<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR FISCAL YEAR ENDED DECEMBER 31, 1997 COMMISSION FILE NO. 2-78178
-------------
SOUTHERN MICHIGAN BANCORP, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Michigan 38-2407501
- ------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
51 West Pearl Street, Coldwater, Michigan 49036
- ------------------------------------------ -------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (517) 279-5500
-------------------
Securities registered pursuant to Section 12(b) or 12(g) of the Act:
None
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
---- ----
Indicate by check mark if disclosures of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. X
---
The aggregate market value of the Registrant's common stock, par value $2.50 per
share (based on the average of the bid and asked prices) held by non-affliliates
of the registrant as of March 1, 1998 was $75,409,000.
The number of shares outstanding of the Registrant's common stock as of March 1,
1998 was 1,921,253 shares (including common stock subject to repurchase
obligation).
DOCUMENT INCORPORATED BY REFERENCE
Portions of the Annual Report to Shareholders for the year ended December 31,
1997, are incorporated by reference into Parts II, III, and IV hereof.
<PAGE> 2
PART I
ITEM 1. BUSINESS
Overview
The Registrant, Southern Michigan Bancorp, Inc. (the "Company"), was organized
as a Michigan Corporation in March 1982 for the purpose of becoming a bank
holding company by acquiring all of the outstanding shares of Southern Michigan
National Bank, which it did in November of 1982. The Company's business
currently consists of wholly-owning and operating Southern Michigan Bank & Trust
(the "Bank"), a general commercial bank with its main office located at 51 West
Pearl Street, Coldwater, Michigan 49036.
The Bank is a Michigan banking corporation and a successor, by conversion of
charter effective December 15, 1992, from Southern Michigan National Bank. The
Bank operates thirteen (13) branch offices in the primarily rural areas of
Branch, Hillsdale, and Calhoun counties in southwestern Michigan.
Banking Services
The Bank offers a full range of banking services to individuals, businesses,
governmental entities and other institutions. These services include checking,
savings, and NOW accounts, time deposits, safe deposit facilities, and money
transfers. The Bank's lending operations provide secured and unsecured
commercial and personal loans, real estate loans, consumer installment loans,
lines of credit and accounts receivable financing.
The Bank's Trust Department offers a wide variety of fiduciary services to
individuals, businesses, not-for-profit organizations and governmental entities,
including services as trustee for personal, corporate, pension, profit sharing,
and other employee benefit trusts. The Bank also provides securities custody
services as an agent, acts as the personal representative for estates and as a
fiscal, paying and escrow agent for corporate customers and governmental
entities.
The Bank also offers securities brokerage services through an unaffiliated
broker. The Bank maintains correspondent banking relationships with several
other larger banks, which involve check clearing operations, transfer of funds,
loan participations, and the purchase and sale of federal funds and other
similar services.
Competition
The banking business in the Bank's market area is highly competitive. The Bank
competes with other banks, savings and loan associations, credit unions and
finance companies. Banks and other financial institutions from surrounding areas
maintain branches within the Banks' service area and offer additional
competition. The Bank is also faced with increasing competition from
non-depository financial intermediaries, such as large retailers and investment
banking and securities brokerage firms.
2
<PAGE> 3
Supervision and Regulation
General
Various federal and state banking laws and regulations affect the business of
the Company and the Bank. They are subject to supervision, regulation, and
periodic examination by the Board of Governors of the Federal Reserve System
(the "FRB") and the Financial Institutions Bureau of the State of Michigan (the
"FIB") and the Federal Deposit Insurance Corporation (the "FDIC") respectively.
The following is a summary of certain statutes and regulations affecting the
Company and the Bank. This summary is qualified in its entirety by such statutes
and regulations, which are subject to change based on pending and future
legislation and action by regulatory agencies. Proposals to change the laws and
regulations governing the operation of banks and companies which control banks
and other financial institutions are frequently considered in Congress. The
likelihood of any major legislation and the impact such legislation might have
on the Company or the Bank are, however, impossible to predict.
The Bank Holding Company Act
As a bank holding company, the Company is subject to regulation by the FRB under
the Bank Holding Company Act of 1956, as amended (the "BHCA"). The BHCA
restricts the product range of a bank holding company by circumscribing the
types of businesses it may own or acquire. The BHCA limits a bank holding
company to owning and managing banks or companies engaged in activities
determined by the FRB to be closely related to banking. The BHCA requires a bank
holding company to obtain the prior approval of the FRB before acquiring
substantially all of the assets of, or direct or indirect ownership or control
of more than five percent of the voting shares of a bank or a bank holding
company or merging or consolidating with any other bank holding company.
Under the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994
(the "Riegle-Neal Act"), since September 29, 1995, the FRB is permitted, under
specified circumstances, to approve the acquisition by a bank holding company
located in one state of a bank or a bank holding company located in another
state, without regard to any prohibition contained in state law. The Riegle-Neal
Act permits states to require that a target bank have been in operation for a
minimum period, up to five years, and to impose nondiscriminatory limits on the
percentage of the total amount of deposits with insured depository institutions
in the state which may be controlled by a single bank or bank holding company.
In addition, the Riegle-Neal Act imposes Federal deposit concentration limits
(10% of nationwide total deposits, and 30% of total deposits in the host state
on applications subsequent to the applicant's initial entry to the host state),
and adds new statutory conditions to FRB approval, i.e., the applicant meets or
exceeds all applicable Federal regulatory capital standards and is "adequately
managed".
Also effective September 29, 1995, any bank subsidiary (and, in certain
circumstances thrift subsidiary) of a bank holding company may receive deposits
to existing accounts, renew time deposits, and close service and receive
payments on (but not disburse proceeds of) loans, as an agent for its depository
institution affiliates without being considered a branch of the affiliate under
any otherwise applicable law. Such agency activities must be conducted on terms
consistent with safe and sound banking practices.
The Riegle-Neal Act also authorized, effective June 1, 1997, the responsible
Federal banking agency to approve applications for mergers of depository
institutions across state lines without regard to whether such activity is
contrary to state law. Any state could, however, by adoption of a
nondiscriminatory law after September 29, 1994 and before June 1, 1997, either
elect to have this provision take effect before June 1, 1997 or opt-out of the
provision. The effect of opting out is to prevent banks chartered by, or having
their main office located in, such state from participating in any interstate
branch acquisition or merger. Each state is permitted to retain a minimum age
requirement of up to five years, a nondiscriminatory deposit cap, and
nondiscriminatory notice or filing requirements. The responsible Federal agency
will apply the same Federal concentration limits and capital and management
adequacy requirements noted above with respect to BHCA applications. Only Texas
opted-out of the interstate merger provision. Michigan exercised its right to
opt-in early to such provision.
In addition, Michigan law also has been amended as authorized by the Riegle-Neal
Act to permit the de novo establishment of a branch in Michigan by FDIC-insured
banks located in other states having laws permitting a Michigan-chartered bank
to establish a branch in such jurisdiction and the sale by a Michigan-chartered
bank of one
3
<PAGE> 4
or more of its branches to an FDIC-insured bank, savings bank or savings and
loan association located in a state in which a Michigan-chartered bank could
purchase one or more branches of the purchasing entity. Branches acquired in a
host state by both out-of-state state-chartered banks and national banks will be
subject to community reinvestment, consumer protection, fair lending and
interstate branching laws of the host state to the same extent as branches of a
national bank having its main office in the host state.
Among other things, the Riegle-Neal Act also preserves state taxation authority,
prohibits the operation by out-of-state banks of interstate branches as deposit
production offices, imposes additional notice requirements upon interstate banks
proposing to close branch offices in a low or moderate-income area, and creates
new Community Reinvestment Act evaluation requirements for interstate depository
institutions. The Act mandates new restrictions on interstate activities of
foreign banks, and requires public notice of, and opportunity to comment on,
proposed ruling by a Federal banking agency which would preempt certain state
laws.
Dividend Restrictions
The Company's principal source of income is the Bank's payment of dividends on
the stock of the Bank owned by the Company. Michigan law restricts the Bank's
ability to pay these dividends. Under the Michigan Banking Code, no dividend may
be declared by a Michigan state-chartered bank in an amount greater than net
profits then on hand after deducting losses and bad debts. In addition, if the
surplus of the Bank is less than the amount of its capital stock, before a
dividend may be declared, the Bank must transfer to surplus not less than 10% of
the net profits of the Bank for the preceding half year in the case of quarterly
or semiannual dividends or not less than 10% of its net profits for the
preceding two consecutive half year periods in the case of annual dividends. The
term "net profits" means the remainder of all earnings from current operations
plus actual recoveries on loans, investments and other assets, after deducting
from the total thereof all current operating expenses, actual losses, accrued
dividends on preferred stock, if any, and all federal and state taxes. As of
December 31, 1997, the amount of dividends the Bank could pay to the Company
without prior regulatory approval was $3,467,000 in addition to 1998 net income.
Under the Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA"), no insured depository institution may declare any dividend if,
following the payment of such dividend, the institution would be under
capitalized (see "Capital Requirements").
Transactions with Affiliates and Insiders
The Bank and the Company are affiliates of each other and, as such, are subject
to certain federal restrictions on loans and extensions of credit to the
Company, on investments in the Company's and its affiliates' securities, on
acceptance of such securities as collateral for loans to any borrowers and on
leases and services and other contracts between the Bank and the Company.
Additionally, regulations allow a bank to extend credit to the bank's and its
affiliates' executive officers, directors and principal shareholders or their
related interest only if the loan is made on substantially the same terms,
including interest rates and collateral, as those prevailing at the time for
comparable transactions with non-insiders. Moreover, loans to insiders must not
involve more than the normal risk of repayment or present other unfavorable
features and must in certain circumstances be approved in advance by a majority
of the entire board of directors of the Bank. The aggregate amount that can be
lent to all insiders is limited to the Bank's unimpaired capital and surplus.
Deposit Insurance
Deposits held by the Bank are insured, to the extent permitted by law, by the
Bank Insurance Fund ("BIF") administered by the FDIC. A minimum designated
reserve ration of 1.25 percent of insured deposits has been established for the
BIF. However, the FDIC may set a higher designated reserve ration if
circumstances raise a significant risk of substantial future losses to the BIF.
Assessment rates are established sufficient to maintain reserves at the
designated reserve ration or, if the ratio is less than the designated ratio, to
increase the ratio to the designated ratio within a reasonable period of time.
4
<PAGE> 5
The FDIC began collecting FDIC assessments on a quarterly basis in 1995. As
required under FDICIA, the FDIC has established a system of risk-based deposit
insurance premiums. Under this system each insured institution's assessment is
based on the probability that the BIF will incur a loss related to that
institution, the likely amount of the loss, and the revenue needs of the BIF.
Under the risk-based assessment system, currently a depository institution pays
an assessment of between 0 cents and 27 cents per $100 of insured deposits based
on its capital level and risk classification. To arrive at a risk based
assessment for an insured institution, the FDIC places it in one of nine risk
categories using a two step analysis based first on capital ratios and then on
other relevant supervisory information. In addition, in 1996, pursuant to the
Deposit Insurance Funds Act enacted by Congress, the FDIC imposed a special
assessment on bank deposits at a rate not tied to risk classification in order
to service debt on the Financing Corporation (FICO) bonds issued in connection
with the federal government's bail out of the thrift industry. Any further
significant changes in the deposit insurance assessment rate imposed by the FDIC
could have a material effect on the earnings of the Company.
Capital Requirements
The FRB has imposed risk-based capital guidelines applicable to the Company.
These guidelines require that bank holding companies maintain capital
commensurate with both on and off balance sheet credit and other risks of their
operations. Under the guidelines, a bank holding company must have a minimum
ratio of total capital to risk-weighted assets of 8.0 percent. In addition, a
bank holding company must maintain a minimum ratio of Tier I capital equal to
4.0 percent of risk-weighted assets. Tier I capital includes common
shareholder's equity, qualifying perpetual preferred stock and minority interest
in equity accounts of consolidated subsidiaries, less goodwill. At December 31,
1997, the Company's total capital to risk-weighted assets was 14.3 percent,
which is above the regulatory minimum requirements.
As a supplement to risk-based capital requirements, the FRB has also imposed
leverage capital ratio requirements. The leverage ratio requirements establish a
minimum required ratio of Tier I capital to total assets less goodwill of 3
percent for the most highly rated bank holding companies. All other bank holding
companies are required to maintain additional Tier I capital yielding a leverage
ration of 4 percent to 5 percent, depending on the particular circumstances and
risk profile of the institution. The Company's total capital to total assets
ratio at December 31, 1997 was 10.1 percent.
The Bank is also subject to risk-weighted capital standards and leverage
measures which are similar, but in some cases not identical , to the
requirements for bank holding companies which apply to the Company. At December
31, 1997, the Bank met all applicable capital requirements. Under FDICIA, the
Federal bank regulators must take various specified prompt corrective actions
based on levels of an insured depository institution's capital that are below
the adequately capitalized level. These prescribed actions increase restrictions
on the institution as its capital declines.
Safety and Soundness Guidelines
As required by federal law, the federal banking regulators have adopted
interagency guidelines (the "Guidelines") establishing standards for safety and
soundness for depository institutions on matters such as internal controls,
internal audit systems, loan documentation, credit underwriting, interest rate
risk exposure, asset growth and quality, earnings, and compensation and other
benefits. In general, the Guidelines prescribe the goals to be achieved in each
area, and each institution will be responsible for establishing its own
procedures to achieve these goals. If an institution fails to comply with any of
the standards set forth in the Guidelines, the institution's primary federal
regulator may require the institution to submit a plan for achieving and
maintaining compliance. The preamble to the Guidelines states that an agency
expects a compliance plan from an institution whose failure to meet one or more
standards is of such severity that it would threaten the safe and sound
operation of the institution. Failure to submit an acceptable compliance plan,
or failure to adhere to a compliance plan that has been accepted by the
appropriate regulator, would constitute grounds for further enforcement action.
5
<PAGE> 6
FDIC regulations also require all depository institutions to be examined
annually by the banking regulators and require insured depository institutions
having $500 million or more in total assets to prepare annual financial
statements which are audited by an independent public accountant, to have an
audit committee comprised solely of outside directors, and to hire outside
auditors to evaluate the institution's internal control structure and procedures
and compliance with laws and regulations relating to safety and soundness. For
institutions that are subsidiaries of bank holding companies, the financial
statement requirement can be satisfied by audited financial statements of the
consolidated bank holding company. Other audit related requirements for
subsidiary institutions that have total assets of less than $5 billion or assets
of $5 billion or more and a composite CAMEL rating of 1 or 2 also may be
satisfied by the parent bank holding company. The FDIC, in adopting the
regulations, reiterated its belief that every depository institution, regardless
of size, should have an annual independent audit and an independent audit
committee.
Money Policy and Economic Conditions
The business of commercial banks, such as the Bank, is affected by monetary and
fiscal policies of various regulatory agencies, including the FRB. Among the
regulatory techniques available to the FRB are open market operations in United
States Government securities, changing the discount rate for member bank
borrowings, and imposing and changing the reserve requirement applicable to
member bank deposits and to certain borrowings by member banks and their
affiliates (including parent companies). These policies influence to a
significant extent the overall growth and distribution of bank loans,
investments and deposits and the interest rates charged on loans, as well as the
interest rates paid on savings and time deposits.
The monetary policies of the FRB have had a significant effect on the operating
results of commercial banks in the past and are expected to continue to do so in
the future. In view of constantly changing conditions in the national economy
and the money market, as well as the effect of acts by the monetary and fiscal
authorities, including the FRB, no definitive predictions can be made by the
Company or the Bank as to future changes in interest rates, credit availability,
deposit levels, or the effect of any such changes on the Company's or the Bank's
operations and financial condition.
Employees
As of December 31, 1997, 152 persons were employed by the Bank; 126 were full
time employees and 26 were part time employees.
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<PAGE> 7
Selected Statistical Information
The following tables describe certain aspects of the Company's business in
statistical form.
DISTRIBUTION OF ASSETS, LIABILITIES AN SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
Year Ended December 31 (Dollars in thousands)
---------------------------------------------
1997 1996 1995
----------------------------------------------------------------------------------------------
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
ASSETS
Interest earning assets:
Loans (A) (B) (C) $ 158,193. $ 15,789. 10.0% $137,273. $ 13,740. 10.0% $123,684. $11,982. 9.7%
Taxable investment
securities (D) 33,538. 2,189. 6.5 36,372. 2,443. 6.7 37,326. 2,634. 7.1
Tax-exempt investment
securities (A) 16,864. 1,253. 7.4 14,732. 1,144. 7.8 12,986. 1,121. 8.6
Federal funds sold 1,357. 74. 5.5 1,309. 69. 5.3 2,333. 135. 5.8
----------- --------- --------- --------- --------- --------
Total interest earning
assets 209,952. 19,305. 9.2 189,686. 17,396. 9.2 176,329. 15,872. 9.0
Non-interest earnings assets:
Cash and due from banks 10,442. 10,572. 14,358.
Other assets 14,871. 12,106. 10,120.
Less allowance for loan loss (1,866.) (1,784.) (1,606.)
----------- --------- ---------
Total assets $ 233,399. $210,580. $199,201.
=========== ========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Interest bearing liabilities:
Demand deposits $ 63,856. $ 2,163. 3.4 $ 62,657. $ 1,956. 3.1 $ 57,349. $ 1,834. 3.2
Savings deposits 43,505. 1,485. 3.4 37,971. 1,293. 3.4 37,681. 1,243. 3.3
Time deposits 67,993. 3,612. 5.3 60,466. 3,178. 5.3 58,161. 3,039. 5.2
Federal funds purchased 784. 42. 5.4 592. 33. 5.6
Subordinated notes 82. 9. 11.0 1,000. 110. 11.0
Other borrowings 1,404. 141. 10.0 1,105. 135. 12.2 994. 154. 15.5
----------- --------- --------- --------- --------- -------
Total interest bearing
liabilities 177,542. 7,443. 4.2 162,873. 6,604. 4.1 155,185. 6,380. 4.1
</TABLE>
(continued)
7
<PAGE> 8
DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY - CONTINUED
<TABLE>
<CAPTION>
Year Ended December 31 (Dollars in thousands)
---------------------------------------------
1997 1996 1995
-------------------------------------------------------------------------------------------
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
-------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
LIABILITIES AND SHAREHOLDERS'
EQUITY-continued
Non-interest bearing liabilities:
Demand deposits $ 30,004. $ 24,557. $ 22,996.
Other 1,355. 1,248. 1,312.
Common stock subject to
repurchase obligation 4,227. 2,894. 1,848.
Shareholders' equity 20,271. 19,008. 17,860.
--------- ---------- ---------
Total liabilities and
shareholders' equity $233,399. $ 210,580. $199,201.
========= ========== =========
Net interest earnings $ 11,862. $ 10,792. $ 9,492.
========= ========== =========
Net yield on interest
earning assets 5.6% 5.7% 5.4%
=== === ===
</TABLE>
(A) Includes tax equivalent adjustment of interest (assuming a 34% tax rate)
for securities and loans of $392,000 and $48,000, respectively, for 1997;
$369,000 and $23,000, respectively, for 1996; and $379,000 and $17,000,
respectively, for 1995.
(B) Average balance includes average nonaccrual loan balances of $500,000 in
1997; $443,000 in 1996; and $284,000 in 1995.
(C) Interest income includes loan fees of $813,000 in 1997; $884,000 in 1996;
and $472,000 in 1995.
(D) Average balance includes average unrealized gain (loss) of ($13,000) in
1997; $31,000 in 1996; and $69,000 in 1995 on available-for-sale
securities. The yield was calculated without regard to this average
unrealized gain (loss).
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<PAGE> 9
The following table sets forth the periods indicated a summary of changes in
interest income and interest expense, based upon a tax equivalent basis,
resulting from changes in volume and changes in rates:
<TABLE>
<CAPTION>
1997 COMPARED TO 1996 1996 COMPARED TO 1995
(Dollars in thousands) Increase (Decrease) Due To Increase (Decrease) Due To
- ---------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Interest Income on: Volume Rate Net Volume Rate Net
Loans $2,088 $(39) $2,049 $1,350 $ 408 $1,758
Taxable investment securities (186) (68) (254) (66) (125) (191)
Tax-exempt investment securities 160 (51) 109 142 (119) 23
Federal funds sold 3 2 5 (55) (11) (66)
------ ----- ------ ------ ----- ------
Total interest earning assets $2,065 $(156) $1,909 $1,371 $ 153 $1,524
====== ===== ====== ====== ===== ======
Interest expense on:
Demand deposits $ 38 $ 169 207 $ 167 $ (45) $ 122
Savings deposits 189 3 192 10 40 50
Time deposits 400 34 434 121 18 139
Federal funds purchased 10 (1) 9 33 0 33
Subordinated notes (9) 0 (9) (101) 0 (101)
Other borrowings 33 (27) 6 16 (35) (19)
------ ----- ------ ------ ----- ------
Total interest bearing liabilities $ 661 $ 178 $ 839 $ 246 $ (22) $ 224
====== ===== ====== ====== ===== ======
</TABLE>
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<PAGE> 10
INVESTMENT PORTFOLIO
The following table sets forth the fair value and carrying value of
investment securities. The carrying value of available-for-sale securities is
equal to fair value.
<TABLE>
<CAPTION>
DECEMBER 31
1997 1996 1995
-------------------------------------------------------------------------------------
FAIR CARRYING FAIR CARRYING FAIR CARRYING
(Dollars in thousands) VALUE VALUE VALUE VALUE VALUE VALUE
- --------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
US Treasury and other US
Government agencies and
corporations $ 6,262 $ 6,262 $15,320 $15,320 $24,847 $24,847
States and political
subdivisions 20,885 20,560 19,342 19,035 14,934 14,534
Corporate securities 15,590 15,564 19,566 19,588 12,424 12,310
Other securities 2,688 2,688 2,657 2,656 3,667 3,662
------- ------- ------- ------- ------- -------
Total investment $45,425 $45,074 $56,885 $56,599 $55,872 $55,353
securities ======= ======= ======= ======= ======= =======
</TABLE>
The following table sets forth the carrying value of the maturities (of
anticipated call date, if earlier) and weighted average yield for each
range of maturities at December 31, 1997.
<TABLE>
<CAPTION>
MATURING
- ------------------------------------------------------------------------------------------------------------------
(Dollars in thousands) WITHIN 1 YEAR 1 TO 5 YEARS 5 TO 10 YEARS AFTER 10 YEARS
- ------------------------------------------------------------------------------------------------------------------
AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD
- ------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
US Treasury and other US
Government agencies and
corporations $ 4,210 6.21% $ 2,052 5.75%
- ------------------------------------------------------------------------------------------------------------------
States and political
subdivisions 4,108 5.06 12,801 5.27 $ 3,040 5.38% $ 611 5.72%
- ------------------------------------------------------------------------------------------------------------------
Corporate securities 4,847 6.29 10,717 6.41
- ------------------------------------------------------------------------------------------------------------------
Other securities 325 5.53 1,642 6.14 721 7.49
- ------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------
Total $13,490 $27,212 $ 3,040 $1,332
- ------------------------------------------------------------------------------------------------------------------
</TABLE>
The weighted average interest yields were computed by multiplying the
amortized cost of each security by its interest yield to give an annual
dollar yield per security, adding the dollar yields per category an
dividing the sum by the total amortized cost of securities of that
category. Interest yields given above are not on a tax equivalent
basis.
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<PAGE> 11
LOAN PORTFOLIO
Type of Loans
The following table sets forth the classification of loans by major category:
<TABLE>
<CAPTION>
DECEMBER 31
(Dollars in thousands) 1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Commercial, financial, and
agricultural $ 74,819 $ 72,108 $ 51,940 $ 49,514 $ 47,011
Real estate mortgage 49,144 47,561 41,293 43,054 42,525
Installment 34,778 33,009 30,004 27,771 22,978
-------- -------- -------- -------- ------
Total Loans $158,741 $152,678 $123,237 $120,339 $112,514
======== ======== ======== ======== ========
</TABLE>
Maturities
The following table sets forth the maturities of the loan portfolio at
December 31, 1997, Also provided are the amounts due after one year
classified according to interest rate sensitivity.
<TABLE>
<CAPTION>
MATURING
- ------------------------------------------------------------------------------------------------------------
(Dollars in thousands) Within 1 Year (A) 1 to 5 Years After 5 Years Total
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
- ------------------------------------------------------------------------------------------------------------
Commercial, financial, and
agricultural $ 26,653 $ 26,118 $ 22,048 $ 74,819
- ------------------------------------------------------------------------------------------------------------
Real estate mortgages 3,864 3,395 41,885 49,144
- ------------------------------------------------------------------------------------------------------------
Installment 2,256 25,649 6,873 34,778
- ------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------
Total $ 32,773 $ 55,162 $ 70,806 $158,741
- ------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------
Loans maturing after one
year with:
- ------------------------------------------------------------------------------------------------------------
Fixed interest rates 33,677 4,414
- ------------------------------------------------------------------------------------------------------------
Variable interest rates 21,485 66,392
- ------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------
Total $ 55,162 $ 70,806
- ------------------------------------------------------------------------------------------------------------
</TABLE>
(A) Amounts include demand loans, loans having no stated schedule
of repayments, or no stated maturity and overdrafts.
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<PAGE> 12
Non-Performing Loans
Non-performing loans include nonaccrual loans and accruing loans past
due 90 days or more. The following table sets forth the aggregate
amount of non-performing loans in each of the following categories:
<TABLE>
<CAPTION>
DECEMBER 31
(Dollars in thousands) 1997 1996 1995 1994 1993
- ------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Nonaccrual Loans:
Commercial, financial, and
agricultural $ 1,026 $ 448 $ 380 $ 142 $ 160
Real estate mortgage 0 0 24 0 71
Installment 61 2 40 10 68
---------------------------------------------------------------------------------------
1,087 450 444 152 299
Loans contractually past due
90 days or more:
Commercial, financial, and
agricultural 1,067 82 353 6 150
Real estate mortgage 630 129 56 0 25
Installment 966 165 4 5 7
---------------------------------------------------------------------------------------
2,663 376 413 11 182
---------------------------------------------------------------------------------------
Total $ 3,750 $ 826 $ 857 $ 163 $ 481
======= ======= ======== ====== ======
Percent of total loans
outstanding 2.36% .54% .70% .14% .43%
======= ======= ======== ====== ======
</TABLE>
The accrual of interest income generally is discontinued when a loan
becomes over 90 days past due as to principal or interest. When
interest accruals are discontinued, interest credited to income in the
current year and accrued interest from the prior year is reversed.
Management may elect to continue the accrual of interest when: (1) the
estimated net realizable value of collateral is sufficient to cover the
principal balance and accrued interest and; (2) the loan is in the
process of collection.
Interest of $73,000 and $27,000 was realized on nonaccrual loans during
1997 and 1996, respectively. Under original terms for these loans,
interest income which would have been recorded approximates $137,000
and $55,000 in 1997 and 1996, respectively. There are no loan
commitments outstanding to extend credit to these customers.
12
<PAGE> 13
Potential Problem Loans
At December 31, 1997, the Company had approximately $3,136,000 in commercial,
financial, and agricultural loans for which payments are presently current, but
the borrowers are experiencing certain financial and/or operational
difficulties. These loans are subject to frequent management review and their
classification is reviewed on a monthly basis.
All loans classified for regulatory purposes as loss, doubtful, substandard, or
special mention have been included in the above disclosures.
SUMMARY OF LOAN LOSS EXPERIENCE
The following table sets forth changes in the allowance for loan losses:
<TABLE>
<CAPTION>
Year Ended December 31
- -----------------------------------------------------------------------------------------------------------------------------
(Dollars in thousands) 1997 1996 1995 1994 1993
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
- -----------------------------------------------------------------------------------------------------------------------------
Balance at beginning of year $ 1,814 $ 1,609 $ 1,498 $ 1,365 $ 1,401
- -----------------------------------------------------------------------------------------------------------------------------
Charge offs:
- -----------------------------------------------------------------------------------------------------------------------------
Commercial, financial, and
agricultural 122 13 87 69 193
- -----------------------------------------------------------------------------------------------------------------------------
Installment 386 157 124 93 124
- -----------------------------------------------------------------------------------------------------------------------------
Real estate 0 0 0 0 0
- -----------------------------------------------------------------------------------------------------------------------------
508 170 211 162 317
- -----------------------------------------------------------------------------------------------------------------------------
Recoveries:
- -----------------------------------------------------------------------------------------------------------------------------
Commercial, financial, and
agricultural 31 43 43 30 138
- -----------------------------------------------------------------------------------------------------------------------------
Installment 66 62 54 82 139
- -----------------------------------------------------------------------------------------------------------------------------
Real estate 3 3 3 4
- -----------------------------------------------------------------------------------------------------------------------------
97 108 100 115 281
-- --- --- --- ---
- -----------------------------------------------------------------------------------------------------------------------------
Net charge offs 411 62 111 47 36
- -----------------------------------------------------------------------------------------------------------------------------
Provision for loan losses 460 267 222 180 0
--- --- --- --- -
- -----------------------------------------------------------------------------------------------------------------------------
Balance at end of year $ 1,863 $ 1,814 $ 1,609 $ 1,498 $ 1,365
======== ======== ======== ======== ========
- -----------------------------------------------------------------------------------------------------------------------------
Average loans outstanding $158,193 $137,273 $123,684 $119,637 $115,524
======== ======== ======== ======== ========
- -----------------------------------------------------------------------------------------------------------------------------
Ratio of net charge offs to average
loans outstanding .26% .05% .09% .04% .03%
======== ======== ======== ======== ========
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
13
<PAGE> 14
The allowance for loan losses is maintained at a level which, in management's
opinion, is adequate to absorb possible loan losses in the loan portfolio. In
assessing the adequacy of the allowance, management reviews the characteristics
of the loan portfolio in order to determine overall quality and risk profits.
Some factors considered by management in determining the level at which the
allowance is maintained include a continuing evaluation of those loans
identified as being subject to possible problems in collection, results of
examination by regulatory agencies, current economic conditions, and historical
loan loss experience.
In determining the 1993 provision for loan losses, management considered the
fact that nonaccrual loan and past due loan amounts decreased from prior years.
Also considered in determining the 1993 provision was the low level of charge
offs and the decline in outstanding loans. The 1996, 1995 and 1994 provisions
increased to provide for loan growth. The 1997 provision was increased to
provide for loan growth and the increase in charge-offs and delinquencies.
Several customers, including a large commercial borrower, declared bankruptcy
during 1997 resulting in increased charge-offs.
14
<PAGE> 15
Allocation of the Allowance for Loan Losses
The Securities and Exchange Commission's guide to the presentation of
statistical information provides for a break down of the allowance for loan
losses into major loan categories. The Company allocates the allowance among the
various categories through an analysis of the loan portfolio composition, prior
loan loss experience, evaluation of those loans identified as being possible
problems in collection, results of examination by regulatory agencies and
current economic conditions. The entire allowance is available to absorb any
future losses without regard to the category or categories in which the charged
off loans are classified.
Even though such an allocation has inherent limitations, the Company has
compiled the results of its various reviews and has made estimates of the risks
which might be allocated to the respective loan categories.
The following table sets forth the allocation of the allowance for loan losses:
<TABLE>
<CAPTION>
DECEMBER 31
1997 1996 1995
--------------------------------------------------------------------------------------
Percent of Percent of Percent of
Loans Loans Loans
in each in each in each
category of category of category of
(Dollars in thousands) Allowance Total Loans Allowance Total Loans Allowance Total Loans
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Commercial, financial, and
agricultural $ 628 47.1% $ 351 47.2% $ 313 42.1%
- -------------------------------------------------------------------------------------------------------------------
Real estate mortgage 98 31.0 95 31.2 83 33.5
- -------------------------------------------------------------------------------------------------------------------
Installment 321 21.9 177 21.6 157 24.4
- -------------------------------------------------------------------------------------------------------------------
Unallocated 816 1,191 1,056
--------- --------- ---------
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
$ 1,863 100.0% $ 1,814 100.0% $ 1,609 100.0%
========= ===== ========= ===== ========= =====
- -------------------------------------------------------------------------------------------------------------------
<CAPTION>
DECEMBER 31
1994 1993
---------------------------------------------------------
Percent of Percent of
Loans Loans
in each in each
category of category of
(Dollars in thousands) Allowance Total Loans Allowance Total Loans
- ----------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Commercial, financial, and
agricultural $ 369 41.1% $ 344 41.8%
- ----------------------------------------------------------------------------------------------
Real estate mortgage 86 35.8 85 37.8
- ----------------------------------------------------------------------------------------------
Installment 147 23.1 133 20.4
- ----------------------------------------------------------------------------------------------
Unallocated 896 803
-------- ------
- ----------------------------------------------------------------------------------------------
- ----------------------------------------------------------------------------------------------
$ 1,498 100.00% $1,365 100.0%
======== ====== ====== ======
- ----------------------------------------------------------------------------------------------
</TABLE>
15
<PAGE> 16
DEPOSITS
The following table sets forth the average amount of deposits and rates paid for
deposits:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
1997 1996 1995
-------------------------------------------------------------------------------------------------
(Dollars in thousands) AMOUNT RATE AMOUNT RATE AMOUNT RATE
- --------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Non interest
bearing demand $ 30,004 $ 24,557 $ 22,996
deposits
- --------------------------------------------------------------------------------------------------------------------------------
Interest bearing
demand deposits 63,856 3.4% 62,657 3.1% 57,349 3.2%
- --------------------------------------------------------------------------------------------------------------------------------
Saving deposits 43,505 3.4 37,971 3.4 37,681 3.3
- --------------------------------------------------------------------------------------------------------------------------------
Time deposits 67,993 5.3 60,466 5.3 58,161 5.2
-------- --------
- --------------------------------------------------------------------------------------------------------------------------------
$ 205,358 $185,651 $176,187
========= ======== ========
-------------------------------------------------------------------------------------------------
</TABLE>
The following table sets forth as of December 31, 1997, the aggregate amount of
outstanding deposits (certificates of deposits) of $100,000 or more by maturity
(in thousands of dollars):
Three months or less $ 7,132.
Over three months through six months 5,278.
Over six months through twelve months 2,141.
Over twelve months 1,886.
----------
$ 16,437.
==========
RETURN ON EQUITY AND ASSETS
The following table sets forth consolidated operating and capital ratios:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31
- ---------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Return on average assets 1.30% 1.45% 1.31%
- ---------------------------------------------------------------------------------------------------------------------
Return on average equity 14.96 16.09 14.64
- ---------------------------------------------------------------------------------------------------------------------
Dividend payout ratio 36.58 32.73 35.18
- ---------------------------------------------------------------------------------------------------------------------
Average equity to average assets ratio 8.69 9.03 8.97
- ---------------------------------------------------------------------------------------------------------------------
</TABLE>
Average equity used in the above table excludes common stock subject to
repurchase obligation.
16
<PAGE> 17
ITEM 2. PROPERTIES
The Bank's main office is located at 51 West Pearl Street, Coldwater, Michigan.
This facility, which opened in 1955 and expanded in 1976, consists of a one
story structure comprising 27,945 square feet. Parking is available for
approximately 125 cars and 9 teller windows are available to serve the Bank's
customers. The Bank owns eleven branch offices, two of which are in Coldwater,
two in Union City, Michigan, one in Kinderhook, Michigan, one in Tekonsha,
Michigan, one in Hillsdale, Michigan, one in Camden, Michigan, one in Athens,
Michigan, one in North Adams, Michigan and one in Pennfield Township (Battle
Creek), Michigan. The Bank also leases 1,700 square feet from a third party for
use in its Battle Creek Loan Production Office. In addition, the Registrant owns
a 15, 000 square foot building in Battle Creek, Michigan and a 14,000 square
foot building in Coldwater, Michigan. 6,000 square feet of the Battle Creek
building is leased to the Bank for use by one of it's Battle Creek branches.
3,500 square feet is leased to a local college, 2,300 square feet is leased as
office space to local businesses and the remaining space is presently
unoccupied. 7,446 square feet of the Coldwater building is leased to the Bank
for use as a Consumer Loan center, 3,420 square feet is leased to a local title
office, 762 square feet is leased to a local insurance company and 394 square
feet is leased to community nonprofit organizations. The Bank's branch offices
range in size from 465 square feet to 6,000 square feet, with nine of the branch
offices having drive-in facilities and seven of the branches having automated
teller machines.
All of the Registrant's and the Bank's facilities are maintained in good
condition and are adequately insured. Management of Registrant believes the
present facilities are adequate to meet both current and future needs.
ITEM 3. LEGAL PROCEEDINGS
The Bank is frequently engaged in litigation, both as plaintiff and defendant,
which is incident to its business. In certain proceedings, claims or
counterclaims may be asserted against the Bank. Based on the facts known to it
to date, management of the Registrant does not currently anticipate that the
ultimate liability, if any, arising out of any such litigation will have a
material effect on the consolidated financial statements of the Registrant does
not currently anticipate that the ultimate liability, if any, arising out of any
such litigation will have a material effect on the consolidated financial
statements of the Registrant.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable
17
<PAGE> 18
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK
AND RELATED STOCKHOLDER MATTERS
"Common Stock Market Prices and Dividends" on page 2 of the Annual Report to
Shareholders for the year ended December 31, 1997 is incorporated herein by
reference.
ITEM 6. SELECTED FINANCIAL DATA
"Selected Financial Data" on page 2 of the Annual Report to Shareholders for the
year ended December 31, 1997 is incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" on pages 5 through 10 of the Annual Report to Shareholders for the
year ended December 31, 1997 is incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
"Quantitative and Qualitative Disclosures About Market Risk" on page 10 of the
Annual Report to Shareholders for the year ended December 31, 1997 is
incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated Financial Statements, the Notes thereto and Report of
Independent Auditors included on pages 13 through 29 in the Annual Report to
Shareholders for the year ended December 31, 1997 are incorporated herein by
reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURES
None
18
<PAGE> 19
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table lists the names of the directors, their ages as of February
28, 1998 principal occupations and year in which each was elected.
<TABLE>
<CAPTION>
PRINCIPAL OCCUPATION(S) YEAR FIRST BECAME
NAME OF DIRECTOR (1) AGE FOR PAST 5 YEARS (2) DIRECTOR OF REGISTRANT
- ------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Jerry L. Towns (3) 63 President and Chief Executive
Officer of Southern Michigan 1982
Bancorp, Inc. (Chairman of
Southern Michigan Bank & Trust)
James T. Grohalski (3) 57 Executive Vice President and
Chief Financial Officer of
Southern Michigan Bancorp, Inc. 1982
(President of Southern Michigan
Bank & Trust)
James Briskey 64 Owner-Briskey Elevator (grain 1982
elevator operator)
H. Kenneth Cole 49 Treasurer - Hillsdale College 1998
William E. Galliers 55 Co-owner and Chief Executive
Officer-G & W Display Fixtures, 1993
Inc.
Nolan E. Hooker 46 Owner-Hooker Oil Co. (distributor 1991
of heating oil)
Gregory J. Hull 49 Farmer 1995
Thomas E. Kolassa 50 Owner-The Planning Group 1995
(insurance)
James J. Morrison 49 Owner-Morrison & Associates 1991
(insurance)
Jane L. Randall 76 Owner-Dally Tire Co. (tire 1982
distributor)
Freeman E. Riddle 65 Owner-Spoor & Parlin Farm 1982
Equipment
======================================================================================================
</TABLE>
NOTES:
(1) Current directors of Registrant are also directors of Southern
Michigan Bank & Trust.
(2) The business experience of each director during the past five
years was that typical of a person engaged in the principal
occupation listed for each.
(3) Messrs. Towns and Grohalski, the Registrant's two executive
officers (who are also directors) have held the same positions
since the organization of Registrant in 1982.
19
<PAGE> 20
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth compensation paid by the Registrant and the Bank
with respect to the fiscal year ended December 31, 1997 to the Company's Chief
Executive Officer and the only other executive officer whose combined salary and
bonus exceeded $100,000.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
ANNUAL COMPENSATION
-------------------
ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY ($) (1) COMPENSATION ($)(2)
- -----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Jerry L. Towns
President and Chief Executive 1997 $146,059 $5,978
Officer of the Registrant and 1996 $149,201 $5,978
Chairman of the Bank 1995 $134,190 $6,038
James T. Grohalski
Executive Vice President and 1997 $130,320 $7,202
Chief Financial Officer of the 1996 $135,225 $7,191
Registrant and President of the 1995 $123,968 $7,239
Bank
</TABLE>
(1) The amounts shown includes amounts deferred under the 401(k)
provisions of the Bank's Employee Stock Ownership Plan
("ESOP") and the Bank's Executives' Deferred Compensation Plan
("Deferred Compensation Plan").
(2) The amounts shown include the following for 1997: (i) employer
contributions to accounts in the ESOP and the Deferred
Compensation Plan of $2,600 and $3,000, respectively for Mr.
Towns; and $3,796 and $3,000 respectively for Mr. Grohalski;
(ii) $378 and $406 constituting the value of insurance
premiums paid by the Bank for term life insurance for Mr.
Towns' and Mr. Grohalski's benefit, respectively.
Retirement Benefits
Officers of the Registrant participate in the Southern Michigan Bank & Trust
Retirement Plan (the "Retirement Plan"), which has been adopted by the
Registrant. Under the terms of the Plan, a normal monthly retirement benefit is
provided to covered employees who attain the age of 65. It provides for a normal
retirement benefit after 30 years of credited service equal to 35% of a
participant's actual monthly compensation based on the participant's highest
consecutive five year average compensation (see column captioned
"Remuneration"). For participants with less than 30 years credited service,
reduced benefits are available in an amount equal to the normal retirement
benefit reduced by 1/30 for each year of service less than 30. Participants are
100% vested after five years of credited service, and are subject to forfeiture
upon termination of employment with credited service less than five years. The
following table represents estimated normal annual benefits payable on a
straight-life annuity basis upon retirement at age 65 and are not subject to
deduction for social security benefits:
20
<PAGE> 21
PENSION PLAN TABLE
<TABLE>
<CAPTION>
YEARS OF SERVICE
- -------------------------------------------------------------------------------------------------------------------------
REMUNERATION 25 30 35
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
110,000 $32,100 $38,500 $38,500
- -------------------------------------------------------------------------------------------------------------------------
120,000 35,000 42,000 42,000
- -------------------------------------------------------------------------------------------------------------------------
130,000 37,900 45,500 45,500
- -------------------------------------------------------------------------------------------------------------------------
140,000 40,800 49,000 49,000
- -------------------------------------------------------------------------------------------------------------------------
150,000 43,750 52,500 52,500
- -------------------------------------------------------------------------------------------------------------------------
</TABLE>
Jerry L. Towns has 26 years of credited service and $131,000 current covered
remuneration. James T. Grohalski has 31 years of credited service and $118,000
current covered remuneration.
The Bank also has in effect supplemental retirement arrangements in the form of
Executive Employee Salary Continuation Agreements with its executive officers
under which a specified annual benefit, in addition to that provided under the
Retirement Plan, is payable to the officer upon retirement at age 65, subject to
reduction for credited service of less than 30 years on the same basis as under
the Retirement Plan. The specified benefit under the salary continuation
agreements is also payable beginning at the executive officers attaining age 65,
if the officer is terminated or has his title, responsibility or compensation
significantly lessened or the situs of his employment is changed without his
consent. The specified annual benefit, when added to the benefit under the
Retirement Plan but for a plan amendment which changed the Plan's benefit
formula to comply with changes in pension laws and which substantially reduced
the executive officers' benefits. For Jerry L. Towns, the specified annual
benefits payable upon retirement at age 65 under the supplemental retirement
arrangement is $16, 860. For James T. Grohalski, the specified annual benefit
payable upon retirement at age 65 under the supplemental retirement arrangement
is $22,060.
The Bank also has a Deferred Compensation Plan for directors and certain
executive officers. Under the Deferred Compensation Plan, participants elect to
defer a portion of their compensation (in the case of directors, their fees) on
a pretax basis. Upon retirement at or after age 65, the participant or his
designated beneficiary is entitled to a benefit equal to the amount of the
participant's deferrals to the Plan plus earnings on such deferrals at a
specified rate of interest compounded annually, payable in equal monthly amounts
for not less than 180 months. Upon the participant's termination of employment
or retirement before age 65, the benefit payable to the participant at age 65 is
determined by multiplying the amount deferred under the Plan by the ratio of the
number of months for which the participant made deferrals to the number of
months from the time the participant began making deferrals to the participant's
reaching age 65. The amounts shown in the summary compensation table above
include amounts deferred as contributions under the Plan, which amounts are
subject to forfeiture pursuant to the formula described above for determining
the applicable benefit in the event the participant's employment terminates
before retirement at age 65.
Directors' Fees
Currently, each director of the Bank whose principal occupation is not with the
Bank, receives an annual fee of $6,000, which will be indexed for inflation
beginning in 1998. In addition, outside directors are compensated $150 for each
committee meeting attended and participate in a bonus program based upon the
achievement of growth and profitability goals. The 1997 bonus paid to each
outside director was $4,467.
21
<PAGE> 22
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth, as of February 28, 1998, the names and addresses
of all beneficial owners of 5% or more of Registrant's common stock (its only
authorized class of stock), showing the amount and nature of such beneficial
ownership:
<TABLE>
<CAPTION>
- ----------------------------------------------------------------------------------------------------------------------
NAME & ADDRESS OF AMOUNT & NATURE OF PERCENT
TITLE OF CLASS BENEFICIAL OWNER BENEFICIAL OWNERSHIP(1) OF CLASS
- ----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Common Stock Southern Michigan Bank & Trust
51 West Pearl Street 371,160.5118 (a) 19.319
Coldwater, Michigan 49036
- ----------------------------------------------------------------------------------------------------------------------
Common Stock Southern Michigan Bank & Trust
Employee Stock Ownership Plan 144,125 (b) 7.502
51 West Pearl Street
Coldwater, Michigan 49036
- ----------------------------------------------------------------------------------------------------------------------
Common Stock Harvey B. Randall
8391 Old U.S. 27 South 132,885.6024 (c) 6.917
Marshall, Michigan 49068
- ----------------------------------------------------------------------------------------------------------------------
Common Stock Estate of Max I. Larsen
410 East Chicago Street 118,747.3964 6.181
Coldwater, Michigan 49036
- ----------------------------------------------------------------------------------------------------------------------
</TABLE>
(1) Based upon information furnished to the Registrant by the
individuals named above. The nature of beneficial ownership
for shares shown is sole voting and investment power, except
as set forth below.
(a) Shares are held by Bank's Trust Department
in various fiduciary capacities which
include power to vote the shares.
(b) Shares are voted in accordance with
instructions from plan participants.
(c) Sole voting and investment power.
22
<PAGE> 23
The following table sets forth, as of February 28, 1998, the total number of
shares of Registrant's common stock beneficially owned, and the percent of such
shares so owned, by each director and by all directors and executive officers of
the Registrant as a group.
<TABLE>
<CAPTION>
NAME OF INDIVIDUALS OR
NUMBER OF PERSONS IN AMOUNT AND NATURE OF PERCENT OF
GROUP BENEFICIAL OWNERSHIP (1) TOTAL CLASS
- -----------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
James Briskey 9,680 (a)
9,680 (b) 19,360 1.008
H. Kenneth Cole 0 0 0
William E. Galliers 1,490.7000 (b) 1,490.7000 (2)
James T. Grohalski 2,954.3759 2,954.3759 (2)
Nolan E. Hooker 737.4478 (b) 737.4478 (2)
Gregory J. Hull 636.9112 (b) 636.9112 (2)
Thomas E. Kolassa 1,035.1013 1,035.1013 (2)
James J. Morrison 2,233.6652 (b) 2,233.6652 (2)
Jane L. Randall 5,042.1587 5,042.1587 (2)
Freeman E. Riddle 4,050.1614 (a)
2,224 (b) 6,274.1614 (2)
Jerry L. Towns 56 (a)
153.3262 (b) 209.3262 (2)
All directors and executive officers
as a group (11 persons) 39,973.8477 39,973.8477 2.081
</TABLE>
(1) Based upon information furnished to the Registrant by the
individual named and the members of the designated group. The
nature of beneficial ownership for shares shown is sole voting
and investment power except as set forth below.
(a) Sole voting and investment power.
(b) Shared voting and investment power.
(2) Less than one percent (1%).
23
<PAGE> 24
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The second paragraph of Note C to the consolidated financial statements on page
21 of the Annual Report to Shareholders for the year ended December 31, 1997 is
incorporated herein by reference.
24
<PAGE> 25
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)(1) and (2) The response to this portion of Item 14 is submitted as
a separate section of this report.
(a)(3) Exhibits (Numbered in accordance with Item 601 of
Regulation S-K).
Exhibit 2 - Not applicable.
Exhibit 3 - Articles of Incorporation are
incorporated by reference to Exhibit
3 to the Company's Annual Report on
Form 10-K for the year ended
December 31, 1991 (file number
2-78178).
Amended and Restated By-Laws are
included and filed as part of this
Form 10-K.
Exhibit 4 - Instruments Defining the Rights
of Security Holders of the
Registrant are the Articles of
Incorporation and By-Laws (see
Exhibit 3, above).
Exhibit 9 - Not applicable.
Exhibit 10 - Material Contracts - Executive
Compensation Plans and Arrangements:
(1) Master Agreements for Directors'
Deferred Income Plan; (2) Composite
form of Executive Employee Salary
Continuation Agreement, as amended;
and; (3) Master Agreements for
Executives' Deferred Compensation
Plan, as amended, are incorporated
by reference to Exhibit 10 to the
Registrant's Annual Report on Form
10-K for the year ended December 31,
1994 (file number 2-78178).
Exhibit 11 - Statement Re: Computation of Per
Share Earnings. See Note A, Notes to
Consolidated Financial Statements,
page 18.
Exhibit 12 - Not applicable.
Exhibit 13 - Registrant's 1997 Annual Report to
Shareholders.
With the exception of the
information incorporated by
reference included in Items
3,5,6,7,7A,8 and 13, the 1997 Annual
Report to Shareholders is furnished
for the Commission's information
only and is not deemed filed as part
of this report.
Exhibit 16 - Not applicable.
Exhibit 18 - Not applicable.
Exhibit 21 - Subsidiary of Registrant.
Exhibit 22 - Not applicable.
Exhibit 23 - Consent of Independent Auditors.
Exhibit 24 - Not applicable.
25
<PAGE> 26
Exhibit 27 - Financial Data Schedule.
(b) No reports on Form 8-K were filed in the last Quarter
of the period by this report.
(c) Exhibits - See Item 14(a)(3) above.
(d) Financial Statement Schedules - Omitted due to
inapplicability or because required information is
shown in the Financial Statements and Notes thereto.
26
<PAGE> 27
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
SOUTHERN MICHIGAN BANCORP INC.
Dated: MARCH 23, 1998 By: JAMES T. GROHALSKI
--------------------------- ---------------------------
James T. Grohalski
Executive Vice
President and
Secretary/Treasurer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
JAMES BRISKEY THOMAS E. KOLASSA
- ---------------------------------- ----------------------------
James Briskey - Director Thomas E. Kolassa - Director
H. KENNETH COLE JAMES J. MORRISON
- ---------------------------------- ----------------------------
H. Kenneth Cole - Director James J. Morrison - Director
WILLIAM E. GALLIERS JANE L. RANDALL
- ---------------------------------- ----------------------------
William E. Galliers - Director Jane L. Randall - Director
JAMES T. GROHALSKI FREEMAN E. RIDDLE
- ---------------------------------- ----------------------------
James T. Grohalski - Freeman E. Riddle - Director
Executive Vice President and Director
(Principal Financial & Accounting Officer)
NOLAN E. HOOKER JERRY L. TOWNS
- ---------------------------------- ----------------------------
Nolan E. Hooker - Director Jerry L. Towns - President
Chief Executive Officer &
Director
GREGORY J. HULL MARCH 23, 1998
- ---------------------------------- -----------------------------
Gregory J. Hull - Director Date
27
<PAGE> 28
EXHIBIT INDEX
SEQUENTIALLY
EXHIBIT NUMBERED
NUMBER DESCRIPTION PAGE
- ------- ----------- ------------
3 By-laws
13 Registrant's 1997 Annual Report
to Shareholders
21 Subsidiary of Registrant
23 Consent of Independent Auditors
27 Financial Data Schedule
<PAGE> 1
EXHIBIT (3)
AMENDED AND RESTATED
BY-LAWS
OF
SOUTHERN MICHIGAN BANCORP, INC.
ARTICLE I
OFFICES OF CORPORATION
The principal office of the corporation shall be located in the City of
Coldwater, County of Branch, State of Michigan. The corporation may have such
other offices, either within or without the State of Michigan, as the Board of
Directors may designate or as the business of the corporation may require from
time to time.
ARTICLE II
SHAREHOLDERS
Section 1. Annual Meeting. The regular annual meeting of the
shareholders for the election of directors and the transaction of whatever other
business may properly come before the meeting, shall be held at the main office
of the corporation, Coldwater, Michigan, or such other place as the Board of
Directors may designate and on such date and at such time each year, as is fixed
by the Board of Directors. If, from any cause, the annual meeting is not held on
the date designated, the Board of Directors shall order the annual meeting to be
held on some subsequent day within ninety (90) days of the date fixed as
provided herein, according to the provisions of
<PAGE> 2
the law; and notice thereof shall be given in the manner herein provided for the
annual meeting.
Section 2. Special Meeting. Special meetings of the shareholders may be
called for any purpose or purposes at any time by (i) the Chairman or the
President, or (ii) by the Board of Directors, or (iii) upon receipt of a request
in writing, stating the purpose thereof, signed by shareholders of record owning
not less than 66-2/3% of the voting power of all of the issued and outstanding
voting shares of the corporation entitled to vote generally in the election of
directors.
Section 3. Place of Meeting. The Board of Directors may designate any
place, either within or without the State of Michigan, as the place of meeting
for any annual or special meeting called by the Board. If no designation is
made, or if a special meeting be otherwise called, the place of meeting shall be
the principal office of the corporation in the State of Michigan.
Section 4. Notice of Meetings of Shareholders.
(1) Except as otherwise provided by law, written notice stating the
time, place and purpose or purposes of all meetings of shareholders shall be
given not less than ten (10) days nor more than sixty (60) days before the date
of such meeting, either personally or by mail, to each shareholder of record
entitled to vote at such meeting; provided, however, that if the meeting is
called pursuant to clause (iii) of Section 2 of this Article II, such notice
shall be given not less than thirty (30) days nor more than sixty (60) days
before the date of such meeting. If mailed, such notice shall be deemed to be
given and delivered when deposited in the United States mail, postage prepaid,
addressed to the shareholder at his address as it then appears on the stock
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transfer books of the corporation. Only such business shall be conducted at a
special meeting of shareholders as shall have been brought before the meeting
pursuant to the notice of meeting.
(2) At an annual meeting of shareholders, only such business shall be
conducted as shall have been brought before the meeting: (i) pursuant to the
corporation's notice of meeting; (ii) by or at the direction of the Board of
Directors or; (iii) by any shareholder of the corporation who complies with the
notice procedures set forth in this Section 4(2) of this Article II. For
business to be properly brought before an annual meeting by a shareholder, the
shareholder must have given timely notice thereof in writing to the Secretary of
the corporation. To be timely, a shareholder's notice must be delivered
personally or otherwise received by the Secretary of the corporation at least
thirty (30) days, but no more than ninety (90) days, prior to the anniversary
date of the record date for determination of shareholders entitled to vote in
the immediately preceding annual meeting of shareholders. A shareholder's notice
to the Secretary shall set forth as to each matter the shareholder proposes to
bring before the annual meeting: (a) a description of the business desired to be
brought before the annual meeting and the reasons for conducting such business
at the annual meeting and any material interest in such business of such
shareholder and the beneficial owner, if any, on whose behalf the business is
made; and (b) as to the shareholder giving the notice and the beneficial owner,
if any, on whose behalf the business is being brought, the name and address, as
they appear on the corporation's books, of such shareholder and of such
beneficial owner, and the class and number of shares of the corporation which
are owned beneficially and of record by such shareholder and such beneficial
owner. Notwithstanding anything in these By-laws to the contrary, no business
shall be conducted at an annual meeting except in accordance with the procedures
set forth in this Section 4(2) of this Article II. The person presiding at an
annual meeting shall, if the facts warrant, determine and declare to the meeting
that business was not properly brought before the meeting in accordance with the
provisions of this Section 4(2) of this
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Article II and, if the person presiding at the annual meeting should so
determine, the person so presiding shall so declare to the meeting and any such
business not properly brought before the meeting shall not be transacted.
Section 5. Record Date. For the purpose of determining shareholders
entitled to notice of and to vote at a meeting of shareholders or an adjournment
thereof, or to express consent or to dissent from a proposal without a meeting,
or for the purpose of determining shareholders entitled to receive payment of
any dividend, or allotment of a right or for the purpose of any other action,
the Board of Directors of the corporation may fix, in advance, a date as the
record date for any such determination of shareholders. The date shall not be
more than sixty (60) days nor less than ten (10) days before the date of the
meeting nor more than sixty (60) days before any other action. If a record date
is not so fixed by the Board, the record date for the determination of
shareholders entitled to notice of and to vote at a meeting of shareholders
shall be the close of business on the day preceding the day on which notice of
the meeting is mailed, and the record date for determining shareholders for any
other purpose shall be the close of business on the day on which the resolution
of the Board relating thereto was adopted. When a determination of shareholders
of record entitled to notice of and to vote at any meeting of shareholders has
been made as provided in this section, such determination applies to any
adjournment thereof, unless the Board fixes a new record date under this section
for the adjourned meeting.
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Section 6. Voting Lists. The officer or agent having charge of the
stock transfer books for shares of the corporation shall make and certify a
complete list of the shareholders entitled to vote at each meeting of
shareholders or any adjournment thereof, arranged in alphabetical order, within
each class and series, with the address of and the number of shares held by
each. Such list shall be produced at the time and place of the meeting and be
subject to inspection by any registered shareholder entitled to vote at such
meeting during the whole time of the meeting. Said list shall be prima facie
evidence as to who are the shareholders entitled to examine the list or to vote
at the meeting.
Section 7. Quorum. (1) Shares of the corporation entitled to cast a
majority of the votes at a meeting, represented in person or by proxy, shall
constitute a quorum at the meeting of shareholders. If less than a majority of
the outstanding shares are represented at a meeting, a majority of the
outstanding shares so represented may adjourn the meeting from time to time
without further notice. At such adjourned meeting at which a quorum shall be
represented, any business may be transacted which might have been transacted at
the meeting as originally noticed. The shareholders present at a duly organized
meeting may continue to transact business until adjournment, notwithstanding the
withdrawal of enough shareholders to leave less than a quorum.
(2) When the holders of a class or series of shares are entitled to
vote separately on an item of business, this section applies in determining the
presence of a quorum of such class or series for transaction of the item of
business.
Section 8. Action by Shareholders Without a Meeting. Unless the
articles of incorporation provide to the contrary, no action required or
permitted by the Michigan Business
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Corporation Act, as amended, to be taken at an annual or special meeting of
shareholders may be taken without a meeting, without prior notice and without a
vote, unless a consent in writing, setting forth the action so taken, is signed
by the holders of all outstanding stock entitled to vote thereon. If the
articles of incorporation expressly permit any such action to be taken by less
than unanimous written consent, prompt notice of the taking of any corporate
action without a meeting by less than unanimous written consent shall be given
to shareholders who have not consented in writing.
Section 9. Proxies. A shareholder entitled to vote at a meeting of
shareholders may authorize other persons to act for him by proxy signed by the
shareholder or his duly authorized agent or representative. Such proxy shall be
filed with the secretary of the corporation before or at the time of the
meeting.
Section 10. Vote of Shareholders. (1) Each outstanding share is
entitled to one vote on each matter submitted to a vote, unless otherwise
provided in the articles of incorporation. A vote may be cast either orally or
in writing, unless otherwise provided in the By-Laws.
(2) When an action, other than the election of directors, is to be
taken by vote of the shareholders, it shall be authorized by a majority of the
votes cast by the holders of shares entitled to vote thereon, unless a greater
plurality is required by the articles of incorporation or the Michigan Business
Corporation Act. Except as otherwise provided by the articles, directors shall
be elected by a plurality of the votes cast at an election.
Section 11. Treasury Shares. Shares of its own stock previously issued
and subsequently acquired and held by the corporation but not cancelled shall
not be voted on any matter nor deemed to be outstanding shares.
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ARTICLE III
BOARD OF DIRECTORS
Section 1. General Powers. The business and affairs of the corporation
shall be managed by its Board of Directors.
Section 2. Number, Tenure and Qualifications. The number of directors
of the corporation shall be determined and fixed from time to time by resolution
of eighty percent (80%) of the directors then in office.
Section 3. Nomination of Directors.
(1) In managing the business and affairs of the corporation,
the Board of Directors oversees the practices and conditions of the
corporation's affiliate financial institution to assure that it engages in safe
and sound practices and that it remains in a safe and sound condition and that
it operates in accordance with applicable laws and regulations all in order to
maintain public confidence and protect the public interest and the interest of
depositors, creditors and shareholders. Therefore, in order for any nominee to
be eligible to be elected to or to serve on the Board of Directors, the nominee
must have a history of conducting his or her own personal and business affairs
in a safe and sound manner, in a safe and sound condition, in accordance with
applicable laws and regulations, and without substantial conflicts of interests.
Prior to their nomination, all potential new director nominees shall complete
under oath a director qualification, eligibility and disclosure questionnaire,
as shall be approved by the Board of Directors (hereafter "Director
Qualification, Eligibility and Disclosure Questionnaire"), which Director
Qualification, Eligibility and Disclosure Questionnaire shall be reviewed by the
Board of Directors to determine whether each such nominee is eligible to serve
pursuant to the
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foregoing criteria. The Board of Directors shall, within thirty (30) days after
receipt by the Secretary of the corporation of a shareholder's notice of intent
to make a nomination for election of directors satisfying the requirements of
Section 3(2) of this Article III shall determine whether the proposed nominee is
qualified to serve, and, within such period, the Secretary of the corporation
shall mail written notice of the Board's determination to the proposing
shareholder. In the event that the Board of Directors determines that any such
nominee is not qualified to serve, the Secretary's notice to the shareholder
shall contain a brief description of the reasons for the Board's decision and
the shareholder shall have ten (10) days from the date the Secretary's notice
was mailed to deliver personally to or otherwise cause the Secretary to receive
either: (i) a request that the Board of Directors of the corporation reverse
their decision (with a statement detailing the reasons why the Board of
Directors should take such action); or (ii) a notice of the shareholder's intent
to propose an alternative nominee (any such notice shall include all of the
information required by Section 3(2) of this Article III). The Board of
Directors shall consider any such request for reversal of the their decision at
the first regularly scheduled meeting of the Board of Directors following the
date on which the shareholder's request for such action is received by the
Secretary. The Secretary shall mail written notice to the shareholder of the
Board of Directors' decision concerning any such request within five (5) days
after the date of the Board of Directors meeting at which such request was
considered. The Secretary shall mail written notice to the shareholder of the
Board's decision concerning the eligibility to serve of any such alternative
nominee within ten (10) days after the Secretary's receipt of a shareholder's
notice of intent to propose an alternative nominee. All determinations as to
eligibility to serve made by
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the Board of Directors, unless reversed by the Board of Directors as provided
herein, shall be binding and conclusive.
(2) Nominations for elections to the Board of Directors may be made by
the Board of Directors or by any shareholder entitled to vote for the election
of directors. Nominations for a new director by the Board of Directors to fill
any vacancy or otherwise for election to the Board, shall be made by the Board
after consideration of the proposed nominee qualifications (as set forth in
Section 3(1) of this Article III). Nominees proposed by shareholders for which
written proxy solicitation by the Board of Directors is sought shall be made in
writing (which shall, upon request of the Board of Directors, include a Director
Qualification, Eligibility and Disclosure Questionnaire completed by the
proposed nominee) and shall be delivered or mailed to the Chairman or the
Secretary of the corporation by December 31 of the year preceding the year in
which the nomination is proposed. Other shareholder nominations of any one or
more persons for nomination for election as director may be made by any
shareholder entitled to vote in the election of directors at the particular
meeting at which the nomination is to occur only in person or by proxy at such
meeting and only if written notice of such shareholder's intent to make such
nomination or nominations has been delivered personally to or otherwise received
by the Secretary of this corporation at least thirty (30) days, but no more than
ninety (90) days, prior to the anniversary date of the record date for
determination of shareholders entitled to vote in the immediately preceding
annual meeting of shareholders. Each such notice shall contain a representation
that: (i) the shareholder is, and will be on the record date, a beneficial owner
or a holder of record of stock of the corporation entitled to vote at such
meeting; (ii) the shareholder has, and will have on the record date, full voting
power with respect to such shares; and (iii) the
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shareholder intends to appear in person or by proxy at the meeting to nominate
the person or persons specified in the notice. Additionally, each such notice
shall include: (a) the name and address of the shareholder who intends to make
the nomination and of the person or persons to be nominated; (b) a description
of all arrangements or understandings between the shareholder and each proposed
nominee and any other person or persons (naming such person or persons) pursuant
to which the nomination or nominations are to be made by the shareholder; (c)
the number and kinds of securities of the corporation held beneficially or of
record by each proposed nominee; (d) the consent of each proposed nominee to
serve as a director if so elected; and (e) a completed Director Qualification,
Eligibility and Disclosure Questionnaire. Any such notice of shareholder's
intent, and any nomination based thereon, which is not fully in compliance with
the requirements of this Section 3 of this Article III, or which contains any
information which is false or misleading, shall be void and of no effect.
Section 4. Organizational Meeting. The Secretary shall notify
directors-elect of their election and the time and place at which they are to
meet for the purpose of electing and appointing officers for the succeeding
year, and to transact such other business as may come before them.
Section 5. Regular Meetings. The Board of Directors may provide by
resolution, the time and place for the holding of regular meetings without
necessity of notice or a statement of the business to be transacted at, or the
purpose of the meeting other than as provided in such resolution.
Section 6. Special Meetings. Special meetings of the Board may be
called by or at the request of the Chairman, the President or any three or more
directors. The person or persons
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authorized to call special meetings of the Board may fix the time and place for
holding any special meeting of the Board so called. Except as otherwise provided
by law, each member of the Board of Directors shall be given notice as
hereinafter provided.
Section 7. Notice. Notice of any special Board meeting shall be given
at least three (3) days previously thereto by written notice, stating the time,
place, business to be transacted, and purpose or purposes of the meeting
delivered in any one of the following ways: personally - by mail - by telephone
- - or by telex or telegram - to each director at his last known business address
or residence. If mailed, such notice shall be deemed to be delivered when
deposited in the United States mail so addressed, with postage prepaid. If
telephoned, such notice shall be deemed delivered if a message stating the
substance of the notice is communicated directly to the director, or left with
his business office or residence. If notice is given by telex or telegram, such
notice shall be deemed to be delivered when the telex or telegram is sent or
delivered to the telegraph company, as the case may be. Any director may waive
notice, in writing, of any meeting, either before or after said meeting. The
attendance of a director at a meeting shall constitute a waiver or notice of
such meeting, except when a director attends a meeting for the express purpose
of objecting to the transaction of any business because the meeting is not
lawfully called or convened.
Section 8. Meetings by Conference Telephone. One or more or all members
of the Board or of a committee designated by the Board may participate in a
meeting by means of conference telephone or similar communications equipment by
means of which all persons participating in the meeting can hear each other.
Participation in such a meeting constitutes
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presence in person at the meeting and any action that may be taken by the Board
or a committee thereof at a meeting may be taken by a conference call meeting.
Section 9. Quorum and Vote of Board of Directors and Committees. A
majority of the members of the Board then in office or of the members of a
committee then in office thereof shall constitute a quorum for the transaction
of business, unless the articles of incorporation or By-laws provide for a
larger or smaller number. The vote of the majority of members present at a
meeting at which a quorum was or is present constitutes the action of the Board
or of the committee, unless the vote of a larger number is required by law, the
articles or By-laws. If less than a quorum is present at a meeting, a majority
of the members present may adjourn the meeting from time to time without further
notice, or as an additional remedy in case of lack of a committee quorum the
members thereof may appoint one or more members of the Board to act at the
meeting as provided in Section 14 hereof.
Section 10. Action Without a Meeting. Any action that may be taken by
the Board of Directors or a committee thereof at a meeting may be taken without
a meeting, without prior notice and without a vote if, before or after the
action, all members of the Board or committee consent thereto in writing.
Section 11. Vacancies. Newly created directorships resulting from any
increase in the total number of authorized directors and any vacancies on the
Board of Directors resulting from death, resignation, retirement,
disqualification, removal from office or other cause may be filled as provided
in the Articles of Incorporation. If the Articles of Incorporation provide for
the division of directors into classes, any increase or decrease shall be
apportioned as nearly as possible among each class so as to maintain the number
of directors in each class as nearly equal
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as possible, and any additional director of any class elected to fill any
vacancy resulting from any increase in such class shall hold office for a term
which shall coincide with the remaining term of that class. No decrease in the
total number of authorized directors constituting the Board of Directors shall
shorten the term of any incumbent director.
Section 12. Compensation. By resolution of the Board of Directors, each
director may be paid an expense allowance for out of town attendance at each
meeting of the Board or committee thereof, and each director other than an
officer or employee of the corporation may be paid a stated annual fee as
director or as member of a committee without regard to attendance at meetings,
or a fee for attendance at each meeting of the Board or committee, or both an
annual fee and an attendance fee in such amounts as the Board may from time to
time reasonably determine. No such payment shall preclude any director other
than an officer or employee from serving the corporation in any other capacity
and receiving compensation therefor.
Section 13. Removal of Directors. Except as otherwise provided in the
Articles of Incorporation, a director, or the entire Board, may be removed, with
or without cause, by the vote of the holders of a majority of the shares
entitled to vote at an election of directors.
Section 14. Committees of the Board. The Board may designate one or
more committees, each consisting of two or more directors of the corporation and
such officers of the corporation as the Board may deem desirable; and the Board
may designate one or more directors as alternate members of a committee to
replace any absent or disqualified member at a meeting of the committee. If no
such alternate members have been designated by the Board, then in the event of
the absence or disqualification of one or more members of a committee, the
members thereof present at a meeting and not disqualified from voting, whether
or not they constitute a
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quorum may unanimously appoint one or more members of the Board to act at the
meeting in the place of any absent or disqualified member or members. Any
committee and each member thereof shall serve at the pleasure of the Board.
ARTICLE IV
OFFICERS
Section 1. Officers. The officers of the corporation shall consist of a
Chairman, a President, an Executive Vice President, a Treasurer, a Secretary,
and such other officers, assistant officers or agents as may be prescribed by
the by-laws or determined by the Board from time to time.
Two or more offices may be held by the same person, but no officers
shall acknowledge or verify any instrument in more than one capacity if the
instrument is required by law or the articles or by-laws to be executed,
acknowledged or verified by two or more officers.
Section 2. Election and Term of Office. The designated officers shall
be elected or appointed by the Board. Each officer shall hold office for the
term for which he is elected or appointed and until his successor is elected or
appointed and qualified or until his prior death, resignation or removal.
Section 3. Removal. Any officer or agent may be removed by the Board,
with or without cause, whenever in its judgment, the best interest of the
corporation will be served thereby, but such removal shall be without prejudice
to the contract rights, if any, of the person so removed. Election or
appointment of an officer or agent shall not of itself create contract rights.
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Section 4. Vacancies. A vacancy in the office because of death,
resignation, removal, disqualification or otherwise, may be filled by the Board
of Directors for the unexpired portion of the term.
Section 5. Chairman. The Chairman shall be a director of the
corporation and, if so designated by the Board of Directors, shall be its chief
executive officer and, if the Board shall so determine, the Chairman, subject to
the control of the Board of Directors, shall supervise and control all of the
business and affairs of the corporation. He shall preside at all meetings of the
Board of Directors and shareholders. If designated by the Board as chief
executive officer, he may sign, with the Treasurer or any other officer of the
corporation "hereunto authorized by the Board of Directors, certificates for
shares of the corporation, any deeds, mortgages, bonds, contracts, or other
instruments which the Board has authorized to be executed, except in cases where
the signing and execution thereof shall be expressly delegated by the Board or
by these by-laws to some other officer or agent of the corporation, or shall be
required by law to be otherwise signed or executed; and in general shall perform
all duties incident to the office of chief executive officer and such other
duties as may be prescribed by the Board of Directors from time to time.
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Section 6. President. The President shall be a director of the
corporation, and, unless the Board shall designate the Chairman as chief
executive officer of the corporation, shall be its chief executive officer and,
subject to the control of the Board of Directors, shall supervise and control
all of the business and affairs of the corporation. Unless the Board shall have
appointed the Chairman as chief executive officer, the President may sign, with
the Treasurer or any other officer of the corporation "hereunto authorized by
the Board of Directors, certificates for shares of the corporation, any deeds,
mortgages, bonds, contracts, or other instruments which the Board has authorized
to be executed, except in cases where the signing and execution thereof shall be
expressly delegated by the Board or by these By-laws to some other officer or
agent of the corporation, or shall be required by law to be otherwise signed or
executed; and in general shall perform all duties incident to the office of
chief executive officer and such other duties as may be prescribed by the Board
of Directors from time to time. If the Board of Directors shall have designated
the Chairman as chief executive officer of the corporation, the President shall
have such duties as are designated by the Chairman and the Board of Directors
and, in the absence, death, inability or refusal to act, of the Chairman, the
President shall perform the duties of the chief executive officer and when so
acting shall have all the powers of, and be subject to, all the restrictions
upon the chief executive officer. The President shall have such other duties and
responsibilities as may be assigned to him by the Chairman and Chief Executive
Officer, and as the Board of Directors shall prescribe from time to time.
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Section 7. Executive Vice President. Subject to the direction and
control of the Chairman, if the Chairman shall have been appointed chief
executive officer, and the President, the Executive Vice President shall be an
administrative officer of the corporation. In the absence of the President or in
the event of his death, inability or refusal to act, the Executive Vice
President shall perform the duties of President, and when so acting, shall have
all the powers of and be subject to all the restrictions upon the President. The
Executive Vice President shall perform such other duties as may be assigned to
him from time to time by the chief executive officer or by the Board.
Section 8. Treasurer. Subject to the direction and control of the chief
executive officer, the Treasurer shall have charge and custody of and shall keep
full and accurate accounts of all funds and securities of the corporation;
receive and give receipts for monies due and payable to the corporation from any
source whatsoever, and deposit all such monies in the name of the corporation in
such banks, trust companies or other depositories as shall be selected by the
Board of Directors in accordance with these by-laws; and in general perform all
of the duties incident to the office of Treasurer and such other duties as from
time to time may be assigned to him by the chief executive officer or the Board
of Directors. If required by the Board, the Vice President and Treasurer shall
give a bond for the faithful discharge of his duties in such sum and with such
surety or sureties as the Board shall determine.
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Section 9. Secretary. The Secretary shall: (a) keep the minutes of all
meetings of the shareholders and of the Board of Directors and to the extent
directed by the Board or the chief executive officer, the minutes of any
committee; (b) cause all notices to be given of meetings of shareholders, the
Board of Directors, or of any committee, in accordance with the provisions of
these by-laws or as required by law; (c) be custodian of the corporate records
and of the seal of the corporation and cause the seal of the corporation to be
affixed to all documents, the execution of which on behalf of the corporation
under its seal is duly authorized or required; (d) keep or supervise the keeping
of a register of the post office address of each shareholder as furnished to the
Secretary by such shareholder; (e) sign with the Chairman, if the Chairman shall
have been appointed as chief executive officer, the President or other
authorized officer, certificates for shares of the corporation, the issuance of
which shall have been authorized by resolution of the Board of Directors; (f)
have general charge or control of the stock transfer books of the corporation;
and (g) in general perform all duties incident to the office of Secretary and
such other duties as from time to time may be assigned to him by the chief
executive officer or by the Board of Directors.
Section 10. Vice Presidents. The Vice Presidents shall have such powers
and shall perform such duties as may be assigned to them from time to time by
the Board or the chief executive officer.
Section 11. Salaries. The salaries of the officers shall be as fixed
from time to time by the Board; and no officer shall be prevented from receiving
salary by reason of the fact that he is also a director of the corporation.
ARTICLE V
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INDEMNIFICATION
Section 1. Third-Party Suits. To the extent permitted by Michigan law
from time to time in effect and subject to the provisions of this Article V, the
corporation shall indemnify any person who was or is a party to or is threatened
to be made a party to any threatened, pending, or completed action, suit or
proceeding, whether civil, criminal, administrative or investigative (other than
an action by or in the right of the corporation) by reason of the fact that he
is or was a director, officer, employee or agent of the corporation, or is or
was serving at the request of the corporation as a director, officer, employee
or agent of another corporation, partnership, joint venture, trust or other
enterprise, against expenses (including attorneys' fees), judgments, fines and
amounts paid in settlement actually and reasonably incurred by him in connection
with such action, suit or proceeding, if he acted in good faith and in a manner
he reasonably believed to be in or not opposed to the best interests of the
corporation or its shareholders, and, with respect to any criminal action or
proceeding, had no reasonable cause to believe his conduct was unlawful. The
termination of any action, suit or proceeding by judgment, order, settlement,
conviction, or upon a plea of nolo contendere or its equivalent, shall not, of
itself, create a presumption that the person did not act in good faith and in a
manner which he reasonably believed to be in or not opposed to the best
interests of the corporation or its shareholders and, with respect to any
criminal action or proceeding, had reasonable cause to believe his conduct was
unlawful.
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Section 2. Suits by or in Right of the Corporation. To the extent
permitted by Michigan law from time to time in effect and subject to the
provisions of this Article V, the corporation shall indemnify any person who was
or is a party to or is threatened to be made a party to any threatened, pending
or completed action or suit by or in the right of the corporation to procure a
judgment in its favor by reason of the fact that he is or was a director,
officer, employee or agent of the corporation, or is or was serving at the
request of the corporation as a director, officer, employee or agent of another
corporation, partnership, joint venture, trust or other enterprise against
expenses (including attorneys' fees) actually and reasonably incurred by him in
connection with the defense or settlement of such action or suit if he acted in
good faith and in a manner he reasonably believed to be in or not opposed to the
best interests of the corporation or its shareholder, except that no
indemnification shall be made in respect of any claim, issue or matter as to
which such person shall have been adjudged to be liable for negligence or
misconduct in the performance of his duty to the corporation unless and only to
the extent that the court in which such action or suit was brought shall
determine upon application that, despite the adjudication or liability but in
view of all the circumstances of the case, such person is fairly and reasonably
entitled to indemnify for such expenses which such court shall deem proper.
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Section 3. Indemnification Against Expenses. To the extent that a
person who is or was a director, officer, employee or agent of the corporation,
or a director, officer, employee or agent of any other corporation, partnership,
joint venture, trust or other enterprise with which he is or was serving at the
request of the corporation has been successful on the merits or otherwise in
defense of any action, suit or proceeding referred to in Sections 1 and 2 of
this Article V, or in defense of any claim, issue or matter therein, he shall be
indemnified against expenses (including attorneys' fees) actually and reasonably
incurred by him in connection therewith.
Section 4. Determination that Indemnification is Proper. Any
indemnification under Sections 1 or 2 of this Article V (unless ordered by a
court) shall be made by the corporation only upon a determination that
indemnification of the person is proper in the circumstances because he has met
the applicable standard of conduct set forth in said Sections 1 and 2. Such
determination shall be made by any of the following ways: (1) By the Board by a
majority vote of a quorum consisting of directors who were not parties to such
action, suit or proceeding; (2) If such a quorum is not obtainable, or, even if
obtainable, a quorum of disinterested directors so directs, by independent legal
counsel in a written opinion; or (3) By the shareholders.
Section 5. Reimbursement of Expenses. Expenses incurred by any person
who may have a right of indemnification under this Article V in defending a
civil or criminal action, suit or proceeding may be paid by the corporation in
advance of the final disposition of such action, suit or proceeding as
authorized in the manner provided by Section 4 of this Article V upon receipt of
an undertaking by or on behalf of such person to repay such amount unless it
shall ultimately be determined that he is entitled to be indemnified by the
corporation pursuant to this Article V.
21
<PAGE> 22
Section 6. By-laws Not Exclusive. The indemnification provided by this
Article V shall not be deemed exclusive of any other rights to which any person
may be entitled under any by-law, agreement, vote of shareholders or
disinterested directors or otherwise, both as to action in his official capacity
and as to action in another capacity while holding his office, except to the
extent that such indemnification may be contrary to law. The indemnification
provided by this Article V shall continue as to a person who has ceased to be a
director, officer, employee or agent and shall inure to the benefit of the
heirs, executors and administrators of such a person.
Section 7. Insurance. The corporation may purchase and maintain
insurance (and pay the entire premium therefor) on behalf of any person who is
or was a director, officer, employee or agent of the corporation, or is or was
serving at the request of the corporation as a director, officer, employee or
agent of another corporation, partnership, joint venture, trust or other
enterprise against any liability asserted against him and incurred by him in any
such capacity or arising out of his status as such, whether or not the
corporation would have the power to indemnify him against such liability under
the provisions of this Article V or under the provisions of Section 561 through
565 of the Michigan Business Corporation Act.
Section 8. Merged and Reorganized Corporations. For the purposes of
this Article V, references to the corporation include all constituent
corporations absorbed by the corporation in a consolidation or merger, so that a
person who is or was a director, officer, employee or agent of such constituent
corporation as a director, officer, employee or agent of another corporation,
partnership, joint venture, trust or other enterprise shall stand in the same
position under the provisions of this Article V with respect to the corporation
as he would if he had served the corporation in the same capacity.
22
<PAGE> 23
Section 9. Severability. The invalidity or unenforceability of any
provision of this Article V shall not affect the validity or enforceability of
the remaining provisions of this Article V.
ARTICLE VI
CONTRACTS, LOANS, CHECKS & DEPOSITS
Section 1. Contracts. The Board of Directors may authorize any officer
or officers, agent or agents, to enter into any contract or execute and deliver
any instrument in the name of and on behalf of the corporation, and such
authority may be general or confined to specific instances.
Section 2. Loans or Debt Obligations. No loans shall be contracted on
behalf of the corporation and no evidences of indebtedness shall be issued in
its name unless authorized by a resolution of the Board of Directors. Such
authority may be general or confined to specific instances.
By resolution of the Board of Directors, and without approval of
shareholders, the corporation at any time, or from time to time, may authorize
and issue debt obligations of any kind or type, whether or not subordinated to
other liabilities of the corporation.
Section 3. Checks, Drafts, etc. All checks, drafts or other orders for
the payment of money, notes or other evidences of indebtedness issued in the
name of the corporation, shall be signed by such officer or officers, agent or
agents of the corporation and in such manner as shall from time to time be
determined by resolution of the Board of Directors.
23
<PAGE> 24
Section 4. Deposits. All funds of the corporation not otherwise
employed shall be deposited from time to time to the credit of the corporation
in such banks, trust companies or other depositaries as the Board of Directors
may select.
ARTICLE VII
CERTIFICATES FOR SHARES AND THEIR TRANSFER
24
<PAGE> 25
Section 1. Certificates for Shares. Certificates representing shares of
the corporation shall be in such form as shall be determined by the Board of
Directors and shall include all provisions required by law. Such certificates
shall be signed by the Chairman, if the Chairman shall have been designated as
chief executive officer, the President, or a Vice President, and by the
Secretary, Assistant Secretary, Treasurer or assistant Treasurer, or by such
other officers authorized by law and by the Board of Directors so to do, and may
be sealed with the corporate seal or a facsimile thereof. The signatures of
officers may be facsimiles if the certificate is counter-signed by a Transfer
Agent or registered by a Registrar, other than the corporation itself or its
employee. In case an officer who has signed or whose facsimile signature has
been placed upon a certificate ceases to be such officer before the certificate
is issued, it may be issued by the corporation with the same affect as if he
were such officer at the date of issue. All certificates for shares shall be
consecutively numbered or otherwise identified. The name and address of the
person to whom the shares represented thereby are issued, with the number of
shares and date of issue, shall be entered on the stock transfer books of the
corporation. All certificates surrendered to the corporation for transfer shall
be cancelled and no new certificate shall be issued until the former certificate
for a like manner of shares shall have been surrendered and cancelled, except
that in case of a lost, destroyed or mutilated certificate, a new certificate
may be issued therefor upon such terms and indemnity to the corporation as the
Board of Directors may prescribe.
25
<PAGE> 26
(a) Transfer Agents and Registrars. The Board may from time to time
designate one or more Transfer Agents and Registrars, who may be one and the
same entity, for the transfer and registration of shares of the corporation's
stock and any class, and may require that stock certificates shall be
countersigned and registered by one or more of such Transfer Agents and
Registrars.
Section 2. Transfer of Shares. Transfer of shares of the corporation
shall be made on the stock transfer books of the corporation only at the
direction of the holder of record thereof or by his legal representative, who
shall furnish proper evidence of authority to transfer, or by his agent
thereunto authorized by power of attorney duly executed and filed with the
Secretary of the corporation, and on surrender for cancellation of the
certificate for such shares. All certificates surrendered to the corporation for
transfer shall be cancelled and no new certificates shall be issued until the
former certificate for a like number of shares shall have been surrendered and
cancelled, except as otherwise provided in the following by-law. The Secretary
of the corporation or designated Transfer Agent shall record each such transfer
and issue on the stock transfer books, and shall record the fact that a transfer
is made for collateral security and not absolutely when such is stated in the
instrument of transfer.
26
<PAGE> 27
Section 3. Lost Certificates. The corporation may issue a new
certificate for shares or fractional shares in place of a certificate
theretofore issued by it, alleged to have been lost, stolen or destroyed, and
the Board may require the owner of the lost, stolen or destroyed certificate, or
his legal representative, to give the corporation a bond sufficient to indemnify
the corporation against any claim that may be made against it on account of the
alleged lost, stolen or destroyed certificate or the issuance of such a new
certificate. The corporation may recognize the person in whose name the new
certificate or certificates thereafter issued in exchange or substitution,
therefore, is issued, as owner of the shares described therein for all purposes
until the owner of the original certificate or a transferee thereof without
notice and for value shall enjoin the corporation and the holder of any new
certificate or any certificate issued in exchange or substitution therefrom from
so acting.
Section 4. Registered Shareholder. The person in whose name shares
stand on the books of the corporation shall be deemed by the corporation to be
the owner thereof for all purposes, except as otherwise provided in these
By-laws, or as may be otherwise provided by the law of Michigan.
Section 5. Rules and Regulations. The Board of Directors shall have the
power and authority to make all such rules and regulations not inconsistent with
the articles of incorporation, by-laws, or the laws of Michigan as the Board
shall deem proper regulating the issue, transfer, and registration of
certificates of stock in the corporation.
ARTICLE VIII
FISCAL YEAR
27
<PAGE> 28
The fiscal year of the corporation shall begin on the first day of
January and end on the 31st day of December in each year.
ARTICLE IX
DIVIDENDS
Section 1. Declaration of Dividends. The Board of Directors may from
time to time declare dividends on its outstanding shares in the manner provided
by law.
Section 2. Payment of Dividends. The corporation may pay dividends
declared in cash, in property, in obligations of the corporation or in shares of
the capital stock.
Section 3. Reserves. The Board of Directors may, by resolution, set
apart out of any funds of the corporation legally available, a reserve or
reserves for any proper purpose and may, by resolution, abolish any such
reserve.
ARTICLE X
CORPORATE SEAL
The Board of Directors shall provide a corporate seal which shall be in
circular form and shall have inscribed thereon the name of the corporation and
the state of incorporation and the words, " Corporate Seal."
ARTICLE XI
WAIVER OF NOTICE
28
<PAGE> 29
Whenever any notice is required to be given to any shareholder,
director, or member of a committee of the Board, a waiver thereof in writing,
signed by the person entitled to such notice, or given by such person by telex,
telegram, radiogram, or cablegram, whether before or after the holding of the
meeting, shall be deemed equivalent to the giving of such notice. Attendance at
the meeting by the person or persons entitled to such notice, shall constitute a
waiver of notice of such meeting except where such person or persons attend the
meeting for the express purpose of objecting at the beginning of the meeting to
the transaction of any business because the meeting is not lawfully called or
convened.
ARTICLE XII
REDEMPTION OF CONTROL SHARES
Section 1. Purpose. It is the purpose of this Article XII that shares
of the corporation acquired in a Control Shares Acquisition be fully subject to
redemption as provided in Sections 799(1) and (2) the Michigan Business
Corporation Act, MCLA 450.1799(1) and (2), as amended, the "Stacey, Bennett, and
Randall Shareholder Equity Act" (the "Act"), and the provisions of this Article
XII are to be interpreted to achieve that purpose. Capitalized terms used in
this Article XII which are defined or used in the Act shall have the definitions
and meanings provided for them in the Act.
Section 2. Redemption Before Vote. Control Shares acquired in a Control
Share Acquisition after December 16, 1997, shall be subject to redemption by the
corporation at the Fair Value thereof within sixty days after the last
acquisition of such Control Shares if no Acquiring Person Statement has been
filed with the corporation.
29
<PAGE> 30
Section 3. Redemption After Vote. Control Shares acquired in a Control
Share Acquisition after December 16, 1997, shall be subject to redemption by the
corporation at the Fair Value thereof after an Acquiring Person Statement has
been filed and after the meeting at which the voting rights of the Control
Shares are submitted to the shareholders if the Control Shares have not been
accorded full voting rights by the shareholders.
Section 4. Procedure. All or any part of shares subject to redemption
by the corporation pursuant to Section 2 or Section 3 of this Article XII shall
be redeemed by written Notice of Redemption sent first class or certified mail
to each holder of record on the books of the corporation on the date of Notice
of Redemption known to the corporation to be a holder of shares subject to
redemption. The corporation may also publish Notice of Redemption. The Notice of
Redemption shall be in form approved by the Board of Directors and shall specify
the time of redemption which shall be not less than thirty nor more than sixty
days after the Notice of Redemption, the place of redemption and the redemption
price as determined by the Board of Directors in accordance with the Act in good
faith from information available to it at the time of Notice of Redemption. If
the corporation publishes Notice of Redemption, all shares subject to redemption
shall be redeemed regardless of whether Notice of Redemption has been mailed to
all holders thereof.
30
<PAGE> 31
The redemption price set forth in the Notice of Redemption shall be
deemed conclusively to be the Fair Value of the shares subject to redemption and
the redemption price unless a holder of shares subject to redemption shall
notify the corporation in writing within fifteen days of the date of the Notice
of Redemption, supported by credible evidence, of a fair value other than that
set forth as the redemption price in the Notice of Redemption. In the event of
such a notification, the corporation shall either (a) send to all holders of
record of shares subject to redemption to whom the Notice of Redemption was sent
a replacement Notice of Redemption setting forth a new redemption price
redetermined by the Board of Directors on the basis of evidence then available
to it, (b) reject the evidence furnished to it and redeem all shares subject to
redemption at the time and place and for the redemption price set forth in the
Notice of Redemption or (c) cancel the redemption by written notice to all
holders of shares subject to redemption to whom the Notice of Redemption was
sent.
31
<PAGE> 32
At any time after Notice of Redemption has been given the corporation
may, on or prior to the date specified in the Notice of Redemption, deposit
either cash or a letter of credit with a Michigan state bank or a national
banking association having capital, surplus and undivided profits of at least
$50,000,000.00, named in the Notice of Redemption, for the aggregate redemption
price, in trust, for immediate payment, in the amounts aforesaid, to the
respective orders of the holders of the shares so to be redeemed and upon
surrender of the certificates for such shares or such endorsement to the
corporation or its nominee or otherwise as may be required. Upon the date fixed
for redemption (unless the corporation shall default in making payments of the
redemption price as set forth in such notice) and the corporation's compliance
with any applicable provisions of the Act, as then in effect, such holders shall
cease to be shareholders with respect to the said shares so called for
redemption, and from and after the date fixed for redemption (the corporation
not having defaulted in making payment of the redemption price as set forth in
the Notice of Redemption) the said shares so called for redemption shall no
longer be transferable on the books of the corporation and the holders thereof
shall have no interest in or claim against the corporation with respect to the
said shares but shall be entitled only to receive the redemption price from the
said bank, trust company or national banking association or from the
corporation, without interest thereon, upon surrender of the certificates as
aforesaid. Any funds so deposited (together with any interest thereon) which
shall not be required for such redemption shall be returned to the corporation
forthwith.
32
<PAGE> 33
If at any time less than all of the Control Shares are to be redeemed,
the number of shares to be redeemed shall be determined by the Board of
Directors and the shares to be redeemed shall be determined pro rata to the
nearest whole share per holder. The Board of Directors of the corporation,
subject to the foregoing, shall, in each instance, prescribe the manner in which
the Control Shares shall be redeemed.
ARTICLE XIII
AMENDMENTS
These By-laws may be altered, amended or repealed and new by-laws may
be adopted by the affirmative vote of not less than a majority of the members of
the Board of Directors then in office or by the shareholders representing a
majority of all shares issued and outstanding and entitled to vote thereon at
any regular or special meeting of the Board of Directors or shareholders, but,
in the case of amendments made at shareholder meetings, only if the proposed
By-law amendments were contained in a notice of meeting satisfying the
requirements of Section 2 and Section 4 of Article II of these By-laws;
provided, however, that Article II, Sections 2 and 4, Article III, Sections 2,
3, 6 and 11, Article XII and this Article XIII shall not be altered, amended or
repealed, nor may any By-law inconsistent with Article II, Sections 2 and 4,
Article III,Sections 2, 3, 6 and 11, Article XII and this Article XIII be
adopted, unless, if by action of the Board of Directors, such action is approved
by the affirmative vote of not less than 80% of the Board of Directors, or, if
by the shareholders, such action is approved by the affirmative vote of the
holders of not less than two-thirds (2/3) of the voting power of the outstanding
shares of capital stock entitled to vote generally in the election of directors,
voting together as a single class.
33
<PAGE> 1
EXHIBIT 13
TABLE OF CONTENTS
SELECTED FINANCIAL DATA 2
FIVE YEAR FINANCIAL PERFORMANCE 3
LETTER TO SHAREHOLDERS 4
MANAGEMENT'S REPORT 5
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL INFORMATION 11
COMMUNITY REINVESTMENT - JUNIOR ACHIEVEMENT 12
CONSOLIDATED BALANCE SHEETS 13
CONSOLIDATED STATEMENTS OF SHAREHOLDER'S EQUITY 14
CONSOLIDATED STATEMENTS OF INCOME 15
CONSOLIDATED STATEMENTS OF CASH FLOWS 16
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 17
REPORT OF INDEPENDENT AUDITORS 29
BOARD OF DIRECTORS 30
STRATEGIC MANAGEMENT TEAM 31
OFFICERS 32
EMPLOYEES 33
FACTS ABOUT SOUTHERN MICHIGAN BANCORP, INC. STOCK
The Trust Department of Southern Michigan Bank & Trust acts as transfer agent
for the Company's stock. For information concerning the transfer of the
Company's stock, call the Trust Department (517) 279-5503.
The Coldwater, Michigan office of Hilliard Lyons "makes the market" for the
Company's stock. For more information call (517) 278-4333 or (800) 211-5257.
Southern Michigan Bancorp, Inc. provides an automatic dividend reinvestment plan
that allows shareholders to increase their holdings without brokerage fees. For
more information call the Trust Department at (517) 279-5503.
ANNUAL MEETING
The Annual Meeting of Southern Michigan Bancorp, Inc. will be held on April 20,
1998 at 4:00 p.m. at Southern Michigan Bank & Trust, 51 W. Pearl Street,
Coldwater, Michigan.
10-K INFORMATION
To order Form 10-K, the Annual Report for 1997 to the Securities and Exchange
Commission, address request to Southern Michigan Bancorp, Inc., 51 West Pearl
Street, Coldwater, Michigan 49036, Attention: Secretary.
1
<PAGE> 2
\
SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
Year Ended December 31
1997 1996 1995 1994 1993
-----------------------------------------------------------
(In thousands, except per share amounts)
<S> <C> <C> <C> <C> <C>
Total interest income $ 18,865 $ 17,004 $ 15,476 $ 12,680 $ 11,863
Net interest income 11,422 10,400 9,096 7,738 6,702
Provision for loan losses 460 267 222 180 0
Net income 3,032 3,058 2,615 2,018 1,590
Per share data:
Net income 1.59 1.62 1.41 1.11 .90
Cash dividends .58 .53 .50 .38 .35
Balance sheet data:
Long-term borrowings 3,000 0 0 0 0
Capital note 0 0 1,000 1,000 1,000
Common stock subject to repurchase 4,899 3,555 2,232 1,464 1,187
Equity 20,590 19,616 18,497 16,855 15,614
Total assets 238,531 235,562 209,977 195,625 178,453
Return on average assets 1.30% 1.45% 1.31% 1.11% .90%
Return on average equity 14.96% 16.09% 14.64% 12.36% 10.56%
</TABLE>
COMMON STOCK MARKET PRICES AND DIVIDENDS
The Company's common stock, for which there is no established public trading
market, is traded infrequently in the local over-the-counter market. Market
prices are based on information provided by an established securities dealer.
There were 423 shareholders of record at December 31, 1997.
High and low market prices and dividends for the last two years were:
<TABLE>
<CAPTION>
1997 1996
------------------------------ -------------------------------
MARKET PRICE CASH Market Price Cash
-------------------- DIVIDENDS -------------------- Dividends
HIGH BID LOW BID DECLARED High Bid Low Bid Declared
Quarter Ended
- -------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
March 31 $ 23.50 $ 21.50 $ .12 $ 17.00 $ 15.00 $ .12
June 30 24.63 22.50 .13 17.50 16.50 .12
September 30 28.00 24.13 .13 19.75 17.50 .12
December 31 34.00 28.00 .20 22.50 19.75 .17
</TABLE>
There are restrictions that currently limit the Company's ability to pay cash
dividends. Information regarding dividend payment restrictions is described in
Note K to the consolidated financial statements for the year ended December 31,
1997.
All per share amounts have been adjusted for a 1997 stock split effected in the
form of a 100% stock dividend, a 2 for 1 stock split in 1995 and a 10 percent
stock dividend declared in 1993.
2
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 3
CORNER MARK 41 MISSING
<PAGE> 4
LETTER TO SHAREHOLDERS
[Photo of Towns and Grohalski]
To Our Shareholders:
Every organization that is committed to growth and independence must, first of
all, be prepared and willing to adapt to change. In 1997, Southern
Michigan Bancorp seized the opportunity, provided by years of increasing
profits, to invest in changes that will greatly strengthen long-term
shareholder value.
Research into customer preferences and industry trends compelled us to
implement several strategic initiatives this year which, although they
had a dampening effect on 1997 profits, will strengthen Southern Michigan
Bancorp's market leadership. And when you look at where those investments were
made, technology continues at the top of the list.
In 1997, we made it much easier for customers to bank with us by adding 24-hour
telephone banking. It was also the year that we began to build a presence on the
Information Superhighway with our own page on the World Wide Web
(www.smb-t.com). But the biggest technological investments were behind the
scenes.
As we went through transition in 1997, changing from a reactive organization to
one which anticipates customer needs, we realized that changes would be needed
in our computers. The process of anticipating and filling customer needs by
using direct sales techniques increases the demand for timely information. Our
systems couldn't keep up.
In response, we literally overhauled every desktop with new machinery, linking
the computers together in networks to share information faster, improve
productivity and serve customers more completely. Significant technological
upgrades also were made in the processing end of our business. At the same time,
we invested heavily in employee training . . . in sales techniques, computer
operation and, of course, customer service.
What has emerged is a distinct way of doing business that we call CUSTOMER
SERVICE SOUTHERN STYLE. It's a unique blend of appropriate technology,
highly-trained employees and exciting products. And, because our work force rose
to the challenge and implemented these investments while minimizing the dilution
of our profits, we rewarded them with a year-end bonus, directly tied to their
contributions.
These types of investments will never end for independent companies committed to
growth. And, in 1998, we will continue to position ourselves as a strong,
independent financial services organization with the construction of a new
office in Hillsdale. Ground already has been broken; completion is scheduled for
this summer.
Creating profit and increasing shareholder value has been our goal for 125
years. Our work in 1997 promises to lay a strong foundation from which to
continue the pursuit of that vision.
Jerry L Towns James T. Grohalski
- --------------------------- ------------------------------
Jerry L. Towns James T. Grohalski
President & C.E.O. Executive Vice-President
4
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 5
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The following discussion provides information about the Company's financial
condition which supplements the Consolidated Financial Statements included
elsewhere in this Annual Report. The analysis should be read in conjunction with
such financial statements and Five Year Performance and Selected Financial Data
presented in other sections of this Annual Report.
FINANCIAL CONDITION
The Company functions as a financial intermediary and, as such, its financial
condition should be examined in terms of trends in its sources and uses of
funds.
The Company uses its funds primarily to support its lending activities. Loans
increased by 4.0% in 1997 and 23.9% in 1996. The growth in 1997 occurred in all
loan categories and is the result of continued good economic conditions within
the Company's market area. The growth in 1996 also occurred in all loan
categories. The good economic conditions caused many businesses within the
market area to expand in 1996. This strong loan demand, along with more
competitive pricing techniques, caused the Bank's commercial loan portfolio to
grow significantly in 1996.
The Bank's real estate mortgage loan sales to the secondary market continued to
increase in 1997. Gains of $451,000 (after the capitalization of mortgage
servicing rights) were recognized in 1997 and gains of $236,000 were recognized
in 1996. There were no loans held for sale at December 31, 1997. The real estate
portfolio largely consists of residential mortgages within the local area with a
low risk of loss.
Despite the significant increase in secondary market loan sales, the Bank's
mortgage portfolio increased due to the offering of some attractive adjustable
rate mortgage products and the Bank's continued efforts to become a market
leader in the consumer lending area. The Bank anticipates that the sale of loans
in the secondary market will continue to increase, subject to the impact of
economic factors and levels of interest rates.
Loan commitments, consisting of unused credit card and home equity lines,
available amounts on revolving lines of credit and other approved loans which
have not been funded, were $23,049,000 and $26,429,000 at December 31, 1997 and
1996, respectively. All of these commitments, with the exception of unused
credit cards ($2,539,000 at December 31, 1997 and $1,892,000 at December 31,
1996), are priced at a variable interest rate thus minimizing the Bank's risk in
a changing interest rate environment.
There were no significant concentrations in any loan category as to borrower,
industry or location.
Another significant use of funds is the investment securities portfolio.
Investments decreased by 20.4% in 1997 and increased by 2.3% in 1996. The funds
received from maturing investments were used to fund the 1997 loan growth since
the Bank was not able to fund this growth with deposits. The 1996 increase
occurred during the month of December following the significant increase in
deposits associated with the acquisition of two branches from First of
America-Michigan.
The available-for-sale portfolio had net unrealized gains of $39,000 and $31,000
at December 31, 1997 and 1996, respectively. Net unrealized gains in the
investment portfolio classified as held to maturity totaled $351,000 and
$286,000 at December 31, 1997 and 1996, respectively. It is the Company's intent
to hold these investment securities to maturity with the available-for-sale
securities being available to sell should the Company's liquidity needs require
it. There is no concentration of investments in the portfolio which would
constitute an unusual risk.
Deposits traditionally represent the Company's principal source of funds. Total
deposits decreased 1.1% in 1997 and increased 12.9% in 1996. The 1997 decrease
is the result of the maturing of short-term municipal and school deposits that
were acquired late in 1996. The Company's deposit base was below 1996 levels for
most of the year, thus requiring the Company to seek other sources to fund loan
growth. The 1996 increase occurred as the result of the acquisition of
$18,635,000 in deposits from First of America, as well as an increase in
short-term municipal and school deposits.
Attracting and keeping traditional deposit relationships will continue to be a
challenge to the Bank, particularly with the increased competition from
nondeposit products. In order to have an alternate funding source, the Bank
obtained a $3,000,000 putable advance from the Federal Home Loan Bank (FHLB) in
December 1997. This advance carries a five year maturity and is secured by a
blanket collateral agreement with the FHLB giving the FHLB an unperfected
security interest in the Bank's one-to-four family whole mortgage loans,
government and agency securities and highly rated mortgage-backed securities.
The Bank obtained an additional $2,000,000 advance in February 1998. FHLB
advances will be a less expensive way to obtain longer term funds than paying a
premium for long term deposits.
Premises and equipment increased by 6.9% in 1997 and 31.9% in 1996. The 1997
increase was due to the continued upgrading of the Bank's technology. The 1996
increase was due to the completion of renovations for the two new retail loan
centers opened in 1996, and associated furniture and equipment purchases.
The Company has committed approximately $1,700,000 for the construction of a new
branch office in Hillsdale, Michigan. The office is expected to open in the
third quarter of 1998.
5
1997 Annual Report to Shareholders
<PAGE> 6
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
CAPITAL RESOURCES
The Company maintains a strong capital base to take advantage of business
opportunities while ensuring that it has resources to absorb the risk inherent
in the business.
The Federal Reserve Board (FRB) has imposed risk-based capital guidelines
applicable to the Company. These guidelines require that bank holding companies
maintain capital commensurate with both on and off balance sheet credit risks of
their operations. Under the guidelines, a bank holding company must have a
minimum ratio of total capital to risk-weighted assets of 8 percent. In
addition, a bank holding company must maintain a minimum ratio of Tier 1 capital
equal to 4 percent of risk-weighted assets. Tier 1 capital includes common
shareholders' equity, qualifying perpetual preferred stock and minority
interests in equity accounts of consolidated subsidiaries less goodwill.
As a supplement to the risk-based capital requirements, the FRB has also adopted
leverage capital ratio requirements. The leverage ratio requirements are
intended to insure that adequate capital is maintained against risk other than
credit risk. The leverage ratio requirements establish a minimum ratio of Tier 1
capital to total assets of 3 percent for the most highly rated bank holding
companies and banks that do not anticipate and are not experiencing significant
growth. All other bank holding companies are required to maintain a ratio of
Tier 1 capital to assets of 4 to 5 percent, depending on the particular
circumstances and risk profile of the institution.
Regulatory agencies have determined that the capital component created by the
adoption of Financial Accounting Standards Board (FASB) Statement No. 115 should
not be included in Tier 1 capital. As such, the net unrealized appreciation or
depreciation on available-for-sale securities is not included in the ratios
listed below. The ratios include the common stock subject to repurchase
obligation in the Company's employee stock ownership plan (ESOP).
The following table summarizes the Company's capital ratios as of December 31:
1997 1996
---------------
Tier 1 risk-based capital 13.3% 11.9%
Total risk-based capital ratio 14.3% 12.9%
Leverage ratio 10.1% 9.9%
The table above indicates that the Company's capital ratios are above the
regulatory minimum requirements.
In addition to these regulatory requirements, a certain level of capital growth
must be achieved to maintain appropriate levels of equity to total assets.
During 1997 and 1996, total average assets grew 10.8% and 5.7%, respectively. At
the same time, average equity (including common stock held by the ESOP)
increased 11.9% in 1997 and 11.1% in 1996. This indicates that the Company has
retained adequate capital to support its asset growth and has the ability to
continue growing. Future growth opportunities will focus on maintaining the
existing customer base and growing within the Calhoun and Hillsdale county
markets.
LIQUIDITY AND INTEREST RATE SENSITIVITY
The primary functions of asset/liability management are to assure adequate
liquidity and maintain an appropriate balance between interest-earning assets
and interest-bearing liabilities. Liquidity management involves the ability to
meet the cash flow requirements of customers who may be either depositors
wanting to withdraw funds or borrowers needing assurance that sufficient funds
will be available to meet their credit needs. Interest rate sensitivity
management seeks to avoid fluctuating net interest margins and enhance
consistent growth of net interest income through periods of changing interest
rates.
Maturing loans and investment securities are the principal sources of asset
liquidity. Securities maturing or callable within 1 year were $13,687,000 at
December 31, 1997 representing 30.4% of the amortized cost of the investment
securities portfolio, an increase from the 28.7% level of 1996. Loans maturing
within 1 year were $32,773,000 at December 31, 1997 representing 20.6% of the
loan portfolio, a slight increase from the 20.0% level of 1996.
Financial institutions are subject to prepayment risk in falling rate
environments. Prepayments of assets carrying higher rates reduce the Company's
interest income and overall asset yields. Certain portions of an institution's
liabilities may be short-term or due on demand, while most of its assets may be
invested in long-term loans or investments. Accordingly, the Company seeks to
have in place sources of cash to meet short-term demands. These funds can be
obtained by increasing deposits, borrowing, or selling assets. Also, Federal
Home Loan Bank advances and short-term borrowings provide additional sources of
liquidity for the Company.
During the year ended December 31, 1997, there was a net increase in cash and
cash equivalents of $3,328,000. The major sources of cash in 1997 were loan
sales and maturing securities. The major uses of cash in 1997 were loan growth
and loans originated for sale.
During the year ended December 31, 1996, there was a net decrease in cash and
cash equivalents of $3,660,000. The major source of cash in 1996 was the
increase in deposits resulting from growth in the existing deposit base and the
acquisition of two branches. The major use of cash in 1996 was the increase in
loans.
6
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 7
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
During the year ended December 31, 1995, there was a net increase in cash and
cash equivalents of $2,751,000. The major source of cash in 1995 was the growth
in the existing deposit base. The major uses of cash in 1995 were the growth in
loans, the investment of funds in the investment securities portfolio and the
increase in federal funds sold.
Federal law places restrictions on extensions of credit from banks to their
parent holding company and, with certain exceptions, to other affiliates, on
investments in stock or other securities thereof, and on taking of such
securities as collateral for loans. Note K to the Consolidated Financial
Statements discusses these limitations between the Company and its banking
subsidiary.
Interest rate risk arises when the maturity or repricing characteristics of
assets differ significantly from the maturity or the repricing characteristics
of liabilities. Accepting this risk can be an important source of profitability
and shareholder value, however, excessive levels of interest rate risk could
pose a significant threat to the Company's earnings and capital base.
Accordingly, effective risk management that maintains interest rate risk at
prudent levels is essential to the Company's safety and soundness.
The Company measures the impact of changes in interest rates on net interest
income through a comprehensive analysis of the Bank's interest rate sensitive
assets and liabilities. Interest rate sensitivity varies with different types of
interest-earning assets and interest-bearing liabilities. Overnight federal
funds and mutual funds on which rates change daily and loans which are tied to
the prime rate or a comparable index differ considerably from long-term
investment securities and fixed-rate loans. Similarly, certificates of deposit
and money market investment accounts are much more interest sensitive than
passbook savings accounts. The shorter term interest rate sensitivities are key
to measuring the interest sensitivity gap, or excess interest-earning assets
over interest-bearing liabilities. In addition to reviewing the interest
sensitivity gap, the Company also analyzes projected changes in market interest
rates and the resulting effect on net interest income.
The following table shows the interest sensitivity gaps for five different time
intervals as of December 31, 1997:
<TABLE>
<CAPTION>
0-30 31-90 91-365 1-5 Over 5
Days Days Days Years Years
-----------------------------------------------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Interest-earning assets $ 53,693 $ 8,246 $ 53,366 $ 65,853 $ 27,581
Interest-bearing liabilities 45,205 73,114 34,153 22,823 847
-----------------------------------------------------
Interest sensitivity gap $ 8,488 $(64,868) $ 19,213 $ 43,030 $ 26,734
=====================================================
</TABLE>
The primary interest sensitive assets in the one year repricing range are
commercial loans and adjustable rate mortgage loans. The primary interest
sensitive liabilities in the one year repricing range are money market
investment accounts, certificates of deposit and interest-bearing checking
accounts. This analysis indicates that growth in rate sensitive liabilities has
outpaced the growth in rate sensitive assets in the one year range. This has
occurred primarily as a result of the inclusion of interest-bearing checking
accounts and savings accounts in a repricing period of one year or less as these
accounts have become rate sensitive as interest rates have fluctuated. The
long-term interest sensitivity gap indicates that the Company's net interest
margin would improve with an increase in interest rates and decline with further
declines in interest rates. Trying to minimize the interest sensitivity gap is a
continual challenge in a changing rate environment and one of the objectives of
the Company's asset/liability strategy.
RESULTS OF OPERATIONS
Net interest income is an effective measurement of how well management has
balanced the Company's interest rate sensitive assets and liabilities. Net
interest income increased by 9.8% in 1997, 14.3% in 1996 and 17.6% in 1995. The
increases in all three years are due to improvements in the net interest margin.
The 1997 and 1996 net interest margin increased as a result of the reinvestment
of funds received from maturing investment securities into the higher yielding
loan portfolio, along with the stability of the Company's cost of funds. The
primary reason for the 1995 increase was the Company's ability to maintain or
decrease the interest rates paid on deposits, while loan interest rates remained
fairly steady.
The uncertain economic environment and potential fluctuations in interest rates
are expected to continue to impact the Company and the industry in 1998.
Depending on these interest rate fluctuations, there may be market pressure to
raise deposit rates in 1998. The Company monitors deposit rates on a weekly
basis and adjusts deposit rates as the market dictates. An increase in deposit
rates without loan rate increases would cause the Company's net interest margin
to decline.
The provision for loan losses is based on an analysis of the required additions
to the allowance for loan losses. The allowance for loan losses is maintained at
a level believed adequate by management to absorb potential losses in the loan
portfolio. Some factors considered by management in determining the level at
which the allowance is maintained include specific credit reviews, past loan
loss experience, current economic conditions and trends, results of examinations
by regulatory agencies and the volume, growth and composition of the loan
portfolio.
7
1997 Annual Report to Shareholders
<PAGE> 8
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
Effective January 1, 1995, the Company adopted FASB Statement 114 as amended by
Statement 118. The Statement requires that impaired loans, as defined, be
reduced to the present value of expected cash flows discounted at the loan's
effective interest rate or to the fair value of collateral if the loan is
collateral dependent, by allocating a portion of the allowance for loan losses
to such loans. If these allocations cause the allowance for loan losses to
increase, such increase is included in the provision for loan losses. The effect
of adopting Statements 114 and 118 was included in the provision for loan losses
and was not material for 1995.
The provision for loan losses was $460,000 in 1997, $267,000 in 1996 and
$222,000 in 1995. The 1997 provision was increased to provide for loan growth
and the increase in charge-offs and delinquencies. Several customers, including
a large commercial borrower, declared bankruptcy during 1997 resulting in
increased charge-offs. Net charge-offs were $411,000 in 1997, $62,000 in 1996
and $110,000 in 1995. The provisions in 1996 and 1995 were increased to provide
for significant loan growth. The 1998 provision is expected to be approximately
the same as 1997 to provide for continued higher than normal losses and will be
adjusted quarterly, if necessary, to reflect actual charge-off experience and
any known future losses.
Non-interest income, excluding security gains and losses, increased by 21.2% in
1997, 15.8% in 1996 and 5.8% in 1995. The 1997 increase is due to increased
service charges on deposit accounts as a result of the additional deposits
purchased in connection with the acquisition of two branches late in 1996,
increased gains recognized on the sale of secondary market real estate mortgage
loans in 1997 due to an increase in activity, increased fees from the sale of
nondepository investment products in 1997 due to an increase in activity and
unrecognized losses on real estate mortgage loans held for sale recorded in
1996. These increases were partially offset by a decline in trust income due to
a decline in trust assets and a decline in earnings on Bank owned life insurance
policies due to an increase in premium payments.
The increase in 1996 was due to an increase in trust income, as a result of
increased trust assets, increased secondary market gains due to an increase in
activity and the capitalization of mortgage servicing rights, increased earnings
in Bank owned life insurance policies and increased rental income. These
increases were partially offset by a $61,000 unrealized loss on $1,200,000 in
real estate mortgage loans previously classified as held for sale and
transferred to the Bank's loan portfolio. This loss will be amortized through
the maturity dates of the loans.
The increase in 1995 was due to an increase in trust income, as a result of
increased trust assets, $41,000 in gains on the sale of real estate mortgages to
the secondary market and the receipt of life insurance proceeds.
Security gains of $5,000 in 1997, $10,000 in 1996 and $17,000 in 1995 were
recognized.
Non-interest expense increased by 16.8% in 1997, 10.6% in 1996 and 9.1% in 1995.
This increase is due to additional personnel costs, occupancy costs, marketing
and advertising expenditures, training costs and intangible asset amortization
as a result of the acquisition of two branches late in 1996. Trust department
expenses also increased in 1997 as professional consultants and new trust
administrators were added in order to increase the trust department's market
share. Equipment costs increased in 1997 as the Company invested in significant
technological upgrades.
The 1996 increase was due to increased salary and benefit costs associated with
an increase in the number of employees, increased occupancy and equipment costs
associated with the new retail loan centers and technology improvements made
throughout the Bank, increased training expenditures and increased marketing and
advertising expenditures to promote the new retail loan centers and the branches
acquired from First of America. These increases were partially offset by a
decline in legal fees and FDIC premiums.
The 1995 increase was due to increased salary and benefit costs associated with
an increase in the number of employees, increased legal fees, increased
marketing expenditures, increased postage costs and increased office supply
costs due to recent paper price increases. These increases were partially offset
by a refund received on the Company's FDIC insurance premium when the rate was
lowered to 4 cents per $100 of deposits from 23 cents per $100 of deposits.
A significant item that may impact the future results for many companies is the
year 2000. The concern is whether or not computers, elevators, telephone systems
and other electronic items will recognize the year 2000 as a valid date. For
banks, this is a concern not only for the bank's operations, but for those of
their customers and vendors. The Company has taken steps to insure that bank
operations are year 2000 compliant and that its customers and vendors are
addressing year 2000 issues. At this point, the year 2000 issues have not had a
material impact on the Company's operations but it is uncertain as to whether or
not they may be significant in the next two years.
Income tax expense was $1,085,000 in 1997, $1,150,000 in 1996 and $835,000 in
1995. Tax-exempt income continues to have a major impact on the Company's tax
expense. The benefit offsetting lower coupon rates on municipal instruments is
the nontaxable feature of the income earned on such instruments. This resulted
in a lower effective tax rate and reduced federal income tax expense by
approximately $254,000 in 1997, $227,000 in 1996 and $231,000 in 1995.
Results of operations can be measured by various ratio analyses. Two widely
recognized performance indicators are the return on equity and the return on
assets. The Company's return on equity was 14.96% in 1997, 16.09% in 1996 and
14.64% in 1995. The return on average assets was 1.30% in 1997, 1.45% in 1996
and 1.31% in 1995.
8
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 9
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
The majority of assets and liabilities of a financial institution are monetary
in nature and therefore differ greatly from most commercial and industrial
companies that have significant investments in fixed assets or inventories.
However, inflation does have an important impact on the growth of total assets
in the banking industry and the resulting need to increase equity capital at
higher than normal rates in order to maintain an appropriate equity-to-assets
ratio. Another significant effect of inflation is on other expenses, which tend
to rise during periods of general inflation.
Management believes the most significant impact on financial results is the
Company's ability to react to changes in interest rates. As discussed
previously, management is attempting to maintain an essentially balanced
position between interest sensitive assets and liabilities in order to protect
against wide interest rate fluctuations.
NONPERFORMING ASSETS
Nonperforming assets include nonaccrual loans, accruing loans past due 90 days
or more, and other real estate which includes foreclosures and deeds in lieu of
foreclosure.
A loan generally is classified as nonaccrual when full collectibility of
principal or interest is doubtful or a loan becomes 90 days past due as to
principal or interest, unless management determines that the estimated net
realizable value of the collateral is sufficient to cover the principal balance
and accrued interest. When interest accruals are discontinued, unpaid interest
credited to income in the current year is reversed, and unpaid interest accrued
in prior years is charged to the allowance for loan losses. Nonperforming loans
are returned to performing status when the loan is brought current and has
performed in accordance with contract terms for a period of time.
The following table sets forth the aggregate amount of nonperforming loans in
each of the following categories:
<TABLE>
<CAPTION>
December 31
1997 1996 1995
-----------------------------
(Dollars in thousands)
<S> <C> <C> <C>
Nonaccrual loans:
Commercial, financial and agricultural $1,026 $ 448 $ 380
Real estate mortgage 0 0 24
Installment 61 2 40
-----------------------------
1,087 450 444
Loans contractually past due 90 days or more:
Commercial, financial and agricultural 1,067 82 353
Real estate mortgage 630 129 56
Installment 966 165 4
-----------------------------
2,663 376 413
-----------------------------
Total Nonperforming Loans 3,750 826 857
Other real estate owned 103 76 76
-----------------------------
Total Nonperforming Assets $3,853 $ 902 $ 933
=============================
Nonperforming loans to year-end loans 2.36% .54% .70%
Nonperforming assets to year-end loans
and other real estate owned 2.43% .59% .76%
</TABLE>
Some increase in nonperforming loans was expected in 1997 due to the significant
loan growth that occurred in recent years. Customers are experiencing heavier
debt loads due to the ease of obtaining credit and this is resulting in an
increase in bankruptcy filings and delinquencies. These loans are subject to
continuous monitoring by management and are specifically reserved for in the
allowance for loan losses where appropriate.
At December 31, 1997, the Company had approximately $3,136,000 in commercial,
financial and agricultural loans for which payments are presently current but
the borrowers are experiencing certain financial and/or operational
difficulties. These loans are subject to frequent management review and their
classification is reviewed on a monthly basis.
In management's evaluation of the loan portfolio risks, any significant future
increases in nonperforming loans are dependent to a large extent on the economic
environment. In a deteriorating or uncertain economy, management applies more
conservative assumptions when assessing the future prospects of borrowers and
when estimating collateral values. This may result in a higher number of loans
being classified as nonperforming.
9
1997 Annual Report to Shareholders
<PAGE> 10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS (CONTINUED)
REGULATORY MATTERS
Representatives of the Financial Institutions Bureau, a division of the
Department of Commerce of the State of Michigan, completed an examination at the
Company's subsidiary bank using financial information as of December 31, 1996.
The purpose of the examination was to determine the safety and soundness of the
bank. The next safety and soundness examination of the Bank is scheduled for
March 1998 and will be performed by the Federal Deposit Insurance Corporation
(FDIC).
Examination procedures require individual judgments about a borrower's ability
to repay loans, sufficiency of collateral values and the effects of changing
economic circumstances. These procedures are similar to those employed by the
Company in determining the adequacy of the allowance for loan losses and in
classifying loans. Judgments made by regulatory examiners may differ from those
made by management. The Company's level and classification of identified
potential problem loans was not revised significantly as a result of this
regulatory examination process.
Management and the Board of Directors evaluate existing practices and procedures
on an ongoing basis. In addition, regulators often make recommendations during
the course of their examination that relate to the operations of the Company and
the Bank. As a matter of practice, management and the Board of Directors
consider such recommendations promptly.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's primary market risk exposure is interest rate risk and to a lesser
extent liquidity risk. See the Liquidity and Interest Rate Sensitivity
discussions, above. Business is transacted in U.S. dollars with no foreign
exchange rate risk or any exposure to changes in commodity prices.
The following table provides information about the Company's financial
instruments that are sensitive to changes in interest rates as of December 31,
1997. The Company had no derivative financial instruments, or trading portfolio,
as of that date. The expected maturity date values for loans receivable were
calculated without adjusting the instrument's contractual maturity date for
expectations of prepayments. Investment securities are reported at the earlier
of maturity date or anticipated call date. Expected maturity date values for
interest-bearing core deposits were not based upon estimates of the period over
which the deposits would be outstanding, but rather the opportunity for
repricing. Similarly, with respect to its variable rate instruments, the Company
believes that repricing dates, as opposed to expected maturity dates, may be
more relevant in analyzing the value of such instruments and are reported as
such in the following table. Company borrowings are also reported based on
conversion or repricing dates.
<TABLE>
<CAPTION>
Principal Amount Maturing in: Fair Value
--------------------------------------------------------------------------------
1998 1999 2000 2001 2002 Thereafter Total 12/31/97
--------------------------------------------------------------------------------
(Dollars in thousands)
Rate sensitive assets:
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fixed interest rate loans $ 20,230 $ 12,383 $ 9,288 $ 7,163 $ 4,843 $ 4,414 $ 58,321 $ 57,958
Average interest rate 9.88% 10.03% 10.15% 10.18% 10.23% 10.04% 10.09%
Variable interest rate loans 12,543 564 449 9,443 11,029 66,392 100,420 100,420
Average interest rate 9.17% 9.28% 9.59% 9.55% 9.63% 9.87% 9.52%
Fixed interest rate securities 13,490 13,919 7,107 3,448 2,738 4,372 45,074 45,425
Average interest rate 5.85% 5.72% 5.98% 6.50% 4.98% 6.19% 5.75%
Other interest bearing assets 4,500 4,500 4,500
Average interest rate 5.43% 5.43%
Rate sensitive liabilities:
Interest bearing demand deposits 67,032 67,032 67,032
Average interest rate 3.39% 3.39%
Savings deposits 34,416 5,332 2,174 1,330 140 43,392 43,396
Average interest rate 2.78% 5.89% 5.58% 5.31% 5.74% 3.41%
Time deposits 51,701 7,802 5,481 683 12 39 65,718 65,705
Average interest rate 5.43% 5.66% 5.72% 5.70% 5.70% 5.70% 5.46%
Fixed interest rate borrowings 3,000 3,000 3,000
Average interest rate 5.71% 5.71%
</TABLE>
10
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 11
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL INFORMATION
Management of Southern Michigan Bancorp, Inc. has prepared and is responsible
for the accompanying financial statements and for their integrity and
objectivity. In the opinion of management, the financial statements, which
necessarily include amounts based on management's estimates and judgments, have
been prepared in conformity with generally accepted accounting principles on a
consistent basis. Management also prepared the other information in the Annual
Report and is responsible for its accuracy and consistency with the financial
statements.
The Company maintains a system of internal accounting controls designed to
provide reasonable assurance that assets are safeguarded and that transactions
are executed in accordance with the Company's authorizations and policies.
Further, such a system provides reasonable assurances as to the integrity and
reliability of the financial statements which fairly present financial position
and results of operations in conformity with generally accepted accounting
principles. Internal accounting controls are augmented by written policies
covering standards of personal and business conduct and an organizational
structure providing for division of responsibility and authority.
Management monitors the effectiveness of and compliance with established control
systems through a continuous program of internal audit and credit examinations
and recommends possible improvements thereto. In addition, as part of their
audit of the Company's financial statements, Crowe, Chizek and Company LLP,
independent auditors, completed an evaluation of selected internal accounting
controls to establish a basis for reliance thereon in determining the nature,
timing, and extent of audit tests to be applied. Management has considered the
recommendations from the examination of controls concerning the Company's system
of internal controls and has taken actions that we believe are cost-effective in
the circumstances to respond appropriately to these recommendations. Management
believes that, as of December 31, 1997, the Company's system of internal
controls is adequate to accomplish the objectives discussed herein. Further,
management believes the system of controls has prevented or detected on a timely
basis any occurrences that could be material to the financial statements and
that timely corrective actions have been initiated when appropriate.
The Board of Directors exercises its responsibility for the financial statements
and related information through the Audit Committee, which is composed entirely
of outside directors. The Audit Committee meets regularly with management and
Crowe, Chizek and Company LLP, to assess the scope of the annual audit plan and
to review the status and results of audits, including major changes in
accounting policies and reporting practices. Crowe, Chizek and Company LLP has
direct and confidential access to the Audit Committee at all times to discuss
the results of their audits.
Jerry L. Towns James T. Grohalski
- ------------------------------- -----------------------------------
Jerry L. Towns James T. Grohalski
President and Executive Vice-President
Chief Executive Officer and Chief Financial Officer
11
1997 Annual Report to Shareholders
<PAGE> 12
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
December 31
1997 1996
-------------------------
ASSETS (In thousands)
<S> <C> <C>
Cash $ 3,057 $ 3,319
Due from banks 13,791 10,201
-------------------------
Cash and cash equivalents 16,848 13,520
Federal funds sold 4,500
Investment securities available-for-sale - Notes B and G 12,853 24,099
Investment securities held to maturity
(fair value of $32,572 in 1997 and $32,786 in 1996) - Notes B and G 32,221 32,500
Loans - Notes C and G 158,741 152,678
Less allowance for loan losses - Note D (1,863) (1,814)
-------------------------
156,878 150,864
Premises and equipment - Note E 5,588 5,227
Other assets - Notes H and I 9,643 9,352
-------------------------
TOTAL ASSETS $ 238,531 $ 235,562
=========================
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits - Note F:
Non-interest bearing $ 30,923 $ 35,014
Interest bearing 176,142 174,453
-------------------------
Total deposits 207,065 209,467
Accounts payable and other liabilities 2,977 2,924
Other borrowings - Note G 3,000
-------------------------
TOTAL LIABILITIES 213,042 212,391
Common stock subject to repurchase obligation in ESOP - Note I 4,899 3,555
Shareholders' equity:
Common stock, $2.50 par value:
Authorized - 4,000,000 shares (2,000,000 shares in 1996)
Outstanding - 1,772,839 shares (869,550 shares in 1996) 4,432 2,174
Capital surplus 1,914 2,734
Retained earnings 14,218 14,687
Net unrealized appreciation on available-for-sale
securities, net of tax of $13 in 1997 and $10 in 1996 26 21
-------------------------
TOTAL SHAREHOLDERS' EQUITY 20,590 19,616
-------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 238,531 $ 235,562
=========================
</TABLE>
See accompanying notes to consolidated financial statements.
13
1997 Annual Report to Shareholders
<PAGE> 13
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
In thousands
<TABLE>
<CAPTION>
Net Unrealized
Appreciation
(Depreciation)
On Available-
Common Capital Retained For-Sale
Stock Surplus Earnings Securities TOTAL
-------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
BALANCE AT JANUARY 1, 1995 $ 2,123 $ 3,916 $ 10,935 $ (119) $ 16,855
Net income for 1995 2,615 2,615
Cash dividends declared - $.50 per share (920) (920)
Common stock issued under dividend
reinvestment plan (12,493 shares) 31 273 304
Change in common stock subject
to repurchase (9) (678) (687)
Net change in unrealized appreciation
(depreciation) on available-for-sale
securities, net of tax 330 330
-------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1995 2,145 3,511 12,630 211 18,497
Net income for 1996 3,058 3,058
Cash dividends declared - $.53 per share (1,001) (1,001)
Common stock issued under
dividend reinvestment plan (14,146 shares) 35 440 475
Change in common stock subject to repurchase (6) (1,217) (1,223)
Net change in unrealized appreciation
(depreciation) on available-for-sale
securities, net of tax (190) (190)
-------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1996 2,174 2,734 14,687 21 19,616
Net income for 1997 3,032 3,032
Cash dividends declared - $ .58 per share (1,109) (1,109)
Common stock issued under dividend
reinvestment plan (9,879 shares) 25 365 390
100% stock dividend issued (956,695 shares) 2,392 (2,392)
Change in common stock subject to repurchase (159) (1,185) (1,344)
Net change in unrealized appreciation
(depreciation) on available-for-sale
securities, net of tax 5 5
-------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1997 $ 4,432 $ 1,914 $ 14,218 $ 26 $ 20,590
===================================================================
</TABLE>
See accompanying notes to consolidated financial statements.
14
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 14
CONSOLIDATED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
Year ended December 31
1997 1996 1995
-------------------------------
Interest income: (In thousands)
<S> <C> <C> <C>
Loans, including fees $15,741 $13,717 $11,965
Investment securities:
Taxable 2,189 2,443 2,634
Tax-exempt 861 775 742
-------------------------------
3,050 3,218 3,376
Other 74 69 135
-------------------------------
Total interest income 18,865 17,004 15,476
Interest expense:
Deposits 7,260 6,427 6,116
Capital notes 9 110
Other 183 168 154
-------------------------------
Total interest expense 7,443 6,604 6,380
-------------------------------
NET INTEREST INCOME 11,422 10,400 9,096
Provision for loan losses - Note D 460 267 222
-------------------------------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 10,962 10,133 8,874
Non-interest income:
Service charges on deposit accounts 835 727 733
Trust fees 528 545 479
Securities gains - Note B 5 10 17
Gain on sales of loans 451 236 41
Earnings on life insurance policies 181 203 142
Other 324 203 259
-------------------------------
2,324 1,924 1,671
-------------------------------
13,286 12,057 10,545
Non-interest expenses:
Salaries and employee benefits - Note I 4,508 4,048 3,552
Occupancy 697 605 512
Equipment 762 712 485
Deposit insurance premium 25 2 193
Legal fees 43 91 186
Other 3,134 2,391 2,167
-------------------------------
9,169 7,849 7,095
-------------------------------
Income before income taxes 4,117 4,208 3,450
Federal income taxes - Note H 1,085 1,150 835
-------------------------------
NET INCOME $ 3,032 $ 3,058 $ 2,615
===============================
BASIC AND DILUTED EARNINGS PER SHARE $ 1.59 $ 1.62 $ 1.41
===============================
</TABLE>
See accompanying notes to consolidated financial statements.
15
1997 Annual Report to Shareholders
<PAGE> 15
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Year ended December 31
1997 1996 1995
-------------------------------------
OPERATING ACTIVITIES (In thousands)
<S> <C> <C> <C>
Net income $ 3,032 $ 3,058 $ 2,615
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 460 267 222
Provision for depreciation 527 410 275
Amortization of investment security premiums
and accretion of discounts 138 166 220
Amortization of deposit base intangible and goodwill 167 50 39
Deferred income taxes 20 (31) (118)
Loans originated for sale (17,175) (11,073) (4,808)
Proceeds on loans sold 17,390 11,162 4,848
Realized gain on sale of loans originated for sale (451) (236) (41)
Unrealized (gain) loss on loans held for sale (8) 61
Realized investment security gains (5) (10) (17)
(Increase) decrease in interest receivable (11) 18 (489)
Increase (decrease) in interest payable (21) 66 54
Increase in other assets (470) (1,781) (675)
Increase in accounts payable and other liabilities 14 146 278
-------------------------------------
Net cash provided by operating activities 3,607 2,273 2,403
INVESTING ACTIVITIES
Proceeds from maturities of investment securities available-for-sale 12,187 15,652 19,218
Proceeds from maturities of investment securities held to maturity 4,355 6,719 23,452
Proceeds from sales of investment securities 255 509 517
Purchases of investment securities available-for-sale (1,167) (9,736) (25,970)
Purchases of investment securities held to maturity (4,230) (14,842) (20,986)
Net (increase) decrease in federal funds sold (4,500) 4,500 (3,000)
Net increase in loans prior to charge-offs (6,230) (29,564) (3,008)
Net purchases of premises and equipment (888) (1,675) (950)
-------------------------------------
Net cash used in investing activities (218) (28,437) (10,727)
FINANCING ACTIVITIES
Acquisition of deposits 18,635
Net increase (decrease) in deposits (2,402) 5,308 11,453
Proceeds from long-term borrowings 3,000
Payment of capital note (1,000)
Common stock issued 390 575 385
Cash dividends (1,049) (1,014) (763)
-------------------------------------
Net cash provided by (used in) financing activities (61) 22,504 11,075
-------------------------------------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 3,328 (3,660) 2,751
Cash and cash equivalents at beginning of year 13,520 17,180 14,429
-------------------------------------
CASH AND CASH EQUIVALENTS AT THE END OF YEAR $ 16,848 $ 13,520 $ 17,180
=====================================
</TABLE>
See accompanying notes to consolidated financial statements.
16
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 16
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1997
NOTE A - NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS: Southern Michigan Bancorp, Inc is a bank holding company.
The Company's business is concentrated in the commercial banking industry
segment. The business of commercial and retail banking accounts for more than
90% of its revenues, operating income and assets. The Bank offers individuals,
businesses, institutions and government agencies a full range of commercial
banking services primarily in the southern Michigan communities in which the
Bank is 1ocated and in areas immcdiately surrounding these communities. The Bank
grants commercial, real estate and consumer loans to customers. The majority of
loans are secured by specific assets and consumer assets. There are no foreign
loans.
PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include the
accounts of Southern Michigan Bancorp, Inc. (the Company) and its wholly owned
subsidiary, Southern Michigan Bank & Trust (the Bank), after elimination of
significant intercompany balances and transactions.
USE OF ESTIMATES IN PREPARING FINANCIAL STATEMENTS: The preparation of financial
statements in conformity with generally accepted accounting principles requires
management to make estimates and assumptions that effect the reported amounts of
assets, liabilities and disclosure of contingent 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.
Estimates that are more susceptible to change in the near term include the
allowance for loan losses, deferred income tax provisions, fair values of
certain securities and other financial instruments and the actuarial present
value of pension benefit obligations and net periodic pension expense and
prepaid pension costs.
INVESTMENT SECURITIES (including mortgage-backed securities): Management
determines the appropriate classification of securities at the time of purchase.
If management has the intent and the Company has the ability at the time of
purchase to hold securities until maturity, they are classified as held to
maturity and carried at amortized historical cost. Securities to be held for
indefinite periods of time and not intended to be held to maturity are
classified as available-for-sale and carried at fair value. Securities
classified as available-for-sale include securities that management intends to
use as part of its asset/liability management strategy and that may be sold in
response to changes in interest rates, resultant prepayment risk, and other
factors. The Company is not currently involved in trading activities.
Premiums and discounts on securities are recognized in interest income using the
level yield method over the estimated life of the security. Gains and losses on
the sale of available-for-sale securities are determined using the specific
identification method.
LOANS: Interest on loans is credited to income based upon principal amount
outstanding. The accrual of interest income generally is discontinued when a
loan becomes over 90 days past due as to principal or interest. When interest
accruals are discontinued, interest credited to income in the current year is
reversed, and accrued interest from the prior year is charged to the allowance
for loan losses. Management may elect to continue the accrual of interest when
the estimated net realized value of collateral is sufficient to cover the
principal balance and accrued interest. Under Financial Accounting Standards
Board (FASB) Statement 114, as amended by Statement 118, the carrying values of
impaired loans are periodically adjusted to reflect cash payments, revised
estimates of future cash flows and increases in the present value of expected
cash flows due to the passage of time. Cash payments representing interest
income are reported as such. Other cash payments are reported as reductions in
carrying value, while increases or decreases due to changes in estimates of
future payments and due to the passage of time are included in the provision for
loan losses.
ALLOWANCE FOR LOAN LOSSES: The allowance for loan losses is maintained at a
level believed adequate to absorb potential losses in the portfolio. Management
determines the adequacy of the allowance for loan losses based on a continuing
evaluation of the loan portfolio, past loan loss experience, current economic
conditions, composition of the loan portfolio and other relevant factors. The
allowance is increased by provisions charged against income.
Effective January 1, 1995, the Company adopted FASB Statement 114 as amended by
Statement 118. The Statement requires that impaired loans, as defined, be
reduced to the present value of expected cash flows discounted at the loan's
effective interest rate or to the fair value of collateral if the loan is
collateral dependent, by allocating a portion of the allowance for loan losses
to such loans. If these allocations cause the allowance for loan losses to
increase, such increase is included in the provision for loan losses. The effect
of adopting Statements 114 and 118 is included in the provision for loan losses
and is not material for 1995.
17
1997 Annual Report to Shareholders
<PAGE> 17
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE A - NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Real estate mortgage and installment loans are smaller balance homogeneous loans
and are collectively evaluated for impairment. Commercial loans are evaluated
individually for impairment. When credit analysis of borrower operating results
and financial condition indicates the underlying ability of the borrower's
business activity is not sufficient to generate cash flow to service the
business' cash needs, including the Bank's loans to the borrower, the loan is
evaluated for impairment. This may be a delay or shortfall in payments of 90
days or less. Loans to be evaluated for impairment are included on the Bank's
commercial loans watch list and assigned a liquidation probability. Loans with a
liquidation probability of greater than 50% are generally considered impaired.
The expected unrecoverable portion of impaired loans are charged-off when
foreclosure proceedings are underway and the actual loss can be determined.
Loans are generally moved to nonaccrual status when 90 days or more past due.
Management has also set minimum loan balance thresholds before consideration of
a loan for impaired status will occur.
PREMISES AND EQUIPMENT: Premises and equipment are stated at cost, less
accumulated depreciation. Depreciation is computed principally using accelerated
methods over their estimated useful lives.
LOAN SERVICING RIGHTS: The Company originates mortgage loans for sale to the
secondary market, and sells the loans with servicing retained. Effective January
1, 1996, the Company adopted FASB Statement 122 on accounting for mortgage
servicing rights. For servicing retained, this Statement requires capitalizing
the cost of mortgage servicing rights, regardless of whether those rights were
acquired through purchase or origination activities. Prior to adoption of
Statement 122, only purchased loan servicing rights were capitalized, and the
Company had no such activity.
Beginning in 1996, the total cost of mortgage loans originated with the intent
to sell is allocated between the loan servicing right and the mortgage loan
without servicing based on their relative fair values at the date of sale. The
capitalized cost of loan servicing rights is amortized in proportion to, and
over the period of, estimated net servicing revenue. For this purpose, estimated
servicing revenues include late charges and other ancillary income. Estimated
servicing costs include direct costs associated with performing the servicing
function and appropriate allocations of other costs. Mortgage servicing rights
are included in other assets.
Mortgage servicing rights are periodically evaluated for impairment by
stratifying them based on predominant risk characteristics of the underlying
serviced loans. These risk characteristics include loan type (fixed or
adjustable rate), term (15 year or 30 year), and note rate. Impairment
represents the excess of cost of an individual mortgage servicing rights stratum
over its fair value, and is recognized through a valuation allowance.
Fair values for individual stratum are based on the present value of estimated
future cash flows using a discount rate commensurate with the risks involved.
Estimates of fair value include assumptions about prepayment, default and
interest rates, and other factors which are subject to change over time. Changes
in these underlying assumptions could cause the fair value of loan servicing
rights, and the related valuation allowance, to change significantly in the
future.
GOODWILL AND CORE DEPOSIT INTANGIBLES: Goodwill is the excess of purchase price
over identified net assets in business acquisitions. Goodwill is amortized on
the straight-line method over 15 years. Core deposit intangibles represent the
value of depositor relationships purchased and are amortized on accelerated
methods over 10 years. Goodwill was $870,000 and $932,000 and core deposit
intangibles were $559,000 and $664,000 at December 31, 1997 and 1996
respectively, and these balances are included in other assets.
OTHER REAL ESTATE: Other real estate ($103,000 and $76,000 at December 31, 1997
and 1996 respectively), which is included in other assets, comprises properties
acquired through a foreclosure proceeding or acceptance of a deed in lieu of
foreclosure. These properties are initially recorded at fair value at the date
of foreclosure, establishing a new cost basis. After foreclosure, valuations are
periodically performed by management and real estate is carried at the lower of
fair value minus estimated cost of disposal or cost.
INCOME TAXES: Deferred tax assets and liabilities are determined based on
differences between financial reporting and tax bases of assets and liabilities
and are measured using the enacted tax rates and laws that will be in effect
when the differences are expected to reverse.
EARNINGS PER SHARE: Basic earnings per share is based on weighted-average common
shares outstanding. Diluted earnings per share further assumes issue of any
dilutive potential common shares. The accounting standard for computing earnings
per share was revised for 1997, and all earnings per share previously reported
are restated to follow the new standard. The weighted average common shares
outstanding for the years ended December 31, 1997, 1996 and 1995 were 1,910,449,
1,886,324 and 1,853,982, respectively. All share and per share data have been
adjusted for a 1997 stock split effected in the form of a 100% stock dividend
and include the common stock subject to repurchase obligation in the ESOP.
18
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 18
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE A - NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
CASH FLOW INFORMATION: For purposes of the consolidated statements of cash
flows, the Company considers cash and due from banks as cash and cash
equivalents.
PENDING ACCOUNTING CHANGES: The FASB has issued Statement 125, "Transfers and
Servicing of Financial Assets and Extinguishment of Liabilities". The Statement
is effective for some transactions in 1997 and others in 1998. It revises the
accounting for transfers of financial assets, such as loans and securities, and
for distinguishing between sales and secured borrowings. The Company adopted the
1997 provisions effective January 1, 1997. The remaining provisions for 1998
relate primarily to investment securities. The effect of the 1998 provisions on
the financial statements has not yet been determined.
The FASB has issued Statement 130, "Reporting Comprehensive Income", which is
effective for both interim and year-end financial statements for fiscal years
beginning after December 15, 1997. Statement 130 establishes 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. Comprehensive income is defined as all changes in equity other than
those resulting from investments by owners or distributions by owners. Net
income is, therefore, a component of comprehensive income. The most common items
of other comprehensive income include unrealized gains or losses on securities
available for sale, gains and losses on certain foreign currency transactions,
and minimum pension liability adjustments. While full disclosure for each
reported period is required in year-end financial statements, in-terim financial
statements need only disclose total comprehensive income for each reported
period. No disclosure is required if the Company has no items of other
comprehensive income in any reported period included in the financial
statements. The effect of the provisions on the financial statements has not yet
been determined.
The Statement does not mandate a specific format for reporting comprehensive
income, but it does require that all items that are required to be recognized as
components of comprehensive income be reported in a financial statement that is
displayed with the same prominence as other financial statements. Companies will
generally choose between adding the items of other comprehensive income to the
Income Statement, adding them to the Statement of Changes in Shareholders'
Equity or displaying a new financial statement, which could be titled Statement
of Comprehensive Income.
The FASB has issued Statement 131, "Disclosures About Segments of an Enterprise
and Related Information" which is effective for reported periods included in
year-end financial statements for fiscal years beginning after December 15, 1997
and for all reported periods in interim financial statements for reporting
periods following the first required full fiscal year disclosure. Statement 131
establishes new guidance for the way that public business enterprises report
information about operating segments in annual financial statements and requires
that those enterprises report selected information about reportable operating
segments in interim financial reports issued to shareholders. Statement 131
supersedes the industry approach to segment disclosures previously required by
Statement 14, "Financial Reporting for Segments of a Business Enterprise",
replacing it with a method of segment reporting which is based on the structure
of an enterprise's internal organization reporting. The Statement also
establishes standards for related disclosures about products and services,
geographic areas and major customers. The effect of the provisions on the
financial statements has not yet been determined.
NOTE B - INVESTMENT SECURITIES
Year end investment securities were as follows (in thousands):
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
AVAILABLE-FOR-SALE, 1997 COST GAINS LOSSES VALUE
---------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury and other U.S.
Government agencies $ 6,259 $ 10 $ 7 $ 6,262
States and political
subdivisions thereof 3,464 36 3,500
Corporate securities 1,096 4 1,100
Mortgage-backed securities 1,646 1 5 1,642
---------------------------------------------
Total debt securities 12,465 51 12 12,504
Equity securities 349 349
---------------------------------------------
TOTALS 12,814 51 12 12,853
=============================================
</TABLE>
1997 Annual Report to Shareholders
19
<PAGE> 19
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE B - INVESTMENT SECURITIES (CONTINUED)
<TABLE>
<CAPTION>
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR
Available-for-sale, 1996 COST GAINS LOSSES VALUE
---------------------------------------------
<S> <C> <C> <C> <C>
U.S. Treasury and other U.S.
Government agencies $15,305 $ 65 $ 50 $ 15,320
States and political
subdivisions thereof 2,579 13 6 2,586
Corporate securities 4,144 22 4,166
Mortgage-backed securities 1,959 13 1,946
---------------------------------------------
Total debt securities 23,987 100 69 24,018
Equity securities 81 81
---------------------------------------------
TOTALS 24,068 100 69 24,099
=============================================
HELD TO MATURITY, 1997
States and political
subdivisions thereof $17,060 $ 326 $ 1 $ 17,385
Corporate securities 14,464 41 15 14,490
---------------------------------------------
Total debt securities 31,524 367 16 31,875
Equity securities 697 697
---------------------------------------------
TOTALS 32,221 367 16 32,572
=============================================
Held to maturity, 1996
States and political
subdivisions thereof $16,449 $ 316 $ 9 $ 16,756
Corporate securities 15,422 42 64 15,400
Mortgage-backed securities 7 1 8
---------------------------------------------
Total debt securities 31,878 359 73 32,164
Equity securities 622 622
---------------------------------------------
TOTALS $32,500 $ 359 $ 73 $ 32,786
=============================================
</TABLE>
Sales of available-for-sale securities were (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
------------------------------------
<S> <C> <C> <C>
Proceeds $255 $509 $517
Gross gains 5 10 17
Gross losses 0 0 0
</TABLE>
Contractual maturities of debt securities at year-end 1997 were as follows (in
thousands). Securities not due at a single maturity date, primarily
mortgage-backed securities, are shown separately. Expected maturities may differ
from contractual maturities because borrowers may have the right to call or
prepay obligations with or without call or prepayment penalties.
<TABLE>
<CAPTION>
HELD-TO-MATURITY SECURITIES AVAILABLE-FOR-SALE SECURITIES
AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE
--------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Due in one year or less $ 5,488 $ 5,494 $ 4,100 $ 4,102
Due from one to five years 20,721 20,886 4,092 4,121
Due from five to ten years 4,714 4,854 2,369 2,378
Due after ten years 601 641 258 261
Mortgage-backed securities 1,646 1,642
--------------------------------------------------------------------------
$31,524 $31,875 $12,465 $12,504
==========================================================================
</TABLE>
Investment securities with an amortized cost of $3,675,000 and $2,675,000 were
pledged as collateral for public deposits and for other purposes in 1997 and
1996.
20
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 20
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE C - LOANS
A summary of the carrying amount of loans outstanding at December 31 follows (in
thousands):
<TABLE>
<CAPTION>
1997 1996
-----------------------
<S> <C> <C>
Commercial, financial and agricultural $ 74,819 $ 72,108
Real estate mortgage 49,144 47,561
Installments 34,778 33,009
-----------------------
TOTALS $158,741 $152,678
=======================
</TABLE>
Certain directors and executive officers of the Company and the Bank, including
their associates and companies in which they are principal owners, were loan
customers of the Bank. Loans to these customers are made in the ordinary course
of business at normal credit terms, including interest rates and collateral, and
generally do not involve more than normal risk of collectibility. The following
is a summary of loans (in thousands) exceeding $60,000 in the aggregate to these
individuals and their associates.
<TABLE>
<CAPTION>
1997 1996
-----------------------
<S> <C> <C>
Balance at January 1 $2,599 $1,874
New loans 6,974 4,545
Repayments 5,851 3,820
-----------------------
Balance at December 31 $3,722 $2,599
=======================
</TABLE>
The unpaid principal balance of mortgage loans serviced for others, which are
not included on the consolidated balance sheet, was $31,085,000 and $16,836,000
at December 31, 1997 and 1996, respectively. The balance of loans serviced for
others related to servicing rights that have been capitalized was $ 26,214,000
in 1997 and $11,073,000 in 1996. The remaining balance of loans serviced for
others also have servicing rights associated with them; however, these servicing
rights arose prior to the adoption of FASB Statement 122, and accordingly, have
not been capitalized on the balance sheet.
Activity for capitalized mortgage servicing rights was as follows (in
thousands):
<TABLE>
<CAPTION>
1997 1996
--------------------
<S> <C> <C>
Balance at January 1 $142 $ 0
Additions 236 152
Amortized to expense 51 10
--------------------
Balance at December 31 $327 $142
====================
</TABLE>
No valuation allowance was necessary at December 31, 1997 or 1996.
NOTE D - ALLOWANCES FOR LOAN LOSSES
Changes in the allowance for loan losses for the years ended December 31 were as
follows (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
-----------------------------------
<S> <C> <C> <C>
Balance at January 1 $ 1,814 $ 1,609 $ 1,498
Provision for loan losses 460 267 222
Loans charged off (508) (170) (211)
Recoveries 97 108 100
-----------------------------------
Net charge-offs (411) (62) (111)
-----------------------------------
Balance at December 31 $ 1,863 $ 1,814 $ 1,609
===================================
</TABLE>
<TABLE>
<CAPTION>
1997 1996
---------------
Information regarding impaired loans follows:
<S> <C> <C>
Average investment in impaired loans during the year $1,501 $ 218
====== ======
Interest income recognized on impaired loans on a cash basis
during the year $ 118 $ 9
====== ======
Total impaired loans at year end $1,328 $ 209
Less loans for which no allowance for loan losses is allocated 68 12
====== ======
Impaired loans for which an allowance for loan losses is allocated $1,260 $ 197
====== ======
Portion of allowance allocated to these loans $ 358 $ 33
====== ======
</TABLE>
1997 Annual Report to Shareholders
21
<PAGE> 21
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE E - PREMISES AND EQUIPMENT
Major classes of premises and equipment at December 31 follow (in thousands):
<TABLE>
<CAPTION>
1997 1996
----------------------
<S> <C> <C>
Land $ 540 $ 540
Buildings and improvements 6,525 6,032
Equipment 2,534 2,179
----------------------
9,599 8,751
Less accumulated depreciation 4,011 3,524
----------------------
TOTALS $5,588 $5,227
======================
</TABLE>
Depreciation and amortization expense charged to operations was approximately
$527,000, $410,000 and $275,000 in 1997, 1996 and 1995, respectively.
NOTE F - DEPOSITS
The carrying amount of domestic deposits at December 31 follows (in thousands):
<TABLE>
<CAPTION>
1997 1996
---------------------
<S> <C> <C>
Non-interest bearing checking $ 30,923 $ 35,014
Interest bearing checking 32,085 28,615
Passbook savings 29,163 28,917
Money market accounts 34,271 34,128
Time deposits 64,301 66,551
Individual retirement accounts and other deposits 16,322 16,242
---------------------
TOTALS $207,065 $209,467
=====================
</TABLE>
The carrying amount of time deposits over $100,000 was $16,437,000 and
$17,438,000 at December 31, 1997 and 1996, respectively. Interest expense on
time deposits over $100,000 was $1,025,000, $837,000, and $956,000 at December
31, 1997, 1996 and 1995, respectively.
At December 31, 1997, scheduled maturities of time deposits were as follows:
1998 $50,284
1999 7,802
2000 5,481
2001 683
2002 12
Thereafter 39
-------
$64,301
=======
The amount of deposits accepted from certain officers and directors was
$1,762,000 and $1,527,000 at December 31, 1997 and 1996, respectively.
NOTE G - OTHER BORROWINGS
Other borrowings represents a putable advance obtained by the Bank from the
Federal Home Loan Bank (FHLB) of Indianapolis. The advance matures on December
16, 2002 and bears a fixed interest rate of 5.71% until December 16, 2000. On
that date, the FHLB will have the option to convert the advance to a periodic
adjustable rate and will continue to have this option quarterly thereafter. The
advance may not be prepaid by the Bank prior to the FHLB exercising its option
to convert the advance to an adjustable rate. The advance is secured by a
blanket collateral agreement with the FHLB which gives the FHLB an unperfected
security interest in the Bank's one-to-four family whole mortgage loans,
government and agency securities and highly rated private mortgage-backed
securities.
Interest paid on deposits and other borrowings was $7,464,000 in 1997,
$6,538,000 in 1996 and $6,327,000 in 1995.
NOTE H - INCOME TAXES
The components of federal income taxes for the years ended December 31 were as
follows (in thousands):
1997 1996 1995
---------------------------------------
Currently payable $ 1,065 $ 1,181 $ 953
Deferred expense (benefit) 20 (31) (118)
---------------------------------------
$ 1,085 $ 1,150 $ 835
=======================================
22
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE H - INCOME TAXES (CONTINUED)
A reconciliation of federal income taxes with amounts computed by applying the
statutory federal income tax rate is as follows (in thousands):
<TABLE>
<CAPTION>
1997 1996 1995
----------------------------------
<S> <C> <C> <C>
Statutory tax on pretax income, including tax on security
gains ($2,000 in 1997, $3,000 in 1996 and $6,000 in 1995) $ 1,400 $ 1,431 $ 1,173
Effect of tax-exempt interest income (254) (227) (231)
Effect of life insurance policy cash surrender value increase (65) (75) (60)
Other items-net 4 21 (47)
----------------------------------
$ 1,085 $ 1,150 $ 835
==================================
</TABLE>
The components of deferred tax assets and liabilities are comprised of the
following at December 31 (in thousands):
<TABLE>
<CAPTION>
1997 1996
----------------
<S> <C> <C>
Deferred tax assets:
Allowance for loan losses $ 405 $ 389
Deferred compensation liability 430 392
Pension liability 81 91
Other 132 120
----------------
1,048 992
Deferred tax liabilities:
Net unrealized appreciation on available-for-sale securities 13 10
Mortgage servicing rights 111 48
Other 23 11
----------------
147 69
----------------
Net deferred tax asset $ 901 $ 923
================
</TABLE>
The Company made income tax payments of $1,130,000 in 1997, $1,245,000 in 1996
and $910,000 in 1995. An allowance against the deferred tax asset was not
considered necessary at December 31, 1997, 1996, or 1995.
NOTE I - RETIREMENT PLANS
The Bank has a noncontributory defined benefit pension plan covering
substantially all full-time employees. The benefits are based on years of
service and the employee's average highest compensation during five consecutive
years of employment. The funding policy is to contribute annually an amount
sufficient to meet the minimum funding requirements set forth in the Employee
Retirement Income Security Act of 1974, plus additional amounts as the Bank may
determine to be appropriate from time to time. Assets of the plan are held in
trust by the Bank. Contributions are intended to provide not only for benefits
attributed to service to date but also for those expected to be earned in the
future.
The following table sets forth the plan's funded status and amounts recognized
in the Company's balance sheets at December 31 (in thousands):
<TABLE>
<CAPTION>
1997 1996
-------------------------
<S> <C> <C>
Actuarial present value of benefit obligation:
Accumulated benefit obligation, including vested benefits
of $1,155 in 1997 and $1,070 in 1996 $ 1,200 $ 1,101
Projected benefit obligation for service rendered to date (1,715) (1,853)
Plan assets at fair value, primarily certificates of deposit and equity securities 1,856 1,574
-------------------------
Projected benefit obligation less than (in excess of) plan assets 141 (279)
Unrecognized net gain (447) (71)
Unrecognized transition obligation 21 25
Unrecognized prior service cost 61 73
-------------------------
Accrued pension cost included in other liabilities $ (224) $ (252)
=========================
</TABLE>
Net pension cost included the following components:
<TABLE>
<CAPTION>
1997 1996 1995
----------------------------
<S> <C> <C> <C>
Service cost-benefits earned during the period $ 130 $ 139 $ 125
Interest cost on projected benefit obligation 113 112 97
Actual return on plan assets (330) (195) (256)
Net amortization and deferral 205 98 183
----------------------------
Net periodic pension cost $ 118 $ 154 $ 149
============================
</TABLE>
1997 Annual Report to Shareholders
23
<PAGE> 23
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE I - RETIREMENT PLANS (CONTINUED)
The weighted-average discount rate and rate of increase in future compensation
levels used in determining the actuarial present value of the projected benefit
obligation were 7% for each of the periods and 3.5% in 1997 and 5% in 1996 and
1995.
The expected long term rate of return on plan assets was 8%.
The Company has an employee stock ownership plan (ESOP) for substantially all
full-time employees. The Board of Directors determines the Company's
contribution level annually. Assets of the plan are held in trust by the Bank
and administrative costs ofthe plan are borne by the plan sponsor. Costs charged
to operations for contributions to the plan totaled $66,000 in 1997, $71,000 in
1996 and $61,000 in 1995.
As of December 31, 1997 and 1996, the ESOP held 144,082 and 161,594 shares of
the Company's stock all of which is allocated to employees. The fair value of
the shares held by the ESOP approximated $4,899,000 and $3,555,000 at December
31, 1997 and 1996, respectively. Upon distribution of shares to a participant,
the participant has the right to require the Company to purchase shares at their
fair value in accordance with terms and conditions of the plan. As such these
shares are not classified in shareholders' equity as permanent equity.
As an incentive to retain key members of management and directors, the Bank has
a deferred compensation plan whereby participants defer a portion of current
compensation. Benefits are based on salary and length of service and are vested
as service is provided from the date of participation through age 65. A
liability is recorded on a present value basis and discounted at current
interest rates. This liability may change depending upon changes in long-term
interest rates. Deferred compensation expense was $187,000 in 1997, $176,000 in
1996 and $195,000 in 1995. The liability for vested benefits was $1,264,000 at
December 31, 1997 and $1,154,000 at December 31, 1996. The Bank holds life
insurance contracts on the plan's participants. The cash surrender value of
these policies was $3,725,000 at December 31, 1997 and $3,458,000 at December
31, 1996 and is included in other assets in the accompanying consolidated
financial statements.
NOTE J - COMMITMENTS
There are various commitments which arise in the normal course of business, such
as commitments under commercial letters of credit, standby letters of credit and
commitments to extend credit. Generally accepted accounting principles recognize
these transactions as contingent liabilities and accordingly, they are not
reflected in the accompanying financial statements. These arrangements have
credit risk essentially the same as that involved in extending loans to
customers and are subject to the Bank's normal credit policies. Collateral
generally consists of receivables, inventory and equipment and is obtained based
on management's credit assessment of the customer.
At December 31, 1997, the Bank had commitments under commercial letters of
credit, used to facilitate customers' trade transactions, of $136,000 (1996 -
$808,000).
Under standby letter of credit agreements, the Bank agrees to honor certain
commitments in the event that its customers are unable to do so. At December 31,
1997 commitments under outstanding standby letters of credit were $347,000 (1996
- - $203,000).
Loan commitments outstanding to extend credit at December 31 are detailed below:
1997 1996
-------------------------------
Fixed rate $ 2,539,000 $ 1,892,000
Variable rate 20,510,000 24,537,000
-------------------------------
$23,049,000 $26,429,000
===============================
The fixed rate commitments have stated interest rates ranging from 6.9% to
18.0%. The terms of the above commitments range from 1 to 60 months.
Management does not anticipate any losses as a result of the above related
transactions; however, the above amount represents the maximum exposure to
credit loss for loan commitments and commercial and standby letters of credit.
NOTE K - RESTRICTIONS ON TRANSFERS FROM SUBSIDIARY
Banking laws and regulations restrict the amount the Bank may transfer to the
Company in the form of cash dividends, loans and advances. In 1998, the Bank is
permitted to pay the Company approximately $3,467,000 in addition to 1998 net
income as dividends without prior regulatory approval. Substantially all of the
remaining net assets of the Bank are restricted from transfer to the Company
under Federal Reserve regulations.
24
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 24
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE L - SOUTHERN MICHIGAN BANCORP, INC. (PARENT COMPANY ONLY) FINANCIAL
INFORMATION
Condensed financial statements of Southern Michigan Bancorp, Inc. follow (in
thousands):
Balance Sheets
<TABLE>
<CAPTION>
December 31
1997 1996
------------------
<S> <C> <C>
ASSETS
Cash $ 19 $ 21
Investment securities available-for-sale 3,096 2,571
Investment in subsidiary 21,141 19,373
Premises and equipment 1,202 1,164
Other 414 365
-----------------
TOTAL ASSETS $25,872 $23,494
=================
LIABILITIES AND SHAREHOLDERS' EQUITY
Dividends payable $ 383 $ 323
Common stock subject to repurchase obligation in ESOP 4,899 3,555
Shareholders' equity 20,590 19,616
-----------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $25,872 $23,494
=================
</TABLE>
Statements of Income
<TABLE>
<CAPTION>
Year ended December 31
1997 1996 1995
------------------------------
<S> <C> <C> <C>
Dividends from Bank $ 1,109 $ 1,001 $ 920
Interest income 137 113 94
Other income 206 205 104
Other expenses (49) (31) (40)
-----------------------------
1,403 1,288 1,078
Federal income tax expense (68) (98) (54)
-----------------------------
1,335 1,190 1,024
Equity in undistributed net income of subsidiary 1,697 1,868 1,591
-----------------------------
NET INCOME $ 3,032 $ 3,058 $ 2,615
=============================
</TABLE>
<TABLE>
<CAPTION>
Statements of Cash Flows Year ended December 31
1997 1996 1995
-----------------------------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net income $ 3,032 $ 3,058 $ 2,615
Adjustments to reconcile net income to net
cash provided by operating activities:
Equity in undistributed net income of subsidiary (1,697) (1,868) (1,591)
Amortization of investment security premiums and
accretion of discounts 13 14 4
Provision for depreciation 31 29 26
Other (146) 34 (125)
-----------------------------
Net cash provided by operating activities 1,233 1,267 929
</TABLE>
1997 Annual Report to Shareholders
25
<PAGE> 25
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE L - SOUTHERN MICHIGAN BANCORP, INC. (PARENT COMPANY ONLY)
FINANCIAL INFORMATION (CONTINUED)
Statements of Cash Flows (continued)
<TABLE>
<CAPTION>
Year ended December 31
1997 1996 1995
-----------------------------
<S> <C> <C> <C>
INVESTING ACTIVITIES
Proceeds from maturities of investment securities available-for-sale $ 734 $ 2,614 $ 2,443
Proceeds from maturities of investment securities held to maturity 0 780 514
Purchases of investment securities available-for-sale (1,248) (4,110) (2,224)
Purchases of investment securities held to maturity (0) (1,298)
Purchases of premises and equipment (62) (116) (22)
-----------------------------
Net cash used in investing activities (576) (832) (587)
FINANCING ACTIVITIES
Cash dividends (1,049) (1,014) (763)
Common stock issued 390 575 385
-----------------------------
Net cash used in financing activities (659) (439) (378)
-----------------------------
DECREASE IN CASH (2) (4) (36)
Cash at beginning of year 21 25 61
-----------------------------
CASH AT END OF YEAR $ 19 $ 21 $ 25
=============================
</TABLE>
NOTE M - FAIR VALUE INFORMATION
FASB Statement 107, "Disclosures about Fair Value of Financial Instruments,"
requires disclosure of fair value information aboutfinancial instruments,
whether or not recognized in the balance sheet, for which it is practicable to
estimate that value. In caseswhere quoted market prices are not available, fair
values are based on estimates using present value or other valuation techniques.
Those techniques are significantly affected by the assumptions used, including
the discount rate and estimates of future cash flows. Statement 107 excludes
certain financial instruments and all nonfinancial instruments from its
disclosure requirements.. Accordingly, the aggregate fair value amounts
presented do not represent the underlying value of the Company and represent
point-in-time estimates of value that might not be particularly relevant in
predicting the Company's future earnings or cash flows.
The following methods and assumptions were used by the Company in estimating its
fair value disclosures for financial instruments:
CASH AND CASH EQUIVALENTS: The carrying amounts reported in the balance
sheet for cash and due from banks approximate those assets' fair values.
INVESTMENT SECURITIES (INCLUDING MORTGAGE-BACKED SECURITIES): Fair values
for investment securities are based on quoted market prices, where
available. If quoted market prices are not available, fair values are based
on quoted market prices of comparable instruments. The fair value of
restricted equity securities approximates amortized cost.
LOANS: For variable-rate loans that reprice frequently and with no
significant change in credit risk, fair values are based on carrying
values. The fair values for other loans are estimated using discounted cash
flows analyses, using interest rates currently being offered for loans with
similar terms to borrowers of similar credit quality.
OFF-BALANCE-SHEET INSTRUMENTS: Fair values for the Bank's letters of credit
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. It is not practicable to estimate the fair
value of lending commitments because of the wide variety of the
instruments.
26
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE M - FAIR VALUE INFORMATION (CONTINUED)
DEPOSIT LIABILITIES: The fair values disclosed for demand deposits (e.g.,
interest and non-interest checking, passbook savings, and certain types of
money market accounts) are, by definition, equal to the amount payable on
demand at the reporting date (i.e., their carrying amounts). Fair values
for fixed-rate certificates of deposit are estimated using a discounted
cash flow calculation that applies interest rates currently being offered
on certificates to a schedule of expected monthly maturities on time
deposits.
OTHER BORROWINGS: The fair value of the Bank's other borrowings is
estimated using discounted cash flows analysis based on the Bank's current
incremental borrowing rate for similar types of borrowing arrangements.
The estimated fair values of the Company's financial instruments at December 31
are as follows (in thousands):
<TABLE>
<CAPTION>
1997 1996
------------------------------ -------------------------------
CARRYING FAIR Carrying Fair
AMOUNT VALUE Amount Value
------------------------------ -------------------------------
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 16,848 $ 16,848 $ 13,520 $ 13,520
Federal funds sold 4,500 4,500
Investment securities available-for-sale 12,853 12,853 24,099 24,099
Investment securities held to maturity 32,221 32,572 32,500 32,786
Loans 158,741 158,378 152,678 152,632
1997 1996
------------------------------ -------------------------------
CARRYING FAIR Carrying Fair
AMOUNT VALUE Amount Value
------------------------------ -------------------------------
Financial liabilities:
Deposits $ (207,065) $ (207,057) $ (209,467) $ (209,817)
Other borrowings (3,000) (3,000)
Unrecognized financial instruments:
Commercial letters of credit $ (3) $ (16)
Standby letters of credit (7) (4)
</TABLE>
1997 Annual Report to Shareholders
27
<PAGE> 27
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE N - REGULATORY MATTERS
The Company and Bank are subject to regulatory capital requirements administered
by federal banking agencies. Capital adequacy guidelines and prompt corrective
action regulations involve quantitative measures of assets, liabilities and
certain off-balance-sheet items calculated under regulatory accounting
practices. Capital amounts and classifications are also subject to qualitative
judgments by regulators about components, risk weightings and other factors, and
the regulators can lower classifications in certain cases. Failure to meet
various capital requirements can initiate regulatory action that could have a
direct material effect on the financial statements.
The prompt corrective action regulations provide five classifications, including
well capitalized, adequately capitalized, under-capitalized, significantly
undercapitalized and critically undercapitalized, although these terms are not
used to represent overall financial condition. If adequately capitalized,
regulatory approval is required to accept brokered deposits. If
undercapitalized, capital distributions are limited, as is asset growth and
expansion, and plans for capital restoration are required. The minimum
requirements are:
Capital to risk-
weighted assets
---------------- Tier 1 capital
Total Tier 1 to average assets
---------------- -----------------
Well capitalized 10% 6% 5%
Adequately capitalized 8% 4% 4%
Undercapitalized 6% 3% 3%
At year end, actual capital levels (in thousands) and minimum required levels
were:
<TABLE>
<CAPTION>
Minimum Required
To Be
Minimum Required Well Capitalized
For Capital Under Prompt Corrective
Actual Adequacy Purposes Action Regulations
------------------ ------------------ ---------------------
Amount Ratio Amount Ratio Amount Ratio
------------------ ------------------ ---------------------
<S> <C> <C> <C> <C> <C> <C>
1997
Total capital (to risk weighted assets)
Consolidated $25,295 14.3% $14,143 8.0% $17,679 10.0%
Bank $21,002 12.0% $13,977 8.0% $17,471 10.0%
Tier 1 capital (to risk weighted assets)
Consolidated $23,432 13.3% $7,072 4.0% $10,607 6.0%
Bank $19,139 11.0% $6,988 4.0% $10,483 6.0%
Tier 1 capital (to average assets)
Consolidated $23,432 10.1% $9,250 4.0% $11,563 5.0%
Bank $19,139 8.3% $9,192 4.0% $11,490 5.0%
1996
Total capital (to risk weighted assets)
Consolidated $22,731 12.9% $14,067 8.0% $17,584 10.0%
Bank $18,921 10.9% $13,909 8.0% $17,386 10.0%
Tier 1 capital (to risk weighted assets)
Consolidated $20,917 11.9% $7,034 4.0% $10,550 6.0%
Bank $17,107 9.8% $6,954 4.0% $10,431 6.0%
Tier 1 capital (to average assets)
Consolidated $20,917 9.9% $8,423 4.0% $10,529 5.0%
Bank $17,107 8.2% $8,304 4.0% $10,379 5.0%
</TABLE>
The Company and Bank at year-end 1997 and 1996 were categorized as well
capitalized.
28
Southern Michigan Bancorp, Inc. and Subsidiary
<PAGE> 28
REPORT OF INDEPENDENT AUDITORS
[Crowe Chizek Logo]
Shareholders and Board of Directors
Southern Michigan Bancorp, Inc.
Coldwater, Michigan
We have audited the accompanying consolidated balance sheets of Southern
Michigan Bancorp, Inc. as of December 31, 1997 and 1996 and the related
consolidated statements of income, shareholders' equity and cash flows for each
of the three years in the period ended December 31, 1997. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Southern Michigan
Bancorp, Inc. as of December 31, l997 and 1996 and the results of its operations
and its cash flows for each of the three years in the period ended December 31,
1997 in conformity with generally accepted accounting principles.
Crowe, Chizek and Company LLP
Crowe, Chizek and Company LLP
Grand Rapids, Michigan
February 2, 1998
29
1997 Annual Report to Shareholders
<PAGE> 1
EXHIBIT (21)
SUBSIDIARY OF REGISTRANT
STATE OR COUNTY OF
NAME OF SUBSIDIARY INCORPORATION
- ------------------ -------------
Southern Michigan Bank & Trust Michigan
Southern Michigan Bancorp, Inc. is the immediate parent and owns 100% of the
outstanding shares of Southern Michigan Bank & Trust.
<PAGE> 1
EXHIBIT (23)
CONSENT OF INDEPENDENT ACCOUNTANTS
We consent to the incorporation by reference in the Registration Statement of
Southern Michigan Bancorp, Inc. on Form S-3 (Registration No. 33-24977), of our
report dated February 2, 1998 on the 1997 consolidated financial statements of
Southern Michigan Bancorp, Inc., which report is included in the 1997 Annual
Report on Form 10-K of Southern Michigan Bancorp, Inc.
Crowe, Chizek and Company LLP
Grand Rapids, Michigan
March 23, 1998
<TABLE> <S> <C>
<ARTICLE> 9
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET AND CONSOLIDATED STATEMENT OF INCOME FILED AS PART OF
THE ANNUAL REPORT ON FORM 10-K AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH ANNUAL REPORT ON FORM 10-K.
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 16848
<INT-BEARING-DEPOSITS> 0
<FED-FUNDS-SOLD> 4500
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 12853
<INVESTMENTS-CARRYING> 32221
<INVESTMENTS-MARKET> 32572
<LOANS> 158741
<ALLOWANCE> 1863
<TOTAL-ASSETS> 238531
<DEPOSITS> 207065
<SHORT-TERM> 0
<LIABILITIES-OTHER> 7876
<LONG-TERM> 3000
0
0
<COMMON> 4432
<OTHER-SE> 16158
<TOTAL-LIABILITIES-AND-EQUITY> 238531
<INTEREST-LOAN> 15741
<INTEREST-INVEST> 3050
<INTEREST-OTHER> 74
<INTEREST-TOTAL> 18865
<INTEREST-DEPOSIT> 7260
<INTEREST-EXPENSE> 7443
<INTEREST-INCOME-NET> 11422
<LOAN-LOSSES> 460
<SECURITIES-GAINS> 5
<EXPENSE-OTHER> 9169
<INCOME-PRETAX> 4117
<INCOME-PRE-EXTRAORDINARY> 4117
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 3032
<EPS-PRIMARY> 1.59
<EPS-DILUTED> 1.59
<YIELD-ACTUAL> 5.6
<LOANS-NON> 1087
<LOANS-PAST> 2663
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 3136
<ALLOWANCE-OPEN> 1814
<CHARGE-OFFS> 508
<RECOVERIES> 97
<ALLOWANCE-CLOSE> 1863
<ALLOWANCE-DOMESTIC> 1047
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 816
</TABLE>
