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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [FEE REQUIRED]
For the fiscal year ended December 31, 1997
-----------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from ___________ to __________
Commission File Number 0-84254
PIONEER BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
Delaware 62-1469913
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(State of incorporation) (I.R.S. Employer Identification No.)
801 Broad Street
Chattanooga, Tennessee 37402
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(Address of principal executive offices)
(423) 755-0000
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(Registrant's telephone number)
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
$.01 par value Common Stock
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 disclosure of delinquent filers pursuant to Rule 405
of Regulation S-K (Section 229.405 of this chapter) 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
---
As of February 18, 1998, the aggregate market value of voting stock held by
non-affiliates of the Registrant was approximately $189,875,556. The number of
shares outstanding of the Registrant's $0.01 par value common stock, as of
February 18, 1998 was 3,759,912.
Documents Incorporated by Reference:
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Portions of the Registrant's Proxy Statement for the 1997 Annual Meeting of
Shareholders to be held April 22, 1998, are incorporated by reference into Part
III of this Annual Report of Form 10-K.
This Annual Report on Form 10-K consists of 93 sequentially numbered pages. The
Exhibit Index is located on sequentially numbered page 91.
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PART I
ITEM-1 - BUSINESS
GENERAL
Pioneer Bancshares, Inc. (the "Company") is a Delaware corporation that
is a bank holding company registered with the Board of Governors of the Federal
Reserve System ("Federal Reserve") under the Bank Holding Company Act of 1956,
as amended (the "BHC Act"). The Company was incorporated July 8, 1991, by the
management of its principal subsidiary, Pioneer Bank. The holding company
formation was consummated on September 30, 1992, at which time the Company
acquired all of the outstanding shares of the common stock of Pioneer Bank in
exchange for 1,400,000 shares of the Company's $.01 par value common stock (the
"Common Stock"). The Company's principal business is owning three subsidiary
banks, Pioneer Bank, Valley Bank and Pioneer Bank, f.s.b. (the "Banks"), and
supervising and coordinating the activities of Pioneer Bank's subsidiaries and
affiliates. The Company coordinates the financial resources of the consolidated
enterprise and maintains financial, operational and administrative systems
allowing for the centralized evaluation of subsidiary operations and
coordination of selected policies and activities. The Company derives
substantially all of its income from the Banks through management fees,
dividends and undistributed earnings of the subsidiaries. The management fee
agreement is an arrangement between the Banks and the Company where chargeable
affiliate expenses incurred by the Company are paid directly by the
subsidiaries. The dividends paid to the Company are determined generally in
relation to the subsidiaries' earnings, growth and capital positions. As a bank
holding company, the Company is a legal entity separate and distinct from the
subsidiaries, each of which is managed as a separate entity. As of December 31,
1997, the Company had total consolidated assets of $956.9 million, total
consolidated deposits of $748.4 million and total consolidated stockholders'
equity of $99.9 million.
DEMOGRAPHIC AND ECONOMIC CHARACTERISTICS OF THE MARKETS
Pioneer Bank's Market
The following market analysis for Pioneer Bank was obtained from
statistics maintained by the Tennessee State Planning Office and the University
of Tennessee at Knoxville, Center for Business and Economic Research as well as
the Hamilton County Chamber of Commerce. Growth of employment within the
Chattanooga Metropolitan Statistical Area (MSA), which includes Hamilton and
Marion Counties, Tennessee, and Catoosa, Dade and Walker Counties, Georgia,
decreased slightly from 3.9% in 1996 to 3.4% in 1997. From year to year, the
civilian labor force and the total employed individuals remained unchanged and
the unemployment rate decreased from 4.7% to 4.1%. Average weekly earnings and
average hours worked (by production workers) increased by 2.5% and .7%,
respectively, from 1996 to 1997 continuing a trend that began in late 1995. The
general increase in economic statistics for 1997 indicates the economy is
growing at a moderate pace.
The population of Hamilton County for years 1980, 1990 and 1997
(estimated) was 287,740, 285,536 and 306,644, respectively. The population of
Marion County for such years was 24,416, 24,860, and 28,533 (estimate),
respectively. The Chattanooga MSA population has grown from 364,526 in 1970, to
417,935 in 1980, to 424,347 in 1990, and was estimated to be approximately
448,000 in 1997.
Hamilton County commerce has been relatively strong from 1996 to 1997
with some exceptions. The primary industries in the Chattanooga MSA are
services, manufacturing and retail trade. Taxable retail
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sales rose 6.2% from $3,225.4 million to $3,425.7 million (estimated), total new
cars and trucks sold decreased 8.8% from 18,141 to 16,548 (estimated) and
hotel/motel tax collected increased 3.9% from $2,796,131 to $2,906,288. Within
the Chattanooga MSA, the number of houses sold during 1997 increased by 5.4% to
4,129 (estimated) from 3,916 in 1996. During 1996, stable rates contributed to
continued growth in housing sales. During 1997, housing sales were sluggish in
the first six months of the year, but increased during the third and fourth
quarters, because of a decrease in residential mortgage interest rates.
Hamilton County building permits on an aggregate basis decreased by
6.6% from $397,306,543 in 1996 to $371,148,400 (estimated) in 1997. More
specifically, the number of residential single family dwelling permits decreased
6.2% from 1,540 to 1,444 (estimated) with values increasing 2.4% from
$155,259,161 to $158,980,452 (estimated), respectively. Residential duplex
permits decreased 11.1% from 27 to 24 (estimated) with values increasing 4.2%
from $2,880,292 to $3,002,060 (estimated), respectively. Residential apartment
permits decreased from fifteen to twelve (estimated) with the aggregate values
of such complexes increasing 39.6% from $1,859,554 to $2,595,464 (estimated),
respectively. Residential alteration permits increased 11.8% from 1,388 to 1,552
(estimated) and the values increased 12.9% from $25,858,333 to $29,217,452
(estimated) in 1996 and 1997, respectively. New nonresidential permits increased
8.1% from 259 to 280 (estimated) in 1996 and 1997, respectively, with values
decreasing 24.7% from $150,475,360 to $113,371,796 (estimated) in 1996 and 1997,
respectively. Nonresidential alterations increased 18.0% from 610 to 720
(estimated) with values increasing 31.3% from $60,974,143 to $80,063,836
(estimated).
Valley Bank's Market
Valley Bank conducts business in Monroe and McMinn Counties, Tennessee,
which are located approximately 60 miles northeast of Chattanooga on Interstate
75. The current rate of population growth of these counties approximates 6% per
decade. The aggregate population of Monroe and McMinn Counties in 1997 was
78,995. Per capita income levels were $13,501 and $15,487 (in 1996) for Monroe
and McMinn Counties, respectively, and are below Tennessee and national averages
of $19,285 and $23,854, respectively for the same period. The annual
unemployment rate of 7.9% for 1997 is relatively stable from 1996, but remains
above the state and national unemployment levels of 5.1% and 4.6%, respectively.
Total employment increased by 1.8% from 1996 to 1997. The primary industry in
the region is manufacturing, which represents approximately 50% of the jobs in
the area.
Annual retail sales in this market continued to increase during 1997
continuing a trend beginning in 1995. On an annualized basis, the total retail
sales of durable goods was up 6.5% from 1996 levels, as opposed to an increase
of 11.7% from 1995 to 1996. Furthermore, quarterly sales tax payments increased
on average 7.1% from 1996 to 1997.
Pioneer Bank, f.s.b.'s Market
Pioneer Bank, f.s.b. conducts business in the same market as Pioneer
Bank and in the Northwest Georgia area including Whitfield and Catoosa Counties,
which are located within a thirty mile radius south of Chattanooga on Interstate
75. The estimated aggregate population of Whitfield and Catoosa Counties in 1996
was 128,837 with a projected population growth of 4.30% by the year 2000. The
labor force size in 1997 was 47,184 and 24,261 for each of the counties,
respectively and unemployment rates were 4.5% and 3.7%, respectively, in 1997,
which is consistent with the state unemployment rate of 3.7%. The primary
industry in Northwest Georgia is carpeting and industries related to carpeting;
however, there are also other significant service and manufacturing industries.
There has been steady industrial growth in Northwest
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Georgia during the 1970's and 1980's, but the industrial growth rate has been
significantly higher during the 1990's and the trend is expected to continue.
Certain estimates project the aggregate population in the north Georgia area may
be large enough to be considered a metropolitan area by the year 2000.
PIONEER BANK
General
Pioneer Bank commenced operations in 1916 pursuant to a charter granted
by the State of Tennessee. Pioneer Bank offers a wide array of deposit accounts
and retail services, engages in consumer and commercial lending, provides a
variety of trust and fiduciary services and offers securities brokerage services
through Pioneer Securities, Inc., a wholly-owned subsidiary commencing business
in the Fall 1995. At December 31, 1997 Pioneer Bank operated 22 branch locations
in Hamilton and Marion Counties, Tennessee. Pioneer Bank currently has one
branch under construction in Dunlap, Tennessee in Sequatche County. Pioneer Bank
had $747,706,786 in assets, $577,802,304 in deposits and $72,596,431 of
stockholders' equity on December 31, 1997.
Loans
Pioneer Bank utilizes the following categories to segregate its loan
portfolio: consumer loans, commercial loans and real estate loans. The consumer
loan category represents all types of consumer installment loans, including
credit cards, both secured and unsecured. Commercial loans contain both secured
and unsecured credits including, but not limited to, the following types of
collateral: equipment, fixtures, inventory and accounts receivable. Real estate
construction, residential real estate and commercial real estate loans are
primarily secured by first mortgages. Underwriting criteria are governed by
Pioneer Bank's loan policy as approved by its Board of Directors. Policy
exceptions are permitted with approval of either the Loan Committee or
authorized loan officers. Generally, loans secured by real estate with
improvements are limited to an 80% loan-to-value ratio. However, a more
stringent loan-to-value ratio of 75% is applied to loans secured by unimproved
land with plans for development. Loans collateralized by unimproved or raw land
with no development plans are limited to a loan-to-value ratio of 65%. First and
second lien positions are considered in the aggregate when determining
loan-to-value ratios. Direct automobile loans are limited to 85% of the NADA
valuation or the purchase price, whichever is less. Indirect automobile loans
are limited to 115% of sticker price of the automobile. Loans secured with used
and new specialized equipment and machinery are limited to 70% and 80% of the
estimated fair value of the collateral, respectively.
As of December 31, 1997, loans with fixed interest rates totaled $339.3
million or 65.9% of total loans, with $32.6 million maturing in less than three
months and $32.2 million maturing in three months to one year. Those maturing in
one to five years totaled $245.7 million. Fixed rate loans with a maturity in
excess of five years were $28.8 million. As of December 31, 1997, floating rate
loans repricing quarterly or more frequently totaled $162.7 million. Floating
rate loans repricing annually or more frequently, but less frequently than
quarterly totaled $3.2 million. Floating rate loans repricing less frequently
than five years totaled $9.4 million. Management reviews the asset/liability gap
monthly and adjusts its interest rate sensitivity strategy accordingly. See
"---Interest Rate Sensitivity."
Pioneer Bank participates as an intermediary for the secondary market
underwriting of residential loans. In such a secondary market transaction, the
secondary market lender underwrites and funds the loan and Pioneer Bank closes
the loan without recording the loan on Pioneer Bank's accounting records.
Pioneer
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Bank does not have a policy requiring all real estate first mortgage loans be
conforming to the secondary market's underwriting standards.
Participation loans purchased are subject to Pioneer Bank's
underwriting criteria as described in the lending policy. Pioneer Bank has sold
participations in loans to other financial institutions for a total of $9.4
million as of December 31, 1997. Pioneer Bank also participates in the Small
Business Association's lending program and has $281,632 in participations sold
to other financial institutions as of December 31, 1997. Pioneer Bank has not
purchased any loan participations from other financial institutions as of
December 31, 1997.
As defined by Tennessee Code Annotated, Section 45-2-1102, Pioneer
Bank's legal lending limit, either secured or unsecured, with Board approval is
any amount up to, but no more than, 25% of common stock, surplus and undivided
profits. As of December 31, 1997, Pioneer Bank had a legal lending limit of
$18,149,000.
VALLEY BANK
General
Valley Bank began operations in 1884 in Sweetwater, Tennessee as the
thirteenth bank to be granted a charter by the State of Tennessee. Valley Bank
offers a wide array of deposit accounts and retail services and engages in
consumer, commercial, and real estate lending. At year end 1997, Valley Bank had
nine branch locations in Monroe and McMinn Counties, Tennessee. Valley Bank had
$190,964,785 in assets, $162,921,743 in deposits and $16,471,229 of
stockholders' equity on December 31, 1997.
Loans
Valley Bank categorizes its loans similar to Pioneer Bank with the
following segregation categories for its portfolio: consumer loans, commercial
loans and real estate loans. The consumer loan category represents all types of
consumer installment loans, including credit cards, both secured and unsecured.
Commercial loans contain both secured and unsecured credits including, but are
not limited to, the following types of collateral: equipment, fixtures,
inventory and accounts receivable. Real estate construction, residential real
estate and commercial real estate are primarily secured by first mortgages.
Underwriting criteria are governed by Valley Bank's loan policy as approved by
the Valley Bank Board of Directors. Policy exceptions are permitted with the
approval of either the Board, the bank president, the Loan Committee or a senior
officer. Generally, loans secured by real estate with improvements are limited
to an 80% loan-to-value ratio. However, a more stringent loan-to-value ratio of
75% is applied to loans secured by unimproved land with plans for development.
Loans collateralized by unimproved or raw land with no development plans are
limited to a loan-to-value ratio of 65%. First and second lien positions are
considered in the aggregate when determining loan-to-value ratios. Automobile
loans are limited to 85% of the NADA valuation or the purchase price, whichever
is less. Loans secured with used and new specialized equipment and machinery are
limited to 70% and 80% of the estimated fair value of the collateral,
respectively.
As of December 31, 1997 fixed rate loans totaled $75.8 million with
$9.7 million maturing in less than three months and $14.9 million maturing in
three months to one year. Those maturing in one to five years totaled $49.2
million. Fixed rate loans with a maturity in excess of five years were $2.0
million. As of December 31, 1997 floating rate loans repricing quarterly or more
frequently totaled $27.8 million.
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Floating rate loans repricing annually or more frequently but less frequently
than quarterly totaled $7.3 million. Floating rate loans repricing every five
years or more frequently, but less than annually totaled $15.0 million.
Management reviews the asset/liability gap monthly and adjusts the interest rate
sensitivity strategy accordingly. See "---Interest Rate Sensitivity."
Valley Bank participates as intermediary for the secondary market
underwriting of residential loans. Valley Bank does not have a policy that
requires all real estate first mortgage loans be conforming to the secondary
market's underwriting standards.
Participation loans purchased are subject to Valley Bank's underwriting
criteria as described in the lending policy. Valley Bank has purchased $7.7
million in participation loans as of December 31, 1997. Valley Bank participates
in the Small Business Administration's lending program and had $205,385 in
participations sold to other institutions as of December 31, 1997.
Valley Bank's legal lending limit with Board approval is any amount up
to, but no more than, 25% of common stock, surplus and undivided profits. As of
December 31, 1997 Valley Bank had a legal lending limit, either secured or
unsecured, of $4,118,000.
PIONEER BANK, F.S.B.
General
Pioneer Bank, f.s.b. commenced operations on September 9, 1997. The
Company's application to the Office of Thrift Supervision ("OTS") and the
Federal Deposit Insurance Corporation ("FDIC") to organize and subsequently
purchase a Tennessee based, de novo, federal savings bank ("FSB") was approved
during the third quarter of 1997. The Company's request from the FDIC to grant
the federally chartered FSB a "Bank Insurance Fund" insurance charter was also
approved. Pioneer Bank, f.s.b. offers a wide array of deposit accounts and
retail services and engages in consumer, commercial, and real estate lending. At
year end 1997, Pioneer Bank, f.s.b. had a total of two branch locations in
Whitfield County, Georgia and Hamilton County, Tennessee. Pioneer Bank, f.s.b
had $23,276,213 in assets, $15,284,311 deposits and $7,775,527 of stockholders'
equity on December 31, 1997.
Loans
Pioneer Bank, f.s.b. categorizes its loans similar to Pioneer Bank with
the following segregation categories for its portfolio: consumer loans,
commercial loans and real estate loans. The consumer loan category represents
all types of consumer installment loans, both secured and unsecured. Commercial
loans contain both secured and unsecured credits including, but are not limited
to, the following types of collateral: equipment, fixtures, inventory and
accounts receivable. Real estate construction, residential real estate and
commercial real estate are primarily secured by first mortgages. Underwriting
criteria are governed by Pioneer Bank, f.s.b.'s loan policy as approved by the
Pioneer Bank, f.s.b.'s Board of Directors. Policy exceptions are permitted with
the approval of either the Board, the bank president, the Loan Committee or a
senior officer. Generally, loans secured by real estate with improvements are
limited to an 80% loan-to-value ratio. However, a more stringent loan-to-value
ratio of 75% is applied to loans secured by unimproved land with plans for
development. Loans collateralized by unimproved or raw land with no development
plans are limited to a loan-to-value ratio of 65%. First and second lien
positions are considered in the aggregate when determining loan-to-value ratios.
Automobile loans are limited to 85% of the NADA valuation or the purchase price,
whichever is less. Loans secured with used and new specialized
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equipment and machinery are limited to 70% and 80% of the estimated fair value
of the collateral, respectively.
As of December 31, 1997 fixed rate loans totaled $7.3 million with $1.5
million maturing in less than three months and $517,608 maturing in three months
to one year. Those maturing in one to five years totaled $5.2 million. Fixed
rate loans with a maturity in excess of five years were $52,302. As of December
31, 1997 floating rate loans repricing quarterly or more frequently totaled $2.8
million. Floating rate loans repricing annually or more frequently but less
frequently than quarterly totaled $400,879. Management reviews the
asset/liability gap monthly and adjusts the interest rate sensitivity strategy
accordingly. See "---Interest Rate Sensitivity."
Pioneer Bank, f.s.b. participates as intermediary for the secondary market
underwriting of residential loans. Pioneer Bank, f.s.b. does not have a policy
that requires all real estate first mortgage loans be conforming to the
secondary market's underwriting standards.
Participation loans purchased are subject to Pioneer Bank, f.s.b.'s
underwriting criteria as described in the lending policy. Pioneer Bank, f.s.b.
did not have any purchased participation loans as of December 31, 1997. Pioneer
Bank, f.s.b. participates in the Small Business Administration's lending program
and had $281,632 in participations sold to other institutions as of December 31,
1997.
Pioneer Bank, f.s.b.'s legal lending limit with Board approval is any
amount up to, but no more than, 25% of common stock, surplus and undivided
profits. As of December 31, 1997 Pioneer Bank, f.s.b. had a legal lending limit,
either secured or unsecured, of $1,944,000.
NON-BANKING ACTIVITIES
Pioneer Bank
Pioneer Bank has two wholly owned subsidiaries, Pioneer Securities,
Inc. ("PSI") and Center Finance Corporation. PSI is a securities broker-dealer
providing securities and other nondeposit products and services to bank
customers, as well as non-bank customers. Pioneer Bank has two trusteed
affiliates, Frontier Corporation, a real estate management and development
company, and Valley Company, Inc., a trust company. These two corporations are
Tennessee state chartered and are affiliates through a trust agreement for the
benefit of Pioneer Bank shareholders. The trust agreements were established for
99 years, and are to expire in the year 2055. Through the trusteed affiliates of
Pioneer Bank, credit life related insurance products and real estate used for
banking facilities are provided to Pioneer Bank. Revenues from these activities
do not presently constitute a significant portion of the Company's total
operating revenues. During 1996, Pioneer purchased the stock of a trusteed
affiliate's wholly owned subsidiary, Center Loan & Thrift ("Center"), and
changed Center's name Center Finance Corporation. Center is now engaged in
consumer finance and related activities in Hamilton and Marion Counties. In the
future, the Company may engage in other activities permissible for bank and bank
holding company subsidiaries when suitable opportunities develop. Proposals for
such further activities may be subject to approval by appropriate regulatory
authorities. See "Supervision and Regulation".
ACQUISITIONS AND EXPANSION
The Company has considered various opportunities to possibly acquire
other depository institutions subsequent to the Valley Bank merger in 1995, and
will continue to consider opportunities for product and
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geographic expansion, with a focus on nearby areas of Tennessee and Georgia. The
acquisition of additional institutions will be subject to approval by
appropriate regulatory authorities. See "Supervision and Regulation."
COMPETITION
Pioneer Bank and Pioneer Bank, f.s.b. operates in a highly competitive
market area, the Chattanooga MSA which includes Hamilton and Marion Counties,
Tennessee and nearby parts of Northwest Georgia. Competition in these markets is
not only from other banks who perform a very wide spectrum of banking
activities, but it also from other types of financial institutions who compete
for deposits, commercial, fiduciary and investment services and various types of
loans and certain other financial services. Pioneer Bank and Pioneer Bank,
f.s.b. together vie for interest-bearing funds with a number of other financial
intermediaries and investment alternatives, including mutual funds, brokerage
firms, governmental and corporate bonds, and other securities. Competitors
include not only financial institutions headquartered in the State of Tennessee,
but also a number of large out-of-state bank holding companies and other
financial institutions who have an established market presence in the State of
Tennessee and the Chattanooga MSA. In addition, recent legislative and
regulatory changes and technological advances have enabled customers to conduct
banking activities without regard to geographical barriers through computer
based banking and similar services.
Valley Bank conducts business in a rural market area, Monroe and McMinn
Counties, Tennessee. Competition for traditional banking services, such as loans
and deposits, is less intense than in the Chattanooga MSA. In Valley Bank's
market, the principal financial institutions competing for loan products include
other community banks and credit unions. Competition for deposits comes from
these financial intermediaries, as well as brokerage firms in the form of
non-insured investment securities, such as mutual funds, stocks or bonds.
Management believes competition in this market will intensify.
The Company believes intense competition for banking business among
bank holding companies and other providers of financial services will continue
and competition may further intensify as interstate bank branching becomes more
prevalent. It is anticipated additional consolidation of smaller banks into
larger institutions will continue in the State of Tennessee for the foreseeable
future. See "Supervision and Regulation."
EMPLOYEES
As of December 31, 1997, the Company and its subsidiaries had
approximately 498 full time equivalent employees. The Company maintains training
and educational opportunities through its in-house training facility, Pioneer
University. Coordinating job required skills with educational and training
opportunities is the primary function of Pioneer University. Pioneer University
offers tuition reimbursement for college degrees, including master's programs,
so long as the course study is related to business. The Company maintains
affirmative action programs designed to prepare employees for positions of
increasing responsibility in both management and operations, and provides a
variety of benefit programs including group life, health, accident and other
insurance and retirement plans. None of the Company's employees are covered by a
collective bargaining agreement, and the Company believes its employees
relations are generally good.
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FISCAL AND MONETARY POLICY
Banking is a business which depends on interest rate differentials. In
general, the difference between the interest paid by a bank on its deposits and
its other borrowings, and the interest received by a bank on its loans and
securities holdings, constitutes the major portion of a bank's earnings. Thus,
the earnings and growth of the Company and its subsidiaries will be subject to
the influence of economic conditions generally, both domestic and foreign, and
also to the monetary and fiscal policies of the United States and its agencies,
particularly the Federal Reserve. The Federal Reserve regulates the supply of
money through various means, including open market operations in United States
government securities, the discount rate at which banks may borrow from the
Federal Reserve, and the reserve requirements on deposits.
The monetary policies of the Federal Reserve historically have had a
significant effect on the operating results of commercial banks and will
continue to do so in the future. In view of changing conditions in the national
and international economies and money markets, as well as the effect of actions
by monetary and fiscal authorities, no prediction can be made as to the future
effect changes in interest rates, deposit levels or loan demand may have on the
business and income of the Company and the Banks.
In March, 1997, the Federal Reserve took measures to restrict the
general economy by marginally raising interest rates. As a result, Pioneer
Bank's prime rate of interest increased by 25 basis points to 8.50% from 8.25%.
This prime rate remained unchanged during the rest of 1997. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Effects of Inflation and Changing Prices" and "- Interest Rate Sensitivity
Management."
STATISTICAL INFORMATION
Certain statistical information (as required by Guide 3) is included in
response to Item 7 of this Annual Report on Form 10-K. Certain statistical
information is included in response to Item 6 and Item 8 of this Annual Report
on Form 10-K.
<TABLE>
<CAPTION>
Page(s)
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<S> <C>
Loan Portfolio ............................................................ 25
Selected Loan Maturity and Interest Rate Sensitivity ...................... 26
Investment Portfolio ...................................................... 27
Investment Portfolio Maturity Schedule .................................... 28
Maturities of Time Deposits ............................................... 30
Short Term Borrowings ..................................................... 30
Returns on Equity and Assets .............................................. 31
Risk-Based Capital Calculation ............................................ 33
Interest Rate Sensitivity ................................................. 36
Consolidated Average Balances
Interest Income/ Expense and Yield/ Rates ............................ 40-41
Rate/ Volume Variance Analysis ............................................ 42-43
Summary of Loan Loss Experience ........................................... 45
Allocation of Loan Loss Reserve ........................................... 46
Impaired Loans ............................................................ 48
Nonperforming Assets ...................................................... 49
Noninterest Income ........................................................ 50
Noninterest Expense ....................................................... 51
Market Risk Information ................................................... 55
</TABLE>
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SUPERVISION AND REGULATION
Bank holding companies and banks are extensively regulated under both
federal and state law. The following is a brief summary of certain statutes,
rules, and regulations affecting the Company and its subsidiaries. This is a
summary of certain statutory and regulatory provisions referred to below and is
not intended to be and should not be viewed as complete description of the
statutes and regulations applicable to the Company's and its subsidiaries'
businesses. Supervision, regulation and examination of Company and its
subsidiary banks by the bank regulatory agencies are intended primarily for the
protection of bank depositors rather than shareholders of the Company.
BANK HOLDING COMPANY REGULATION
The Company is a "bank holding company" under the BHC Act, and is
registered with, and subject to supervision by, the Federal Reserve. As a bank
holding company, the Company is required to file periodic reports and such
additional information as the Federal Reserve may require pursuant to the BHC
Act. The Federal Reserve examines the Company and may examine each of its
subsidiaries. The State of Tennessee does not generally regulate bank holding
companies. Under the Tennessee Bank Structure Act of 1974, however, a bank that
has not been in operation for at least five years may not be acquired by a bank
holding company. Although a bank holding company may make acquisitions of banks
anywhere in the state, no bank holding company may retain 30% or more of the
total deposits in all insured financial institutions in Tennessee.
The BHC Act requires prior Federal Reserve approval for, among other
things, the acquisition by a bank holding company of direct or indirect
ownership or control of more than 5% of the voting shares or all or
substantially all of the assets of any bank, or for a merger or consolidation of
a bank holding company with another bank holding company. With certain
exceptions, the BHC Act prohibits a bank holding company from acquiring direct
or indirect ownership or control of any voting shares of any company which is
not a bank or bank holding company and from engaging directly or indirectly in
any activity other than banking or managing or controlling banks or performing
services for authorized subsidiaries. A bank holding company may, however,
engage in or acquire an interest in a company engaging in activities the Federal
Reserve has determined by order or regulation to be so closely related to
banking, managing or controlling banks as to be a proper incident thereto. The
BHC Act does not place territorial limitations on permissible non-banking
activities of bank holding companies.
The BHC Act, as amended by the interstate banking provisions of the
Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 ("Interstate
Banking Act"), which became effective on September 29, 1995, repealed the prior
statutory restrictions on interstate acquisitions of banks by bank holding
companies, such that the Company and any other bank holding company located in
Tennessee may now acquire a bank located in any other state, and any bank
holding company located outside Tennessee may lawfully acquire any bank based in
another state including Tennessee, regardless of state law to the contrary, in
either case subject to certain deposit-percentage, aging requirements, and other
restrictions. The Interstate Banking Act also generally provides that, after
June 1, 1997, national and state-chartered banks may consolidate existing bank
subsidiaries in different states and branch on an interstate basis. By adopting
legislation prior to that date, a state has the ability either to "opt in" and
accelerate the date after which interstate branching is permissible or "opt out"
and prohibit interstate branching. In the event a state adopts "opt-out"
legislation, banks domiciled in such states will be ineligible to branch into,
or consolidate their operations in other states.
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Tennessee has adopted legislation providing that, effective September
29, 1995, the Tennessee Reciprocal Banking Act was repealed, and the Tennessee
Bank Structure Act was amended, to, among other things, prohibit (subject to
certain exceptions) a bank holding company from acquiring a bank for which the
home state is Tennessee (a "Tennessee Bank") if, upon consummation, the company
would directly or indirectly control 30% or more of the total deposits in
insured depository institutions in Tennessee. The new Act permits Tennessee
banks and bank holding companies to be acquired by bank holding companies or
merge or consolidate with banks located anywhere in the United States, provided
the Tennessee bank must have been in operation for at least five years.
Interstate branching by merger or consolidation is permitted on and after June
1, 1997, but even then, de novo branching into Tennessee is prohibited.
Tennessee law permits a bank located in Tennessee to establish branches in any
county in Tennessee. The effects of the Riegle-Neal Act and the new Tennessee
legislation relating to interstate and intrastate acquisitions and branching
activities cannot be predicted, but may result in increased competition for the
Company.
Various legal limitations restrict the Banks from lending or otherwise
supplying funds to the Company and their other affiliates. The Company and its
subsidiaries are subject to Section 23A of the Federal Reserve Act, as amended
by the Banking Affiliates Act of 1982. Section 23A defines "covered
transactions," including extensions of credit, and limits a bank's covered
transactions with any single affiliate to no more than 10% of a bank's capital
and surplus. Covered transactions with all affiliates combined are limited to no
more than 20% of a bank's capital and surplus. All covered and exempt
transactions between a bank and its affiliates must be on terms and conditions
consistent with safe and sound banking practices. Further, banks and their
subsidiaries are prohibited from purchasing low-quality assets from the bank's
affiliates. Finally, Section 23A states that all extensions of credit by a bank
to an affiliate must be appropriately secured by acceptable collateral. The
Company and its subsidiaries are also subject to Section 23B of the Federal
Reserve Act, which generally limits covered and other transactions among
affiliates to terms and under circumstances, including credit standards, that
are substantially the same or at least as favorable to the Banks or their
subsidiaries as are prevailing at that time for transactions with unaffiliated
companies.
Federal Reserve policy requires a bank holding company to act as a
source of financial strength to each of its bank subsidiaries and to commit
resources to support each of its subsidiaries. Such policy also requires a bank
holding company to take measures to preserve and protect bank subsidiaries in
situations where additional investments in a troubled bank may not otherwise be
warranted. In addition, under the Financial Institutions Reform, Recovery and
Enforcement Act of 1989 ("FIRREA"), where a bank holding company has more than
one bank or thrift subsidiary, each of the bank holding company's other
subsidiary depository institutions may be responsible for any losses to the
Federal Deposit Insurance Corporation (the "FDIC") as a result of an affiliated
depository institution's failure. As a result, a bank holding company may be
required to loan money to its subsidiaries in the form of capital notes or other
instruments which qualify for capital under regulatory purposes and under
circumstances where such loans may not be otherwise prudent. However, any loans
from the holding company to such subsidiary banks will likely be unsecured and
subordinated to such bank's depositors and perhaps to other creditors of the
bank.
BANK REGULATION
Pioneer Bank and Valley Bank are each state banks organized under the
Tennessee Banking Act, and Pioneer Bank, f.s.b. is organized under the laws of
the United States. The Pioneer and Valley Banks'
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<PAGE> 12
deposits are insured by the Bank Insurance Fund (the "BIF") of the FDIC up to
the maximum amount permitted by law, and Pioneer Bank, f.s.b.'s deposits are
insured by the Savings Association Insurance Fund (the "SAIF") of the FDIC up
the maximum amount permitted by law. The Banks are subject to regulation,
supervision and regular examination by the FDIC, the Office of Thrift
Supervision ("OTS") and the Commissioner of the Tennessee Banking Department
(the "Commissioner"). Tennessee and Federal banking laws and regulations
control, among other things, the scope of the Banks' businesses, their loans and
investments, reserves against deposits, mergers and acquisitions, borrowings,
dividends, minimum capital requirements, and the location of branch offices and
certain facilities. The FDIC, OTS and the Commissioner each have authority to
approve or disapprove the establishment of branches, mergers, consolidations and
other similar corporate actions, and are authorized to prevent the continuance
or development of unsafe or unsound banking practices or other violations of
law.
PAYMENT OF DIVIDENDS
The Company is a legal entity separate and distinct from its banking
and other subsidiaries. The Company is substantially dependent upon dividends
and services fees from the Banks and its other affiliates to pay its
indebtedness and to meet its operating costs, since the Company currently has no
independent sources of revenue.
The Banks' ability to pay dividends, or otherwise supply funds to the
Company is limited by various laws and regulations. Dividends from the Banks
constitute the major sources of income for the Company. The payment of dividends
by the Banks are subject to the applicable restrictions contained in the
Tennessee Banking Act and the FDIC and OTS's regulations and interpretive
rulings. The Commissioner, the FDIC, the OTS and the Federal Reserve each have
the general authority to limit the dividends paid by insured banks and bank
holding companies, respectively, if such payment may be deemed to constitute an
unsafe or unsound practice. If, in the particular circumstances, the
Commissioner, the OTS or the FDIC determines the payment of dividends would
constitute an unsafe or unsound banking practice, the Commissioner, the OTS or
the FDIC could, among other things, prohibit or limit the payment of dividends
by the Banks.
The FDIC has the general authority to limit the dividends paid by
insured banks if such payment may be deemed to constitute an unsafe and unsound
practice. The FDIC has indicated that paying dividends that deplete a state
non-member bank's capital base to an inadequate level would be an unsound and
unsafe banking practice, and that banks should only pay dividends out of current
earnings.
BRANCHING LIMITATIONS
Since 1990, the Tennessee Banking Act has generally allowed, subject to
regulatory approval, branching without restriction throughout the State of
Tennessee. Tennessee-chartered banks and their holding companies may also
generally merge with or acquire banks in counties where they do not have
operations in order to enter a county. Inter-county branching may have increased
the competition experienced by the Banks by permitting banks to open branches in
the counties where they operate without requiring the acquisition of a bank
already operating there. However, if the Banks desire, they may also expand by
branching elsewhere in the State of Tennessee. See "Bank Holding Company
Regulation."
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<PAGE> 13
CAPITAL
The Federal Reserve and the OTS have adopted risk-based capital
guidelines for bank holding companies and federally chartered savings banks,
respectively. The FDIC has adopted final risk-based capital guidelines for state
non-member banks. Common equity, retained earnings, a limited amount of
qualifying noncumulative perpetual preferred stock and minority interest in the
equity accounts of consolidated subsidiaries less goodwill, other intangible
assets and certain investments in other corporations qualifies as "Tier 1
capital." Tier 1 capital plus subordinated debt, non qualifying preferred stock,
certain hybrid capital instruments (such as mandatory convertible debt) and a
limited amount of any loan loss allowance qualifies as "Total Capital." As fully
phased-in at the end of 1992, the guideline for a minimum ratio of Total Capital
to risk weighted assets (including certain off-balance-sheet activities, such as
standby letters of credit) is 8%.
In addition, the federal agencies have established minimum leverage
ratio guidelines for bank holding companies, federally chartered savings banks
and state non-member banks, providing for a minimum leverage ratio of Tier 1
capital to adjusted average quarterly assets ("leverage ratio") equal to 3%,
plus an additional cushion of 100 to 200 basis points (i.e., 1%-2%) if the
institution fails to meet certain assets, liquidity and interest rate risk
criteria or has less than the highest regulatory rating. The guidelines also
provide institutions experiencing internal growth or making acquisitions to
maintain strong capital positions substantially above the minimum supervisory
levels without significant reliance on intangible assets. Furthermore, the
Federal Reserve's guidelines indicate the Federal Reserve will continue to
consider a "Tangible Tier 1 leverage ratio" (deducting all intangibles) in
evaluating proposals for expansion or new activity.
The Federal Deposit Insurance Corporation Improvement Act of 1992
("FDICIA"), among other things, requires the federal banking agencies to take
"prompt corrective action" with respect to depository institutions not meeting
the minimum capital requirements. FDICIA establishes five capital tiers: "well
capitalized," "adequately capitalized," "undercapitalized," "significantly
undercapitalized," and "critically undercapitalized." A depository institution's
capital tier will depend upon how its capital levels compare to various relevant
capital measures and certain other factors, as established by regulation.
All of the federal banking agencies have adopted regulations
establishing relevant capital measures and relevant capital levels. The relevant
capital measures are the total capital ratio, Tier 1 capital ratio, and the
leverage ratio. Under the regulations, a state non-member bank will be (i) "well
capitalized" if it has a Total Capital ratio of 10% or greater, a Tier 1 capital
ratio of 6% or greater, and a leverage ratio of 5% or greater and is not subject
to any order or written directive by a federal bank regulatory agency to meet
and maintain a specific capital level for any capital measure, (ii) "adequately
capitalized" if it has a Total Capital ratio of 8% or greater, a Tier 1 capital
ratio of 4% or greater, and a leverage ratio of 4% or greater (3% in certain
circumstances) and is not well capitalized, (iii) "undercapitalized" if it has a
Total Capital ratio of less than 8%, a Tier 1 capital ratio of less than 4% (3%
in certain circumstances), or (iv) "critically undercapitalized" if its tangible
equity is equal to or less than 2% of average quarterly tangible assets.
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<PAGE> 14
As of December 31, 1997, the consolidated capital ratios of the Company
were as follows:
<TABLE>
<CAPTION>
Regulatory Pioneer
Minimums Bancshares, Inc.
-------- ----------------
<S> <C> <C>
Tier 1 capital ratio ........... 4.0% 12.91%
Total capital ratio ............ 8.0% 13.99%
Leverage ratio ................. 3.0 - 5.0% 10.29%
</TABLE>
The Federal Reserve imposes its capital adequacy requirements upon the
Company and its subsidiaries on a consolidated basis. FDICIA generally prohibits
a depository institution from making any capital distribution (including payment
of a dividend) or paying any management fee to its holding company if the
depository institution would thereafter be undercapitalized. Undercapitalized
depository institutions are subject to growth limitations and are required to
submit a capital restoration plan for approval. For a capital restoration plan
to be acceptable, the depository institution's parent holding company must
guarantee the institution's compliance with such capital restoration plan. The
aggregate liability of the parent holding company is limited to the lesser of 5%
of the depository institution's total assets at the time it became
undercapitalized and the amount necessary to bring the institution into
compliance with applicable capital standards. If a depository institution fails
to submit an acceptable plan, it is treated as if it is significantly
undercapitalized. If the controlling holding company fails to fulfill its
obligations under FDICIA and files (or has filed against it) a petition under
the federal Bankruptcy Code, the claim would be entitled to a priority in such
bankruptcy proceeding over third party creditors of the bank holding company.
Significantly undercapitalized depository institutions may be subject
to a number of requirements and restrictions, including orders to sell
sufficient voting stock to become adequately capitalized, requirements to reduce
total assets, and cessation of receipt of deposits from correspondent banks.
Critically undercapitalized institutions are subject to the appointment of a
receiver or conservator. Because the Company and the Banks exceed applicable
minimum capital requirements, the respective managements of the Company and the
Banks do not believe these capital adequacy provisions of FDICIA have had any
material effect on the Company, the Banks or their respective operations.
Bank regulators continue to indicate their desire to raise capital
requirements applicable to banking organizations, and have proposed an interest
rate-risk component to risk-based capital requirements.
FDICIA
In addition to the prompt corrective action requirements and capital
distribution limitations noted above; FDICIA directs each federal banking
regulatory agency to prescribe standards for depository institutions and
depository institution holding companies relating to internal controls,
information systems, internal audit systems, loan documentation, credit
underwriting, interest rate exposure, asset growth, compensation, a maximum
ratio of classified assets to capital, minimum earnings sufficient to absorb
losses, a minimum ratio of market value to book value for publicly traded
shares, and such other standards as the agency deems appropriate.
FDICIA also contains a variety of other provisions affecting the
operations of the Company and the Banks, including new reporting requirements,
regulatory standards for real estate lending, "truth in savings" provisions, the
requirement a depository institution give 90 days' prior notice to customers and
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<PAGE> 15
regulatory authorities before closing any branch, and a prohibition on the
acceptance or renewal of brokered deposits by a depository institution not well
capitalized or adequately capitalized and who has not received a waiver from the
FDIC.
FDIC INSURANCE ASSESSMENTS
Each of the Banks is a BIF member subject to FDIC deposit insurance
assessments. In 1995, the FDIC adopted a new risk-based premium schedule
decreasing the assessment rates for BIF depository institutions. Under this
schedule, which took effect for assessment periods after June 1, 1995, the
premiums ranged from $.04 to $.12 for every $100 of deposits. Prior to June 1,
1995, the premiums ranged from $.23 to $.31 for every $100 of deposit. Each
financial institution is assigned to one of three capital groups - well
capitalized, adequately capitalized or undercapitalized - and further assigned
to one of three subgroups within a capital group, on the basis of supervisory
evaluations by the institution's primary federal and, if applicable, state
regulators and other information relevant to the institution's financial
condition and the risk posed to the applicable insurance fund. The actual
assessment rate applicable to a particular institution will, therefore, depend
in part upon the risk assessment classification so assigned to the institution
by the FDIC. SAIF insured deposits are assessed premiums at $.00 to $.27 per
$100 of deposits, based upon the institution's assigned risk category and
supervisory evaluation. During the years ended December 31, 1995, 1996 and 1997,
Pioneer Bank paid $514,000, $1,500 and $26,116, respectively, in BIF deposit
insurance premiums, and Valley Bank paid BIF deposit insurance premiums of
$165,000, $1,680 and $18,373 respectively. Pioneer Bank, f.s.b. commenced
business on September 9, 1997 and was not required to pay a SAIF insurance
premium for 1997.
BIF and SAIF assessment rates are designed to increase the reserve
ratios (i.e., the ratios of reserves to insured deposits) of these funds to
1.25%. The BIF reached the 1.25% level in mid-1995. The SAIF reached the 1.25%
level in late 1996 by means of a special assessment on savings associations and
banks who acquired SAIF insured deposits on or prior to March, 31, 1995. As a
result, the FDIC refunded BIF premiums to its members in September 1995. BIF and
SAIF premium rates are 0% and .27% of insured deposits, depending on the
assessment risk classification of the assessed institution. The 0% rate is
available to well capitalized institutions having one of the two best
supervisory ratings. A nominal payment of $2,000 per year was required for the
0% rate classification. Assessments against BIF and SAIF deposits to be paid to
the Financing Corporation (the "FICO") are also paid within the BIF assessment,
being 20% of the SAIF assessment. See "Legislative and Regulatory Changes."
COMMUNITY REINVESTMENT ACT AND CERTAIN CONSUMER LENDING REGULATIONS
The Company and the Banks are subject to the provisions of the
Community Reinvestment Act of 1977, as amended (the "CRA") and the federal
banking agencies' regulations thereunder. Under the CRA, all banks and thrifts
have a continuing and affirmative obligation, consistent with its safe and sound
operation to help meet the credit needs for their entire communities, including
low-to-moderate income neighborhoods. The CRA does not establish specific
lending requirements or programs for financial institutions, nor does it limit
an institution's discretion to develop the types of products and services it
believes are best suited to its particular community, consistent with the CRA.
The CRA requires a depository institution's primary federal regulator, in
connection with its examination of the institution, to assess the institution's
record in assessing and meeting the credit needs of the community served by that
institution, including low-to-moderate income neighborhoods. The regulatory
agency's assessment of the institution's record is made available to the public.
Further, such assessment is required of any institution which has applied to:
(i) charter a national bank; (ii) obtain deposit insurance
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<PAGE> 16
coverage for a newly-chartered institution; (iii) establish a new branch office
accepting deposits; (iv) relocate an office; or (v) merge or consolidate with,
or acquire the assets or assume the liabilities of, a federally regulated
financial institution. In the case of a bank holding company applying for
approval to acquire a bank or other bank holding company, the Federal Reserve
will assess the records of each subsidiary depository institution of the
applicant bank holding company, and such records may be the basis for denying
the application.
Under new CRA regulations, effective January 1, 1996, the process-based
CRA assessment factors have been replaced with a new evaluation system rating
institutions based on their actual performance in meeting community credit
needs. The evaluation system used to judge an institution's CRA performance
consists of three tests: a lending test; an investment test; and a service test.
Each of these tests will be applied by the institution's primary federal
regulator taking into account such factors as: (i) demographic data about the
community; (ii) the institution's capacity and constraints; (iii) the
institution's product offerings and business strategy; and (iv) data on the
prior performance of the institution and similarly-situated lenders. The new
lending test -- the most important of the three tests for all institutions other
than wholesale and limited purpose (e.g., credit card) banks -- will evaluate an
institution's lending activities as measured by its home mortgage loans, small
business and farm loans, community development loans, and, at the option of the
institution, its consumer loans.
Each of these lending categories will be weighed to reflect its
relative importance to the institution's overall business and, in the case of
community development loans, the characteristics and needs of the institution's
service area and the opportunities available for this type of lending.
Assessment criteria for the lending test will include: (i) geographic
distribution of the institution's lending; (ii) distribution of the
institution's home mortgage and consumer loans among different economic segments
of the community; (iii) the number and amount of small business and small farm
loans made by the institution; (iv) the number and amount of community
development loans outstanding; and (v) the institution's use of innovative or
flexible lending practices to meet the needs of low-to-moderate income
individuals and neighborhoods. At the election of an institution, or if
particular circumstances so warrant, the banking agencies will take into account
in making their assessments lending by the institution's affiliates as well as
community development loans made by the lending consortia and other lenders in
which the institution has invested. As part of the new regulation, all financial
institutions will be required to report data on their small business and small
farm loans as well as their home mortgage loans, which are currently required to
be reported under the Home Mortgage Disclosure Act.
The investment test focuses on the institution's qualified investments
within its service area that (i) benefit low-to-moderate income individuals and
small businesses or farms, (ii) address affordable housing needs, or (iii)
involve donations of branch offices to minority or women's depository
institutions. Assessment of an institution's performance under the investment
test is based upon the dollar amount of the institution's qualified investments,
its use of innovative or complex techniques to support community development
initiatives, and its responsiveness to credit and community development needs.
The service test evaluates an institution's systems for delivering
retail banking services, taking into account such factors as (i) the geographic
distribution of the institution's branch offices and ATMs, (ii) the
institution's record of opening and closing branch offices and ATMs, and (iii)
the availability of alternative product delivery systems such as home banking
and loan production offices in low-to-moderate income areas. The federal
regulators also will consider an institution's community development service as
part of the service test. A separate community development test will be applied
to wholesale or limited purpose financial institutions.
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Institutions having total assets of less than $250 million will be
evaluated under more streamlined criteria. The Company and Pioneer Bank are
ineligible for these streamlined criteria, but Valley Bank and Pioneer Bank,
f.s.b. are currently eligible. In addition, a financial institution will have
the option of having its CRA performance evaluated based on a strategic plan of
up to five years in length that it had developed in cooperation with local
community groups. In order to be rated under a strategic plan, the institution
will be required to obtain the prior approval of its federal regulator.
The interagency CRA regulations provides for an institution evaluated
under a given test to receive one of five ratings for that test: outstanding,
high satisfactory, low satisfactory, needs to improve, or substantial
non-compliance. An institution will receive a certain number of points for its
rating on each test, and the points are combined to produce an overall composite
rating of either outstanding, satisfactory, needs to improve, or substantial
noncompliance. Under the agencies' rating guidelines, an institution that
receives an "outstanding" rating on the lending test will receive an overall
rating of at least "satisfactory", and no institution can receive an overall
rating of "satisfactory" unless it receives a rating of at least "low
satisfactory" on its lending test. In addition, evidence of discriminatory or
other illegal credit practices would adversely affect an institution's overall
rating. Under the new regulations, an institution's CRA rating would continue to
be taken into account by its primary federal regulator in considering various
types of applications. As a result of the Banks' most recent CRA examinations,
Pioneer Bank and Valley Bank each have CRA ratings of "satisfactory". Pioneer
Bank, f.s.b. has yet to be examined under the interagency CRA regulations.
The Banks are also subject to, among other laws and regulations, the
provisions of the Equal Credit Opportunity Act (the "ECOA") and the Fair Housing
Act (the "FHA"), both of which prohibit discrimination based on race or color,
religion, national origin, sex, and familial status in any aspect of a consumer
or commercial credit or residential real estate transaction. Based on recently
heightened concerns about some prospective home buyers and other borrowers
experiencing discriminatory treatment in their efforts to obtain loans, the
Department of Housing and Urban Development, the Department of Justice (the
"DOJ"), and all of the federal banking agencies in April 1994 issued an
Interagency Policy Statement on Discrimination in Lending in order to provide
guidance to financial institutions as to what the agencies consider in
determining whether discrimination exists, how the agencies will respond to
lending discrimination, and what steps lenders might take to prevent
discriminatory lending practices. The DOJ has also recently increased its
efforts to prosecute what it regards as violations of the ECOA and FHA.
COMMUNITY DEVELOPMENT ACT
The Community Development Act of 1994 has several titles. Title I
provides for the establishment of community development financial institutions
to provide equity investments, loans and development services to financially
under-served communities. A portion of this Title also contains various
provisions regarding reverse mortgages, consumer protections for qualifying
mortgages and hearings for home equity lending, among other things. Title II
provides for small business loan securitization and securitizations of other
loans, including authorizing a study on the impact of additional securities
based on pooled obligations. Small business capital enhancement is also
provided. Title III provides for paperwork reduction and regulatory improvement,
including certain examination and call report issues, as well as changes in
certain consumer compliance requirements, certain audit requirements and real
estate appraisals, and simplification and expediting processing of bank holding
company applications, merger applications and securities filings, among other
things. It also provides
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<PAGE> 18
for commercial mortgage-related securities to be added to the definition of a
"mortgage-related security" in the Securities Exchange Act of 1934, as amended.
This permits commercial mortgages to be pooled and securitized, and permits
investment in such instruments without limitation by insured depository
institutions. It also preempts state legal investment and blue sky laws related
to qualifying commercial mortgage securities. Title IV deals with money
laundering and currency transaction reports, and Title V reforms the national
flood insurance laws and requirements.
ENFORCEMENT POLICIES AND ACTIONS
FIRREA and subsequent federal legislation significantly increased the
enforcement authorities of the FDIC and other federal depository institution
regulators, and authorizes the imposition of civil money penalties of up to $1
million per day. Persons who are affiliated with depository institutions can be
removed from any office held in such institution and banned for life from
participating in the affairs of any such institution. The banking regulators
have not hesitated to use the new enforcement authorities provided under FIRREA.
The Federal Reserve and the FDIC have taken no formal enforcement action against
the Company or the Banks.
RECENT LEGISLATIVE AND REGULATORY CHANGES
Revisions to the Bank Secrecy Act ("BSA") in 1996 affected numerous
issues including suspicious activity reporting, funds transfer record keeping,
interim exemption rules, the definition of "exempt persons," and the way banks
designate exempt customers.
The Economic Growth and Regulatory Paperwork Reduction Act of 1996 (the
"EGRPRA"), was enacted in September, 1996. This Act provided arrangements for
the recapitalization of the SAIF and regulatory relief for bank holding
companies in several significant areas. Bank holding companies who also owned
savings associations and were therefore subject to regulation by the OTS as
savings and loan holding companies were relieved of such duplicative regulation,
and neither future acquisitions of savings associations by bank holding
companies nor mergers of savings associations into banks will any longer require
application to and approval by the OTS. Acquisitions by well capitalized and
well managed bank holding companies of companies engaging in permissible
nonbanking activities (other than savings associations) may now be made with
only 12 days prior notice to the Federal Reserve (assuming the acquisition does
not exceed 10% of the acquiror's risk-weighted assets and the consideration paid
does not exceed 15% of Tier 1 capital), and de novo engagement in such
activities by such bank holding companies may be commenced without prior notice
and with only subsequent notice to the Federal Reserve. The same legislation
also gave regulatory relief to banks in regard to corporate governance,
branching, disclosure (under the Real Estate Settlement Procedures Act and the
Truth in Lending Act) and other operational areas. Recently, the Federal Reserve
approved substantial revisions to its Regulation Y simplifying and shortening
the acquisition process for bank holding companies. On February 20, 1997, the
Federal Reserve adopted, effective April 21, 1997, amendments to its Regulation
Y implementing certain provisions of EGRPRA. Among other things, these
amendments to Federal Reserve Regulation Y reduces the notice and application
requirements applicable to bank and non-bank acquisitions and de novo expansion
by well-capitalized and well managed holding companies; expand the list of
non-banking activities permitted under Regulation Y and reduce certain
limitations on previously permitted activities; and relieve Federal Reserve
anti-tying restrictions to allow banks greater flexibility to package products
with their affiliates. See - "FDIC Insurance Assessments."
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During 1996, changes were also made to the current system to rate
banks. On December 19, 1996, the FFIEC revised the Uniform Financial
Institutions Rating System, commonly known as the CAMEL rating system. All
agencies began using the new system in January, 1997 for all insured depository
financial institutions whose primary federal supervisory agency is represented
on the FFIEC (i.e. the Federal Reserve Bank, the Federal Deposit Insurance
Corporation, the Office of Comptroller of the Currency, the National Credit
Union Administration and the Office of Thrift Supervision). The changes to the
rating system include adding a sixth component specifically addressing
sensitivity to market risk, increasing the emphasis on the quality of risk
management practices of each of the six components, particularly the management
component, revising the composite rating definitions and explicitly identifying
the risks considered in assigning component ratings.
Other legislative and regulatory proposals regarding changes in the
regulation of banks, thrifts and other financial institutions and bank and bank
holding company powers are being considered by the executive branch of the
Federal government, Congress and various state governments, including Tennessee.
The effect of such changes, if any, can not be predicted.
ITEM 2 - PROPERTIES
The Company, through its subsidiaries, owns or leases buildings used in
the normal course of its business. The main offices of the Company at 801 Broad
Street, Chattanooga, Tennessee, are located in a 125,000 square-foot office
building, owned by the Company. The Company also owns a 54,000 square foot, six
story office building adjacent to the main offices, as well as a five story
parking facility with approximately 22,500 square-feet of rental space located
across the street. The book value of these three facilities was $4.8 million as
of December 31, 1997. No property owned by the Company is subject to a mortgage.
As of December 31, 1997, the net book value of the Pioneer Bank's
branch facilities was $5.1 million. Pioneer Bank's 22 branches are mostly
stand-alone commercial buildings. All of them are located within Hamilton
County, Marion County and Sequatchie County, Tennessee. The average size of each
branch is approximately 3,000 square feet. Pioneer Bank leases two facilities
located in two area shopping malls and leases one facility located inside the
Wall-Mart store in Kimball, Tennessee. All of the leases have remaining terms of
less than five years and certain of these leases may have renewal options.
Pioneer Bank has one new branch awaiting regulatory approval. It will be located
in the Wall-Mart/Gunbarrel store in Chattanooga, Tennessee. As of December 31,
1997, Valley Bank's nine branch facilities had a book value of $2.8 million
whereas Valley's 18,000 square foot main office located at 401 North Main
Street, Sweetwater, Tennessee had a book value of $2.0 million. Valley Bank
opened a tenth branch in Decatur, Tennessee in Meigs County subsequent to year
end, but has no immediate construction plans for any additional branches in
1998. Valley Bank branches are approximately 3,000 square feet in size. As of
December 31, 1997, the book value of Pioneer Bank, f.s.b.'s branch office was
$724,415. Pioneer Bank, f.s.b. leases the Dalton facility and owns the Ringgold
Road branch which has a land lease from the holding company. All leases have
remaining terms of less than five years and certain of these leases may have
renewal options. Pioneer Bank, f.s.b. is scheduled to open a new facility on
Highway 2A in Ft. Ogelthorpe, Georgia by the summer of 1998. See Notes to
Consolidated Financial Statements for further information with respect to the
amounts at which bank premises, equipment and other real estate are carried.
18
<PAGE> 20
ITEM 3 - LEGAL PROCEEDINGS
Various claims and lawsuits are pending against the Company and the
Banks in the normal course of their business. Although the amount of any
ultimate liability with respect to such matters cannot be determined, in the
opinion of management, after consultation with legal counsel, those claims and
lawsuits, when resolved, should not have a material adverse effect on the
consolidated results of operation or financial condition of the Company and its
subsidiaries.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders by solicitation
of proxies or otherwise during the fourth quarter of the Company's fiscal year
ended December 31, 1997.
PART II
ITEM 5 - MARKET FOR REGISTRANT'S COMMON EQUITY AND
RELATED SHAREHOLDER MATTERS
On May 21, 1996 the Company's Board approved a 2-for-1 stock split,
effected in the form of a 100% stock dividend, effective June, 1996. All stock
prices, dividends, shares outstanding and earnings per share have been restated
to reflect the 100% stock dividend. There is no established or active trading
market for the Company's $.01 par value Common Stock, and it is not listed or
traded on any securities exchange, Nasdaq or other over-the-counter market. The
following table sets forth, based primarily upon the limited trading information
available from a Southeast regional brokerage company which makes a market in
the Company's Common Stock, the high and low stock prices of shares of Common
Stock during each quarter of the last two years. This information may not
reflect all trades or the actual or market value of shares of the Company's
Common Stock.
The table also sets forth the dividends paid per share of Common Stock
for each quarter of the last two years.
<TABLE>
<CAPTION>
High Low Dividend
---- --- --------
<S> <C> <C> <C>
1997:
First Quarter $ 39.00 $ 37.00 $ .2300
Second Quarter 41.00 39.00 .2300
Third Quarter 44.00 41.00 .2300
Fourth Quarter 45.00 44.00 .2300
1996:
First Quarter $ 35.00 $ 33.50 $ .2175
Second Quarter 35.00 35.00 .2175
Third Quarter 36.00 35.00 .2175
Fourth Quarter 37.00 36.00 .2175
</TABLE>
As of February 16, 1998, there were approximately 804 holders of record
of the Company's Common Stock.
19
<PAGE> 21
The Company expects its practice of paying quarterly dividends on its
Common Stock will continue, although future dividends will continue to depend
upon the Company's earnings, capital requirements, financial condition and other
factors.
ITEM 6 - SELECTED FINANCIAL DATA
The following table presents selected historical financial information
for the Company. The financial data in the table reflects the financial position
of the Company for the five years ended December 31, 1997. The financial data in
the following table is derived from the historical financial statements of the
Company and is adjusted to reflect the 2 for 1 stock split effected in the form
of a 100% stock dividend in 1996. All prior period financial statement data for
the fiscal years ended December 31, 1993 to December 31, 1995 has been restated
to reflect the pooling of interests method of accounting used for the Sweetwater
Valley Corp. merger that occurred in 1995. This information should be read in
conjunction with the historical financial statements and the notes thereto of
the Company set forth in Item 8 of this Report.
20
<PAGE> 22
<TABLE>
<CAPTION>
1997 1996 1995 1994 1993
-------- -------- -------- --------- --------
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C>
Gross interest income $ 67,236 $ 56,964 $ 48,973 $ 40,164 $ 37,631
Gross interest expense 30,199 26,254 22,983 14,869 13,307
-------- -------- -------- --------- --------
Net interest income 37,037 30,710 25,990 25,295 24,324
Provision for loan losses 3,609 1,097 618 1,457 941
-------- -------- -------- --------- --------
Net interest income after provision 33,428 29,613 25,372 23,838 23,383
Noninterest income 9,872 8,178 6,982 6,772 6,301
Noninterest expense (1) 29,373 25,740 22,848 19,472 18,825
-------- -------- -------- --------- --------
Pretax income 13,927 12,051 9,506 11,138 10,859
Income tax provision 4,165 3,054 2,424 3,079 3,062
Cumulative effect of change
in accounting principle -- -- -- -- 1,297
-------- -------- -------- --------- --------
Net income $ 9,762 $ 8,997 $ 7,082 $ 8,059 $ 9,094
======== ======== ======== ========= ========
PER COMMON SHARE DATA:
Income before cumulative effect of
change in accounting principle $ 2.60 $ 2.39 $ 1.88 $ 2.15 $ 2.08
Cumulative effect of change
in accounting principle -- -- -- -- 0.35
-------- -------- -------- --------- --------
Net income 2.60 2.39 1.88 2.15 2.43
Diluted Net Income 2.60 2.39 1.88 2.15 2.43
Cash dividends declared .92 .87 .83 .80 .76
Adjustment for FASB 115 0.28 0.21 0.09 (1.49) 0.16
Stockholders' Equity (book value),
end of period 26.57 24.98 23.31 20.72 21.06
BALANCE SHEET DATA:
Loans, net of unearned income $649,758 $523,253 $421,503 $335,910 $287,034
Earning assets 874,203 776,983 714,646 610,746 582,982
Assets 956,890 867,240 799,268 695,543 632,554
Deposits 748,421 692,567 662,095 575,249 535,620
Stockholders' equity 99,916 93,923 87,625 77,905 79,193
Common shares outstanding 3,760 3,760 3,760 3,760 3,760
AVERAGE BALANCE SHEET DATA:
Loans, net of unearned income $583,698 $468,686 $367,943 $316,904 $263,650
Earning assets 828,653 748,077 671,429 600,831 567,826
Assets 911,291 828,615 739,679 666,866 625,902
Deposits 724,113 675,305 613,646 568,190 530,517
Other Obligations 19,533 9,430 0 0 0
Stockholders' equity 96,039 88,719 83,810 78,317 76,543
Common shares outstanding 3,760 3,760 3,760 3,760 3,760
PERFORMANCE RATIOS:
Return on average assets 1.07% 1.09% 0.96% 1.21% 1.45%
Return on average equity 10.16% 10.14% 8.45% 10.29% 11.88%
Net interest margin, taxable equivalent 4.70% 4.38% 4.18% 4.55% 4.48%
Equity to total assets at year end 10.44% 10.83% 10.96% 11.20% 12.52%
Dividend payout 35.43% 36.40% 40.23% 37.32% 31.42%
CAPITAL RATIOS:
Average equity to average assets 10.54% 10.71% 11.33% 11.74% 12.23%
</TABLE>
21
<PAGE> 23
(1) On December 1, 1995, the Company issued 959,912, adjusted for the 2-for-1
stock split, effected as a 100% stock dividend, that occurred in June, 1996,
shares of its Common Stock in connection with the consummation of the merger
between Sweetwater Valley Corp and Pioneer Banchares, Inc. (the "Merger"). The
Company's total assets increased by approximately $170 million via the Merger
due to the pooling of interests method of accounting. The pooling of interests
method of accounting requires that all costs associated with the Merger be
expensed as incurred, i.e. no capitalization. Accordingly, noninterest expense
increased 17.3% in 1995 compared to 1994. The material noninterest expenses
related to the Merger included legal, accounting and consulting fees. Other
factors causing noninterest expense to increase included the following: (i)
intangible asset amortization increased $400,000 from 1994 to 1995, due
primarily to the core deposit intangible asset created with the purchase of
three NationsBank branches in Marion County, Tennessee (the "Marion Purchase");
(ii) $176,000 of post retirement benefit liabilities were expensed as a result
of SFAS 106, and: (iii) advertising expense increased $125,000 to accompany the
Marion Purchase, to capitalize on a Chattanooga bank competitor's name change
and to generally enhance our presence in our communities.
FORWARD-LOOKING STATEMENTS
Certain written and oral statements made by or on behalf of the Company
may constitute "forward-looking statements" as defined under the Private
Securities Litigation Reform Act of 1995. These statements are subject to
certain risks and uncertainties that could cause actual results to differ
materially from the Company's historical experience and its present expectations
or projections. These risks and uncertainties include, but are not limited to,
unanticipated economic changes, interest rate movements, changes in governmental
fiscal, monetary and supervisory policies, deposit levels, loan demand, loan
collateral values, securities portfolio values, failure of assumptions
underlying the establishment of reserves for loan losses, the possible effects
of the year 2000 problem on the Company, including such problems at the
Company's vendors, counterparties and customers and the impact of competition.
The Company cautions that such factors are not exclusive. Caution should be
taken not to place undue reliance on any such forward- looking statements since
such statements speak only as of the date of the making of such statements and
are based on certain expectations and estimates of the Company which are subject
to risks and changes in circumstances that are not within the Company's control.
22
<PAGE> 24
ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS OF PIONEER BANCSHARES, INC.
The purpose of this discussion is to focus on significant changes in
the financial condition and results of operations of the Company and its
subsidiaries during the past three years. The discussion and analysis is
intended to supplement and highlight information contained in the accompanying
consolidated financial statements and related notes to the consolidated
financial statements and the selected financial data presented elsewhere in this
Report. The financial data discussed herein reflects the merger of Sweetwater
Valley Corp. ("SVC") with and into the Company (the "Merger") in November, 1995,
that was accounted for as a pooling of interests. All per share data have been
adjusted from 1993 to 1996 for the 2-for-1 stock split, effected as a 100% stock
dividend, that occurred in 1996.
SUMMARY
Net income for 1997 was $9.7 million, an 8.5% increase from the
Company's net income of $8.9 million in 1996. Net income for 1996 was $1.9
million or 27% above the 1995 net income of $7.1 million. Net income per common
share for 1997 was 8.8% higher than in 1996 and in 1996 was 26.5% higher
compared to 1995. Pretax income for 1997 increased $1.9 million or 15.6% from
1996.
The increase in net income from 1996 to 1997 occurred for the following
two principal reasons: increased yields on earning assets and increased interest
rate margins. First, the yield on average earning assets rose 46 basis points
from 7.89% in 1996 to 8.35% in 1997, whereas the rate paid on average interest
bearing liabilities increased by only 13 basis points from 4.30% in 1996 to
4.43% in 1997. Net interest rate margins increased to 4.70% for the twelve
months ending December 31, 1997, compared to 4.38% for the same period in 1996.
FINANCIAL CONDITION
Earning Assets
Average earning assets in 1997 increased $80.6 million or 10.8% over
1996 primarily due to an increase in average loans outstanding. The average
earning asset mix continued to change during 1997 with loans at 70%, investment
securities at 28% and other earning asset categories at 2%. In 1996, loans were
63%, investment securities 36% and other earning assets 1%. The mix of earning
assets during 1997 contributed to the higher yield on earning assets due to the
fact that the loan portfolio earned approximately 254 basis points more during
1997 than the investment security portfolio. The mix of earning assets is
monitored to anticipate and respond to favorable interest rate movements in an
effort to increase the return on earning assets.
Loan Portfolio
The Company's average loans, net of unearned income, for 1997 were
$583.7 million, an increase of $115.0 million or 24.5% over $468.7 million in
average loans for 1996. Average loans in 1996 were 27.4% or $100.7 million
higher than the average loans were in 1995. From year end 1996 to year end 1997,
actual loans outstanding increased 24.2% or $126.5 million from $523.3 million
to $649.8 million, respectively. From year end 1995 to year end 1996, actual
loans outstanding increased 24.1% or $101.7 million. Loan growth for 1997 was
primarily funded through increased deposit growth, prepayments and
23
<PAGE> 25
maturities from the investment portfolio, increases in repurchase agreements and
increases in FHLB borrowings. The Company's commercial, financial and
agricultural loan category had the best dollar volume increase in 1997 from
1996, with a $62 million or 58.7% increase. This group as a percentage of the
loan portfolio also had the largest change from 20% to 25.7%. Real estate
construction loans increased $17.3 million or 46.4%, residential real estate
mortgage loans increased $33.9 million or 24.6%, commercial real estate mortgage
loans decreased $2.9 million or 1.9%, consumer credit cards increased $317,000
or 7.6% , and consumer installment loans increased $15.8 million or 19.5% over
the same period. Over the past three years the loan portfolio has been shifting
away from commercial real estate lending toward more consumer and residential
real estate lending, because the competitive rate environment has reduced the
risk/return reward to a minimum.
The majority of the Company's loan growth from 1996 to 1997 occurred at
Pioneer Bank. Outstanding loans, net of unearned income, at Pioneer Bank
increased 23.8% or $99.3 million from 1996 to 1997 and increased $81.5 million
or 24.4% from 1995 to 1996. During 1997, loans totaling $6.9 million or 1.1% of
total loans were transferred to Pioneer Bank, f.s.b. This loan transfer included
$1.1 million in commercial, financial and agricultural loans, $2.4 million in
residential real estate mortgage loans and $3.4 million in commercial real
estate mortgage loans. Loan growth in 1997, net of transfers to Pioneer f.s.b
was as follows: the commercial financial and agricultural loans increased 50.5%,
real estate construction loans increased 42.8%, residential real estate mortgage
increased 17.3%, commercial real estate mortgages increased 1.2%, consumer
installment loans increased 25.7% and consumer credit card loans increased 6.1%.
Valley Bank's loan portfolio, net of unearned income, increased $16.4 million or
15.2% from 1996 to 1997, and increased $20.0 million or 22.7% from 1995 to 1996.
From year end 1996 to year end 1997, the majority of the increase in Valley
Bank's loans occurred in real estate construction, residential real estate
mortgage, commercial real estate mortgage, and consumer installment loans,
resulting in increases of 55.2%, 23.2%, 7.9% and 1%, respectively. Commercial,
financial and agricultural loans decreased 4.2%, and consumer credit card loans
increased 29.3% from year end 1996 to year end 1997. Pioneer f.s.b's loan
portfolio, net of unearned income increased $3.6 million or 52.9% during 1997.
In 1997, real estate mortgage loans increased $3.3 million or 36.6%, and
consumer installment loans increased $1.4 million.
Management of the Company sought higher loan growth in 1997 over
previous years, while at the same time maintaining high credit quality. In 1995,
the economy began to slow and the Federal Reserve decreased interest rates, thus
spurring construction and, therefore, real estate construction loans. In 1996,
the Federal Reserve generally maintained interest rates at the same levels as in
late 1995 which encouraged further growth. In 1997, the national economy
continued to generate moderate growth with low inflation. Meanwhile, economic
growth for the State of Tennessee and the Chattanooga MSA have been moderate,
but Tennessee's home ownership rate is at an historic high. Firm housing
affordability and extensive efforts to extend financing to lower income buyers
have been principal factors in the rise in residential real estate loans. This
trend is reflected in the shift in loan mix, as well as in the growth of the
overall portfolio. At the end of the first quarter of 1997, the Federal Reserve
increased interest rates 25 basis points and rates remained relatively stable
before declining in the late third, and early fourth quarters. The downward
trend in rates encouraged refinancing of existing residential mortgage loans and
growth in new residential mortgage loans. Non-residential building in Tennessee
and the Chattanooga MSA have also been very strong. Spurred by ongoing
commercial and hotel projects, as well as single family residential home demand,
construction companies are the most active job creators in the state. Demand for
office and industrial space remains strong and several of the state's
metropolitan areas possess among the tightest office and industrial vacancy
rates nationwide. This strength is reflected in the growth in the loan
portfolio. Company management will seek additional loan and deposit growth in
1998, but the amount of such growth, if any, will depend upon general economic
conditions, including whether or not the Federal Reserve
24
<PAGE> 26
decreases or maintains current interest rate levels. Management anticipates
economic conditions to be favorable for continued growth in the loan portfolio
through 1998. In addition to overall growth, an emphasis will be placed on the
loan portfolio mix among commercial, real estate and consumer loans to enhance
the yield of the loan portfolio. For example, the Company has put increased
emphasis on increasing consumer loans via consumer credit cards, indirect
automobile loans and, through Center, small consumer loans. As the Company
strives to increase consumer loans, the threat of increased personal
bankruptcies must be considered. Through its credit policies and procedures,
Company management believes an increased dollar volume in consumer loans can be
achieved without materially increasing the risk of incurring additional loan
losses due to personal bankruptcies. In addition, management is committed to
providing new products for not only consumer loans, but also real estate and
commercial loans. There has not, however, been a concentration in lending to any
one industry or segment.
The Company has not invested in loans to finance highly leveraged
transactions ("HLT"), such as leveraged buy-out transactions, as defined by the
Federal Reserve and other regulatory agencies. Loans made by a bank for
recapitalization or acquisitions (including acquisitions by management or
employees) which result in a material change in the borrower's financial
structure to a highly leveraged condition are considered HLT loans. The Company
had no foreign loans or loans to lesser developed countries as of December 31,
1997.
The Loan Portfolio table shows the classifications of loans by major
category at December 31, 1997, and for each of the preceding four years. The
second table shows maturities of certain loan classifications and an analysis of
the rate structure for such loans due in over one year.
LOAN PORTFOLIO
(in thousands)
<TABLE>
<CAPTION>
Year Ending
December 31, 1997 1996 1995 1994 1993
-------------------- ------------------ ----------------- ------------------ ------------------
Percent Percent Percent Percent Percent
of of of of of
Amount Total Amount Total Amount Total Amount Total Amount Total
-------- -------- ------- ------- ------ ------- ------ -------- ------ --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial,
financial and
agricultural $167,655 25.74% $105,641 20.03% $79,691 18.83% $ 57,358 17.00% $ 58,303 20.22
Real estate
construction 54,624 8.39% 37,324 7.11% 18,671 4.41% 14,843 4.40% 13,669 4.74%
Real estate
mortgage
Residential 172,124 26.43% 138,194 26.33% 117,182 27.69% 97,274 28.83% 82,811 28.73%
Commercial 155,348 23.85% 158,333 30.17% 153,354 36.24% 120,893 35.84% 89,876 31.18%
Consumer
Credit cards 4,478 0.69% 4,161 0.79% 3,253 0.77% 2,091 0.62% 99 0.03%
Installment 97,005 14.90% 81,196 15.57% 51,040 12.06% 44,895 13.31% 43,522 15.10%
-------- ------ -------- ------ ------- ------ ------- ------ ------- ------
651,234 100.00% 524,849 100.00% 423,191 100.00% 337,354 100.00% 288,280 100.00%
====== ====== ====== ====== ======
Less:
Unearned
income 1,476 1,596 1,688 1,443 1,246
Allowance for
loan losses 7,837 5,758 5,872 5,355 5,371
-------- -------- -------- -------- --------
Total loans $641,921 $517,495 $415,631 $330,556 $281,663
======== ======== ======== ======== ========
</TABLE>
25
<PAGE> 27
SELECTED LOAN MATURITY AND INTEREST RATE SENSITIVITY
as of December 31, 1997
(in thousands)
<TABLE>
<CAPTION>
Rate Structure For Loans
Maturing Over One Year
----------------------------
One Year Predetermined Floating or
One Year to Over Five Interest Adjustable
or Less Five Years Years Rate Rate
-------- -------- ------- -------- -------
<S> <C> <C> <C> <C> <C>
Commercial, financial
and agricultural $ 56,581 $ 92,942 $18,132 $ 70,758 $40,316
Real estate 186,748 182,910 12,438 192,977 2,371
Consumer 55,195 45,115 1,173 46,288 --
-------- -------- ------- -------- -------
Total $298,524 $320,967 $31,743 $310,023 $42,687
======== ======== ======= ======== =======
</TABLE>
Investment Portfolio
The Company's investment securities portfolio decreased 18.5% or $46.5
million from year end 1996 to year end 1997. The average balance of the
investment securities portfolio has decreased since 1995 in order to fund loan
growth, with the exception of 1995, when there was an increase in funds
available for investment resulting from the Marion Purchase. The Company
maintains an investment strategy of seeking portfolio yields within acceptable
risk levels, as well as providing liquidity. The Company maintains two
classifications of investment securities: "Held to Maturity" and "Available for
Sale." Prior to December 1995, management placed only bank-qualified, municipal
securities exempt from federal income taxation, as well as non-bank qualified
taxable municipal securities in the "Held to Maturity" classification. In
December, 1995, management reclassified the municipal securities to "Available
for Sale" and various mortgage backed agency securities to "Held to Maturity."
The Financial Accounting Standards Board ("FASB") provided all corporations a
moratorium from November 15, 1995, to December 31, 1995, to reassess their
securities classifications (FASB 115). This window of opportunity allowed the
Company to reclassify securities as "Held to Maturity" or "Available for Sale"
without "tainting" the investment portfolio. The "Available for Sale" securities
are carried at fair market value, whereas the "Held to Maturity" securities are
carried at book value (or at fair value, as of transfer date, if transferred
from "Available for Sale" to "Held to Maturity" via the FASB moratorium). As a
consequence, with a higher percentage of securities being placed in the
"Available for Sale" category, the Company's accounting capital is more volatile
than it would be should a larger percentage be placed in the "Held to Maturity"
category. Due to the inverse relationship between bond prices and interest
rates, as market rates increase, bond prices decrease as does accounting capital
on an after tax basis. In a decreasing rate environment, bond prices increase as
does capital. Although capital is more volatile, management has discretion, with
respect to the "Available for Sale" securities, to proactively adjust to
favorable market conditions in order to provide liquidity and realize gains on
the sales of securities. The Company intends to continue to categorize all
future investment security purchases as "Available for Sale." The changes in
values in the investment securities portfolio are not taken into account in
determining regulatory capital requirements.
During 1997, average investment securities decreased $39.8 million or
14.7%. Average investment securities during 1996 decreased $9 million or 3.2%
from 1995 average levels. The decrease in securities of $46.5 million as of year
end 1996 to year end 1997, consisted primarily of decreasing state and political
subdivision obligations by $18.7 million or 23.1% from $80.9 million in 1996 to
$62.2 million in 1997.
26
<PAGE> 28
During 1997, gross proceeds from investment securities sales were $83.4
million, representing 36.2% of the average portfolio for the year. Net gains
associated with the sales were $293,723, which accounted for 3% of noninterest
income. Gross proceeds from investment securities sold during 1996 totaled $52.3
million, resulting in a net realized gain of $297,003, representing 3.6% of
noninterest income. Although the Company intends to actively administer the
investment portfolio and take advantage of market rate fluctuations, management
does not believe a disproportionate share of noninterest income will be produced
by securities gains. Over the course of 1997, market interest rates on bonds
decreased, thus generally enhancing the market values of the investment
securities. At year end 1997, gross unrealized gains in the "Available for Sale"
portfolio amounted to $2.1 million and unrealized losses amounted to $58,410.
Whereas at the same point in time in 1996, the gross unrealized gains in the
"Available for Sale" portfolio were $2.3 million and the gross unrealized losses
totaled $567,000. At the end of 1997, gross unrealized gains in the
"Held-To-Maturity" portfolio were $211,000 and unrealized losses amounted to
$20,763. At the year end of 1996, the gross unrealized gains in the "Held To
Maturity" portfolio were $29,205 and unrealized losses amounted to $119,265. As
of December 31, 1997, the net unrealized security gain, net of tax effect,
contributes a $1 million increase in accounting capital or 27.8 cents per share
to the Company's common stock book value.
Prior to 1993, the Company invested in taxable securities due to the
lack of preferential treatment afforded tax-exempt securities under the
alternative minimum tax laws. In 1993, the Company moved from the "Alternative
Minimum Tax" method to the "Regular Corporate Tax" method and municipal
securities became more attractive on a tax equivalent basis, offering wider
spreads than U. S. Treasury securities and were purchased when available. Upon
achieving a targeted volume of municipal securities in mid-1994, the strategy
shifted to focus on improving the balance of the maturity distribution and
enhancing total yield, as well as providing for liquidity. The following table
sets forth the carrying amount of the investment securities portfolio at the end
of each of the last three years.
INVESTMENT PORTFOLIO
(in thousands)
<TABLE>
<CAPTION>
Years Ended December 31,
----------------------------------------
1997 1996 1995
-------- -------- --------
<S> <C> <C> <C>
Securities Available for Sale:
U.S. Treasury securities $ 39,337 $ 41,574 $ 52,082
U.S. Agency obligations 40,740 37,839 46,200
State and political subdivisions 62,190 80,855 83,726
Other securities 14,424 31,922 26,961
-------- -------- --------
Total Available for Sale Securities 156,691 192,190 208,969
-------- -------- --------
Securities Held To Maturity:
U.S. Treasury securities 0 0 99
U.S. Agency obligations 48,396 59,409 77,940
State and political subdivisions 0 0 0
Other securities 0 0 0
-------- -------- --------
Total Held to Maturity Securities 48,396 59,409 78,039
-------- -------- --------
Total Securities $205,087 $251,599 $287,008
======== ======== ========
</TABLE>
27
<PAGE> 29
The maturities and weighted average yields of the investment securities
portfolio at the end of 1997 are presented in the following table using
primarily the stated maturities excluding the effects of prepayments. The total
mortgage backed securities for 1997 and 1996 were $32.2 million and $33.1
million, respectively. As of December 31, 1997, the average expected life was
1.9 years. The average expected life of the total investment security portfolio
at December 31, 1997, was 3.1 years with an average tax equivalent yield of
6.46%. Taxable equivalent adjustments, using a 34 percent tax rate, have been
made in calculating yields on tax-exempt obligations.
As of December 31, 1997, except for the U.S. Government and its agencies,
there was not any issuer who represented 10% or more of shareholders' equity
within the investment portfolio.
During 1997, average federal funds sold increased $5.3 million or 60.8%
from 1996 levels. Whereas, from 1995 to 1996, average federal funds sold
decreased $14.4 million or 62.2%. These short-term investments constituted $14.1
million or 1.7% of average earning assets in 1997 and $9 million or 1.2% in
1996. The increase in 1997 is due primarily to an increase in deposits and other
borrowings to fund future loan growth rather than short-term investments.
Management expects the average balance in federal funds sold to decrease in 1998
from the average in 1997 subject to growth in the loan portfolio.
The balance of interest earning deposits held with other banks was
$528,417 at year-end 1997 and $495,617 at year end 1996. These assets account
for less than 1% of total earning assets.
INVESTMENT PORTFOLIO MATURITY SCHEDULE
Securities Maturing
as of December 31, 1997
(in thousands)
<TABLE>
<CAPTION>
After One Year After Five Years
Within One But Within But Within After Ten
Year Five Years Ten Years Years
----------------- ------------------ ------------------- ------------------
Amount Yield Amount Yield Amount Yield Amount Yield
------- ----- ------- ----- ------- ----- ------- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Securities Available for
Sale:
U.S. Treasury
securities $20,048 5.94% $19,289 6.10% -- -- -- --
U.S. Agency obligations 4,991 5.97% 16,074 6.03% $ 2,013 6.09% $17,662 6.05%
State and political
subdivisions 5,570 6.97% 25,107 6.66% 24,060 6.74% 7,453 6.57%
Other 4,321 7.67% 5,894 7.97% 104 7.74% 4,105 7.81%
------- ------- ------- -------
Total AFS
Securities 34,930 6.37% 66,364 6.46% 26,177 6.69% 29,220 6.43%
------- ------- ------- -------
Securities Held To
Maturity:
U.S. Treasury
securities -- -- -- -- -- --
U.S. Agency obligations 24,941 7.16% 10,486 6.08% 8,447 6.04% 4,522 5.64%
State and political
subdivisions -- -- -- --
Other -- -- -- --
------- ------- ------- -------
Total HTM
Securities 24,941 7.16% 10,486 6.08% 8,447 6.04% 4,522 5.64%
------- ------- ------- -------
Total Securities $59,871 6.67% $76,850 6.41% $34,624 6.53% $33,742 6.32%
======= ======= ======= =======
</TABLE>
Deposits and Short-term Borrowings
The Company's average deposits and short-term borrowings increased $74
million or 10.1% from 1996 to 1997. Within this growth, average interest bearing
liabilities increased $70.9 million or 11.6%, while average noninterest bearing
deposits increased $3.1 million or 2.6%. Average deposits and short-term
borrowings increased $82.2 million or 12.7% from 1995 to 1996. Within this
growth, average interest
28
<PAGE> 30
bearing liabilities increased $73.9 million or 13.8%, while average noninterest
bearing deposits increased $8.2 million or 7.3%. The majority of the growth
since 1995 reflects the Company's strategy of consistently emphasizing deposit
growth, as deposits are the primary source of funding for balance sheet growth.
Management remains dedicated to pursuing various avenues to develop its deposit
base through product enhancements, improved customer service, employee education
regarding cross selling bank products and services, and deposit acquisitions
such as the Marion Purchase,
For Pioneer Bank, average interest bearing transaction deposits and
average savings deposits, increased 11.1% and 21.6%, respectively, from 1996 to
1997, and increased 3.73% and 11.76%, respectively from 1995 to 1996. The
largest dollar growth in average deposits at Pioneer Bank during 1997 occurred
in savings deposits and certificates of deposit over $100,000. For 1997, average
savings deposits increased $15.3 million or 21.8% and certificates of deposit
over $100,000 increased $14.7 million or 33.3%. The growth during 1997 occurred
due to ongoing promotional efforts and special rates introduced for limited time
periods.
Valley Bank experienced an increase in average interest bearing
transaction deposits of 10.6% and a slight decrease in average savings deposits
of 3.9%, respectively, from 1996 to 1997, and had slight increases of 2.5% and
2.7%, respectively from 1995 to 1996. The largest growth in average deposits at
Valley Bank during 1997 occurred in investment certificates of deposit under
$100,000 and interest demand accounts. For 1997, average certificates of deposit
under $100,000 increased $9.5 million or 15.2% and interest demand accounts
increased $2.2 million or 12.6%. The growth during 1997 occurred due to special
rates with ongoing promotions.
Since September, 1997, when Pioneer Bank, f.s.b. began operations,
there has been an increase of $560,000 in interest demand balances, and an
increase of $528,000 in savings balances. There were no balances in these
accounts when Pioneer Bank, f.s.b. began operations. Certificates of less than
$100,000 increased $714,000 or 8.9% since beginning operations. Approximately
$8.7 million of certificates less than $100,000 were initially transferred to
Pioneer Bank, f.s.b. from Pioneer in October, 1997. Total deposits at Pioneer
Bank, f.s.b. as of December 31, 1997, was $15.3 million or $6.5 million more
than were transferred from Pioneer in October, 1997. This deposit growth
represents an increase of 74% in three months.
From year end 1996 to year end 1997, total deposits and other
borrowings of the Company increased $80.9 million or 10.6%. The largest portion
of the growth during 1997 was in FHLB borrowings increasing $28 million or 280%.
From year end 1996 to year end 1997, interest bearing transaction deposits and
savings accounts increased $12.0 million or 5.2%, certificates of deposit over
$100,000 increased $14.5 million or 25.8% and other time deposits of less than
$100,000 increased $28.2 million or 10.1%. From year end 1996 to year end 1997,
noninterest bearing transaction deposits increased $1.1 million or less than 1%.
From year end 1995 to year end 1996, total deposits and other
borrowings of the Company increased $61.9 million or 8.8%. The largest portion
of the growth during 1996 was in savings deposits increasing $23.1 million or
26.2%. From year end 1995 to year end 1996, interest bearing transaction
deposits increased $2.1 million or 1.8%, certificates of deposit over $100,000
increased $4.6 million or 9% and other time deposits of less than $100,000
increased $2.8 million or 1.0%. From year end 1995 to year end 1996, noninterest
bearing transaction deposits decreased $2.2 million or 1.8%.
29
<PAGE> 31
Regarding the Company's deposit mix, savings deposits and both interest
bearing and noninterest bearing transaction deposits accounted for 49.1% of
total average deposits during 1997. For 1996, these relatively low cost deposits
equaled 49.2% of all deposits and for 1995 they represented 50.2%. The decrease
of 1.0% from 1995 to 1996 reflects the change in customer preferences for higher
earning certificates of deposits. The large certificates of deposit,
representing 9.8% of the total average deposits in 1997, increased from 8.4% in
1996, and is also higher than the 8.5% level in 1995. For the last three years
time deposits under $100,000 have remained stable at 41.1%, 42.4% and 41.3% of
average deposits for 1997, 1996 and 1995, respectively. The maturities of the
time deposits over and under $100,000 issued by the Company as of December 31,
1997, are summarized in the following table:
MATURITIES OF TIME DEPOSITS
as of December 31, 1997
(in thousands)
<TABLE>
<CAPTION>
Over three Over 1 year
Three months months Through Over
or less less than 1 year 5 years 5 years
------------ --------------- ------------ -------
<S> <C> <C> <C> <C>
Certificates of deposit
over $100,000 $ 20,471 $ 42,334 $ 7,776 $ 4
Other time deposits
under $100,000 93,410 170,986 42,829 16
======== ======== ======= ===
Total $113,881 $213,320 $50,605 $20
======== ======== ======= ===
</TABLE>
Borrowed funds consist of short-term borrowings, primarily federal
funds purchased, securities sold under agreements to repurchase with our
commercial customers and short-term borrowings from the Federal Home Loan Bank.
Average federal funds purchased and average securities sold under agreements to
repurchase increased $15.1 million or 31.8% in 1997, $11.1 million or 30.8% in
1996 and $19.6 million or 118.3% in 1995. Much of the 1996 and 1997 growth
occurred through an emphasis seeking new cash management accounts using
commercial repurchase agreements. Average borrowings from the Federal Home Loan
Bank increased by $10.1 million or 107.1% in 1997 and $9.4 million in 1996, the
initial year of borrowings. The Company has increased its borrowings from the
Federal Home Loan Bank to facilitate growth in the loan portfolio.
SHORT - TERM BORROWINGS
<TABLE>
<CAPTION>
Maximum Average
Outstanding Average Interest
At Any Average Interest Ending Rate At
Month End Balance Rate Balance Year End
--------- ------- ------- -------- -------
<S> <C> <C> <C> <C> <C>
Year Ended December 31,
1997
Federal funds purchased $ 9,200 $ 3,689 5.66% $ -- 5.31%
Securities sold under agreements to
repurchase 72,308 58,670 4.30% 60,439 4.37%
Federal Home Loan Borrowings 38,000 19,533 5.59% 38,000 5.58%
-------- ------- -------
Total Short - Term Borrowings $119,508 $81,892 4.67% $98,439 4.84%
======== ======= =======
1996
Federal funds purchased $ 20,300 $ 3,444 5.63% $13,500 5.93%
Securities sold under agreements to
repurchase 51,254 43,859 4.29% 49,839 4.21%
Federal Home Loan Borrowings 10,000 9,430 5.44% 10,000 5.44%
-------- ------- -------
Total Short - Term Borrowings $ 81,554 $56,733 4.56% $73,339 5.69%
======== ======= =======
</TABLE>
30
<PAGE> 32
Capital Resources
The Company's stockholders' equity increased $6.0 million or 6.4% to
$99.9 million as of December 31, 1997, compared with $93.9 million at the end of
1996, and $87.6 million at year end 1995. Retention of earnings and unrealized
appreciation on securities "Available for Sale" accounted for all the increases
in stockholders' equity during 1997. The growth in stockholders' equity in 1997
was slowed somewhat by an increase in the payment of $3.5 million in dividends
on the Company's Common Stock and purchases of $1.2 million in treasury stock by
the Company.
Unrealized appreciation of investment securities "Available for Sale"
accounted for an increase of $238,014 in stockholders' equity as of December 31,
1997. Excluding the securities "Available for Sale" adjustment, stockholders'
equity was $98.9 million as of year end 1997, compared to $93.1 million for
1996, an increase of $5.8 million or 6.2%.
Dividends of $3.5 million were declared on the Company's Common Stock
in 1997, an increase of $187,995 or 5.8% from 1996. The 1997 annual dividend per
common share was $.92 as compared to $.87 in 1996 adjusted for the 2 for 1 stock
split in June, 1996. The dividend payout ratio for 1997, defined as common
dividends declared as a percentage of net income available to common
stockholders, was 35.4% in 1997 compared to 36.4% and 40.2% for 1996 and 1995,
respectively. The Company presently intends to continue a dividend payout
similar to the historical levels, subject to declaration by the Board of
Directors.
The Company owned 29,479 shares of treasury stock accounted for at $1.1
million as of year end 1997 and 15,269 shares of treasury stock accounted for at
$558,784 as of year end 1996. The shares are recorded on the balance sheet using
the cost method for both dates. The treasury stock will generally be available
for the Company's Employee Stock Ownership Plan ("ESOP"), exercises of options
and other corporate stock plan purposes.
No new Common Stock or Preferred Stock was issued by the Company during
1997.
A strong capital position promotes depositor and investor confidence
and provides a foundation for profitability and future growth of the
organization. The Company's five-year compound annual growth rate in
stockholders' equity of 5.84% was primarily achieved through reinvested
earnings.
Average stockholders' equity as a percentage of total average assets is
one measure used to determine capital strength. The ratio of average
shareholders' equity to average assets for 1997 was 10.54% compared to 10.71% in
1996 and 11.33% in 1995.
RETURNS ON EQUITY AND ASSETS
<TABLE>
<CAPTION>
Year ending December 31,
1997 1996 1995
- -------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Return on average assets 1.07% 1.09% 0.96%
Return on average equity 10.16% 10.14% 8.45%
Common dividend payout ratio 35.43% 36.40% 40.23%
Average equity to
average assets ratio 10.54% 10.71% 11.33%
</TABLE>
31
<PAGE> 33
The various federal bank regulators, including the Federal Reserve and
the FDIC, have risk-based capital requirements for assessing bank holding
company and bank capital adequacy. These standards define capital and establish
minimum capital standards in relation to assets and off-balance sheet exposures,
as adjusted for credit risks. Capital is classified into two tiers. For bank
holding companies, Tier 1 or "core" capital consists of common shareholders'
equity, qualifying noncumulative perpetual preferred stock and minority
interests in the common equity accounts of consolidated subsidiaries, reduced by
goodwill, other intangible assets and certain investments in other corporations
("Tier 1 Capital"). Tier 2 Capital consists of Tier 1 Capital, as well as a
limited amount of the allowance for possible loan losses, certain hybrid capital
instruments (such as mandatory convertible debt), subordinated and perpetual
debt and non-qualifying perpetual preferred stock ("Tier 2 Capital").
At December 31, 1994, a risk-based capital measure and a minimum ratio
standard was fully phased in, with a minimum total capital ratio of 8.00% and
Tier 1 Capital equal to at least 50% of total capital. The Federal Reserve also
has a minimum leverage ratio of Tier 1 Capital to total assets of 3%. The 3%
Tier 1 Capital to total assets ratio constitutes the leverage standard for bank
holding companies and BIF-insured state-chartered non-member banks, and will be
used in conjunction with the risk-based ratio in determining the overall capital
adequacy of banking organizations. The FDIC has similar capital requirements for
BIF-insured state-chartered non-member banks.
The Federal Reserve and the FDIC have emphasized the capital standards
are supervisory minimums and an institution would be permitted to maintain such
minimum levels of capital only if it were rated a composite "one" under the
regulatory rating systems for bank holding companies and banks. All other bank
holding companies are required to maintain a leverage ratio of 3% plus at least
1% to 2% of additional capital. These rules further provide that banking
organizations experiencing internal growth or making acquisitions will be
expected to maintain capital positions substantially above the minimum
supervisory levels and comparable to peer group averages, without significant
reliance on intangible assets. The Federal Reserve continues to consider a
"tangible Tier 1 leverage ratio" in evaluation proposals for expansion or new
activities. The tangible Tier 1 leverage ratio is the ratio of a banking
organization's Tier 1 Capital, to total average assets less all intangibles. The
percentage ratios for the Company, as calculated under the guidelines, were
12.91% and 13.99% for Tier 1 and Tier 2, respectively, at year-end 1997. The
tangible Tier 1 leverage ratio for the Company in 1997 was 10.29%. The
regulatory capital ratios of the Company currently exceed the minimum ratios of
5% leverage capital, 6% Tier 1 and 10% Tier 2 required in 1997 for "well
capitalized" banks as defined by federal regulators. The Federal Reserve Board
has not advised the Company of any specific minimum leverage ratio applicable to
it. See "Supervision and Regulation - Capital"
The following table sets forth the regulatory capital calculations of
the Company and its subsidiaries on a consolidated basis as of December 31,
1997, 1996 and 1995, calculated in accordance with the applicable requirement of
the Federal Reserve in effect on such date:
32
<PAGE> 34
RISK BASED-CAPITAL CALCULATION
(in thousands)
<TABLE>
<CAPTION>
December 31,
-----------------------------------------------------------------------------------
1997 1996 1995
-----------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Stockholders' Equity $ 99,916 10.44% $ 93,923 10.83% $ 87,625 10.96%
===================================================================================
Regulatory capital
Tier 1 risk based:
Actual $ 93,156 12.91% $ 86,667 13.86% $ 80,042 14.77%
Minimum required 28,866 4.00% 25,012 4.00% 21,680 4.00%
-----------------------------------------------------------------------------------
Excess above minimum $ 64,290 8.91% $ 61,665 9.86% $ 58,362 10.77%
===================================================================================
Total risk based:
Actual $100,993 13.99% $ 92,425 14.78% $ 85,914 15.85%
Minimum required 57,732 8.00% 50,023 8.00% 43,360 8.00%
-----------------------------------------------------------------------------------
Excess above minimum $ 43,261 5.99% $ 42,402 6.78% $ 42,402 7.85%
===================================================================================
Leverage:
Actual $ 93,156 10.29% $ 86,667 10.55% $ 80,042 10.93%
Minimum required 27,167 3.00% 24,651 3.00% 21,972 3.00%
-----------------------------------------------------------------------------------
Excess above minimum $ 65,989 7.29% $ 62,016 7.55% $ 58,070 7.93%
===================================================================================
Total risked based assets $721,655 $625,289 $541,998
Total average assets $911,291 $828,165 $739,679
Total assets $956,890 $867,240 $799,268
Total intangible assets $ 5,716 $ 6,450 $ 7,271
</TABLE>
BALANCE SHEET MANAGEMENT
Liquidity Management
Liquidity is the ability of a company to convert assets into cash or
cash equivalents without significant loss and to raise additional funds by
increasing liabilities. Liquidity management involves maintaining the Company's
ability to meet the day-to-day cash flow requirements of the its customers,
whether they are depositors wishing to withdraw funds or borrowers requiring
funds to meet their credit needs.
The primary function of asset/liability management is not only to
assure adequate liquidity in order for the Company to meet the needs of its
customer base, but to maintain an appropriate balance between interest-sensitive
assets and interest-sensitive liabilities so the Company can profitably deploy
its assets. Both assets and liabilities are considered sources of liquidity
funding and both are, therefore, monitored on a daily basis.
The asset portion of the balance sheet provides liquidity primarily
through loan principal repayments and maturities of investment securities. Real
estate and commercial, financial and agricultural loan payments are becoming an
increasingly important source of liquidity for the Company as this portfolio
continues to grow. Total loans, less unearned income, maturing in one year or
less amounted to $297.9 million or 45.8% of the total loan portfolio at December
31, 1997. Investment securities maturing in the same time frame totaled $59.9
million or 29.2% of the investment securities portfolio at year-end 1997.
33
<PAGE> 35
Additional sources of liquidity are the investments in federal funds sold and
prepayments from the mortgage backed securities from the investment portfolio.
The liability portion of the balance sheet provides liquidity through
various customers' interest bearing and noninterest bearing deposit accounts.
Securities sold under agreements to repurchase and other short-term borrowings,
including advances from the Federal Home Loan Bank of Cincinnati, are additional
sources of liquidity and basically represent the Company's incremental borrowing
capacity. These sources of liquidity are short-term in nature and are used as
necessary to fund asset growth and meet short-term liquidity needs. At year-end
1997, the Company held $24.1 million of additional securities available for
pledging as repurchase agreements and had $70 million of federal funds purchased
lines available and unused.
Interest Rate Sensitivity Management
Interest rate sensitivity is a function of the repricing
characteristics of the Company's portfolio of assets and liabilities. These
repricing characteristics are the time frames within which the interest bearing
assets and liabilities are subject to change in interest rates either at
replacement, repricing or maturity during the life of the instruments. Interest
rate sensitivity management focuses on repricing relationships of assets and
liabilities during periods of changes in market interest rates. Interest rate
sensitivity with a view to maintaining a mix of assets and liabilities that
respond to changes in interest rates within an acceptable time frame, thereby
managing the effect of interest rate movements on net interest income. Interest
rate sensitivity is measured as the difference between the volumes of assets and
liabilities that are subject to repricing at various time horizons. The
differences are interest sensitivity gaps: three months or less, three to twelve
months, one to five years, over five years and on a cumulative basis. The
following table shows interest sensitivity gaps for these different intervals as
of December 31, 1997 and 1996.
The allocations used for the interest rate sensitivity report below
were based on the maturity schedules for the loans and deposits and the duration
schedules for the investment securities. Federal funds sold and purchased and
agreements to repurchase were allocated to the three month category. The Federal
Home Loan Borrowings were allocated according to their respective maturity
dates. All other interest bearing deposits were allocated 15% to the three month
category, 20% to the less than one year category, 45% to the less than five year
category and the remainder to the over 5 year category. As shown in the
following table, as of December 31, 1997, 67% of the Company's interest bearing
liabilities will reprice within a year compared to 43% of all interest earning
assets for the same period. Accordingly, if interest rates increase suddenly,
rates on liabilities will increase faster than interest bearing assets, in the
less than one year period, and the net interest margin will be adversely
affected. Changes in the mix of earning assets or supporting liabilities can
either increase or decrease the net interest margin without affecting interest
rate sensitivity. In addition, the interest rate spread between an asset and its
supporting liability can vary significantly while the timing of repricing for
both the asset and the liability remains the same, thus impacting net interest
income. This is referred to as basis risk and, generally, relates to the
possibility that the repricing characteristics of short-term assets tied to the
Company's prime lending rate are different from those of short-term funding
sources such as certificates of deposit.
Varying interest rate environments can create unexpected changes in
prepayment levels of assets and liabilities which are not reflected in the
interest sensitivity analysis report. Prepayments may have significant effects
on the Company's net interest margin. Because of these factors and in a static
test, interest sensitivity gap reports may not provide a complete assessment of
the Company's exposure to changes in interest rates. Management utilizes
computerized interest rate simulation analysis to determine
34
<PAGE> 36
the Company's interest rate sensitivity. The table below indicates the Company
is in a liability sensitive gap position for the first year, then moves into an
asset sensitive position. Overall, due to the factors cited, current simulation
results indicates a relatively low sensitivity to parallel shifts in interest
rates. A liability sensitive company will generally benefit from a falling
interest rate environment as the cost of interest bearing liabilities falls
faster than the yields on interest bearing assets, thus creating a widening of
the net interest margin. Conversely, an asset sensitive company will benefit
from a rising interest rate environment as the yields on earning assets rise
faster than costs of interest bearing liabilities. Management also evaluates
economic conditions, the pattern of market interest rates and competition to
determine the appropriate mix and repricing characteristics of assets and
liabilities required to produce a targeted net interest margin.
35
<PAGE> 37
INTEREST RATE SENSITIVITY ANALYSIS
as of December 31,
(in thousands)
<TABLE>
<CAPTION>
Over 3 Over 1
Months Year Non-
3 Months through through Over Interest
1997 or less 12 Months 5 Years five years Sensitive Total
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Securities AFS $ 16,978 $ 17,952 $ 66,364 $ 55,397 $ -- $156,691
Securities HTM 793 24,148 10,486 12,969 -- 48,396
Other interest earning
assets 19,358 -- -- -- -- 19,358
Loans 240,096 57,764 320,244 31,654 -- 649,758
-----------------------------------------------------------------------------
Total earning Assets 277,225 99,864 397,094 100,020 -- 874,203
-----------------------------------------------------------------------------
Time deposits under 100M 93,410 170,986 42,829 16 -- 307,241
CD's over 100M 20,471 42,334 7,776 4 -- 70,585
Other interest bearing
liabilities 72,785 84,258 172,611 12,696 -- 342,350
-----------------------------------------------------------------------------
Total interest bearing
liabilities 186,666 297,578 223,216 12,716 -- 720,176
Noninterest bearing sources
of funds-net 154,027 154,027
-----------------------------------------------------------------------------
Interest sensitivity gap $ 90,559 $(197,714) $173,878 $ 87,304 $(154,027) $ --
=============================================================================
Cumulative interest
sensitivity gap $ 90,559 $(107,155) $ 66,723 $154,027 $ --
Interest sensitivity gap as
a percentage of total
earning assets 10.36% -22.62% 19.89% 9.99%
Cumulative interest
sensitivity gap as a
percentage of
total earning assets 10.36% -12.26% 7.63% 17.62%
===================================================
1996
- -----------------------------
Securities AFS $ 20,752 $ 14,822 $106,028 $ 50,588 $ -- $192,190
Securities HTM 1,000 3,054 38,242 17,113 -- 59,409
Other interest earning
assets 2,131 -- -- -- -- 2,131
Loans 82,983 65,890 285,287 89,093 -- 523,253
-----------------------------------------------------------------------------
Earning assets 106,866 83,766 429,557 156,794 -- 776,983
-----------------------------------------------------------------------------
Time deposits under 100M 103,836 131,617 43,603 -- -- 279,056
CD's over 100M 24,316 25,704 6,066 -- -- 56,086
Other interest bearing
liabilities 96,529 23,189 151,132 34,385 -- 305,235
-----------------------------------------------------------------------------
Interest bearing liabilities 224,681 180,510 200,801 34,385 -- 640,377
Noninterest bearing sources
of funds-net 136,606 136,606
=============================================================================
Interest sensitivity gap $(117,815) $ (96,744) $228,756 $122,409 $(136,606) $ --
=============================================================================
Cumulative interest
sensitivity gap $(117,815) $(214,559) $ 14,197 $136,606 $ --
Interest sensitivity gap as
a percentage of total
earning assets -15.16% -12.45% 29.44% 15.75%
Cumulative interest
sensitivity gap as a
percentage of
total earning assets -15.16% -27.61% 1.83% 17.58%
===================================================
</TABLE>
36
<PAGE> 38
RESULTS OF OPERATIONS
Net Interest Income
Net interest income is the principal component of a financial
institution's income stream and represents the difference or spread between
interest and fee income generated from earning assets and the interest expense
paid on deposits and other borrowed funds. Fluctuations in interest rates as
well as volume and mix changes in earning assets and interest bearing
liabilities can materially impact net interest income. The discussion of net
interest income is presented on a taxable equivalent basis, unless otherwise
noted, to facilitate comparisons among various taxable and tax-exempt assets.
Net interest income for 1997 increased $6.2 million or 19.0% over 1996,
$4.7 million or 16.7% in 1996 over 1995 and $705,000 or 2.6% in 1995 over 1994.
Increased volumes and rates of earning assets account for the increases since
1994. The schedule on pages 42 and 43 provides the detail of changes in interest
income, interest expense and net interest income due to changes in volumes and
rates.
Interest income increased $10.2 million or 17.2% in 1997 from 1996,
increased $7.9 million or 15.6% in 1996 from 1995, and increased $8.8 million or
20.9% in 1995 from 1994. The 1997 increase in interest income resulted from a
10.8% increase in the volume of average earning assets, as well as by a 46 basis
point increase in the average interest rate earned on assets. The largest
percentage of growth in average assets occurred in the loan portfolio, $115
million, while the average rate earned on the loan portfolio increased 33 basis
points. Through these increases, the loan portfolio produced an additional $12
million or 29.2% in interest income in 1997 over 1996. The yield on the
investment security portfolio increased 18 basis points from 6.40% in 1996 to
6.58% in 1997. Although the yield increased, the average volume decreased $39.8
million or 14.7%, and interest income on investment securities decreased $2.1
million or 12.4% from 1996 to 1997. Federal funds sold and other earning assets
increased in average volume by $5.4 million or 57.8% from 1996 to 1997, and
showed an increase in average rates earned of nine basis points.
The 1996 increase in interest income resulted from an 11.4% increase in
the volume of average earning assets, as well as by a 29 basis point increase in
the average interest rate earned on assets. The greatest percentage of growth in
average assets occurred in the loan portfolio, $100.7 million, while the average
rate earned on the loan portfolio increased 21 basis points. Through these
increases, the loan portfolio produced an additional $9.6 million or 30.5% in
interest income in 1996 over 1995. The yield on the investment security
portfolio decreased five basis points from 6.45% in 1995 to 6.40% in 1996. With
the yield declining and the average volume decreasing $9 million or 3.2%,
interest income on investment securities decreased $714,000 or 3.9% from 1995 to
1996. Federal funds sold and other earning assets decreased in average volume by
$14.1 million or 60.4%, and showed a decrease in average rates earned of 74
basis points.
37
<PAGE> 39
Total interest expense increased by $3.3 million or 14.2% in 1996 from
1995, due to an increase in interest bearing liabilities of $74 million or 13.8%
and a two basis point increase in the average rate paid on interest bearing
liabilities. Interest expense on interest bearing deposits increased $2.4
million or 11.5% as the result of a three basis point increase in rates and a
$53.4 million or 10.7% increase in the average volume. The $20.5 million
increase in average borrowed funds, (including interest bearing liabilities not
classified as deposits), coupled with a 27 basis point decrease in their rates
resulted in an $837,000 or 47.9% increase in interest expense for this category.
The trend in net interest income is commonly evaluated in terms of
average rates using the net interest margin and the interest rate spread. The
net interest margin, or the net yield on earning assets, is computed by dividing
fully taxable equivalent net interest income by average earning assets. This
ratio represents the difference between the average yield returned on average
earning assets and the average rate paid for all funds used to support those
earning assets, including both interest bearing and noninterest bearing sources
of funds. The net interest margin increased 32 basis points in 1997 to 4.70%,
preceded by a 20 basis point increase in 1996 to 4.38% from 4.18% in 1995. The
net cost of funds, defined as interest expense divided by average earning
assets, increased 13 basis points to 3.64% in 1997 from 3.51% in 1996. The yield
on earning assets increased 46 basis points to 8.35% in 1997 from 7.89% in 1996.
Comparing 1996 to 1995, the yield on earning assets rose 29 basis points, while
the rate paid on interest bearing liabilities increased two basis points. From
1995 to 1996 the net cost of funds increased nine basis points and the net
interest margin increased 20 basis points.
The interest rate spread measures the difference between the average
yield on earning assets and the average rate paid on interest bearing sources of
funds. The interest rate spread eliminates the impact of noninterest bearing
funds and gives a direct perspective on the effect of market interest rate
movements. During recent years, the net interest margins and interest rate
spreads have been under intense pressure to maintain historical levels, due in
part to tax laws discouraging investment in tax-exempt instruments, intense
competition for funds with non-bank institutions and changing regulatory
supervision for some financial intermediaries. The pressure was not unique to
the Company and was experienced by the banking industry nationwide. As a result
of changes in the overall asset and liability mix during 1997 and of the general
economic factors, the interest rate spread increased from 1996 to 1997. The net
interest rate spread in 1997 increased 33 basis points to 3.92% from the 1996
spread of 3.59%, as the yields earned on earning assets increased faster than
the cost of interest bearing liabilities. In 1996, the net interest spread
increased from 1995 by 27 basis points.
See the accompanying schedules entitled "Rate/Volume Variance Analysis"
and "Consolidated Average Balances, Interest Income/Expense and Yields/Rates"
for more information.
38
<PAGE> 40
THIS PAGE INTENTIONALLY LEFT BLANK
39
<PAGE> 41
CONSOLIDATED AVERAGE BALANCES,
INTEREST INCOME/EXPENSE AND
YIELDS/RATES
Taxable Equivalent Basis
(in thousands)
<TABLE>
<CAPTION>
---------------------------------------------------------------------
Year Ending December 31, 1997 1996
---------------------------------------------------------------------
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
---------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
ASSETS
Earning Assets:
Loans, net of unearned $ 583,698 $53,237 9.12% $ 468,686 $41,218 8.79%
Investment securities: 230,340 15,146 6.58% 270,133 17,295 6.40%
Other earning assets 14,615 781 5.34% 9,259 486 5.25%
--------------------- --------------------
Total earning assets 828,653 69,164 8.35% 748,078 59,000 7.89%
Allowance for loan losses (6,806) (5,690)
Cash and other assets 89,444 86,227
--------- ---------
TOTAL ASSETS $ 911,291 $ 828,615
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest Bearing Liabilities:
Interest demand $ 124,477 3,362 2.70% $ 119,119 3,308 2.78%
Savings 106,584 3,426 3.21% 91,871 2,614 2.85%
Time less than 100,000 297,658 15,306 5.14% 286,062 14,583 5.10%
CD's greater than 100,000 71,048 4,283 6.03% 57,010 3,163 5.55%
Other Obligations 19,533 1,091 5.59% 9,430 513 5.44%
Federal funds purchased and
securities sold under agreements to repurchase 62,359 2,731 4.38% 47,303 2,073 4.38%
--------------------- --------------------
Total interest bearing liabilities 681,659 30,199 4.43% 610,795 26,254 4.30%
------- -------
Net interest spread $38,965 3.92% $32,746 3.59%
======= =======
Noninterest bearing deposits 124,346 121,244
Accrued expenses and other liabilities 9,247 7,857
Stockholders' equity 96,039 88,719
--------- --------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $ 911,291 $ 828,615
========= =========
Net yield on earning assets 4.70% 4.38%
==== ====
Taxable equivalent adjustment:
Loans $ 130 $ 149
Investment securities 1,798 1,887
------- -------
Total adjustment $ 1,928 $ 2,036
======= =======
</TABLE>
40
<PAGE> 42
<TABLE>
<CAPTION>
Growth Rates
Average Balances
- --------------------------------------------------------------------------------------- -----------------
1995 1994 1993 One Year Five Year
- ----------------------------------------------------------------------------------------
Average Income/ Yield/ Average Income/ Yield/ Average Income/ Yield/ Compound
Balance Expense Rate Balance Expense Rate Balance Expense Rate 1996-1997 1993-1997
- -------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
$367,943 $31,580 8.58% $316,904 $25,278 7.98% $263,650 $21,326 8.09% 24.54% 21.98%
279,102 18,009 6.45% 267,660 16,296 6.09% 274,938 16,501 6.00% (14.73)% (4.33)%
23,384 1,460 5.99% 16,267 656 4.03% 29,238 933 3.19% 57.85% (15.92)%
- ------------------ ------------------ -------------------
671,429 51,049 7.60% 600,831 42,230 7.03% 567,826 38,760 6.83% 10.77% 9.91%
(5,550) (5,627) (5,711) 19.61% 4.48%
73,800 71,662 63,787 3.73% 8.82%
- -------- -------- --------
$739,679 $666,866 $625,902 9.98% 9.85%
======== ======== ========
$111,477 3,077 2.76% $110,052 2,368 2.15% $107,836 2,363 2.19% 4.50% 3.65%
83,638 2,395 2.86% 80,506 2,319 2.88% 84,855 2,274 2.68% 16.01% 5.87%
53,680 12,995 5.12% 235,353 7,956 3.38% 216,459 7,204 3.33% 4.05% 8.29%
51,826 2,767 5.34% 37,211 1,583 4.25% 29,107 1,101 3.78% 24.62% 24.99%
-- -- -- -- -- -- -- -- -- 107.14% --
36,177 1,749 4.83% 16,574 643 3.88% 14,846 364 2.45% 31.83% 43.16%
- ------------------ ------------------ -------------------
536,798 22,983 4.28% 479,696 14,869 3.10% 453,103 13,307 2.94% 11.60% 10.75%
------- ------- -------
$28,066 3.32% $27,361 3.93% $25,453 3.89%
======= ======= =======
113,025 105,068 92,260 2.56% 7.75%
6,046 3,785 3,996 17.69% 23.34%
83,810 78,317 76,543 8.25% 5.84%
- -------- -------- --------
9.98% 9.85%
$739,679 $666,866 $625,902
======== ======== ========
4.18% 4.55% 4.48%
==== ==== ====
$ 129 $ 98 $ 178
1,947 1,969 951
------- ------- -------
$ 2,076 $ 2,066 $ 1,129
======= ======= =======
</TABLE>
41
<PAGE> 43
RATE VOLUME VARIANCE REPORT
Taxable Equivalent Basis
(in thousands)
<TABLE>
<CAPTION>
------------------------------------------------------------------------
Average Volume Change in Volume Average Rate
------------------------------------------------------------------------
1997- 1996-
1997 1996 1995 1996 1995 1997 1996 1995
------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Earning Assets:
Loans, net of unearned $583,698 $468,686 $367,943 $115,012 $100,743 9.12% 8.79% 8.58%
Investment securities: 230,340 270,133 279,102 (39,793) (8,969) 6.58% 6.40% 6.45%
Other earning assets 14,615 9,259 24,384 5,356 (15,125) 5.34% 5.25% 5.99%
------------------------------------------------
Total earning assets $828,653 $748,078 $671,429 $ 80,575 $ 76,649 8.35% 7.89% 7.60%
================================================
Interest Bearing Liabilities:
Interest demand $124,477 $119,119 $111,477 $ 5,358 $ 7,642 2.70% 2.78% 2.76%
Savings 106,584 91,871 83,638 14,713 8,233 3.21% 2.85% 2.86%
Time less than $100,000 297,658 286,062 253,680 11,596 32,382 5.14% 5.10% 5.12%
CD's greater than $100,000 71,048 57,010 51,826 14,038 5,184 6.03% 5.55% 5.34%
Other Borrowings 19,533 9,430 -- 10,103 9,430 5.59% 5.44% --
Federal funds purchased and
securities sold under
agreement to repurchase 62,359 47,303 36,177 15,056 11,126 4.38% 4.38% 4.83%
------------------------------------------------
Total interest bearing liabilities $681,659 $610,795 $536,798 $70,864 $73,997 4.43% 4.30% 4.28%
================================================
Net interest income/net interest
spread 3.92% 3.59% 3.32%
=====================
Net yield on earning assets 4.70% 4.38% 4.18%
=====================
Net cost of funds 3.64% 3.51% 3.42%
=====================
</TABLE>
42
<PAGE> 44
<TABLE>
<CAPTION>
Variance Attributed To
- ----------------------------------------------------------------------------------------------------
Income/ Expense Variance 1997 1996
- ----------------------------------------------------------------------------------------------------
1997- 1996-
1997 1996 1995 1996 1995 Volume Rate Mix Volume Rate Mix
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
$53,237 $41,218 $31,580 $12,019 $9,638 $10,489 $1,926 $(396) $8,855 $ 984 $(201)
15,146 17,295 18,009 (2,149) (714) (2,618) 415 54 (574) (135) (5)
781 486 1,460 295 (974) 286 13 (4) (794) (69) (111)
- -----------------------------------------------------------------------------------------------------
69,164 59,000 51,049 10,164 7,951 8,157 2,354 (346) 7,487 780 (317)
- -----------------------------------------------------------------------------------------------------
3,362 3,308 3,077 54 231 145 (100) 9 212 24 (5)
3,426 2,614 2,395 812 219 472 384 (44) 235 (9) (7)
15,306 14,583 12,995 723 1,588 596 119 8 1,651 (57) (6)
4,283 3,163 2,767 1,120 396 847 341 (68) 288 120 (12)
1,091 513 -- 578 513 565 29 (16) 513 0 0
2,731 2,073 1,749 658 324 659 - (1) 487 (213) 50
- -----------------------------------------------------------------------------------------------------
30,199 26,254 22,983 3,945 3,271 3,284 773 (112) 3,386 (135) 20
- -----------------------------------------------------------------------------------------------------
$38,965 $32,746 $28,066 $ 6,219 $4,680 $ 4,873 $1,581 $(234) $4,101 $ 915 $(337)
=====================================================================================================
</TABLE>
43
<PAGE> 45
Provision for Loan Losses, Net Charge-Offs and Allowance for Loan Losses
The provision for loan losses is the expense of providing an allowance
or reserve for anticipated future losses on loans. The amount of the provisions
for each period is dependent upon many factors including loan growth, net
charge-offs, changes in the composition of the loan portfolio, delinquencies,
management's assessment of loan portfolio quality, the value of collateral and
general economic factors.
The economic outlook for Southeastern Tennessee and Northwestern
Georgia, where the Company does business, is cautious. Tennessee's economy has
slowed moderately reflecting structural changes in the manufacturing industry.
The economy in Northwestern Georgia remains strong, due to the large presence of
carpet manufacturers who are supplying the strong housing market with new
carpet. In the Company's markets, real estate values continue to rise as
interest rates eased and housing sales increased. On a regional basis, the
economic improvement in these markets has had an effect on most regional bank
holding companies and is reflected by stronger asset growth. A continued healthy
economy will probably hold the level of net charge-offs and delinquencies for
1998 at or below historical peer group averages. Stable levels of interest rates
since early 1997 have facilitated the growth of real estate development and
lending. See "Effects of Inflation and Changing Prices" and "Business - Fiscal
and Monetary Policy."
Should the economy continue to grow at a moderate pace, improved
property values and commercial developments will enhance the asset quality of
the loan portfolio and, therefore, lower the probability for further
write-downs, charge-offs and the transfer of currently performing loans to a
nonaccrual status in the real estate and commercial loan categories. The mix of
loans in the commercial real estate construction and development portfolios are
balanced in areas such as office buildings, retail stores, apartment buildings,
health care facilities and industrial warehouses. In addition, the Banks'
lending review monitors large real estate credits on a continuing basis.
During recent years, the Company has strengthened its review process of
the larger loans in its portfolio and has imposed stricter underwriting
standards in order to reduce the effect economic cycles might have on credit
quality. Loan review procedures, including such techniques as loan grading, are
constantly used by the Company's loan review department in order to ensure
potential problem loans are identified early in order to lessen any potentially
negative impact problem loans may have on the Company's earnings. Automated loan
reports are prepared and used in conjunction with the identification and
monitoring of such loans on a monthly basis. Management's involvement continues
throughout the process and includes participation in the work-out process and
recovery activity. These formalized procedures are monitored internally by the
loan review area whose work is supplemented by internal audit, the Company's
external audit and regulatory agencies who provide an additional level of review
on an annual basis. Such review procedures are quantified in monthly, quarterly
and annual reports to senior management and are used in determining whether such
loans represent potential losses to the Company. A determination of a potential
loss will result in a charge to the provision for loan losses, thereby
increasing the allowance for possible loan losses available for the potential
risk. Management monitors the entire loan portfolio in an attempt to identify
problem loans so credit risks in the portfolio can be timely identified and an
appropriate allowance maintained.
The following table sets forth information with respect to the
Company's loans, net of unearned income, and the allowance for loan losses for
the five years ended December 31, 1997.
44
<PAGE> 46
SUMMARY OF LOAN LOSS EXPERIENCE
(in thousands)
<TABLE>
<CAPTION>
1997 1996 1995 1994 1993
------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Loans, net of unearned income
Average outstanding during the period $583,698 $468,686 $367,943 $316,904 $263,650
=======================================================
Allowance for loan losses:
Balance at beginning of period $ 5,758 $ 5,872 $ 5,355 $ 5,371 $ 5,934
Charge-offs:
Commercial, financial and agricultural 638 1,010 133 1,872 960
Real estate construction -- -- -- -- --
Real estate mortgage
Residential 190 609 11 293 525
Commercial -- -- -- 353 179
Consumer credit cards 117 58 17 -- --
Consumer installment 1,147 932 369 386 447
-------------------------------------------------------
Total Charge-offs 2,092 2,609 530 2,904 2,111
-------------------------------------------------------
Recoveries:
Commercial, financial and agricultural 167 660 160 898 253
Real estate construction -- -- -- -- --
Real estate mortgage
Residential 45 432 1 165 111
Commercial -- -- 62 142 --
Consumer credit cards 18 4 6 -- --
Consumer installment 332 302 199 226 243
-------------------------------------------------------
Total Recoveries 562 1,398 428 1,431 607
-------------------------------------------------------
Net charge-offs 1,530 1,211 102 1,473 1,504
Provision charged to income 3,609 1,097 619 1,457 941
-------------------------------------------------------
Balance at end of period $ 7,837 $ 5,758 $ 5,872 $ 5,355 $ 5,371
=======================================================
Net charge-offs to average loans outstanding 0.26% 0.26% 0.03% 0.46% 0.57%
Allowance for loan losses to average loans
outstanding 1.34% 1.23% 1.60% 1.69% 2.04%
Allowance for loan losses to net charge-offs 5.12X 4.75X 57.6X 3.6X 3.6X
</TABLE>
Management considers changes in the size and character of the loan
portfolio, changes in nonperforming and past due loans, historical loan loss
experience, the existing credit risk of individual loans, concentrations of
loans to specific borrowers or industries and existing and prospective economic
conditions when determining the adequacy of the loan loss reserve. The allowance
for possible loan losses increased $2.1 million or 36.1% in 1997, and at
year-end was 1.34% of average loans compared to 1.23% at December 31, 1996 and
1.60% at December 31, 1995. The large increase in the provision charged to
income was because management wanted to increase the provision for possible loan
losses as a percentage of average loans back to its historical levels. As shown
in the table below, management determined that at December 31, 1997,
approximately 26% of the allowance for loan losses was related to commercial,
financial and agricultural loans, 59% was related to real estate loans and 15%
was related to consumer installment loans. The allowance allocations for 1997
and 1996 are shown in the following table.
45
<PAGE> 47
ALLOCATION OF LOAN LOSS RESERVE
<TABLE>
<CAPTION>
as of December 31,
1997 % Total 1996 % Total
------------------------------------------------------
<S> <C> <C> <C> <C>
Commercial, financial
and agricultural $2,014,002 25.7% $1,479,818 25.7%
Real estate 4,600,074 58.7% 3,385,732 58.8%
Consumer 1,222,506 15.6% 811,885 14.1%
Unallocated - -% 80,613 1.4%
------------------------------------------------------
Total $7,836,582 100.0% $5,758,048 100.0%
======================================================
</TABLE>
ALLOWANCE FOR LOAN LOSSES AND RISK ELEMENTS
Interest on loans is normally accrued from the date an advance is made.
The performance of loans is evaluated primarily on the basis of a review of each
customer relationship over a period of time and the judgment of lending officers
as to the ability of borrowers to meet the repayment terms of loans. If there is
reasonable doubt as to the repayment of a loan in accordance with the agreed
terms, the loan may be placed on a nonaccrual basis pending the sale of any
collateral or a determination as to whether sources of repayment exist. This
action may be taken even though the financial condition of the borrower or the
collateral may be sufficient ultimately to reduce or satisfy the obligation.
Generally, when a loan is placed on a nonaccrual basis, all payments are applied
to reduce principal to the extent necessary to eliminate doubt as to the
repayment of the loan. Any interest income on a nonaccrual loan is recognized
only on a cash basis. See "Nonperforming Assets."
Lending officers are responsible for the ongoing review and
administration of each particular loan. As such, they make the initial
identification of loans which present some difficulty in collection or where
circumstances indicate the probability of loss exists. The responsibilities of
the lending officers include the collection effort on a delinquent loan. Senior
management and the Loan Committee are informed of the status of delinquent and
"watch" or problem loans on a monthly basis.
Senior management reviews the allowance for possible loan losses and
makes recommendations to the Loan Committee as to loan charge-offs on a monthly
basis. The Banks' policies are generally to discontinue the accrual of interest
on loans when payment of principal and interest is 90 days or more in arrears
and the loans are otherwise considered non-collectible.
At December 31, 1997, 1996 and 1995 loans accounted for on a nonaccrual
basis were approximately $1.8 million, $1.7 million and $1.2 million
respectively, or 0.28%, 0.33% and 0.27% of the total loans, net of unearned
income. The balances of accruing loans past due 90 days or more as to principal
and interest payments were $2.1 million, $1.1 million and $383,000 at December
31, 1997, 1996 and 1995, respectively.
The allowance for possible loan losses represents management's
assessment of the risks associated with extending credit and its evaluation of
the quality of the loan portfolio. Management analyzes the loan portfolio to
determine the adequacy of the allowance for possible loan losses and the
appropriate provision required to maintain a level considered adequate to absorb
anticipated loan losses. In assessing the adequacy of the allowance, management
reviews the size, quality and risk of loans in the portfolio. Management also
considers such factors as the Banks' loan loss experience, the amount of past
due and nonperforming loans, specific known risk, the status and amount of
nonperforming assets, underlying
46
<PAGE> 48
collateral values securing loans, current and anticipated economic conditions
and other factors affecting the allowance for potential credit losses.
While it is the Banks' policy to charge off in the current period the
loans in which a loss is considered probable, there are additional risks of
future losses which cannot be quantified precisely or attributed to particular
loans or classes of loans. Because these risks include the state of the economy,
management's judgment as to the adequacy of the allowance is necessarily
approximate and imprecise.
In assessing the adequacy of the allowance, management relies
predominately on its ongoing review of the loan portfolio, which is undertaken
both to ascertain whether there are probable losses which must be charged off
and to assess the risk characteristics of the portfolio in the aggregate. This
review takes into consideration the judgments of the responsible lending
officers, senior management and those of bank regulatory agencies who review the
loan portfolio as part of the Banks' examination process. A percentage is
allocated by loan types, with additional amounts being added for individual
problem loans considered to have specific loss potential. While all information
available is used by management to recognize losses in the loan portfolio, there
can be no assurances future additions to the allowance will not be necessary.
Each Bank's Loan Committee reviews the assessments of management in determining
the adequacy of the allowance for loan losses.
The Bank's allowances for possible loan losses is also subject to
regulatory examinations and determinations as to adequacy. Their review may take
into account such factors as the methodology used to calculate the allowance for
possible loan loss reserves and the size of the loan loss reserve in comparison
to a group of peer banks identified by the regulators. During its routine
examinations of banks, the FDIC has, from time to time, required additions to a
bank's provision for possible loan losses and allowances for possible loan
losses as the regulators' credit evaluations and allowance for possible loan
loss methodology have differed from those of the management of such banks.
During the last several years, several large bank holding companies, located in
various portions of the United States, have substantially increased their
provisions and reserves for loan losses following regulatory examinations. Such
regulatory examinations have focused on loan quality, particularly the real
estate loan section of the loan portfolio. These large bank holding companies
have attempted to reduce the credit risks of real estate lending through maximum
loan-to-value requirements as well as systematic cash flow and initial customer
credit history analyses.
Management believes the $7.8 million in the allowance for possible loan
losses at December 31, 1997 (1.21% of total outstanding loans, net of unearned
income at such date) was adequate to absorb known risks in the portfolio. No
assurance can be given, however, that adverse economic circumstances will not
result in increased losses in the Banks' loan portfolios, and require greater
provisions for possible loan losses in the future.
FASB STATEMENTS NO. 114 AND 118
The Company adopted FASB Statements No. 114 and No. 118 in the first
quarter of 1995. For purposes of these FASB Statements, management maintains the
following policy. Impaired loans are divided into two classifications: doubtful
and loss. "Doubtful" loans indicate probable loss and are reserved at 50% of
outstanding principal regardless of underlying collateral value. If collateral
value is less than 50% of principal, then additional specific reserves are
allocated. "Loss" loans are deemed uncollectible by management and are reserved
at 100% of outstanding principal value. The Company charges-off loans it deems
to be uncollectible. The Directors Loan Committee approves all loan charge-offs.
The following table details impaired loans:
47
<PAGE> 49
IMPAIRED LOANS
<TABLE>
<CAPTION>
December 31,
-----------------------
1997 1996
-----------------------
<S> <C> <C>
Principal balance $ 492,004 $ 59,236
Interest income recorded during loan impairment -- --
Reserve for potential credit losses (247,309) (29,877)
-----------------------
Unreserved portion of impaired loans $ 244,695 $ 29,359
=======================
Average principal balance year-to-date $ 82,658 $ 78,879
=======================
</TABLE>
Impaired loans are identified according to the two classification
methods in the following table:
<TABLE>
<CAPTION>
December 31,
----------------------------
1997 1996
----------------------------
<S> <C> <C>
Doubtful loans outstanding $475,513 $58,719
Loss loans outstanding 16,491 517
</TABLE>
NONPERFORMING ASSETS
The Company has policies, procedures and underwriting guidelines
intended to assist in maintaining the overall quality of its loan portfolio. The
Company monitors its delinquency levels for any adverse trends. Nonperforming
assets consist of loans on nonaccrual status, loans renegotiated at more
favorable terms than those for similar credits, real estate and other assets
acquired in partial or full satisfaction of loan obligations and loans past due
90 days or more.
Nonperforming assets include nonperforming loans and foreclosed real
estate held for sale. Nonperforming loans include loans classified as nonaccrual
or renegotiated. The Company's policy generally is to place a loan on nonaccrual
status when it is contractually past due 90 days or more as to payment of
principal or interest. A loan may be placed on nonaccrual status at an earlier
date when concerns exist as to the ultimate collectability of principal or
interest. At the time a loan is placed on nonaccrual status, interest previously
accrued but not collected is reversed and charged against current earnings.
Recognition of any interest after a loan has been placed on nonaccrual is
accounted for on a cash basis. Loans contractually past due 90 days or more,
well secured or guaranteed by financially responsible third parties and in the
process of collection are generally not placed on nonaccrual status.
Nonperforming assets at December 31, 1997, were $2.6 million, an
increase of $243,000 or 10.2% from year-end 1996. At year end 1996 nonperforming
assets were $2.4 million an increase of $473,000 or 24.7% more than at year end
1995. The increase in nonperforming assets during 1997 is attributable primarily
to consumer indirect auto loans at Pioneer Bank. Interest on nonaccrual loans is
stopped when the loan is so categorized. If interest on such loans had been
accrued, such income would have approximated $129,894 for 1997, $150,299 for
1996 and $87,311 for 1995.
During the past few years, the Southeastern region of the country has
experienced a general improvement in the real estate loan market. In view of
these market conditions, management has closely monitored and will continue to
monitor the Company's real estate and commercial loan portfolio during 1998.
Particular attention will be focused on those credits targeted by the loan
monitoring and review
48
<PAGE> 50
process. Management's continued emphasis is to seek and maintain a relatively
low level of nonperforming assets and returning the current nonperforming assets
to an earning status.
At December 31, 1997, nonperforming assets were 0.40% of loans
outstanding plus foreclosed real estate held for sale compared to 0.46% for year
end 1996 and 0.45% for year end 1995. Loans ninety days past due and still
accruing interest as a percentage of total loans was 0.33%, 0.22% and 0.09% for
year end 1997, 1996 and 1995, respectively. Although this is an increasing trend
the level of charge-offs are well within management's accepted range.
At December 31, 1997, $1.81 million of nonaccrual loans or 98% of total
nonaccrual loans were secured. There were no commitments to lend any additional
funds on nonaccrual loans at December 31, 1997. Other foreclosed or repossessed
assets taken in consideration of loan amounts due the Company, consisting
primarily of repossessed automobiles, are classified in other assets at year-end
1997 and account for less than 1% of total assets. The following table
summarizes the Company's nonperforming assets for each of the last five years.
NONPERFORMING ASSETS
(in thousands)
<TABLE>
<CAPTION>
Year ending December 31, 1997 1996 1995 1994 1993
------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Loans, net unearned income $649,758 $523,253 $421,503 $335,911 $287,034
==================================================================
Loans on nonaccrual $ 1,836 $ 1,745 $ 1,153 $ 921 $ 2,988
Renegotiated loans -- -- -- -- --
------------------------------------------------------------------
Total nonperforming loans 1,836 1,745 1,153 921 2,988
Other Nonperforming Assets 107 81 0 0 0
Other real estate 687 561 761 1,444 777
==================================================================
Total nonperforming assets $ 2,630 $ 2,387 $ 1,914 $2,365 $ 3,765
==================================================================
Loans 90 days or more past due
and still accruing $ 2,120 $ 1,139 $ 383 $ 974 $ 219
Total nonperforming loans as
percentage of total loans 0.28% 0.33% 0.27% 0.27% 1.04%
Total nonperforming assets as
a percentage of total loans
and OREO 0.40% 0.46% 0.45% 0.70% 1.31%
Loans 90 days past due as a
percentage of Total loans 0.33% 0.22% 0.09% 0.29% 0.08%
</TABLE>
NONINTEREST INCOME
Noninterest income consists of revenues generated from a broad range of
financial services and activities including fee-based services and profits and
commissions earned through credit life insurance sales and other activities. In
addition, gains or losses realized from the sale of investment portfolio
securities are included in noninterest income. Total noninterest income for 1997
increased $1.7 million or 20.7% compared to 1996. Noninterest income for 1996
showed an increase of $1.2 million or 17.1% from 1995.
49
<PAGE> 51
NONINTEREST INCOME
(in thousands)
<TABLE>
<CAPTION>
% Change % Change
1997 1996 1995 1997-1996 1996-1995
------------------------- --------- ---------
<S> <C> <C> <C> <C> <C>
Service charge on deposit accounts $4,652 $4,019 $3,428 15.75% 17.24%
Trust department 1,625 1,564 1,181 3.90% 32.43%
Net securities gains realized 294 297 211 (1.0)% 40.76%
Other 3,301 2,298 2,162 43.65% 6.29%
-------------------------
Total $9,872 $8,178 $6,982 20.71% 17.13%
=========================
</TABLE>
Fee income from service charges on deposit accounts increased $633,000
or 15.75% in 1997 following a $591,000 or 17.2% increase in 1996. Pioneer Bank
increased its deposit base, and revised its schedule of account charges,
effective at the beginning of the fourth quarter of 1996, resulting in increased
service charges for 1997 over 1996. Emphasis on checking account services,
appropriate pricing for transaction deposit accounts and fee collection
practices for other deposit services will continue to be important factors to
increasing noninterest income for future years.
Trust fees or income from fee-based fiduciary activities increased
$61,000 or 3.9% in 1997 compared to the $383,000 or 32.4% increase in 1996.
Assets administered by the Trust Division at December 31, 1997 were $577 million
compared to $490 million at the end of 1996 and $415 million at year end 1995.
Nonrecurring items of noninterest income include sales of investment portfolio
securities. Due to the stable interest rate environment of 1997 and successful
investment strategies, the Company realized gains on the sale of investment
securities in 1997 of $294,000 compared to $297,000 in 1996. Included in other
noninterest income are the gains and losses recognized on the sales of assets
such as fixed assets and other real estate owned. These gains and losses
amounted to less than $100,000 in 1997, 1996 and 1995.
Various recurring noninterest income items include bank services such
as travelers check fees, safe deposit box fees, fees on letters of credit,
origination fees on long term mortgages and fees on sales of mutual funds and
annuities. Pioneer Securities, Inc. ("PSI") is a wholly owned subsidiary of
Pioneer Bank and had its second year of operation in 1997. Total income for PSI
in 1997 was $623,876 and expenses were $611,704, including taxes and
inter-company transactions, providing a net income for the year of $12,172.
Total income for PSI in 1996 was $471,000 and expenses were $461,000, including
taxes and inter-company transactions, providing a net income for the year of
$10,000.
NONINTEREST EXPENSE
Noninterest expense for 1997 increased $3.6 million or 14.1% from 1996,
increased $2.9 million or 12.7% in 1996 from 1995. Total salaries and other
personnel expenses in 1997 increased $2.2 million or 15.7% from 1996 to a total
of $16.1 million at year-end 1997. Salaries in 1996 increased $1.8 million or
14.7% in 1996 from 1995. The increases since 1995 are primarily the result of
the addition of approximately 73 full time equivalent employees during 1997 and
25 full time equivalent employees during 1996 and through normal merit pay
increases.
Occupancy and equipment expenses increased by $168,000 or 7.9% to $2.3
million in 1997 following a $579,000 or 37.3% increase in 1996. Occupancy and
equipment expense in 1997 increased due to the depreciation related to major
computer software and hardware upgrades purchased in 1997 and the
50
<PAGE> 52
expenses related to the new Pioneer Bank branches in Kimball and Dunlap,
Tennessee, the new Valley Bank branch in Athens, Tennessee, and the new Pioneer,
f.s.b branches in East Ridge, Tennessee and Dalton, Georgia.
NONINTEREST EXPENSES
(in thousands)
<TABLE>
<CAPTION>
% Change % Change
1997 1996 1995 1997-1996 1996-1995
------------------------------- --------- ---------
<S> <C> <C> <C>
Salaries and benefits $16,142 $13,949 $12,160 15.72% 14.71%
Net occupancy expense 2,297 2,129 1,550 7.89% 37.35%
FDIC insurance 44 3 679 1299.03% (99.56)%
Other 10,890 9,659 8,459 12.74% 14.19%
-------------------------------
Total $29,373 $25,740 $22,848 14.11% 12.66%
===============================
</TABLE>
FDIC insurance in 1997 increased $41,309 or 1299% from 1996. All other
noninterest expenses increased by $1.2 million or 12.7% in 1997, compared to a
$1.2 million or 14.2% increase in 1996. The other expenses include, among other
items, professional service expenses, bank travel and entertainment expenses,
telephone, supplies, postage expense and amortization of intangible assets.
The primary factor for the increase in noninterest expense was
primarily related to continued bank growth in 1996 and 1997. The increase in
1995 was primarily related to the Merger and the Marion Purchase. In 1995, the
Marion Purchase created a core deposit intangible of $7.2 million to be
amortized over 10 years. The Merger was accounted for as a pooling of interests
and, therefore, all merger related costs (i.e. legal, accounting and consulting
fees) were expensed as incurred.
FDIC INSURANCE ASSESSMENTS
Pioneer Bank and Valley Bank, Bank Insurance Fund (the "BIF") members, are
subject to FDIC deposit insurance assessments. In May, 1997, the FDIC Board of
Directors voted to retain the existing BIF and Savings Association Insurance
Fund (the "SAIF") assessment schedules of 0 to 27 basis points (annual rates)
for the second semiannual period of 1997. On May 20, 1997, the Board voted to
collect on behalf of the Financing Corporation (the "FICO") assessments
sufficient to meet the funding requirements of the FICO for the remainder of
1997. The FICO rate on BIF-assessable deposits is 1.26 basis points, on an
annual basis, and the rate on SAIF-assessable deposits is 6.30 basis points. The
Deposit Insurance Funds Act of 1996 (the "Funds Act") authorized the FICO to
levy assessments on BIF- and SAIF-assessable deposits, and stipulated that the
BIF rate must equal one-fifth the SAIF rate through year-end 1999, or until the
insurance funds are merged, whichever occurs first. Under the BIF, each
financial institution is assigned into one of three capital groups -- well
capitalized, adequately capitalized or undercapitalized -- and further assigned
into one of three subgroups within a capital group, on the basis of supervisory
evaluations by the institution's primary federal and, if applicable, state
regulators and other information relevant to the institution's financial
condition and the risk posed to the applicable insurance fund. The actual
assessment rate applicable to a particular institution will, therefore, depend
in part upon the risk assessment classification so assigned to the institution
by the FDIC. During the year ended December 31, 1997, Pioneer Bank and Valley
Bank paid $26,116 and $18,373, respectively, in BIF deposit insurance premiums,
compared to 1996 premiums of $1,500 and $1,680, respectively. Because BIF and
SAIF assessments are levied semi-annually, no assessments had been received for
Pioneer Bank, f.s.b. as of year-end because Pioneer Bank, f.s.b. did not
commence operations until the fourth quarter of 1997. The Company's assessments
increased $41,309 or 1299%
51
<PAGE> 53
from 1996 because the higher rates on the current assessment schedules were not
effective until January, 1997. See "Supervision and Regulation - FDIC Insurance
Assessments."
INCOME TAXES
Income tax expense increased $1.1 million or 36.4%, in 1997 from 1996
and increased $629,949 or 25.9% in 1996 from 1995. The effective tax rate as a
percentage of pretax income was 29.9% in 1997, 25.3% in 1996 and 25.5% in 1995.
These tax rates are lower than the statutory Federal tax rate of 34% primarily
due to investments in loans and securities earning interest income exempt from
Federal taxation.
The Company made marginal decreases in the effective tax rate in 1995
and 1996 by increasing the average holdings in tax-free securities in the
investment portfolio, but tax-free municipal income decreased by $209,000 in
1997 increasing the effective tax rate. In 1997, the effective tax rate
increased to 88% of the statutory Federal tax rate compared to 74% in 1996 and
75% in 1995.
EFFECTS OF ACCOUNTING CHANGES
FASB Statement Number 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities," issued in 1996,
establishes financial accounting reporting standards for transfers and servicing
of financial assets and extinguishment of liabilities occurring after December
31, 1996, with the exception of any provisions deferred for implementation by
the FASB. The new standard became effective January 1, 1997 and superseded FASB
Statement Number 122, "Accounting for Mortgage Service Rights". The standard
gives accounting recognition to mortgage servicing contracts similarly
prescribed in current accounting rules and extends this recognition to servicing
contracts for all types of financial assets. However, FASB 125 eliminates the
current distinction between "normal" and "excess" servicing fees and will
generally reclassify these cash flows into two new types of assets: (1)
"servicing assets" and (2) certain related interest-only financial assets known
as "interest-only strips receivable." Furthermore, the standard establishes a
new accounting approach for distinguishing transfers of financial assets
reported as sales from transfers from those reported as borrowings. The overall
effect of the new standard on the financial statements was not material. The
FASB subsequently issued Statement 127 "Deferral of The Effective Date of
Certain Provisions of FASB Statement No. 125". Statement 127 defers for one year
the application of Statement 125 as it relates to transfers of financial assets
treated as secured borrowings.
Statement of Financial Standards No. 128, "Earnings per Share,"
establishes standards for computing and presenting earnings per share ("EPS").
This Standard replaces the presentation of primary EPS with a presentation of
basic EPS. It also requires dual presentation of basic and diluted EPS on the
face of the statement of income for entities with complex capital structures,
and it requires a reconciliation of the numerator and denominator of the basic
EPS computation to the numerator and denominator of the diluted EPS computation.
Basic EPS excludes dilution, and it is computed by dividing net income available
to common stockholders by the weighted-average number of common shares
outstanding for the period. Diluted EPS reflects the potential dilution
occurring if securities or other contracts to issue common stock were exercised
or converted into common stock or resulted in the issuance of common stock
sharing in the earnings of the entity. This Standard is effective for financial
statements issued for periods ending after December 15, 1997, including interim
periods; earlier application is not permitted. This Standard requires
restatement of all prior-period EPS data presented. Currently, the difference
between the Company's basic and fully diluted EPS is less than one percent.
52
<PAGE> 54
Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income," establishes standards for the reporting and the
presentation of comprehensive income. Other comprehensive income items are to be
classified by their nature and by their related accumulated balances in the
appropriate financial statements of a company. Generally, other comprehensive
income includes transactions not typically recorded as a component of net income
such as foreign currency items, minimum pension liability adjustments, and
unrealized gains and losses on certain debt and equity securities. This Standard
requires such items be presented with equal prominence on a comparative basis in
the appropriate financial statements for fiscal years beginning after December
15, 1997.
Statement of Financial Accounting Standards No. 131, "Disclosures about
Segments of an Enterprise and Related Information," establishes standards and
disclosure requirements for the way companies report information about operating
segments, including related product information, both in annual and interim
reports issued to stockholders. Operating segments are components of a company
about which separate financial information is available and which are used in
determining resource allocations and performance results. Information such as
segment net earnings, appropriate revenue and expense items and certain balance
sheet items are required to be presented, and such amounts are required to be
reconciled to the company's combined financial information. The Company will
assess the methodologies and reporting for compliance with the Standard. This
Standard is effective for financial statements issued for periods ending after
December 31, 1997, including interim periods.
YEAR 2000 COMPUTER ISSUE
The Year 2000 problem manifests in computer software and, in certain
cases, hardware not equipped to recognize the year change from 1999 to 2000.
Much of the software used today was designed with only two digits available for
indicating the current year. Thus the year 1998 would be represented as "98".
The computer software assumes the first two digits are "19", therefore correctly
interpreting "98" as "1998". In the year 2000 the computer software will
continue to store the last two digits as "00" and use "19" as the first two
digits, however the date will be incorrectly interpreted as "1900". This
problem, at its most fundamental level, threatens the integrity of financial
information produced by an organization's computer systems, and could undermine
the organization's ability to accurately report financial information.
The federal regulatory agencies have required all financial
institutions to resolve their Year 2000 computer software problems by December
31, 1998. In 1997, the Company formalized its "Year 2000 Conversion Action Plan"
(the "Plan"). The Plan possesses a sound, systematic and rational process of
attaining Year 2000 compliance by December 31, 1998. An independent consulting
firm has been engaged to provide a critical review of the Company's Plan and its
conversion process. The Company has identified its mission critical systems,
both hardware and software, and expects to be substantially Year 2000 compliant
by December 31, 1998. The Company expects to spend approximately $1.0 million,
over a three year period, to address the Year 2000 problems. As part of its
assessment, Company management has been evaluating Year 2000 compliance by its
vendors, and to date has not discovered any Year 2000 problems with significant
counter-parties it believes are reasonably likely to have a material adverse
effect upon the Company. However, the Company has not begun evaluating the
effects of the Year 2000 problem on its loan and deposit customers, and no
assurance can be given that potential Year 2000 problems at those with whom the
Company does business will not occur, and if these occur, consequences to the
Company will not be material.
53
<PAGE> 55
PENDING ACQUISITIONS
The Company does not have any acquisitions pending, but is regularly
engaged in evaluating possible acquisitions.
EFFECTS OF INFLATION AND CHANGING PRICES
Inflation generally increases the cost of funds and operating overhead,
and to the extent loans and other assets bear variable rates, the yields on such
assets. Unlike most industrial companies, virtually all of the assets and
liabilities of a financial institution are monetary in nature. As a result,
interest rates generally have a more significant impact on the performance of a
financial institution than the effects of general levels of inflation. Although
interest rates do not necessarily move in the same direction or to the same
extent as the prices of goods and services, increases in inflation generally
have resulted in increased interest rates. In March, 1997, the Federal Reserve
increased interest rates 25 basis points in an effort to contain perceived
inflationary pressures through monetary policy. Subsequently, the prime rate has
remained unchanged, but the long-term rates on the Treasury yield curve have
decreased by approximately 125 basis points through year-end as inflation
increased only slightly. Inflation affects financial institutions' increased
cost of goods and services purchased, the cost of salaries and benefits,
occupancy expense, and similar items. Inflation and related increases in
interest rates generally decrease the market value of investments and loans held
and may adversely effect liquidity, earnings, and stockholders' equity. Mortgage
originations and refinancings tend to slow as interest rates increase, and can
reduce the Bank's earnings from such activities and the income from the sale of
residential mortgage loans in the secondary market.
Various information shown elsewhere in this Annual Report will assist
in the understanding of how well the Company is positioned to react to changing
interest rates and inflationary trends. In particular, the summary of net
interest income, the maturity distributions and the compositions of the loan and
security portfolios and the data on the interest sensitivity of loans and
deposits should be considered. See "Business - Fiscal and Monetary Policy."
54
<PAGE> 56
ITEM 7A - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
MARKET RISK
Market risk reflects the risk of economic loss resulting from adverse
changes in market prices and interest rates. This risk of loss can be reflected
in either diminished current market values or reduced potential net interest
income in future periods.
The Company's market risk arises primarily from interest rate risk
inherent in its lending and deposit taking activities. The structure of the
Company's loan and deposit portfolios is such that a significant decline in the
prime rate may adversely impact net market values and interest income.
Management seeks to manage this risk through the utilization of various tools,
primarily investment securities and FHLB borrowings. The composition and size of
the investment portfolio and FHLB borrowing is managed so as to reduce the
interest rate risk in the deposit and loan portfolios while at the same time
optimizing the yield generated from those portfolios.
The table below presents in tabular form the contractual balances and
the estimated fair value of the Company's on-balance sheet financial instruments
at their expected maturity dates as of December 31, 1997. The expected maturity
categories take into consideration historical prepayment experience as well as
management's expectations based on the interest rate environment as of December
31, 1997. For core deposits without contractual maturity (i.e., interest bearing
checking, savings and money market accounts), the table presents principal cash
flows based on management's judgment concerning their most likely runoff or
repricing behaviors. Weighted average variable rates are based on implied
forward rates in the yield curve as of December 31, 1997. See "Management's
Discussion and Analysis - Balance Sheet Management."
<TABLE>
<CAPTION>
MARKET RISK INFORMATION
(in thousands) FAIR
PRINCIPAL AMOUNT MATURING IN: VALUE
RATE SENSITIVE ASSETS: 1998 1999 2000 2001 2002 Thereafter Total 1997
- -------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Fixed interest rate loans $118,654 85,086 68,855 99,471 24,868 31,743 428,677 426,267
Average interest rate 9.10% 9.06% 9.01% 8.97% 9.04% 9.05% 9.04%
Variable interest rate loans $179,870 33,541 8,159 790 197 - 222,557 222,557
Average interest rate 9.04% 8.98% 8.91% 8.90% 8.75% - 9.03%
Fixed interest rate securities $ 57,873 26,921 20,360 15,178 6,909 48,883 176,124 176,314
Average interest rate 6.68% 6.51% 6.34% 6.48% 6.30% 6.33% 6.49%
Variable interest rate
securities $ 1,998 2,990 4,492 - - 19,483 28,963 28,963
Average interest rate 6.26% 6.16% 6.24% - - 6.26% 6.25%
Other interest bearing assets $ 19,358 - - - - - 19,358 19,358
Average interest rate 5.46% - - - - - 5.46%
RATE SENSITIVE LIABILITIES: 1998 1999 2000 2001 2002 Thereafter Total 1997
- -------------------------------------------------------------------------------------------------------------------
Savings and interest bearing
checking $117,833 23,342 23,342 19,610 19,610 40,174 243,911 243,911
Average interest rate 3.19% 3.05% 3.06% 2.94% 2.75% 2.50% 3.00%
Fixed interest rate time
deposits $296,612 23,300 3,321 8,680 2,170 20 334,103 322,215
Average interest rate 5.66% 5.72% 5.58% 5.38% 5.10% 5.50% 5.65%
Variable interest rate time
deposits $ 30,589 12,566 568 - - - 43,723 43,723
Average interest rate 3.98% 3.69% 3.21% 3.89%
Fixed rate borrowings $ 10,000 28,000 - - - - 38,000 38,000
Average interest rate 5.35% 5.66% - - - - 5.58%
Variable rate borrowings $ 60,439 - - - - - 60,439 60,439
Average interest rate 4.37% - - - - - 4.37%
</TABLE>
55
<PAGE> 57
ITEM 8- FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The financial statements and supplementary data are set forth in the pages
listed below.
PIONEER BANCSHARES, INC. and SUBSIDIARIES
FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page(s)
-------
<S> <C>
Report of Independent Accountants ..................................... 57
Consolidated Balance Sheets
as of December 31, 1997 and 1996.............................. 58-59
Consolidated Statements of Income
for the years ended December 31, 1997, 1996, 1995............. 60
Consolidated Statements of Stockholders' Equity
for the years ended December 31, 1997, 1996, 1995............. 61
Consolidated Statements of Cash Flows
for the years ended December 31, 1997, 1996, 1995............. 62-64
Notes to Consolidated Financial Statements
December 31, 1997 ............................................ 65-85
Quarterly Results (unaudited) ......................................... 86
</TABLE>
56
<PAGE> 58
A TENNESSEE REGISTERED LIMITED LIABILITY PARTNERSHIP
<TABLE>
<S> <C> <C>
PRIVATE COMPANIES PRACTICE SECTION MEMBER AICPA DIVISION FOR CPA FIRMS SEC PRACTICE SECTION
</TABLE>
REPORT OF INDEPENDENT ACCOUNTANTS
Board of Directors and Stockholders
Pioneer Bancshares, Inc.
Chattanooga, Tennessee
We have audited the accompanying consolidated balance sheets of Pioneer
Bancshares, Inc. and subsidiaries as of December 31, 1997 and 1996, and the
related consolidated statements of income, stockholders' equity and cash flows
for each of the three years in the period ended December 31, 1997. These
consolidated financial statements are the responsibility of the company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Pioneer Bancshares,
Inc. and subsidiaries as of December 31, 1997 and 1996, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1997, in conformity with generally accepted accounting principles.
Chattanooga, Tennessee
January 30, 1998
57
<PAGE> 59
PIONEER BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 1997 AND 1996
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
ASSETS
Cash $ 46,344,884 $ 55,434,925
Federal Funds Sold 18,830,000 1,635,000
------------ ------------
65,174,884 57,069,925
------------ ------------
Interest Bearing Deposits in Banks 528,417 495,617
------------ ------------
Investment Securities -
Securities Available-for-Sale 156,690,716 192,189,989
Securities Held-to-Maturity 48,396,477 59,409,004
------------ ------------
205,087,193 251,598,993
------------ ------------
Loans 651,233,690 524,848,826
Less:
Unearned Interest and Loan Fees 1,476,030 1,596,242
Allowance for Loan Losses 7,836,582 5,758,048
------------ ------------
641,921,078 517,494,536
------------ ------------
Premises and Equipment, net 22,740,334 20,241,720
------------ ------------
Other Assets 21,438,310 20,338,719
------------ ------------
TOTAL ASSETS $956,890,216 $867,239,510
============ ============
</TABLE>
The accompanying notes are an integral part of the financial statements.
58
<PAGE> 60
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities -
Deposits -
Noninterest-Bearing Demand $126,684,077 $125,529,309
Interest-Bearing Demand 132,754,860 120,146,268
------------ ------------
259,438,937 245,675,577
------------ ------------
Savings 111,155,719 111,748,510
------------ ------------
Time Deposits -
Certificates of Deposit of $100,000
or more 70,584,736 56,086,477
Time Deposits of less than $100,000 307,241,495 279,056,446
------------ ------------
377,826,231 335,142,923
------------ ------------
Total Deposits 748,420,887 692,567,010
Federal Funds Purchased - 13,500,000
Securities Sold Under Agreements to Repurchase 60,439,198 49,838,840
Other Liabilities 10,114,173 7,410,193
Long-Term Debt 38,000,000 10,000,000
------------ ------------
Total Liabilities 856,974,258 773,316,043
------------ ------------
Commitments and Contingencies - -
Stockholders' Equity -
Preferred Stock - 1,000,000 shares
authorized; 0 shares issued - -
Common Stock - $.01 par value - 15,000,000
shares authorized; 3,759,912 shares issued 37,600 37,600
Surplus 64,875,396 64,866,732
Retained Earnings 35,074,447 28,771,470
Unrealized Appreciation on Securities, net of
tax of $663,647 for 1997 and $508,902 for 1996 1,044,463 806,449
Less: Treasury Stock - 29,479 for 1997 and
15,269 for 1996, at cost (1,115,948) (558,784)
------------ ------------
Total Stockholders' Equity 99,915,958 93,923,467
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $956,890,216 $867,239,510
============ ============
</TABLE>
59
<PAGE> 61
PIONEER BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
INTEREST INCOME
Loans $53,107,207 $41,069,425 $31,572,245
Investment Securities -
U.S. Treasury 2,775,826 2,832,786 2,936,475
U.S. Government Agencies 5,409,927 6,481,897 8,083,917
States and Political Subdivisions 3,516,996 3,998,347 4,049,060
Other 1,645,170 2,095,404 871,748
Federal Funds Sold 781,231 485,909 1,459,781
----------- ----------- -----------
Total Interest Income 67,236,357 56,963,768 48,973,226
----------- ----------- -----------
INTEREST EXPENSE
Interest-Bearing Demand Deposits 3,361,830 3,308,271 3,076,817
Savings Deposits 3,425,914 2,613,680 2,395,598
Time Deposits of Less Than $100,000 15,306,433 14,583,063 12,994,655
Certificates of Deposit of $100,000 or more 4,283,493 3,162,849 2,767,116
Other 3,821,471 2,586,455 1,748,692
----------- ----------- -----------
Total Interest Expense 30,199,141 26,254,318 22,982,878
----------- ----------- -----------
NET INTEREST INCOME 37,037,216 30,709,450 25,990,348
Provision for Loan Losses 3,609,263 1,097,000 618,500
----------- ----------- -----------
Net Interest Income After
Provision for Loan Losses 33,427,953 29,612,450 25,371,848
----------- ----------- -----------
NONINTEREST INCOME
Trust Department 1,625,036 1,563,925 1,181,175
Service Charges on Deposit Accounts 4,651,648 4,018,786 3,428,139
Net Securities Gains 293,723 297,003 211,065
Other 3,301,574 2,298,675 2,161,689
----------- ----------- -----------
Total Noninterest Income 9,871,981 8,178,389 6,982,068
----------- ----------- -----------
NONINTEREST EXPENSES
Salaries and Employee Benefits 16,142,394 13,948,685 12,160,404
Net Occupancy 2,297,421 2,129,070 1,550,486
Other 10,933,057 9,662,055 9,136,980
----------- ----------- -----------
Total Noninterest Expenses 29,372,872 25,739,810 22,847,870
----------- ----------- -----------
INCOME BEFORE INCOME TAXES 13,927,062 12,051,029 9,506,046
Income Tax Provision 4,164,966 3,054,182 2,424,233
----------- ----------- -----------
NET INCOME $ 9,762,096 $ 8,996,847 $ 7,081,813
=========== =========== ===========
BASIC NET INCOME PER SHARE $ 2.60 $ 2.39 $ 1.88
=========== =========== ===========
DILUTED NET INCOME PER SHARE $ 2.60 $ 2.39 $ 1.88
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of the financial statements.
60
<PAGE> 62
PIONEER BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
UNREALIZED
APPRECIATION
COMMON STOCK RETAINED (DEPRECIATION) TREASURY
SHARES AMOUNT SURPLUS EARNINGS ON SECURITIES STOCK
<S> <C> <C> <C> <C> <C> <C>
BALANCE - December 31, 1994 1,879,956 $18,800 $64,727,548 $18,812,602 $(5,591,295) $ (62,618)
Net Income 7,081,813
Cash Dividends (2,848,668)
Net Changes in Unrealized
Appreciation on Securities 5,903,139
Purchase of 15,956 Shares of
Treasury Stock, at cost (416,162)
------------------------------------------------------------------------------------
BALANCE - December 31, 1995 1,879,956 18,800 64,727,548 23,045,747 311,844 (478,780)
Net Income 8,996,847
100% Stock Dividend 1,879,956 18,800 (18,800)
Cash Dividends (3,271,124)
Net Changes in Unrealized
Appreciation on Securities 494,605
Purchase of 32,298 Shares of
Treasury Stock, at cost (1,169,819)
Issuance of 35,943 Shares of
Treasury Stock 157,984 1,089,815
------------------------------------------------------------------------------------
BALANCE - December 31, 1996 3,759,912 37,600 64,866,732 28,771,470 806,449 (558,784)
Net Income 9,762,096
Cash Dividends (3,459,119)
Net Changes in Unrealized
Appreciation on Securities 238,014
Purchase of 31,563 Shares of
Treasury Stock, at cost (1,193,053)
Issurance of 17,353 Shares of
Treasury Stock 8,664 635,889
------------------------------------------------------------------------------------
BALANCE - December 31, 1997 3,759,912 $37,600 $64,875,396 $35,074,447 $ 1,044,463 $(1,115,948)
====================================================================================
</TABLE>
The accompanying notes are an integral part of the financial statements.
61
<PAGE> 63
PIONEER BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING
ACTIVITIES
Interest Received $ 66,509,478 $ 56,696,210 $ 47,744,035
Noninterest Income Received 9,144,385 7,800,624 6,784,656
Interest Paid (28,922,101) (26,964,352) (19,975,569)
Cash Paid to Suppliers and
Employees (25,048,362) (21,104,588) (20,375,798)
Income Taxes Paid (5,141,177) (4,232,414) (2,527,825)
------------- ------------- -------------
NET CASH PROVIDED BY
OPERATING ACTIVITIES 16,542,223 12,195,480 11,649,499
------------- ------------- -------------
CASH FLOWS FROM INVESTING
ACTIVITIES
Net Increase in Loans (128,491,162) (103,593,560) (85,748,513)
Purchase of Premises and Equipment (5,235,248) (6,088,571) (4,065,769)
Proceeds from Sale of Premises and
Equipment and Other Real Estate 479,153 628,765 1,042,803
Proceeds from Sales and Maturities of
Available-for-Sale Securities 116,288,681 87,956,332 62,823,196
Purchase of Available-for-Sale
Securities (80,135,338) (69,142,425) (71,439,379)
Proceeds from Maturities of Held-to-
Maturity Securities 10,849,878 17,494,575 3,921,746
Purchase of Held-to-Maturity
Securities - - (5,875,427)
Net Increase in Interest Bearing
Deposits in Banks (32,800) (295,617) -
Marion County Acquisition - - (7,453,700)
Organization Costs (103,260) - -
Investment in Joint Venture (1,265,251) (1,461,286) -
Proceeds from Investment in
Joint Venture 2,261,467 - -
------------ ------------- -------------
NET CASH USED BY INVESTING
ACTIVITIES (85,383,880) (74,501,787) (106,795,043)
------------ ------------- -------------
</TABLE>
The accompanying notes are an integral part of the financial statements.
62
<PAGE> 64
PIONEER BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
CASH FLOWS FROM FINANCING
ACTIVITIES
Net Increase in Demand,
Interest-Bearing Demand and
Savings Deposits $13,170,569 $23,007,894 $12,743,930
Net Increase in Time Deposits 42,683,308 7,463,861 74,101,848
Net Increase (Decrease) in Federal
Funds Purchased and Securities
Sold Under Agreements to
Repurchase (2,899,642) 21,424,254 3,444,280
Proceeds from Issuance of
Long-Term Debt 28,000,000 10,000,000 -
Dividends Paid (3,459,119) (3,271,124) (2,848,668)
Purchase of Treasury Stock (1,193,053) (1,169,819) (416,162)
Proceeds from Reissuance of
Treasury Stock 644,553 1,247,799 -
----------- ----------- -----------
NET CASH PROVIDED BY
FINANCING ACTIVITIES 76,946,616 58,702,865 87,025,228
----------- ----------- -----------
NET INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS 8,104,959 (3,603,442) (8,120,316)
CASH AND CASH EQUIVALENTS -
beginning of year 57,069,925 60,673,367 68,793,683
----------- ----------- -----------
CASH AND CASH EQUIVALENTS -
end of year $65,174,884 $57,069,925 $60,673,367
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of the financial statements.
63
<PAGE> 65
PIONEER BANCSHARES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
RECONCILIATION OF NET INCOME TO
NET CASH PROVIDED BY OPERATING
ACTIVITIES
Net Income $ 9,762,096 $ 8,996,847 $ 7,081,813
Other Gains and Losses, net (636,174) (162,367) 31,750
Amortization and Accretion 1,301,630 1,877,989 963,645
Depreciation 2,651,928 1,866,623 1,571,077
Write Down of Other Real Estate 5,461 158,200 14,818
Provision for Loan Losses 3,609,263 1,097,000 618,500
Gain on Sale of Securities (293,723) (297,003) (211,065)
Loss (Gain) on Sale of Premises
and Equipment 3,047 (238,962) (766)
Gain on Sale of Other Real Estate (67,118) - (399)
Deferred Income Taxes (1,446,460) (829,409) (300,290)
Changes in Operating Assets
and Liabilities -
Decrease (Increase) in -
Interest Receivable (446,521) (84,658) (1,229,191)
Other Assets 127,263 262,386 (424,556)
Increase (Decrease) in -
Interest Payable 1,277,040 (710,034) 3,007,309
Other Liabilities 224,242 607,691 330,156
Income Taxes Payable 470,249 (348,823) 196,698
----------- ----------- -----------
NET CASH PROVIDED BY
OPERATING ACTIVITIES $16,542,223 $12,195,480 $11,649,499
=========== =========== ===========
SUPPLEMENTAL DISCLOSURES
OF NONCASH INVESTING AND
FINANCING ACTIVITIES
Increase in Other Real Estate
Owned $ 455,357 $ 632,751 $ 55,000
Unrealized Appreciation
(Depreciation) of Securities,
net of Deferred Taxes $ 238,014 $ 494,605 $ 5,903,139
</TABLE>
The accompanying notes are an integral part of the financial statements.
64
<PAGE> 66
PIONEER BANCSHARES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The significant accounting policies and practices followed by the company are as
follows:
DESCRIPTION OF BUSINESS - Pioneer Bancshares, Inc. is a bank holding company
which owns 100% of the outstanding stock of Pioneer Bank, Valley Bank and
Pioneer Bank, f.s.b. Pioneer Bank has two wholly-owned subsidiaries, Center
Finance Company, Inc. (formerly Center Loan and Thrift, a wholly-owned
subsidiary of Valley Company) and Pioneer Securities, Inc. Marion Properties,
Inc. (formerly a wholly-owned subsidiary of Pioneer Bank) was dissolved during
1996. Pioneer Bank also has two trusteed affiliates, Frontier Corporation and
Valley Company. Valley Company has one wholly-owned subsidiary, Oneida Life
Insurance Company. The banks and Pioneer Bank's subsidiaries and affiliates
provide banking, trust, and investment services in southeast Tennessee and north
Georgia. Pioneer Bank's principal office is in Chattanooga, Tennessee, Valley
Bank's principal office is in Sweetwater, Tennessee, and Pioneer Bank, f.s.b.'s
principal office is in East Ridge, Tennessee.
PRINCIPLES OF CONSOLIDATION - The accompanying consolidated financial statements
include the accounts of Pioneer Bancshares, Inc., its wholly-owned subsidiaries
and the trusteed affiliates. Frontier Corporation and Valley Company are held in
trust for the benefit of Pioneer Bank's stockholder for a period of one hundred
years from 1956. At any time, the trusts may be liquidated by a two-thirds vote
of Pioneer Bank's stockholder.
Substantially all intercompany transactions, profits and balances have been
eliminated.
CASH AND DUE FROM BANKS - The banks maintain at various financial institutions
cash accounts which may exceed federally insured amounts at times.
CASH AND CASH EQUIVALENTS - For purposes of cash flows, the banks consider
Federal Funds Sold to be cash equivalents.
INVESTMENT SECURITIES - Investment securities considered held-to-maturity are
stated at cost adjusted for amortization of premiums and accretion of discounts,
which are recognized as adjustments to interest income. Investment securities
considered available-for-sale are adjusted for unrealized holding gains and
losses and recorded at fair value. The difference in fair value and cost
adjusted for amortization and accretion for securities available-for-sale is
shown as a separate component of stockholders' equity net of income tax effects.
Gains or losses on disposition are based on the net proceeds and the adjusted
carrying amount of the securities sold, using the specific identification
method.
DERIVATIVE FINANCIAL INSTRUMENTS - The banks enter into variable and fixed rate
loan commitments with off-balance-sheet risk. The contract amounts and nature
and terms of the commitments are disclosed separately in the notes to the
consolidated financial statements. The banks hold no other instruments meeting
the definition of derivative financial instruments as defined by Statement of
Accounting Standards No. 119.
65
<PAGE> 67
INSTALLMENT LOANS - Unearned interest, relating principally to installment loans
made on a discount basis, is stated at the amount refundable upon prepayment.
Interest income on these loans is recognized on scheduled payment dates by use
of the sum-of-the-months digits method.
ALLOWANCE FOR LOAN LOSSES - The banks provide for loan losses on a reserve basis
and include in operating expenses an estimated amount for credit losses
determined by management based on loan loss experience and evaluation of
potential loss in the current loan portfolio. Accrual of interest is
discontinued on a loan when management believes, after considering economic and
business conditions and collection efforts, that the borrower's financial
condition is such that collection of interest is doubtful. Certain loans on
which the accrual of interest is discontinued are considered impaired and are
carried at the fair value of their underlying collateral. Any difference between
the loan's fair value and carrying amount is recorded as a reserve for loan
losses.
INTEREST INCOME ON LOANS - Interest on loans is accrued and credited to income
based on the principal amount outstanding. The accrual of interest on loans is
discontinued when, in the opinion of management, there is an indication that the
borrower may be unable to meet payments as they become due. Upon such
discontinuance, all unpaid accrued interest is reversed.
LOAN ORIGINATION FEES - Loan origination fees and related direct incremental
loan costs are offset and the resulting net amount is deferred and taken into
income as a loan yield adjustment using a method which approximates the level
yield method.
PREMISES AND EQUIPMENT - Premises and equipment are stated at cost less
accumulated depreciation. Expenditures for repairs, maintenance and minor
improvements are charged to expense as incurred and additions and improvements
that significantly extend the lives of assets are capitalized. Upon sale or
other retirement of depreciable property, the cost and related accumulated
depreciation are removed from the related accounts and any gain or loss is
reflected in operations.
Depreciation is provided using straight-line and accelerated methods over the
estimated useful lives of the depreciable assets. Deferred income taxes are
provided for differences in the computation of depreciation for book and tax
purposes.
INTANGIBLE ASSETS - Intangible assets are amortized over the following lives:
<TABLE>
<CAPTION>
LIFE
<S> <C>
Organization Costs 5 years
Goodwill 18 - 40 years
Core Deposit Intangibles 10 years
</TABLE>
The company reviews recoverability of the carrying value of goodwill using
projections of future cash flows and future earnings. The company's basis for
write-offs of the carrying value of goodwill is based on management's best
estimate of the future performance of the affected entity.
FORECLOSED ASSETS - Foreclosed assets are stated at the lower of their carrying
amount or current fair value less the cost to sell.
66
<PAGE> 68
POSTRETIREMENT BENEFITS - The expected cost of providing post-retirement
benefits to employees, employee beneficiaries and covered dependents is accrued
during the years that employees render services to the banks or related
companies.
INCOME TAXES - Deferred income taxes arise from temporary differences between
the income tax basis and financial reporting basis of assets and liabilities. If
it is more likely than not that some portion or all of a deferred tax asset will
not be realized, a valuation allowance is recognized.
COMMON STOCK DATA - During 1997, the Company adopted SFAS 128, "Earnings per
Share," which specifies the computation, presentation and disclosure
requirements for earnings per share. SFAS 128 replaces the presentation of
primary and fully diluted earnings per share with basic and diluted net income
per share. Basic net income per share is computed by dividing the net income for
the period by the weighted average number of common shares outstanding during
the period. Diluted net income per share is computed by dividing the net income
for the period by the weighted average number of common shares outstanding
during the period plus the effect of dilutive common stock equivalents.
Previously reported earnings per share have been restated to conform with the
new presentation and disclosure requirements of SFAS 128. There was no change in
the computation of earnings per share for previously reported years under SFAS
128.
TRUST DEPARTMENT ASSETS - Property (other than cash deposits) held by the banks
in a fiduciary or agency capacity for their customers is not included in the
consolidated balance sheets, since such items are not assets of the banks.
ADVERTISING COSTS - Advertising costs are charged to expense when incurred.
Advertising costs totaled $391,961 for 1997, $387,932 for 1996 and $382,632 for
1995.
ESTIMATES AND UNCERTAINTIES - The preparation of financial statements in
conformity with generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
RECLASSIFICATIONS - Certain reclassifications have been made to prior years'
financial statements to conform with the current year presentation.
RESTRICTIONS ON CASH AND DUE FROM BANKS
The company's banking subsidiaries are required to maintain average reserve
balances based on a percentage of deposits. The average amounts of these
reserves required were approximately $14,721,000 for 1997 and $14,556,000 for
1996.
INVESTMENT SECURITIES
Investment securities are classified into three categories: held-to-maturity,
available-for-sale and trading. For securities to be classified as
held-to-maturity, the bank must demonstrate the positive intent and ability to
hold the securities to maturity. Trading securities, of which the banks have
none, are securities bought
67
<PAGE> 69
and held principally for the purpose of selling them in the near future.
Available-for-sale securities are those securities not classified as
held-to-maturity or trading.
Investment securities as of December 31, 1997, are summarized as follows:
<TABLE>
<CAPTION>
AVAILABLE-FOR-SALE
- ------------------- AMORTIZED UNREALIZED UNREALIZED APPROXIMATE
COST GAINS LOSSES MARKET VALUE
<S> <C> <C> <C> <C>
U.S. Treasury -
Maturing within one year $ 19,984,858 $ 66,488 $ 3,410 $ 20,047,936
Maturing after one but within five years 19,147,397 143,418 1,557 19,289,258
------------------------------------------------------------------
39,132,255 209,906 4,967 39,337,194
------------------------------------------------------------------
U.S. Government Agencies -
Maturing within one year 4,980,402 12,929 2,048 4,991,283
Maturing after one but within five years 16,019,186 79,895 24,602 16,074,479
Maturing after five but within ten years 2,014,534 37 1,989 2,012,582
Maturing after ten years 17,360,336 301,816 60 17,662,092
------------------------------------------------------------------
40,374,458 394,677 28,699 40,740,436
------------------------------------------------------------------
State and Political Subdivisions -
Maturing within one year 5,532,081 38,229 - 5,570,310
Maturing after one but within five years 24,760,591 351,678 5,024 25,107,245
Maturing after five but within ten years 23,319,971 741,433 1,594 24,059,810
Maturing after ten years 7,125,023 327,317 - 7,452,340
------------------------------------------------------------------
60,737,666 1,458,657 6,618 62,189,705
------------------------------------------------------------------
Corporate Debit -
Maturing after five but within ten years 5,802,959 22,409 18,126 5,807,242
Maturing after ten years 2,600,000 20,313 - 2,620,313
------------------------------------------------------------------
8,402,959 42,722 18,126 8,427,555
------------------------------------------------------------------
Other -
Maturing within one year 4,320,222 - - 4,320,222
Maturing after one but within five years 87,000 - - 87,000
Maturing after five but within ten years 104,190 - - 104,190
Maturing after ten years 1,484,414 - - 1,484,414
------------------------------------------------------------------
5,995,826 - - 5,995,826
------------------------------------------------------------------
Total Investment Securities
Available-for-Sale $154,643,164 $2,105,962 $58,410 $156,690,716
==================================================================
HELD-TO-MATURITY
- ----------------
U.S. Government Agencies -
Maturing within one year $ 24,941,257 $ - $20,763 $ 24,920,494
Maturing after one but within five years 10,485,897 53,716 - 10,539,613
Maturing after five but within ten years 8,446,784 95,479 - 8,542,263
Maturing after ten years 4,522,539 61,906 - 4,584,445
------------------------------------------------------------------
Total Investment Securities
Available-for-Sale $ 48,396,477 $ 211,101 $20,763 $ 48,586,815
==================================================================
</TABLE>
68
<PAGE> 70
Investment securities as of December 31, 1996, are summarized as follows:
<TABLE>
<CAPTION>
AVAILABLE-FOR-SALE
- ------------------ AMORTIZED UNREALIZED UNREALIZED APPROXIMATE
COST GAINS LOSSES MARKET VALUE
<S> <C> <C> <C> <C>
U.S. Treasury -
Maturing within one year $ 17,141,424 $ 46,790 $ 1,954 $ 17,186,260
Maturing after one but within five years 24,338,707 94,912 46,786 24,386,833
-------------------------------------------------------------------
41,480,131 141,702 48,740 41,573,093
-------------------------------------------------------------------
U.S. Government Agencies -
Maturing within one year 6,026,699 34,702 2,760 6,058,641
Maturing after one but within five years 17,276,312 124,625 163,832 17,237,105
Maturing after five but within ten years 2,114,363 24,759 - 2,139,122
Maturing after ten years 12,195,041 209,715 - 12,404,756
-------------------------------------------------------------------
37,612,415 393,801 166,592 37,839,624
-------------------------------------------------------------------
State and Political Subdivisions -
Maturing within one year 3,068,831 30,385 995 3,098,221
Maturing after one but within five years 42,817,254 645,274 133,138 43,329,390
Maturing after five but within ten years 31,769,219 761,453 74,982 32,455,690
Maturing after ten years 1,875,207 95,536 10 1,970,733
-------------------------------------------------------------------
79,530,511 1,532,648 209,125 80,854,034
-------------------------------------------------------------------
Corporate Debit -
Maturing within one year 6,055,142 2,988 44,930 6,013,200
Maturing after one but within five years 20,149,319 207,290 97,613 20,258,996
-------------------------------------------------------------------
26,204,461 210,278 142,543 26,272,196
-------------------------------------------------------------------
Other -
Maturing within one year 3,888,325 - - 3,888,325
Maturing after one but within five years 145,333 - - 145,333
Maturing after five but within ten years 169,165 - - 169,165
Maturing after ten years 1,448,219 - - 1,448,219
-------------------------------------------------------------------
5,651,042 - - 5,651,042
-------------------------------------------------------------------
Total Investment Securities
Available-for-Sale $190,478,560 $2,278,429 $567,000 $192,189,989
===================================================================
HELD-TO-MATURITY
- ----------------
U.S. Government Agencies -
Maturing within one year $ 4,053,597 $ - $ 3,146 $ 4,050,451
Maturing after one but within five years 38,242,143 10,002 116,119 38,136,026
Maturing after five but within ten years 10,965,317 6,515 - 10,971,832
Maturing after ten years 6,147,947 12,688 - 6,160,635
-------------------------------------------------------------------
Total Investment Securities
Available-for-Sale $ 59,409,004 $ 29,205 $119,265 $ 59,318,944
===================================================================
</TABLE>
Included in U.S. Government Agencies are certain mortgage-backed securities
which may mature earlier because of principal prepayments. They are as follows:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
AVAILABLE-FOR-SALE
Carrying Value $15,911,907 $12,195,041
=========== ===========
Approximate Market Value $16,213,723 $12,404,756
=========== ===========
HELD-TO-MATURITY
Carrying Value $16,253,116 $20,921,424
=========== ===========
Approximate Market Value $16,122,974 $20,590,450
=========== ===========
</TABLE>
69
<PAGE> 71
Securities pledged to secure various public deposits and other balances have an
amortized cost of $126,534,828 and a market value of $127,637,005 as of December
31, 1997, and an amortized cost of $137,940,623 and a market value of
$138,105,735 as of December 31, 1996.
Proceeds from sales of securities totaled $83,373,393 for 1997, $52,255,678 for
1996 and $35,589,478 for 1995. Gross gains realized on sales totaled $550,423
for 1997, $354,082 for 1996 and $345,433 for 1995. Gross losses realized on
those sales totaled $256,700 for 1997, $57,079 for 1996 and $134,368 for 1995.
As permitted by the Financial Accounting Standards Board, the banks made a
one-time reclassification of certain securities prior to December 31, 1995.
Securities transferred from the held-to-maturity to the available-for-sale
classification had amortized cost of $75,752,721 and unrealized gain of
$328,486, net of tax, as of the date of transfer. Securities transferred from
available-for-sale to held-to-maturity had a carrying value of $78,039,861 and
an unrealized loss, net of tax, of $432,649 as of the date of transfer.
LOANS
Loans by type are summarized as follows:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Real Estate Loans $388,245,000 $333,851,000
Commercial and Industrial Loans 161,902,710 106,426,000
Loans to Individuals for Household,
Family and Other Consumer Expenditures 92,321,200 75,840,000
Other Loans 8,764,780 8,731,826
------------ ------------
Total Loans 651,233,690 524,848,826
Unearned Interest and Loan Fees (1,476,030) (1,596,242)
Allowance for Loan Losses (7,836,582) (5,758,048)
------------ ------------
Net Loans $641,921,078 $517,494,536
============ ============
</TABLE>
Certain directors of Pioneer Bank, Valley Bank and Pioneer Bank, f.s.b. and
companies in which they are principal owners, officers and/or directors were
loan customers of the banks during 1997 and 1996. In the opinion of management,
such loans are made in the ordinary course of business at normal credit terms
including interest rate and collateralization. Loans to these persons and to
their related organizations totaled $6,476,194 as of December 31, 1997 and
$5,051,576 as of December 31, 1996. During 1997, $6,844,844 of these loans were
made and repayments totaled $5,420,226.
Loans, including impaired loans, on which the accrual of interest has been
discontinued or reduced totaled $1,835,555 as of December 31, 1997 and
$1,744,703 as of December 31, 1996. If interest on such loans had been accrued,
such income would have approximated $129,894 for 1997, $150,299 for 1996 and
$87,311 for 1995.
70
<PAGE> 72
ALLOWANCE FOR LOAN LOSSES
Transactions in the allowance for loan losses are summarized as follows:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Allowance for Loan Losses -
beginning of year $ 5,758,048 $ 5,871,790 $5,355,354
Provision for Loan Losses 3,609,263 1,097,000 618,500
Loans Charged Off (2,091,979) (2,608,561) (529,686)
Recoveries 561,250 1,397,819 427,622
----------- ----------- ----------
Allowance for Loan Losses -
end of year $ 7,836,582 $ 5,758,048 $5,871,790
=========== =========== ==========
</TABLE>
Because of uncertainties inherent in the estimation process, management's
estimate of credit losses in the loan portfolio and the related allowance may
change in the near term. However, the amount of the change that is reasonably
possible cannot be estimated.
Impaired loans and related information are as follows:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Principal Balance $ 492,004 $ 59,236
Allowance for Loan Losses (247,309) (29,877)
--------- ---------
Unreserved Portion of Impaired Loans $ 244,695 $ 29,359
========= =========
Average Principal Balance - Year to Date $ 82,658 $ 78,879
========= =========
</TABLE>
Interest income on impaired loans is recognized only after the principal balance
is deemed current. The allowance for loan losses above is a portion of the
banks' total allowance for loan losses.
No interest income was recognized on these loans for the three years ended
December 31, 1997.
PREMISES AND EQUIPMENT
Premises and equipment consist of the following:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Land $ 3,865,301 $ 3,122,924
Buildings and Improvements 20,118,446 17,720,357
Equipment 14,497,177 12,796,890
Livestock 64,725 73,824
------------ ------------
38,545,649 33,713,995
Accumulated Depreciation (15,805,315) (13,472,275)
------------ ------------
$ 22,740,334 $ 20,241,720
============ ============
</TABLE>
Depreciation expense is summarized as follows:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Net Occupancy Expense $1,010,790 $ 798,288 $ 599,583
Furniture and Equipment Expense 1,625,870 1,057,068 963,387
Other 15,268 11,267 8,107
---------- ---------- ----------
$2,651,928 $1,866,623 $1,571,077
========== ========== ==========
</TABLE>
71
<PAGE> 73
DEPOSITS
The aggregate amounts of maturities for time deposits having a remaining term of
more than one year as of December 31, 1997, are as follows:
<TABLE>
<S> <C>
1999 $31,126,511
2000 $ 5,029,395
2001 and 2002 $ 8,656,989
Thereafter $ 29,829
</TABLE>
BUSINESS COMBINATION
On June 15, 1995, Pioneer Bank acquired all of the deposits and certain
facilities, furnishings and equipment of three NationsBank branches in Marion
County in a combination accounted for as a purchase. The results of operations
for the three branches are included in the financial statements since the date
of acquisition. The total cost of the acquisition was $8,383,409. Deposits of
$70,700,471 were also assumed. The total cost of the acquisition exceeded the
fair value of the net assets acquired by $7,246,798. The excess is being
amortized as a core deposit intangible over ten years.
On November 30, 1995, the company acquired Sweetwater Valley Corp. in a business
combination accounted for as a pooling of interests. Sweetwater Valley Corp. was
a one bank holding company owning all of the outstanding common stock of Valley
Bank. As a part of the merger, Sweetwater Valley Corp. was dissolved. Valley
Bank became a wholly-owned subsidiary of the company through the exchange of
479,956 shares of the company's common stock for all of the outstanding stock of
Sweetwater Valley Corp. The financial statements for 1995 are based on the
assumption that the companies were combined for the full year, and financial
statements for prior years have been restated to give effect to the combination.
Separate results of operations for the periods prior to the merger with
Sweetwater Valley Corp. are as follows:
<TABLE>
<CAPTION>
UNAUDITED
11 MONTHS ENDED
NOVEMBER 30, 1995
<S> <C>
NET INTEREST INCOME, AFTER PROVISION FOR LOAN LOSSES
Pioneer Bancshares, Inc. $16,836,825
Sweetwater Valley Corp. 6,247,748
-----------
Combined $23,084,573
===========
NET INCOME
Pioneer Bancshares, Inc. $ 5,156,108
Sweetwater Valley Corp. 1,717,660
-----------
Combined $ 6,873,768
===========
OTHER CHANGES IN STOCKHOLDERS' EQUITY
Pioneer Bancshares, Inc. $ 2,158,218
Sweetwater Valley Corp. 1,018,101
-----------
Combined $ 3,176,319
===========
</TABLE>
72
<PAGE> 74
PIONEER BANK, F.S.B.
Pioneer Bank, f.s.b. commenced operations as a federal savings bank on September
9, 1997. Eight million dollars was contributed by the company for 100% of the
bank's stock. The company funded this contribution by a special dividend from
one of its banking subsidiaries.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of Pioneer Bank's financial instruments are as
follows:
<TABLE>
<CAPTION>
1997 1996
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
<S> <C> <C> <C> <C>
Financial Assets -
Cash and short-term investments $ 65,703,301 $ 65,703,301 $ 57,565,542 $ 57,565,542
Investment securities 205,087,193 205,277,531 251,598,993 251,508,933
Loans 649,757,660 647,348,094 523,252,584 523,809,697
Allowance for loan losses (7,836,582) (7,836,582) (5,758,048) (5,758,048)
------------------------------------------------------------------
$912,711,572 $910,492,344 $826,659,071 $827,126,124
==================================================================
Financial Liabilities -
Deposits -
Noninterest bearing demand $126,684,077 $126,684,077 $125,529,309 $125,529,309
Interest bearing demand 132,754,860 132,754,860 120,146,268 120,146,268
Savings 111,155,719 111,155,719 111,748,510 111,748,510
Certificates of deposit of
$100,000 or more 70,584,736 68,420,272 56,086,477 56,412,475
Time deposits of less than
$100,000 307,241,495 297,518,124 279,056,446 275,556,255
Other borrowings 38,000,000 38,000,000 10,000,000 10,000,000
------------------------------------------------------------------
$786,420,887 $774,533,052 $702,567,010 $699,392,817
==================================================================
Unrecognized Financial Instruments -
Commitments to extend credit $114,348,440 $114,348,440 $ 93,557,932 $ 93,557,932
Standby letters of credit $ 3,648,810 $ 3,648,810 $ 3,650,766 $ 3,650,766
Credit card arrangements $ 10,678,346 $ 10,678,346 $ 8,811,081 $ 8,811,081
</TABLE>
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate that
value:
CASH AND SHORT-TERM INVESTMENTS - For those short-term instruments, the carrying
amount is a reasonable estimate of fair value.
INVESTMENT SECURITIES - For securities held as investments, fair value equals
quoted market price, if available. If a quoted market price is not available,
fair value is estimated using quoted market prices for similar securities.
LOAN RECEIVABLES - For certain homogeneous categories of loans, such as some
residential mortgages, credit card receivables, and other consumer loans, fair
value is estimated using the quoted market prices for securities backed by
similar loans, adjusted for differences in loan characteristics. The fair value
of other types of loans is estimated by discounting the future cash flows using
the current rates at which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturities.
73
<PAGE> 75
DEPOSIT LIABILITIES - The fair value of demand deposits, savings accounts, and
certain money market deposits is the amount payable on demand at the reporting
date. The fair value of fixed-maturity certificates of deposit is estimated
using the rates currently offered for deposits of similar remaining maturities.
LONG-TERM DEBT - The fair value of the company's long-term debt is estimated
using discounted cash flow analysis based on the company's current incremental
borrowing rate for similar types of borrowing arrangements.
INCOME TAXES
The income tax provision consists of the following:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Current Provision $ 5,611,426 $3,883,591 $2,724,523
Deferred Provision (1,446,460) (829,409) (300,290)
----------- ---------- ----------
Income Tax Provision $ 4,164,966 $3,054,182 $2,424,233
=========== ========== ==========
</TABLE>
Reconciliation of the income tax provision to statutory rates is as follows:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Federal Income Tax at Statutory Rate $ 4,735,200 $ 4,097,350 $ 3,232,056
Tax-Exempt Interest (1,142,803) (1,291,906) (1,281,994)
Other 49,723 (140,384) (22,367)
Nondeductible Acquisition Costs - - 131,598
State Income Taxes - net of
federal income tax benefit 522,846 389,122 364,940
----------- ----------- -----------
Income Tax Provision $ 4,164,966 $ 3,054,182 $ 2,424,233
=========== =========== ===========
</TABLE>
The tax effects of each type of significant item that gave rise to deferred
taxes are:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
DEFERRED TAX ASSETS
Loan Loss Reserve $2,626,119 $1,009,733
Unearned Loan Fees 88,644 204,555
Goodwill 225,420 148,962
Other Real Estate 56,812 87,023
Post Retirement Benefits 396,599 362,463
Acquisition Costs 126,419 122,418
---------- ----------
3,520,013 1,935,154
---------- ----------
DEFERRED TAX LIABILITIES
Property and Equipment 217,762 291,869
Investment Securities 663,647 508,902
Federal Home Loan Bank Stock 246,610 80,000
Other 93,472 59,176
---------- ----------
1,221,491 939,947
---------- ----------
NET DEFERRED TAX ASSETS $2,298,522 $ 995,207
========== ==========
</TABLE>
74
<PAGE> 76
401(K) AND EMPLOYEE STOCK OWNERSHIP PLAN
The company has a 401(k) and Employee Stock Ownership Plan (the plan) covering
employees meeting certain age and service requirements. The plan is structured
so that employees can contribute to the plan on a tax deductible basis and have
their contributions invested in various investment funds offered under the plan.
The company may use the plan as a leveraged ESOP to purchase stock in Pioneer
Bancshares, Inc. and allocate that stock to employees over a period of time as
the ESOP loan used to purchase the stock is paid down. As of December 31, 1997,
the plan was not leveraged. The plan permits, but does not require, the company
to make an employer matching contribution during any plan year. Employer
contributions which represent 50% of the first 6% of employees' contributions to
the plan totaled $192,954 for 1997, $167,426 for 1996 and $122,751 for 1995.
An employee stock ownership plan is available for all full-time employees at
Valley Bank. All persons employed on the last day of the plan year are eligible
to participate in the employee stock ownership plan. As of December 31, 1995,
the Valley Bank ESOP was merged into the company's plan. Contributions to the
plan were $531,764 for 1997, $294,429 for 1996 and $343,787 for 1995.
The number of allocated shares of the company's common stock held in the ESOP
was 90,484 shares as of December 31, 1997, 101,175 shares as of December 31,
1996, and none as of December 31, 1995. As of December 31, 1997, 1996 and 1995,
there were no unearned ESOP shares.
The plan issues a put option to any participant who receives a distribution of
company stock. The put option permits the participant to sell distributed
company stock to the company during two option periods at the fair market value
at the date of exercise of the option. The first put option period is a period
of at least sixty days beginning on the date of distribution of company stock to
the participant. The second put option period is a period of at least sixty days
beginning after the next determination of fair market value of company stock by
independent appraisal in the plan year following the distribution. As of
December 31, 1996, 3,270 allocated shares with a fair value of $120,990 were
subject to the put options. No shares were subject to the put options as of
December 31, 1997 or 1995.
LONG-TERM INCENTIVE PLAN
The company established a long-term incentive plan (the plan) during 1994 for
eligible employees. The total number of shares that may be issued under the plan
may not exceed 200,000 shares.
Under the terms of the plan, incentive stock options to purchase shares of the
company's common stock are granted at a price not less than the fair market
value of the stock at the date of grant. Options may be exercised within ten
years after the date the incentive stock option is granted.
The plan includes nonqualified stock options which shall be exercisable only
during a term fixed by the Stock Option Committee. The company may elect to
grant nonqualified stock options at a price less than the fair market value of
the common stock at the time the option is granted.
The plan also allows for granting of stock appreciation rights in connection
with grant of an option. Upon exercise of a stock appreciation right, the holder
may receive no more than an amount payable in cash and/or in shares of common
stock equal to the difference between the fair market value of common stock and
the exercise price.
75
<PAGE> 77
Also included in the plan are detached stock appreciation rights which the Stock
Option Committee may grant without granting options. The Committee also
determines whether these rights are fully vested upon grant or whether they vest
over a specific time period. Upon exercise of a detached stock appreciation
right, the holder shall be entitled to a payment equal to the fair market value
of one share of common stock on the date exercised, reduced by the fair market
value of one share of common stock on the grant date.
Exercise of both stock appreciation rights and detached stock appreciation
rights is subject to conditions specified by the plan.
The following table summarizes the activity relating to incentive stock options
during 1997, 1996 and 1995:
<TABLE>
<CAPTION>
NUMBER OPTION PRICE
OF SHARES PER SHARE
<S> <C> <C>
BALANCE AT DECEMBER 31, 1994 0 N/A
Options Granted 2,000 $36.85*
Options Granted 40,000 $33.50**
------
BALANCE AT DECEMBER 31, 1995 42,000
Options Forfeited (1,200) $33.50
Options Granted 2,000 $40.70*
Options Granted 49,600 $37.00**
------
BALANCE AT DECEMBER 31, 1996 92,400
Options Forfeited (5,600) $33.50-$37.00
Options Granted 48,500 $44.00**
-------
BALANCE AT DECEMBER 31, 1997 135,300
=======
</TABLE>
* Represents 110% of the fair market value of the company's stock as of date of
grant.
** Fair market value of the company's stock as of date of grant.
The weighted average exercise price was $38.53 for 1997, $35.61 for 1996 and
$33.66 for 1995. The weighted average remaining life of the options outstanding
was 9.08 years for 1997, 9.56 years for 1996 and 10 years for 1995. Options
exercisable at December 31, 1997, were 11,640 at $33.50 per share. No options
were exercisable at December 31, 1996 or December 31, 1995.
The options begin vesting at 30% after the second anniversary date, 60% after
the third anniversary date and 100% after the fourth anniversary date.
Statement of Financial Accounting Standards Number 123, "Accounting for Stock
Based Compensation," issued in 1995, establishes financial accounting reporting
standards for stock based employee compensation plans. The statement defines a
fair value based method of accounting for employee stock options and encourages
entities to adopt that method. The statement also allows an entity to continue
to measure compensation cost of stock options using the intrinsic value based
method. The intrinsic value based method requires recording compensation only if
stock options are issued at an exercise price below the fair
76
<PAGE> 78
value of its stock. The fair value based method requires the recognition of
compensation cost over the employee's service period using an option pricing
model that considers the exercise price, the expected life of the option,
volatility of the underlying stock, expected dividends on the stock and the
risk-free interest rate over the expected life of the option.
The company has elected to continue recognizing compensation cost using the
intrinsic value based method. Compensation cost recognized in 1997, 1996 and
1995 was $0. Under the fair value based method, compensation cost would have
been approximately $118,615 for 1997, $0 for 1996 and $0 for 1995. The pro forma
effects on the company's net income and earnings per share are as follows:
<TABLE>
<CAPTION>
1997 1996 1995
AS REPORTED PRO FORMA AS REPORTED PRO FORMA AS REPORTED PRO FORMA
<S> <C> <C> <C> <C> <C> <C>
Net Income $9,762,096 $ 9,688,555 $8,996,847 $ 8,996,847 $7,081,813 $ 7,081,813
========== ============ ========== ============ ========== =============
Basic Net
Income per
Share $ 2.60 $ 2.58 $ 2.39 $ 2.39 $ 1.88 $ 1.88
========== ============ ========== ============ ========== =============
Diluted Net
Income per
Share $ 2.60 $ 2.58 $ 2.39 $ 2.39 $ 1.88 $ 1.88
========== ============ ========== ============ ========== =============
</TABLE>
Assumptions used to estimate the fair value of the options are as follows:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Risk Free Interest Rate 5.72% 6.51% 6.10%
Expected Life 10 years 10 years 10 years
Expected Volatility 15% 15% 15%
Expected Dividends $1.00/share $.87/share $.84/share
</TABLE>
NET INCOME PER SHARE
The reconciliation of the denominators of basic and diluted per share
computations is as follows:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Weighted Average Shares Outstanding 3,759,912 3,759,912 3,759,912
Effect of Dilutive Stock Options 1,970 -- --
--------- --------- ---------
3,761,882 3,759,912 3,759,912
========= ========= =========
</TABLE>
77
<PAGE> 79
POSTRETIREMENT HEALTH CARE PLAN
Pioneer Bank pays group health insurance premiums for non-key employees and
their eligible dependents who elected to retire under the enhanced early
retirement program as of September 30, 1992. The premiums are paid from the
actual date of early retirement until the earlier of the date the participant
becomes age 65, the date the participant becomes eligible for participation or
coverage under another employer's group health plan, or the date the participant
and spouse each would be eligible for Medicare coverage.
Post-retirement expense includes the following components:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Interest Cost $ 27,886 $ 22,687
Amortization of Unrecognized Transition Obligation 57,332 57,332
Amortization of Gain (686) (15,146)
-------- --------
$ 84,532 $ 64,873
======== ========
</TABLE>
The reconciliation of the funded status of the plan to amounts recognized in the
company's consolidated balance sheets is as follows:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Accumulated Post-retirement Benefit Obligation $(369,336) $(291,271)
Unrecognized Transition Obligation 229,327 286,659
Unrecognized Net Gain (43,264) (137,314)
--------- ---------
Accrued Post-retirement Benefit Cost $(183,273) $(141,926)
========= =========
</TABLE>
For measurement purposes, the health care cost trend rate assumed is 10%
increased to 11% for all future years, 7% decreased by 1% per year for 1 year
and leveling at 6% thereafter in 1996 and 8% decreased by 1% per year for 2
years and leveling at 6% thereafter in 1995. The discount rate used is 7.25% in
1997, 1996 and 1995. A 1% increase in health care cost trend rates for 1997
would increase post-retirement expense by $2,072 and the accumulated benefit
obligation by $20,500.
POSTRETIREMENT DEFERRED COMPENSATION PLAN
Valley Bank has a deferred compensation plan covering certain officers and
directors. Annual contributions are made to the plan and the assets funding the
plan consist of life insurance policies on the employees. Employees receive
monthly benefits upon retirement.
Post-retirement expense includes the following components:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Service Cost $ 38,605 $ 8,268
Interest Cost 81,619 48,481
Prior Service Cost -- 36,642
Distributions (29,917) (11,116)
-------- --------
$ 90,307 $ 82,275
======== ========
</TABLE>
78
<PAGE> 80
The reconciliation of the funded status of the plan to amounts recognized in the
company's consolidated financial statements is as follows:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Accumulated Post-retirement Benefit Obligation $861,509 $771,202
Fair Value of Plan Assets -- --
-------- --------
861,509 771,202
Unrecognized Net Gain -- --
-------- --------
Accrued Post-retirement Cost $861,509 $771,202
======== ========
</TABLE>
The plan is funded by insurance contracts totaling $2,611,034 for 1997 and
$2,528,098 for 1996 which are recorded as assets of Valley Bank and not the
plan.
LONG-TERM DEBT
Long-term debt consists of an advance of $38,000,000 from the Federal Home Loan
Bank with maturity dates ranging from April, 1998 to November, 1999 and interest
rates ranging from 5.35% to 5.95%.
Collateral consists of all Federal Home Loan Bank stock owned by Pioneer and
Valley Banks and eligible mortgage collateral.
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Information concerning securities sold under agreements to repurchase is
summarized as follows:
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Average Balance During the Year $59,386,415 $43,858,544
Maximum Month-End Balance
During the Year $72,307,500 $51,254,272
Securities Pledged Against the
Agreements at Year-End:
Carrying Value, including accrued interest $69,115,317 $59,631,998
</TABLE>
Securities pledged against the repurchase agreements represent a portion of the
company's investment portfolio and are held in safekeeping at a correspondent
bank.
79
<PAGE> 81
FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK AND CONCENTRATIONS OF CREDIT
RISK
The banks are parties to financial instruments with off-balance-sheet risk in
the normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to extend credit, commitments
under credit card arrangements and standby letters of credit. Those instruments
involve to varying degrees elements of credit risk in excess of the amount
recognized in the balance sheet. The contract or notional amounts of those
instruments express the extent of involvement the banks have in particular
classes of financial instruments.
The banks' exposure to credit loss from nonperformance by the other party to the
financial instruments for commitments to extend credit and standby letters of
credit is represented by the contractual amount of those instruments. The banks
use the same credit policies in making commitments and conditional obligations
as they do for on-balance-sheet instruments.
The banks generally require collateral or other security to support financial
instruments with off-balance-sheet credit risk.
<TABLE>
<CAPTION>
CONTRACT OR NOTIONAL
FINANCIAL INSTRUMENTS WHOSE AMOUNT AS OF DECEMBER 31,
CONTRACTS REPRESENT CREDIT RISK 1997 1996
<S> <C> <C>
Commitments to Extend Credit $261,398,359 $198,785,177
Standby Letters of Credit $ 3,648,810 $ 3,650,766
Credit Card Arrangements $ 15,538,048 $ 13,224,729
</TABLE>
Commitments to extend credit are agreements to lend to customers. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of fees. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future liquidity requirements. The amount drawn on the total
commitments was $152,409,622 for 1997 and $109,676,324 for 1996. Certain
directors of the banks and companies in which they are the principal owners,
officers and/or directors had commitments from the banks in the form of
contracts which represent credit risk to the banks. In the opinion of
management, these commitments are made in the ordinary course of business. The
banks evaluate each customer's credit worthiness on a case-by-case basis. The
amount of collateral obtained if deemed necessary by the banks on extension of
credit is based on management's credit assessment of the counterparty.
Collateral held varies but may include accounts receivable; inventory; property,
plant and equipment; and existing income-producing commercial properties. The
amount collateralized was 77% for 1997 and 69% for 1996.
As of December 31, 1997, loans to one customer and related parties of Pioneer
Bank represented 15% of the company's total capital.
80
<PAGE> 82
STOCK DIVIDEND
During 1996, the Board of Directors authorized a two-for-one stock split,
effected as a 100% stock dividend, thereby increasing the number of issued and
outstanding shares to 3,759,912. All references in the accompanying financial
statements to the number of common shares and per-share amounts for 1995 have
been restated to reflect the stock dividend.
PREFERRED STOCK
The Board of Directors is authorized to issue shares of preferred stock in one
or more series, and to determine the designations and the powers, preferences
and other special rights of each series.
COMMITMENTS
The company is subject to legal proceedings and claims that arise in the
ordinary course of business. In management's opinion, the amount of ultimate
liability will not materially affect the financial position or results of
operations of the company.
REGULATORY MATTERS
The company and banks are subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory - and possibly additional
discretionary - actions by regulators that, if undertaken, could have a direct
material effect on the company's financial statements. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the
company and banks must meet specific capital guidelines that involve
quantitative measures of the company and banks' assets, liabilities and certain
off-balance-sheet items as calculated under regulatory accounting practices. The
company and banks' capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk weightings and
other factors.
Pioneer Bank, f.s.b. is required to maintain a ratio of Tier 1 capital to total
assets of not less than 8% during the first three years of operations as a
condition of approval for deposit insurance by the Federal Deposit Insurance
Corporation.
Quantitative measures established by regulation to ensure capital adequacy
require the company and banks to maintain minimum amounts and ratios (set forth
in the table below) of total and Tier 1 capital (as defined in the regulations)
to risk-weighted assets (as defined), and of Tier 1 capital (as defined) to
average assets (as defined). Management believes, as of December 31, 1997, that
the company and banks meet all capital adequacy requirements to which they are
subject.
As of December 31, 1997, the most recent notifications from the Federal Reserve
(for the company) and Federal Deposit Insurance Corporation (for the banks)
categorized the company and banks as adequately capitalized under the regulatory
framework for prompt corrective action. To be categorized as adequately
capitalized, the company and banks must maintain minimum total risk-based, Tier
1 risk-based and Tier 1 leverage ratios as set forth in the table. There are no
conditions or events since that notification that management believes have
changed the company and banks' category.
81
<PAGE> 83
<TABLE>
<CAPTION>
TO BE WELL
CAPITALIZED UNDER
FOR CAPITAL PROMPT CORRECTIVE
ACTUAL ADEQUACY PURPOSES ACTION PROVISION
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
<S> <C> <C> <C> <C> <C> <C>
DECEMBER 31, 1997
TOTAL CAPITAL (TO RISK WEIGHTED ASSETS)
Pioneer Bancshares, Inc. and
Subsidiaries $100,992,581 13.99% $57,737,347 8.00% $72,171,683 10.00%
Pioneer Bank and Subsidiaries $ 72,632,586 12.62% $46,045,152 8.00% $57,556,440 10.00%
Valley Bank $ 17,722,886 13.18% $10,757,055 8.00% $13,446,319 10.00%
Pioneer Bank, f.s.b $ 7,807,180 77.24% $ 817,473 8.00% $ 1,021,841 10.00%
TIER 1 CAPITAL (TO RISK WEIGHTED
ASSETS)
Pioneer Bancshares, Inc. and
Subsidiaries $ 93,155,998 12.91% $28,868,673 4.00% $43,303,010 6.00%
Pioneer Bank and Subsidiaries $ 66,424,274 11.54% $23,022,576 4.00% $34,533,864 6.00%
Valley Bank $ 16,225,268 12.07% $ 5,378,528 4.00% $ 8,067,792 6.00%
Pioneer Bank, f.s.b $ 7,676,527 75.96% $ 408,736 4.00% $ 613,105 6.00%
TIER 1 CAPITAL (TO AVERAGE ASSETS)
Pioneer Bancshares, Inc. and
Subsidiaries $ 93,155,998 10.29% $37,891,600 4.00% $47,364,500 5.00%
Pioneer Bank and Subsidiaries $ 66,424,274 9.64% $28,859,400 4.00% $36,074,250 5.00%
Valley Bank $ 16,225,268 9.16% $ 7,418,240 4.00% $ 9,272,800 5.00%
Pioneer Bank, f.s.b $ 7,676,527 49.61% $ 618,848 4.00% $ 773,560 5.00%
DECEMBER 31, 1996
TOTAL CAPITAL (TO RISK WEIGHTED ASSETS)
Pioneer Bancshares, Inc. and
Subsidiaries $ 92,426,005 14.78% $50,031,136 8.00% $62,538,920 10.00%
Pioneer Bank and Subsidiaries $ 67,785,829 13.36% $40,580,620 8.00% $50,725,775 10.00%
Valley Bank $ 24,722,295 20.93% $ 9,451,864 8.00% $11,814,829 10.00%
TIER 1 CAPITAL (TO RISK WEIGHTED
ASSETS)
Pioneer Bancshares, Inc. and
Subsidiaries $ 86,667,198 13.86% $25,015,568 4.00% $37,523,352 6.00%
Pioneer Bank and Subsidiaries $ 63,188,884 12.46% $20,290,310 4.00% $30,435,465 6.00%
Valley Bank $ 23,560,433 19.94% $ 4,725,932 4.00% $ 7,088,898 6.00%
TIER 1 CAPITAL (TO AVERAGE ASSETS)
Pioneer Bancshares, Inc. and
Subsidiaries $ 86,667,198 10.55% $33,909,280 4.00% $42,386,600 5.00%
Pioneer Bank and Subsidiaries $ 67,785,829 10.44% $26,835,040 4.00% $33,543,600 5.00%
Valley Bank $ 23,560,433 13.52% $ 7,073,880 4.00% $ 8,842,350 5.00%
</TABLE>
SUPPLEMENTAL FINANCIAL DATA
Components of other noninterest expenses in excess of 1% of income for the
respective periods are as follows:
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
FDIC Insurance Premiums $ 44,489 $ 3,180 $ 678,444
========== ========== ==========
Office Supplies $ 829,698 $ 663,502 $ 589,317
========== ========== ==========
Amortization of Core Deposit Intangible $ 724,680 $ 724,680 $ 292,535
========== ========== ==========
Professional Fees $1,142,720 $1,789,554 $1,469,165
========== ========== ==========
</TABLE>
82
<PAGE> 84
CONDENSED PARENT COMPANY FINANCIAL STATEMENTS
Condensed financial statements of Pioneer Bancshares, Inc. are summarized as
follows:
CONDENSED BALANCE SHEETS
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
ASSETS
Cash $ 2,357,783 $ 107,210
Investment in Subsidiaries* 96,864,084 93,882,143
Organization Costs, net -- 15,527
Receivable* 1,476 1,476
Goodwill 74,108 98,810
Land 293,605 --
Taxes Receivable 514,309 --
Prepaid Assets 131,806 --
Other 614 13,627
------------ -----------
TOTAL ASSETS $100,237,785 $94,118,793
============ ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
Other $ 25,169 $ --
Taxes Payable -- 195,326
Accrued Benefits 296,658 --
------------ -----------
Total Liabilities 321,827 195,326
STOCKHOLDERS' EQUITY 99,915,958 93,923,467
------------ -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $100,237,785 $94,118,793
============ ===========
</TABLE>
*Eliminated in Consolidation
83
<PAGE> 85
CONDENSED STATEMENTS OF INCOME
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
INCOME
Management Fees * $ 3,311,434 $ 3,783,704 $ --
Dividends from Subsidiaries * 17,423,649 3,271,124 2,837,639
Other Income 92,765 49,993 --
------------ ----------- -----------
Total Income 20,827,848 7,104,821 2,837,639
------------ ----------- -----------
EXPENSES
Salaries and Employee Benefits 4,259,006 2,636,697 --
Other Expense 3,318,443 1,436,386 494,355
------------ ----------- -----------
Total Expense 7,577,449 4,073,083 494,355
------------ ----------- -----------
INCOME BEFORE INCOME TAXES AND
EQUITY IN UNDISTRIBUTED
EARNINGS OF SUBSIDIARY 13,250,399 3,031,738 2,343,284
Provision for Income Taxes (1,569,328) (80,000) (47,209)
------------ ----------- -----------
INCOME BEFORE EQUITY IN
UNDISTRIBUTED EARNINGS
OF SUBSIDIARY 14,819,727 3,111,738 2,390,493
Equity in Undistributed Earnings
of Subsidiary * (5,057,631) 5,885,109 4,691,320
------------ ----------- -----------
NET INCOME $ 9,762,096 $ 8,996,847 $ 7,081,813
============ =========== ===========
</TABLE>
* Eliminated in Consolidation
84
<PAGE> 86
CONDENSED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING
ACTIVITIES
Net Income $ 9,762,096 $ 8,996,847 $ 7,081,813
Adjustments to Reconcile Net Income
to Net Cash Provided by Operating
Activities -
Undistributed Earnings of
Subsidiary 4,707,689 (5,885,109) (4,691,320)
Amortization Expense 40,229 45,383 20,680
Increase in Liabilities 126,501 123,030 15,368
Increase in Other Assets (633,102) (13,627) --
Decrease in Receivables -- 84,622 --
------------ ----------- -----------
NET CASH PROVIDED BY OPERATING
ACTIVITIES 14,003,297 3,351,146 2,426,541
------------ ----------- -----------
CASH FLOWS FROM INVESTING
ACTIVITIES
Acquisition of Subsidiary (8,000,000) -- (4,830)
Acquisition of Land (293,605) -- --
------------ ----------- -----------
NET CASH USED BY INVESTING
ACTIVITIES (8,293,605) -- (4,830)
------------ ----------- -----------
CASH FLOWS FROM FINANCING
ACTIVITIES
Dividends Paid (3,459,119) (3,271,124) (2,525,639)
------------ ----------- -----------
NET INCREASE (DECREASE) IN CASH 2,250,573 80,022 (103,928)
CASH - beginning of year 107,210 27,188 131,116
------------ ----------- -----------
CASH - end of year $ 2,357,783 $ 107,210 $ 27,188
============ =========== ===========
SUPPLEMENTAL DISCLOSURES OF
NONCASH INVESTING ACTIVITIES
Change in Unrealized Gain
on Securities $ 238,014 $ 494,605 $ 5,903,139
Inter-company Lease Adjustment * $ 350,000 $ -- $ --
</TABLE>
* Eliminated in Consolidation
85
<PAGE> 87
QUARTERLY RESULTS (UNAUDITED)
A summary of the unaudited results of operations for each quarter of
1997 and 1996 follows:
<TABLE>
<CAPTION>
First Second Third Fourth
Quarter Quarter Quarter Quarter
------- ------- ------- -------
(in thousands except per share data)
<S> <C> <C> <C> <C>
1997:
Total interest income $15,265 $16,588 $17,683 $17,700
Total interest expense 6,927 7,560 7,700 8,012
------- ------- ------- -------
Net interest income 8,338 9,028 9,983 9,688
Provision for loan losses 466 1,155 1,122 866
------- ------- ------- -------
Total interest income after
provision for loan losses 7,872 7,873 8,861 8,822
Total noninterest income 2,122 2,169 2,753 2,828
Total noninterest expense 6,748 7,187 7,572 7,866
Income tax expense 850 840 884 1,591
------- ------- ------- -------
Net income $ 2,396 $ 2,015 $ 3,158 $ 2,193
======= ======= ======= =======
Per common share:
Net income 0.64 0.54 0.84 0.58
Cash dividend 0.23 0.23 0.23 0.23
Stock price range:
High 39.00 41.00 44.00 45.00
Low 37.00 39.00 41.00 44.00
Close 39.00 41.00 44.00 45.00
1996:
Total interest income $13,476 $14,019 $14,570 $14,899
Total interest expense 6,232 6,489 6,685 6,848
------- ------- ------- -------
Net interest income 7,244 7,530 7,885 8,051
Provision for loan losses 280 255 221 341
------- ------- ------- -------
Total interest income after
provision for loan losses 6,964 7,275 7,664 7,710
Total noninterest income 1,941 1,716 2,096 2,425
Total noninterest expense 6,108 6,294 6,368 6,970
Income tax expense 776 711 787 780
------- ------- ------- -------
Net income $ 2,021 $ 1,986 $ 2,605 $ 2,385
======= ======= ======= =======
Per common share:
Net income 0.54 0.53 0.69 0.63
Cash dividend 0.2175 0.2175 0.2175 0.2175
Stock price range:
High 35.00 35.00 36.00 37.00
Low 33.50 35.00 35.00 36.00
Close 35.00 35.00 36.00 37.00
</TABLE>
86
<PAGE> 88
ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information required by this item is incorporated herein by reference
from the sections entitled "Election of Directors," "Executive Compensation and
Other Information" and "Reporting of Stock Ownership by Directors and Executive
Officers of the Company" in the Proxy Statement for the Annual Meeting of
Shareholders to be held April 22, 1998, which is to be filed with the Securities
and Exchange Commission.
ITEM 11 - EXECUTIVE COMPENSATION
Information required by this item is incorporated herein by reference
from the section entitled "Executive Compensation and Other Information" in the
Proxy Statement for the Annual Meeting of Shareholders to be held April 22,
1998, which is to be filed with the Securities and Exchange Commission.
ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT
Information required by this item is incorporated herein by reference
from the sections entitled "Holdings of Voting Securities" and "Election of
Directors" in the Proxy Statement for the Annual Meeting of Shareholders to be
held April 22, 1998, which is to be filed with the Securities and Exchange
Commission.
ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this item is incorporated herein by reference
from the section entitled "Executive Compensation and Other Information" in the
Proxy Statement for the Annual Meeting of Shareholders to be held April 22,
1998, which is to be filed with the Securities and Exchange Commission.
87
<PAGE> 89
PART IV
ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND
REPORTS ON FORM 8-K
(a)(1) LIST OF FINANCIAL STATEMENTS
The following consolidated financial statements and report of
independent auditors of the Company are set forth in this Annual Report
on the page numbers indicated.
<TABLE>
<CAPTION>
Page(s)
-------
<S> <C>
Report of Independent Accountants ........................................................................... 57
Consolidated Balance Sheets
as of December 31, 1997 and 1996 ................................................................... 58-59
Consolidated Statements of Income
for the years ended December 31, 1997, 1996, 1995 .................................................. 60
Consolidated Statements of Stockholders' Equity
for the years ended December 31, 1997, 1996, 1995 .................................................. 61
Consolidated Statements of Cash Flows
for the years ended December 31, 1997, 1996, 1995 .................................................. 62-64
Notes to Consolidated Financial Statements
December 31, 1997 .................................................................................. 65-85
Quarterly Results (unaudited) ............................................................................... 86
</TABLE>
(a)(2) LIST OF FINANCIAL STATEMENT SCHEDULES
Schedules to the consolidated financial statements required by Article
9 of Regulation S-X are not required under the related instructions or
are inapplicable, and therefore have been omitted.
(a)(3) LIST OF EXHIBITS
Exhibits - The response to this portion of Item 14 submitted as a
separate section of this Report.
(b) Reports on Form 8-K
No reports on Form 8-K were filed for the last quarter of 1997
(c) Exhibits
<TABLE>
<CAPTION>
Page(s)
-------
<S> <C>
(3) Certificate of Incorporation and By-Laws of
Pioneer Bancshares, Inc. as amended
(Incorporated herein by reference from
Registrant's 1995 Proxy Statement)
(11) Computation of per share earnings ................... 92
(21) Subsidiaries of the Registrant ...................... 93
(24) Power of Attorney
(Contained under caption "Signatures" in this Report) 89
(27) Financial Data Schedule (SEC Use Only)
</TABLE>
(d) Certain financial statement schedules and exhibits have been omitted because
they are not applicable.
88
<PAGE> 90
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.
PIONEER BANCSHARES, INC.
Date: March 25, 1998 By /s/ Rodger B. Holley
--------------------------------
Rodger B. Holley
Chairman of the Board
President & CEO
Date: March 25, 1998 By /s/ Gregory B. Jones
--------------------------------
Gregory B. Jones
Treasurer
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below
constitutes and appoints Rodger B. Holley and Gregory B. Jones, and each of
them, his true and lawful attorney-in-fact as agent with full power of
substitution and resubstitution for him and in his name, place and stead, in any
and all capacity, to sign any or all amendments to this Form 10-K and to file
the same, with all exhibits thereto, and other documents in connection
therewith, with the Securities and Exchange Commission, granting unto said
attorney-in-fact and agents in full power and authority to do and perform each
and every act and thing requisite and necessary to be done in and about the
premises, as fully and to all intents and purposes as they might or could be in
person, hereby ratifying and confirming all that said attorneys-in-fact and
agents, and their substitute or substitutes, may lawfully do or cause to be done
by virtue hereof.
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 capacities and on the dates indicated.
89
<PAGE> 91
Directors Date
--------- ----
/s/ Clayton Causby
Clayton Causby March 25, 1998
/s/ George M. Clark, III
George M. Clark, III March 25, 1998
/s/ Robert T. Farnsworth
Robert T. Farnsworth March 25, 1998
/s/ Douglas F. Heuer, III
Douglas F. Heuer, III March 25, 1998
/s/ W. O. Hubbuch
W. O. Hubbuch March 25, 1998
/s/ Carol H. Jackson
Carol H. Jackson March 25, 1998
/s/ Paul D. Kelly
Paul D. Kelly, Jr. March 25, 1998
/s/ Ralph L. Kendall
Ralph L. Kendall March 25, 1998
/s/Joe N. Little
Joe N. Little March 25, 1998
/s/ Frank W. McDonald
Frank W. McDonald March 25, 1998
/s/ Sam E. Miles
Sam E. Miles, Jr. March 25, 1998
/s/ Kenneth A. Royse
Kenneth A. Royse March 25, 1998
/s/ Joseph A. Schmissrauter, Jr.
Joseph A. Schmissrauter, Jr. March 25, 1998
/s/ S. M. Warren
S. M. Warren March 25, 1998
/s/ Ralph M. West, Jr.
Ralph M. West, Jr. March 25, 1998
/s/ Jimmy E. Wilson
Jimmy E. Wilson March 25, 1998
90
<PAGE> 92
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibits Page(s)
-------- -------
<S> <C>
(3) Certificate of Incorporation and By-Laws of
Pioneer Bancshares, Inc. as amended
(Incorporated herein by reference from
Registrant's 1995 Proxy Statement)
(11) Computation of per share earnings ................... 92
(21) Subsidiaries of the Registrant ...................... 93
(24) Power of Attorney
(Contained under caption "Signatures" in this Report) 89
</TABLE>
91
<PAGE> 1
Exhibit 11 - Statement Re: Computation of Per Share Earnings
Pioneer Bancshares, Inc.
Computation of Net Income Per Common Share
<TABLE>
<CAPTION>
For the years ending December 31, 1997 1997 1995
- --------------------------------- ---------- ---------- ----------
<S> <C> <C> <C>
Income as reported in consolidated
statement of income ..................................... $9,762,096 $8,996,847 $7,081,813
========== ========== ==========
Per share computation of common and dilutive
common equivalent shares:
Weighted average number of shares outstanding ............. 3,759,912 3,759,912 3,759,912
========== ========== ==========
Net income per common and common equivalent share ......... $ 2.60 $ 2.39 $ 1.88
========== ========== ==========
Per share computation assuming full dilution:
Weighted average number of shares outstanding ............. 3,759,912 3,759,912 3,759,912
Weighted average number of shares issuable upon
exercise of stock options applying the treasury stock
method .............................................. 1,970 0 0
Weighted average number of shares outstanding used
to calculate per share data assuming no dilution .... 3,761,882 3,759,912 3,759,912
========== ========== ==========
Net income per common and common equivalent share
assuming full dilution .............................. $ 2.60 $ 2.39 $ 1.88
========== ========== ==========
</TABLE>
92
<PAGE> 1
Exhibit 21 - Subsidiaries of the Registrant
<TABLE>
<CAPTION>
State or Other Jurisdiction
Subsidiary of Incorporation
---------- ---------------------------
<S> <C>
Pioneer Bank Tennessee
Valley Bank Tennessee
Pioneer Bank, f.s.b. United States
Center Finance Company* Tennessee
Pioneer Securities, Inc.* Tennessee
</TABLE>
* Subsidiaries of Pioneer Bank
93
<TABLE> <S> <C>
<ARTICLE> 9
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
<PERIOD-END> DEC-31-1997
<CASH> 46,344
<INT-BEARING-DEPOSITS> 621,736
<FED-FUNDS-SOLD> 18,830
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 156,690
<INVESTMENTS-CARRYING> 48,396
<INVESTMENTS-MARKET> 48,586
<LOANS> 651,233
<ALLOWANCE> 7,836
<TOTAL-ASSETS> 956,890
<DEPOSITS> 748,420
<SHORT-TERM> 0
<LIABILITIES-OTHER> 10,114
<LONG-TERM> 38,000
0
0
<COMMON> 37
<OTHER-SE> 99,878
<TOTAL-LIABILITIES-AND-EQUITY> 956,890
<INTEREST-LOAN> 53,107
<INTEREST-INVEST> 12,484
<INTEREST-OTHER> 1,645
<INTEREST-TOTAL> 67,236
<INTEREST-DEPOSIT> 26,377
<INTEREST-EXPENSE> 30,199
<INTEREST-INCOME-NET> 37,037
<LOAN-LOSSES> 3,609
<SECURITIES-GAINS> 293
<EXPENSE-OTHER> 29,373
<INCOME-PRETAX> 13,927
<INCOME-PRE-EXTRAORDINARY> 13,927
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 9,762
<EPS-PRIMARY> 2.60
<EPS-DILUTED> 2.60
<YIELD-ACTUAL> 4.70
<LOANS-NON> 1,836
<LOANS-PAST> 2,120
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 492,004
<ALLOWANCE-OPEN> 5,758
<CHARGE-OFFS> 2,092
<RECOVERIES> 562
<ALLOWANCE-CLOSE> 7,837
<ALLOWANCE-DOMESTIC> 7,837
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
