- --- ---
Multi-family
mortgage loans......... --- --- 4 1,594 --- --- --- ---
Construction loans........ --- --- --- --- --- --- 3 1,199
Land loans................ 4 47 --- --- 1 152 --- ---
Consumer loans............ 7 39 1 6 10 188 8 146
--- ------ -- ----- --- ------ -- ------
Total.................. 156 $7,308 16 2,397 167 $6,938 23 $1,797
=== ====== == ===== === ====== == ======
Delinquent loans to
total loans............ 3.16% 3.05%
==== ====
</TABLE>
<PAGE>
Classified assets. Federal regulations and our Asset Classification
Policy provide for the classification of loans and other assets such as debt and
equity securities considered by the OTS to be of lesser quality as
"substandard," "doubtful" or "loss" assets. An asset is considered "substandard"
if it is inadequately protected by the current net worth and paying capacity of
the obligor or of the collateral pledged, if any. "Substandard" assets include
those characterized by the "distinct possibility" that the institution will
sustain "some loss" if the deficiencies are not corrected. Assets classified as
"doubtful" have all of the weaknesses inherent in those classified
"substandard," with the added characteristic that the weaknesses present make
"collection or liquidation in full," on the basis of currently existing facts,
conditions, and values, "highly questionable and improbable." Assets classified
as "loss" are those considered "uncollectible" and of such little value that
their continuance as assets without the establishment of a specific loss reserve
is not warranted.
An insured institution is required to establish general allowances for
loan losses in an amount deemed prudent by management for loans classified
substandard or doubtful, as well as for other problem loans. General allowances
represent loss allowances which have been established to recognize the inherent
risk associated with lending activities, but which, unlike specific allowances,
have not been allocated to particular problem assets. When an insured
institution classifies problem assets as "loss," it is required either to
establish a specific allowance for losses equal to 100% of the amount of the
asset so classified or to charge off such amount. An institution's determination
as to the classification of its assets and the amount of its valuation
allowances is subject to review by the OTS which can order the establishment of
additional general or specific loss allowances.
We regularly review our loan portfolio to determine whether any loans
require classification in accordance with applicable regulations. Our classifed
assets are made up entirely of non-performing assets.
Allowance for Loan Losses
The allowance for loan losses is maintained through the provision for
loan losses, which is charged to earnings. The allowance for loan losses is
determined in conjunction with our review and evaluation of current economic
conditions (including those of our lending area), changes in the character and
size of the loan portfolio, loan delinquencies (current status as well as past
and anticipated trends) and adequacy of collateral securing loan delinquencies,
historical and estimated net charge-offs, and other pertinent information
derived from a review of the loan portfolio. In our opinion, our allowance for
loan losses is adequate to absorb probable losses inherent in the loan portfolio
at June 30, 1998. However, there can be no assurance that regulators, when
reviewing our loan portfolio in the future, will not require increases in our
allowances for loan losses or that changes in economic conditions will not
adversely affect our loan portfolio.
Summary of Loan Loss Experience. The following table analyzes changes
in the allowance during the past three fiscal years ended December 31, 1997, and
the six-month periods ended June 30, 1998, and June 30, 1997.
<TABLE>
<CAPTION>
Six Months Ended
June 30, Year Ended December 31,
1998 1997 1997 1996 1995
(Unaudited) (Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Balance at beginning of period.............. $ 1,361 $ 1,241 $ 1,241 $ 1,121 $ 1,047
Charge-offs:
One- to four-family
residential mortgage loans........... (29) --- --- --- (15)
Commercial real estate mortgage loans.. --- --- (178) --- ---
Construction loans..................... (301) --- --- --- (12)
Consumer loans......................... (25) --- --- --- (2)
------ --------- --------- ------- ------
Total charge-offs.................... (355) --- (178) --- (29)
------ --------- --------- ------- ------
Recoveries.................................. --- --- --- --- ---
One- to four-family
residential mortgage loans........... 13 --- --- --- 3
Consumer loans......................... 3 --- --- --- ---
------ --------- --------- ------- ------
Total recoveries..................... 16 --- --- --- 3
------ --------- --------- ------- ------
Net charge-offs.......................... (339) --- (178) --- (26)
------ --------- --------- ------- ------
Provision for losses on loans............... 410 50 298 120 100
------ --------- --------- ------- ------
Balance end of period.................... $1,432 $ 1,291 $ 1,361 $ 1,241 $1,121
====== ========= ========= ======= ======
Allowance for loan losses as a percent of
total loans outstanding.................. 0.70% 0.40% 0.54% 0.40% 0.39%
Ratio of net charge-offs to average
loans outstanding........................ .15 --- .06 --- .01
</TABLE>
Allocation of Allowance for Loan Losses. The following table presents
an analysis of the allocation of our allowance for loan losses at the dates
indicated.
<TABLE>
<CAPTION>
At June 30, At December 31,
1998 1997 1997 1996 1995
Percent Percent Percent Percent Percent
of loans of loans of loans of loans of loans
in each in each in each in each in each
category category category category category
to total total to total to total total
Amount loans Amount loans Amount loans Amount loans Amount loans
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
(Unaudited) (Dollars in thousands)
Balance at end of
period applicable to:
Real estate mortgage loans:
One- to four-family
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
residential............. $605 77.12% $253 85.67% $401 81.78% $206 84.84% $ 77 84.48%
Multi-family.............. 10 .51 11 .33 11 .45 --- .35 --- .34
Commercial................ 217 6.97 517 3.63 221 5.88 468 4.66 214 5.34
Construction loans........ 195 3.72 219 3.17 249 3.14 367 4.14 402 2.66
Land loans................ 25 .82 39 1.17 15 .57 --- .86 --- 3.35
Commercial loans............ 2 .07 --- --- 11 .10 --- --- --- ---
Consumer loans.............. 339 10.79 252 6.03 268 8.08 98 5.15 72 3.83
Unallocated................. 39 --- --- --- 185 --- 102 --- 356
------ ------ ------ ------ ------ ------ ------ ------ ------ ------
Total.......................$1,432 100.00% $1,291 100.00% $1,361 100.00% $1,241 100.00% $1,121 100.00%
====== ====== ====== ====== ====== ====== ====== ====== ====== ======
</TABLE>
<PAGE>
Investments
Investments. During the third quarter of 1997, we adopted a revised
investment policy that authorizes us to invest in U.S. Treasury securities,
securities guaranteed by the Government National Mortgage Association ("GNMA"),
securities issued by agencies of the U.S. Government, mortgage-backed securities
issued by the FHLMC or the Federal National Mortgage Association ("FNMA") and in
highly-rated mortgage-backed securities, collateralized mortgage obligations and
investment-grade corporate debt securities. This revised policy permits our
management to react quickly to market conditions. Most of the securities in our
portfolio are considered available-for-sale. At June 30, 1998, our investment
portfolio consisted of investments in FHLMC and FNMA mortgage-backed securities,
corporate securities, federal agency securities, FHLB stock, an investment in
Pedcor Investments - 1987 - I, L.P., an investment in Bloomington Housing
Associates, L.P., and an investment in an insurance company. See "-Investments
in Multi-Family, Low- and Moderate-Income Housing Projects" and "Service
Corporation Subsidiary." At June 30, 1998, approximately $70.3 million, or
23.1%, of our total assets consisted of such investments. We also had $20.7
million in interest-earning deposits with the FHLB-Indianapolis as of that date.
As of that date, we also had pledged to the FHLB-Indianapolis as collateral,
investment securities with a carrying value of $47.6 million, including $44.1
million in mortgage-backed securities and $3.5 million in other securities.
Investment Securities. The following table sets forth the amortized
cost and the market value of our investment portfolio at the dates indicated.
<TABLE>
<CAPTION>
At June 30, At December 31,
1998 1997 1996 1995
Amortized Market Amortized Market Amortized Market Amortized Market
Cost Value Cost Value Cost Value Cost Value
---- ----- ---- ----- ---- ----- ---- -----
(Unaudited) (In thousands)
Investment securities available for sale:
<S> <C> <C> <C> <C>
Mortgage-backed securities......... $43,206 $44,112(1) $28,495 $29,399 --- --- --- ---
Corporate debt obligations......... 14,828 14,828 --- --- --- --- --- ---
Federated liquid cash fund......... --- --- --- --- $ 17 $ 17 $ 16 $ 16
FHLMC stock........................ --- --- -- --- 100 101 100 100
----- ----- ----- ----- ------ ------ ------ ------
Total investment securities
available for sale.............. 58,034 58,940 28,495 29,399 117 118 116 116
Investment securities
held to maturity--
Federal agency securities......... 3,500 3,509 9,635 9,615 15,185 14,997 11,600 11,591
----- ----- ----- ----- ------ ------ ------ ------
Total investment securities......... 61,534 62,499 38,130 39,014 15,302 15,115 11,716 11,707
Investment in limited partnerships.. 2,633 (1) 2,706 (1) 3,187 (1) 3,583 (1)
Investment in insurance company..... 650 (1) --- --- --- --- --- ---
FHLB stock (2)...................... 5,447 5,447 5,447 5,447 4,797 4,797 4,300 4,300
------- ------- ------- -------
Total investments................... $70,264 $46,283 $23,286 $19,599
======= ======= ======= =======
</TABLE>
(1) Market values are not available
(2) Market value is based on the price at which the stock may be resold to
the FHLB of Indianapolis.
The following table sets forth the amount of investment securities
excluding mortgage-backed securities which mature during each of the periods
indicated and the weighted average yields for each range of maturities at June
30, 1998.
<TABLE>
<CAPTION>
Amount at June 30, 1998 which matures in
One Year One Year After
or Less to Five Years Ten Years
------- ------------- ---------
Amortized Average Amoritzed Average Amortized Average
Cost Yield Cost Yield Cost Yield
(Dollars in thousands)
<S> <C> <C> <C> <C>
Corporates securities -- available for sale.....$ --- ---% $ --- ---% $14,828 6.41%
Federal agency securities -- held to maturity... 1,250 5.77 2,250 6.04 --- ---
------ ---- ------ ---- ------- ----
$1,250 5.77% $2,250 6.04% $14,828 6.41%
====== ==== ====== ==== ======= ====
</TABLE>
At June 30, 1998, our corporate investments included securities of two
issuers with an aggregate book value in excess of 10% of our equity capital as
follows:
Issuer Book Value Market Value
Huntington Bancshares, Inc. $4,969 $4,969
KeyCorp 4,972 4,972
Mortgage-backed Securities. The following table sets forth the
composition of our mortgage-backed securities portfolio at June 30, 1998 and
December 31, 1997. There were no mortgage-backed securities outstanding at
December 31, 1996 and 1995.
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
Amortized Percent Market Amortized Percent Market
Cost of Total Value Cost of Total Value
---- -------- ----- ---- -------- -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Federal Home Loan
Mortgage Corporation $36,416 84.3% $37,264 $20,997 73.7% $21,859
Federal National
Mortgage Association 6,790 15.7 6,848 7,498 26.3 7,540
------- ----- ------- ------- ----- -------
Total mortgage-backed
securities $43,206 100.0% $44,112 $28,495 100.0% $29,399
======= ===== ======= ======= ===== =======
</TABLE>
All mortgage-backed securities outstanding at June 30, 1998 and
December 31, 1997 mature after ten years and have a weighted average yield of
7.34% and 7.72%, respectively.
The following table sets forth the changes in our mortgage-backed
securities portfolio for the six-month period ended June 30, 1998 and for the
year ended December 31, 1997. There were no mortgage-backed securities
outstanding during the six months ended June 30, 1997 or during the years ended
December 31, 1996 and 1995.
<TABLE>
<CAPTION>
For the Six Months Ended For the Year Ended
June 30, 1998 December 31, 1997
(Dollars in thousands)
<S> <C> <C>
Beginning balance $29,399 $ ---
Securitization of loans 39,729 76,455
Purchases 96 7,574
Monthly repayments (4,138) (1,237)
Proceeds from sales (21,081) (54,415)
Gains on sales 105 118
Change in unrealized gain on
securities available for sale 2 904
------- -------
Ending balance $44,112 $29,399
======= =======
</TABLE>
Investments in Multi-Family, Low- and Moderate-Income Housing Projects. We
have an investment in Pedcor Investments - 1987 - I, L.P. ("Pedcor"), an Indiana
limited partnership that was organized to construct, own and operate a 208-unit
apartment complex in Indianapolis, Indiana (the "Pedcor Project"). The Pedcor
Project, which is operated as a multi-family, low- and moderate-income housing
project, has been completed and is performing as planned. At the inception of
the Pedcor Project in August, 1988, we committed to invest $2.7 million in
Pedcor. In January, 1998, we made our final payment pursuant to this commitment
and are no longer liable to contribute additional funds for the Pedcor Project.
We hold a separate investment in a multi-family, low- and moderate-income
housing project through our wholly-owned subsidiary, LF Service Corp. ("LF"). LF
has invested in Bloomington Housing Associates, L.P. ("BHA"), which is an
Indiana limited partnership that was organized to construct, own and operate a
130-unit apartment complex in Bloomington, Indiana (the "BHA Project").
Development of the BHA Project has been completed and the project is performing
as planned. LF committed to invest approximately $4.9 million in BHA at the
inception of the Bloomington Project in August, 1992. Through June 30, 1998, LF
had invested cash of approximately $2.7 million in BHA with five additional
annual capital contributions remaining to be paid in January of each year
through January, 2003, totaling $2.2 million.
A low- and moderate-income housing project qualifies for certain federal
income tax credits if (i) it is a residential rental property, (ii) the units
are used on a nontransient basis, and (iii) 20% or more of the units in the
project are occupied by tenants whose incomes are 50% or less of the area median
gross income, adjusted for family size, or alternatively, at least 40% of the
units in the project are occupied by tenants whose incomes are 60% or less of
the area median gross income. Qualified low income housing projects generally
must comply with these and other rules for fifteen years, beginning with the
first year the project qualified for the tax credit, or some or all of the tax
credit together with interest may be recaptured. The tax credit is subject to
the limitations on the use of general business credit, but no basis reduction is
required for any portion of the tax credit claimed. As of June 30, 1998, 77% of
the units in the Pedcor Project and 95% of the units in the Bloomington Project
were occupied, and all of the tenants met the income test required for the tax
credits.
We have received tax credits of $121,000 and $300,000 from the operation of
the Pedcor Project and $178,000 and $355,000 from the operation of the
Bloomington Project for the six months ended June 30, 1998 and for the year
ended December 31, 1997, respectively. The tax credits from the Pedcor Project
will be available to us through 1999 and the tax credits from the BHA project
will be available through 2012. Although we have reduced income tax expense by
the full amount of the tax credit available each year, we have not been able to
fully utilize available tax credits to reduce income taxes payable because we
may not use tax credits that would reduce our regular corporate tax liability
below our alternative minimum tax liability. We may carry forward unused tax
credits for a period of fifteen years and we believe that we will be able to
utilize available tax credits during the carry-forward period. Additionally,
Pedcor and BHA have incurred operating losses in the early years of their
operations primarily due to accelerated depreciation of assets. Lincoln Federal
has accounted for its investment in Pedcor, and LF has accounted for its
investment in BHA, on the equity method. Accordingly, Lincoln Federal and LF
have each recorded their share of these losses as reductions to their
investments in Pedcor and BHA, respectively. At June 30, 1998, our investment in
Pedcor was $77,000 and LF's investment in BHA was $2.6 million.
The following summarizes our equity in Pedcor's losses and tax credits
and LF's equity in BHA's losses and tax credits recognized in our consolidated
financial statements.
<TABLE>
<CAPTION>
Six Months
Ended
June 30, Year Ended December 31,
1998 1997 1996 1995
(In Thousands)
<S> <C> <C> <C> <C>
Investment in Pedcor........................ $ 77 $ 76 $ 153 $ 151
========= ======= ======= ======
Equity in losses, net
of income tax effect..................... $ (117) $(167) $ (120) $(598)
Tax credit.................................. 121 300 300 300
-------- ----- ------- -----
Increase in after-tax net income from
Pedcor investment........................ $ 4 $ 133 $ 180 $(298)
======== ===== ======= =====
</TABLE>
<TABLE>
<CAPTION>
Six Months
Ended
June 30, Year Ended December 31,
1998 1997 1996 1995
(In Thousands)
<S> <C> <C> <C> <C>
Investment in BHA........................... $2,555 $2,630 $3,034 $3,433
====== ====== ====== ======
Equity in losses, net
of income tax effect..................... $ (45) $ (244) $ (240) $ (366)
Tax credit.................................. 178 355 355 355
------- ------- ------- -------
Increase in after-tax net income from
BHA investment........................... $ 133 $ 111 $ 115 $ (11)
======= ======= ======= =======
</TABLE>
Sources of Funds
General. Deposits have traditionally been our primary source of funds
for use in lending and investment activities. In addition to deposits, we derive
funds from scheduled loan payments, investment maturities, loan prepayments,
retained earnings, income on earning assets and borrowings. While scheduled loan
payments and income on earning assets are relatively stable sources of funds,
deposit inflows and outflows can vary widely and are influenced by prevailing
interest rates, market conditions and levels of competition. Borrowings from the
FHLB of Indianapolis have been used in the short-term to compensate for
reductions in deposits or deposit inflows at less than projected levels.
Deposits. We attract deposits principally from within Hendricks,
Montgomery and Clinton Counties through the offering of a broad selection of
deposit instruments, including fixed-rate passbook accounts, NOW accounts,
variable rate money market accounts, fixed-term certificates of deposit,
individual retirement accounts and savings accounts. We do not actively solicit
or advertise for deposits outside of Hendricks, Montgomery and Clinton Counties,
and substantially all of our depositors are residents of those counties. Deposit
account terms vary, with the principal differences being the minimum balance
required, the amount of time the funds remain on deposit and the interest rate.
We do not accept brokered deposits. Although we sometimes may bid for public
deposits, we held only $1.1 million of such funds, or .5% of our total deposits,
at June 30, 1998. We periodically run specials on certificates of deposit with
specific maturities.
We establish the interest rates paid, maturity terms, service fees and
withdrawal penalties on a periodic basis. Determination of rates and terms are
predicated on funds acquisition and liquidity requirements, rates paid by
competitors, growth goals, and applicable regulations. We rely, in part, on
customer service and long-standing relationships with customers to attract and
retain our deposits. We also closely price our deposits to the rates offered by
our competitors.
Approximately 72% of our deposits consist of certificates of deposit,
which generally have higher interest rates than other deposit products that we
offer. Certificates of deposit have increased 4.8% during the six-month period
ended June 30, 1998. Money market savings accounts represent nearly 14% of our
deposits and have grown 10.1% during the six-month period ended June 30, 1998.
We offer special rates on certificates of deposit with maturities that fit our
asset and liability strategies.
The flow of deposits is influenced significantly by general economic
conditions, changes in money market and other prevailing interest rates and
competition. The variety of deposit accounts that we offer has allowed us to
compete effectively in obtaining funds and to respond with flexibility to
changes in consumer demand. We have become more susceptible to short-term
fluctuations in deposit flows as customers have become more interest rate
conscious. We manage the pricing of our deposits in keeping with our
asset/liability management and profitability objectives. Based on our
experience, we believe that our savings accounts, NOW and MMDAs are relatively
stable sources of deposits. However, the ability to attract and maintain
certificates of deposit, and the rates we pay on these deposits, have been and
will continue to be significantly affected by market conditions.
<PAGE>
An analysis of our deposit accounts by type, maturity, and rate at June
30, 1998, is as follows:
<TABLE>
<CAPTION>
Minimum Balance at Weighted
Opening June 30, % of Average
Type of Account Balance 1998 Deposits Rate
- -----------------------------------------------------------------------------------------------------------------------------
(Unaudited)
(Dollars in thousands)
Withdrawable:
<S> <C> <C> <C> <C>
Savings accounts........................................... $ 25 $20,609 9.76% 3.12%
Money market............................................... 1,000 28,631 13.56 4.89
NOW accounts............................................... 200 7,487 3.54 2.06
Non-interest bearing demand accounts....................... 200 1,394 .66 ---
------- -----
Total withdrawable....................................... 58,121 27.52 3.78
------- -----
Certificates (original terms):
3 months or less........................................... 1,000 407 .19 4.14
6 months................................................... 1,000 8,835 4.19 5.25
12 months.................................................. 1,000 27,605 13.07 5.34
18 months.................................................. 1,000 16,413 7.77 5.38
24 months.................................................. 1,000 9,375 4.44 5.84
30 months.................................................. 1,000 65,066 30.82 5.97
36 months ................................................. 1,000 11,124 5.27 5.76
60 months.................................................. 1,000 13,081 6.19 5.83
Public fund certificates...................................... 1,133 .54 5.46
------- -----
Total certificates............................................ 153,039 72.48 5.71
------- -----
Total deposits................................................ $211,160 100.0% 5.18
======== =====
</TABLE>
The following table sets forth by various interest rate categories the
composition of our time deposits at the dates indicated:
<TABLE>
<CAPTION>
At June 30, At December 31,
1998 1997 1996 1995
---------------------------------------------------------------------
(Unaudited) (In thousands)
<S> <C> <C> <C> <C>
4.00 to 4.99%.......... $15,002 $15,926 $14,672 $ 18,429
5.00 to 5.99%.......... 90,987 81,199 106,675 62,435
6.00 to 6.99%.......... 47,050 48,872 36,071 69,204
7.00 to 7.99%.......... --- --- --- 1,153
-------- -------- -------- --------
Total............... $153,039 $145,997 $157,418 $151,221
======== ======== ======== ========
</TABLE>
The following table represents, by various interest rate categories, the
amounts of time deposits maturing during each of the three years following June
30, 1998. Matured certificates, which have not been renewed as of June 30, 1998,
have been allocated based upon certain rollover assumptions.
<TABLE>
<CAPTION>
Amounts at June 30, 1998 Maturing In
One Year Two Three Greater Than
or Less Years Years Three Years
-------- ------- ------ ------
(In thousands)
<S> <C> <C>
4.00 to 4.99%.......... $14,996 $ 6
5.00 to 5.99%.......... 66,207 19,800 $3,674 $1,306
6.00 to 6.99%.......... 30,365 10,854 3,916 1,915
-------- ------- ------ ------
Total............... $111,568 $30,660 $7,590 $3,221
======== ======= ====== ======
</TABLE>
The following table indicates the amount of our other certificates of
deposit of $100,000 or more by time remaining until maturity as of June 30,
1998.
At June 30, 1998
Maturity Period (In thousands)
Three months or less............................. $3,803
Greater than three months through six months..... 1,971
Greater than six months through twelve months.... 7,494
Over twelve months............................... 3,430
-------
Total....................................... $16,698
=======
<PAGE>
<TABLE>
<CAPTION>
DEPOSIT ACTIVITY
Balance Increase Balance Increase Balance
at (Decrease) at (Decrease) at
June 30, % of from December 31, % of from December 31, % of
1998 Deposits 1997 1997 Deposits 1996 1996 Deposits
(Dollars in thousands)
Withdrawable:
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Savings accounts.................... $20,609 9.76% $(1,358) $21,967 10.78% $(7,747) $29,714 14.09%
Money market accounts............... 28,631 13.56 2,629 26,002 12.75 11,573 14,429 6.84
NOW accounts........................ 7,487 3.54 (78) 7,565 3.71 (986) 8,551 4.06
Noninterest-bearing demand accounts. 1,394 .66 (927) 2,321 1.14 1,610 711 0.34
-------- ------ ------ -------- ------ ------- -------- ------
Total withdrawable................ 58,121 27.52 266 57,855 28.38 4,450 53,405 25.33
Certificates (original terms):
91 days............................. 407 .19 85 322 0.16 (212) 534 0.25
6 months............................ 8,835 4.19 4,273 4,562 2.24 (1,657) 6,219 2.95
12 months........................... 27,605 13.07 (2,108) 29,713 14.58 (26,010) 55,723 26.43
18 months........................... 16,413 7.77 (1,473) 17,886 8.77 1,969 15,917 7.55
24 months........................... 9,375 4.44 8,102 1,273 0.62 1,273 --- .---
30 months........................... 65,066 30.82 (624) 65,690 32.22 29,101 36,589 17.36
36 months .......................... 11,124 5.27 (126) 11,250 5.52 (11,192) 22,442 10.65
60 months........................... 13,081 6.19 (1,090) 14,171 6.95 2,595 11,576 5.49
Public fund certificates............... 1,133 .54 3 1,130 0.56 (7,288) 8,418 3.99
Other certificates..................... --- --- --- --- --- --- --- ---
-------- ------ ------ -------- ------ ------- -------- ------
Total certificates..................... 153,039 72.48 7,042 145,997 71.62 (11,421) 157,418 74.67
-------- ------ ------ -------- ------ ------- -------- ------
Total deposits......................... $211,160 100.00% $7,308 $203,852 100.00% $(6,971) $210,823 100.00%
======== ====== ====== ======== ====== ======= ======== ======
</TABLE>
Increase Balance
(Decrease) at
from December 31, % of
1995 1995 Deposits
Withdrawable:
Savings accounts.................... $(3,593) $33,307 16.98%
Money market accounts............... 11,244 3,185 1.62
NOW accounts........................ 1,470 7,081 3.61
Noninterest-bearing demand accounts. (612) 1,323 0.68
------- -------- ------
Total withdrawable................ 8,509 44,896 22.89
Certificates (original terms):
91 days............................. (2) 536 0.27
6 months............................ (58) 6,277 3.20
12 months........................... (6,791) 62,514 31.88
18 months........................... (1,517) 17,434 8.89
24 months........................... --- --- ---
30 months........................... 10,557 26,032 13.27
36 months .......................... (1,202) 23,644 12.06
60 months........................... (795) 12,371 6.31
Public fund certificates............... 6,046 2,372 1.21
Other certificates..................... (41) 41 0.02
------- -------- ------
Total certificates..................... 6,197 151,221 77.11
------- -------- ------
Total deposits......................... $14,706 $196,117 100.00%
======= ======== ======
<PAGE>
Total deposits at June 30, 1998 were approximately $211.2 million, compared to
approximately $196.1 million at December 31, 1995. Our deposit base depends
somewhat upon the manufacturing sector of Hendricks, Montgomery and Clinton
Counties. Although the manufacturing sector in these counties is relatively
diversified and does not significantly depend upon any industry, a loss of a
material portion of the manufacturing workforce could adversely affect our
ability to attract deposits due to the loss of personal income attributable to
the lost manufacturing jobs and the attendant loss in service industry jobs.
In the unlikely event of our liquidation after the Conversion, all
claims of creditors (including those of deposit account holders, to the extent
of their deposit balances) would be paid first followed by distribution of the
liquidation account to certain deposit account holders, with any assets
remaining thereafter distributed to the Holding Company as the sole shareholder
of Lincoln Federal. See "The Conversion - Principal Effects of Conversion -
Effect on Liquidation Rights."
Borrowings. We focus on generating high quality loans and then seeking
the best source of funding from deposits, investments or borrowings. At June 30,
1998, we had borrowings in the amount of $45.7 million from the FHLB of
Indianapolis which bear fixed and variable interest rates and which are due at
various dates through 2008. We are required to maintain eligible loans and
investment securities, including mortgage-backed securites, in our portfolio of
at least 160% of outstanding advances as collateral for advances from the FHLB
of Indianapolis. We also have available a $2 million line of credit with the
FHLB of Indianapolis. We do not anticipate any difficulty in obtaining advances
appropriate to meet our requirements in the future.
The following table presents certain information relating to our
borrowings at or for the six months ended June 30, 1998 and 1997 and at or for
the years ended December 31, 1997, 1996 and 1995.
<TABLE>
<CAPTION>
At or for the
Six Months At or for the Year
Ended June 30, Ended December 31,
1998 1997 1997 1996 1995
-----------------------------------------------------------------
(Dollars in thousands)
FHLB Advances:
<S> <C> <C> <C> <C> <C>
Outstanding at end of period......................... $45,686 $106,932 $70,136 $91,232 $81,936
Average balance outstanding for period............... 52,577 95,530 92,121 87,621 73,403
Maximum amount outstanding at any
month-end during the period..................... 70,136 106,932 106,932 93,932 81,936
Weighted average interest rate
during the period............................... 5.78% 5.56% 5.70 % 5.57% 6.11%
Weighted average interest rate
at end of period................................ 5.60 5.65 5.71 5.49 5.85
Note payable to Bloomington.......................... 2,203 2,691 2,691 3,180 3,668
</TABLE>
Properties
The following table provides certain information with respect to
Lincoln Federal's offices as of June 30, 1998:
<TABLE>
<CAPTION>
Net Book
Value of
Property, Approximate
Description Owned or Year Total Furniture & Square
and Address leased Opened Deposits Fixtures (1) Footage
-----------------------------------------------------------------------------------------------------------------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C>
1121 East Main Street Owned 1970 $90,200 $1,354 9,925
Plainfield, IN 46168
134 South Washington Street Owned 1962 56,100 474 9,340
Crawfordsville, IN 47933
1900 East Wabash Street Owned 1974 30,800 302 2,670
Frankfort, IN 46041
975 East Main Street Owned 1981 34,000 291 2,890
Brownsburg, IN 46112
</TABLE>
(1) Land and other capitalized costs associated with the future Avon,
Indiana branch totalled $417,000.
We own computer and data processing equipment which we use for
transaction processing, loan origination, and accounting. The net book value of
our electronic data processing equipment was approximately $169,000 at June 30,
1998.
We currently operate four automatic teller machines ("ATMs"), with one
ATM located at each of our branch offices. Our new branch in Avon will also
operate an ATM when it opens in January, 1999. Our ATMs participate in the
Cirrus(R) and MAC(R) networks.
We have also contracted for the data processing and reporting services
of On-Line Financial Services, Inc. in Oak Brook, Illinois. The cost of these
data processing services is approximately $38,000 per month.
We have also executed a Correspondent Services Agreement with the FHLB
of Indianapolis under which we receive item processing and other services for a
fee of approximately $3,400 per month.
Service Corporation Subsidiary
OTS regulations permit federal savings associations to invest in the
capital stock, obligations or other specified types of securities of
subsidiaries (referred to as "service corporations") and to make loans to such
subsidiaries and joint ventures in which such subsidiaries are participants in
an aggregate amount not exceeding 2% of the association's assets, plus an
additional 1% of assets if the amount over 2% is used for specified community or
inner-city development purposes. In addition, federal regulations permit
associations to make specified types of loans to such subsidiaries (other than
special purpose finance subsidiaries) in which the association owns more than
10% of the stock, in an aggregate amount not exceeding 50% of the association's
regulatory capital if the association's regulatory capital is in compliance with
applicable regulations. A savings association that acquires a non-savings
association subsidiary, or that elects to conduct a new activity within a
subsidiary, must give the FDIC and the OTS at least 30 days advance written
notice. The FDIC may, after consultation with the OTS, prohibit specified
activities if it determines such activities pose a serious threat to the SAIF.
Moreover, a savings association must deduct from capital, for purposes of
meeting the core capital, tangible capital and risk-based capital requirements,
its entire investment in and loans to a subsidiary engaged in activities not
permissible for a national bank (other than exclusively agency activities for
its customers or mortgage banking subsidiaries).
We currently own one subsidiary, LF, whose assets consist of an
investment in Family Financial Life Insurance Company ("Family Financial") and
in BHA. See "- Investments in Low- and Moderate-Income Housing Projects." LF
recently received regulatory approval to invest in Family Financial, an Indiana
stock insurance company. In May, 1998, LF acquired a 16.7% interest in Family
Financial for $650,000. The remaining interests are held in equal amounts by
service corporations of five other financial institutions, four of which are
located in Indiana and one in South Carolina. Fifty percent of the common stock
of Family Financial is held by Corporation Partners, a Louisiana general
partnership in which the six participating service corporations own equal
interests. The service corporations directly own, in equal amounts, the
remaining 50% of the common stock of Family Financial.
Family Financial primarily engages in retail sales of mortgage and
credit insurance products in connection with loans originated by its constituent
shareholder financial institutions. Products offered by Family Financial include
group and individual term mortgage life insurance, group mortgage disability
insurance, group accidental death insurance, group credit life insurance, and
group credit accident and disability insurance policies. Family Financial also
markets a variety of tax-deferred annuity contracts which are wholly reinsured
by other insurance companies. LF expects to receive (1) dividends paid on Family
Financial shares owned directly by it, (2) a pro rata allocation of dividends
received on shares held by Consortium Partners, which are divided among the
partners based on the actuarially determined value of Family Financial's various
lines of insurance generated by customers of these partners, and (3) commissions
on sales of insurance products made to customers. For the period ended June 30,
1998, Lincoln Federal did not receive any income from commissions and dividends
paid on Family Financial activities.
Employees
As of June 30, 1998, we employed 75 persons on a full-time basis and 3
on a part-time basis. None of our employees is represented by a collective
bargaining group and we consider our employee relations to be good.
Employee benefits for our full-time employees include, among other
things, a Pentegra Group (formerly known as Financial Institutions Retirement
Fund) defined benefit pension plan, which is a noncontributory,
multiple-employer comprehensive pension plan (the"Pension Plan"), and
hospitalization/major medical insurance, long-term disability insurance, life
insurance, and participation in the Lincoln Federal 401(k) Plan, which is
administered by Pentegra Group.
We consider our employee benefits to be competitive with those offered
by other financial institutions and major employers in our area. See "Executive
Compensation and Related Transactions of Lincoln Federal."
Legal Proceedings
Although we are involved, from time to time, in various legal
proceedings in the normal course of business, there are no material legal
proceedings to which we presently are a party or to which any of our property is
subject.
Year 2000 Considerations
Our lending and deposit activities depend significantly upon computer
systems to process and record transactions. We are aware of the potential Year
2000 related problems that may affect the operating systems that control our
computers as well as those of our third-party data service providers that
maintain many of our records. In 1997, we began the process of identifying any
Year 2000 related problems that may affect our computer systems, and our
management is closely monitoring the data service providers' progress in making
their systems Year 2000 compliant. We currently expect to complete testing for
Year 2000 compliance by the second quarter of 1999.
We have contacted the approximately 20 companies that supply or service
our material operations requesting that they certify that they have plans to
make their respective computer systems Year 2000 compliant. We have established
a December 31, 1998 deadline for these companies to provide this certification.
Once we receive certification from a service provider, we intend to continuously
monitor the progress that it makes in meeting its targeted schedule for becoming
Year 2000 compliant. Our electronic data service provider, whose services are
integral to our operations, has advised us that it intends for its computer
systems to be Year 2000 compliant by December, 1998. We are currently testing
the data that is maintained on our electronic data service provider's system and
will continue testing throughout 1999 to ensure that the system is Year 2000
compliant. The December, 1998 deadline that we have established for our
remaining service providers to certify that their systems are Year 2000
compliant should provide us sufficient time to identify and contract with
alternative service providers to replace any provider that cannot certify that
it is, or soon will be, Year 2000 compliant. We do not expect the expense of
such changes in suppliers or servicers to be material to our operations,
financial condition or results. Notwithstanding the efforts we have made, no
assurances can be given that the systems of our service providers will be timely
renovated to address the Year 2000 issue.
In addition to possible expenses related to our own systems and those
of our service providers, we could incur losses if Year 2000 problems affect any
of our significant borrowers or impair the payroll systems of large employers in
our market area, either of which could delay loan payments by our borrowers. We
have contacted the approximately 23 commercial borrowers with outstanding loans
in excess of $300,000 to request that they certify by the end of November, 1998
that their computer systems are, or soon will be, Year 2000 compliant. In
addition, we currently require that borrowers under new commercial loans that we
originate to certify that they are aware of the Year 2000 issue and will give
all necessary attention to insure that their information technology will be Year
2000 compliant. Because our loan portfolio to individual borrowers is
diversified and our market area does not depend significantly upon one employer
or industry, we do not expect any significant or prolonged Year 2000 related
difficulties that will affect net earnings or cash flow. We believe that our
expenses related to upgrading our systems and software for Year 2000 compliance
will not exceed $300,000. At June 30, 1998, we had spent approximately $100,000
in connection with Year 2000 compliance. Our management does not consider the
additional cost of these efforts to be significant. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations - Year 2000
Issue."
MANAGEMENT OF LINCOLN BANCORP
Directors and Executive Officers of the Holding Company
The Board of Directors of the Holding Company consists of the same
individuals who serve as directors of Lincoln Federal. The Holding Company's
Articles of Incorporation and Bylaws require that directors be divided into
three classes, as nearly equal in number as possible. Each class of directors
serves for a three-year period, with approximately one-third of the directors
elected each year. The Holding Company's officers will be elected annually by
its Board of Directors and will serve at the Board's discretion. The terms of
the present directors expire at the Holding Company's first shareholders'
meeting, which is anticipated to be held in July, 1999. At that meeting, it is
anticipated that the directors will be nominated to serve for the following
terms: the terms of Edward E. Whalen, Wayne E. Kessler and Lester N. Bergum, Jr.
will expire in 2000, the terms of W. Thomas Harmon, John C. Milholland and Jerry
R. Holifield will expire in 2001, and the terms of David E. Mansfield, John L.
Wyatt, and T. Tim Unger will expire in 2002. See "Management of Lincoln Federal
Savings Bank."
The Holding Company's Bylaws provide that directors must (1) be
residents of Hendricks, Montgomery or Clinton County, Indiana, (2) have had a
loan or deposit relationship with us which they have maintained for nine months
prior to their nomination to the Board, and (3) with respect to nonemployee
directors, must have served as a member of a civic or community organization
based in Hendricks, Clinton or Montgomery County for at least 12 months during
the five years prior to their nomination to the Board or, in the case of
existing directors, at least 12 months prior to September 10, 1998. The Holding
Company's Board may waive one or more of these requirements for new members
appointed to the Board in connection with the acquisition of another financial
institution by the Holding Company or the acquisition or opening of a new branch
by Lincoln Federal. See "Restrictions on Acquisition of the Holding Company -
Provisions of the Holding Company's Articles and Bylaws."
The executive officers of the Holding Company are identified below.
Name Position with Holding Company
---- -----------------------------
T. Tim Unger Chairman of the Board, President
and Chief Executive Officer
John M. Baer Secretary and Treasurer
MANAGEMENT OF LINCOLN FEDERAL SAVINGS BANK
Directors of Lincoln Federal
Our Board of Directors currently consists of nine persons with two
additional persons who serve as directors emeritus. Our directors emeritus
attend the Board's regular meetings but do not vote on matters presented to the
Board. Each director holds office for a term of three years, and one-third of
the Board is elected at each annual meeting of our members.
Our Board of Directors met 18 times during the fiscal year ended
December 31, 1997. No director attended fewer than 75% of the aggregate number
of meetings of the Board of Directors and the Board's committees in the past 12
months.
Listed below are the current directors of Lincoln Federal:
Director of Position
Lincoln Federal Expiration with
Director Since of Term Lincoln Federal
- -------- ----- ------- ---------------
Lester N. Bergum, Jr. 1996 2000 Director
W. Thomas Harmon 1982 2001 Director
Jerry R. Holifield 1992 2001 Director
Wayne E. Kessler 1976 2000 Director
David E. Mansfield 1997 1999 Director
John C. Milholland 1988 2001 Director
T. Tim Unger 1996 1999 Director, President and
Chief Executive Officer
Edward E. Whalen 1961 2000 Chairman of the Board
John L. Wyatt 1992 1999 Director
Presented below is certain information concerning the directors of Lincoln
Federal:
Lester N. Bergum, Jr. (age 50) is an attorney and partner with the firm
of Robison, Robison, Bergum & Johnson in Frankfort, Indiana, where he has
practiced since 1974. He has also served since 1989 as president of Title
Insurance Services, Inc., a title agency located in Frankfort, Indiana.
W. Thomas Harmon (age 59) has served as the co-owner, Vice President,
Treasurer and Secretary of Crawfordsville Town & Country Homecenter, Inc. in
Crawfordsville, Indiana, since 1978. Mr Harmon is also a co-owner and officer of
RGW, Inc., in Crawfordsville, a company that develops real estate subdivisions
and manages apartment rental properties, a position he has held since 1965.
Jerry Holifield (age 57) has been the Superintendent of the Plainfield
Community School Corporation since 1991.
Wayne E. Kessler (age 68) has been a self-employed farmer in
Crawfordsville, Indiana since 1949. Mr. Kessler is currently semi-retired.
David E. Mansfield (age 56) is an Administrative Supervisor for
Marathon Oil Company where he has worked since 1973.
John C. Milholland (age 62) has been Principal of Frankfort Senior High
School in Frankfort, Indiana since 1989.
T. Tim Unger (age 58) has been President and Chief Executive Officer of
Lincoln Federal since January, 1996. Before then, Mr. Unger served as President
and Chief Executive Officer of Summit Bank of Clinton County from 1989 through
1995.
Edward E. Whalen (age 70) retired as President and Chief Executive
Officer of Lincoln Federal in 1996. Mr. Whalen was employed by Lincoln Federal
for 36 years and has served on the board of directors since 1961.
John L. Wyatt (age 62) is a District Agent for Northwestern Mutual Life
Insurance Company where he has been employed since 1960.
We also have a director emeritus program pursuant to which our former
directors may continue to serve as advisors to the Board of Directors upon their
retirement or resignation from the Board. Currently, Frank A. Beardsley and
Charles Jones serve as directors emeritus. See "Executive Compensation and
Related Transactions of Lincoln Federal - Compensation of Directors."
Executive Officers of Lincoln Federal Who Are Not Directors
Presented below is certain information regarding our executive officer
who is not a director:
Name Position
John M. Baer Chief Financial Officer, Secretary and Treasurer
John M. Baer (age 50) has served as Lincoln Federal's Chief Financial
Officer since June, 1997 and as its Secretary and Treasurer since January, 1998.
Before working for Lincoln Federal, Mr. Baer served as Vice President and Chief
Financial Officer of the Community Bank Group of Bank One in Indianapolis,
Indiana from June, 1996 through June, 1997. From October, 1989 through June,
1996 he served as Senior Vice President and Chief Financial Officer of Bank One,
Merrillville, NA, in Merrillville, Indiana.
Committees of the Boards of Directors of Lincoln Federal and the Holding Company
Our Board of Directors has four committees. The Audit Committee, which
consists of W. Thomas Harmon, Wayne E. Kessler and Jerry R. Holifield, oversees
our internal and external auditors and monitors our compliance with OTS
compliance regulations. The Asset Quality Committee, which consists of Lester N.
Bergum, John L. Wyatt and David E. Mansfield, is responsible for establishing
standards for credit analysis, underwriting and credit management and for
general oversight of our lending policies. The ALCO/Investment Committee, which
consists of John C. Milholland, David E. Mansfield and Edward E. Whalen, reviews
the financial information provided by our Chief Financial Officer and oversees
our interest rate risk and liquidity management policies. Our Executive
Committee, which consists of Jerry R. Holifield, T. Tim Unger, Edward E. Whalen
and John L. Wyatt, establishes the job descriptions and compensation for our
employees and officers.
EXECUTIVE COMPENSATION AND RELATED TRANSACTIONS OF LINCOLN FEDERAL
Remuneration of Named Executive Officer
The following table sets forth information as to annual, long-term and
other compensation for services in all capacities to our President and Chief
Executive Officer for the fiscal year ended December 31, 1997. Other than Mr.
Unger, we had no executive officers who earned over $100,000 in salary and
bonuses during that fiscal year.
<TABLE>
<CAPTION>
Summary Compensation Table
Long Term Compensation
Annual Compensation Awards Payouts
Name Other Securities All
and Annual Restricted Underlying LTIP Other
Principal Compen- Stock Options/ Payouts Compen-
Position Year Salary ($) Bonus ($) sation($)(1) Award(s)($) SARs (#) ($) sation($) (2)
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
T. Tim Unger 1997 $135,000 (3)(4) $10,000 --- --- --- --- $3,330
</TABLE>
(1) Mr. Unger received certain perquisites, but the incremental cost of
providing such perquisites did not exceed the lesser of $50,000 or 10%
of his salary and bonus.
(2) Other Compensation includes Lincoln Federal's matching contributions
under its 401(k) Plan.
(3) Mr. Unger does not receive any directors fees.
(4) Includes amounts deferred pursuant to Section 401(k) of the Code under
Lincoln Federal's 401(k) Plan.
Employment Contract
We have entered into a three-year employment contract with Mr. Unger.
The contract with Mr. Unger, effective as of the effective date of the
Conversion, extends annually for an additional one-year term to maintain its
three-year term if our Board of Directors determines to so extend it, unless
notice not to extend is properly given by either party to the contract. Mr.
Unger receives an initial salary under the contract equal to his current salary
subject to increases approved by the Board of Directors. The contract also
provides, among other things, for participation in other fringe benefits and
benefit plans available to our employees. Mr. Unger may terminate his employment
upon 60 days' written notice to us. We may discharge Mr. Unger for cause (as
defined in the contract) at any time or in certain specified events. If we
terminate Mr. Unger's employment for other than cause or if Mr. Unger terminates
his own employment for cause (as defined in the contract), Mr. Unger will
receive his base compensation under the contract for an additional three years
if the termination follows a change of control in the Holding Company, and for
the balance of the contract if the termination does not follow a change of
control. In addition, during such period, Mr. Unger will continue to participate
in our group insurance plans and retirement plans, or receive comparable
benefits. Moreover, within a period of three months after such termination
following a change of control, Mr. Unger will have the right to cause us to
purchase any stock options he holds for a price equal to the fair market value
(as defined in the contract) of the shares subject to such options minus their
option price. If the payments provided for in the contract, together with any
other payments made to Mr. Unger by us, are deemed to be payments in violation
of the "golden parachute" rules of the Code, such payments will be reduced to
the largest amount which would not cause us to lose a tax deduction for such
payments under those rules. As of the date hereof, the cash compensation which
would be paid under the contract to Mr. Unger if the contract were terminated
either after a change of control of the Holding Company, without cause by us, or
for cause by Mr. Unger, would be $405,000. For purposes of this employment
contract, a change of control of the Holding Company is generally an acquisition
of control, as defined in regulations issued under the Change in Bank Control
Act and the Savings and Loan Holding Company Act.
The employment contract protects our confidential business information
and protects us from competition by Mr. Unger should he voluntarily terminate
his employment without cause or be terminated by us for cause.
Compensation of Directors
We pay our non-employee directors a monthly retainer of $850 plus $400
for each regular meeting attended and $200 for each committee meeting attended,
with a maximum of $1,200 in annual committee fees. Our directors emeritus
receive a $500 monthly retainer plus $100 for each meeting they attend. Total
fees paid to our directors and directors emeritus for the year ended December
31, 1997 were approximately $134,000.
Our directors and directors emeritus may, pursuant to a deferred
compensation agreement, defer payment of some or all of their directors fees,
bonuses or other compensation into a retirement account. Under this agreement,
deferred directors fees are to be distributed either in a lump-sum payment or in
equal annual or monthly installments over any period of from two to ten years.
The lump sum or first installment is payable to the director, at the director's
discretion, on the first day of the calendar year immediately following the year
in which he ceases to be a director, or in the year in which the director
attains that age specified by the retirement income test of the Social Security
Act. Any additional installments will be paid on the first day of each
succeeding year thereafter. At present, the following directors participate in
the deferred compensation plan: Lester N. Bergum, Jr., W. Thomas Harmon, Wayne
E. Kessler and Edward E. Whalen.
Directors of the Holding Company and LF are not currently paid
directors' fees. The Holding Company may, if it believes it is necessary to
attract qualified directors or is otherwise beneficial to the Holding Company,
adopt a policy of paying directors' fees.
We have also adopted a Deferred Director Supplemental Retirement Plan
(the "Supplemental Plan") which provides for the continuation of directors fees
to a director upon the later of a director's attainment of age 70 or the date on
which he ceases to be a director. A director's interest in the Supplemental Plan
will vest gradually over a five-year period commencing upon the director's
completion of five years of service on our board. Upon completing nine years of
service, the director's interest in the Supplemental Plan will be fully vested.
The interests of directors who, as of December 1, 1997, had served at least one
year on the Board vested immediately upon the adoption of the Supplemental Plan.
The benefits payable to a director under the Supplemental Plan are calculated by
multiplying the director's vested percentage times the rate of directors fees
paid to the director immediately prior to his attainment of age 70 or, if
earlier, the date his status as a director terminated. In the event that a
director's death occurs prior to the commencement of payments under the
Supplemental Plan, the director's designated beneficiary shall receive a monthly
payment calculated by multiplying the director's vested percentage times the
rate of directors fees in effect immediately prior to the director's death or,
if earlier, the date on which his status as a director terminated. Payments
under the Supplemental Plan will continue for 120 months.
Benefits
Insurance Plans. Our officers and employees are covered by
non-contributory medical, life and accidental death and dismemberment and
long-term disability insurance plans. This coverage is provided pursuant to
group plans sponsored by the Indiana League of Savings Institutions Group
Insurance Trust.
401(k) Plan. Our full-time salaried employees who are over 21 years of
age with at least one year of service may participate in the Lincoln Federal
Savings Bank 401(k) Plan, which is administered by Pentegra Group (the "Thrift
Plan"), a contributory multiple employer tax-exempt trust and savings plan.
Participants may elect to make monthly contributions up to 15% of their salary.
We make a matching contribution of 50% of the employee's contribution that does
not exceed 5% of the employee's salary. Contributions may be invested in equity
funds which invest in widely traded stocks, or asset allocation funds, which
invest in a combination of equity and fixed-income assets. Contributions may
also be invested in a Government Bond Fund which invests in long-term U.S.
Treasury Bonds, or in a money market fund that invests in a range of
high-quality, short-term instruments or in a stable value fund that invests in
Guaranteed Investment Contracts and Synthetic Guaranteed Investment Contracts
offered by insurance companies. The normal distribution is a lump sum upon
termination of employment, although other payment options may be selected.
During fiscal 1997, Mr. Unger received employer contributions of $3,330 under
the Thrift Plan.
Pension Plan. Our full-time employees are included in the Pension Plan.
Separate actuarial valuations are not made for individual employer members of
the Pension Plan. Our employees are eligible to participate in the plan once
they have attained the age of 21 and completed one year of service for us and
provided that the employee is expected to complete a mimimum of 1,000 hours of
service in the 12 consecutive months following his enrollment date. An
employee's pension benefits are 100% vested after five years of service.
The Pension Plan provides for monthly or lump sum retirement benefits
determined as a percentage of the employee's average salary (for the employee's
highest five consecutive years of salary) times his years of service. Salary
includes base annual salary as of each January 1, exclusive of overtime,
bonuses, fees and other special payments. Early retirement, disability, and
death benefits are also payable under the Pension Plan, depending upon the
participant's age and years of service. We recorded a benefit of approximately
$26,000 for the Pension Plan during the fiscal year ended December 31, 1997, as
the result of an accounting adjustment.
The estimated base annual retirement benefits presented on a
straight-line basis payable at normal retirement age (65) under the Pension Plan
to persons in specified salary and years of service classifications are as
follows (benefits noted in the table are not subject to any offset).
<TABLE>
<CAPTION>
Highest 5-Year Years of Service
Average -------------------------------------------------------------------------------------------------
Compensation 15 20 25 30 35 40 45
- -------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
$ 60,000 18,000 24,000 30,000 36,000 42,000 48,000 54,000
80,000 24,000 32,000 40,000 48,000 56,000 64,000 72,000
100,000 30,000 40,000 50,000 60,000 70,000 80,000 90,000
120,000 36,000 48,000 60,000 72,000 84,000 96,000 108,000
140,000 42,000 56,000 70,000 84,000 98,000 112,000 126,000
</TABLE>
Benefits are currently subject to maximum Code limitations of $125,000
per year. The years of service credited to Mr. Unger under the Pension Plan as
of December 31, 1997 were two.
Transactions With Certain Related Persons
We have followed a policy of offering to our directors, officers, and
employees real estate mortgage loans secured by their principal residence as
well as other loans. Current law authorizes us to make loans or extensions of
credit to our executive officers, directors, and principal shareholders on the
same terms that are available with respect to loans made to all of our
employees. At present, we offer loans to our executive officers, directors,
principal shareholders and employees with an interest rate that is .5% lower
than the rate generally available to the public, but otherwise are offered with
substantially the same terms as those prevailing for comparable transactions.
All loans to directors and executive officers must be approved in advance by a
majority of the disinterested members of the Board of Directors. Our policy
regarding loans to directors and employees meets the requirements of current
law. Loans to directors, executive officers and their associates totaled
approximately $816,000, or 1.9% of equity capital at June 30, 1998.
Employee Stock Ownership Plan and Trust
The Holding Company has established for our eligible employees an ESOP
effective July 1, 1998, subject to our conversion to stock form. Employees with
at least one year of employment with us and who have attained age 21 are
eligible to participate. As part of the Conversion, the ESOP intends to borrow
funds from the Holding Company and use those funds to purchase a number of
shares equal to 8% of the Common Stock to be sold in the Conversion and issued
to the Foundation. Collateral for the loan will be the Common Stock purchased by
the ESOP. The loan will be repaid principally from our discretionary
contributions to the ESOP over a period of 20 years. The initial interest rate
for the loan will be the prime rate on the date the loan is executed. Shares
purchased by the ESOP will be held in a suspense account for allocation among
participants as the loan is repaid.
Contributions to the ESOP and shares released from the suspense
accounts in an amount proportional to the repayment of the ESOP loan will be
allocated among ESOP participants on the basis of compensation in the year of
allocation. Participants in the ESOP will receive credit for service prior to
the effective date of the ESOP. Benefits generally become 100% vested after five
years of credited service. Prior to the completion of five years of credited
service, a participant who terminates employment for reasons other than death,
retirement, or disability will not receive any benefits under the ESOP.
Forfeitures will be reallocated among remaining participating employees upon the
earlier of the forfeiting participant's death or after the expiration of at
least three years from the date on which such participant's employment was
terminated. Benefits will be payable in the form of Common Stock or cash for
fractional shares upon death, retirement, early retirement, disability or
separation from service. Our contributions to the ESOP are not fixed, so
benefits payable under the ESOP cannot be estimated. In November 1993, the
American Institute of Certified Public Accountants (the "AICPA") issued
Statement of Position ("SOP") 93-6, which requires us to record compensation
expense in an amount equal to the fair market value of the shares released from
the suspense account.
In connection with the establishment of the ESOP, the Holding Company
has established a committee of our employees to administer the ESOP. Home
Federal Savings Bank will serve as corporate trustee of the ESOP. The ESOP
committee may instruct the trustee regarding investment of funds contributed to
the ESOP. The ESOP trustee, subject to its fiduciary duty, must vote all
allocated shares held in the ESOP in accordance with the instructions of
participating employees. Under the ESOP, nondirected shares, and shares held in
the suspense account, will be voted in a manner calculated to most accurately
reflect the instructions it has received from participants regarding the
allocated stock so long as such vote is in accordance with the provisions of the
Employee Retirement Income Security Act of 1974, as amended ("ERISA").
Stock Option Plan
At a meeting of the Holding Company's shareholders to be held at least
six months after the completion of the Conversion, the Board of Directors
intends to submit for shareholder approval the Stock Option Plan for directors
and officers of Lincoln Federal and of the Holding Company. If approved by the
shareholders and as of the date of such approval, Common Stock in an aggregate
amount equal to 10.0% of the shares issued in the Conversion and contributed to
the Foundation will be reserved for issuance by the Holding Company upon the
exercise of the stock options granted under the Stock Option Plan. Assuming the
sale of 5.1 million shares in the Conversion and the issuance of 200,000 shares
to the Foundation, an aggregate of 530,000 shares would be reserved for issuance
under the Stock Option Plan. No options would be granted under the Stock Option
Plan until the date on which shareholder approval is received. At that time, it
is anticipated that options for the following number of shares will be granted
to the following directors, executive officers and employees of Lincoln Federal
and the Holding Company:
Percentage of Shares
Optionee Issued in Conversion
T. Tim Unger.............................................. 2.5%
Other Directors .......................................... 3.0
All other employees....................................... 3.0
Total................................................. 8.5%
It is anticipated that these options would be granted for terms of 10
years (in the case of incentive options) or 10 years and one day (in the case of
non-qualified options), and at an option price per share equal to the fair
market value of the shares on the date of the grant of the stock options. If the
Stock Option Plan is adopted within one year following the Conversion, options
will become exercisable at a rate of 20% at the end of each twelve (12) months
of service with us after the date of grant, subject to early vesting in the
event of death or disability. Options granted under the Stock Option Plan are
adjusted for capital changes such as stock splits and stock dividends. Unless
the Holding Company decides to call an earlier special meeting of shareholders,
the date of grant of these options is expected to be the date of the Holding
Company's annual meeting of shareholders to be held at least six months after
the Conversion.
The Stock Option Plan would be administered by a Committee of
non-employee members of the Holding Company's Board of Directors. Options
granted under the Stock Option Plan to employees could be "incentive" stock
options designed to result in a beneficial tax treatment to the employee but no
tax deduction to the Holding Company. Non-qualified stock options could also be
granted under the Stock Option Plan, and will be granted to the non-employee
directors to receive grants of stock options. In the event an option recipient
terminated his or her employment or service as an employee or director, the
options would terminate during certain specified periods.
RRP
At a meeting of the Holding Company's shareholders to be held at least
six months after the completion of the Conversion, the Board of Directors also
intends to submit the RRP for shareholder approval. The RRP will provide our
directors and officers with an ownership interest in the Holding Company in a
manner designed to encourage them to continue their service with us. Lincoln
Federal will contribute funds to the RRP from time to time to enable it to
acquire an aggregate amount of Common Stock equal to up to 4% of the shares of
Common Stock sold in the Conversion and issued to the Foundation, either
directly from the Holding Company or on the open market. Four percent of the
shares sold in the Conversion and issued to the Foundation would amount to
180,200 shares, 212,000 shares, 243,800 shares or 280,370 shares at the minimum,
midpoint, maximum and 15% above the maximum of the Estimated Valuation Range,
respectively. In the event that additional authorized but unissued shares would
be acquired by the RRP after the Conversion, the interests of existing
shareholders would be diluted. Our executive officers and directors will be
awarded Common Stock under the RRP without having to pay cash for the shares.
No awards under the RRP would be made until the date the RRP is
approved by the Holding Company's shareholders. At that time, it is anticipated
that awards of the following number of shares would be made to the following
directors and executive officers of the Holding Company and Lincoln Federal:
Percentage of Shares
Recipient of Issued in Conversion to be
Awards Awarded Under RRP
T. Tim Unger..................................... .8%
Other Directors.................................. 1.2
All other employees.............................. 1.4
Total........................................ 3.4%
Awards would be nontransferable and nonassignable, and during the
lifetime of the recipient could only be earned by and made to him or her. If the
RRP is adopted within one year of the Conversion, the shares which are subject
to an award would vest and be earned by the recipient at a rate of 20% of the
shares awarded at the end of each full twelve (12) months of service with us
after the date of grant of the award. Awards are adjusted for capital changes
such as stock dividends and stock splits. Notwithstanding the foregoing, awards
would be 100% vested upon termination of employment or service due to death or
disability. Assuming the RRP is adopted within one year of the Conversion, if an
executive officer's or director's employment and/or service were to terminate
for other reasons, the grantee would forfeit any nonvested award. If employment
or service is terminated for cause (as would be defined in the RRP), or if
conduct would have justified termination or removal for cause, shares not
already delivered under the RRP, whether or not vested, could be forfeited by
resolution of the Board of Directors of the Holding Company.
When shares become vested and could actually be distributed in
accordance with the RRP, the participants would also receive amounts equal to
accrued dividends and other earnings or distributions payable with respect
thereto. When shares become vested under the RRP, the participant will recognize
income equal to the fair market value of the Common Stock earned, determined as
of the date of vesting, unless the recipient makes an election under ss. 83(b)
of the Code to be taxed earlier. The amount of income recognized by the
participant would be a deductible expense for tax purposes for the Holding
Company. Shares not yet vested under the RRP will be voted by the Trustee of the
RRP, taking into account the best interests of the recipients of the RRP awards.
REGULATION
General
As a federally chartered, SAIF-insured savings association, we are
subject to extensive regulation by the OTS and the FDIC. For example, we must
obtain OTS approval before we may engage in certain activities and must file
reports with the OTS regarding our activities and financial condition. The OTS
periodically examines our books and records and, in conjunction with the FDIC in
certain situations, has examination and enforcement powers. This supervision and
regulation are intended primarily for the protection of depositors and federal
deposit insurance funds. Our semi- annual assessment owed to the OTS, which is
based upon a specified percentage of assets, is approximately $40,000. The OTS
has recently proposed a change to its assessment regulations which would require
assessments to be determined generally on the basis of an institution's size,
condition, and complexity of its operations.
We are also subject to federal and state regulation as to such matters
as loans to officers, directors, or principal shareholders, required reserves,
limitations as to the nature and amount of our loans and investments, regulatory
approval of any merger or consolidation, issuance or retirements of our
securities, and limitations upon other aspects of banking operations. In
addition, our activities and operations are subject to a number of additional
detailed, complex and sometimes overlapping federal and state laws and
regulations. These include state usury and consumer credit laws, state laws
relating to fiduciaries, the Federal Truth-In-Lending Act and Regulation Z, the
Federal Equal Credit Opportunity Act and Regulation B, the Fair Credit Reporting
Act, the Community Reinvestment Act, anti-redlining legislation and antitrust
laws.
The United States Congress is considering legislation that would
require all federal savings associations, such as Lincoln Federal, to either
convert to a national bank or a state-chartered bank by a specified date to be
determined. In addition, under the legislation, the Holding Company likely would
not be regulated as a savings and loan holding company but rather as a bank
holding company. This proposed legislation would abolish the OTS and transfer
its functions among the other federal banking regulators. Certain aspects of the
legislation remain to be resolved and, therefore, no assurance can be given as
to whether or in what form the legislation will be enacted or its effect on the
Holding Company and Lincoln Federal.
Savings and Loan Holding Company Regulation
Under current law, the Holding Company will be regulated as a
"non-diversified savings and loan holding company" within the meaning of the
Home Owners' Loan Act, as amended (the "HOLA"), and subject to regulatory
oversight of the Director of the OTS. As such, the Holding Company is registered
with the OTS and thereby subject to OTS regulations, examinations, supervision
and reporting requirements. As a subsidiary of a savings and loan holding
company, Lincoln Federal is subject to certain restrictions in its dealings with
the Holding Company and with other companies affiliated with the Holding
Company.
In general, the HOLA prohibits a savings and loan holding company,
without prior approval of the Director of the OTS, from acquiring control of
another savings association or savings and loan holding company or retaining
more than 5% of the voting shares of a savings association or of another holding
company which is not a subsidiary. The HOLA also restricts the ability of a
director or officer of the Holding Company, or any person who owns more than 25%
of the Holding Company's stock, from acquiring control of another savings
association or savings and loan holding company without obtaining the prior
approval of the Director of the OTS.
The Holding Company's Board of Directors presently intends to operate
the Holding Company as a unitary savings and loan holding company. Under current
law, there are generally no restrictions on the permissible business activities
of a unitary savings and loan holding company. However, Congress is considering
a bill which includes a provision that would generally prohibit a company that
filed a holding company application with the OTS after March 31, 1998 from
engaging in diversified business activities. If this bill is enacted, our
ability to engage in diversified business activities would be restricted.
Notwithstanding the above rules as to permissible business activities
of unitary savings and loan holding companies, if the savings association
subsidiary of such a holding company fails to meet the Qualified Thrift Lender
("QTL") test, then such unitary holding company would become subject to the
activities restrictions applicable to multiple holding companies. (Additional
restrictions on securing advances from the FHLB also apply.) See "-Qualified
Thrift Lender." At June 30, 1998, our asset composition was in excess of that
required to qualify us as a Qualified Thrift Lender.
If the Holding Company were to acquire control of another savings
association other than through a merger or other business combination with
Lincoln Federal, the Holding Company would thereupon become a multiple savings
and loan holding company. Except where such acquisition is pursuant to the
authority to approve emergency thrift acquisitions and where each subsidiary
savings association meets the QTL test, the activities of the Holding Company
and any of its subsidiaries (other than Lincoln Federal or other subsidiary
savings associations) would thereafter be subject to further restrictions. The
HOLA provides that, among other things, no multiple savings and loan holding
company or subsidiary thereof which is not a savings association shall commence
or continue for a limited period of time after becoming a multiple savings and
loan holding company or subsidiary thereof, any business activity other than (i)
furnishing or performing management services for a subsidiary savings
association, (ii) conducting an insurance agency or escrow business, (iii)
holding, managing, or liquidating assets owned by or acquired from a subsidiary
savings association, (iv) holding or managing properties used or occupied by a
subsidiary savings association, (v) acting as trustee under deeds of trust, (vi)
those activities previously directly authorized by the FSLIC by regulation as of
March 5, 1987, to be engaged in by multiple holding companies, or (vii) those
activities authorized by the Federal Reserve Board (the "FRB") as permissible
for bank holding companies, unless the Director of the OTS by regulation
prohibits or limits such activities for savings and loan holding companies.
Those activities described in (vii) above must also be approved by the Director
of the OTS before a multiple holding company may engage in such activities.
The Director of the OTS may also approve acquisitions resulting in the
formation of a multiple savings and loan holding company which controls savings
associations in more than one state, if the multiple savings and loan holding
company involved controls a savings association which operated a home or branch
office in the state of the association to be acquired as of March 5, 1987, or if
the laws of the state in which the association to be acquired is located
specifically permit associations to be acquired by state-chartered associations
or savings and loan holding companies located in the state where the acquiring
entity is located (or by a holding company that controls such state-chartered
savings associations). Also, the Director of the OTS may approve an acquisition
resulting in a multiple savings and loan holding company controlling savings
associations in more than one state in the case of certain emergency thrift
acquisitions.
Indiana law permits federal and state savings association holding
companies with their home offices located outside of Indiana to acquire savings
associations whose home offices are located in Indiana and savings association
holding companies with their principal place of business in Indiana ("Indiana
Savings Association Holding Companies") upon receipt of approval by the Indiana
Department of Financial Institutions. Moreover, Indiana Savings Association
Holding Companies may acquire savings associations with their home offices
located outside of Indiana and savings association holding companies with their
principal place of business located outside of Indiana upon receipt of approval
by the Indiana Department of Financial Institutions.
No subsidiary savings association of a savings and loan holding company
may declare or pay a dividend on its permanent or nonwithdrawable stock unless
it first gives the Director of the OTS 30 days advance notice of such
declaration and payment. Any dividend declared during such period or without
giving notice shall be invalid.
Federal Home Loan Bank System
We are a member of the FHLB of Indianapolis, which is one of twelve
regional FHLBs. Each FHLB serves as a reserve or central bank for its members
within its assigned region. It is funded primarily from funds deposited by
savings associations and proceeds derived from the sale of consolidated
obligations of the FHLB system. It makes loans to members (i.e., advances) in
accordance with policies and procedures established by the Board of Directors of
the FHLB. All FHLB advances must be fully secured by sufficient collateral as
determined by the FHLB. The Federal Housing Finance Board ("FHFB"), an
independent agency, controls the FHLB System, including the FHLB of
Indianapolis.
As a member, we are required to purchase and maintain stock in the FHLB
of Indianapolis in an amount equal to at least 1% of our aggregate unpaid
residential mortgage loans, home purchase contracts, or similar obligations at
the beginning of each year. At June 30, 1998, our investment in stock of the
FHLB of Indianapolis was $5.4 million. The FHLB imposes various limitations on
advances such as limiting the amount of certain types of real estate-related
collateral to 30% of a member's capital and limiting total advances to a member.
Interest rates charged for advances vary depending upon maturity, the cost of
funds to the FHLB of Indianapolis and the purpose of the borrowing.
The FHLBs are required to provide funds for the resolution of troubled
savings associations and to contribute to affordable housing programs through
direct loans or interest subsidies on advances targeted for community investment
and low- and moderate-income housing projects. For the fiscal year ended
December 31, 1997, dividends paid by the FHLB of Indianapolis to us totaled
approximately $416,000, for an annual rate of 8.0%. For the six-month period
ended June 30, 1998, we received dividends of $216,000, for an annual rate of
7.9%
Insurance of Deposits
Deposit Insurance. The FDIC is an independent federal agency that
insures the deposits, up to prescribed statutory limits, of banks and thrifts
and safeguards the safety and soundness of the banking and thrift industries.
The FDIC administers two separate insurance funds, the BIF for commercial banks
and state savings banks and the SAIF for savings associations such as Lincoln
Federal and banks that have acquired deposits from savings associations. The
FDIC is required to maintain designated levels of reserves in each fund. As of
September 30, 1996, the reserves of the SAIF were below the level required by
law, primarily because a significant portion of the assessments paid into the
SAIF had been used to pay the cost of prior thrift failures, while the reserves
of the BIF met the level required by law in May, 1995. However, on September 30,
1996, provisions designed to recapitalize the SAIF and eliminate the premium
disparity between the BIF and SAIF were signed into law. See "- Assessments"
below.
Assessments. The FDIC is authorized to establish separate annual
assessment rates for deposit insurance for members of the BIF and members of the
SAIF. The FDIC may increase assessment rates for either fund if necessary to
restore the fund's ratio of reserves to insured deposits to the target level
within a reasonable time and may decrease these rates if the target level has
been met. The FDIC has established a risk-based assessment system for both SAIF
and BIF members. Under this system, assessments vary depending on the risk the
institution poses to its deposit insurance fund. An institution's risk level is
determined based on its capital level and the FDIC's level of supervisory
concern about the institution.
On September 30, 1996, President Clinton signed into law legislation
which included provisions designed to recapitalize the SAIF and eliminate the
significant premium disparity between the BIF and the SAIF. Under the new law,
we were charged a one-time special assessment equal to $.657 per $100 in
assessable deposits at March 31, 1995. We recognized this one-time assessment as
a non-recurring operating expense of approximately $1.3 million ($785,000 after
tax) during the three-month period ending September 30, 1996, and we paid this
assessment on November 27, 1996. The assessment was fully deductible for both
federal and state income tax purposes. Beginning January 1, 1997, our annual
deposit insurance premium was reduced from .23% to .0644% of total assessable
deposits. BIF institutions pay lower assessments than comparable SAIF
institutions because BIF institutions pay only 20% of the rate paid by SAIF
institutions on their deposits with respect to obligations issued by the
federally-chartered corporation which provided some of the financing to resolve
the thrift crisis in the 1980's ("FICO"). The 1996 law also provides for the
merger of the SAIF and the BIF by 1999, but not until such time as bank and
thrift charters are combined. Until the charters are combined, savings
associations with SAIF deposits may not transfer deposits into the BIF system
without paying various exit and entrance fees, and SAIF institutions will
continue to pay higher FICO assessments. Such exit and entrance fees need not be
paid if a SAIF institution converts to a bank charter or merges with a bank, as
long as the resulting bank continues to pay applicable insurance assessments to
the SAIF, and as long as certain other conditions are met.
Savings Association Regulatory Capital
Currently, savings associations are subject to three separate minimum
capital-to-assets requirements: (i) a leverage limit, (ii) a tangible capital
requirement, and (iii) a risk-based capital requirement. The leverage limit
requires that savings associations maintain "core capital" of at least 3% of
total assets. Core capital is generally defined as common shareholders' equity
(including retained income), noncumulative perpetual preferred stock and related
surplus, certain minority equity interests in subsidiaries, qualifying
supervisory goodwill, purchased mortgage servicing rights and purchased credit
card relationships (subject to certain limits) less nonqualifying intangibles.
Under the tangible capital requirement, a savings association must maintain
tangible capital (core capital less all intangible assets except purchased
mortgage servicing rights which may be included after making the above-noted
adjustment in an amount up to 100% of tangible capital) of at least 1.5% of
total assets. Under the risk-based capital requirements, a minimum amount of
capital must be maintained by a savings association to account for the relative
risks inherent in the type and amount of assets held by the savings association.
The risk-based capital requirement requires a savings association to maintain
capital (defined generally for these purposes as core capital plus general
valuation allowances and permanent or maturing capital instruments such as
preferred stock and subordinated debt less assets required to be deducted) equal
to 8.0% of risk-weighted assets. Assets are ranked as to risk in one of four
categories (0-100%). A credit risk-free asset, such as cash, requires no
risk-based capital, while an asset with a significant credit risk, such as a
non-accrual loan, requires a risk factor of 100%. Moreover, a savings
association must deduct from capital, for purposes of meeting the core capital,
tangible capital and risk-based capital requirements, its entire investment in
and loans to a subsidiary engaged in activities not permissible for a national
bank (other than exclusively agency activities for its customers or mortgage
banking subsidiaries). At June 30, 1998, we were in compliance with all capital
requirements imposed by law.
The OTS has promulgated a rule which sets forth the methodology for
calculating an interest rate risk component to be used by savings associations
in calculating regulatory capital. The OTS has delayed the implementation of
this rule, however. The rule requires savings associations with "above normal"
interest rate risk (institutions whose portfolio equity would decline in value
by more than 2% of assets in the event of a hypothetical 200-basis-point move in
interest rates) to maintain additional capital for interest rate risk under the
risk-based capital framework. Even though the OTS has delayed implementing this
rule, we nevertheless measure our interest rate risk in conformity with the OTS
regulation and, as of June 30, 1998, we would have been required to deduct $1.7
million from our total capital available to calculate our risk-based capital
requirement. The OTS recently updated its standards regarding the management of
interest rate risk to include summary guidelines to assist savings associations
in determining their exposures to interest rate risk. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations of
Lincoln Federal Savings Bank - Asset/Liability Management."
If an association is not in compliance with the capital requirements,
the OTS is required to prohibit asset growth and to impose a capital directive
that may restrict, among other things, the payment of dividends and officers'
compensation. In addition, the OTS and the FDIC generally are authorized to take
enforcement actions against a savings association that fails to meet its capital
requirements. These actions may include restricting the operating activities of
the association, imposing a capital directive, cease and desist order, or civil
money penalties, or imposing harsher measures such as appointing a receiver or
conservator or forcing the association to merge into another institution.
Prompt Corrective Regulatory Action
The Federal Deposit Insurance Corporation Improvement Act of 1991
("FedICIA") requires, among other things, that federal bank regulatory
authorities take "prompt corrective action" with respect to institutions that do
not meet minimum capital requirements. For these purposes, FedICIA establishes
five capital tiers: well capitalized, adequately capitalized, undercapitalized,
significantly undercapitalized, and critically undercapitalized. At June 30,
1998, we were categorized as "well capitalized," meaning that our total
risk-based capital ratio exceeded 10%, our Tier I risk-based capital ratio
exceeded 6%, our leverage ratio exceeded 5%, and we were not subject to a
regulatory order, agreement or directive to meet and maintain a specific capital
level for any capital measure.
The FDIC may order savings associations which have insufficient capital
to take corrective actions. For example, a savings association which is
categorized as "undercapitalized" would be subject to growth limitations and
would be required to submit a capital restoration plan, and a holding company
that controls such a savings association would be required to guarantee that the
savings association complies with the restoration plan. "Significantly
undercapitalized" savings associations would be subject to additional
restrictions. Savings associations deemed by the FDIC to be "critically
undercapitalized" would be subject to the appointment of a receiver or
conservator.
Dividend Limitations
An OTS regulation imposes limitations upon all "capital distributions"
by savings associations, including cash dividends, payments by an association to
repurchase or otherwise acquire its shares, payments to shareholders of another
institution in a cash-out merger and other distributions charged against
capital. The regulation establishes a three-tiered system of regulation, with
the greatest flexibility being afforded to well-capitalized associations. A
savings association which has total capital (immediately prior to and after
giving effect to the capital distribution) that is at least equal to its fully
phased-in capital requirements would be a Tier 1 institution ("Tier 1
Institution"). An association that has total capital at least equal to its
minimum capital requirements, but less than its fully phased-in capital
requirements, would be a Tier 2 institution ("Tier 2 Institution"). An
institution having total capital that is less than its minimum capital
requirements would be a Tier 3 institution ("Tier 3 Institution"). However, an
institution which otherwise qualifies as a Tier 1 Institution may be designated
by the OTS as a Tier 2 or Tier 3 Institution if the OTS determines that the
institution is "in need of more than normal supervision." We are currently a
Tier 1 Institution.
A Tier 1 Institution may, after prior notice but without the approval
of the OTS, make capital distributions during a calendar year up to the greater
of (a) 100% of its net income to date during the calendar year plus the amount
that would reduce by one-half its "surplus capital ratio" at the beginning of
the calendar year (the smallest excess over its capital requirements), or (b)
75% of its net income over the most recent four-quarter period. Any additional
amount of capital distributions would require prior regulatory approval.
Accordingly, at June 30, 1998, we had available approximately $15.5 million for
distribution, without consideration of any capital infusion from the Conversion
and without consideration of the restrictions on our capital distributions as a
result of the establishment of a liquidation account in connection with the
Conversion. See "The Conversion - Effect on Liquidation Rights."
The OTS has proposed revisions to these regulations which would permit
a savings association, without filing a prior notice or application with the
OTS, to make a capital distribution to its shareholders in a maximum amount that
does not exceed the association's undistributed net income for the prior two
years plus the amount of its undistributed income from the current year. This
proposed rule would require a savings association, such as Lincoln Federal, that
is a subsidiary of a savings and loan holding company to file a notice with the
OTS before making a capital distribution up to the "maximum amount" described
above. The proposed rule would also require all savings associations, whether
under a holding company or not, to file an application with the OTS prior to
making any capital distribution where the association is not eligible for
"expedited processing" under the OTS "Expedited Processing Regulation," or where
the proposed distribution, together with any other distributions made in the
same year, would exceed the "maximum amount" described above.
Pursuant to the Plan of Conversion, we will establish a liquidation
account for the benefit of Eligible Account Holders and Supplemental Eligible
Account Holders. See "The Conversion - Principal Effects of Conversion." We will
not be permitted to pay dividends to the Holding Company if our net worth would
be reduced below the amount required for the liquidation account. We must also
must file a notice with the OTS 30 days before declaring a dividend to the
Holding Company.
Limitations on Rates Paid for Deposits
Regulations promulgated by the FDIC pursuant to FedICIA place
limitations on the ability of insured depository institutions to accept, renew
or roll over deposits by offering rates of interest which are significantly
higher than the prevailing rates of interest on deposits offered by other
insured depository institutions having the same type of charter in the
institution's normal market area. Under these regulations, "well-capitalized"
depository institutions may accept, renew or roll such deposits over without
restriction, "adequately capitalized" depository institutions may accept, renew
or roll such deposits over with a waiver from the FDIC (subject to certain
restrictions on payments of rates) and "undercapitalized" depository
institutions may not accept, renew or roll such deposits over. The regulations
contemplate that the definitions of "well capitalized," "adequately capitalized"
and "undercapitalized" will be the same as the definition adopted by the
agencies to implement the corrective action provisions of FedICIA. We do not
believe that these regulations will have a materially adverse effect on our
current operations.
Safety and Soundness Standards
On February 2, 1995, the federal banking agencies adopted final safety
and soundness standards for all insured depository institutions. The standards,
which were issued in the form of guidelines rather than regulations, relate to
internal controls, information systems, internal audit systems, loan
underwriting and documentation, compensation and interest rate exposure. In
general, the standards are designed to assist the federal banking agencies in
identifying and addressing problems at insured depository institutions before
capital becomes impaired. If an institution fails to meet these standards, the
appropriate federal banking agency may require the institution to submit a
compliance plan. Failure to submit a compliance plan may result in enforcement
proceedings. On August 27, 1996, the federal banking agencies added asset
quality and earning standards to the safety and soundness guidelines.
Real Estate Lending Standards
OTS regulations require savings associations to establish and maintain
written internal real estate lending policies. Each association's lending
policies must be consistent with safe and sound banking practices and
appropriate to the size of the association and the nature and scope of its
operations. The policies must establish loan portfolio diversification
standards; establish prudent underwriting standards, including loan-to-value
limits, that are clear and measurable; establish loan administration procedures
for the association's real estate portfolio; and establish documentation,
approval, and reporting requirements to monitor compliance with the
association's real estate lending policies. The association's written real
estate lending policies must be reviewed and approved by the association's Board
of Directors at least annually. Further, each association is expected to monitor
conditions in its real estate market to ensure that its lending policies
continue to be appropriate for current market conditions.
Loans to One Borrower
Under OTS regulations, we may not make a loan or extend credit to a
single or related group of borrowers in excess of 15% of our unimpaired capital
and surplus. Additional amounts may be lent, not in excess of 10% of unimpaired
capital and surplus, if such loans or extensions of credit are fully secured by
readily marketable collateral, including certain debt and equity securities but
not including real estate. In some cases, a savings association may lend up to
30% of unimpaired capital and surplus to one borrower for purposes of developing
domestic residential housing, provided that the association meets its regulatory
capital requirements and the OTS authorizes the association to use this expanded
lending authority. We have established an "in-house" lending limit of $2 million
to a single or related group of borrowers, which is significantly lower than the
regulatory lending limit described above. Any loan that exceeds this "in-house"
lending limit up to our regulatory lending limit must first be approved by our
board of directors. At June 30, 1998, we had two loan relationships that
exceeded our "in-house" lending limit, each of which was authorized by our board
of directors. Also on that date, we did not have any loans or extensions of
credit to a single or related group of borrowers in excess of our regulatory
lending limits. We do not believe that the loans-to-one-borrower limits will
have a significant impact on our business operations or earnings following the
Conversion.
Qualified Thrift Lender
Savings associations must meet a QTL test. If we maintain an
appropriate level of qualified thrift investments ("QTIs") (primarily
residential mortgages and related investments, including certain
mortgage-related securities) and otherwise qualify as a QTL, we will continue to
enjoy full borrowing privileges from the FHLB of Indianapolis. The required
percentage of QTIs is 65% of portfolio assets (defined as all assets minus
intangible assets, property used by the association in conducting its business
and liquid assets equal to 10% of total assets). Certain assets are subject to a
percentage limitation of 20% of portfolio assets. In addition, savings
associations may include shares of stock of the FHLBs, FNMA, and FHLMC as QTIs.
Compliance with the QTL test is determined on a monthly basis in nine out of
every twelve months. As of June 30, 1998, we were in compliance with our QTL
requirement, with approximately 79.0% of our assets invested in QTIs.
A savings association which fails to meet the QTL test must either
convert to a bank (but its deposit insurance assessments and payments will be
those of and paid to the SAIF) or be subject to the following penalties: (i) it
may not enter into any new activity except for those permissible for a national
bank and for a savings association; (ii) its branching activities shall be
limited to those of a national bank; (iii) it shall not be eligible for any new
FHLB advances; and (iv) it shall be bound by regulations applicable to national
banks respecting payment of dividends. Three years after failing the QTL test
the association must (i) dispose of any investment or activity not permissible
for a national bank and a savings association and (ii) repay all outstanding
FHLB advances. If such a savings association is controlled by a savings and loan
holding company, then such holding company must, within a prescribed time
period, become registered as a bank holding company and become subject to all
rules and regulations applicable to bank holding companies (including
restrictions as to the scope of permissible business activities).
Acquisitions or Dispositions and Branching
The Bank Holding Company Act specifically authorizes a bank holding
company, upon receipt of appropriate regulatory approvals, to acquire control of
any savings association or holding company thereof wherever located. Similarly,
a savings and loan holding company may acquire control of a bank. Moreover,
federal savings associations may acquire or be acquired by any insured
depository institution. Regulations promulgated by the FRB restrict the
branching authority of savings associations acquired by bank holding companies.
Savings associations acquired by bank holding companies may be converted to
banks if they continue to pay SAIF premiums, but as such they become subject to
branching and activity restrictions applicable to banks.
Subject to certain exceptions, commonly-controlled banks and savings
associations must reimburse the FDIC for any losses suffered in connection with
a failed bank or savings association affiliate. Institutions are commonly
controlled if one is owned by another or if both are owned by the same holding
company. Such claims by the FDIC under this provision are subordinate to claims
of depositors, secured creditors, and holders of subordinated debt, other than
affiliates.
The OTS has adopted regulations which permit nationwide branching to
the extent permitted by federal statute. Federal statutes permit federal savings
associations to branch outside of their home state if the association meets the
domestic building and loan test in ss.7701(a)(19) of the Code or the asset
composition test of ss.7701(c) of the Code. Branching that would result in the
formation of a multiple savings and loan holding company controlling savings
associations in more than one state is permitted if the law of the state in
which the savings association to be acquired is located specifically authorizes
acquisitions of its state-chartered associations by state-chartered associations
or their holding companies in the state where the acquiring association or
holding company is located. Moreover, Indiana banks and savings associations are
permitted to acquire other Indiana banks and savings associations and to
establish branches throughout Indiana.
Finally, The Riegle-Neal Interstate Banking and Branching Efficiency
Act of 1994 (the "Riegle-Neal Act") permits bank holding companies to acquire
banks in other states and, with state consent and subject to certain
limitations, allows banks to acquire out-of-state branches either through merger
or de novo expansion. The State of Indiana enacted legislation establishing
interstate branching provisions for Indiana state-chartered banks consistent
with those established by the Riegle-Neal Act (the "Indiana Branching Law"). The
Indiana Branching Law authorizes Indiana banks to branch interstate by merger or
de novo expansion, provided that such transactions are not permitted to
out-of-state banks unless the laws of their home states permit Indiana banks to
merge or establish de novo banks on a reciprocial basis. The Indiana Branching
Law became effective March 15, 1996.
Transactions with Affiliates
We are subject to Sections 22(h), 23A and 23B of the Federal Reserve
Act, which restrict financial transactions between banks and their directors,
executive officers and affiliated companies. The statute limits credit
transactions between a bank or savings association and its executive officers
and its affiliates, prescribes terms and conditions for bank affiliate
transactions deemed to be consistent with safe and sound banking practices, and
restricts the types of collateral security permitted in connection with a bank's
extension of credit to an affiliate.
Federal Securities Law
The shares of Common Stock of the Holding Company will be registered
with the SEC under the 1934 Act. The Holding Company will be subject to the
information, proxy solicitation, insider trading restrictions and other
requirements of the 1934 Act and the rules of the SEC thereunder. After three
years following our conversion to stock form, if the Holding Company has fewer
than 300 shareholders, it may deregister its shares under the 1934 Act and cease
to be subject to the foregoing requirements.
Shares of Common Stock held by persons who are affiliates of the
Holding Company may not be resold without registration unless sold in accordance
with the resale restrictions of Rule 144 under the 1933 Act. If the Holding
Company meets the current public information requirements under Rule 144, each
affiliate of the Holding Company who complies with the other conditions of Rule
144 (including those that require the affiliate's sale to be aggregated with
those of certain other persons) would be able to sell in the public market,
without registration, a number of shares not to exceed, in any three-month
period, the greater of (i) 1% of the outstanding shares of the Holding Company
or (ii) the average weekly volume of trading in such shares during the preceding
four calendar weeks.
Community Reinvestment Act Matters
Federal law requires that ratings of depository institutions under the
Community Reinvestment Act of 1977 ("CRA") be disclosed. The disclosure includes
both a four-unit descriptive rating -- outstanding, satisfactory, needs to
improve, and substantial noncompliance -- and a written evaluation of an
institution's performance. Each FHLB is required to establish standards of
community investment or service that its members must maintain for continued
access to long-term advances from the FHLBs. The standards take into account a
member's performance under the CRA and its record of lending to first-time home
buyers. The OTS has designated our record of meeting community credit needs as
satisfactory.
TAXATION
Federal Taxation
Historically, savings associations, such as Lincoln Federal, have been
permitted to compute bad debt deductions using either the bank experience method
or the percentage of taxable income method. However, for years beginning after
December 31, 1995, no savings association may use the percentage of taxable
income method of computing its allowable bad debt deduction for tax purposes.
Instead, all savings associations are required to compute their allowable
deduction using the experience method. As a result of the repeal of the
percentage of taxable income method, reserves taken after 1987 using the
percentage of taxable income method generally must be included in future taxable
income over a six-year period, although a two-year delay may be permitted for
associations meeting a residential mortgage loan origination test. We do not
have any reserves taken after 1987 that must be recaptured. In addition, the
pre-1988 reserve, for which no deferred taxes have been recorded, need not be
recaptured into income unless (i) the savings association no longer qualifies as
a bank under the Code, or (ii) the savings association pays out excess dividends
or distributions. Although we do have some reserves from before 1988, we are not
required to recapture these reserves.
Depending on the composition of its items of income and expense, a
savings association may be subject to the alternative minimum tax. A savings
association must pay an alternative minimum tax on the amount (if any) by which
20% of alternative minimum taxable income ("AMTI"), as reduced by an exemption
varying with AMTI, exceeds the regular tax due. AMTI equals regular taxable
income increased or decreased by certain tax preferences and adjustments,
including depreciation deductions in excess of that allowable for alternative
minimum tax purposes, tax-exempt interest on most private activity bonds issued
after August 7, 1986 (reduced by any related interest expense disallowed for
regular tax purposes), the amount of the bad debt reserve deduction claimed in
excess of the deduction based on the experience method and 75% of the excess of
adjusted current earnings over AMTI (before this adjustment and before any
alternative tax net operating loss). AMTI may be reduced only up to 90% by net
operating loss carryovers, but alternative minimum tax paid can be credited
against regular tax due in later years.
For federal income tax purposes, we have been reporting our income and
expenses on the accrual method of accounting. Our federal income tax returns
have not been audited in recent years.
State Taxation
We are subject to Indiana's Financial Institutions Tax ("FIT"), which
is imposed at a flat rate of 8.5% on "adjusted gross income." "Adjusted gross
income," for purposes of FIT, begins with taxable income as defined by Section
63 of the Code and, thus, incorporates federal tax law to the extent that it
affects the computation of taxable income. Federal taxable income is then
adjusted by several Indiana modifications. Other applicable state taxes include
generally applicable sales and use taxes plus real and personal property taxes.
Our state income tax returns have not been audited in recent years.
For further information relating to the tax consequences of the
Conversion, see "The Conversion - Principal Effects of Conversion - Tax
Effects."
RESTRICTIONS ON ACQUISITION OF THE HOLDING COMPANY
General
Although the Boards of Directors of Lincoln Federal and the Holding
Company are not aware of any effort that might be made to obtain control of the
Holding Company after the Conversion, the Boards of Directors believe that it is
appropriate to include certain provisions in the Holding Company's Articles of
Incorporation (the "Articles") to protect the interests of the Holding Company
and its shareholders from unsolicited changes in the control of the Holding
Company in circumstances that the Board of Directors of the Holding Company
concludes will not be in the best interests of Lincoln Federal, the Holding
Company or the Holding Company's shareholders.
Although the Holding Company's Board of Directors believes that the
restrictions on acquisition described below are beneficial to shareholders, the
provisions may have the effect of rendering the Holding Company less attractive
to potential acquirors, thereby discouraging future takeover attempts which
would not be approved by the Board of Directors but which certain shareholders
might deem to be in their best interest or pursuant to which shareholders might
receive a substantial premium for their shares over then current market prices.
These provisions will also render the removal of the incumbent Board of
Directors and of management more difficult. The Board of Directors has, however,
concluded that the potential benefits of these restrictive provisions outweigh
the possible disadvantages.
The following general discussion contains a summary of the material
provisions of the Articles, the Holding Company's Code of By-Laws (the
"By-Laws"), and certain other regulatory provisions, that may be deemed to have
an effect of delaying, deferring or preventing a change in the control of the
Holding Company. The following description of certain of these provisions is
general and not necessarily complete, and with respect to provisions contained
in the Articles and By-Laws, reference should be made in each case to the
document in question, each of which is part of our application for approval of
the Conversion or the Holding Company's Registration Statement filed with the
SEC. See "Additional Information."
Provisions of the Holding Company's Articles and By-Laws
Directors. Certain provisions in the Articles and By-Laws will impede
changes in majority control of the Board of Directors of the Holding Company.
The Articles provide that the Board of Directors of the Holding Company will be
divided into three classes, with directors in each class elected for three-year
staggered terms. Therefore, it would take two annual elections to replace a
majority of the Holding Company's Board. Moreover, the Holding Company's By-laws
provide that directors of the Holding Company must be residents of Hendricks,
Clinton or Montgomery County, Indiana, must have had a loan or deposit
relationship with us which they have maintained for nine (9) months prior to
their nomination to the Board, and, if nonemployee directors, must have served
as a member of a civic or community organization based in Hendricks, Clinton or
Montgomery County, Indiana for at least twelve (12) months during the five years
prior to their nomination to the Board (or in the case of existing directors,
prior to September, 1998). The Holding Company's Board may waive one or more of
these requirements for new members appointed to the Board in connection with the
acquisition of another financial institution by the Holding Company or the
acquisition or opening of a new branch by Lincoln Federal. Therefore, the
ability of a shareholder to attract qualified nominees to oppose persons
nominated by the Board of Directors may be limited.
The Articles also provide that the size of the Board of Directors shall
range between five and fifteen directors, with the exact number of directors to
be fixed from time to time exclusively by the Board of Directors pursuant to a
resolution adopted by a majority of the total number of directors of the Holding
Company.
The Articles provide that any vacancy occurring in the Board of
Directors, including a vacancy created by an increase in the number of
directors, shall be filled for the remainder of the unexpired term only by a
majority vote of the directors then in office. Finally, the By-Laws impose
certain notice and information requirements in connection with the nomination by
shareholders of candidates for election to the Board of Directors or the
proposal by shareholders of business to be acted upon at an annual meeting of
shareholders.
The Articles provide that a director or the entire Board of Directors
may be removed only for cause and only by the affirmative vote of at least 80%
of the shares eligible to vote generally in the election of directors. Removal
for "cause" is limited to the grounds for termination in the OTS regulation
relating to employment contracts of federally-insured savings associations.
Restrictions on Call of Special Meetings. The Articles provide that a
special meeting of shareholders may be called only by the Chairman of the Board
of the Holding Company or pursuant to a resolution adopted by a majority of the
total number of directors of the Holding Company. Shareholders are not
authorized to call a special meeting.
No Cumulative Voting. The Articles provide that there shall be no
cumulative voting rights in the election of directors.
Authorization of Preferred Stock. The Articles authorize 2,000,000
shares of preferred stock, without par value. The Holding Company is authorized
to issue preferred stock from time to time in one or more series subject to
applicable provisions of law, and the Board of Directors is authorized to fix
the designations, powers, preferences and relative participating, optional and
other special rights of such shares, including voting rights (if any and which
could be as a separate class) and conversion rights. In the event of a proposed
merger, tender offer or other attempt to gain control of the Holding Company not
approved by the Board of Directors, it might be possible for the Board of
Directors to authorize the issuance of a series of preferred stock with rights
and preferences that would impede the completion of such a transaction. An
effect of the possible issuance of preferred stock, therefore, may be to deter a
future takeover attempt. The Board of Directors has no present plans or
understandings for the issuance of any preferred stock and does not intend to
issue any preferred stock except on terms which the Board of Directors deems to
be in the best interests of the Holding Company and its shareholders.
Limitations on 10% Shareholders. The Articles provide that: (i) no
person shall directly or indirectly offer to acquire or acquire the beneficial
ownership of more than 10% of any class of equity security of the Holding
Company (provided that such limitation shall not apply to the acquisition of
equity securities by any one or more tax-qualified employee stock benefit plans
maintained by the Holding Company, if the plan or plans beneficially own no more
than 25% of any class of such equity security of the Holding Company); and that
(ii) shares beneficially owned in violation of the stock ownership restriction
described above shall not be entitled to vote and shall not be voted by any
person or counted as voting stock in connection with any matter submitted to a
vote of shareholders. For these purposes, a person (including management) who
has obtained the right to vote shares of the Common Stock pursuant to revocable
proxies shall not be deemed to be the "beneficial owner" of those shares if that
person is not otherwise deemed to be a beneficial owner of those shares.
Evaluation of Offers. The Articles of the Holding Company provide that the Board
of Directors of the Holding Company, when determining to take or refrain from
taking corporate action on any matter, including making or declining to make any
recommendation to the Holding Company's shareholders, may, in connection with
the exercise of its judgment in determining what is in the best interest of the
Holding Company, Lincoln Federal and the shareholders of the Holding Company,
give due consideration to all relevant factors, including, without limitation,
the social and economic effects of acceptance of such offer on the Holding
Company's customers and Lincoln Federal's present and future account holders,
borrowers, employees and suppliers; the effect on the communities in which the
Holding Company and Lincoln Federal operate or are located; and the effect on
the ability of the Holding Company to fulfill the objectives of a holding
company and of us or future financial institution subsidiaries to fulfill the
objectives of a financial institution under applicable statutes and regulations.
The Articles of the Holding Company also authorize the Board of Directors to
take certain actions to encourage a person to negotiate for a change of control
of the Holding Company or to oppose such a transaction deemed undesirable by the
Board of Directors including the adoption of so-called shareholder rights plans.
By having these standards and provisions in the Articles of the Holding Company,
the Board of Directors may be in a stronger position to oppose such a
transaction if the Board concludes that the transaction would not be in the best
interest of the Holding Company, even if the price offered is significantly
greater than the then market price of any equity security of the Holding
Company.
Procedures for Certain Business Combinations. The Articles require that
certain business combinations between the Holding Company (or any majority-owned
subsidiary thereof) and a 10% or greater shareholder either be approved (i) by
at least 80% of the total number of outstanding voting shares of the Holding
Company or (ii) by a majority of certain directors unaffiliated with such 10% or
greater shareholder or involve consideration per share generally equal to the
higher of (A) the highest amount paid by such 10% shareholder or its affiliates
in acquiring any shares of the Common Stock or (B) the "Fair Market Value"
(generally, the highest closing bid paid for the Common Stock during the thirty
days preceding the date of the announcement of the proposed business combination
or on the date the 10% or greater shareholder became such, whichever is higher).
Amendments to Articles and Bylaws. Amendments to the Articles must be
approved by a majority vote of the Holding Company's Board of Directors and also
by a majority of the outstanding shares of the Holding Company's voting shares;
provided, however, that approval by at least 80% of the outstanding voting
shares is required for certain provisions (i.e., provisions relating to number,
classification, and removal of directors; provisions relating to the manner of
amending the By-Laws; call of special shareholder meetings; criteria for
evaluating certain offers; certain business combinations; and amendments to
provisions relating to the foregoing). The provisions concerning limitations on
the acquisition of shares may be amended only by an 80% vote of the Holding
Company's outstanding shares unless at least two-thirds of the Holding Company's
Continuing Directors (directors of the Holding Company on September 10, 1998, or
directors recommended for appointment or election by a majority of such
directors) approve such amendments in advance of their submission to a vote of
shareholders (in which case only a majority vote of shareholders is required).
The By-Laws may be amended only by a majority vote of the total number
of directors of the Holding Company.
Purpose and Effects of the Anti-Takeover Provisions of the Holding
Company Articles and By-Laws. The Holding Company's Board of Directors believes
that the provisions described above are prudent and will reduce the Holding
Company's vulnerability to takeover attempts and certain other transactions
which have not been negotiated with and approved by its Board of Directors.
These provisions will also assist in the orderly deployment of the Conversion
proceeds into productive assets during the initial period after the Conversion.
The Board of Directors believes these provisions are in the best interest of
Lincoln Federal and the Holding Company and its shareholders. In the judgment of
the Board of Directors, the Holding Company's Board of Directors will be in the
best position to determine the true value of the Holding Company and to
negotiate more effectively for what may be in the best interests of the Holding
Company and its shareholders. The Board of Directors believes that these
provisions will encourage potential acquirors to negotiate directly with the
Board of Directors of the Holding Company and discourage hostile takeover
attempts. It is also the view of the Board of Directors that these provisions
should not discourage persons from proposing a merger or other transaction at
prices reflecting the true value of the Holding Company and which is in the best
interests of all shareholders.
Attempts to take over financial institutions and their holding
companies have recently increased. Takeover attempts that have not been
negotiated with and approved by the Board of Directors present to shareholders
the risk of a takeover on terms that may be less favorable than might otherwise
be available. A transaction that is negotiated and approved by the Board of
Directors, on the other hand, can be carefully planned and undertaken at an
opportune time to obtain maximum value for the Holding Company and its
shareholders, with due consideration given to matters such as the management and
business of the acquiring corporation and maximum strategic development of the
Holding Company's assets.
An unsolicited takeover proposal can seriously disrupt the business and
management of a corporation and cause it to undertake defensive measures at a
great expense. Although a tender offer or other takeover attempt may be made at
a price substantially above then current market prices, such offers are
sometimes made for less than all of the outstanding shares of a target company.
As a result, shareholders may be presented with the alternative of partially
liquidating their investment at a time that may be disadvantageous, or retaining
their investment in an enterprise which is under different management and whose
objective may not be similar to that of the remaining shareholders. The
concentration of control, which could result from a tender offer or other
takeover attempt, could also deprive the Holding Company's remaining
shareholders of the benefits of certain protective provisions of the 1934 Act if
the number of beneficial owners becomes less than 300 and the Holding Company
terminates its registration under the 1934 Act.
Despite the belief of the Holding Company's Board of Directors in the
benefits to shareholders of the foregoing provisions, the provisions may also
have the effect of discouraging future takeover attempts which would not be
approved by the Board of Directors, but which certain shareholders might deem to
be in their best interest or pursuant to which shareholders might receive a
substantial premium for their shares over then current market prices. As a
result, shareholders who might desire to participate in such a transaction may
not have an opportunity to do so. These provisions will also render the removal
of the incumbent Board of Directors and of management more difficult. The Board
of Directors has, however, concluded that the potential benefits of these
restrictive provisions outweigh the possible disadvantages.
Other Restrictions on Acquisition of the Holding Company and Lincoln Federal
State Law. Several provisions of the Indiana Business Corporation Law,
as amended (the "IBCL"), could affect the acquisition of shares of the Common
Stock or otherwise affect the control of the Holding Company. Chapter 43 of the
IBCL prohibits certain business combinations, including mergers, sales of
assets, recapitalizations, and reverse stock splits, between corporations such
as the Holding Company (assuming that it has over 100 shareholders) and an
interested shareholder, defined as the beneficial owner of 10% or more of the
voting power of the outstanding voting shares, for five years following the date
on which the shareholder obtained 10% ownership unless the acquisition was
approved in advance of that date by the board of directors. If prior approval is
not obtained, several price and procedural requirements must be met before the
business combination can be completed. These requirements are similar to those
contained in the Holding Company Articles and described in " - Provisions of the
Holding Company's Articles and By-Laws - Procedures for Certain Business
Combinations." In general, the price requirements contained in the IBCL may be
more stringent than those imposed in the Holding Company Articles. However, the
procedural restraints imposed by the Holding Company Articles are somewhat
broader than those imposed by the IBCL. Also, the provisions of the IBCL may
change at some future date, but the relevant provisions of the Holding Company
Articles may only be amended by an 80% vote of the shareholders of the Holding
Company.
In addition, the IBCL contains provisions designed to assure that
minority shareholders have some say in their future relationship with Indiana
corporations in the event that a person made a tender offer for, or otherwise
acquired, shares giving that person more than 20%, 33 1/3%, and 50% of the
outstanding voting securities of corporations having 100 or more shareholders
(the "Control Share Acquisitions Statute"). Under the Control Share Acquisitions
Statute, if an acquiror purchases those shares at a time that the corporation is
subject to the Control Share Acquisitions Statute, then until each class or
series of shares entitled to vote separately on the proposal, by a majority of
all votes entitled to be cast by that group (excluding shares held by officers
of the corporation, by employees of the corporation who are directors thereof
and by the acquiror), approves in a special or annual meeting the rights of the
acquiror to vote the shares which take the acquiror over each level of ownership
as stated in the statute, the acquiror cannot vote these shares. An Indiana
corporation otherwise subject to the Control Share Acquisitions Statute may
elect not to be covered by the statute by so providing in its Articles of
Incorporation or By-Laws. The Holding Company, however, will be subject to this
statute following the Conversion because of its desire to discourage
non-negotiated hostile takeovers by third parties.
The IBCL specifically authorizes Indiana corporations to issue options,
warrants or rights for the purchase of shares or other securities of the
corporation or any successor in interest of the corporation. These options,
warrants or rights may, but need not be, issued to shareholders on a pro rata
basis.
The IBCL specifically authorizes directors, in considering the best
interest of a corporation, to consider the effects of any action on
shareholders, employees, suppliers, and customers of the corporation, and
communities in which offices or other facilities of the corporation are located,
and any other factors the directors consider pertinent. As described above, the
Holding Company Articles contain a provision having a similar effect. Under the
IBCL, directors are not required to approve a proposed business combination or
other corporate action if the directors determine in good faith that such
approval is not in the best interest of the corporation. In addition, the IBCL
states that directors are not required to redeem any rights under or render
inapplicable a shareholder rights plan or to take or decline to take any other
action solely because of the effect such action might have on a proposed change
of control of the corporation or the amounts to be paid to shareholders upon
such a change of control. The IBCL explicitly provides that the different or
higher degree of scrutiny imposed in Delaware and certain other jurisdictions
upon director actions taken in response to potential changes in control will not
apply. The Delaware Supreme Court has held that defensive measures in response
to a potential takeover must be "reasonable in relation to the threat posed."
In taking or declining to take any action or in making any
recommendation to a corporation's shareholders with respect to any matter,
directors are authorized under the IBCL to consider both the short-term and
long-term interests of the corporation as well as interests of other
constituencies and other relevant factors. Any determination made with respect
to the foregoing by a majority of the disinterested directors shall conclusively
be presumed to be valid unless it can be demonstrated that such determination
was not made in good faith.
Because of the foregoing provisions of the IBCL, the Board will have
flexibility in responding to unsolicited proposals to acquire the Holding
Company, and accordingly it may be more difficult for an acquiror to gain
control of the Holding Company in a transaction not approved by the Board.
Federal Limitations. For three years following the Conversion, OTS
regulations prohibit any person (including entities), without the prior approval
of the OTS, from offering to acquire or acquiring more than 10% of any class of
equity security, directly or indirectly, of a converted savings association or
its holding company. This restriction does not apply to the acquisition by any
one or more tax-qualified employee stock benefit plans maintained by Lincoln
Federal or the Holding Company, provided that the plan or plans do not have
beneficial ownership in the aggregate of more than 25% of any class of equity
security of the Holding Company. For these purposes, a person (including
management) who has obtained the right to vote shares of the Common Stock
pursuant to revocable proxies shall not be deemed to be the "beneficial owner"
of those shares if that person is not otherwise deemed to be a beneficial owner
of those shares.
The Change in Bank Control Act provides that no "person," acting
directly or indirectly, or through or in concert with one or more persons, other
than a company, may acquire control of a savings association or a savings and
loan holding company unless at least 60 days prior written notice is given to
the OTS and the OTS has not objected to the proposed acquisition.
The Savings and Loan Holding Company Act also prohibits any "company,"
directly or indirectly or acting in concert with one or more other persons, or
through one or more subsidiaries or transactions, from acquiring control of an
insured savings institution without the prior approval of the OTS. In addition,
any company that acquires such control becomes a "savings and loan holding
company" subject to registration, examination and regulation as a savings and
loan holding company by the OTS.
The term "control" for purposes of the Change in Bank Control Act and
the Savings and Loan Holding Company Act includes the power, directly or
indirectly, to vote more than 25% of any class of voting stock of the savings
association or to control, in any manner, the election of a majority of the
directors of the savings association. It also includes a determination by the
OTS that such company or person has the power, directly or indirectly, to
exercise a controlling influence over or to direct the management or policies of
the savings association.
OTS regulations also set forth certain "rebuttable control
determinations" which arise (i) upon an acquisition of more than 10% of any
class of voting stock of a savings association; or (ii) upon an acquisition of
more than 25% of any class of voting or nonvoting stock of a savings
association; provided that, in either case, the acquiror is subject to any of
eight enumerated "control factors," which are: (1) the acquiror would be one of
the two largest holders of any class of voting stock of the association; (2) the
acquiror would hold more than 25% of the total shareholders' equity of the
association; (3) the acquiror would hold more than 35% of the combined debt
securities and shareholders' equity of the savings association; (4) the acquiror
is a party to any agreement pursuant to which the acquiror possesses a material
economic stake in the savings association or which enables the acquiror to
influence a material aspect of the management or policies of the association;
(5) the acquiror would have the ability, other than through the holding of
revocable proxies, to direct the votes of more than 25% of a class of the voting
stock or to vote in the future more than 25% of such voting stock upon the
occurrence of a future event; (6) the acquiror would have the power to direct
the disposition of more than 25% of the association's voting stock in a manner
other than a widely dispersed or public offering; (7) the acquiror and/or his
representative would constitute more than one member of the association's board
of directors; or (8) the acquiror would serve as an executive officer or in a
similar policy-making position with the association. For purposes of determining
percentage share ownership, a person is presumed to be acting in concert with
certain specified persons and entities, including members of the person's
immediate family, whether or not those family members share the same household
with the person.
The regulations also specify the criteria which the OTS uses to
evaluate control applications. The OTS is empowered to disapprove an acquisition
of control if it finds, among other things, that (i) the acquisition would
substantially lessen competition, (ii) the financial condition of the acquiring
person might jeopardize the institution or its depositors, or (iii) the
competency, experience, or integrity of the acquiring person indicates that it
would not be in the interest of the depositors, the institution, or the public
to permit the acquisition of control by such person.
DESCRIPTION OF CAPITAL STOCK
The Holding Company is authorized to issue 20,000,000 shares of Common
Stock, without par value, all of which have identical rights and preferences,
and 2,000,000 shares of preferred stock, without par value. The Holding Company
expects to issue up to 7,009,250 shares of Common Stock, including 200,000
shares expected to be issued to the Foundation, and no shares of preferred stock
in the Conversion. The Holding Company has received an opinion of its counsel
that the shares of Common Stock issued in the Conversion will be validly issued,
fully paid, and not liable for further call or assessment. This opinion was
filed with the SEC as an exhibit to the Holding Company's Registration Statement
under the 1933 Act.
Shareholders of the Holding Company will have no preemptive rights to
acquire additional shares of Common Stock which may be subsequently issued. The
Common Stock will represent nonwithdrawable capital, will not be of an insurable
type and will not be federally insured by the FDIC or any government entity.
Under Indiana law, the holders of the Common Stock will possess
exclusive voting power in the Holding Company, unless preferred stock is issued
and voting rights are granted to the holders thereof. Each shareholder will be
entitled to one vote for each share held on all matters voted upon by
shareholders, subject to the limitations discussed under the caption
"Restrictions on Acquisition of the Holding Company." Shareholders may not
cumulate their votes in the election of the Board of Directors. Holders of
Common Stock will be entitled to payment of dividends as may be declared from
time to time by the Holding Company's Board of Directors.
In the unlikely event of the liquidation or dissolution of the Holding
Company, the holders of the Common Stock will be entitled to receive after
payment or provision for payment of all debts and liabilities of the Holding
Company, all assets of the Holding Company available for distribution, in cash
or in kind. See "The Conversion - Principal Effects of Conversion - Effect on
Liquidation Rights." If preferred stock is issued subsequent to the Conversion,
the holders thereof may have a priority over the holders of Common Stock in the
event of liquidation or dissolution.
The Board of Directors of the Holding Company will be authorized to
issue preferred stock in series and to fix and state the voting powers,
designations, preferences and relative, participating, optional or other special
rights of the shares of each such series and the qualifications, limitations and
restrictions thereof. Preferred stock may rank prior to the Common Stock as to
dividend rights, liquidation preferences, or both, and may have full or limited
voting rights. The holders of preferred stock will be entitled to vote as a
separate class or series under certain circumstances, regardless of any other
voting rights which such holders may have.
Except as discussed elsewhere herein, the Holding Company has no
specific plans for the issuance of the additional authorized shares of Common
Stock or for the issuance of any shares of preferred stock. In the future, the
authorized but unissued and unreserved shares of Common Stock will be available
for general corporate purposes including, but not limited to, possible issuance
as stock dividends or stock splits, in future mergers or acquisitions, under a
cash dividend reinvestment and stock purchase plan, or in future underwritten or
other public or private offerings. The authorized but unissued shares of
preferred stock will similarly be available for issuance in future mergers or
acquisitions, in future underwritten public offerings or private placements or
for other general corporate purposes. Except as described above or as otherwise
required to approve the transaction in which the additional authorized shares of
Common Stock or authorized shares of preferred stock would be issued, no
shareholder approval will be required for the issuance of these shares.
Accordingly, the Holding Company's Board of Directors without shareholder
approval can issue preferred stock with voting and conversion rights which could
adversely affect the voting power of the holders of Common Stock.
The offering and sale of Common Stock in the Conversion will be
registered under the 1933 Act. The subsequent sale or transfer of Common Stock
is governed by the 1934 Act, which requires that sales or exchanges of subject
securities be made pursuant to an effective registration statement or qualified
for an exemption from registration requirements of the 1933 Act. Similarly, the
securities laws of the various states also require generally the registration of
shares offered for sale unless there is an applicable exemption from
registration.
The Holding Company, as a newly organized corporation, has never issued
capital stock, and, accordingly, there is no market for the Common Stock. See
"Market for the Common Stock." See "Restrictions on Acquisition of the Holding
Company - Provisions of the Holding Company's Articles and By-Laws" for a
description of certain provisions of the Holding Company's Articles and By-Laws
which may affect the ability of the Holding Company's shareholders to
participate in certain transactions relating to acquisitions of control of the
Holding Company. Also, see "Dividends" for a description of certain matters
relating to the possible future payment of dividends on the Common Stock.
TRANSFER AGENT
The Fifth Third Bank will act as transfer agent and registrar for the
Common Stock. The Fifth Third Bank's phone number is (513) 579-5320 or (800)
837-2755.
REGISTRATION REQUIREMENTS
Upon the Conversion, the Holding Company's Common Stock will be
registered pursuant to Section 12(g) of the 1934 Act and may not be deregistered
for a period of at least three years following the Conversion. As a result of
the registration under the 1934 Act, certain holders of Common Stock will be
subject to certain reporting and other requirements imposed by the 1934 Act. For
example, beneficial owners of more than 5% of the outstanding Common Stock will
be required to file reports pursuant to Section 13(d) or Section 13(g) of the
1934 Act, and officers, directors and 10% shareholders of the Holding Company
will generally be subject to reporting requirements of Section 16(a) and to the
liability provisions for profits derived from purchases and sales of Holding
Company Common Stock occurring within a six-month period pursuant to Section
16(b) of the 1934 Act. In addition, certain transactions in Common Stock, such
as proxy solicitations and tender offers, will be subject to the disclosure and
filing requirements imposed by Section 14 of the 1934 Act and the regulations
promulgated thereunder.
LEGAL AND TAX MATTERS
Barnes & Thornburg, 11 South Meridian Street, Indianapolis, Indiana
46204, special counsel to Lincoln Federal, will pass upon the legality and
validity of the shares of Common Stock being issued in the Conversion. Barnes &
Thornburg has issued an opinion concerning certain federal and state income tax
aspects of the Conversion and which provides that the Conversion, as proposed,
constitutes a tax-free reorganization under federal and Indiana law. Barnes &
Thornburg has also issued an opinion concerning the federal tax consequences of
certain matters relating to the establishment of the Foundation. Barnes &
Thornburg has consented to the references herein to its opinions. Certain legal
matters related to this offering will be passed upon for Webb by Silver,
Freedman & Taff, L.L.P., 1100 New York Avenue, N.W., 7th Floor-East Tower,
Washington, D.C. 20005.
EXPERTS
Our consolidated financial statements at December 31, 1997 and 1996 and
for each of the three years in the period ended December 31, 1997 appearing in
this Prospectus and Registration Statement have been audited by Olive LLP
(formerly Geo. S. Olive & Co. LLC), independent auditors, as set forth in their
report thereon appearing elsewhere herein, and are included in reliance upon
such report given upon the authority of such firm as experts in accounting and
auditing.
Keller has consented to the publication of the summary herein of its
appraisal report as to the estimated pro forma market value of the Common Stock
of the Holding Company to be issued in the Conversion, to the reference to its
opinion relating to the value of the subscription rights, and to the filing of
the appraisal report as an exhibit to the registration statement filed by the
Holding Company under the 1933 Act.
ADDITIONAL INFORMATION
The Holding Company has filed with the SEC a registration statement
under the 1933 Act with respect to the Common Stock offered hereby. As permitted
by the rules and regulations of the SEC, this Prospectus does not contain all
the information set forth in the registration statement. Such information can be
inspected and copied at the SEC's public reference facilities located at 450
Fifth Street, N.W., Washington, D.C. 20549 and at the SEC's Regional Offices in
New York (Seven World Trade Center, 13th Floor, New York, New York 00048) and
Chicago (Citicorp Center, 500 West Madison Street, Suite 1400, Chicago, Illinois
60661-2511) and copies of such material can be obtained from the Public
Reference Section of the Commission at 450 Fifth Street, N.W., Washington, D.C.
20549 at prescribed rates. This information can also be found on the SEC's
website, located at www.sec.gov.
Lincoln Federal has filed with the OTS an Application for Conversion
from a federal mutual savings bank to a federal stock savings bank, and the
Holding Company has filed with the OTS an Application to become a savings and
loan holding company. This Prospectus omits certain information contained in
such Applications. The Applications may be inspected at the offices of the OTS,
1700 G Street, N.W., Washington, D.C. 20552 and at the Central Regional Office
of the OTS, 200 West Madison, Suite 1300, Chicago, Illinois 60606.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
PLAINFIELD, INDIANA
TABLE OF CONTENTS
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
PLAINFIELD, INDIANA
TABLE OF CONTENTS
Page
Report of Olive LLP................................................ F-2
Consolidated balance sheet--June 30, 1998 (unaudited)
and December 31, 1997 and 1996..................................... F-3
Consolidated statement of income--for the six months ended
June 30, 1998 and 1997 (unaudited) and the years ended
December 31, 1997, 1996 and 1995................................... F-4
Consolidated statement of comprehensive income
for the six months ended June 30, 1998 and 1997 (unaudited)
and the years ended December 31, 1997, 1996 and 1995............... F-5
Consolidated statement of changes in equity capital
for the six months ended June 30, 1998 (unaudited)
and for the years ended December 31, 1997, 1996 and 1995........... F-6
Consolidated statement of cash flows--for the six months ended
June 30, 1998 and 1997 (unaudited) and the years ended
December 31, 1997, 1996 and 1995................................... F-7
Notes to consolidated financial statements......................... F-9
All schedules are omitted because the required information is not
applicable or is included in the consolidated financial statements and related
notes.
Lincoln Bancorp ("Lincoln"), the holding company for Lincoln Federal
Savings Bank, has not commenced operations as of June 30, 1998 and will not
commence operations prior to the conversion of Lincoln Federal Savings Bank from
a federal mutual savings bank to a federal stock savings bank. Accordingly, the
financial statements of Lincoln have been omitted and are not required.
<PAGE>
Independent Auditor's Report
Board of Directors
Lincoln Federal Savings Bank
Plainfield, Indiana
We have audited the accompanying consolidated balance sheet of Lincoln Federal
Savings Bank and subsidiary as of December 31, 1997 and 1996, and the related
consolidated statements of income, comprehensive income, changes in equity
capital and cash flows for each of the three years in the period ended December
31, 1997. These consolidated financial statements are the responsibility of the
Bank's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements described above present
fairly, in all material respects, the consolidated financial position of Lincoln
Federal Savings Bank and subsidiary as of December 31, 1997 and 1996, and the
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1997, in conformity with generally accepted
accounting principles.
/s/ Olive LLP
Indianapolis, Indiana
March 19, 1998, except for note 16
as to which the date is July 2, 1998
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Consolidated Balance Sheet
<TABLE>
<CAPTION>
June 30, December 31
1998 1997 1996
------------ ------------------------------
(Unaudited)
Assets
<S> <C> <C> <C>
Cash and due from banks $ 3,027,595 $ 4,190,199 $ 4,589,797
Short-term interest-bearing deposits in other banks 20,736,947 14,767,482 5,209,087
-------------------------------------------------
Total cash and cash equivalents 23,764,542 18,957,681 9,798,884
Interest-bearing deposits in other banks 595,000
Investment securities
Available for sale 58,939,886 29,399,376 118,355
Held to maturity (market value $3,509,000, $9,615,000
and $14,997,000) 3,500,000 9,634,952 15,184,779
-------------------------------------------------
Total investment securities 62,439,886 39,034,328 15,303,134
Mortgage loans held for sale 19,264,354 24,200,178
Loans 184,850,414 249,995,935 282,812,340
Allowance for loan losses (1,432,204) (1,360,731) (1,240,731)
-------------------------------------------------
Net loans 183,418,210 248,635,204 281,571,609
Premises and equipment 2,837,993 2,825,090 2,589,073
Investment in limited partnerships 2,632,863 2,705,997 3,187,423
Federal Home Loan Bank of Indianapolis stock 5,446,700 5,446,700 4,796,700
Interest receivable
Loans 952,675 1,138,824 1,611,013
Mortgage-backed securities 278,037 197,664
Other investment securities and
interest-bearing deposits 197,156 196,477 280,791
Deferred income tax 1,124,282 974,446 1,284,173
Other assets 2,143,508 1,278,828 333,598
-------------------------------------------------
Total assets $ 304,500,206 $ 321,391,239 $ 345,551,576
=================================================
Liabilities
Deposits
Noninterest-bearing $ 1,394,393 $ 2,321,167 $ 711,146
Interest-bearing 209,765,833 201,530,657 210,112,203
-------------------------------------------------
Total deposits 211,160,226 203,851,824 210,823,349
Federal Home Loan Bank advances 45,686,148 70,136,148 91,232,485
Note payable 2,202,501 2,691,001 3,179,501
Interest payable 1,138,165 1,153,517 483,732
Other liabilities 1,517,855 1,581,077 1,913,043
-------------------------------------------------
Total liabilities 261,704,895 279,413,567 307,632,110
-------------------------------------------------
Commitments and Contingencies
Equity Capital
Retained earnings--substantially restricted 42,248,263 41,431,674 37,918,466
Accumulated other comprehensive income 547,048 545,998 1,000
-------------------------------------------------
Total equity capital 42,795,311 41,977,672 37,919,466
-------------------------------------------------
Total liabilities and equity capital $ 304,500,206 $ 321,391,239 $ 345,551,576
=================================================
</TABLE>
See notes to consolidated financial statements.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Consolidated Statement of Income
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
1998 1997 1997 1996 1995
----------- ------------ ------------ ----------- -----------
(Unaudited)
Interest Income
<S> <C> <C> <C> <C> <C>
Loans receivable, including fees $9,244,231 $12,141,595 $22,369,033 $22,901,854 $20,529,408
Investment securities
Mortgage-backed securities 1,268,012 1,086,165
Other investment securities 199,601 436,964 773,033 941,860 864,715
Deposits with financial institutions 485,044 96,192 652,814 255,988 332,038
Dividend income 216,077 192,413 415,502 353,758 338,669
----------- ------------ ------------ ----------- -----------
Total interest income 11,412,965 12,867,164 25,296,547 24,453,460 22,064,830
----------- ------------ ------------ ----------- -----------
Interest Expense
Deposits 5,335,890 5,089,303 10,403,452 10,237,933 10,001,573
Federal Home Loan Bank advances 1,519,472 2,655,896 5,248,400 4,881,244 4,484,354
----------- ------------ ------------ ----------- -----------
Total interest expense 6,855,362 7,745,199 15,651,852 15,119,177 14,485,927
----------- ------------ ------------ ----------- -----------
Net Interest Income 4,557,603 5,121,965 9,644,695 9,334,283 7,578,903
Provision for losses on loans 409,937 50,000 297,555 120,000 100,000
----------- ------------ ------------ ----------- -----------
Net Interest Income After
Provision for Losses on Loans 4,147,666 5,071,965 9,347,140 9,214,283 7,478,903
----------- ------------ ------------ ----------- -----------
Other Income
Net realized and unrealized gain (loss)
on loans held for sale (114,322) (17,741) 299,020 (159,727) 1,463,230
Net realized gains on sale of securities
available for sale 104,980 118,283
Equity in losses of limited partnerships (268,134) (327,333) (681,426) (596,009) (1,595,580)
Other income 378,663 285,767 674,139 502,506 473,129
----------- ------------ ------------ ----------- -----------
Total other income (loss) 101,187 (59,307) 410,016 (253,230) 340,779
----------- ------------ ------------ ----------- -----------
Other Expenses
Salaries and employee benefits 1,318,489 1,022,419 2,247,436 1,718,974 1,528,969
Net occupancy expenses 135,177 133,226 272,101 236,252 272,277
Equipment expenses 299,884 248,579 525,734 360,775 175,547
Deposit insurance expense 99,514 84,641 193,672 1,724,734 438,393
Data processing expense 369,173 268,128 581,087 312,794 227,690
Professional fees 177,481 140,186 237,819 68,745 48,300
Mortgage servicing rights amortization 126,374 5,061 66,784 12,478 9,382
Other expenses 569,481 545,915 960,755 668,543 543,516
----------- ------------ ------------ ----------- -----------
Total other expenses 3,095,573 2,448,155 5,085,388 5,103,295 3,244,074
----------- ------------ ------------ ----------- -----------
Income Before Income Tax and
Extraordinary Item 1,153,280 2,564,503 4,671,768 3,857,758 4,575,608
Income tax expense 186,388 701,364 1,158,560 869,539 1,193,042
----------- ------------ ------------ ----------- -----------
Income Before Extraordinary Item 966,892 1,863,139 3,513,208 2,988,219 3,382,566
Extraordinary item--early extinguishment
of debt, net of income taxes of $98,583 (150,303)
----------- ------------ ------------ ----------- -----------
Net Income $ 816,589 $ 1,863,139 $ 3,513,208 $ 2,988,219 $ 3,382,566
=========== ============ ============ =========== ===========
</TABLE>
See notes to consolidated financial statements.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Consolidated Statement of Comprehensive Income
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
1998 1997 1997 1996 1995
-------- ---------- ---------- ---------- ----------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Net income $816,589 $1,863,139 $3,513,208 $2,988,219 $3,382,566
-------- ---------- ---------- ---------- ----------
Other comprehensive income, net of tax
Unrealized gains (losses) on securities
available for sale
Unrealized holding gains (losses)
arising during the period
net of tax expense (benefit)
of $42,271, $(656), $404,318,
$656 and $1,312 64,447 (1,000) 616,429 1,000 2,000
Less: Reclassification
adjustment for gains included
in net income net of tax
expense (benefit) of
$41,582 and $46, 852 63,397 71,431
-------- ---------- ---------- ---------- ----------
1,050 (1,000) 544,998 1,000 2,000
-------- ---------- ---------- ---------- ----------
Comprehensive income $817,639 $1,862,139 $4,058,219 $2,989,219 $3,384,566
======== ========== ========== ========== ==========
</TABLE>
See notes to consolidated financial statements.
<PAGE>
Lincoln Federal Savings Bank and Subsidiary
Plainfield, Indiana
Consolidated Statement of Changes in Equity Capital
<TABLE>
<CAPTION>
Accumulated
Other
Retained Comprehensive
Earnings Income Total
<S> <C> <C> <C>
Balances, January 1, 1995 $31,547,681 $ (2,000) $31,545,681
Net income for 1995 3,382,566 3,382,566
Net change in unrealized gain on securities
available for sale 2,000 2,000
-----------------------------------------------------------
Balances, December 31, 1995 34,930,247 34,930,247
Net income for 1996 2,988,219 2,988,219
Net change in unrealized gain on securities
available for sale 1,000 1,000
-----------------------------------------------------------
Balances, December 31, 1996 37,918,466 1,000 37,919,466
Net income for 1997 3,513,208 3,513,208
Net change in unrealized gain on securities
available for sale 544,998 544,998
-----------------------------------------------------------
Balances, December 31, 1997 41,431,674 545,998 41,977,672
Net income for the six months ended
June 30, 1998 (unaudited) 816,589 816,589
Net change in unrealized gain
on securities available for sale 1,050 1,050
-----------------------------------------------------------
Balances, June 30, 1998 (unaudited) $42,248,263 $547,048 $42,795,311
===========================================================
</TABLE>
See notes to consolidated financial statements.
<PAGE>
Lincoln Federal Savings Bank and Subsidiary
Plainfield, Indiana
Consolidated Statement of Cash Flows
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
1998 1997 1997 1996 1995
(Unaudited)
Operating Activities
<S> <C> <C> <C> <C> <C>
Net income $ 816,589 $1,863,139 $ 3,513,208 $2,988,219 $3,382,566
Adjustments to reconcile net income to
net cash provided (used) by
operating activities
Provision for loan losses 409,937 50,000 297,555 120,000 100,000
Gain on sale of foreclosed real estate (434) (7,394) (17,297) (2,724) (12,427)
(Gain) loss on disposal of premises
and equipment 7,456 (3,147) 1,736
Investment securities accretion, net (72) (100) (173) (5,764) (1,309)
Investment securities gains (104,981) (118,283)
Equity in losses of limited partnerships 268,134 327,333 681,426 596,009 1,595,580
Amortization of net loan
origination fees (216,970) (261,402) (318,087) (555,738) (435,717)
Depreciation and amortization 237,569 215,809 441,824 379,449 256,740
Deferred income tax benefit (150,524) 34,360 (48,394) (165,948) (434,124)
Change in
Loans held for sale 238,002 1,505,814 1,353,983 (8,666,247) 607,535
Interest receivable 105,097 68,044 358,839 (20,227) (208,290)
Interest payable (15,352) 696,141 669,785 192,646 30,652
Other liabilities (79,552) 186,827 242,329 (578,033) 816,023
Other assets 122,504 62,804 143,797 (80,935) (28,226)
Income taxes receivable payable 126,829 (347,994) (604,950) 14,400 445,056
--------------------------------------------------------------------------------
Net cash provided (used)
by operating activities 1,764,232 4,393,381 6,595,562 (5,788,040) 6,115,795
--------------------------------------------------------------------------------
Investing Activities
Net change in interest-bearing deposits 595,000 100,000 495,000
Purchases of securities
available for sale (14,924,502) (462) (7,798,838) (889) (926)
Proceeds from sales of securities
available for sale 21,080,952 54,532,285
Proceeds from maturities of securities
available for sale 4,137,734 1,236,765
Purchases of securities held to maturity (11,429,375) (9,250,000)
Proceeds from maturities of securities
held to maturity 6,135,000 1,800,000 5,550,000 7,850,000 10,400,000
Purchase of loans (999,737) (999,737)
Other net changes in loans 5,312,468 (14,689,689) (20,033,888) (11,425,829) (25,431,291)
Purchase of premises and equipment (257,928) (216,578) (677,841) (189,524) (549,218)
Proceeds from disposal of
property and equipment 6,500
Purchase of FHLB of Indianapolis stock (650,000) (650,000) (496,700)
Proceeds from sale of
foreclosed real estate 144,501 73,453 157,901 40,000 87,000
Improvements to foreclosed real estate (151) (10,294) (7,085)
Distribution from limited partnership 40,000
Contribution to limited partnership (195,000) (200,000) (200,000) (200,000) (200,000)
Other investing activities (650,000) (378,759)
---------------------------------------------------------------------------------
Net cash provided (used) by
investing activities 20,783,225 (14,883,013) 31,332,737 (15,756,111) (24,416,520)
---------------------------------------------------------------------------------
</TABLE>
<PAGE>
Lincoln Federal Savings Bank and Subsidiary
Plainfield, Indiana
Consolidated Statement of Cash Flows (continued)
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
--------------------------------------------------------------------------------
1998 1997 1997 1996 1995
(Unaudited)
<S> <C> <C> <C> <C> <C>
Financing Activities
Net change in
Noninterest-bearing, interest-bearing
demand, money market and
savings deposits 266,372 1,575,673 4,449,683 8,509,585 (9,409,620)
Certificates of deposit 7,042,030 (11,124,514) (11,421,208) 6,197,171 20,307,236
Short-term borrowings (2,137,058)
Proceeds from FHLB advances 10,000,000 38,700,000 73,400,000 94,700,000 178,000,000
Repayment of FHLB advances (34,450,000) (23,000,000) (94,496,337) (85,403,916) (180,063,599)
Payment on note payable to limited
partnership (488,500) (488,500) (488,500) (488,500) (488,500)
Net change in advances by
borrowers for taxes
and insurance (110,498) (94,051) (213,140) (358,426) (18,985)
----------------------------------------------------------------------------------
Net cash provided (used) by
financing activities (17,740,596) 5,568,608 (28,769,502) 23,155,914 6,189,474
----------------------------------------------------------------------------------
Net Change in Cash and Cash Equivalents 4,806,861 (4,921,024) 9,158,797 1,611,763 (12,111,251)
Cash and Cash Equivalents,
Beginning of Year 18,957,681 9,798,884 9,798,884 8,187,121 20,298,372
---------------------------------------------------------------------------------
Cash and Cash Equivalents, End of Year $23,764,542 $4,877,860 $18,957,681 $9,798,884 $8,187,121
=================================================================================
Additional Cash Flows and
Supplementary Information
Interest paid $6,897,070 $7,049,058 $14,982,067 $14,944,236 $14,468,846
Income tax paid 111,500 1,014,998 1,814,998 994,087 1,182,110
Loan balances transferred to
foreclosed real estate 196,872 110,767 102,087 67,488
Securitization of loans and loans held
for sale 39,903,448 76,229,830
Transfer of loans to loans
held for sale 19,611,239 3,137,084
</TABLE>
See notes to consolidated financial statements.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Note 1 -- Nature of Operations and Summary of Significant Accounting Policies
The accounting and reporting policies of Lincoln Federal Savings Bank ("Bank")
and its wholly owned subsidiary, L-F Service Corporation ("L-F Service"),
conform to generally accepted accounting principles and reporting practices
followed by the thrift industry. The more significant of the policies are
described below.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
The Bank operates under a federal thrift charter and provides full banking
services. As a federally chartered thrift, the Bank is subject to regulation by
the Office of Thrift Supervision.
The Bank generates mortgage and consumer loans and receives deposits from
customers located primarily in Central Indiana. The Bank's loans are generally
secured by specific items of collateral including real property and consumer
assets. L-F Service invests in low income housing partnerships.
Consolidation--The consolidated financial statements include the accounts of the
Bank and subsidiary after elimination of all material intercompany transactions
and accounts.
Investment Securities--Debt securities are classified as held to maturity when
the Bank has the positive intent and ability to hold the securities to maturity.
Securities held to maturity are carried at amortized cost.
Debt securities not classified as held to maturity are classified as available
for sale. Securities available for sale are carried at fair value with
unrealized gains and losses reported separately, net of tax, in equity capital.
Amortization of premiums and accretion of discounts are recorded using the
interest method as interest income from securities. Realized gains and losses
are recorded as net security gains (losses). Gains and losses on sales of
securities are determined on the specific-identification method.
Loan securitizations--The Bank securitized certain mortgage loans and created
mortgage-backed securities for sale in the secondary market. Because the
resulting securities were collateralized by the identical loans previously held,
no gain or loss was recognized at the time of the securitization transactions.
When securitized loans are sold to an outside party, the specific-identification
method is used to determine the cost of the security sold, and a gain or loss is
recognized in income.
Mortgage loans held for sale are carried at the lower of aggregate cost or
market. Net unrealized losses are recognized through a valuation allowance by
charges to income. Gains or losses on sales of loans as recorded in the
consolidated statement of income include the amounts as determined above as well
as principal gains or losses associated with the sales and the recognition of
unamortized loan origination fees and commitment fees paid to the purchasers.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Loans are carried at the principal amount outstanding. A loan is impaired when,
based on current information or events, it is probable that the Bank will be
unable to collect all amounts due (principal and interest) according to the
contractual terms of the loan agreement. Payments with insignificant delays not
exceeding 90 days outstanding are not considered impaired. Certain nonaccrual
and substantially delinquent loans may be considered to be impaired. The Bank
considers its investment in one-to-four family residential loans and consumer
loans to be homogeneous and therefore excluded from separate identification for
evaluation of impairment. Interest income is accrued on the principal balances
of loans. The accrual of interest on impaired and nonaccrual loans is
discontinued when, in management's opinion, the borrower may be unable to meet
payments as they become due. When interest accrual is discontinued, all unpaid
accrued interest is reversed when considered uncollectible. Interest income is
subsequently recognized only to the extent cash payments are received. Certain
loan fees and direct costs are being deferred and amortized as an adjustment of
yield on the loans over the contractual lives of the loans. When a loan is paid
off or sold, any unamortized loan origination fee balance is credited to income.
Allowance for loan losses is maintained to absorb loan losses based on
management's continuing review and evaluation of the loan portfolio and its
judgment as to the impact of economic conditions on the portfolio. The
evaluation by management includes consideration of past loss experience, changes
in the composition of the portfolio, the current condition and amount of loans
outstanding, and the probability of collecting all amounts due. Impaired loans
are measured by the present value of expected future cash flows, or the fair
value of the collateral of the loan, if collateral dependent.
The determination of the adequacy of the allowance for loan losses is based on
estimates that are particularly susceptible to significant changes in the
economic environment and market conditions. Management believes that as of June
30, 1998 (unaudited) and December 31, 1997 and 1996, the allowance for loan
losses is adequate based on information currently available. A worsening or
protracted economic decline in the area within which the Bank operates would
increase the likelihood of additional losses due to credit and market risks and
could create the need for additional loss reserves.
Foreclosed real estate is carried at the lower of cost or fair value less
estimated selling costs. When foreclosed real estate is acquired, any required
adjustment is charged to the allowance for loan losses. All subsequent activity
is included in current operations.
Mortgage servicing rights on originated loans are capitalized by allocating the
total cost of the mortgage loans between the mortgage servicing rights and the
loans based on their relative fair values. Capitalized servicing rights, which
include purchased servicing rights, are amortized in proportion to and over the
period of estimated servicing revenues.
Premises and equipment are carried at cost net of accumulated depreciation.
Depreciation is computed using the straight-line method based principally on the
estimated useful lives of the assets which range from 3 to 39 years. Maintenance
and repairs are expensed as incurred while major additions and improvements are
capitalized. Gains and losses on dispositions are included in current
operations.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Federal Home Loan Bank stock is a required investment for institutions that are
members of the Federal Home Loan Bank (FHLB) system. The required investment in
the common stock is based on a predetermined formula.
Investment in limited partnerships is recorded using the equity method of
accounting. Losses due to impairment are recorded when it is determined that the
investment no longer has the ability to recover its carrying amount. The
benefits of low income housing tax credits associated with the investment are
accrued when earned.
Pension plan costs are based on actuarial computations and charged to current
operations. The funding policy is to pay at least the minimum amounts required
by ERISA.
Income tax in the consolidated statement of income includes deferred income tax
provisions or benefits for all significant temporary differences in recognizing
income and expenses for financial reporting and income tax purposes. The Bank
files consolidated income tax returns with its subsidiary.
Reclassifications of certain amounts in the 1996 and 1995 consolidated financial
statements have been made to conform to the 1997 presentation.
Note 2 -- Restriction on Cash
The Bank is required to maintain reserve funds in cash and/or on deposit with
the Federal Reserve Bank. The reserve required at June 30, 1998 (unaudited) and
December 31, 1997, was $106,000.
Note 3 -- Investment Securities
<TABLE>
<CAPTION>
1998
-----------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
June 30 Cost Gains Losses Value
- ------------------------------------------------------------------------------------------------------------
(Unaudited)
<S> <C> <C> <C> <C>
Available for sale
Mortgage-backed securities
Federal Home Loan Mortgage Corporation $36,416 $851 $37,267
Federal National Mortgage Corporation 6,790 58 $3 6,845
Corporate debt obligations 14,828 14,828
-----------------------------------------------------------
Total available for sale 58,034 909 3 58,940
-----------------------------------------------------------
Held to maturity
Federal agencies 3,500 9 3,509
-----------------------------------------------------------
Total held to maturity 3,500 9 3,509
-----------------------------------------------------------
Total investment securities $61,534 $918 $3 $62,449
===========================================================
</TABLE>
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
<TABLE>
<CAPTION>
1997
-----------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
December 31 Cost Gains Losses Value
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Available for sale
Mortgage-backed securities
Federal Home Loan Mortgage Corporation $20,997 $862 $21,859
Federal National Mortgage Corporation 7,498 42 7,540
-----------------------------------------------------------
Total available for sale 28,495 904 29,399
-----------------------------------------------------------
Held to maturity
Federal agencies 9,635 5 $25 9,615
-----------------------------------------------------------
Total held to maturity 9,635 5 25 9,615
-----------------------------------------------------------
Total investment securities $38,130 $909 $25 $39,014
===========================================================
</TABLE>
<TABLE>
<CAPTION>
1996
-----------------------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
December 31 Cost Gains Losses Value
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Available for sale
Federated liquid cash fund $ 17 $ 17
FHLMC stock 100 $1 101
-----------------------------------------------------------
Total available for sale 117 1 118
-----------------------------------------------------------
Held to maturity
Federal agencies 15,185 3 $191 14,997
-----------------------------------------------------------
Total held to maturity 15,185 3 191 14,997
-----------------------------------------------------------
Total investment securities $15,302 $4 $191 $15,115
===========================================================
</TABLE>
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
The amortized cost and fair value of securities at June 30, 1998 (unaudited) and
December 31, 1997, by contractual maturity, are shown below. Expected maturities
will differ from contractual maturities because issuers may have the right to
call or prepay obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
June 30, 1998
Available for Sale Held to Maturity
Amortized Fair Amortized Fair
Cost Value Cost Value
- ---------------------------------------------------------------------------------------------------
(Unaudited)
<S> <C> <C>
Within one year $1,250 $1,251
One to five years 2,250 2,258
Over ten years $14,828 $14,828
-----------------------------------------------------------
14,828 14,828 3,500 3,509
Mortgage-backed securities 43,206 44,112
-----------------------------------------------------------
Totals $58,034 $58,940 $3,500 $3,509
===========================================================
December 31, 1997
-----------------------------------------------------------
Available for Sale Held to Maturity
Amortized Fair Amortized Fair
Cost Value Cost Value
-----------------------------------------------------------
Within one year $2,750 $2,742
One to five years 6,885 6,873
-----------------------------------------------------------
9,635 9,615
Mortgage-backed securities $28,495 $29,399
-----------------------------------------------------------
Totals $28,495 $29,399 $9,635 $9,615
===========================================================
</TABLE>
Securities with a carrying value of $47,612,000 and $38,957,000 were pledged at
June 30, 1998 (unaudited) and December 31, 1997 to secure FHLB advances.
Proceeds from sales of securities available for sale during the six months ended
June 30, 1998 (unaudited) and the year ended December 31, 1997 were $21,081,000
and $54,532,000. Gross gains of $105,000 for the six months ended June 30, 1998
(unaudited), and gross gains of $208,000 and gross losses of $90,000 for the
year ended December 31,1997 were realized on those sales.
The retained interest in loans securitized and included in securities available
for sale does not include a material amount of loans formerly classified as held
for sale.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Note 4 -- Loans and Allowance
<TABLE>
<CAPTION>
December 31
June 30, ---------------------
1998 1997 1996
--------------------------------
(Unaudited)
Real estate mortgage loans
<S> <C> <C> <C>
One-to-four family $140,434 $205,976 $245,198
Multi-family 1,048 1,133 1,111
Real estate construction loans 7,722 9,912 13,159
Commercial, industrial and agricultural loans 16,297 16,611 17,555
Consumer loans 22,374 20,558 16,363
--------------------------------
Total loans 187,875 254,190 293,386
Less
Undisbursed portion of loans 2,071 2,504 8,086
Deferred loan fees 954 1,690 2,488
--------------------------------
$184,850 $249,996 $282,812
================================
</TABLE>
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
--------------------------------------------------------------------------------
1998 1997 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------------------
(Unaudited)
Allowance for loan losses
<S> <C> <C> <C> <C> <C>
Balances, Beginning of Period $1,361 $1,241 $1,241 $1,121 $1,047
Provision for loan losses 410 50 298 120 100
Recoveries on loans 16 3
Loans charged off (355) (178) (29)
--------------------------------------------------------------------------------
Balances, End of Period $1,432 $1,291 $1,361 $1,241 $1,121
================================================================================
</TABLE>
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Information on impaired loans is summarized below.
June 30, December 31
1998 1997 1996
(Unaudited)
Impaired loans with an allowance $808 $1,582 $2,106
=======================================
Allowance for impaired loans
(included in the Bank's
allowance for loan losses) $121 $237 $523
=======================================
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
1998 1997 1997 1996 1995
- ---------------------------------------------------------------------------------------------------------------------------------
(Unaudited)
<S> <C> <C> <C> <C> <C>
Average balance of impaired loans $1,273 $2,063 $1,933 $2,177 $569
Interest income recognized on impaired loans 9 60 64 194 45
Cash-basis interest included above 9 60 64 194 49
</TABLE>
The Bank has no commitments to loan additional funds to the borrowers of
impaired loans.
Note 5 -- Premises and Equipment
June 30, December 31
1998 1997 1996
(Unaudited)
Land $ 881 $ 881 $ 493
Buildings and land improvements 2,716 2,734 2,695
Furniture and equipment 1,507 1,490 1,240
---------------------------------------
Total cost 5,104 5,105 4,428
Accumulated depreciation (2,266) (2,280) (1,839)
---------------------------------------
Net $2,838 $2,825 $2,589
=======================================
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Note 6 -- Investment In Limited Partnership
The Bank has an investment of $2,632,863, $2,705,997 and $3,187,423 at June 30,
1998 (unaudited) and December 31, 1997 and 1996 representing equity in certain
limited partnerships organized to build, own and operate apartment complexes.
The Bank records its equity in the net income or loss of the partnerships based
on the Bank's interest in the partnerships, which interests are 49.5 percent in
Pedcor Investments-1987-I (Pedcor) and 99 percent in Bloomington Housing
Associates L.P. (Bloomington Housing). In addition to recording its equity in
the losses of the partnership, the Bank has recorded the benefit of low income
housing tax credits of $299,000 and $327,000 for the six months ended June 30,
1998 and 1997 (unaudited) and $655,000 for the years ended December 31, 1997 and
1996. Condensed combined financial statements of the partnerships are as
follows:
June 30, December 31
1998 1997 1996
(Unaudited)
Assets
Cash $ 395 $ 363 $ 361
Note receivable--limited partner 2,203 2,691 3,180
Land and property 9,527 9,716 10,063
Other assets 1,452 1,499 1,419
-----------------------------
Total assets $13,577 $14,269 $15,023
=============================
Liabilities
Notes payable $ 9,075 $ 9,536 $ 9,738
Other liabilities 624 710 706
-----------------------------
Total liabilities 9,699 10,246 10,444
Partners' equity 3,878 4,023 4,579
-----------------------------
Total liabilities and partners' equity $13,577 $14,269 $15,023
=============================
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
1998 1997 1997 1996 1995
-----------------------------------------------------------------------
(Unaudited)
Condensed statement of operations
<S> <C> <C> <C> <C> <C>
Total revenue $ 760 $ 817 $ 1,677 $ 1,655 $ 1,579
Total expenses 1,296 1,245 2,633 2,438 2,398
-----------------------------------------------------------------------
Net loss $ (536) $ (428) $ (956) $ (783) $ (819)
=======================================================================
</TABLE>
At December 31, 1997, the Bank had committed to make a capital contribution of
$195,000 to Pedcor in January 1998.
Note 7 -- Deposits
<TABLE>
<CAPTION>
June 30, December 31
1998 1997 1996
(Unaudited)
<S> <C> <C> <C>
Noninterest-bearing demand deposits $ 1,394 $ 2,321 $ 711
Interest-bearing demand 7,487 7,565 8,551
Money market savings deposits 28,631 26,002 14,429
Savings deposits 20,609 21,967 29,714
Certificates and other time deposits of $100,000 or more 16,698 15,334 24,279
Other certificates and time deposits 136,341 130,663 133,139
-------------------------------------------
Total deposits $211,160 $203,852 $210,823
===========================================
</TABLE>
Certificates maturing in years ending :
June 30 December 31
(Unaudited)
1998 $111,568 $ 69,205
1999 30,660 65,038
2000 7,590 5,822
2001 2,464 5,120
2002 757 812
--------------------------------
$153,039 $145,997
==============================
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Deposits in excess of $100,000 are not federally insured.
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
1998 1997 1997 1996 1995
---------------------------------------------------------------
(Unaudited)
Interest expense on deposits
<S> <C> <C> <C> <C> <C>
Interest-bearing demand $ 79 $ 77 $ 154 $ 151 $ 143
Money market savings deposits 687 459 1,044 320 108
Savings deposits 322 417 781 1,092 1,295
Certificates 4,248 4,136 8,424 8,675 8,456
---------------------------------------------------------------
$ 5,336 $ 5,089 $10,403 $10,238 $10,002
===============================================================
</TABLE>
Note 8 -- Federal Home Loan Bank Advances
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
Weighted Weighted
Average Average
Amount Rate Amount Rate
(Unaudited)
Advances from FHLB
Maturities in years ending
<S> <C> <C> <C> <C>
1998 $35,000 5.47%
1999 $24,000 5.53% 7,000 5.21
2000 3,750 6.15
2002
12,700 5.81
2003 10,000 5.67
1,686 5.36
2004 1,686 5.36
2007 10,000 6.67
2008
10,000 5.73
------- ----------
$45,686 5.60% $ 70,136 5.71%
======= ==========
</TABLE>
The FHLB advances are secured by first mortgage loans and investment securities
totaling $203,631,000 and $238,781,000 at June 30, 1998 (unaudited) and December
31, 1997. Advances are subject to restrictions or penalties in the event of
prepayment.
During the six months ended June 30, 1998 (unaudited), the Bank prepaid FHLB
advances of $16,450,000. The early repayments resulted in prepayment penalties
of $150,000, net of income taxes of $98,600, which has been accounted for as an
extraordinary item as required by generally accepted accounting principles.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
The Bank has an available line of credit with the FHLB totaling $2,000,000. The
line of credit expires September 9, 1998 and bears interest at a rate equal to
the current variable advance rate. There were no drawings on this line of credit
at June 30, 1998 (unaudited) and December 31, 1997.
Note 9 -- Note Payable
The note payable to Bloomington Housing dated August 18, 1992 in the original
amount of $4,945,001 bears no interest so long as there exists no event of
default. As of June 30, 1998 (unaudited) and December 31, 1997, the Bank was in
compliance with all terms of the note. In the instance where an event of default
has occurred, interest shall be calculated at a rate of five percent above the
Indiana base rate as described in the note. The following table summarizes the
payment terms of the note.
June 30 December 31
(Unaudited)
Payments due in years ending:
1998 $ 489
1999 $ 489 489
2000 489 489
2001 489 489
2002 489 489
2003 247 246
----------------------------
$2,203 $2,691
============================
Note 10 -- Loan Servicing
Mortgage loans serviced for others are not included in the accompanying
consolidated balance sheet. The unpaid principal balances of these loans consist
of the following:
<TABLE>
<CAPTION>
June 30, December 31
1998 1997 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
(Unaudited)
Mortgage loan portfolio serviced for
<S> <C> <C> <C> <C> <C>
FHLMC $101,922 $46,540 $84,879 $36,660 $37,710
Other investors 75 92 84 100 212
---------------------------------------------------------------------
$101,997 $46,632 $84,963 $36,760 $37,922
=====================================================================
</TABLE>
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
In 1996, the Bank adopted SFAS No. 122, Accounting for Mortgage Servicing
Rights. This Statement requires the capitalization of retained mortgage
servicing rights on originated or purchased loans by allocating the total cost
of the mortgage loans between the mortgage servicing rights and the loans
(without the servicing rights) based on their relative fair values. SFAS No. 122
was superseded during 1996 by SFAS No. 125, Accounting for Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities. SFAS No. 125
(as did SFAS No. 122) requires the assessment of impairment of capitalized
mortgage servicing rights and requires that impairment be recognized through a
valuation allowance based on the fair value of those rights. Prior to 1996, the
Bank had recognized loan servicing costs when participating interests in loans
sold had an average contractual interest rate, adjusted for normal servicing,
that differed from the agreed yield to the purchases. The aggregate fair value
of capitalized mortgage servicing rights at June 30, 1998 (unaudited) and
December 31, 1997 totaled $758,000 and $530,000. Comparable market values and a
valuation model that calculates the present value of future cash flows were used
to estimate fair value. For purposes of measuring impairment, risk
characteristics including product type, investor type, and interest rates, were
used to stratify the originated mortgage servicing rights.
<TABLE>
<CAPTION>
June 30 December 31
------------------------------------------------------------------------------
1998 1997 1997 1996 1995
(Unaudited)
Mortgage Servicing Rights
<S> <C> <C> <C> <C> <C>
Balances, January 1 $530 $85 $ 85 $49 $58
Servicing rights capitalized 354 512 48
Amortization of servicing rights (126) (5) (67) (12) (9)
----------------------------------------------------------------------------
Balances, end of period $758 $80 $530 $85 $49
============================================================================
</TABLE>
Note 11 -- Income Tax
<TABLE>
<CAPTION>
Six Months Ended
June 30 Year Ended December 31
1998 1997 1997 1996 1995
(Unaudited)
Income tax expense
Currently payable
<S> <C> <C> <C> <C> <C>
Federal $ 206 $ 449 $ 841 $ 695 $ 1,134
State 131 218 366 341 493
Deferred
Federal (164) 17 (58) (163) (351)
State 13 17 10 (3) (83)
------------------------------------------------------
Total income tax expense $ 186 $ 701 $ 1,159 $ 870 $ 1,193
======================================================
Reconciliation of federal
statutory to actual tax expense
Federal statutory income taxat34% $ 392 $ 872 $ 1,588 $ 1,312 $ 1,556
Effect of state income taxes 95 155 248 223 271
Tax credits (299) (327) (655) (655) (655)
Other (2) 1 (22) (10) 21
------------------------------------------------------
Actual tax expense $ 186 $ 701 $ 1,159 $ 870 $ 1,193
======================================================
Effective tax rate 16.16% 27.3% 24.8% 22.6% 26.1%
</TABLE>
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
The components of the deferred tax asset are as follows at:
<TABLE>
<CAPTION>
June 30, December 31
1998 1997 1996
(Unaudited)
Assets
<S> <C> <C>
Depreciation $ 18 $ 18
Allowance for loan losses 609 578 $ 470
Loan fees 106 112 154
Deferred director fees 284 273 177
Loss on limited partnerships 416 411 402
Business tax credits 509 294 198
Loan interest 57
Other 2 13 21
------------------------------------------
Total assets 1,944 1,699 1,479
------------------------------------------
Liabilities
Depreciation 12
State income tax 71 76 79
FHLB stock dividends 78 78 78
Loans held for sale 6
Mortgage servicing rights 312 213 20
Securities available for sale 359 358
------------------------------------------
Total liabilities 820 725 195
------------------------------------------
$1,124 $974 $1,284
==========================================
</TABLE>
No valuation allowance was considered necessary at June 30, 1998 (unaudited) and
December 31, 1997 and 1996.
At June 30, 1998 (unaudited) and December 31, 1997, the Bank had an unused
business income tax credit carryforward of $509,000 and $294,000 expiring in
2012.
Income tax expense attributable to securities gains was $42,000 for the six
months ended June 30, 1998 (unaudited) and $47,000 for year ended December 31,
1997.
Retained earnings at June 30, 1998 (unaudited) and December 31, 1997 include
approximately $5,928,000 for which no deferred income tax liability has been
recognized. This amount represents an allocation of income to bad debt
deductions as of December 31, 1987 for tax purposes only. Reduction of amounts
so allocated for purposes other than tax bad debt losses including redemption of
bank stock or excess dividends, or loss of "bank" status, would create income
for tax purposes only, which income would be subject to the then-current
corporate income tax rate. The unrecorded deferred income tax liability on the
above amounts at June 30, 1998 (unaudited) and December 31, 1997 was
approximately $2,348,000.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Note 12 -- Commitments and Contingent Liabilities
In the normal course of business there are outstanding commitments and
contingent liabilities, such as commitments to extend credit and standby letters
of credit, which are not included in the accompanying financial statements. The
Bank's exposure to credit loss in the event of nonperformance by the other party
to the financial instruments for commitments to extend credit and standby
letters of credit is represented by the contractual or notional amount of those
instruments. The Bank uses the same credit policies in making such commitments
as it does for instruments that are included in the consolidated statement of
financial condition.
Financial instruments whose contract amount represents credit risk were as
follows:
June 30, December 31
1998 1997 1996
- --------------------------------------------------------------------------------
(Unaudited)
Loan commitments
At variable rates $9,145 $7,255 $6,642
At fixed rates ranging from
6.125 to 10.50% 5,078
7.25 to 9.50% 9,263
6.0 to 9.75% 11,865
Commitment to sell loans 19,264
Standby letters of credit 237 715 878
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The Bank evaluates each customer's credit
worthiness on a case-by-case basis. The amount of collateral obtained, if deemed
necessary by the Bank upon extension of credit, is based on management's credit
evaluation. Collateral held varies, but may include residential real estate,
income-producing commercial properties, or other assets of the borrower.
Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third party.
The Bank and subsidiary are also subject to claims and lawsuits which arise
primarily in the ordinary course of business. It is the opinion of management
that the disposition or ultimate determination of such possible claims or
lawsuits will not have a material adverse effect on the consolidated financial
position of the Bank.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Note 13 -- Regulatory Capital
The Bank is subject to various regulatory capital requirements administered by
the federal banking agencies and is assigned to a capital category. The assigned
capital category is largely determined by three ratios that are calculated
according to the regulations: total risk adjusted capital, Tier 1 capital, and
Tier 1 leverage ratios. The ratios are intended to measure capital relative to
assets and credit risk associated with those assets and off-balance sheet
exposures of the entity. The capital category assigned to an entity can also be
affected by qualitative judgments made by regulatory agencies about the risk
inherent in the entity's activities that are not part of the calculated ratios.
There are five capital categories defined in the regulations, ranging from well
capitalized to critically undercapitalized. Classification of a bank in any of
the undercapitalized categories can result in actions by regulators that could
have a material effect on a bank's operations. At June 30, 1998 (unaudited) and
December 31, 1997 and 1996, the Bank is categorized as well capitalized and met
all subject capital adequacy requirements. There are no conditions or events
since June 30, 1998 (unaudited) and December 31, 1997 that management believes
have changed the Bank's classification.
The Bank's actual and required capital amounts and ratios are as follows:
<TABLE>
<CAPTION>
June 30, 1998
Required for To Be Well
Actual Adequate Capital 1 Capitalized 1
Amount Ratio Amount Ratio Amount Ratio
- ------------------------------------------------------------------------------------------------------------------------------
(Unaudited)
<S> <C> <C> <C> <C> <C> <C>
Total risk-based capital 1
(to risk-weighted assets) $43,680 24.6% $14,217 8.0% $17,772 10.0%
Core capital 1 (to adjusted tangible assets) 42,248 13.9% 9,138 3.0% 18,276 6.0%
Core capital 1 (to adjusted total assets) 42,248 13.9% 9,138 3.0% 15,230 5.0%
1 As defined by regulatory agencies
December 31, 1997
Required for To Be Well
Actual Adequate Capital 1 Capitalized 1
Amount Ratio Amount Ratio Amount Ratio
- ------------------------------------------------------------------------------------------------------------------------------
Total risk-based capital 1
(to risk-weighted assets) $42,793 25.3% $13,547 8.0% $16,934 10.0%
Core capital 1 (to adjusted tangible assets) 41,432 12.9% 9,625 3.0% 19,250 6.0%
Core capital 1 (to adjusted total assets) 41,432 12.9% 9,625 3.0% 16,042 5.0%
</TABLE>
1 As defined by regulatory agencies
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
<TABLE>
<CAPTION>
December 31, 1996
Required for To Be Well
Actual Adequate Capital 1 Capitalized 1
Amount Ratio Amount Ratio Amount Ratio
- ------------------------------------------------------------------------------------------------------------------------------
Total risk-based capital 1
<S> <C> <C> <C> <C> <C> <C>
(to risk-weighted assets) $38,989 21.8% $14,342 8.0% $17,928 10.0%
Core capital 1 (to adjusted tangible assets) 37,918 11.0% 10,367 3.0% 20,733 6.0%
Core capital 1 (to adjusted total assets) 37,918 11.0% 10,367 3.0% 17,278 5.0%
</TABLE>
1 As defined by regulatory agencies
The Bank's tangible capital at June 30, 1998 (unaudited) and December 31, 1997
was $42,428,000 and $41,432,000, which amounts were 13.9 and 12.9 percent of
tangible assets and exceeded the required ratio of 1.5 percent.
Reconciliation of capital for financial statement purposes to regulatory capital
was as follows:
<TABLE>
<CAPTION>
June 30, 1998 December 31, 1997
Core Tangible Risk-Based Core Tangible Risk-Based
Capital Capital Capital Capital Capital Capital
- ----------------------------------------------------------------------------------------------------------------------------------
(Unaudited)
<S> <C> <C> <C> <C> <C> <C>
Capital for financial
statement purposes $42,795 $42,795 $42,795 $41,978 $41,978 $41,978
Less
Net unrealized gain on securities
available for sale 547 547 547 546 546 546
Add
General loan valuation allowance 1,432 1,361
----------------------------------------------------------------------------------
Regulatory capital $42,248 $42,248 $43,680 $41,432 $41,432 $42,793
==================================================================================
</TABLE>
Note 14 -- Benefit Plans
The Bank is a participant in a pension fund known as the Financial Institutions
Retirement Fund ("FIRF"). This plan is a multi-employer plan: Pension expense
(benefit) was $0 for the six months ended June 30, 1998 and 1997 (unaudited) and
$(26,000), $70,000 and $88,000 for the years ended December 31, 1997, 1996 and
1995. This plan provides pension benefits for substantially all of the Bank's
employees.
The Bank has a retirement savings 401(k) plan in which substantially all
employees may participate. The Bank matches employees' contributions at the rate
of 50 percent for the first 5 percent of W-2 earnings contributed by
participants. The Bank's expense for the plan was $15,000 and $6,000 for the six
months ended June 30, 1998 and 1997 (unaudited) and $19,000, $20,000 and $12,000
for the years ended December 31, 1997, 1996 and 1995.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
Note 15 -- Fair Values of Financial Instruments
The following methods and assumptions were used to estimate the fair value of
each class of financial instrument.
Cash and Cash Equivalents--The fair value of cash and cash equivalents
approximates carrying value.
Interest-Bearing Deposits--The fair value of interest-bearing deposits
approximates carrying value.
Securities--Fair values are based on quoted market prices.
Loans and Loans Held for Sale--The fair value for loans is estimated using
discounted cash flow analyses, using interest rates currently being offered for
loans with similar terms to borrowers of similar credit quality.
FHLB Stock--Fair value of FHLB stock is based on the price at which it may be
resold to the FHLB.
Interest Receivable/Payable--The fair value of accrued interest
receivable/payable approximates carrying values.
Deposits--Fair values for certificates of deposit are estimated using a
discounted cash flow calculation that applies interest rates currently being
offered on certificates to a schedule of aggregated expected monthly maturities
on such time deposits.
FHLB Advances--The fair value of these borrowings is estimated using a
discounted cash flow calculation, based on current rates for similar debt.
Note Payable--Limited Partnership--The fair value of the borrowing is estimated
using a discounted cash flow calculation based on the prime interest rate.
Advance Payments by Borrowers for Taxes and Insurance--The fair value
approximates carrying value.
Off-Balance Sheet Commitments--Commitments include commitments to originate
mortgage and consumer loans and standby letters of credit and are generally of a
short-term nature. The fair value of such commitments are based on fees
currently charged to enter into similar agreements, taking into account the
remaining terms of the agreements and the counterparties' credit standing. The
carrying amounts of these commitments, which are immaterial, are reasonable
estimates of the fair value of these financial instruments.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
The estimated fair values of the Bank's financial instruments are as follows:
<TABLE>
<CAPTION>
December 31
June 30, 1998 1997 1996
Carrying Fair Carrying Fair Carrying Fair
Amount Value Amount Value Amount Value
- -------------------------------------------------------------------------------------------------------------------------------
(Unaudited)
Assets
<S> <C> <C> <C> <C> <C> <C>
Cash and cash equivalents $23,765 $23,765 $18,958 $18,958 $9,799 $9,799
Interest-bearing deposits 595 595
Securities available for sale 58,940 58,940 29,399 29,399 118 118
Securities held to maturity 3,500 3,509 9,635 9,615 15,185 14,997
Loans including loans held for sale, net 202,683 205,485 248,635 250,420 305,772 306,153
Stock in FHLB 5,447 5,447 5,447 5,447 4,797 4,797
Interest receivable 1,428 1,428 1,533 1,533 1,892 1,892
Liabilities
Deposits 211,160 211,459 203,852 204,270 210,823 211,287
Borrowings
FHLB advances 45,686 45,254 70,136 69,753 91,232 90,735
Note payable--limited partnership 2,203 1,835 2,691 2,198 3,180 2,514
Interest payable 1,138 1,138 1,154 1,154 484 484
Advances by borrowers for
taxes and insurance 613 613 723 723 937 937
</TABLE>
Note 16 -- Subsequent Event--Plan of Conversion
On July 2, 1998, the Board of Directors adopted a Plan of conversion ("Plan")
whereby the Bank will convert from a Federally chartered mutual institution to a
Federally chartered stock savings bank. The Plan is subject to approval of
regulatory authorities and members at a special meeting. The stock of the Bank
will be issued to Lincoln, a holding company formed in connection with the
conversion, and the Bank will become a wholly-owned subsidiary of Lincoln.
Pursuant to the Plan, shares of capital stock of Lincoln are expected to be
offered initially for subscription to eligible members of the Bank and certain
other persons as of specified dates subject to various subscription priorities
as provided in the Plan. The capital stock will be offered at a price to be
determined by the Board of Directors based upon an appraisal to be made by an
independent appraisal firm. The exact number of shares to be offered will be
determined by the Board of Directors in conjunction with the determination of
the subscription price. At least the minimum number of shares offered in the
conversion must be sold. Any stock not purchased in the subscription offering
will be sold in a community offering expected to be commenced following the
subscription offering.
<PAGE>
LINCOLN FEDERAL SAVINGS BANK AND SUBSIDIARY
Plainfield, Indiana
Notes to Consolidated Financial Statements
(Table Dollar Amounts in Thousands)
The Plan provides that when the conversion is completed, a "liquidation account"
will be established in an amount equal to the retained income of the Bank as of
the date of the most recent financial statements contained in the final
conversion prospectus. The liquidation account is established to provide a
limited priority claim to the assets of the Bank to qualifying depositors
("eligible account holders") at June 30, 1997 and other depositors
("supplemental eligible account holders") as of September 30, 1998 who continue
to maintain deposits in the Bank after conversion. In the unlikely event of a
complete liquidation of the Bank, and only in such event, eligible account
holders would receive from the liquidation account a liquidation distribution
based on their proportionate share of the then total remaining qualifying
deposits.
Pursuant to the Plan, Lincoln intends to establish a Charitable Foundation (the
"Foundation") in connection with the conversion. The Plan provides that the Bank
and Lincoln will create the Foundation and donate an amount of Lincoln's common
stock of up to 8% of the common stock to be issued in the conversion. The
Foundation is being formed as a complement to the Bank's existing community
activities and will be dedicated to community activities and the promotion of
charitable causes.
The Foundation has submitted a request to the Internal Revenue Service to be
recognized as a tax-exempt organization and would likely be classified as a
private foundation. A contribution of common stock to the Foundation by Lincoln
would be tax deductible, subject to an annual limitation based on 10% of
Lincoln's annual taxable income. Lincoln, however, would be able to carry
forward any unused portion of the deduction for five years following the
contribution. Upon funding the Foundation, Lincoln will recognize an expense in
the full amount of the contribution, offset in part by the corresponding tax
benefit, during the quarter in which the contribution is made.
Current regulations allow the Bank to pay dividends on its stock after the
conversion if its regulatory capital would not thereby be reduced below the
amount then required for the aforementioned liquidation account. Also, capital
distribution regulations limit the Bank's ability to make capital distributions
which include dividends, stock redemptions or repurchases, cash-out mergers,
interest payments on certain convertible debt and other transactions charged to
the capital account based on its capital level and supervisory condition. Under
regulations in effect at June 30, 1998, repurchase of bank or holding company
stock may only be made during the first year following conversion in exceptional
circumstances approved by the Office of Thrift Supervision. For the second and
third years following conversion, subject to the demonstration of a valid
business purpose and approval by the Office of Thrift Supervision, annual
repurchases of up to 5 percent of outstanding stock can be made.
Costs of conversion will be netted from proceeds of sale of common stock and
recorded as a reduction of additional paid-in capital or common stock. If the
conversion is not competed, such costs, totalling $26,000 at June 30, 1998
(unaudited), would be charged to expense.
Note 17 -- Unaudited Financial Statements
The accompanying consolidated balance sheet as of June 30, 1998, and the
consolidated statements of income, comprehensive income, changes in equity
capital and cash flows for the six months ended June 30, 1998 and 1997 are
unaudited, but management is of the opinion that all adjustments, consisting
only of normal recurring accruals, necessary for a fair presentation of the
results of the periods reported, have been included in the accompanying
financial statements. The results of operations for the six months ended June
30, 1998 are not necessarily indicative of those expected for the remainder of
the year.
<PAGE>
GLOSSARY
1933 Act Securities Act of 1933, as amended
1934 Act Securities Exchange Act of 1934, as amended
APY Annual Percentage Yield
Associate The term "Associate" of a person is defined to mean (i)
any corporation or organization (other than Lincoln
Federal or its subsidiaries or the Holding Company) of
which such person is a director, officer, partner or
10% shareholder; (ii) any trust or other estate in
which such person has a substantial beneficial interest
or serves as trustee or in a similar fiduciary
capacity; provided, however that such term shall not
include any employee stock benefit plan of the Holding
Company or Lincoln Federal in which such a person has a
substantial beneficial interest or serves as a trustee
or in a similar fiduciary capacity, and (iii) any
relative or spouse of such person, or relative of such
spouse, who either has the same home as such person or
who is a director or officer of Lincoln Federal or its
subsidiaries or the Holding Company. ATM Automated
Teller Machine
Barnes & Thornburg Barnes & Thornburg, Indianapolis, Indiana
BIF Bank Insurance Fund of the FDIC
Code The Internal Revenue Code of 1986, as amended
Community Offering Offering for sale to members of the general public of
any shares of Common Stock not subscribed for in the
Subscription Offering, with preference given to
residents of Hendricks, Montgomery and Clinton Counties
Common Stock Up to 6,809,250 shares of Common Stock, with no par
value, offered by Lincoln Bancorp in connection with
the Conversion
Conversion Simultaneous conversion of Lincoln Federal Savings Bank
to stock form, the issuance of Lincoln Federal's
outstanding capital stock to Lincoln Bancorp and
Lincoln Bancorp's offer and sale of Common Stock
Eligible Account Holders Savings account holders of Lincoln Federal with account
balances of at least $50 as of the close of business on
June 30, 1997
ERISA Employee Retirement Income Security Act of 1974, as
amended
ESOP The Lincoln Bancorp Employee Stock Ownership Plan and
Trust
Estimated
Valuation Range Estimated pro forma market value of the Common Stock
ranging from $43,050,000 to $58,950,000
Expiration Date 12:00 noon, Plainfield Time, on December 14, 1998
FASB Financial Accounting Standards Board
FDIC Federal Deposit Insurance Corporation
FedICIA Federal Deposit Insurance Corporation Improvement Act
of 1991, as amended
FHLB Federal Home Loan Bank
FHLMC Federal Home Loan Mortgage Corporation
FNMA Federal National Mortgage Association
Foundation The Lincoln Federal Charitable Foundation, Inc.
Holding Company Lincoln Bancorp
IRA Individual retirement account or arrangement
IRS Internal Revenue Service
Keefe, Bruyette Keefe, Bruyette & Woods, Inc.
Keller Keller & Company, Inc.
LF LF Service Corp., a wholly-owned subsidiary of Lincoln
Federal Savings Bank
Lincoln Federal Lincoln Federal Savings Bank of Plainfield, Indiana
MMDA Money Market Demand Account
NASD National Association of Securities Dealers, Inc.
Nasdaq National National Association of Securities Dealers Automated
Market System Quotation System--National Market
NOW account Negotiable Order of Withdrawal Account
NPV Net portfolio value
OCC Office of the Comptroller of the Currency
Order Form Form for ordering stock accompanied by a certification
concerning certain matters
Other Members Savings account holders (other than Eligible Account
Holders and Supplemental Eligible Account Holders) who
are entitled to vote at the Special Meeting due to the
existence of a savings account on the Voting Record
Date for the Special Meeting, and borrowers of Lincoln
Federal as of June 19, 1984 who remain borrowers on the
Voting Record Date
OTS Office of Thrift Supervision
Pension Plan Multiple-employer, noncontributory defined benefit
retirement plan adopted by Lincoln Federal for its
full-time employees through Pentegra Group (formerly
known as Financial Institutions Retirement Fund)
Plan or
Plan of Conversion Plan of Lincoln Federal Savings Bank to convert from a
federally chartered mutual savings bank to a federally
chartered stock savings bank and the issuance of all of
Lincoln Federal's outstanding capital stock to Lincoln
Bancorp and the issuance of Lincoln Bancorp's Common
Stock to the public
Purchase Price $10.00 per share price of the Common Stock
QTI Qualified thrift investment
QTL Qualified thrift lender
REO Real Estate Owned
RRP Management Recognition and Retention Plan to be
submitted for approval at a meeting of the Holding
Company's shareholders to be held at least six months
after the completion of the Conversion
SAIF Savings Association Insurance Fund of the FDIC
SFAS Statement of Financial Accounting Standard
SEC Securities and Exchange Commission
Special Meeting Special Meeting of members of Lincoln Federal called
for the purpose of approving the Plan
Stock Option Plan The Lincoln Bancorp Stock Option Plan for directors and
officers to be submitted for approval at a meeting of
the Holding Company's shareholders to be held at least
six months after the completion of the Conversion
Subscription Offering Offering of non-transferable rights to subscribe for
the Common Stock, in order of priority, to Eligible
Account Holders, the ESOP, Supplemental Eligible
Account Holders and Other Members
Supplemental Eligible Depositors of Lincoln Federal Savings Bank who are not
Account Holders Eligible Account Holders, with account balances of at
least $50 on September 30, 1998
Voting Record Date The close of business on October 31, 1998, the date for
determining members entitled to vote at the Special
Meeting
Webb Charles Webb & Company, a Division of Keefe, Bruyette &
Woods, Inc.
<PAGE>
================================================================================
No person has been authorized to give any information or to make any
representation other than as contained in this Prospectus and, if given or made,
such information or representation must not be relied upon as having been
authorized by the Holding Company or Lincoln Federal. This Prospectus does not
constitute an offer to sell or the solicitation of an offer to buy any security
other than the shares of Common Stock offered hereby to any person in any
jurisdiction in which such offer or solicitation is not authorized, or in which
the person making such offer or solicitation is not qualified to do so, or to
any person to whom it is unlawful to make such offer or solicitation. Neither
the delivery of this Prospectus nor any sale hereunder shall, under any
circumstances, create any implication that information herein is correct as of
any time subsequent to the date hereof.
Lincoln Bancorp
(Proposed Holding Company for
Lincoln Federal Savings Bank)
Up to 6,809,250 Shares
Common Stock
(without par value)
SUBSCRIPTION AND
COMMUNITY OFFERING
PROSPECTUS
CHARLES WEBB & COMPANY
A Division of Keefe, Bruyette and Woods, Inc.
November 12, 1998
THESE SECURITIES ARE NOT DEPOSITS OR ACCOUNTS
AND ARE NOT FEDERALLY INSURED OR GUARANTEED
Until December 7, 1998, all dealers effecting transactions in the registered
securities, whether or not participating in this distribution, may be required
to deliver a prospectus. This is in addition to the obligation of dealers to
deliver a prospectus when acting as underwriters and with respect to their
unsold allotments or subscriptions.
================================================================================
