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{FLAG Logo at Top Right Corner of Page)
Corporate Profile
From 1994 through 1997, FLAG Financial Corporation, headquartered in LaGrange,
Georgia was a unitary thrift holding company that owned 100% of the common
shares of First Federal Savings Bank of LaGrange. First Federal has provided
banking products and services to LaGrange since 1927 and is the largest
financial institution in its market. Effective March 31, 1998, FLAG became a
multi-bank holding company owning all of the Common Stock of First Federal
Savings Bank of LaGrange and Citizens Bank, which is headquartered in Vienna,
Georgia. FLAG has another acquisition pending, that upon completion, will
increase the FLAG franchise to eighteen offices serving communities extending
from west central Georgia to middle Georgia.
FLAG functions as a service provider to its offices that operate as local
decision-making community banks. FLAG's management feels that there are many
other community banks looking for a partnership that places importance on
community bank independence. FLAG is structured to be a provider of quality
products and services that help position community banks to be more competitive
with larger regionals.
It is the mission of FLAG to form a partnership of community banks.
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STOCK PRICE
(Year end December 31,)
97 $21.50
96 $10.75
95 $13.75
94 $ 8.75
93 $ 9.00
Table of Contents
Chairman's Message........................................... 2
Financial Highlights......................................... 5
Management's Discussion and Analysis......................... 6
Table of Contents to Consolidated Financial Statements....... 15
Report of Independent Certified Public Accountants........... 15
Board of Directors and Corporate Officers.................... 39
Office Locations............................................. 40
Shareholder Information....................... Inside Back Cover
1
<PAGE>
Chairman's Message
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(Picture of John S. Holle)
Dear Shareholders:
Nineteen-ninety seven was one of the most significant years in your Company's
history. Although its significance is owed in part to the financial successes we
achieved, it is equally, if not more, due to the groundwork that was laid in
1997 to broaden FLAG Financial's franchise area and enhance long-term growth.
Specifi-cally, 1997 was a year in which the Company:
*restored earnings to more normalized levels, after having recognized several
nonrecurring charges in 1996;
*accelerated balance sheet growth and improved asset quality;
*negotiated a merger of equals agreement with Middle Georgia Bankshares, Inc.;
and
*continued to work towards building shareholder value, as evidenced by the
doubling of FLAG Financia's stock price during the year.
None of these achievements could have been accomplished without our dedicated
team of employees, many of whom are also shareholders in the Company. It is
gratifying to know that these individuals have directly participated in the
benefits of owning FLAG Financial Corporation common stock.
Financial Results
- -----------------
Net earnings for 1997 was $2,033,000, or~$1.00 per share, versus a net loss of
$178,000, or $0.09 per share, in 1996. The loss in 1996 was due to the Savings
Association Insurance Fund ("SAIF") special assessment of $1,150,000 and from
nearly $3 million in special provisions relating to the Bennett Funding Group,
Inc. bankruptcy; Subsequent to the end of 1997, I am pleased to report a
significant balance of the Bennett Funding credit was paid off. We are grateful
to have this situation behind us.
One of the biggest financial achievements in 1997 was the growth we achieved in
noninterest income. Specifically, noninterest income increased 10% in 1997, or
14% excluding gains and losses on the sale of investments, loans, and other real
estate. This rate of growth significantly exceeded the rate of growth in
noninterest expense which, excluding the special SAIF assessment in 1996,
increased approximately 9%. The containment of noninterest expense growth was
particularly noteworthy given the key personnel additions that we have made over
the past year and a half. In fact, excluding personnel related costs, occupancy
expenses and the above mentioned SAIF assessment, total operating expenses
actually decreased 3% during 1997.
Balance Sheet Growth Accelerated and Asset Quality Improved
- -----------------------------------------------------------
The Bank also achieved excellent growth in several key balance sheet areas and
improved asset quality. Total assets increased 12% to $248 million at December
31, 1997, while net loans increased 9% to $166 million. Stockholders' equity as
of December 31, 1997, increased 8% to $22 million from the prior year level.
Book value per share was $10.83 as of December 31, 1997. As of December 31,
1997, nonperforming assets, which included the Bennett Funding leases were $4.6
million, versus $7.2 million at December 31, 1996. Excluding the Bennett Funding
leases, nonperforming assets would have been $2.5 million at December 31, 1997,
versus $2.6 million at December 31, 1996.
2
<PAGE>
Consolidation Strategy Emphasizes a New Type of Partnership
- -----------------------------------------------------------
While it was clearly a successful year from a financial standpoint, it was also
a successful year from a strategic one. Most analysts believe the current wave
of consolidation activity will remain high for many years to come. We believe
this trend provides FLAG Financial and many other community banks with a unique
opportunity. By bringing together senior executives
*with proven track records,
*a common strategic focus on the effective delivery of community bank products
and services, and
*a commitment to solid profitability and the enhancement of
shareholder value,
we can provide community banks the advantages of being a part of a larger
partnership while better preserving their market positions and relationships in
the community. Further, we believe this strategy will better enable independent
community banks to negotiate transactions that do not require substantial
reductions in jobs, services, or facilities in communities they serve.
Our merger with Middle Georgia Bankshares, Inc., which was announced on October
28, 1997, was an example of just such an opportunity. Middle Georgia, with
approximately $129 million in assets at December 31, 1997, is based in Unadilla,
Georgia, which is along the I-75 corridor just south of Macon. This merger will
greatly expand our franchise area, provide fee enhancement and cost sharing
opportunities and broaden our base of products and services. Further, we believe
the management team of the combined institutions will be far stronger and have
more depth than either institution alone. FLAG's Board of Directors will be
restructured to include seven members of its existing Board and three members of
the Middle Georgia Bankshare' Board of Directors. Additionally, I will remain
Chairman of the Board of the resulting organization and Dan Speight, who is the
Chief Executive Officer of Middle Georgia, will become the Chief Executive
Officer. After the close of the year, we also announced the signing of a
definitive agreement to merge with Three Rivers Bancshares, Inc., the parent
company of Bank of Milan in Milan, Georgia.
Both of these mergers are anticipated to be completed in the first half of 1998
and are expected to be accretive to 1998's earnings per share. On a pro forma
basis as of December 31, 1997, the combined operations of FLAG, Middle Georgia
Bankshares, and Three Rivers Bancshares represented total assets of $411
million, deposits of $324 million, loans of $280 million and earnings for the
prior twelve months of $3.7 million. Total FLAG shares outstanding will increase
to approximately 3.5 million from 2.0 million presently. We will continue to
look for similar opportunities in the future.
3
<PAGE>
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STOCKHOLDER'S EQUITY
($ in thousands)
97 $22,063
96 $20,511
95 $20,698
94 $19,011
93 $19.874
Building Shareholder Value
- --------------------------
Ultimately, all of our efforts continue to be built around increasing long-term
shareholder value. I am pleased to report that FLAG Financial has had an
outstanding record in this regard. Some of our achievements in building
shareholder value include the following:
*during 1997, FLAG shares doubled in value from $10.75 to $21.50;
*over the past three years, the annualized return including dividends on FLAG
stock was 38%, versus 28% for the S&P 500; and over the past five years, the
*annualized return was 34%, versus 17% for the S&P 500.
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LOANS RECEIVABLE
($ in thousands)
97 $165,942
96 $152,644
95 $147,402
94 $141,153
93 $137,233
To put these returns in perspective, someone who invested in FLAG shares five
years ago would now have more than four times their original investment. We
believe these returns affirm our future potential as an independent institution
with a successful growth plan. We sincerely appreciate the confidence expressed
by the markets, shareholders, and others who have entrusted us with their
investments.
Outlook
- -------
We begin 1998 with a great deal of anticipation. Our management team has been
strengthened through key personnel additions over the past two years and will
become even stronger with the addition of several valuable members of the Middle
Georgia and Three Rivers organizations. We are also continuing to invest in
technology, which will clearly be a critical success factor in the future. Along
those lines, in August 1998, we plan to convert from a service bureau support
system to an application system provided by Phoenix International Ltd., Inc.
Phoenix has represented in their contract with FLAG that this system is Year
2000 compliant, and we will test the system for Year 2000 compliance prior to
conversion. Finally, we have embarked on an expansion program which we believe
is both unique and has great future potential for our stockholders, employees,
and the communities we serve. Thank you for your confidence and continued
support.
Sincerely,
/s/ John S. Holle
John S. Holle
Chairman of the Board,
President and Chief Executive Officer
4
<PAGE>
Financial Highlights
(Dollars in thousands except per share date)
<TABLE>
<CAPTION>
Year Ended December 31,
Financial Condition ------------------------------------------------
& Other Data 1997 1996 1995 1994 1993
------------------------------------------------
<S> <C> <C> <C> <C> <C>
Total assets................................ $247,985 $221,958 $232,105 $231,700 $206,660
Loan receivable, net..................... 165,942 152,644 147,402 144,153 137,233
Investment securities.................... 51,691 44,516 58,661 69,736 49,389
Deposits................................. 180,662 180,692 180,608 168,401 165,223
FHLB advances............................ 41,637 17,371 29,504 43,281 20,500
Stockholders' equity..................... 22,063 20,511 20,698 19,011 19,874
Number of:
Loans outstanding........................ 4,751 4,567 4,498 4,609 4,596
Loans serviced for others................ 3,112 3,993 4,006 4,266 3,045
Deposits................................. 30,475 31,291 30,231 27,804 26,017
Offices open-full service................ 4 4 4 3 3
</TABLE>
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------------------------
1997 1996 1995 1994 1993
--------------------------------------------------
<S> <C> <C> <C> <C> <C>
Operating Results
Interst icome............................... $17,929 $17,912 $18,127 $15,604 $14,612
Interest expense............................ 9,386 9,191 9,886 8,222 7,796
Net interest income......................... 8,543 8,721 8,241 6,836 6,407
Other income................................ 2,937 2,586 2,271 1,907 1,534
Other expenses.............................. 8,595 9,039 7,128 6,247 5,274
Ggain on sales of loans and investment
securities............................... 804 807 284 195 693
Provision for loan losses................... 574 3,485 630 440 620
REO (losses) gains and provisions........... (83) (80) 33 (49) (75)
Earnings (loss) before income taxes......... 3,031 (489) 3,071 2,748 3,074
Provision (benefit) for income taxes........ 998 (311) 1,045 980 1,098
Cumulative effect of change in
accounting principle.................... - - - - 258
Net earnings (loss)......................... $2,033 $(178) $2,026 $1,768 $2,234
</TABLE>
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------------------------
1997 1996 1995 1994 1993
-----------------------------------------------
<S> <C> <C> <C> <C> <C>
Per Share Date
Basic earnings (loss) per share............. $1.00 $(0.09) $1.02 $0.88 $1.11
Diluted earnings (loss) per share........... $0.99 $(0.09) $0.98 $0.85 $1.09
Dividends per share......................... $0.34 $ 0.33 $0.30 $0.30 $0.28
Dividends/earnings per share................ 34.00% -344.44% 29.41% 34.09% 25.23%
Book value per share (1).................... $10.83 $10.07 $10.80 $9.45 $9.88
</TABLE>
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------------
1997 1996 1995 1994 1993
----------------------------------------------
<S> <C> <C> <C> <C> <C>
Key Ratios
Return on average assets.................... 0.88% -0.08% 0.87% 0.79% 1.10%
Return on average equity.................... 9.55% -0.88% 9.78% 9.00% 11.78%
Average equity to average assets............ 9.19% 8.96% 8.94% 8.76% 9.37%
Net interest margin......................... 4.14% 4.25% 3.84% 3.25% 3.37%
Year-end interest-earnings assets
to interest-bearing liabilities.......... 105.00% 106.00% 107.00% 112.00% 111.00%
Oeprating expenses to
average assets........................... 3.71% 4.01% 3.08% 2.47% 2.29%
</TABLE>
(1) Book value per share is calculated using shares outstanding as of year-end.
For the year 1993, the shares outstanding have been adjusted for stock dividends
and stock splits. Shares outstanding for the years 93-94 were 2,012,500,
1,916,000 for 1995, and 2,036,990 for 1996 and 1997.
5
<PAGE>
Management's Discussion and Analysis of Financial Condition and Results of
Operations
GENERAL
- -------
FLAG Financial Corporation ("FLAG") is a unitary thrift holding company
that owns 100 percent of the common stock of First Federal Savings Bank of
LaGrange (the "Bank"). The Bank is a federally chartered stock savings bank
doing business in West Central Georgia. The Bank is a full-service, retail
oriented community bank primarily engaged in retail banking, small business,
residential and commercial real estate lending, and mortgage banking.
Because the primary activity of FLAG is the ownership and operation of the
Bank, FLAG's financial performance has been determined primarily by the
operation of the Bank. Accordingly, the discussion below relates principally to
the operation of the Bank. As used herein, the term "FLAG" includes FLAG and,
where appropriate, the Bank. This discussion and the financial information
contained herein are presented to assist the reader in understanding and
evaluating the financial condition, results of operations, and future prospects
of FLAG and should be read as a supplement to and in conjunction with the
Consolidated Financial Statements and Related Notes.
CAPITAL ISSUES
- --------------
In October 1995, FLAG purchased and retired 128,100 shares of its common
stock in the open market for $12.75 per share. During 1997 and 1996, FLAG did
not purchase or issue any shares of its common stock.
PENDING ACQUISITIONS
- --------------------
On October 28, 1997, the Company announced the signing of an agreement to
merge with Middle Georgia Bankshares, Inc. ("MGB"), a $120 million asset bank
holding company based in Unadilla, Georgia. The merger agreement provides, among
other things, for the merger of MGB with and into FLAG and the exchange of each
share of MGB common stock for 15.75 shares of FLAG common stock. Total
outstanding shares of FLAG will increase from approximately 2,037,000 to
approximately 3,049,000 at closing.
Additionally, on February 12, 1998, the Company signed an agreement to
merge with Three Rivers Bancshares, Inc. ("TRB"), a $34 million asset bank
holding company based in Milan, Georgia. The merger agreement provides, among
other things, for the merger of TRB with and into FLAG and the exchange of each
share of TRB common stock for 48 shares of FLAG common stock. Total outstanding
shares of the Company will increase by approximately 398,000 additional shares
at closing.
YEAR 2000 ISSUES
- ----------------
FLAG is aware of the issues relating to its computer systems as the Year
2000 approaches. The Year 2000 issue is pervasive and complex as virtually every
computer operation will be affected in some way by the rollover of the two-digit
value to 00. The issue is whether computer systems will properly recognize
date-sensitive information when the year changes to 2000. Systems that do not
properly recognize such information could generate erroneous data or cause a
system to fail.
FLAG has appointed a Year 2000 committee comprised of three outside
directors and several key senior executives. The committee meets on a monthly
basis to provide direction and monitor the progress being made relating to
FLAG's Year 2000 efforts.
FLAG managers and supervisors have identified hardware and software used in
their area of responsibility impacted by the Year 2000 issue and have identified
vendors whom FLAG relies upon to provide financial information or services which
may be impacted by the Year 2000 issue. The Company has conducted a risk
assessment for each product, and has categorized the risks associated with each
product as "catastrophic," "serious," or "minimal." FLAG's overall risk is
considered to be serious to minimal. A separate plan and action date has been
established for hardware/software that are considered critical to FLAG's
on-going operations. The next steps in the process will be to develop a test for
the hardware/software, to test the hardware/software as it becomes Year 2000
compliant, and to document those tests accordingly.
FLAG plans to convert from its current NCR Starcom software system to an
application system provided by Phoenix International Ltd., Inc. ("Phoenix") in
August 1998. Phoenix has represented in their contract with FLAG that the
Phoenix application system is Year 2000 compliant. FLAG will test the system for
Year 2000 Compliance prior to conversion. The Phoenix application system will
include many critical applications, including the general ledger, loan
application system, deposit application system, and accounts receivable and
payable. The third party application system used to process FLAG's payroll has
already been certified as Year 2000 Compliant.
FLAG is in the initial stages of determining the impact of the Year 2000 on
its larger loan customers. For those loan customers with a significant risk to
their on-going operations arising from possible Year 2000 issues, FLAG will
monitor and document their Year 2000 compliance efforts. The Company is in the
process of developing a questionnaire for its lending officers to use in
assessing the Year 2000 risk for larger loan customers. FLAG plans to conduct
Year 2000 seminars for its commercial customers. FLAG also intends to add a
provision to its standard loan agreement relating to the borrower's Year 2000
compliance.
6
<PAGE>
NET INTEREST INCOME
- -------------------
Net interest income (the difference between the interest earned on assets
and the interest paid on deposits and other interest-bearing liabiities) is the
single largest component of FLAG's operating income. The management of net
interest income is of most importance in the banking industry. FLAG manages this
income source while it controls credit, liquidity, and interest rate risks.
Net interest income decreased 2.0% in 1997, from $8.7 million in 1996 to
$8.5 million in 1997. Net interest income increased 6.0% in 1996 compared to
1995.
Total interest income has remained steady over the past three years at
approximately $18 million. Interest expense decreased approximately 7.0% in 1996
compared to 1995, but increased approximately 2.0% in 1997 compared to 1996. The
interest expense variances from year to year have been primarily influenced by
the average balances of interest bearing liabilities (see Tables 1 & 2).
<TABLE>
Table 1 - Consolidated Average Balances, Interest, and Rates
(dollars in thousands)
<CAPTION>
Years Ended December 31,
1997 1996 1995
- ------------------------------------------------------------------------------------------------------------------
Interest Weighted Interest Weighted Interest Weighted
Average Income/ Average Average Income/ Average Average Income/ Average
Balance Expense Rate Balance Expense Rate Balance Expense Rate
ASSETS
Interest-earning assets:
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Loans.................. $155,241 $14,706 9.47% $151,084 $14,589 9.66% $146,144 $13,809 9.45%
Investment securities
and FHLB stock........ 48,002 3,033 6.32 51,256 3,156 6.16 65,246 4,162 6.38
Interest-bearing deposits
in other Banks....... 2,515 158 6.28 1,692 90 5.32 2,959 138 4.66
Federal funds sold..... 667 32 4.80 1,342 77 5.73 333 18 5.41
- ----------------------------------------------------------------------------------------------------------------
Total interest-
earning assets...... $206,425 $17,929 8.68% $205,375 $17,912 8.72% $214,682 $18,127 8.44%
Other assets............. 25,287 19,978 17,013
Total assets......... $231,712 $225,353 $231,695
======== ========= ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Interest-bearing liabilities:
Interest-bearing demand
deposits............ $ 41,695 $1,043 2.50% $38,571 $1,078 2.79% $ 33,425 $1,069 3.20%
Savings deposits ...... 16,233 395 2.43 16,937 408 2.41 16,352 404 2.47
Other time deposits.... 113,896 6,574 5.77 114,371 6,525 5.71 114,793 6,551 5.71
Federal funds purchased 1,002 68 6.79 207 12 5.80 - - -
FHLB advances.......... 23,086 1,307 5.66 21,531 1,168 5.42 31,962 1,862 5.83
-------- ----- ---- ------ ----- ---- ------ ----- ----
Total interest-
bearing liabilities $195,912 $9,387 4.79% $191,617 $9,191 4.80% $196,532 $9,886 5.03%
Noninterest-bearing
demand deposits..... 9,743 11,063 10,066
Other liabilities........ 4,770 2,490 4,380
Stockholders' equity..... 21,287 20,183 20,717
Total liabilities and
stockholders' equity $231,712 $225,353 $231,695
======== ======== ========
Net interest income...... $8,542 $8,721 $8,241
====== ====== ======
Interest rate spread..... 3.89% 3.92% 3.41%
Net interest margin...... 4.14% 4.25% 3.84%
Interest-earning assets/
interest-bearing liabilities 105% 107% 109%
</TABLE>
7
<PAGE>
CONSOLIDATED AVERAGE BALANCES, INTEREST, AND RATES
- --------------------------------------------------
Net interest income is determined by the amount of interest-earning assets
compared to interest-bearing liabilities and their related yields and costs. The
difference between the weighted average interest rates earned on
interest-earning assets (i.e., loans and investment securities) and the weighted
average interest rates paid on interest-bearing liabilities (i.e., deposits and
borrowings) is called the net interest spread. Another measure of the difference
in interest income earned versus interest expense paid is net interest margin.
Net interest margin is calculated by dividing net interest income by average
earning assets.
Table 1 presents for the three years ended December 31, 1997, average
balances of interest-earning assets and interest-bearing liabilities and the
weighted average interest rates earned and paid on those balances. In addition,
interest rate spreads, net interest margins, and the ratio of interest-earning
assets versus interest-bearing liabilities for those years are presented.
Average interest-earning assets were $206.4 million in 1997, versus $205.4
million in 1996 and $214.7 million in 1995. Average interest-bearing liabilities
were $195.9 million in 1997, versus $191.6 million in 1996 and $196.5 million in
1995. The interest rate spread was 3.89% in 1997, versus 3.92% in 1996 and 3.41%
in 1995, while the net interest margin was 4.14% in 1997, 4.25% in 1996, and
3.84% in 1995.
Table 2 shows the change in net interest income from 1996 to 1997 and from
1995 to 1996 due to changes in volumes and rates.
Table 2 - Rate/Volume Variance Analysis
(dollars in thousands)
Years Ended December 31,
1997 Compared to 1996 1996 Compared to 1995
------------------------ ------------------------
Rate/ Net Rate/ Net
Volume Yield Change Volume Yield Change
------ ----- ------ ------ ----- ------
Interest income:
Loans........................ $394 $(277) $117 $477 $303 $780
Investment securities
and FHLB stock ............ (206) 83 (123) (861) (145) (1,006)
Interest-bearing deposits in
other banks................ 52 16 68 (67) 19 (48)
Federal funds sold........... (32) (13) (45) 58 1 59
----- ------ ------ ------ ----- ------
Total interest income..... $207 $(190) $ 17 $(394) $179 $(215)
---- ------ ------ ------ ---- ------
Interest expense:
Interest-bearing demand
deposits. ................. $ 78 $(113) $ (35) $144 $(135) $ 9
Savings deposits............. (17) 4 (13) 14 (10) 4
Other time deposits.......... (27) 76 49 (24) (2) (26)
Federal funds purchased...... 54 2 56 12 - 12
FHLB advances................ 88 51 139 (566) (128) (694)
---- ----- ----- ----- ------- -----
Total interest expense.... $ 176 $ 20 $ 196 $ (420) $(275) $ (695)
----- ----- ------ ------- ------ -----
Net interest income........... $ 32 $(211) $ (179) $ 26 $ 454 $ 480
===== ====== ====== ====== ====== =====
NONINTEREST INCOME
- ------------------
Other income increased to $3.7 in 1997, from $3.3 in 1996, and $2.6 in
1995. The increases in other income in 1997 and 1996 resulted from increased
gains on the sale of loans and increased fee income related to transaction
deposit accounts.
Gain on sales of loans increased to $659,000 in 1997 versus $588,000 in
1996 and $56,000 in 1995. The increase in gain on sales of loans in 1997
primarily resulted from gains on the sale of SBA loans. The increase in gain on
sales of loans in 1996 resulted from increased mortgage banking activity in 1996
compared to 1995.
Fees and service charges on deposits increased to $1.8 million in 1997,
from $1.6 million in 1996, and $1.4 million in 1995.
NONINTEREST EXPENSES
- --------------------
Other expenses were $8.6 million in 1997, versus $9.0 million in 1996 and
$7.1 million in 1995. The increase in other operating expenses from 1995 to 1996
and the decrease in those expenses from 1996 to 1997 was largely attributable to
the one-time SAIF assessment of $1,150,000 which occurred in 1996.
Salary and employee benefits increased to $4.1 million in 1997, from $3.5
million in 1996, and $3.3 million in 1995. This increase in 1997 was primarily
due to normal increases in compensation levels as well as to the hiring of
several key individuals in mid- and late-1996 and in 1997.
Occupancy expenses increased to $1.4 million in 1997, from $1.2 million in
1996, and $1.0 million in 1995, while other operating expenses were $3.1 million
in 1997, versus $4.4 million in 1996 and $2.7 million in 1995. The increase in
1997 occupancy expense was the result of a combination in higher depreciation
expenses and an increase in maintenance contract expenses, both of which related
to an increase in fixed assets and the relocation of the leasing and the deposit
operations center to off-premise leased office space. In addition to the SAIF
special assessment, 1996 operating expenses were higher than 1995 because of
expenses related to the start-up of a new leasing operation and research and
attorney fees related to the Bennett Funding Group, Inc. ("Bennett Funding")
bankruptcy.
8
<PAGE>
INVESTMENT SECURITIES
- ---------------------
The composition of the investment securities portfolio reflects
management's strategy of maintaining an appropriate level of liquidity while
providing a relatively stable source of income. The portfolio also provides a
balance to interest rate risk and credit risk in other categories of FLAG's
balance sheet while providing a vehicle for the investment of available funds,
furnishing liquidity, and providing securities to pledge as required collateral
for certain deposits.
Investment securities increased $7.2 million to $51.7 million at December
31, 1997, from $44.5 million at December 31, 1996. At December 31, 1997, $49.1
million, approximately 95% of investment securities outstanding, was classified
as available-for-sale, while the remainder was classified as held-to-maturity.
The overall increase in the amount of investments was due to the fact that new
funds invested exceeded calls, sales, normal paydowns, and prepayments of
securities. At December 31, 1997, Gross unrealized gains in the total portfolio
amounted to $378,000 and gross unrealized losses amounted to $559,000.
Table 3 reflects the carrying amount of the investment securities portfolio
for the past three years.
Table 3 - Carrying Value of Investments
(dollars in thousands)
December 31,
1997 1996 1995
- --------------------------------------------------------------------------
Securities held-to-maturity:
Mortgage-backed securities ... $ 103 $ 118 $ 131
Collateralized mortgage
obligations ................ 2,505 3,092 3,766
------------------------------------
2,608 3,210 3,897
-------------------------------------
Securities Available-for-sale:
U.S. Treasuries and agencies .. 9,028 3,993 9,244
Corporate debt securities...... 1,000 990 -
State and municipal............ - 115 -
Mortgage-backed securities .... 21,788 17,544 17,865
Collateralized mortgage
obligations ................. 15,854 16,705 22,343
Equity securities.............. 1,413 1,959 5,311
--------------------------------------
49,083 41,306 54,763
--------------------------------------
Total........... $51,691 $44,516 $58,660
======================================
CARRYING VALUE OF INVESTMENTS
- -----------------------------
The December 31, 1997, market value of securities held-to-maturity, as a
percentage of amortized cost was 98.5%, up from 96.9% at December 31, 1996. The
market value of the securities held-to-maturity will change as interest rates
change and such unrealized gains and losses will not flow through the earnings
statement unless the related securities become permanently impaired or they are
called at prices which differ from the carrying value at the time of the call.
LOANS
- -----
Gross loans receivable increased by approximately $10.6 million in 1997 to
$167.8 million from $157.2 million at December 31, 1996. This increase was the
result of growth in real estate construction loans, real estate mortgages, and
lease financings. As shown in Table 4, real estate construction loans increased
approximately $2.4 million, real estate mortgages increased approximately $9.4
million, and lease financings increased by approximately $1.7 million. The
decrease in commercial, financial, and agricultural loans and installment loans
to individuals primarily resulted from the normal paydown and prepayment of
these loans.
PROVISION AND ALLOWANCE FOR LOAN LOSSES
- ---------------------------------------
Table 6 presents an analysis of activities in the allowance for loan losses
for the past five years. An allowance for possible losses is provided through
charges to FLAG's earnings in the form of a provision for loan losses. The
provision for loan losses was $574,000 in 1997, $3,484,000 in 1996, and $630,000
in 1995. The large increase in the provision for loan losses from 1995 to 1996
is directly attributable to Bennett Funding. Excluding the provision associated
with Bennett Funding, the 1996 provision for loan losses would have been
$506,000. Management determines the level of the provision for loan losses based
on outstanding loan balances, the levels of nonperforming assets, and reviews of
assets classified as substandard, doubtful, or loss and larger credits, together
with an analysis of historical loss experience, and current economic conditions.
The responsible loan officers conduct these reviews, as well as the loan review
department.
Historically, the loan portfolio has consisted primarily of loans secured
by one-to-four family residential properties, and actual losses have not been
significant. The Bank also provides other services and loan products to meet the
growing financial needs of FLAG's communities, including consumer loans,
commercial loans, and commercial real estate loans. Because these loans present
a somewhat higher credit risk than loans secured by residential properties,
management has significantly increased the allowance for loan losses compared to
historic levels to reflect the increased potential for future losses.
9
<PAGE>
<TABLE>
Table 4 - Loan Portfolio
(dollars in thousands)
<CAPTION>
December 31,
1997 1996 1995 1994 1993
----------------------------------------------------------------------------------------
Percent Percent Percent Percent Percent
Amount of Total Amount of Total Amount of Total Amount of Total Amount of Total
-----------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Commercial/financial/agricultural $9,924 5.9% $10,209 6.5% $10,262 6.9% $5,707 4.0% $2,497 1.8%
Real estate construction....... 11,590 6.9 9,149 5.8 4,686 3.1 4,163 2.9 3,886 2.9
Real estate mortgage........... 128,539 76.6 119,178 75.8 112,694 75.6 116,362 81.6 114,871 84.6
Installment loans to individuals 8,441 5.0 11,094 7.1 14,732 9.9 8,066 5.7 7,914 5.8
Lease financings............... 9,304 5.5 7,572 4.8 6,654 4.5 8,354 5.9 6,553 4.8
------------------------------------------------------------------------------------------
Total loans............... 167,798 100.0% 157,202 100.0% 149,028 100.0% 142,652 100.0% 135,721 100.0%
Less:
Deferred loan fees and discounts 398 (219) (287) (309) (330)
Allowance for loan losses...... (2,254) (4,339) (1,339) (1,244) (882)
------- ------- ------- ------- --------
Total net loans........... $165,942 $152,644 $147,402 $141,099 $134,509
======== ======== ======== ======== ========
</TABLE>
Table 5 represents the expected maturities for commercial, financial, and
agricultural loans and real estate construction loans at December 31, 1997. The
table also presents the rate structure for these loans that mature after one
year.
<TABLE>
Table 5 - Loan Portfolio Maturity
(dollars in thousands)
<CAPTION>
Rate Structure for Loans
Maturity Maturity Over One Year
----------------------------------------------------------------------
Over One Year Floating or
One Year Through Over Five Adjustable Predetermined
or Less Five Years Years Total Interest Rate Rate
<S>
Commercial, financial, and <C> <C> <C> <C> <C> <C>
agricultural............... $1,577 $3,188 $5,159 $9,924 $4,758 $3,589
Real estate - construction.... 10,674 916 - 11,590 - 916
--------------------------------------------------------------------
$12,251 $4,104 $5,159 $21,514 $4,758 $4,505
====================================================================
</TABLE>
As shown in Table 6, the year-end allowance for loan losses decreased to
$2,254,000 at December 31, 1997, from $4,339,000 at December 31, 1996. The
allowance for loan losses was $1,339,000 at December 31, 1995. The decline in
the allowance for losses in 1997 was primarily due to a $2,465,000 charge-offs
associated with the Bennett Funding assets. Total charge-offs in 1997, including
those related to Bennett Funding, were $2,713,000, up from $521,000 in 1996, and
$573,000 in 1995. If Bennett Funding assets had not been charged-off to their
net realizable value, 1997 charge-offs would have been approximately $248,000.
The allowance for loan losses was 1.36% of net outstanding loans at December 31,
1997, versus 2.84% of net outstanding loans at December 31, 1996, and 0.91% of
net outstanding loans at December 31, 1995.
Management believes that the allowance for loan losses was both adequate
and appropriate. However, the future level of the allowance for loan losses is
highly dependent upon loan growth, loan loss experience, and other factors,
which cannot be anticipated with a high degree of certainty.
<TABLE>
ASSET QUALITY
- -------------
At December 31, 1997, non-performing assets (non-accrual loans and other
real estate owned) totaled $5.0 million compared to $7.2 million at year-end
1996. The decrease in 1997 is primarily due to the write-off of the amount
determined to be uncollectible from Bennett Funding. As was discussed in last
year's annual report, Bennett Funding was an equipment leasing and finance
company based in Syracuse, New York. For several years, FLAG Financial
Corporation, along with many other financial institutions and individuals
throughout the United States, invested in office equipment leases sold through
Bennett Funding. During 1996, Bennett Funding filed for Chapter 11 bankruptcy
protection, and certain officers of Bennett Funding were investigated for
possible wrongdoing, including but not limited to criminal securities fraud. As
a result of the Chapter 11 bankruptcy filing, the collection of cash flows and
the values associated with these leases became less certain, and to reflect this
possible loss in value, FLAG established a specific reserve for possible Bennett
Funding losses of approximately $3.0 million. In addition, it was also
determined that the $4.5 million in equipment leases should be classified as
"Doubtful," a classification which generally requires reserves equal to 50% of
the carrying value of the asset.
10
<PAGE>
Table 6 - Analysis of the Allowance for Loan Losses
(dollars in thousands)
<CAPTION>
Years Ended December 31,
---------------------------------------------
1997 1996 1995 1994 1993
---------------------------------------------
<S> <C> <C> <C> <C> <C>
Average net loans........................$155,043 151,084 $146,144 $141,640 $139,008
Allowance for loan losses, beginning
of the period.......................... 4,339 1,339 1,244 882 683
Charge-offs for the period:
Commercial/financial/agricultural...... 46 - - - -
Real estate construction loans ........ - 22 23 2 -
Real estate mortgage loans............. 105 412 432 35 245
Installment loans to individuals....... 97 87 118 88 227
Lease financings....................... 2,465 - - - -
---------------------------------------------
Total charge-offs........................$ 2,713 $ 521 $ 573 $ 125 $ 472
---------------------------------------------
Recoveries for the period:
Commercial/financial/agricultural......$ 1 $ - $ - $ - $ -
Real estate construction loans......... - - - 1 -
Real estate mortgage loans............. 5 - - - 5
Installment loans to individuals....... 48 37 38 46 46
Lease financings....................... - - - - -
---------------------------------------------
Total recoveries....................$ 54 $ 37 $ 38 $ 47 $ 51
---------------------------------------------
Net charge-offs for the period.... 2,659 484 535 78 421
Provision for loan losses................ 574 3,484 630 440 620
---------------------------------------------
Allowance for loan losses, end of period $ 2,254 $ 4,339 $ 1,339 $1,244 $ 882
============================================
Ratio of allowance for loan losses to
total net loans outstanding ............ 1.36% 2.84% 0.91% 0.88% 0.66%
Ratio of net charge-offs during the
period to average net loans outstanding
during the period ...................... 1.72% 0.32% 0.37% 0.06% 0.30%
</TABLE>
In 1997, management agreed to a settlement with the Trustee of Bennett
Funding. In general, the agreement provides for a sharing of the cashflows
generated by the leases. Subsequent to year-end 1997, FLAG received
approximately $2.0 million from the Trustee. According to the settlement, FLAG
will be receiving monthly remittances of cash collected by the Trustee until the
agreement is satisfied. Management believes that all of the remaining unreserved
balance of these leases will be recovered.
In 1997, the Bennett Funding receivables were charged-off by approximately
$2.5 million against the 1996 established reserve.
There were no commitments to lend additional funds on nonaccrual loans at
December 31, 1997. Table 7 summarizes the non-performing assets for each of the
last five years.
RISK ELEMENTS
- -------------
There may be additional loans within FLAG's loan portfolio that may become
classified as conditions may dictate; however, management was not aware of any
such loans that are material in amount at December 31, 1997. At December 31,
1997, management was unaware of any known trends, events, or uncertainties that
will have, or that are reasonably likely to have a material effect on the Bank's
or FLAG's liquidity, capital resources, or operations.
DEPOSITS
- --------
Total deposits remained essentially unchanged during 1997, totaling $180.7
million at December 31, 1997, versus $180.7 million at December 31, 1996. The
maturities of time deposits of $100,000 or more issued by the Bank at December
31, 1997, are summarized in Table 8.
At December 31, 1997, the Bank was a shareholder in the Federal Home Loan
Bank of Atlanta ("FHLBA"). Through this affiliation, advances totaling $41.6
million were outstanding at rates competitive with time deposits of like
maturities. Management anticipates continued utilization of this short- and
long-term source of funds to minimize interest rate risk and to fund competitive
fixed rate loans to customers.
11
<PAGE>
Table 7 - Risk Elements
(dollars in thousands)
December 31,
--------------------------------------
1997 1996 1995 1994 1993
- -------------------------------------------------------------------------------
Loans on nonaccrual...................... $4,578 $6,688 $1,394 $2,751 $3,280
Loans past due 90 days and still accruing - - - - -
Other real estate owned.................. 425 525 801 244 405
Total non-performing assets.............. $5,003 $7,213 $2,195 $2,995 $3,685
======================================
Total non-performing loans as a
percentage of net loans............. 2.76% 4.38% 0.95% 1.95% 2.44%
Table 8 - Maturities of Time Deposits Over $100,000
(dollars in thousands)
Three months or less.................. $14,164
Over three months through six months.. 5,937
Over six months through twelve months. 9,472
Over twelve months.................... 3,904
--------
$33,477
=======
ASSET-LIABILITY MANAGEMENT
- --------------------------
A primary objective of FLAG's asset and liability management program is to
control exposure to interest rate risk (the exposure to changes in net interest
income due to changes in market interest rates) so as to enhance its earnings
and protect its net worth against potential loss resulting from interest rate
fluctuations.
Historically, the average term to maturity or repricing (rate changes) of
assets (primarily loans and investment securities) has exceeded the average
repricing period of liabilities (primarily deposits and borrowings). Table 9
provides information about the amounts of interest-earning assets and
interest-bearing liabilities outstanding as of December 31, 1997, that are
expected to mature, prepay, or reprice in each of the future time periods shown
(i.e., the interest rate sensitivity). As presented in this table, at December
31, 1997, the liabilities maturing or subject to rate changes within one year
exceeded its asseets maturing or subject to rate changes within one year. This
mismatched condition subjects FLAG to interest rate risk within the one year
period because the liabilities, due to their generally shorter term to maturity
or repricing, are more sensitive to short-term interest rate changes than the
assets. It is management's belief that the result of this position would be a
decrease in net interest income if market interest rates rise and an increase in
net interest income if market interest rates decline.
Management carefully measures and monitors interest rate sensitivity and
believes that its operating strategies offer protection against interest rate
risk. As required by regulations of the Office of Thrift Supervision ("OTS"),
FLAG's Board of Directors has established an interest rate risk policy, which
sets specific limits on interest rate risk exposure. Adherence to this policy is
reviewed quarterly by the Board of Directors' Asset Liability Committee.
Management has maintained positive ratios of average interest-earning
assets to average interest-bearing liabilities. As represented in Table 1 this
ratio, based on average balances for the respective years, was 105% in 1997,
107% in 1996, and 109% in 1995.
Table 10 represents the expected maturity of the total invesment securities by
maturity date and average yields based on amortized cost at December 31, 1997.
It should be noted that the composition and maturity/repricing distribution of
the investment portfolio is subject to change depending on rate sensitivity,
capital needs, and liquidity needs.
LIQUIDITY
- ---------
The Bank is required under federal regulations to maintain in cash and
eligible short-term investment securities a monthly average of 5.0% of net
withdrawable deposits and borrowings payable in one year or less. The Bank's
average liquidity in December 1997 was 7.88% of the aggregate of the prior
month's daily average deposits and short-term borrowings. The Bank's liquidity
was 9.68% at December 31, 1997, and 7.75% at December 31, 1996.
The Bank's primary sources of liquidity (funds) are deposit inflows, loan
repayments, proceeds from sales of loans and securities, advances from the
FHLBA, and earnings from investments. Short-term deposits, particularly
noninterest-bearing checking accounts, are becoming a more significant source of
liquidity than they have been historically to the Bank. Advances from the FHLBA
were $41,637,000 and $17,371,000, respectively, at December 31, 1997 and 1996.
12
<PAGE>
Subject to certain limitations, the Bank may borrow funds from the FHLBA in
the form of advances. Credit availability from the FHLBA to the Bank is based on
the Bank's financial and operating condition. Credit availability from the FHLBA
to the Bank was approximately $58.0 million at December 31, 1997. In addition to
creditworthiness, the Bank must own a minimum amount of FHLBA capital stock.
This minimum is 5.0% of outstanding FHLBA advances. Unused borrowing capacity at
December 31, 1997, was $16.0 million. The Bank uses FHLBA advances for both
long-term and short-term liquidity needs. Other than normal banking operations,
the Bank has no long-term liquidity needs. The Bank has never been involved with
highly leveraged transactions that may cause unusual potential long-term
liquidity needs.
The Consolidated Statements of Cash Flows for the three years ended
December 31, 1997, detail FLAG's sources and uses of funds for those periods.
<TABLE>
Table 9 - Interest Rate Sensitivity Analysis
(dollars in thousands)
<CAPTION>
December 31, 1997
Maturing or Repricing in
-----------------------------------------------------
Over 1 Year Over 3 Years
One Year Through Through Over Over
or Less 3 Years 5 Years 5 Years Total
--------- -------- --------- ------- -----
Interest-earning assets:
<S> <C> <C> <C> <C> <C>
Adjustable rate mortgages.......... $ 61,930 $ - $ - $ - $ 61,930
Fixed rate mortgages............... 21,061 11,290 10,448 23,810 66,609
Other loans........................ 19,971 7,486 9,939 1,863 39,259
Investment securities.............. 34,798 2,998 1,971 11,924 51,691
Federal Home Loan Bank stock....... 2,082 - - - 2,082
Interest-bearing deposits
in other banks................... 3,168 - - - 3,168
----------------------------------------------------
Total interest-earning assets.. $143,010 $21,774 $22,358 $37,597 $224,739
---------------------------------------------------
Interest-bearing liabilities:
Fixed maturity deposits............ $ 86,422 $20,207 $ 3,576 $ 5,523 $115,728
NOW and money market demand
accounts........................ 20,809 6,576 4,424 9,074 40,883
Passbook accounts.................. 8,508 648 592 5,331 15,079
Federal funds purchased............ 70 - - - 70
FHLB advances...................... 40,783 167 167 521 41,638
----------------------------------------------------
Total interest-bearing
liabilities .................. $156,592 $27,598 $8,759 $20,449 $213,398
----------------------------------------------------
Interest rate sensitivity gap.......$(13,582) $ (5,824) $13,599 $17,148 $ 11,341
Cumulative interest rate
sensitivity gap .................$(13,582) $(19,406) $(5,807) $11,341 -
Cumulative interest rate
sensitivity gap to total assets.. -5.48% -7.83% -2.34% 4.57% -
</TABLE>
CAPITAL RESOURCES AND DIVIDENDS
- -------------------------------
Stockholders' equity at December 31, 1997, increased 8.0% from December 31,
1996. All of this growth resulted from 1997 earnings. Dividends of $692,577 or
$0.34 per share were declared and paid in 1997, compared to $0.33 per share in
1996.
Average stockholders' equity as a percent of total average assets is one
measure used to determine capital strength. The ratio of average stockholders'
equity to average total assets was 9.19% for 1997 and 8.96% for 1996. Table 11
summarizes these and other key ratios for FLAG for each of the last three years.
The Federal Deposit Insurance Corporation Improvement Act ("FDICIA")
required federal banking agencies to take "prompt corrective action" with regard
to institutions that do not meet minimum capital requirements. As a result of
FDICIA, the federal banking agencies introduced an additional capital measure
called the "Tier 1 risk-based capital ratio." The Tier 1 ratio is the ratio of
core capital to risk adjusted total assets. Note 10 to the Consolidated
Financial Statements presents a summary of FDICIA's capital tiers compared to
FLAG's and The Bank's actual capital levels. The Bank exceeded all requirements
of a "well-capitalized" institution at December 31, 1997. The pending merger
(see "Pending Acquisitions") will not significantly reduce FLAG's capital ratios
and management will continue leveraging capital to increase return on
stockholders' equity.
PROVISION FOR INCOME TAXES.
- ---------------------------
The provision for income taxes was $998,000 in 1997, versus a benefit of
$311,000 in 1996, and a provision of $1,045,000 in 1995. The effective actual
tax rates for 1997, 1996, and 1995 (tax provision as a percentage of income
before taxes) were 32.9%, (63.7%), and 34.0%, respectively. The income tax
benefit recorded in 1996 resulted from the net loss before income taxes during
the year. Management deemed the items creating the 1996 loss to be temporary in
nature, therefore resulting in the recording of a deferred tax asset
representing the tax effect of future taxable benefits which could be
recognized.
13
<PAGE>
<TABLE>
Table 10 - Expected Maturity of Investment Securities
(dollars in thousands)
<CAPTION>
-------------------------------------------------------------------------------
After One But After Five But
Within One Year Within Five Years Within Ten Years After Ten Years Totals
Amount Yield Amount Yield Amount Yield Amount Yield
-------------------------------------------------------------------------------
Securities held-to-maturity:
<S> <C> <C> <C>
Mortgage-backed securities ..$ 103 6.98% - - - - - - $ 103
------------------------------------------------------------------------------------------------------------
Collateralized mortgage
obligations .............. - - 77 8.85% - - 2,428 7.22% 2,505
------------------------------------------------------------------------------------------------------------
103 6.98% 77 8.85% - - 2,428 7.22% 2,608
------------------------------------------------------------------------------------------------------------
Securities available-for-sale:
U.S. Treasury and agencies .. 998 5.44% 1,008 6.45% 7,022 6.78% - - 9,028
------------------------------------------------------------------------------------------------------------
Corporate debt securities ... - - 1,000 6.86% - - - - 1,000
------------------------------------------------------------------------------------------------------------
Equity securities............ 1,413 4.61% - - - - - - 1,413
------------------------------------------------------------------------------------------------------------
Mortgage-backed securities .. 1,264 5.37% 1,882 6.55% 1,814 6.89% 16,828 6.69% 21,788
------------------------------------------------------------------------------------------------------------
Collateralized mortgage
obligations .............. - - 1,272 5.98% 3,858 5.53% 10,724 6.18% 15,854
------------------------------------------------------------------------------------------------------------
3,675 5.10% 5,162 6.45% 12,694 6.42% 27,552 6.49% 49,083
------------------------------------------------------------------------------------------------------------
Total ...................... $3,778 5.15% $5,239 6.49% $12,694 6.42% $29,980 6.55% $51,691
------------------------------==============================================================================
</TABLE>
Table 11 - Equity Ratios
Years Ended December 31,
1997 1996 1995
- -------------------------------------------------------------------
Return on average assets........... 0.88% -0.08% 0.87%
Return on average equity........... 9.55% -0.88% 9.78%
Dividend payout ratio.............. 34.06% -377.18% 29.56%
Average equity to average assets... 9.19% 8.96% 8.94%
IMPACT OF INFLATION AND CHANGING PRICES
- ---------------------------------------
The consolidated financial statements and related financial data presented
herein have been prepared in accordance with generally accepted accounting
principles which require the measurement of financial position and operating
results in terms of historical dollars without considering changes in relative
purchasing power over time due to inflation.
Unlike most industrial companies, virtually all of the assets and
liabilities of a financial institution are monetary in nature. As a result,
interest rates generally have a more significant impact on a financial
institution's performance than does the effect of inflation. The liquidity and
maturity structures of FLAG's assets and liabilities are critical to the
maintenance of acceptable performance levels.
RECENT ACCOUNTING PRONOUNCEMENTS
- --------------------------------
In June 1997, the Financial Accounting Standards Board ("FASB") issued SFAS
No. 130, "Reporting Comprehensive Income." SFAS No. 130 establishes standards
for reporting and display of comprehensive income and its components (revenues,
expenses, gains, and losses) in a full set of general-purpose financial
statements. SFAS No. 130 requires that all items that are required to be
recognized under accounting standards as components of comprehensive income be
reported in a financial statement that is displayed with the same prominence as
other financial statements. SFAS No. 130 requires that companies (I) classify
items of other comprehensive income by their nature in a financial statement and
(ii) display the accumulated balance of other comprehensive income separately
from retained earnings and additional paid-in capital in the equity section of
the statement of financial condition. SFAS No. 130 is effective for fiscal years
beginning after December 15, 1997. Reclassification of financial statements for
earlier periods provided for comprehensive purposes is required.
Also, in June 1997, the FASB issued SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information." SFAS No. 131 specifies the
presentation and disclosure of operating segment information reported in the
annual report and interim reports issued to stockholders. SFAS No. 131 is
effective for fiscal years beginning after December 15, 1997. Management
believes that the adoption of these statements will have no material impact on
FLAG's financial position, results of operation, or liquidity.
14
<PAGE>
Table of Contents to Consolidated Financial Statements
Report of Independent Certified Public Accountants...................15
Consolidated Balance Sheets..........................................16
Consolidated Statements of Operations................................17
Consolidated Statements of Changes in Stockholders' Equity...........18
Consolidated Statements of Cash Flows.............................19-20
Notes to Consolidated Financial Statements........................21-38
Report of Independent Certified Public Accountants
The Board of Directors
FLAG Financial Corporation
LaGrange, Georgia
We have audited the accompanying consolidated balance sheet of FLAG
Financial Corporation and subsidiary as of December 31, 1997, and the related
statements of operations, changes in stockholders' equity and cash flows for the
year then ended. These financial statements are the responsibility of FLAG's
management. Our responsibility is to express an opinion on these financial
statements based on our audit. The consolidated financial statements for the
years 1996 and 1995 were audited by other auditors whose report dated January
31, 1997 expressed an unqualified opinion on those statements.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the 1997 consolidated financial statements referred to
above present fairly, in all material respects, the financial position of FLAG
Financial Corporation and subsidiary as of December 31, 1997, and the results of
their operations and their cash flows for the year then ended, in conformity
with generally accepted accounting principles.
/s/ Porter Keadle Moore, LLP
Atlanta, Georgia
January 22, 1998
15
<PAGE>
FLAG FINANCIAL CORPORATION
Consolidated Balance Sheets
December 31, 1997 and 1996
Assets
------
1997 1996
---- ----
Cash and due from banks,
including reserve requirements
of $848,000 and $826,000 ...................... $ 5,733,644 4,757,815
Interest-bearing deposits .................... 3,168,353 1,327,108
Investment securities available-for-sale ..... 49,083,251 41,306,496
Investment securities held-to-maturity
(fair value of $2,569,143 in 1997
and $3,108,722 in 1996) .................. 2,607,835 3,209,696
Other investments ............................ 3,556,900 3,370,900
Mortgage loans held for sale ................. 3,481,678 1,505,798
Loans, net ................................... 165,942,045 152,644,436
Premises and equipment, net .................. 6,449,328 5,417,962
Mortgage servicing rights .................... 1,174,292 1,703,710
Accrued interest receivable .................. 2,048,940 1,763,345
Cash surrender value of life insurance ....... 2,114,118 1,910,657
Other assets ................................. 2,624,894 3,039,958
--------- ---------
$247,985,278 221,957,881
============ ===========
Liabilities and Stockholders' Equity
------------------------------------
Deposits:
Demand ..................................... $ 8,971,567 11,062,348
Interest-bearing demand .................... 40,882,982 36,986,770
Savings .................................... 15,079,485 16,514,007
Time ....................................... 82,251,315 83,028,319
Time, over $100,000 ........................ 33,476,509 33,100,319
---------- ----------
Total deposits .................... 180,661,858 180,691,763
----------- -----------
Federal funds purchased ...................... 70,000 2,210,000
Advances from Federal Home Loan Bank ......... 41,637,494 17,370,833
Accrued interest payable ..................... 371,066 323,783
Other liabilities ............................ 3,182,280 850,308
--------- -------
Total liabilities ................. 225,922,698 201,446,687
=========== ===========
Stockholders' equity:
Preferred stock (10,000,000 shares
authorized; none issued and outstanding) -- --
Common stock ($1 par value, 20,000,000
shares authorized, 2,036,990
shares issued and outstanding) ......... 2,036,990 2,036,990
Additional paid-in capital ............... 8,037,630 8,037,630
Retained earnings ........................ 12,073,529 10,732,992
Unrealized loss on securities
available-for-sale, net of tax ......... (85,569) (296,418)
------- --------
Total stockholders' equity ...... 22,062,580 20,511,194
---------- ----------
$ 247,985,278 221,957,881
============= ===========
See accompanying notes to consolidated financial statements.
16
<PAGE>
FLAG FINANCIAL CORPORATION
Consolidated Statements of Operations
For the Years Ended December 31, 1997, 1996 and 1995
1997 1996 1995
---- ---- ----
Interest income:
Interest and fees on loans ....... $14,705,426 14,588,559 13,808,744
Interest on investment securities. 3,033,292 3,156,090 4,161,455
Interest-bearing deposits. ....... 190,476 167,587 156,610
------- ------- -------
Total interest income .......... 17,929,194 17,912,236 18,126,809
---------- ---------- ----------
Interest expense:
Deposits ......................... 8,011,567 8,011,016 8,024,187
Borrowings ....................... 1,375,263 1,179,628 1,861,506
--------- --------- ---------
Total interest expense ......... 9,386,830 9,190,644 9,885,693
--------- --------- ---------
Net interest income before
provision for loan losses... 8,542,364 8,721,592 8,241,116
Provision for loan losses .......... 574,000 3,484,529 630,000
------- --------- -------
Net interest income after
provision for loan losses... 7,968,364 5,237,063 7,611,116
--------- --------- ---------
Other income:
Fees and service charges ......... 2,602,468 2,415,810 2,171,617
Gain on sales of investment
securities ..................... 144,925 219,379 228,215
Gain on sales of loans ........... 658,723 587,499 55,881
Gain (loss) on other
real estate, net ............... (82,719) (79,643) 32,764
Other ............................ 334,542 169,662 99,679
------- ------- ------
Total other income ........... 3,657,939 3,312,707 2,588,156
--------- --------- ---------
Other expenses:
Salaries and employee benefits.... 4,067,287 3,485,457 3,348,125
Occupancy ........................ 1,401,759 1,177,618 1,036,269
Other operating .................. 3,126,376 4,375,543 2,743,960
--------- --------- ---------
Total other expenses ......... 8,595,422 9,038,618 7,128,354
--------- --------- ---------
Earnings (loss) before
provision (benefit) for
income taxes ............... 3,030,881 (488,848) 3,070,918
Provision (benefit) for
income taxes .................. 997,767 (311,222) 1,044,911
------- -------- ---------
Net earnings (loss) ................ 2,033,114 (177,626) 2,026,007
========= ======== =========
Basic earnings (loss)
per share......................... 1.00 (.09) 1.02
==== ==== ====
Diluted earnings (loss)
per share......................... .99 (.09) .98
=== ==== ===
See accompanying notes to consolidated financial statements.
17
<PAGE>
FLAG FINANCIAL CORPORATION
Consolidated Statements of Changes in Stockholders' Equity
For the Years Ended December 31, 1997, 1996 and 1995
<TABLE>
<CAPTION>
Net Unrealized
Loss on
Securities
Additional Available-for
Common Paid-in Retained -Sale,
Stock Capital Earnings Net of Tax Total
----- ------- -------- ---------- -----
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1994 $2,012,500 7,867,500 11,157,835 (2,026,409) 19,011,426
Exercise of stock options 26,793 97,605 - - 124,398
Issuance of common stock 4,807 54,679 - - 59,486
Repurchase of common stock (128,100) (500,783) (1,004,389) - (1,633,272)
Change in unrealized
loss on securities
available-for-sale - - - 1,709,045 1,709,045
Net earnings - - 2,026,007 - 2,026,007
Dividends declared - - (598,874) - (598,874)
Balance, December 31, 1995 1,916,000 7,519,001 11,580,579 (317,364) 20,698,216
Exercise of stock options 120,207 510,422 - - 630,629
Issuance of common stock 783 8,207 - - 8,990
Change in unrealized
loss on securities
available-for-sale - - - 20,946 20,946
Net loss - - (177,626) - (177,626)
Dividends declared - - (669,961) - (669,961)
Balance, December 31, 1996 2,036,990 8,037,630 10,732,992 (296,418) 20,511,194
Change in unrealized
loss on securities
available-for-sale - - - 210,849 210,849
Net earnings - - 2,033,114 - 2,033,114
Dividends declared - - (692,577) - (692,577)
Balance, December 31, 1997 $2,036,990 8,037,630 12,073,529 (85,569) 22,062,580
</TABLE>
See accompanying notes to consolidated financial statements.
18
<PAGE>
FLAG FINANCIAL CORPORATION
Consolidated Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
1997 1996 1995
---- ---- ----
Cash flows from
operating activities:
Net earnings (loss) ................ $ 2,033,114 (177,626) 2,026,007
Adjustments to reconcile
net earnings (loss) to net cash
provided by operating activities:
Depreciation, amortization
and accretion .................. 757,867 703,007 709,943
Provision for loan losses ....... 574,000 3,484,529 630,000
Provision for deferred taxes .... 978,809 (1,033,206) (78,049)
Gains on sales of securities
available-for-sale ............. (144,925) (219,379) (219,067)
(Gain) loss on sales of loans ... (658,723) (587,499) (55,881)
(Gain) loss on other real estate 82,719 79,643 (32,518)
Change in:
Mortgage loans held for sale .. (1,317,157) (887,549) (1,281,363)
Other ......................... 1,827,301 1,437,864 (214,063)
--------- --------- --------
Net cash provided by
operating activities ........ 4,133,005 2,799,784 1,485,009
--------- --------- ---------
Cash flows from
investing activities:
Net change in interest-bearing
deposits .......................... (1,841,245) (211,493) (100,322)
Proceeds from sales and maturities
of securities available-for-sale .. 7,406,922 27,254,773 28,648,649
Proceeds from maturities of
securities held-to-maturity ....... 601,861 687,484 2,780,169
Proceeds from sale of other
investments ....................... -- -- 318,500
Purchases of other investments ..... (186,000) (475,000) (250,000)
Purchases of securities
available for sale ................ (14,827,903) (13,557,624) (18,425,216)
Net change in loans ................ (13,871,609) (8,726,929) (6,932,316)
Proceeds from sales of real estate.. -- 516,326 989,228
Purchases of premises and equipment. (1,639,920) (399,668) (1,060,304)
Purchase of cash surrender
value life insurance .............. (203,461) (24,002) (1,782,000)
-------- ------- ----------
Net cash provided by (used in)
investing activities ......... (24,561,355) 5,486,853 4,186,388
----------- --------- ---------
Cash flows from financing activities:
Net change in deposits ............. (29,905) 83,660 12,206,992
Change in federal funds purchased .. (2,140,000) 2,210,000 --
Proceeds from FHLB advances ........ 40,300,000 16,000,000 67,800,000
Payments of FHLB advances .......... (16,033,339) (28,133,334) (81,576,389)
Repurchase of common stock ......... -- -- (1,633,272)
Proceeds from exercise of
stock options ..................... -- 630,629 124,398
Proceeds from issuance of
common stock ...................... -- 8,990 59,486
Cash dividends paid ................ (692,577) (640,420) (606,209)
-------- -------- --------
Net cash provided by (used in)
financing activities ........ 21,404,179 (9,840,475) (3,624,994)
---------- ---------- ----------
Net change in cash and
cash equivalents ......... 975,829 (1,553,838) 2,046,403
Cash and cash equivalents at
beginning of year .................. 4,757,815 6,311,653 4,265,250
--------- --------- ---------
Cash and cash equivalents at
end of year ........................ $ 5,733,644 4,757,815 6,311,653
============ ========= =========
19
<PAGE>
FLAG FINANCIAL CORPORATION
Consolidated Statements of Cash Flows, continued
For the Years Ended December 31, 1997, 1996 and 1995
1997 1996 1995
---- ---- ----
Supplemental disclosures of
cash flow information:
Cash paid during the year for:
Interest ............................ $9,376,744 9,266,251 9,828,527
========== ========= =========
Income taxes ........................ $ 686,528 1,016,855 1,204,398
========== ========= =========
Supplemental schedule of noncash
investing and financing activities:
Real estate acquired
through foreclosure ................. $ 442,652 882,447 1,730,941
========== ======= =========
Change in unrealized loss on
securities available-for-sale,
net of tax........................... $ 210,849 20,946 1,709,045
========== ====== =========
Increase (decrease) in
dividends payable ................... $ -- 29,541 (7,335)
====== ====== ======
See accompanying notes to consolidated financial statements.
20
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements
Note 1. Summary of Significant Accounting Policies
Basis of Presentation
- ---------------------
The consolidated financial statements include the accounts of FLAG Financial
Corporation ("FLAG"), its wholly-owned subsidiary First Federal Savings Bank of
LaGrange (the "Bank") and the Bank's wholly-owned subsidiary Piedmont Mortgage
Service, Inc. ("Piedmont"). All significant intercompany accounts and
transactions have been eliminated in consolidation.
FLAG is a unitary thrift holding company formed in 1994 and is primarily
regulated by the Office of Thrift Supervision ("OTS"). The Bank commenced
business in 1927 under a state banking charter and received its federal banking
charter in 1955. The Bank is primarily regulated by the OTS and the Federal
Deposit Insurance Corporation and undergoes periodic examinations by these
regulatory agencies. The Bank provides a full range of commercial, mortgage and
consumer banking services principally in Troup County, Georgia and has a loan
production facility in Columbus, Georgia.
Piedmont was formed in 1988 as an appraisal service company working principally
for the Bank and as a brokerage service to individuals.
The accounting principles followed by FLAG and its subsidiary, and the methods
of applying these principles, conform with generally accepted accounting
principles ("GAAP") and with general practices within the banking industry. In
preparing financial statements in conformity with GAAP, management is required
to make estimates and assumptions that affect the reported amounts in the
financial statements. Actual results could differ significantly from those
estimates. Material estimates common to the banking industry that are
particularly susceptible to significant change in the near term include, but are
not limited to, the determination of the allowance for loan losses, the
valuation of real estate acquired in connection with or in lieu of foreclosure
on loans, the valuation allowance for mortgage servicing rights and valuation
allowances associated with the realization of deferred tax assets which are
based on future taxable income.
Cash and Cash Equivalents
- -------------------------
Cash equivalents include amounts due from banks and federal funds sold.
Generally, federal funds are sold for one-day periods.
Investment Securities
- ---------------------
FLAG classifies its securities in one of three categories: trading, available-
for-sale, or held-to-maturity. There were no trading securities at December 31,
1997 and 1996. Securities held-to-maturity are those securities for which FLAG
has the ability and intent to hold to maturity. All other securities are
classified as available-for-sale.
Available-for-sale securities are recorded at fair value. Held-to-maturity
securities are recorded at cost, adjusted for the amortization or accretion of
premiums or discounts. Unrealized holding gains and losses, net of the related
tax effect, on securities available-for-sale are excluded from earnings and are
reported as a separate component of stockholders' equity until realized.
Transfers of securities between categories are recorded at fair value at the
date of transfer.
A decline in the market value of any available for sale or held to maturity
investment below cost that is deemed other than temporary is charged to earnings
and establishes a new cost basis for the security.
Premiums and discounts are amortized or accreted over the life of the
related security as an adjustment to the yield. Realized gains and losses are
included in earnings and the cost of securities sold are derived using the
specific identification method.
Other Investments
- -----------------
Other investments include Federal Home Loan Bank ("FHLB") stock, other equity
securities with no readily determinable fair value and an investment in a
limited partnership. An investment in FHLB stock is required by law for a
21
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 1. Summary of Significant Accounting Policies, continued
federally insured savings bank. FLAG owns a 39.6% interest in a limited
partnership, which invests in multi-family real estate and passes low income
housing credits to the investors. FLAG recognizes these tax credits in the year
received. These investments are carried at cost, which approximates fair value.
Mortgage Loans Held for Sale
- ----------------------------
Mortgage loans originated and intended for sale in the secondary market are
carried at the lower of aggregate cost or market value. The amount by which cost
exceeds market value is accounted for as a valuation allowance. Changes, if any,
in the valuation allowance are included in the determination of net earnings in
the period in which the change occurs. Gains and losses from the sale of loans
are determined using the specific identification method.
Loans, Loan Fees and Interest Income
- ------------------------------------
Loans that management has the intent and ability to hold for the foreseeable
future or until maturity are reported at their outstanding unpaid principal
balances, net of the allowance for loan losses, deferred fees or costs on
originated loans and unamortized premiums or discounts on purchased loans.
Loan fees and certain direct loan origination costs are deferred, and the net
fee or cost is recognized in interest income using the level-yield method over
the contractual lives of the loans, adjusted for estimated prepayments based on
the Bank's historical prepayment experience. Commitment fees and costs relating
to commitments whose likelihood of exercise is remote are recognized over the
commitment period on a straight-line basis. If the commitment is subsequently
exercised during the commitment period, the remaining unamortized commitment fee
at the time of exercise is recognized over the life of the loan as an adjustment
to the yield. Premiums and discounts on purchased loans are amortized over the
remaining lives of the loans using the level-yield method. Fees arising from
servicing loans for others are recognized as earned.
FLAG considers a loan impaired when, based on current information and events, it
is probable that all amounts due according to the contractual terms of the loan
agreement will not be collected. Impaired loans are measured based on the
present value of expected future cash flows, discounted at the loan's effective
interest rate or at the loan's observable market price, or the fair value of the
collateral of the loan if the loan is collateral dependent. Interest income from
impaired loans is recognized using a cash basis method of accounting during the
time within that period in which the loans were impaired.
Leasing
- -------
The Bank originates commercial and consumer leases through its leasing division.
Interest income on leases is recorded on the accrual basis and a provision for
possible losses on leases is recorded as a charge to earnings.
Allowance for Loan Losses
- -------------------------
The allowance for loan losses is established through provisions for loan losses
charged to expense. Loans are charged against the allowance for loan losses when
management believes that the collection of the principal is unlikely. The
allowance is an amount which, in management's judgment, will be adequate to
absorb losses on existing loans that may become uncollectible. The allowance is
established through consideration of such factors as changes in the nature and
volume of the portfolio, adequacy of collateral, delinquency trends, loan
concentrations, specific problem loans, and economic conditions that may affect
the borrower's ability to pay.
Management believes that the allowance for loan losses is adequate. While
management uses available information to recognize losses on loans, future
additions to the allowance may be necessary based on changes in economic
conditions. In addition, various regulatory agencies, as an integral part of
their examination process, periodically review FLAG's allowance for loan losses.
Such agencies may require FLAG to recognize additions to the allowance based on
their judgments about information available to them at the time of their
examination.
22
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 1. Summary of Significant Accounting Policies, continued
Other Real Estate Owned
- -----------------------
Real estate acquired through foreclosure is carried at the lower of cost
(defined as fair value at foreclosure) or fair value less estimated costs to
dispose. Fair value is defined as the amount that is expected to be received in
a current sale between a willing buyer and seller other than in a forced or
liquidation sale. Fair values at foreclosure are based on appraisals. Losses
arising from the acquisition of foreclosed properties are charged against the
allowance for loan losses. Subsequent writedowns are provided by a charge to
operations through the allowance for losses on other real estate in the period
in which the need arises.
Premises and Equipment
- ----------------------
Premises and equipment are stated at cost less accumulated depreciation. Major
additions and improvements are charged to the asset accounts while maintenance
and repairs that do not improve or extend the useful lives of the assets are
expensed currently. When assets are retired or otherwise disposed of, the cost
and related accumulated depreciation are removed from the accounts, and any gain
or loss is reflected in earnings for the period.
Depreciation expense is computed using the straight-line method over the
following estimated useful lives:
Buildings and improvements ............................. 15-40 years
Furniture and equipment ................................ 3-10 years
Mortgage Servicing Rights
- -------------------------
FLAG's mortgage banking division accounts for mortgage servicing rights as a
separate asset regardless of whether the servicing rights are acquired through
purchase or origination. FLAG's mortgage servicing rights represent the
unamortized cost of purchased and originated contractual rights to service
mortgages for others in exchange for a servicing fee and ancillary loan
administration income. Mortgage servicing rights are amortized over the period
of estimated net servicing income and are periodically adjusted for actual and
anticipated prepayments of the underlying mortgage loans. Impairment analysis is
performed quarterly after stratifying the rights by interest rate. Impairment,
defined as the excess of the asset's carrying value over its current fair value,
is recognized through a valuation allowance. At December 31, 1997 and 1996, no
valuation allowances were required for FLAG's mortgage servicing rights.
FLAG recognized approximately $418,000 and $451,000 in servicing assets during
1997 and 1996, respectively, and recognized amortization expense relating to
servicing assets of approximately $149,000 and $204,000 during 1997 and 1996,
respectively. The risk characteristics that FLAG uses to stratify recognized
servicing assets for purposes of measuring impairment include the interest rate
and term of the underlying loans serviced.
Income Taxes
- ------------
Deferred tax assets and liabilities are recorded for the future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases. Future tax
benefits, such as net operating loss carryforwards, are recognized to the extent
that realization of such benefits is more likely than not. Deferred tax assets
and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which the assets and liabilities are expected to
be recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in income tax expense in the period that
includes the enactment date.
In the event the future tax consequences of differences between the financial
reporting bases and the tax bases of FLAG's assets and liabilities results in
deferred tax assets, an evaluation of the probability of being able to realize
the future benefits indicated by such assets is required. A valuation allowance
is provided when it is more likely than not that some portion or all of the
deferred tax asset will not be realized. In assessing the realizability of the
deferred tax assets, management considers the scheduled reversals of deferred
tax liabilities, projected future taxable income, and tax planning strategies.
A deferred tax liability is not recognized for portions of the allowance for
loan losses for income tax purposes in excess of the financial statement
balance, as described in Note 7. Such a deferred tax liability will only be
recognized when it becomes apparent that those temporary differences will
reverse in the foreseeable future.
23
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 1. Summary of Significant Accounting Policies, continued
Net Earnings Per Common Share
- -----------------------------
SFAS No. 128 "Earnings Per Share" became effective for FLAG for the year ended
December 31, 1997. This new standard specifies the computation, presentation and
disclosure requirements for earnings per share and is designed to simplify
previous earnings per share standards and to make domestic and international
practices more compatible. Earnings per common share are based on the weighted
average number of common shares outstanding during the period while the effects
of potential common shares outstanding during the period are included in diluted
earnings per share. All earnings per common share amounts have been restated to
conform to the provisions of SFAS No. 128.
SFAS No. 128 requires the presentation of earnings per common share on the face
of the statement of operations with and without the dilutive effects of
potential common stock issuances from instruments such as options, convertible
securities, and warrants. Additionally, the new statement requires the
reconciliation of the amounts used in the computation of both "basic earnings
per share" and "diluted earnings per share" for the years ended December 31,
1997, 1996, and 1995 as follows:
For the Year Ended
December 31, 1997 Net Earnings Common Share Per Share
(Numerator) (Denominator) Amount
----------- ------------- ------
Basic earnings per share ....... $ 2,033,114 2,036,990 1.00
Effect of dilutive securities
- stock options .............. -- 19,576 (.01)
------ ------ ----
Diluted earnings per share ..... $ 2,033,114 2,056,566 .99
============ ========= ===
For the Year Ended
December 31, 1996 Net Loss Common Share Per Share
(Numerator) (Denominator) Amount
----------- ------------- ------
Basic loss per share ........... $ (177,626) 2,010,798 (.09)
Effect of dilutive securities
- stock options .............. -- 8,099 --
------ ----- ------
Diluted loss per share ......... $ (177,626) 2,018,897 (.09)
============ ========= ====
For the Year Ended
December 31, 1995 Net Earnings Common Share Per Share
(Numerator) (Denominator) Amount
----------- ------------- ------
Basic earnings per share $ 2,026,007 1,990,724 1.02
Effect of dilutive securities
- stock options -- 71,773 (.04)
------ ------ ----
Diluted earnings per share $ 2,026,007 2,062,497 .98
============ ========= ===
Reclassifications
- -----------------
Certain items in the 1996 and 1995 financial statements have been reclassified
to conform to the 1997 financial statement presentation.
Recent Accounting Pronouncements
- --------------------------------
In June 1997, the Financial Accounting Standards Board issued SFAS No. 130,
"Reporting Comprehensive Income" and SFAS No. 131, "Disclosures about Segments
of an Enterprise and Related Information". SFAS No. 130 establishes standards
for the reporting and display of comprehensive income and its components in a
full set of general-purpose financial statements. SFAS No. 131 specifies the
presentation and disclosure of operating segment information reported in the
annual report and interim reports issued to stockholders. The provisions of both
statements are effective for fiscal years beginning after December 15, 1997.
FLAG believes that the adoption of these statements will not have a material
impact on FLAG's financial position, results of operations, or liquidity.
24
<PAGE>
Note 2. Investment Securities
Investment securities at December 31, 1997 and 1996 are summarized as follows:
December 31, 1997
-----------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Securities Available-for-Sale Cost Gains Losses Value
---- ----- ------ -----
U.S. Treasuries and
agencies ............. $ 8,969,004 61,703 2,532 9,028,175
Corporate debt securities 989,300 10,700 -- 1,000,000
Equity securities ........ 1,293,623 121,670 1,817 1,413,476
Mortgage-backed securities 21,746,932 170,149 129,313 21,787,768
Collateralized mortgage
obligations .......... 16,226,434 11,031 383,633 15,853,832
---------- ------ ------- ----------
$49,225,293 375,253 517,295 49,083,251
=========== ======= ======= ==========
December 31, 1997
-----------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Securities Held-to-Maturity Cost Gains Losses Value
---- ----- ------ -----
Mortgage-backed securities. $ 103,140 1,160 -- 104,300
Collateralized mortgage
obligations ........... 2,504,695 2,037 41,889 2,464,843
--------- ----- ------ ---------
$2,607,835 3,197 41,889 2,569,143
========== ===== ====== =========
December 31, 1996
-----------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Securities Available-for-Sale Cost Gains Losses Value
---- ----- ------ -----
U.S. Treasuries and
agencies ............... $ 4,018,271 2,109 27,409 3,992,971
State, county and municipals 114,695 712 -- 115,407
Corporate debt securities .. 980,790 9,100 -- 989,890
Equity securities .......... 1,960,918 5,891 7,583 1,959,226
Mortgage-backed securities . 17,577,399 119,818 152,843 17,544,374
Collateralized mortgage
obligations ............ 17,132,514 17,921 445,807 16,704,628
---------- ------ ------- ----------
$41,784,587 155,551 633,642 41,306,496
=========== ======= ======= ==========
December 31, 1996
-----------------
Gross Gross Estimated
Amortized Unrealized Unrealized Fair
Securities Held-to-Maturity Cost Gains Losses Value
---- ----- ------ -----
Mortgage-backed securities $ 117,547 1,396 -- 118,943
Collateralized mortgage
obligations .......... 3,092,149 4,099 106,469 2,989,779
--------- ----- ------- ---------
$3,209,696 5,495 106,469 3,108,722
========== ===== ======= =========
25
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 2. Investment Securities, continued
The amortized cost and estimated fair value of securities available for sale and
securities held to maturity at December 31, 1997, by contractual maturity, are
shown below. Expected maturities may differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties.
Securities Securities
Available-for-Sale Held-to-Maturity
------------------ ----------------
Amortized Estimated Amortized Estimated
Cost Fair Value Cost Fair Value
---- ---------- ---- ----------
U.S. Treasuries and agencies:
Within 1 year............ $ 999,941 997,410 - -
1 to 5 years............. 1,000,000 1,008,428 - -
5 to 10 years............ 6,969,063 7,022,337 - -
--------- --------- ------ ------
8,969,004 9,028,175 - -
Equity securities ............ 1,293,623 1,413,476 - -
Corporate debt securities..... 989,300 1,000,000 - -
Mortgage-backed securities.... 21,746,932 21,787,768 103,140 104,300
Collateralized mortgage
obligations .............. 16,226,434 15,853,832 2,504,695 2,464,843
---------- ---------- --------- ---------
$49,225,293 49,083,251 2,607,835 2,569,143
=========== ========== ========= =========
There were no sales of securities held-to-maturity during 1997, 1996, and 1995.
Proceeds from sales of securities available-for-sale during 1997, 1996, and 1995
totalled approximately $7,407,000, $15,651,000, and $26,468,000, respectively.
Gross gains of approximately $140,000, $250,000, and $246,000 and gross losses
of approximately $13,000, $31,500, and $28,000 were realized on those sales for
the years ended December 31, 1997, 1996, and 1995, respectively.
Securities and interest-bearing deposits with a carrying value of approximately
$26,425,000 and $17,920,000 at December 31, 1997 and 1996, respectively, were
pledged to secure advances from FHLB, U.S. Government, and other public
deposits.
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 3. Loans
Major classifications of loans at December 31, 1997 and 1996 are summarized as
follows:
1997 1996
---- ----
Commercial, financial and agricultural... $ 9,923,944 10,209,043
Real estate - construction .............. 11,589,408 9,149,042
Real estate - mortgage .................. 128,539,218 119,178,317
Installment loans to individuals ........ 8,441,194 11,094,228
Lease financings ........................ 9,303,764 7,571,427
--------- ---------
Gross loans ........................ 167,797,528 157,202,057
Less:
Deferred loan fees - net ............... 398,775 (218,314)
Allowance for loan losses .............. (2,254,258) (4,339,307)
---------- ----------
$ 165,942,045 152,644,436
============= ===========
The Bank concentrates its lending activities in the origination of permanent
residential mortgage loans, commercial mortgage loans, commercial business
loans, and consumer installment loans. The majority of the Bank's real estate
loans are secured by real property located in Troup County, Georgia and
surrounding counties.
26
<PAGE>
FLAG has recognized impaired loans of approximately $8,179,000 and $13,095,000
at December 31, 1997 and 1996, respectively, with a total allowance for loan
losses related to these loans of $974,000 and $3,775,000, respectively. Interest
income on impaired loans of approximately $117,000 and $148,000 was recognized
for cash payments received in 1997 and 1996, respectively.
Activity in the allowance for loan losses is summarized as follows for the years
ended December 31, 1997, 1996, and 1995:
1997 1996 1995
---- ---- ----
Balance at beginning of year ........ $ 4,339,307 1,339,393 1,243,623
Provisions charged to operations .... 574,000 3,484,529 630,000
Loans charged-off ................... (2,712,767) (521,445) (572,843)
Recoveries on loans previously
charged-off..................... 53,718 36,830 38,613
------ ------ ------
Balance at end of year .............. $ 2,254,258 4,339,307 1,339,393
=========== ========= =========
Mortgage loans serviced for others are not included in the accompanying
consolidated financial statements. Unpaid principal balances of these loans at
December 31, 1997 and 1996 approximate $166,823,000 and $247,963,000,
respectively. Custodial escrow balances maintained in connection with loan
servicing, and included in demand deposits, were approximately $618,000 and
$710,000 at December 31, 1997 and 1996, respectively.
Mortgage loans secured by 1-4 family residences totalling approximately
$56,454,000 were pledged as collateral for outstanding FHLB advances as of
December 31, 1997.
Note 4. Premises and Equipment
Premises and equipment at December 31, 1997 and 1996 are summarized as follows:
1997 1996
---- ----
Land and land improvements ............... $ 1,092,951 1,091,577
Buildings and improvements ............... 4,128,787 4,097,162
Furniture and equipment .................. 5,415,746 3,870,297
--------- ---------
10,637,484 9,059,036
Less accumulated depreciation ............ 4,188,156 3,641,074
--------- ---------
$ 6,449,328 5,417,962
=========== =========
Depreciation expense approximated $609,000, $554,000, and $506,000 at December
31, 1997, 1996, and 1995, respectively
Note 5. Time Deposits
At December 31, 1997, contractual maturities of time deposits are summarized as
follows:
Year ending December 31,
------------------------
1998................................. $ 86,422,095
1999................................. 12,204,318
2000................................. 8,002,731
2001................................. 3,576,000
202 and thereafter................... 5,522,680
---------
$ 115,727,824
===============
27
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 6. FHLB Advances
FHLB advances are collateralized by FHLB stock, certain investment securities,
and first mortgage loans. Advances from the FHLB outstanding at December 31,
1997, mature and bear fixed interest rates as follows:
Year Amount Interest Rate
---- ------ -------------
1998............................ $ 23,700,000 5.74% -5.84%
2000............................ 5,000,000 5.59%
2002............................ 7,000,000 5.53%
Thereafter...................... 5,937,494 5.23% - 6.75%
---------
$ 41,637,494 5.23% - 6.75%
================
Ntoe 7. Income Taxes
The following is an analysis of the components of income tax expense (benefit)
for the years ended December 31, 1997, 1996, and 1995:
1997 1996 1995
---- ---- ----
Federal
Current ............................ $ 17,000 620,845 1,024,824
Deferred ........................... 876,700 (841,930) (101,270)
------- -------- --------
Total federal provision (benefit). 893,700 (221,085) 923,554
------- -------- -------
State
Current ............................ 1,958 54,171 139,228
Deferred ........................... 102,109 (144,308) (17,871)
------- -------- -------
Total state provision (benefit)... 104,067 (90,137) 121,357
------- ------- -------
Total ......................... $ 997,767 (311,222) 1,044,911
========= ======== =========
The differences between income tax expense (benefit) and the amount computed by
applying the statutory federal income tax rate to earnings before taxes for the
years ended December 31, 1997, 1996, and 1995 are as follows:
1997 1996 1995
---- ---- ----
Pretax income (loss) at statutory rate. $ 1,030,499 (166,208) 1,044,112
Add (deduct):
State income taxes, net of
federal effect ................... 68,684 (64,549) 80,096
Increase in cash surrender value
of life insurance ................ (43,514) (16,304) (17,000)
Other .............................. (57,902) (64,161) (62,297)
------- ------- -------
$ 997,767 (311,222) 1,044,911
=========== ======== =========
28
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
The following summarizes the net deferred tax asset. The deferred tax asset is
included as a component of other assets at December 31, 1997 and 1996.
1997 1996
---- ----
Deferred tax assets:
Allowance for loan losses ............ $ 498,657 1,648,937
Allowance for other
real estate owned 21,208 41,818
Net deferred loan fees ............... -- 82,959
Net operating loss carryforwards
and credits ........................ 397,021 --
Unrealized loss on securities
available-for-sale ................. 56,472 181,675
Other ............................. 14,639 --
------ ------
Total gross deferred tax assets 987,997 1,955,389
------- ---------
Deferred tax liabilities:
Premises and equipment ............... 209,066 173,425
Net deferred loan fees ............... 151,375 --
Other .............................. 20,130 70,526
------ ------
Total gross deferred tax
liabilities .................... 380,571 243,951
------- -------
Net deferred tax asset ........... $ 607,426 1,711,438
========= =========
Note 7. Income Taxes, continued
The Internal Revenue Code ("IRC") was amended during 1996 and the IRC section
593 reserve method for loan losses for thrift institutions was repealed.
Effective January 1, 1996, the Bank now computes its tax bad debt reserves under
the rules of IRC section 585, which apply to commercial banks. In years prior to
1996, the Bank obtained tax bad debt deductions approximating $2 million in
excess of its financial statement allowance for loan losses for which no
provision for federal income tax was made. These amounts were then subject to
federal income tax in future years pursuant to the prior IRC section 593
provisions if used for purposes other than to absorb bad debt losses. Effective
January 1, 1996, approximately $2 million of the excess reserve is subject to
recapture only if the Bank ceases to qualify as a bank pursuant to the
provisions of IRC section 585.
Note 8. Employee and Director Benefit Plans
Defined Contribution Plans
- --------------------------
FLAG has an established retirement plan qualified pursuant to Internal Revenue
Code section 401(k). The plan allows eligible employees to defer a portion of
their income by making contributions into the plan on a pretax basis. The plan
provides a matching contribution based on a percentage of the amount contributed
by the employee. During the years ended 1997, 1996, and 1995, the Company
contributed approximately $59,000, $49,000, and $48,000, respectively, to this
plan.
FLAG has established a profit-sharing plan for which substantially all employees
are eligible. The Board of Directors makes discretionary contributions up to 15%
of eligible compensation. The plan allows participants to direct up to 75% of
their account balance and/or contributions to be invested in the common stock of
FLAG. The trustee of the plan is required to purchase the FLAG stock at market
value and may not acquire more than 25% of the issued and outstanding shares.
During the years ended December 31, 1997, 1996, and 1995, FLAG recognized
$196,000, $185,000, and $182,000, respectively, in expense related to its
obligations under the plan.
Directors' Retirement Plan
- --------------------------
During 1995, FLAG initiated a defined contribution postretirement benefit plan
to provide retirement benefits to its Board of Directors and to provide death
benefits for their designated beneficiaries. Under this plan, FLAG purchased
split-dollar whole life insurance contracts on the lives of each Director. The
increase in cash surrender value of the contracts, less the Bank's cost of
funds, constitutes FLAG's contribution to the plan each year. In the event the
insurance contracts fail to produce positive returns, FLAG has no obligation to
29
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
contribute to the plan. At December 31, 1997 and 1996, the cash surrender value
of the insurance contracts was approximately $2,114,000 and $1,911,000. Expenses
incurred for benefits were approximately $4,000 and $43,000 during 1997 and
1996, respectively.
Defined Benefit Plan
- --------------------
FLAG has a trusteed defined benefit pension plan which covers substantially all
employees. The benefits are based on years of service and the employee's
compensation during the last five years of employment. FLAG's policy is to fund
pension cost as actuarially determined on an annual basis. The plan is subject
to the Employee Retirement Income Security Act of 1974 (ERISA). FLAG's 1997 and
1996 contribution exceeded the minimum funding requirements of ERISA. Assets of
the plan are invested primarily in a common trust fund.
The following is a reconciliation of the funded status of the plan using the
latest actuarial information applicable for each plan year:
1997 1996
---- ----
Accumulated benefit obligation
including vested benefits
of $1,050,965 and $850,898 ................ $ 1,062,575 872,174
=========== =======
Projected benefit obligation for
services rendered to date ................. 1,635,798 1,342,926
Plan assets at fair value ................... 1,379,263 1,224,542
--------- ---------
Projected benefit obligation in
excess of plan assets ..................... (256,535) (118,384)
Unrecognized transition obligation .......... 15,755 17,888
Unrecognized prior service cost ............. 141,472 151,530
Unrecognized net loss ....................... (6,457) (139,286)
------ --------
Accrued pension liability ............... $ (105,765) (88,252)
=========== =======
Net pension expense is summarized as follows:
1997 1996 1995
---- ---- ----
Service cost - benefits earned $ 93,676 71,238 84,835
Interest cost on projected
benefit obligation ............. 116,072 95,648 98,476
Actual return on plan assets...... (99,024) (85,327) (68,476)
Net amortization ................. 12,191 12,191 21,401
------ ------ ------
$ 122,915 93,750 136,236
========= ====== =======
The assumed rate of return on assets was 8% for 1997 and 1996, with an assumed
discount rate of 8% and an assumed rate of compensation increase of 4.5% in 1997
and 5.5% in 1996 and 1995. Prior service costs are generally amortized over a
period of 17 years.
Stock Option Plan
- -----------------
FLAG has an employee stock incentive plan and a director stock incentive plan.
The plans were adopted for the benefit of directors and key officers and
employees in order that they may purchase FLAG stock at a price equal to the
fair market value on the date of grant. A total of 201,250 shares were reserved
for possible issuance under the employee plan and 100,625 shares were reserved
under the director plan. The options generally vest over a four-year period and
expire after ten years.
SFAS No. 123, "Accounting for Stock-Based Compensation," became effective
January 1, 1996. This statement encourages, but does not require, entities to
compute the fair value of options at the date of grant and to recognize such
costs as compensation expense immediately if there is no vesting period or
ratably over the vesting period of the options. FLAG has chosen not to adopt the
cost recognition principles of this statement. No compensation expense has been
recognized in 1997, 1996, or 1995 related to the stock option plans. Had
30
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 8. Employee and Director Benefit Plans, continued
compensation cost been determined based upon the fair value of the options at
the grant dates consistent with the method of the new statement, FLAG'S net
earnings and net earnings per share would have been reduced to the pro forma
amounts indicated below.
1997 1996
---- ----
Net earnings (loss) As reported.... $ 2,033,114 (177,626)
Pro forma.... $ 1,963,627 (190,981)
Basic earnings (loss) per share As reported.... $ 1.00 (.09)
Pro forma.... $ .96 (.09)
Diluted earnings (loss) per share As reported.... $ .99 (.09)
Pro forma.... $ .95 (.09)
The fair value of each option is estimated on the date of grant using the
Black-Scholes options-pricing model with the following weighted average
assumptions used for grants in 1997 and 1996, respectively: dividend yield of 2%
and 3%, respectively; volatility of .4269 and .2811, respectively; risk free
interest rate of 6% and an expected life of 5 years.
A summary of activity in these stock option plans is presented below:
1997 1996 1995
---- ---- ----
Weighted Weighted Weighted
Average Average Average
Option Option Option
Price Price Price
Shares Per Share Shares Per Share Shares Per Share
------ --------- ------ --------- ------ ---------
Outstanding, beginning
of year.. 46,000 $10.02 160,207 $ 6.41 190,750 $ 6.24
Granted during
the year......... 28,000 11.37 6,000 13.50 --
Cancelled during
the year....... (1,250) 11.25 -- (3,750) 5.38
Exercised during
the year....... -- (120,207) 5.38 (26,793) 5.38
------ -------- -------
Outstanding, end
of year........ 72,750 $10.52 46,000 $10.02 160,207 $6.41
====== ====== =======
Number of shares
exercisable.... 72,750 46,000 160,207
====== ====== =======
The weighted average grant-date fair value of options granted in 1997 and 1996
was $1.65 and $1.73, respectively. For these employee and director stock
options, options outstanding at December 31, 1997 are exercisable at option
prices ranging from $9.50 to $13.50 as presented in the table above. Such
options have a weighted average remaining contractual life of approximately 7.5
years as of December 31, 1997.
Note 9. Preferred Stock
Shares of preferred stock may be issued from time to time in one or more series
as established by resolution of the Board of Directors of FLAG, up to a maximum
of 10,000,000 shares. Each resolution shall include the number of shares issued,
preferences, special rights, and limitations as determined by the Board.
Note 10. Regulatory Matters
FLAG is 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 FLAG's
financial statements. Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, FLAG and the Bank must meet specific
capital guidelines that involve quantitative measures of the assets,
31
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
liabilities, and certain off-balance sheet items as calculated under regulatory
accounting practices. The capital amounts and classification are also subject to
qualitative judgements by the regulators about components, risk weightings, and
other factors.
Quantitative measures established by regulation to ensure capital adequacy
require FLAG to maintain minimum amounts and ratios of total and Tier 1 capital
(as defined) to risk-weighted assets (as defined), and of Tier 1 capital (as
defined) to average assets (as defined) and of Tangible capital to average
assets. Management believes, as of December 31, 1997 and 1996, that FLAG meets
all capital adequacy requirements to which it is subject.
As of December 31, 1997 and 1996, the most recent notification from the OTS
categorized the Bank as well capitalized under the regulatory framework for
prompt corrective action. To be categorized as well capitalized, the Bank must
maintain minimum total risk-based, Tier 1 risk-based and Tier 1 leverage ratios
as set forth in the following table. There are no conditions or events since
that notification that management believes have changed the Bank's category.
The Bank's actual capital amounts and ratios as well as those of FLAG on a
consolidated basis are presented below.
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
------ ----------------- -----------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
As of December 31, 1997:
Total Capital (to Risk
Weighted Assets)
FLAG consolidated ..$24,127,000 14.9% 12,941,000 >/=8.0% N/A N/A
Bank ...............$22,408,000 13.9% 12,871,000 >/=8.0% 16,089,000 >/=10.0%
Tier 1 Capital (to Risk
Weighted Assets)
FLAG consolidated ..$22,130,000 13.7% 6,471,000 >/=4.0% N/A N/A
Bank ...............$20,382,000 12.7% 6,436,000 >/=4.0% 9,653,000 >/=6.0%
Tier 1 Capital (to
Adjusted Assets)
FLAG consolidated ..$22,130,000 8.9% 10,283,000 >/=4.0% N/A N/A
Bank ...............$20,382,000 8.3% 9,883,000 >/=4.0% 12,354,000 >/=5.0%
Tangible Capital (to
Tangible Assets)
FLAG consolidated ..$22,130,000 8.9% 3,856,000 >/=1.5% N/A N/A
Bank ...............$20,382,000 8.3% 3,706,000 >/=1.5% 3,706,000 >1.5%
As of December 31, 1996:
Total Capital (to Risk
Weighted Assets)
FLAG consolidated ...$23,704,000 15.8% 12,018,000 >/=8.0% N/A N/A
Bank ................$21,568,000 14.4% 12,000,000 >/=8.0% 15,000,000 >/=10.0%
Tier 1 Capital (to Risk
Weighted Assets)
FLAG consolidated ...$20,918,000 13.9% 6,009,000 >/=4.0% N/A N/A
Bank ................$19,694,000 13.1% 6,000,000 >/=4.0% 9,000,000 >/=6.0%
Tier 1 Capital (to
Adjusted Assets)
FLAG consolidated ...$20,918,000 9.4% 8,916,000 >/=4.0% N/A N/A
Bank ................$19,694,000 8.8% 8,907,000 >/=4.0% 11,134,000 >/=5.0%
Tangible Capital (to
Tangible Assets)
FLAG consolidated ...$20,918,000 9.4% 3,344,000 >/=1.5% N/A N/A
Bank ................$19,694,000 8.8% 3,340,000 >/=1.5% 3,340,000 >/=1.5%
32
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Thrift regulations limit the amount of dividends the Bank can pay to FLAG
without prior regulatory approval. These limitations are a function of excess
regulatory capital and net earnings in the year the dividend is declared. In
1998, the Bank can pay dividends totalling approximately $4,769,000 plus net
earnings during 1998.
Note 11. Commitments and Contingencies
The Bank leases certain banking facilities under operating lease arrangements
expiring through 2000. Approximate future minimum payments required for all
operating leases with remaining terms in excess of one year are presented below:
Year Ending December 31,
------------------------
1998........................ $ 77,000
1999........................ 74,000
2000........................ 65,000
------
$216,000
========
Total rent expense was approximately $83,000, $61,000, and $60,000 for the years
ended December 31, 1997, 1996, and 1995, respectively.
FLAG has a partially self-insured health care plan for the benefit of eligible
employees and their eligible dependents, administered by a third party
administrator. Claims in excess of $15,000 per person annually, but less than
$1,000,000, are covered by an insurance policy with Guarantee Mutual Life
Company. FLAG is responsible for any claims less than $15,000 per person
annually.
FLAG is a party to financial instruments with off-balance sheet risk in the
normal course of business to meet the financing needs of its customers and to
manage its cost of funds. These financial instruments include commitments to
extend credit, standby letters of credit, and an interest rate cap agreement.
These instruments involve, to varying degrees, elements of credit risk in excess
of the amounts recognized in the consolidated statements of financial condition.
The contract amounts of these instruments reflect the extent of involvement the
Bank has in particular classes of financial instruments.
Commitments to originate first mortgage loans and to extend credit are
agreements to lend to a customer as long as there is no violation of any
condition established in the contract. Commitments generally have fixed
expiration dates or other termination clauses and may require payment of a fee.
Since many of the commitments are expected to expire without being drawn upon,
the total commitment amounts do not necessarily represent future cash
requirements. The Bank evaluates each customer's creditworthiness on a
case-by-case basis. The amount of collateral obtained, if deemed necessary by
the Bank upon extension of credit, is based on management's credit evaluation of
the counterparty. The Bank's loans are primarily collateralized by residential
and other real properties, automobiles, savings deposits, accounts receivable,
inventory, and equipment located in Troup County, Georgia and surrounding
counties.
Standby letters of credit are written conditional commitments issued by the Bank
to guarantee the performance of a customer to a third party. Those guarantees
are primarily issued to support public and private borrowing arrangements. Most
letters of credit extend for less than one year. The credit risk involved in
issuing letters of credit is essentially the same as that involved in extending
loan facilities to customers.
FLAG's exposure to credit loss in the event of nonperformance by the other party
to the financial instrument for commitments to extend credit and standby letters
of credit is represented by the contractual amount of those instruments. The
Bank uses the same credit policies in making commitments and conditional
obligations as it does for on-balance sheet instruments. All standby letters of
credit are secured at December 31, 1997 and 1996.
33
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
1997 1996
---- ----
Financial instruments whose contract
amounts represent credit risk:
Commitments to originate first
mortgage loans ................ $17,609,000 9,932,000
Commitments to extend credit..... $ 7,845,000 7,146,000
Standby letters of credit ....... $ 990,000 945,000
Note 12. Related Party Transactions
At December 31, 1997, deposits from directors, executive officers, and their
related interests aggregated approximately $206,000. These deposits were taken
in the normal course of business at market interest rates.
The Bank conducts transactions with directors and executive officers, including
companies in which they have beneficial interest, in the normal course of
business. It is the policy of the Bank that loan transactions with directors and
executive officers be made on substantially the same terms as those prevailing
at the time for comparable loans to other persons. The following is a summary of
activity for related party loans for 1997.
Balance at December 31, 1996.......... $ 1,647,900
New loans ............................ 203,318
Repayments ........................... (238,749)
--------
Balance at December 31, 1997.......... $ 1,612,469
===========
Note 13. Miscellaneous Operating Expenses
Components of other operating expenses in excess of 1% of interest and other
income for the years ended December 31, 1997, 1996, and 1995 are as follows:
1997 1996 1995
---- ---- ----
Advertising ........................ $ 265,131 210,190 178,394
Data processing expense ............ $ 488,703 520,762 480,209
Federal deposit insurance premiums.. $ 185,970 1,666,101 459,581
Note 14. FLAG Financial Corporation (Parent Company Only) Financial Information
Balance Sheets
December 31, 1997 and 1996
Assets
------
1997 1996
---- ----
Cash ........................... $ 263,101 489,869
Investment securities .......... 622,128 188,125
Investment in subsidiary........ 20,891,126 19,910,996
Equipment, net ................. 536,282 --
Other assets ................... 19,025 36,593
------ ------
$22,331,662 20,625,583
=========== ==========
Liabilities and Stockholders' Equity
------------------------------------
Accounts payable and
accrued expenses............... 269,082 114,389
Stockholders' equity............ 22,062,580 20,511,194
---------- ----------
$22,331,662 20,625,583
=========== ==========
34
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Statements of Operations
For the Years Ended December 31, 1997, 1996 and 1995
1997 1996 1995
---- ---- ----
Income:
Dividend income from the Bank $ 1,305,000 525,008 2,282,699
Interest income 7,357 - --
Other 17,699 633 --
------ --- ------
Total income 1,330,056 525,641 2,282,699
--------- ------- ---------
Operating expenses:
Interest expense 1,333 - -
Other 212,196 145,445 132,824
------- ------- -------
Total operating expenses 213,529 145,445 132,824
------- ------- -------
Earnings before income tax benefit
and equity in undistributed
earnings of subsidiary 1,116,527 380,196 2,149,875
Income tax benefit 65,964 50,90 18,500
------ ----- ------
Earnings before equity in
undistributed earnings of
subsidiary or dividends
received in excess of
earnings of subsidiary 1,182,491 431,099 2,168,375
Dividends received in excess
of earnings (loss)
of subsidiary - (608,725) (142,368)
Equity in undistributed earnings
of subsidiary 850,623 -- --
------- ------ ------
Net earnings (loss) $ 2,033,114 (177,626) 2,026,007
============ ======== =========
Statements of Cash Flows
For the Years Ended December 31, 1997, 1996 and 1995
1997 1996 1995
---- ---- ----
Cash flows from operating activities:
Net earnings (loss) .................... $ 2,033,114 (177,627) 2,026,007
Adjustments to reconcile net
earnings (loss) to net cash
provided by operating activities:
Amortization ........................ 14,420 14,419 14,419
Dividends received in excess of
(earnings) loss of subsidiaries .... -- 608,726 142,368
Equity in undistributed earnings
of subsidiaries ................... (850,623) -- --
Change in other assets
and liabilities.................... 157,850 (48,986) 154,585
------- ------- -------
Net cash provided by
operating activities ............. 1,354,761 396,532 2,337,379
--------- ------- ---------
Cash flows from investing activities:
Purchase of securities
svailable-for-sale................... 352,670 (194,742) --
Purchase of equipment ................. (536,282) -- --
-------- ------ ------
Net cash used in
investing activities ............. (888,952) (194,742) --
-------- -------- ------
Cash flows from financing activities:
Repurchase of common stock ............. -- -- 1,633,272)
Exercise of stock options .............. -- 637,727 124,398
Issuance of common stock ............... -- 8,990 59,486
Dividends paid ......................... (692,577) (640,420) (606,209)
-------- -------- --------
Net cash provided by (used in)
financing activities ............. (692,577) 6,297 (2,055,597)
-------- ----- ----------
Net change in cash ....................... (226,768) 208,087 281,782
Cash at beginning of year ................ 489,869 281,782 --
------- ------- ------
Cash at end of year ...................... $ 263,101 489,869 281,782
=========== ======= =======
35
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 15. Fair Value of Financial Instruments
FLAG is required to disclose fair value information about financial instruments,
whether or not recognized on the face of the balance sheet, for which it is
practicable to estimate that value. The assumptions used in the estimation of
the fair value of FLAG's financial instruments are detailed below. Where quoted
prices are not available, fair values are based on estimates using discounted
cash flows and other valuation techniques. The use of discounted cash flows can
be significantly affected by the assumptions used, including the discount rate
and estimates of future cash flows. The following disclosures should not be
considered a surrogate of the liquidation value of FLAG or its subsidiary, but
rather a good-faith estimate of the increase or decrease in value of financial
instruments held by FLAG since purchase, origination, or issuance.
Note 15. Fair Value of Financial Instruments, continued
Cash and Cash Equivalents
- -------------------------
For cash, due from banks, federal funds sold, interest-bearing deposits with
other banks, and proceeds receivable from secondary market, the carrying amount
is a reasonable estimate of fair value.
Securities Held-to-Maturity and Securities Available-for-Sale
- -------------------------------------------------------------
Fair values for securities held-to-maturity and securities available-for-sale
are based on quoted market prices.
Other investments
- -----------------
The carrying value of other investments approximates fair value.
Loans and Mortgage Loans Held for Sale
- --------------------------------------
The fair value of fixed rate 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. For variable rate loans, the carrying amount is a
reasonable estimate of fair value.
Mortgage Servicing Rights
- -------------------------
Fair value of mortgage servicing rights is determined by estimating the present
value of the future net servicing income, on a disaggregated basis, using
anticipated prepayment assumptions.
Cash Surrender Value of Life Insurance
- --------------------------------------
The carrying value of cash surrender value of life insurance approximates fair
value.
Deposits
- --------
The fair value of demand deposits, savings accounts, NOW accounts, certain money
market deposits, advances from borrowers, and advances payable to secondary
market is the amount payable on demand at the reporting date. The fair value of
fixed maturity certificates of deposit is estimated by discounting the future
cash flows using the rates currently offered for deposits of similar remaining
maturities.
Federal Funds Purchased
- -----------------------
For federal funds purchased, the carrying amount is a reasonable estimate of
fair value.
FHLB Advances
- -------------
The fair value of the FHLB fixed rate borrowings are estimated using discounted
cash flows, based on the current incremental borrowing rates for similar types
of borrowing arrangements.
36
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Commitments to Originate First Mortgage Loans,
Commitments to Extend Credit,and Standby Letters of Credit
- ----------------------------------------------------------
Because commitments to originate first mortgage loans, commitments to extend
credit, and standby letters of credit are made using variable rates, the
contract value is a reasonable estimate of fair value.
Limitations
- -----------
Fair value estimates are made at a specific point in time, based on relevant
market information and information about the financial instrument. These
estimates do not reflect any premium or discount that could result from offering
for sale at one time FLAG's entire holdings of a particular financial
instrument. Because no market exists for a significant portion of FLAG's
financial instruments, fair value estimates are based on many judgments. These
estimates are subjective in nature and involve uncertainties and matters of
significant judgment and therefore cannot be determined with precision. Changes
in assumptions could significantly affect the estimates.
Fair value estimates are based on existing on and off-balance sheet financial
instruments without attempting to estimate the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments. Significant assets and liabilities that are not
considered financial instruments include the mortgage banking operation,
deferred income taxes, and premises and equipment. In addition, the tax
ramifications related to the realization of the unrealized gains and losses can
have a significant effect on fair value estimates and have not been considered
in the estimates.
Note 15. Fair Value of Financial Instruments, continued
The carrying amount and estimated fair values of FLAG's financial instruments at
December 31, 1997 and 1996 are as follows:
1997 1996
---- ----
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
------ ---------- ------ ----------
Assets:
Cash and cash equivalents .....$ 3,679,456 3,679,456 2,527,785 2,527,785
Interest-bearing deposits .... 5,222,541 5,222,541 3,557,138 3,557,138
Investment securities ........ 51,691,086 51,652,394 44,516,192 44,415,218
Other investments ............ 3,556,900 3,556,900 3,370,900 3,370,900
Mortgage loans held for sale.. 881,254 881,254 343,677 343,677
Loans, net ...................165,942,045 166,715,631 152,644,436 154,718,806
Mortgage servicing rights .... 1,174,292 1,174,292 1,703,710 1,703,710
Cash surrender value of life
insurance................... 2,114,118 2,114,118 1,910,657 1,910,657
Liabilities:
Deposits .....................180,661,858 180,817,190 180,691,763 181,213,971
Federal funds purchased ...... 70,000 70,000 2,210,000 2,210,000
FHLB advances ................ 41,637,494 40,927,033 17,370,833 17,370,833
Unrecognized financial
instruments:
Commitments to originate first
mortgage loans ............. 17,609,000 17,609,000 9,932,000 9,932,000
Commitments to extend credit . 7,845,000 7,845,000 7,146,000 7,146,000
Standby letters of credit .... 990,000 990,000 945,000 945,000
37
<PAGE>
FLAG FINANCIAL CORPORATION
Notes to Consolidated Financial Statements, continued
Note 16. Business Combination
On October 28, 1997, the Board of Directors of FLAG approved a merger agreement
whereby FLAG and Middle Georgia Bankshares, Inc. would combine and FLAG would
become a multi-bank holding company. Middle Georgia, a one-bank holding company
headquartered in Unadilla, Georgia, is the parent company of Citizens Bank which
has seven offices throughout Dooly and Macon counties. Middle Georgia
shareholders would receive 1,012,284 shares of FLAG stock.
The Agreement is subject to approval of applicable regulatory authorities and
shareholders and will be accounted for as a pooling of interests. As such,
historical financial information presented in future reports will be restated to
include Middle Georgia.
The following summarized operating data gives effect to the merger had it
occurred January 1, 1995:
As of and for the year ended (000's):
1997 1996 1995
---- ---- ----
Total assets ................... 376,728 321,730 315,196
Shareholders' equity ........... 33,260 30,580 29,849
Net earnings ................... 3,086 887 3,140
Basic earnings per share ....... 1.01 0.29 1.23
38
<PAGE>
Board of Directors and Corporate Officers
FLAG Financial Corporation Board of Directors
(December 31, 1997)
Dr. A. Glenn Bailey
Physician
Clark-Holder Clinic
H. Speer Burdette, III
Vice President, Treasurer and
Managing Officer
J.K. Boatwright & Company, P.C.
Accounting Firm
Fred A. Durand, III
President and
Chief Executive Officer
Durand-Wayland, Inc.
Manufacturer of Produce
Sorting and Spray Equipment
John S. Holle
Chairman of the Board,
President and
Chief Executive Officer
FLAG Financial Corporation
First Federal Savings Bank
of LaGrange
William F. Holle, Jr.
Advisory Director and
Retired President
First Federal Savings Bank
of LaGrange
Jacob B. Jarrell, III
Advisory Director and
Retired Vice President
FLAG Financial Corporation
First Federal Saving Bank
of LaGrange
Kelly R. Linch
Owner
Linch's, Inc.
Retail Appliances and
Electronics
Ellison C. Rudd
Executive Vice President,
Treasurer and
Chief Financial Officer
FLAG Financial Corporation
First Federal Savings Bank
of LaGrange
Gordon M. Smith
Pharmacist
Eckerd Drugs
John W. Stewart, Jr.
President
Stewart Wholesale
Hardware Company
Dr Steven P. Teaver
Dentist
Robert W. Walters
Retired Vice-President
The Mill Store, Inc.
Retail and Contract Floor
Coverings
FLAG Financial Corporation
Board of Directors
(March 31, 1998)
Patti S. Davis
Secretary and
Senior Vice President
FLAG Financial Corporation
James W. Johnson
President
McCranie Motor and
Tractor Company
J. Preston Martin*
President
Bank of Milan
J. Daniel Speight, Jr.
President and
Chief Executive Officer
FLAG Financial Corporation
Dr. A. Glenn Bailey
H. Speer Burdette, III
Fred A. Durand, III
John S. Holle
Kelly R. Linch
John W. Stewart, Jr.
Robert W. Walters
FLAG Financial Corporation
Senior Officers
(March 31, 1998)
John S. Holle
Chairman of the Board
J. Daniel Speight, Jr.
President and
Chief Executive Officer
Ellison C. Rudd
Senior Vice President and
Chief Financial Officer
Patti S. Davis
Senior Vice President and
Secretary
Charles O. Hinely
Senior Vice President and
Chief Operating Officer
Lisa G. Lane
Senior Vice President
Michael J. Phillips
Senior Vice President
Raymond C. Smith, Jr.
Senior Vice President
Benjamin F. Tew
Senior Vice President
First Federal Savings Bank of LaGrange
Senior Officers
(March 31, 1998)
John S. Holle
President,
Chief Executive Officer and
Chairman of the Board
Ellison C. Rudd
Executive Vice President,
Chief Financial Officer and
Treasurer
Lee W. Washam
Senior Vice President and
Secretary
Charles O. Hinely
Senior Vice President
Raymond C. Smith, Jr.
Senior Vice President
Robert B. Stephens
Senior Vice President
Mary E. Winks
Senior Vice President
Citizens Bank
Senior Officers
(March 31, 1998)
J. Daniel Speight, Jr.
President and
Chief Executive Officer
Michael J. Phillips
Executive Vice President
Patti S. Davis
Senior Vice President
Chief Financial Officer and
Secretary
Carol Arflin
Senior Vice President
Marylan M. Bowen
Senior Vice President
Don G. Davis
Senior Vice President
Lisa G. Lane
Senior Vice President
* Pending Approval
39
<PAGE>
Office Locations
[GRAPHIC OMITTED]
Map of State of Georgia with Cities Marked and Coded to Reflect Office Locations
First Federal Savings Bank of LaGrange
Main Office
101 North Greenwood Street
LaGrange, Georgia 30240
Marketplace Office
908 Hogansville Road
LaGrange, Georgia 30240
Lee's Crossing Office
1795 West Point Road
LaGrange, Georgia 30240
Vernon Street Drive-up Office
306 Vernon Street
LaGrange, Georgia 30240
LaFayette Parkway Office
1417 LaFayette Parkway
LaGrange, Georgia 30240
Piedmont Mortgage Service
5669 Whitesville Road, Suite A
Columbus, Georgia 31904
Piedmont Appraisal Service
200 Broad Street
LaGrange, Georgia 30240
Piedmont Investment Service
101 North Greenwood Street
LaGrange, Georgia 30240
Citizens Bank
Vienna Office
100 Union Street
Vienna, Georgia 31092
Unadilla Office
2233 Pine Street
Unadilla, Georgia 31091
Byromville Office
448 Main Street
Byromville, Georgia 31007
Pinehurst Office
Fullington Avenue
Pinehurst, Georgia 31070
Macon County Office
102 West Railroad Street
Montezuma, Georgia 31063
Oglethorpe Office
130 North Sumter Street
Oglethorpe, GA 31068
Crisp County Office
602 East 16th Avenue
Suite G - Times Square
Cordele, Georgia 31015
CB Financial
1180 Pine Street
Unadilla, Georgia 31091
ProImage, Inc.
144 New Street
Macon, Georgia 31201
Bank Of Milan*
Milan Office
Mount Zion Street
Milan, Georgia 31060
McRae Office
850 East Oak Street
McRae, Georgia 31055
* Pending Approval
40
<PAGE>
Shareholder Information
Market Makers
Herzog, Heine, Geduld, Inc.
525 Washington Boulevard
Newport Tower
Jersey City, New Jersey 07310
Interstate/Johnson Lane Corporation
121 West Trade Street
Interstate Tower - 12th Floor
Charlotte, North Carolina 28789
Morgan Keegan & Company, Inc.
One Buckhead Plaza
Suite 1600
3060 Peachtree Road, N.W.
Atlanta, Georgia 30305
The Robinson-Humphrey Company, Inc.
3333 Peachtree Road, N.E.
11th Floor
Atlanta, Georgia 30326
Sterne, Agee & Leach, Inc.
950 East Paces Ferry Road
Suite 1580
Atlanta, Georgia 30326
General Counsel
John M. Wyatt
16 North LaFayette Square
LaGrange, Georgia 30240
Special Counsel
Alston & Bird LLP
One Atlantic Center
1201 West Peachtree Street
Atlanta, Georgia 30309-3424
Independent Auditors
Porter Keadle Moore, LLP
235 Peachtree Street, N.E.
Suite 1800
Atlanta, Georgia 30303
Transfer Agent
Shareholders who desire to change the name, address, or ownership of FLAG common
stock, to report lost certificates, or to consolidate accounts should contact
the Transfer Agent:
Reliance Trust Company
Investor Services
3384 Peachtree Road, N.E.
Suite 900
Atlanta, Georgia 30326
1-800-241-5568
1998 Annual Meeting
The Annual Meeting of Shareholders of FLAG Financial Corporation will be held on
Wednesday, May 13, 1998, at 2:00 p.m. at the Main Office of the Company, 101
North Greenwood Street, LaGrange, Georgia 30240.
Investor Relations
Shareholders, analysts, investors, the news medida, and others desiring a copy
of the FLAG Financial Corporation 1997 Annual Report or 1997 Annual Report on
Form 10-K as filed with the Securities and Exchange Commission, or general
information about the Company may obtain such information without charge by
contacting:
FLAG Financial Corporation
Investor Relations Department
101 North Greenwood Street
LaGrange, Georgia 30240
1-706-845-5140
Dividend Reinvestment Plan
FLAG Financial Corporation offers a Dividend Reinvestment Plan for automatic
reinvestment of dividends in the Common Stock of the Company. For more
information concerning this convenient and economical way to purchase additional
Common Stock and to receive an authorization form, contact:
FLAG Financial Corporation
Investor Relations Department
101 North Greenwood Street
LaGrange, Georgia 30240
1-706-845-5140
Stock Exchange Listing
FLAG Financial Corporation's Common Stock is traded and quoted on The Nasdaq
National Market under the symbol "FLAG".
Shareholders of Record
Shareholders of Record
FLAG Financial Corporation has 2,036,990 shares of common stock outstanding.
There were approximately 530 holders of record as of December 31, 1997.
Stock Prices and Dividends
The following table sets forth the high and low closing sales prices of the
Company's Common Stock, as reported by Nasdaq, for each quarter for the past two
fiscal years and the cash dividends per share of the Common Stock paid by the
Company during such fiscal quarters.
Cash
Dividends
Quarter Ended High Low Per Share
- ------------- ---- --- ---------
March 31, 1996 $14.50 $12.875 $0.075
June 30, 1996 $13.50 $12.00 $0.085
September 30, 1996 $12.75 $ 9.50 $0.085
December 31, 1996 $11.75 $12.50 $0.085
March 31, 1997 $13.00 $10.25 $0.085
June 30, 1997 $14.625 $11.25 $0.085
September 30, 1997 $16.50 $14.00 $0.085
December 31, 1997 $21.50 $16.50 $0.085
