<PAGE>
- --------------------------------------------------------------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
______________________
FORM 10-K
ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED]
For the fiscal year ended December 31, 1998
-----------------------
Commission file number 0-22734
--------------------------
KS BANCORP, INC.
--------------------
(Exact name of registrant as specified in its charter)
<TABLE>
<S> <C>
North Carolina 56-1842707
- ------------------------------- -----------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
</TABLE>
207 West Second Street
P. O. Box 219 27542
Kenly, North Carolina ------
- ----------------------------------------- (Zip Code)
(Address of principal executive office)
Registrant's telephone number, including area code (919) 284-4157
--------------
Securities Registered Pursuant to Section 12(b) of the Act: None
--------
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, no par value
-----------------------------------
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
------- -------
Indicate by check mark if disclosure of delinquent filers in response to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]
State the aggregate market value of the voting stock held by non-affiliates of
the registrant. The aggregate market value shall be computed by reference to
the price at which the stock was sold, or the average bid and asked prices of
such stock, as of a specified date within 60 days prior to the date of filing:
$15,106,761 common stock, no par value, based on the closing price of such
- --------------------------------------------------------------------------
common stock on March 15, 1999.
- -------------------------------
Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date: 888,633 shares of common stock,
-------------------------------
no par value, outstanding at March 15, 1999.
- -------------------------------------------
<PAGE>
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Annual Report of KS Bancorp, Inc. for the year ended December
31, 1998, are incorporated by reference into Part I, Part II and Part IV.
Portions of the Proxy Statement for the 1999 Annual Meeting of Stockholders of
KS Bancorp, Inc. to be held on May 4, 1999, are incorporated by reference into
Part III.
Portions of the Registration Statement of KS Bancorp, Inc. on Form S-1,
Registration No. 33-69522, dated September 25, 1993, as amended on November 3,
1993, are incorporated by reference into Part IV.
2
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PART I
ITEM 1. BUSINESS
General
Prior to December 29, 1993, KS Bank, Inc., formerly known as Kenly Savings
Bank, Inc., SSB, (the "Bank") operated as a mutual North Carolina-chartered
savings bank. On December 29, 1993, the Bank converted from a North Carolina-
chartered mutual savings bank to a North Carolina-chartered stock savings bank
(the "Conversion"). In connection with the Conversion, all of the issued and
outstanding capital stock of the Bank was acquired by KS Bancorp, Inc., a North
Carolina corporation (the "Company") which was organized to become the holding
company for the Bank. At that time, the Company had an initial public offering
of its common stock (the "Common Stock").
The Company is a bank holding company registered with the Board of
Governors of the Federal Reserve System (the "Federal Reserve") under the Bank
Holding Company Act of 1956, as amended (the "BHCA") and the savings bank
holding company laws of North Carolina. The Company's executive office is
located at 207 West Second Street, Kenly, North Carolina. The Company's
activities consist of investing the proceeds of its initial public offering
which were retained at the holding company level, holding certain indebtedness
outstanding from the Bank's Employee Stock Ownership Plan (the "ESOP") and
owning the Bank. The Company's principal sources of income are earnings on its
investments and interest payments received from the ESOP. In addition, the
Company receives dividends which are declared and paid by the Bank on its
capital stock.
The Bank was chartered in 1924. It has been a member of the Federal Home
Loan Bank ("FHLB") system since 1936, and its deposits have been federally
insured since 1961. The Bank's deposits are insured by the Savings Association
Insurance Fund (the "SAIF") of the Federal Deposit Insurance Corporation (the
"FDIC") to the maximum extent permitted by law. As a North Carolina-chartered
savings bank, the Bank is regulated and examined by the Administrator, Savings
Institutions Division, North Carolina Department of Commerce (the
"Administrator") and the FDIC.
The Bank conducts business through six full service offices in Kenly (2),
Goldsboro, Wilson, Garner and Selma, North Carolina and loan production offices
in Clayton and Knightdale, North Carolina. At December 31, 1998, the Company
had consolidated total assets of $130.9 million, consolidated net loans of
$105.3 million, consolidated deposits of $107.9 million and consolidated
stockholders' equity of $15.7 million.
The Bank is engaged primarily in the business of attracting retail deposits
from the general public and using such deposits to make mortgage loans secured
by real estate. The Bank makes mortgage loans secured by owner-occupied and
non-owner occupied residential real estate, loans secured by non-residential,
construction loans and equity line of credit loans. The Bank also makes loans
which are not secured by real property, such as loans secured by pledged deposit
accounts, and during 1997 the Bank began originating various types of secured
and unsecured consumer loans. The Bank's primary source of revenue is interest
income from its lending activities. The Bank's other major sources of revenue
are interest and dividend income from investments and mortgage-backed
securities, interest income from its interest-earning deposit balances in other
depository institutions, and transaction and fee income from its lending and
deposit activities. The Bank's major expenses are interest on deposits and
borrowings and noninterest expenses such as employee compensation and benefits,
federal deposit insurance premiums, data processing expenses and occupancy
expenses.
General economic conditions and related monetary and fiscal policies of
depository institution regulatory agencies, including the Federal Reserve, the
FDIC and the Administrator, significantly influence the operations of
3
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depository institutions, including the Bank. Interest rates on competing
investments and general market rates of interest influence deposit flow and the
Bank's cost of funds. The demand for financing of real estate and other types of
loans, which in turn are affected by the interest rates at which such financing
may be offered and other factors affecting local demand and availability of
funds, influence demand for the Bank's lending activities.
At December 31, 1998, the Company and the Bank had a total of 37 full-time
employees and 2 part-time employees.
The Company has no operations and conducts no business of its own other
than owning the Bank, investing its portion of the net proceeds received in the
Conversion and lending funds to the ESOP. Accordingly, the discussion of the
business which follows concerns the business conducted by the Bank, unless
otherwise indicated.
Lending Activities
General. The Bank is engaged primarily in the business of attracting
deposits from the general public and using the deposits to make mortgage loans
secured by real estate. The Bank's primary source of revenue is interest and
fee income from its lending activities, consisting primarily of conventional
first mortgage loans secured by real property located in its primary market
area. The Bank also makes loans secured by multi-family and nonresidential
properties, construction loans, equity line loans, savings account loans and
various types of secured and unsecured consumer loans. Approximately 96.0% of
the Bank's gross loan portfolio is secured by real estate. On December 31,
1998, the Bank's largest single outstanding loan had a balance of approximately
$1.9 million. In addition to interest earned on loans, the Bank receives fees
in connection with loan originations, loan servicing, loan modifications, late
payments, loan assumptions and other miscellaneous services.
Loan Portfolio Composition. The Bank's net loan portfolio totaled
approximately $105.3 million at December 31, 1998, representing 80.5% of the
Bank's total assets. Conventional first mortgage loans accounted for 76.7% of
the Bank's gross loan portfolio, before net items, on December 31, 1998.
Construction loans and equity line lines represented 11.1% and 8.4%,
respectively, of the Bank's gross loan portfolio, before net items, on that
date. See Note 3 of the "Notes to Consolidated Financial Statements" in the
Company's 1998 Annual Report to Stockholders. As of December 31, 1998, 78.6% of
the loans in the Bank's gross loan portfolio, before net items, had adjustable
interest rates.
The following table sets forth the time to contractual maturity of the
Bank's loan portfolio at December 31, 1998. Fixed rate and adjustable rate
loans are shown as due in the period of contractual maturity. Demand loans,
loans having no stated maturity and overdrafts are reported as due in one year
or less. The table does not include prepayments or scheduled principal
repayments. Prepayments and scheduled repayments in the loan portfolio totaled
$33.0 million, $23.8 million and $18.3 million in the fiscal years ended
December 31, 1998, 1997 and 1996, respectively. Amounts in the table are net of
loans in process and are net of unamortized loan fees.
4
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<TABLE>
<CAPTION>
More Than
One Yr. 1 Year to More Than
Or Less 5 Years 5 Years Total
---------- ----------- --------- ------------
Mortgage Loans: (In Thousands)
<S> <C> <C> <C> <C>
Fixed rate
Adjustable rate $1,414 $11,986 $ 9,862 $23,262
Equity Lines 4,191 35,541 29,244 68,976
9,235 - - 9,235
-------- -------- -------- --------
$14,840 $47,527 $39,106 $101,473
Other loans (includes consumer, 4,221 - - 4,221
commercial & share): -------- -------- -------- --------
Totals before allowance $19,061 $47,527 $39,106 $105,694
Allowance <359> -- -- <359>
-------- -------- -------- --------
$18,702 $47,527 $39,106 $105,335
======== ======== ======== ========
</TABLE>
The following table sets forth the dollar amount at December 31, 1998 of
all loans maturing or repricing on or after December 31, 1999 which have fixed
or adjustable interest rates.
<TABLE>
<CAPTION>
Fixed Adjustable
Rates Rates
---------- -----------
(Dollars in Thousands)
<S> <C> <C>
Mortgage loans $21,848 $64,785
Other loans - -
------- -------
$21,848 $64.785
======= =======
</TABLE>
Although adjustable rate loans generally present less interest rate risk to
the Bank, they are generally considered to involve a greater degree of credit
risk than fixed rate loans because borrowers may have difficulty meeting their
payment obligations if interest rates and required payment amounts increase
substantially. Substantially all of the fixed-rate loans in the Bank's mortgage
loan portfolio have due on sale provisions allowing the Bank to declare the
unpaid balance due and payable in full upon the sale or transfer of an interest
in the property securing the loan.
Conventional First Mortgages. The Bank's primary lending activity, which
it intends to continue to emphasize, is the origination of conventional first
mortgage loans to enable borrowers to purchase or refinance one-to-four family
residential real property. The Bank also makes conventional first mortgage
loans secured by multi-family residential property and by nonresidential real
property. Consistent with the Bank's emphasis on being a community-oriented
financial institution, it is and has been the Bank's strategy to focus its
lending efforts in its primary market area. On December 31, 1998, approximately
68.9% of the Bank's real estate loan portfolio, before net items, consisted of
one-to-four family residential real estate loans. These include both loans
secured by detached single-family residences and condominiums and loans secured
by housing containing not more than four separate dwelling units. On that date,
approximately 10.9% of the Bank's loan portfolio, before net items, consisted of
conventional first mortgage loans
5
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secured by multi-family residential and nonresidential properties. Loans secured
by multi-family residential and nonresidential properties generally are larger
than one-to-four family residential loans and involve a greater degree of risk.
Payments on these loans depend to a large degree on results of operations and
management of the properties and may be affected to a greater extent by adverse
conditions in the real estate market or the economy in general.
Construction Lending. The Bank makes various types of construction loans
primarily for the construction of single-family dwellings. On December 31,
1998, the aggregate gross outstanding balances of construction loans had
increased to approximately $12.2 million, representing 11.1% of the Company's
gross loan portfolio, before net items. Some of these loans were made to
investors who are constructing properties on a speculative basis; others were
made to persons who are constructing properties for the purpose of occupying
them. Loans made to investors are generally "pure construction" loans which
require the payment of interest during the construction period and the payment
of the principal in full at the end of the construction period. Loans made to
individual property owners are both pure construction loans and "construction-
permanent" loans which generally provide for the payment of interest only during
a construction period, after which the loans convert to a permanent loan at
fixed or adjustable interest rates having terms similar to other permanent
loans.
Construction loans are generally considered to involve a higher degree of
risk than long-term financing secured by real estate which is already occupied.
A lender's risk of loss on a construction loan is dependent largely upon the
accuracy of the initial estimate of the property's value at the completion of
construction and the estimated cost (including interest) of construction. If
the estimate of construction costs proves to be inaccurate, the lender may be
required to advance funds beyond the amount originally committed in order to
permit completion of construction. If the estimate of anticipated value proves
to be inaccurate, the lender may have security which has value insufficient to
assure full repayment. In addition, repayment of loans made to builders to
finance construction of properties is often dependent upon the builder's ability
to sell the property once construction is completed.
Home Equity Lines of Credit. At December 31, 1998, home equity loans
totaled $9.2 million and comprised approximately 8.4% of the Bank's gross loan
portfolio, before net items. These loans are generally secured by subordinate
liens against residential dwellings. In many of these cases, the Bank holds the
first lien on the security. Home equity lines of credit have terms of up to 15
years and interest rates which are adjustable based upon prime rates. Because
these loans involve revolving lines of credit which can be drawn over a period
of time, the Bank faces additional risks associated with changes in the
borrower's financial condition. Because home equity loans have adjustable rates
with no rate caps (other than usury limitations), increased delinquencies could
occur if interest rate increases occur and borrowers are unable to satisfy
higher payment requirements. Home equity loans are generally limited so that
amount of such loans, along with any senior indebtedness, does not exceed 80% of
the value of the real estate security.
Consumer Loans. During 1997, the Bank began originating consumer loans and
had $942,000 in such loans outstanding on December 31, 1998. The Bank makes
both secured and unsecured consumer loans. Some consumer loans have fixed
interest rates; others have adjustable interest rates. Secured consumer loans
have personal property, such as automobiles, or real property as collateral.
Fixed rate consumer loans generally have shorter terms than adjustable rate
loans. The Bank intends to increase the amount of consumer loans in its
portfolio in future years.
Origination and Sale of Loans. In years prior to 1994, the Bank generally
did not originate its loans with the intention that they would be sold in the
secondary market. Loans generally were not originated in conformity with the
purchase requirements of the Federal Home Loan Mortgage Corporation ("FHLMC") or
Federal National Mortgage Association ("FNMA"). However, in January 1994 and
October, 1994, the Bank opened a mortgage loan origination office in Clayton,
North Carolina and a mortgage loan origination office in Goldsboro, North
Carolina, respectively, and began originating loans in conformity with the
purchase requirements of the FHLMC and FNMA, so that they could be sold in the
secondary market if the Bank determined that such sales were prudent. The Bank
originated and sold $4.4 million in loans during the fiscal year ended December
31, 1998. Nevertheless, the Bank continues to originate many loans which
satisfy its underwriting requirements which are tailored for its local community
but do not satisfy various
6
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requirements imposed by FHLMC and FNMA. Such loans are not readily saleable in
the secondary market and could be sold only after the Bank incurred certain
costs, such as costs for surveys and title insurance an/or discounted the
purchase price. The Bank has historically found that its origination of
nonconforming loans has not resulted in a high level of nonperforming assets. In
addition, these loans generally produce a higher yield than are produced by
loans which conform to the purchase requirements of FHLMC and FNMA.
Nonperforming Assets. When a borrower fails to make a required payment on
a loan and does not cure the delinquency promptly, the loan is classified as
delinquent. In this event, the normal procedure followed by the Bank is to make
contact with the borrower at prescribed intervals in an effort to bring the loan
to a current status. In most cases, delinquencies are cured promptly. If a
delinquency is not cured, the Bank normally, subject to any required prior
notice to the borrower, commences foreclosure proceedings. If the loan is not
reinstated within the time permitted for reinstatement, or the property is not
redeemed prior to sale, the property may be sold at a foreclosure sale. In
foreclosure sales, the Bank may acquire title to the property through
foreclosure, in which case the property so acquired is offered for sale and may
be financed by a loan involving terms more favorable than those normally
offered. Any property acquired as a result of foreclosure or by deed in lieu of
foreclosure is classified as real estate owned until such time as it is sold or
otherwise disposed of by the Bank to recover its investment. As of December 31,
1998, the Bank recorded no real estate acquired in settlement of loans.
The Bank's general policy is to place a loan on nonaccrual status when the
loan becomes 90 days delinquent as it establishes reserves for uncollected
interest. Such interest when ultimately collected is credited to income in the
period received. Interest on loans considered to be impaired is treated
similarly. Loans delinquent more than 90 days amounted to $290,500 and $533,000
on December 31, 1998 and 1997, respectively. See Note 3 to "Notes to
Consolidated Financial Statements" in the Company's 1998 Annual Report to
Stockholders.
The following table sets forth information with respect to nonperforming
assets identified by the Bank, including nonaccrual loans, real estate owned and
nonperforming investments in real estate at the dates indicated.
<TABLE>
<CAPTION>
At December 31,
---------------------------------------
1998 1997 1996
----------- ----------- -------------
(Dollars in Thousands)
<S> <C> <C> <C>
Total nonaccrual loans delinquent 90 days or more $ 291 $ 533 $ 274
Real estate owned - - 66
-------- -------- --------
Total non-performing assets $ 291 $ 533 $ 340
======== ======== ========
Non-performing loans to total loans .28% .50% .34%
Non-performing assets to total assets .22% .47% .34%
Total assets $130,892 $113,978 $100,840
Total loans $105,335 $ 95,002 $ 81,511
</TABLE>
Allowance for Possible Loan Losses. In originating loans, the Bank
recognizes that credit losses will be experienced and that the risk of loss will
vary with, among other things, general economic conditions, the types of loans
being made, the creditworthiness of borrowers over the terms of the loans and,
in the case of secured loans, the quality of the security for the loans.
Management's policy is to maintain an adequate allowance for possible loan
losses based on, among other things, the Bank's historical loan loss
experience, evaluation of economic conditions and regular
7
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reviews of delinquencies and loan portfolio quality. Specific allowances are
provided for individual loans when management considers ultimate collection is
considered questionable after reviewing the current status of loans which are
contractually past due and considering the net realizable value of the security
for the loans. The Bank's level of allowances for loan losses at December 31,
1998, 1997 and 1996 was $359,000, $325,000, and $302,000, respectively.
Management continues to monitor the Bank's asset quality, to charge off
loans against the allowance for loan losses when appropriate and to provide
specific loss reserves when necessary. Although management believes it uses the
best information available to make determinations regarding the allowance for
loan losses, future adjustments may be necessary if circumstances change.
The following table describes the activity related to the Bank's allowance
for possible loan losses for the periods indicated.
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------------------
1998 1997 1996 1995 1994
-------- ------- -------- -------- ---------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C>
Balance, beginning of period $325 $302 $233 $223 $201
Provision for loan losses 34 23 69 10 22
Charge-offs - - - - -
Recoveries - - - - -
---- ---- ---- ---- ----
Balance, end of period $359 $325 $302 $233 $223
==== ==== ==== ==== ====
</TABLE>
The following table sets forth the composition of the allowance for
possible loan losses by type of loan at the dates indicated.
8
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<TABLE>
<CAPTION>
At December 31,
-----------------------------------------------------------------------------------------------
1998 1997 1996 1995
------------------- --------------------- --------------------- ---------------------
Amount of Amount of Amount of Amount of
Loans to Loans to Loans to Loans to
Amount of Gross Amount of Gross Amount of Gross Amount of Gross
Allowance Loans Allowance Loans Allowance Loans Allowance Loans
--------- ---------- --------- ---------- --------- ---------- --------- ---------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Mortgage loans:
Residential 1-4 family $197 54.78% $212 65.02% $200 74.58% $159 76.44%
Residential multi-family 10 2.82% 8 2.53% 13 4.33% 11 5.47%
Nonresidential real
estate and other
property 21 5.78% 8 2.46% 6 2.81% 4 1.68%
Home equity and property
improvement 61 17.00% 49 15.20% 39 8.65% 33 9.07%
Construction 44 12.35% 43 13.17% 44 9.40% 26 7.14%
---- ----- ---- ----- ---- ----- ---- ----
Total real estate loans $333 92.73% $320 98.37% $302 99.77% $233 99.80%
---- ----- ---- -----
Other loans 26 7.27% 5 1.63% -- 0.23% -- 0.20%
---- ----- ---- -----
Total allowance for loan
losses $359 100.00% $325 100.00% $302 100.00% $233 100.00%
==== ====== ==== ====== ==== ====== ==== ======
</TABLE>
<TABLE>
<CAPTION>
At December 31,
--------------------
1994
---------
Amount of
Loans to
Amount of Gross
Allowance Loans
--------- ----------
<S> <C> <C>
Mortgage loans:
Residential 1-4 family $166 78.51%
Residential multi-family 12 5.65%
Nonresidential real
estate and other
property 3 1.45%
Home equity and property
improvement 29 8.19%
Construction 13 5.86%
---- -----
Total real estate loans $223 99.65%
---- -----
Other loans -- 0.35%
---- -----
Total allowance for loan
losses $223 100.00%
==== ======
</TABLE>
9
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Investment Securities
Interest and dividend income from investment securities, including
mortgage-backed securities, generally provides the Bank's second largest source
of income after interest on loans. At December 31, 1998, the Bank's investment
portfolio totaled approximately $10.0 million and consisted of U.S. government
and agency securities, mortgage-backed securities and stock of the FHLB of
Atlanta.
As a member of the FHLB of Atlanta, the Bank is required to maintain an
investment in stock of the FHLB of Atlanta equal to the greater of 1% of the
Bank's outstanding home loans or 5% of its outstanding advances from the FHLB of
Atlanta. No ready market exists for such stock, which is carried at cost. As
of December 31, 1998, the Bank's investment in stock of the FHLB of Atlanta was
$879,500.
North Carolina regulations require the Bank to maintain a minimum amount of
liquid assets. The computation of liquidity allows the inclusion of mortgage-
backed securities and other instruments which are readily marketable, including
investments with maturities in excess of five years.
See Note 2 of "Notes to Consolidated Financial Statements" in the Company's
1998 Annual Report to Stockholders.
Deposits and Borrowings
Deposits. Deposits are the primary source of the Bank's funds for lending
and other investment purposes. In addition to deposits, the Bank derives funds
from loan principal repayments, interest payments, investment income and
principal repayments, interest from its own interest-earning deposits, advances
from the FHLB of Atlanta and otherwise from its operations. Loan repayments are
a relatively stable source of funds while deposit inflows and outflows may be
significantly influenced by general interest rates and money market conditions.
On December 31, 1998, 1997 and 1996, the Bank's deposits totaled $107.9 million,
$90.3 million, and $82.3 million, respectively.
The Bank attracts both short-term and long-term deposits from the general
public by offering a variety of accounts and rates. The Bank offers passbook
savings accounts, negotiable order of withdrawal ("NOW") accounts, money market
demand accounts, non-interest-bearing accounts, and fixed interest rate
certificates with varying maturities. At December 31, 1998, 82.0% of the Bank's
deposits, excluding accrued interest payable, consisted of certificate
accounts, 3.6% consisted of passbook savings accounts, 6.5% consisted of NOW
accounts, 5.7% consisted of money market accounts and 2.2% consisted of
noninterest-bearing transaction accounts. Of the certificates of deposit
described above, $23.6 million, or 26.7%, had denominations of $100,000 or
greater. Deposit flows are greatly influenced by economic conditions, the
general level of interest rates, competition, and other factors, including the
restructuring of the thrift industry. The Bank's savings deposits traditionally
have been obtained primarily from its primary market area. The Bank utilizes
traditional marketing methods to attract new customers and savings deposits,
including print, television and radio media advertising and direct mailings.
The Bank does not advertise for deposits outside of its local market area or
utilize the services of deposit brokers.
See Note 5 to the "Notes to Consolidated Financial Statements" in the
Company's 1998 Annual Report to Stockholders.
Borrowings. Borrowings may be used on a short-term basis to compensate
for reductions in the availability of funds from other sources. They may also
be used on a longer term basis for general business purposes. The Bank's
principal source of long-term borrowings are advances from the FHLB of Atlanta.
The FHLB system functions in a reserve credit capacity for savings institutions.
As a member, the Bank is required to own capital stock in the FHLB of Atlanta
and is authorized to apply for advances from the FHLB of Atlanta on the security
of that stock and a floating
10
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lien on certain of its real estate secured loans and other assets. Each credit
program has its own interest rate and range of maturities. Depending on the
program, limitations on the amount of advances are based either on a fixed
percentage of an institution's net worth or on the FHLB of Atlanta's assessment
of the institution's creditworthiness. The Bank had $6.0 million outstanding
borrowings at December 31, 1998.
Subsidiaries
The Company has no subsidiaries other than the Bank. The Bank has no
subsidiaries.
Results of Operations
The Bank's results of operations are dependent primarily on net interest
income, which is the difference between the income earned on its interest-
earning assets, such as loans and investments, and the cost of its interest-
bearing liabilities, consisting primarily of deposits and FHLB advances. Non-
interest income, such as transaction and service fee income, affects the Bank's
operations to a much lesser degree. The Bank's provisions for loan losses and
operating expenses also influence the Bank's net income. The Bank's principal
operating expenses, aside from interest expense, consist of compensation and
employee benefits, office occupancy costs, data processing expenses and federal
deposit insurance premiums. The Bank's results of operations are also
significantly affected by general economic and competitive conditions,
particularly changes in market interest rates, government legislation and
policies concerning monetary and fiscal affairs, housing and financial
institutions and the attendant actions of regulatory authorities.
Market Area
The Bank's primary market area consists of Johnston, Wilson, Wayne and Wake
counties in North Carolina. This area includes a portion of the Raleigh, North
Carolina metropolitan area and areas south and west of Raleigh.
Employment in the Bank's primary market area is diversified among
manufacturing, agricultural, retail and wholesale trade, government, services
and utilities. The economy in the primary market area is affected by the
growth, processing and sale of tobacco products. Legislative, regulatory and
other actions which negatively impact the demand for tobacco products could
negatively impact the Bank's performance.
Competition
The Bank faces strong competition both in attracting deposits and making
real estate and other loans. Its most direct competition for deposits has
historically come from other savings institutions, credit unions and commercial
banks located in its primary market area, including large financial institutions
which have greater financial and marketing resources available to them. The
Bank has also faced additional significant competition for investors' funds from
short-term money market securities and other corporate and government
securities. The ability of the Bank to attract and retain savings deposits
depends on its ability to provide a rate of return, liquidity and risk
comparable to that offered by competing investment opportunities. Based upon
comparative data as of June 30, 1998, the Bank had approximately 9.1% of the
deposits in Johnston County, North Carolina, approximately 1.9% of the deposits
in Wilson County, North Carolina, approximately 1.1% of the deposits in Wayne
County, North Carolina, and less than 1.0% of the deposits in Wake County,
North Carolina.
The Bank experiences strong competition for real estate loans from other
savings institutions, commercial banks, and mortgage banking companies. The
Bank competes for loans primarily through the interest rates and loan fees it
charges and the efficiency and quality of services it provides borrowers.
Competition may increase as a result of the reduction of restrictions on the
interstate operations of financial institutions.
11
<PAGE>
Asset/Liability Management
The Company's asset/liability management, or interest rate risk management,
is focused primarily on evaluating and managing the Company's consolidated net
interest income given various risk criteria. Factors beyond the Company's
control, such as market interest rates and competition, may also have an impact
on the Company's management of interest rate risk.
In the absence of any other factors, the overall yield or return associated
with the Company's earning assets generally will increase from existing levels
when interest rates rise over an extended period of time, and conversely
interest income will decrease when interest rates decrease. In general,
interest expense will increase when interest rates rise over an extended period
of time, and conversely interest expense will decrease when interest rates
decrease. Therefore, by controlling the increases and decreases in its interest
income and interest expense which are brought about by changes in market
interest rates, the Company can influence its net interest income. As a part of
the Company's interest rate risk management policy, the Company calculates an
interest rate "gap". Interest rate "gap" analysis is a common, though
imperfect, measure of interest rate risk, which measures the relative dollar
amounts of interest-earning assets and interest-bearing liabilities which
reprice within a specific time period, either through maturity or rate
adjustment. The "gap" is the difference between the amounts of such assets and
liabilities that are subject to such repricing. A "positive" gap for a given
period means that the amount of interest earning assets maturing or otherwise
repricing within that period exceeds the amount of interest bearing liabilities
maturing or otherwise repricing within the same period. Accordingly, in a
rising interest rate environment, an institution with a positive gap would
generally be expected, absent the effects of other factors, to experience a
higher increase in the yield of its assets relative to the cost of its
liabilities and its income should be positively affected. Conversely, the cost
of funds for an institution with a positive gap would generally be expected to
increase less quickly than the yield on its assets in a falling interest rate
environment and such institution's net interest income should be adversely
affected by falling interest rates. Changes in interest rates generally have
the opposite effect on an institution with a "negative" gap. The Company's
interest rate gap is slightly positive.
A static interest rate "gap" analysis may not be an accurate indicator of
how net interest income will react to changes in interest rates. Income
associated with interest-earning assets and costs associated with interest-
bearing liabilities may not react uniformly to changes in interest rates. In
addition, the magnitude and duration of changes in interest rates may have a
significant impact on net interest income. For example, although certain assets
and liabilities may have similar maturities or periods to repricing, they may
react in different degrees to changes in market interest rates. Interest rates
on certain types of assets and liabilities typically fluctuate in advance of
changes in general market interest rates, while interest rates on other types
may lag behind changes in general market rates. As an example, the indices on
which interest rate changes on most of the Bank's adjustable rate mortgage loans
are based, the Treasury securities index adjusted to a constant one year
maturity and the Treasury securities index adjusted to a constant three year
maturity, tend to lag behind changes in general market rates of interest and,
thus, react more slowly to such changes than does the Bank's actual cost of
funds. In addition, certain assets, such as adjustable rate mortgage loans,
have features (generally referred to as "interest rate caps") which limit
changes in interest rates on a short-term basis and over the life of the asset.
The ability of many borrowers to service their debt may also decrease in the
event of an interest rate increase.
The following table sets forth the amounts of interest-earning assets and
interest-bearing liabilities outstanding at December 31, 1998, which are
projected to reprice or mature in each of the future time periods shown. The
computations were made without using certain common assumptions regarding loan
prepayments and deposit decay rates. Except as stated below, the amounts of
assets and liabilities shown which reprice or mature within a particular period
were determined in accordance with the contractual terms of the assets or
liabilities. In making the computations, all adjustable rate loans were
considered to be due at the end of the next upcoming adjustment period. Fixed
rate loans were considered to reprice at their contractual maturities with no
consideration given to prepayments. Liquid interest-earning investments with no
contractual maturities were assumed to be subject to immediate repricing, while
certain equity securities were assumed to reprice at the most distant repricing
date. Savings accounts, money market deposit
12
<PAGE>
accounts, and negotiable order of withdrawal and other transaction accounts were
assumed to be subject to immediate repricing. Fixed maturity interest-bearing
liabilities were assumed to reprice at their contractual maturities without
consideration for early withdrawals. In addition, the table does not reflect
scheduled principal payments which will be received throughout the lives of the
loans. The interest rate sensitivity of the Company's consolidated assets and
liabilities illustrated in the following table would vary substantially if
different assumptions were used or if actual experience differs from that
indicated by such assumptions.
<TABLE>
<CAPTION>
Term to Repricing at December 31, 1998
---------------------------------------------------
--------
More than
1 Year 1 Year to More than
Or Less 5 Years 5 Years Total
----------- ----------- ----------- -----------
(Dollars in Thousands)
<S> <C> <C> <C> <C>
Interest-earning assets:
Mortgage loans:
Fixed rate $ 1,414 $11,986 $9,862 $ 23,262
Adjustable rate 68,976 - - 68,976
Adjustable home equity loans 9,235 - - 9,235
Other loans 4,221 - - 4,221
------- ------- ------ --------
Total loans 83,846 11,986 9,862 105,694
------- ------- ------ --------
Interest-bearing deposits 11,151 - - 11,151
Investment securities 1,499 4,750 - 6,249
Mortgage-backed securities 1,030 - - 1,030
Total interest-earning assets $97,526 $16,736 $9,862 $124,124
------- ------- ------ --------
Interest-bearing liabilities:
Deposits:
Fixed maturity deposits $75,136 $13,324 $ $ 88,460
NOW accounts 7,005 - - 7,005
Money market deposit accounts 6,151 - - 6,151
Passbook accounts 3,895 - - 3,895
------- ------- ------ --------
Total deposits 92,187 13,324 - 105,511
------- ------- ------ --------
FHLB advances 4,000 2,000 $ - 6,000
------- ------- ------ --------
Total interest-bearing liabilities $96,187 $15,324 $ - $111,511
------- ------- ------ --------
Interest sensitivity gap per period $1,339 $1,412 $9,862
====== ====== ======
Cumulative interest sensitivity gap $1,339 $2,751 $12,613
====== ====== =======
Cumulative gap as a percentage of total 1.08% 2.22% 10.16%
interest-earning assets
Cumulative interest-earning assets as a 101.39% 102.47% 111.31%
percentage of interest-bearing liabilities
</TABLE>
Supervision and Regulation
Bank holding companies and state savings banks are extensively regulated
under both federal and state law. The following is a brief summary of certain
statutes and rules and regulations that affect or will affect the Company and
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<PAGE>
the Bank. This summary is qualified in its entirety by reference to the
particular statute and regulatory provisions referred to below and is not
intended to be an exhaustive description of the statutes or regulations
applicable to the business of the Company and the Bank. Supervision, regulation
and examination of the Company and the Bank by the regulatory agencies are
intended primarily for the protection of depositors rather than shareholders of
the Company.
Regulation of the Company
The Company was organized for the purpose of acquiring and holding all of
the capital stock of the Bank to be issued in the Conversion. As a savings bank
holding company subject to the Bank Holding Company Act of 1956, as amended
("BHCA"), the Company is subject to certain regulations of the Federal Reserve.
Under the BHCA, the Company's activities and those of its subsidiaries are
limited to banking, managing or controlling banks, furnishing services to or
performing services for its subsidiaries or engaging in any other activity which
the Federal Reserve determines to be so closely related to banking or managing
or controlling banks as to be a proper incident thereto. The BHCA prohibits the
Company from acquiring direct or indirect control of more than 5% of the
outstanding voting stock or substantially all of the assets of any bank or
savings bank or merging or consolidating with another bank holding company or
savings bank holding company without prior approval of the Federal Reserve.
Additionally, the BHCA prohibits the Company from engaging in, or acquiring
ownership or control of, more than 5% of the outstanding voting stock of any
company engaged in a nonbanking business unless such business is determined by
the Federal Reserve to be so closely related to banking as to be properly
incident thereto.
Similarly, Federal Reserve approval (or, in certain cases, non-disapproval)
must be obtained prior to any person acquiring control of the Company. Control
is conclusively presumed to exist if, among other things, a person acquires more
than 25% of any class of voting stock of the holding company or controls in any
manner the election of a majority of the directors of the holding company.
Control is presumed to exist if a person acquires more than 10% of any class of
voting stock and the stock is registered under Section 12 of the Exchange Act or
the acquiror will be the largest shareholder after the acquisition.
There are a number of obligations and restrictions imposed on bank holding
companies and their depository institution subsidiaries by law and regulatory
policy that are designed to minimize potential loss to the depositors of such
depository institutions and the FDIC insurance funds in the event the depository
institution becomes in danger of default or in default. For example, to avoid
receivership of an insured depository institution subsidiary, a bank holding
company is required to guarantee the compliance of any insured depository
institution subsidiary that may become "undercapitalized" with the terms of any
capital restoration plan filed by such subsidiary with its appropriate federal
banking agency up to the lesser of (i) an amount equal to 5% of the
institution's total assets at the time the institution became undercapitalized
or (ii) the amount which is necessary (or would have been necessary) to bring
the institution into compliance with all capital standards as of the time the
institution fails to comply with such capital restoration plan. Under a policy
of the Federal Reserve with respect to bank holding company operations, a bank
holding company is required to serve as a source of financial strength to its
subsidiary depository institutions and to commit resources to support such
institutions in circumstances where it might not do so absent such policy. The
Federal Reserve under the BHCA also has the authority to require a bank holding
company to terminate any activity or to relinquish control of a nonbank
subsidiary (other than a nonbank subsidiary of a bank) upon the Federal
Reserve's determination that such activity or control constitutes a serious risk
to the financial soundness and stability of any bank subsidiary of the bank
holding company.
In addition, insured depository institutions under common control are
required to reimburse the FDIC for any loss suffered by either the Savings
Association Insurance Fund ("SAIF") or the Bank Insurance Fund ("BIF") as a
result of the default of a commonly controlled insured depository institution or
for any assistance provided by the FDIC to a commonly controlled insured
depository institution in danger of default. The FDIC may decline to enforce
the
14
<PAGE>
cross-guarantee provisions if it determines that a waiver is in the best
interest of the SAIF or the BIF or both. The FDIC's claim for damages is
superior to claims of stockholders of the insured depository institution or its
holding company but is subordinate to claims of depositors, secured creditors
and holders of subordinated debt (other than affiliates) of the commonly
controlled insured depository institutions.
Federal regulations require that the Company must notify the Federal
Reserve Bank of Richmond prior to repurchasing Common Stock in excess of ten
percent of its net worth during a rolling twelve month period.
As a result of the Company's ownership of the Bank, the Company is
registered under the savings bank holding company laws of North Carolina.
Accordingly, the Company is also subject to regulation and supervision by the
Administrator.
Capital Adequacy Guidelines for Holding Companies. The Federal Reserve has
adopted capital adequacy guidelines for bank holding companies and banks that
are members of the Federal Reserve system and have consolidated assets of $150
million or more. For bank holding companies with less than $150 million in
consolidated assets, the guidelines are applied on a bank-only basis unless the
parent bank holding company (i) is engaged in nonbank activity involving
significant leverage or (ii) has a significant amount of outstanding debt that
is held by the general public. The Company is not subject to the Federal
Reserve's capital adequacy guidelines.
Bank holding companies subject to the Federal Reserve's capital adequacy
guidelines are required to comply with the Federal Reserve's risk-based capital
guidelines. Under these regulations, the minimum ratio of total capital to risk-
weighted assets (including certain off-balance sheet activities, such as standby
letters of credit) is 8%. At least half of the total capital is required to be
"Tier I capital," principally consisting of common stockholders' equity,
noncumulative perpetual preferred stock, and a limited amount of cumulative
perpetual preferred stock, less certain goodwill items. The remainder ("Tier II
capital") may consist of a limited amount of subordinated debt, certain hybrid
capital instruments and other debt securities, perpetual preferred stock, and a
limited amount of the general loan loss allowance. In addition to the risk-
based capital guidelines, the Federal Reserve has adopted a minimum Tier I
capital (leverage) ratio, under which a bank holding company must maintain a
minimum level of Tier I capital to average total consolidated assets of at least
3% in the case of a bank holding company which has the highest regulatory
examination rating and is not contemplating significant growth or expansion.
All other bank holding companies are expected to maintain a Tier I capital
(leverage) ratio of at least 1% to 2% above the stated minimum.
Repurchase Limitations. The Company must obtain Federal Reserve approval
prior to repurchasing Common Stock for in excess of 10% of its net worth during
any twelve-month period unless the Company (i) both before and after the
redemption satisfies capital requirements for "well capitalized" state member
banks; (ii) received a one or two rating in its last examination; and (iii) is
not the subject of any unresolved supervisory issues.
Although the payment of dividends and repurchase of stock by the Company
are subject to certain notice requirements with the Administrator in addition to
other requirements and limitations of North Carolina corporate law, except as
set forth in this paragraph, neither the Administrator nor the FDIC have
promulgated any regulations specifically limiting the right of the Company to
pay dividends and repurchase shares. However, the ability of the Company to pay
dividends or repurchase shares may be dependent upon the Company's receipt of
dividends from the Bank. The Bank's ability to pay dividends is limited. See "
- -- Regulation of the Bank -- Restrictions on Dividends and Other Capital
Distributions."
Capital Maintenance Agreement. In connection with the Administrator's
approval of the Company's application to acquire control of the Bank, the
Company was required to execute a Capital Maintenance Agreement whereby it has
agreed to maintain the Bank's capital in an amount sufficient to enable the Bank
to satisfy all regulatory capital requirements.
15
<PAGE>
Federal Securities Law. The Company has registered its Common Stock with
the SEC pursuant to Section 12(g) of the Exchange Act. As a result of such
registration, the proxy and tender offer rules, insider trading reporting
requirements, annual and periodic reporting and other requirements of the
Exchange Act are applicable to the Company.
Regulation of the Bank
Federal and state legislation and regulation have significantly affected
the operations of federally insured savings institutions and other federally
regulated financial institutions in the past several years and have increased
competition among savings institutions, commercial banks and other providers of
financial services. In addition, federal legislation has imposed new
limitations on investment authority, and higher insurance and examination
assessments on savings institutions and has made other changes that may
adversely affect the future operations and competitiveness of savings
institutions with other financial institutions, including commercial banks and
their holding companies. The operations of regulated depository institutions,
including the Bank, will continue to be subject to changes in applicable
statutes and regulations from time to time.
The Bank is a North Carolina-chartered savings bank, is a member of the
FHLB system, and its deposits are insured by the FDIC through the SAIF. It is
subject to examination and regulation by the FDIC and the Administrator and to
regulations governing such matters as capital standards, mergers, establishment
of branch offices, subsidiary investments and activities, and general investment
authority. Generally, North Carolina state chartered savings banks whose
deposits are issued by the SAIF are subject to restrictions with respect to
activities and investments, transactions with affiliates and loans-to-one
borrower similar to those applicable to SAIF insured savings associations. Such
examination and regulation is intended primarily for the protection of
depositors and the federal deposit insurance funds.
The Bank is subject to various regulations promulgated by the Federal
Reserve including, without limitation, Regulation B (Equal Credit Opportunity),
Regulation D (Reserves), Regulation E (Electronic Fund Transfers), Regulation O
(Loans to Executive Officers, Directors and Principal Shareholders), Regulation
Z (Truth in Lending), Regulation CC (Availability of Funds) and Regulation DD
(Truth in Savings). As holders of loans secured by real property and as owners
of real property, financial institutions, including the Bank, may be subject to
potential liability under various statutes and regulations applicable to
property owners generally, including statutes and regulations relating to the
environmental condition of real property.
The FDIC has extensive enforcement authority over North Carolina-chartered
savings banks, including the Bank. This enforcement authority includes, among
other things, the ability to assess civil money penalties, to issue cease and
desist or removal orders and to initiate injunctive actions. In general, these
enforcement actions may be initiated in response to violations of laws and
regulations and unsafe or unsound practices.
The grounds for appointment of a conservator or receiver for a North
Carolina savings bank on the basis of an institution's financial condition
include: (i) insolvency, in that the assets of the savings bank are less than
its liabilities to depositors and others; (ii) substantial dissipation of assets
or earnings through violations of law or unsafe or unsound practices; (iii)
existence of an unsafe or unsound condition to transact business; (iv)
likelihood that the savings bank will be unable to meet the demands of its
depositors or to pay its obligations in the normal course of business; and (v)
insufficient capital or the incurring or likely incurring of losses that will
deplete substantially all of the institution's capital with no reasonable
prospect of replenishment of capital without federal assistance.
Transactions with Affiliates. Under current federal law, transactions
between the Bank and any affiliate are governed by Sections 23A and 23B of the
Federal Reserve Act. With certain exceptions, an affiliate of the Bank is any
company or entity that controls, is controlled by or is under common control
with the savings bank. The Company is an affiliate of the Bank. Generally,
Sections 23A and 23B (i) establish certain collateral requirements for loans to
affiliates, (ii) limit the extent to which the Bank or its subsidiaries may
engage in "covered transactions" with any one affiliate to an amount equal to
10% of such the Bank's capital stock and surplus, and contain an aggregate limit
on all such transactions with all affiliates to an amount equal to 20% of such
capital stock and surplus and (iii) require that all
16
<PAGE>
such transactions be on terms substantially the same, or at least as favorable,
to the Bank or the subsidiary as those provided to a nonaffiliate. The term
"covered transaction" includes the making of loans or other extensions of credit
to an affiliate, the purchase of assets from an affiliate, the purchase of, or
an investment in, the securities of an affiliate, the acceptance of securities
of an affiliate as collateral for a loan or extension of credit to any person,
or issuance of a guarantee, acceptance or letter of credit on behalf of an
affiliate.
Further, current federal law has extended to savings banks the restrictions
contained in Section 22(h) of the Federal Reserve Act and its implementing
regulations with respect to loans to directors, executive officers and principal
stockholders. Under Section 22(h), loans to directors, executive officers and
stockholders who own more than 10% of a savings bank, and certain affiliated
entities of any of the foregoing, may not exceed, together with all other
outstanding loans to such person and affiliated entities, the savings bank's
loans-to-one borrower limit as established by federal law, and all loans to such
persons may not exceed the institution's unimpaired capital and unimpaired
surplus. Section 22(h) also prohibits loans above amounts prescribed by the
appropriate federal banking agency to directors, executive officers and
stockholders who own more than 10% of a savings bank, and their respective
affiliates, unless such loan is approved in advance by a majority of the
disinterested directors of the board of directors of the savings bank and the
Company. Any "interested" director may not participate in the voting. The
Federal Reserve has prescribed the loan amount (which includes all other
outstanding loans to such person), as to which such prior board of director
approval is required, as being the greater of $25,000 or 5% of unimpaired
capital and unimpaired surplus (up to $500,000). Further, pursuant to Section
22(h) the Federal Reserve requires that loans to directors, executive officers,
and principal stockholders be made on terms substantially the same as offered in
comparable transactions to other persons and not involve more than the normal
risk of repayment or present other unfavorable features. Section 22(h) also
generally prohibits a depository institution from paying the overdrafts of any
of its executive officers or directors.
Deposit Insurance. The FDIC administers two separate deposit insurance
funds. The SAIF maintains a fund to insure the deposits of most savings
institutions, and the BIF maintains a fund to insure the deposits of most
commercial banks. The Bank is a member of the SAIF of the FDIC.
The Bank is required to pay assessments to the FDIC based on a percentage
of its insured deposits. Under the FDIC's risk-based deposit insurance
assessment system, the assessment rate for an insured depository institution
depends on the assessment risk classification assigned to the institution by the
FDIC, which is determined by the institution's capital level and supervisory
evaluations. Based on the data reported to regulators for the date closest to
the last day of the seventh month preceding the semi-annual assessment period,
institutions are assigned to one of three capital groups well capitalized,
adequately capitalized or undercapitalized using the same percentage criteria
as in the prompt corrective action regulations. See " Prompt Corrective
Regulatory Action."
Within each capital group, institutions are assigned to one of three
subgroups on the basis of supervisory evaluations by the institution's primary
supervisory authority and such other information as the FDIC determines to be
relevant to the institution's financial condition and the risk posed to the
deposit insurance fund. Subgroup A consists of financially sound institutions
with only a few minor weaknesses. Subgroup B consists of institutions that
demonstrate weaknesses which, if not corrected, could result in significant
deterioration of the institution and increased risk of loss to the deposit
insurance fund. Subgroup C consists of institutions that pose a substantial
probability of loss to the deposit insurance fund unless effective corrective
action is taken.
The assessment rate for SAIF members had ranged from 0.23% of deposits for
well capitalized institutions in Subgroup A to 0.31% of deposits for
undercapitalized institutions in Subgroup C, while assessments for over 90% of
the BIF members had been the statutory minimum of $2,000. However, recently
enacted legislation provided for a one-time assessment equal to 65.7 basis
points times insured deposits as of March 31, 1995. This assessment fully
capitalized the SAIF. Accordingly, although the special assessment resulted in
a $437,000 one-time charge to the Bank
17
<PAGE>
during its fiscal year ended December 31, 1996, the recapitalization of the SAIF
had the effect of reducing the Bank's future deposit insurance premiums to the
SAIF. Under the recently enacted legislation, most BIF members will be assessed
approximately 1.3 basis points while the rate for most SAIF members will be
approximately 6.4 basis points until January 1, 2000. At that time, BIF and
SAIF members will begin pro rata sharing of the payment at an expected rate of
2.43 basis points.
Community Reinvestment Act. The Bank, like other financial institutions,
is subject to the Community Reinvestment Act, as amended ("CRA"). A purpose of
this Act is to encourage financial institutions to help meet the credit needs of
its entire community, including the needs of low- and moderate-income
neighborhoods. A savings bank is evaluated and rated under three categories: a
lending test, an investment test and a service test. For each of these three
tests, the savings bank is given a rating of either "outstanding," "high
satisfactory," "low satisfactory," "needs to improve" or "substantial non-
compliance." A set of criteria for each rating is included in the regulation.
If an institution disagrees with a particular rating, the institution has the
burden of rebutting the presumption by clearly establishing that the
quantitative measures do not accurately present its actual performance, or that
demographics, competitive conditions or economic or legal limitations peculiar
to the service area should be considered. The ratings received under the three
tests are used to determine the overall composite CRA rating of "outstanding,"
"satisfactory," "needs to improve" or "substantial non-compliance."
During the Bank's last compliance examination, which was performed by the
FDIC under the new CRA regulations in April, 1998, the Bank received a
satisfactory rating with respect to CRA compliance. The Bank's rating with
respect to CRA compliance would be a factor to be considered by the Federal
Reserve and FDIC in considering applications submitted by the Bank to acquire
branches or to acquire or combine with other financial institutions and take
other actions and could result in the denial of such applications.
Capital Requirements Applicable To The Bank. The FDIC requires the Bank to
have a minimum leverage ratio of Tier I capital (principally consisting of
common stockholders' equity, noncumulative perpetual preferred stock and
minority interests in consolidated subsidiaries, less certain intangible items,
goodwill items, identified losses and investments in securities subsidiaries) to
total assets of at least 3%; provided, however that all institutions, other than
those (i) receiving the highest rating during the examination process and (ii)
not anticipating or experiencing any significant growth, are required to
maintain a ratio of 1% or 2% above the stated minimum, with an absolute minimum
leverage ratio of not less than 4%. The FDIC also requires the Bank to have a
ratio of total capital to risk-weighted assets, including certain off-balance
sheet activities, such as standby letters of credit, of at least 8%. At least
half of the total capital is required to be Tier I capital. The remainder
("Tier II capital") may consist of a limited amount of subordinated debt,
certain hybrid capital instruments, other debt securities, certain types of
preferred stock and a limited amount of loan loss allowance.
An institution which fails to meet minimum capital requirements may be
subject to a capital directive which is enforceable in the same manner and to
the same extent as a final cease and desist order, and must submit a capital
plan within 60 days to the FDIC. If the leverage ratio falls to 2% or less, the
bank may be deemed to be operating in an unsafe or unsound condition, allowing
the FDIC to take various enforcement actions, including possible termination of
insurance or placement of the institution in receivership. At December 31, 1998,
the Bank had a leverage ratio of 11.1%, which substantially exceeded the other
FDIC capital requirements.
The Administrator requires that net worth equal at least 5% of total
assets. Intangible assets must be deducted from net worth and assets when
computing compliance with this requirement. At December 31, 1998, the Bank
complied with the capital requirement of the Administrator with capital of
11.29%.
Each federal banking agency is required to establish risk-based capital
standards to take adequate account of interest rate risk, concentration of
credit risk, and the risk of nontraditional activities, as well as to reflect
the actual performance and expected risk of loss on multi-family mortgages.
18
<PAGE>
On August 2, 1995, the federal banking agencies issued a joint notice of
adoption of final risk-based capital rules to take account of interest rate
risk. The final regulation required an assessment of the need for additional
capital on a case-by-case basis, considering both the level of measured exposure
and qualitative risk factors. The final rule also stated an intent to, in the
future, establish an explicit minimum capital charge for interest rate risk
based on the level of a bank's measured interest rate risk exposure.
Effective June 26, 1996, the federal banking agencies issued a joint policy
statement announcing the agencies' election not to adopt a standardized measure
and explicit capital charge for interest rate risk at that time. Rather, the
policy statement (i) identifies the main elements of sound interest rate risk
management, (ii) describes prudent principles and practices for each of those
elements, and (iii) describes the critical factors affecting the agencies'
evaluation of a bank's interest rate risk when making a determination of capital
adequacy.
Loans-To-One-Borrower. The Bank is subject to the Administrator's loans-
to-one-borrower limits. Under these limits, no loans and extensions of credit
to any borrower outstanding at one time and not fully secured by readily
marketable collateral shall exceed 15% of the net worth of the savings bank.
Loans and extensions of credit fully secured by readily marketable collateral
may comprise an additional 10% of net worth. These limits also authorize
savings banks to make loans to one borrower, for any purpose, in an amount not
to exceed $500,000. A savings bank also is authorized to make loans to one
borrower to develop domestic residential housing units, not to exceed the lesser
of $30 million or 30% of the savings bank's net worth, provided that the
purchase price of each single-family dwelling in the development does not exceed
$500,000 and the aggregate amount of loans made under this authority does not
exceed 150% of net worth. These limits also authorize a savings bank to make
loans to one borrower to finance the sale of real property acquired in
satisfaction of debts in an amount up to 50% of net worth.
As of December 31, 1998, the largest aggregate amount of loans which the
Bank had to any one borrower was $1,923,614. The Bank had no loans outstanding
which management believes violate the applicable loans-to-one-borrower limits.
The Bank does not believe that the loans-to-one-borrower limits will have a
significant impact on its business, operations and earnings.
Federal Home Loan Bank System. The FHLB system provides a central credit
facility for member institutions. As a member of the FHLB of Atlanta, the Bank
is required to own capital stock in the FHLB of Atlanta in an amount at least
equal to the greater of 1% of the aggregate principal amount of its unpaid
residential mortgage loans, home purchase contracts and similar obligations at
the end of each calendar year, or 5% of its outstanding advances (borrowings)
from the FHLB of Atlanta. On December 31, 1998, the Bank was in compliance with
this requirement with an investment in FHLB of Atlanta stock of $879,500.
Each FHLB is required to contribute at least 10% of its reserves and
undivided profits to fund the principal and a portion of the interest on certain
bonds and certain other obligations which are used to fund the resolution of
troubled savings association cases, and to transfer a percentage of its annual
net earnings to the Affordable Housing Program. These contributions continue to
reduce the FHLB of Atlanta's earnings and the Bank's dividends on its FHLB of
Atlanta stock.
Federal Reserve System. Federal Reserve regulations require savings banks,
not otherwise exempt from the regulations, to maintain reserves against their
transaction accounts (primarily negotiable order of withdrawal accounts) and
certain nonpersonal time deposits. The reserve requirements are subject to
adjustment by the Federal Reserve. As of December 31, 1998, the Bank was in
compliance with the applicable reserve requirements of the Federal Reserve.
[Confirm.]
Restrictions on Acquisitions. Federal law generally provides that no
"person," acting directly or indirectly or through or in concert with one or
more other persons, may acquire "control," as that term is defined in FDIC
regulations, of a state savings bank without giving at least 60 days' written
notice to the FDIC and providing the FDIC an opportunity to disapprove the
proposed acquisition. Pursuant to regulations governing acquisitions of
control, control
19
<PAGE>
of an insured institution is conclusively deemed to have been acquired as a
result of, among other things, the acquisition of more than 25% of any class of
voting stock. In addition, control is presumed to have been acquired, subject to
rebuttal, upon the acquisition of more than 10% of any class of voting stock.
Such acquisitions of control may be disapproved if it is determined, among other
things, that (i) the acquisition would substantially lessen competition; (ii)
the financial condition of the acquiring person might jeopardize the financial
stability of the savings bank or prejudice the interests of its depositors; or
(iii) the competency, experience or integrity of the acquiring person or the
proposed management personnel indicates that it would not be in the interest of
the depositors or the public to permit the acquisitions of control by such
person.
Liquidity. The Bank is subject to the Administrator's requirement that the
ratio of liquid assets to total assets equal at least 10%. The computation of
liquidity under North Carolina regulation allows the inclusion of mortgage-
backed securities and investments which, in the judgment of the Administrator,
have a readily marketable value, including investments with maturities in excess
of five years. On December 31, 1998, the Bank's liquidity ratio, calculated in
accordance with North Carolina regulations, was approximately 14.0%.
Additional Limitations on Activities. FDIC law and regulations generally
provide that the Bank may not engage as principal in any type of activity, or in
any activity in an amount, not permitted for national banks, or directly acquire
or retain any equity investment of a type or in an amount not permitted for
national banks. The FDIC has authority to grant exceptions from these
prohibitions (other than with respect to non-service corporation equity
investments) if it determines no significant risk to the insurance fund is posed
by the amount of the investment or the activity to be engaged in and if the Bank
is and continues to be in compliance with capital standards. National banks are
generally not permitted to hold equity investments other than shares of service
corporations and certain federal agency securities. Moreover, service
corporations of savings banks are permitted to engage only in those activities
which are permitted for service corporations of national banks.
Savings banks are also generally prohibited from directly or indirectly
acquiring or retaining any corporate debt security that is not of investment
grade (generally referred to as "junk bonds"). State savings banks are also
required to notify the FDIC at least 30 days prior to the establishment or
acquisition of any subsidiary, or at least 30 days prior to conducting any such
new activity. Any such activities must be conducted in accordance with the
regulations and orders of the FDIC and the Administrator.
Prompt Corrective Regulatory Action. Federal law provides the federal
banking agencies with broad powers to take corrective action to resolve problems
of insured depository institutions. The extent of these powers depends upon
whether the institutions in question are "well capitalized," "adequately
capitalized," "undercapitalized," "significantly undercapitalized," or
"critically undercapitalized." Under the FDIC regulations applicable to the
Bank, an institution is considered "well capitalized" if it has (i) a total
risk-based capital ratio of 10% or greater, (ii) a Tier I risk-based capital
ratio of 6% or greater, (iii) a leverage ratio of 5% or greater and (iv) is not
subject to any order or written directive to meet and maintain a specific
capital level for any capital measure. An "adequately capitalized" institution
is defined as one that has (i) a total risk-based capital ratio of 8% or
greater, (ii) a Tier I risk-based capital ratio of 4% or greater and (iii) a
leverage ratio of 4% or greater (or 3% or greater in the case of an institution
with the highest examination rating and which is not experiencing or
anticipating significant growth). An institution is considered (A)
"undercapitalized" if it has (i) a total risk-based capital ratio of less than
8%, (ii) a Tier I risk-based capital ratio of less than 4% or (iii) a leverage
ratio of less than 4% (or 3% in the case of an institution with the highest
examination rating and which is not experiencing or anticipating significant
growth); (B) "significantly undercapitalized" if the institution has (i) a total
risk-based capital ratio of less than 6%, or (ii) a Tier I risk-based capital
ratio of less than 3% or (iii) a leverage ratio of less than 3% and (C)
"critically undercapitalized" if the institution has a ratio of tangible equity
to total assets equal to or less than 2%. As of December 31, 1998, the most
recent notification received by the Bank from the FDIC categorized the Bank as
well-capitalized.
20
<PAGE>
Interstate Banking. The Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994 (the "Interstate Banking Act"), permits adequately
capitalized bank and savings bank holding companies to acquire control of banks
and savings banks in any state.
Such interstate acquisitions are subject to certain restrictions. States
may require the bank or savings bank being acquired to have been in existence
for a certain length of time but not in excess of five years. In addition, no
bank or saving bank may acquire more than 10% of the insured deposits in the
United States or more than 30% of the insured deposits in any one state, unless
the state has specifically legislated a higher deposit cap. States are free to
legislate stricter deposit caps.
The Interstate Banking Act also provides for interstate branching,
effective June 1, 1997, allowing interstate branching in all states, provided
that a particular state has not specifically denied interstate branching by
legislation prior to such time. Unlike interstate acquisitions, a state could
deny interstate branching if it specifically elected to do so by June 1, 1997.
States were allowed to choose to permit interstate branching prior to June 1,
1997 by opting-in to a group of states that permits these transactions. These
states generally allow interstate branching via a merger of an out-of-state bank
with an in-state bank, or on a de novo basis. North Carolina enacted
legislation permitting interstate branching transactions prior to June 1, 1997
and did not adopt legislation electing to deny interstate branching.
It is anticipated that the Interstate Banking Act will increase competition
within the markets in which the Bank now operates, although the extent to which
such competition will increase in such markets or the timing of such increase
cannot be predicted.
Restrictions on Dividends and Other Capital Distributions. A North
Carolina-chartered stock savings bank may not declare or pay a cash dividend on,
or repurchase any of, its capital stock if the effect of such transaction would
be to reduce the net worth of the institution to an amount which is less than
the minimum amount required by applicable federal and state regulations.
In addition, the Bank is not permitted to declare or pay a cash dividend on
or repurchase any of its capital stock if the effect thereof would be to cause
its net worth to be reduced below the amount required for the liquidation
account established in connection with the Bank's conversion from mutual to
stock ownership.
Other North Carolina Regulations. As a North Carolina-chartered savings
bank, the Bank derives its authority from, and is regulated by, the
Administrator. The Administrator has the right to promulgate rules and
regulations necessary for the supervision and regulation of North Carolina
savings banks under his jurisdiction and for the protection of the public
investing in such institutions. The regulatory authority of the Administrator
includes, but is not limited to, the establishment of reserve requirements; the
regulation of the payment of dividends; the regulation of stock repurchases; the
regulation of incorporators, stockholders, directors, officers and employees;
the establishment of permitted types of withdrawable accounts and types of
contracts for savings programs, loans and investments; and the regulation of the
conduct and management of savings banks, chartering and branching of
institutions, mergers, conversions and conflicts of interest. North Carolina
law requires that the Bank maintain federal deposit insurance as a condition of
doing business.
The Administrator conducts regular examinations of North Carolina-chartered
savings banks. The purpose of such examinations is to assure that institutions
are being operated in compliance with applicable North Carolina law and
regulations and in a safe and sound manner. These examinations are usually
conducted on a joint basis with the FDIC. In addition, the Administrator is
required to conduct an examination of any institution when he has good reason to
believe that the standing and responsibility of the institution is of doubtful
character or when he otherwise deems it prudent. The Administrator is empowered
to order the revocation of the license of an institution if he finds that it has
21
<PAGE>
violated or is in violation of any North Carolina law or regulation and that
revocation is necessary in order to preserve the assets of the institution and
protect the interests of its depositors. The Administrator has the power to
issue cease and desist orders if any person or institution is engaging in, or
has engaged in, any unsafe or unsound practice or unfair and discriminatory
practice in the conduct of its business or in violation of any other law, rule
or regulation.
A North Carolina-chartered savings bank must maintain net worth, computed
in accordance with the Administrator's requirements, of 5% of total assets and
liquidity of 10% of total assets, as discussed above. Additionally, a North
Carolina-chartered savings bank is required to maintain general valuation
allowances and specific loss reserves in the same amounts as required by the
FDIC.
Subject to limitation by the Administrator, North Carolina-chartered
savings banks may make any loan or investment or engage in any activity which is
permitted to federally chartered institutions. However, a North Carolina-
chartered savings bank cannot invest more than 15% of its total assets in
business, commercial, corporate and agricultural loans. In addition to such
lending authority, North Carolina-chartered savings banks are authorized to
invest funds, in excess of loan demand, in certain statutorily permitted
investments, including but not limited to (i) obligations of the United States,
or those guaranteed by it; (ii) obligations of the State of North Carolina;
(iii) bank demand or time deposits; (iv) stock or obligations of the federal
deposit insurance fund or a FHLB; (v) savings accounts of any savings
institution as approved by the board of directors; and (vi) stock or obligations
of any agency of the State of North Carolina or of the United States or of any
corporation doing business in North Carolina whose principal business is to make
education loans.
North Carolina law provides a procedure by which savings institutions may
consolidate or merge, subject to approval of the Administrator. The approval is
conditioned upon findings by the Administrator that, among other things, such
merger or consolidation will promote the best interests of the members or
stockholders of the merging institutions. North Carolina law also provides for
simultaneous mergers and conversions and for supervisory mergers conducted by
the Administrator.
Future Requirements. Statutes and regulations are regularly introduced
which contain wide-ranging proposals for altering the structures, operations and
competitive relationships of financial institutions. It cannot be predicted
whether or what form any proposed statute or regulation will be adopted or the
extent to which the business of the Company and the Bank may be affected by such
statute or regulation.
ITEM 2. PROPERTIES
At December 31, 1998, the Company conducted its business from the Bank's
headquarters office and a branch office in Kenly, North Carolina, and its branch
offices in Selma, Goldsboro, Wilson and Garner, North Carolina. In addition,
the Bank had loan origination offices in Clayton and Knightdale, North Carolina.
The following table sets forth certain information regarding the Company's
properties as of December 31, 1998. See Note 4 to the Company's Consolidated
Financial Statements included in the 1998 Annual Report which is incorporated
herein by reference.
22
<PAGE>
Net Book Value
Address of Property
------- ---------------
Kenly
Corporate offices:
207 West Second Street
Kenly, North Carolina 27542
$272,847
Branch facility:
200 North Church Street
Kenly, North Carolina 27542 $555,364
Selma
115 West Anderson Street
Selma, North Carolina 27576 $84,949
Wilson
206 N. Ward Boulevard
Wilson, North Carolina 27893 $463,105
Clayton
11440 Highway 70 West
Clayton, North Carolina 27520 (Leased)
Goldsboro
1112 E. Ashe Street
Goldsboro, North Carolina 27530 $226,102
Garner
920 7th Avenue
Garner, North Carolina 27529 (Leased)
$1,602,277
==========
The total net book value of the Company's furniture and equipment on December
31, 1998 was $536,521.
ITEM 3. LEGAL PROCEEDINGS
In the opinion of management, neither the Company nor the Bank is involved
in any pending legal proceedings other than routine, non-material proceedings
occurring in the ordinary course of business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of the Company's stockholders during the
quarter ended December 31, 1998.
23
<PAGE>
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
See the information under the section captioned "Common Stock" on pages 37
and 38 in the Company's 1998 Annual Report, which section is incorporated herein
by reference. See "Item 1. BUSINESS--Regulation of the Bank--Restrictions on
Dividends and Other Capital Distributions" above for regulatory restrictions
which limit the ability of the Bank to pay dividends to the Company.
ITEM 6. SELECTED FINANCIAL DATA
The information required by this Item is set forth in the table captioned
"Selected Financial Data" on page 1 of the Company's 1998 Annual Report which is
incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
See the information set forth under Item 1 above and the information set
forth under the section captioned "Management's Discussion and Analysis" on
pages 3 through 11 in the Company's 1998 Annual Report, which section is
incorporated herein by reference.
ITEM 7A QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Pages 4 and 5 of the Company's 1998 Annual Report to Stockholders are
herein incorporated by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company and supplementary data
set forth on pages 12 through 36 of the Company's 1998 Annual Report are
incorporated herein by reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not Applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item regarding directors and executive
officers of the Company is set forth under the sections captioned "Proposal 1 -
Election of Directors - Nominees and Continuing Directors" on page 9 of the
Proxy Statement for the 1999 Annual Meeting of Stockholders (the "Proxy
Statement") and "Proposal 1 - Election of Directors - Executive Officers" on
page 13 of the Proxy Statement, which sections are incorporated herein by
reference.
24
<PAGE>
The information required by this Item regarding compliance with Section
16(a) of the Securities Exchange Act of 1934 is set forth under the section
captioned "Section 16(a) Beneficial Ownership Reporting Compliance" set forth on
page 7 of the Proxy Statement, which is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is set forth under the sections
captioned "Proposal 1 - Election of Directors - Directors' Compensation" on
pages 11 and 12 and " - "Management Compensation" on pages 13 through 21 of the
Proxy Statement, which sections are incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is incorporated by reference from the
section captioned "Security Ownership of Certain Beneficial Owners" on pages 3
through 7 of the Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
See the section captioned "Proposal 1 - Election of Directors - Certain
Indebtedness and Transactions of Management" on page 22 of the Proxy Statement,
which section is incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
14(a)1 Consolidated Financial Statements (contained in the Bank's 1998 Annual
Report attached hereto as Exhibit (13) and incorporated herein by
reference)
(a) Independent Auditors' Report
(b) Consolidated Statements of Financial Condition -- December 31,
1998 and 1997
(c) Consolidated Statements of Income -- Years Ended December 31,
1998, 1997 and 1996
(d) Consolidated Statements of Stockholder's Equity -- Years Ended
December 31, 1998, 1997 and 1996
(e) Consolidated Statements of Cash Flows -- Years Ended December 31,
1998, 1997 and 1996
(f) Notes to Consolidated Financial Statements
14(a)2 Financial Statement Schedules
All schedules have been omitted as the required information is either
inapplicable or included in the Notes to Consolidated Financial
Statements.
25
<PAGE>
14(a)3 Exhibits
A listing of the exhibits to this Report on Form 10-K is set forth on
the Index to Exhibits which immediately precedes such exhibits and is
incorporated herein by reference.
14(b) The Company filed no reports on Form 8-K during the last quarter of the
fiscal year ended December 31, 1998.
26
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
KS BANCORP, INC.
Date: March 25, 1999 By: /s/ Harold T. Keen
-----------------------------------
Harold T. Keen
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated:
Signature Title Date
--------- ----- ----
/s/ Harold T. Keen
- --------------------------- President and Chief Executive March 25, 1999
Harold T. Keen Officer and Director
/s/ Helen B. Pollock
- --------------------------- Treasurer (Principal Financial March 25, 1999
Helen B. Pollock Officer)
/s/ A. Carroll Coleman Director March 25, 1999
- ---------------------------
A. Carroll Coleman
/s/ Robert E. Fields Director March 25, 1999
- ---------------------------
Robert E. Fields
/s/ R. Harold Hinnant Director March 25, 1999
- ---------------------------
R. Harold Hinnant
/s/ James C. Parker Director March 25, 1999
- ---------------------------
James C. Parker
/s/ R. Elton Parrish Director March 25, 1999
- ---------------------------
R. Elton Parrish
/s/ Ralph Edward Scott, Jr. Director March 25, 1999
- ---------------------------
Ralph Edward Scott, Jr.
/s/ H. Elwin Watson Director March 25, 1999
- ---------------------------
H. Elwin Watson
/s/ James C. Woodard Director March 25, 1999
- ---------------------------
James C. Woodard
27
<PAGE>
INDEX TO EXHIBITS
Exhibit No. Description
- ----------- -----------
Exhibit (3)(i) Certificate of Incorporation, incorporated herein by reference
to Exhibit 3.1 to the Registration Statement on Form S-1,
Registration No. 33-69522, dated September 25, 1993, and
amended on November 3, 1993
Exhibit (3)(ii) Bylaws, incorporated herein by reference to Exhibit 3.2 to
the Registration Statement on Form S-1, Registration No. 33-
69522, dated September 25, 1993, and amended on November 3,
1993
(4) Specimen Stock Certificate, incorporated by reference to
Exhibit 4.1 to the Registration Statement on Form S-1,
Registration No. 33-69522, dated September 25, 1993, and
amended on November 3, 1993
(13) 1998 Annual Report to Stockholders (excluding p.2, the Report
to Stockholders)
(21) Subsidiaries of the Registrant
(23) Consent of McGladrey & Pullen, LLP
(27) Financial Data Schedule
28
<PAGE>
KS Bancorp, Inc.
----------------
A Holding Company for KS Bank
1998
ANNUAL REPORT
<PAGE>
- --------------------------------------------------------------------------------
KS BANCORP, INC. AND SUBSIDIARY
CONTENTS
<TABLE>
<S> <C>
SELECTED FINANCIAL DATA ..................................................................................... 1
REPORT TO STOCKHOLDERS ...................................................................................... 2
MANAGEMENT'S DISCUSSION AND ANALYSIS ........................................................................ 3-11
INDEPENDENT AUDITOR'S REPORT ................................................................................ 12
CONSOLIDATED FINANCIAL STATEMENTS
Financial condition at December 31, 1998 and 1997 .................................................... 13
Income for years ended December 31, 1998, 1997 and 1996 .............................................. 14
Stockholders'equity for years ended December 31, 1998, 1997 and 1996 ................................. 15
Cash flows for the years ended December 31, 1998, 1997 and 1996 ...................................... 16-17
Notes to the consolidated financial statements ....................................................... 18-36
COMMON STOCK INFORMATION .................................................................................... 37
CORPORATE INFORMATION ....................................................................................... 38-39
</TABLE>
<PAGE>
- --------------------------------------------------------------------------------
SELECTED FINANCIAL DATA KS BANCORP, INC. AND SUBSIDIARY
<TABLE>
<CAPTION>
December 31,
---------------------------------------------------------------------------------
1998 1997 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------
(In Thousands, Except Per Share Amounts)
<S> <C> <C> <C> <C> <C>
Financial Condition Data:
Total assets $ 130,892 $ 113,978 $ 100,840 $ 88,274 $ 82,310
Investments (1) 21,151 15,104 16,051 15,732 16,820
Loans receivable, net 105,335 95,002 81,511 70,099 63,745
Deposits 107,934 90,314 82,346 70,738 66,363
Advances from the FHLB 6,000 8,000 4,000 3,000 1,000
Stockholders' equity 15,716 14,606 13,721 13,864 14,533
Book value per
common share (3) 17.69 16.50 15.52 15.22 14.36
<CAPTION>
Years Ended December 31,
---------------------------------------------------------------------------------
1998 1997 1996 1995 1994
---------------------------------------------------------------------------------
(Dollars in Thousands, Except Per Share Amounts)
<S> <C> <C> <C> <C> <C>
Operating Data:
Interest income $ 10,149 $ 8,731 $ 7,537 $ 6,843 $ 6,160
Interest expense 5,692 4,653 4,012 3,501 2,735
---------------------------------------------------------------------------------
Net interest income $ 4,457 $ 4,078 $ 3,525 $ 3,342 $ 3,425
Provision for loan losses $ 34 $ 24 $ 69 $ 10 $ 22
Other income 241 158 201 92 64
Other expense (2) 2,663 2,240 2,329 1,747 1,485
---------------------------------------------------------------------------------
Income before income taxes $ 2,001 $ 1,972 $ 1,328 $ 1,677 $ 1,982
Income tax expense 743 751 503 625 726
---------------------------------------------------------------------------------
Net income $ 1,258 $ 1,221 $ 825 $ 1,052 $ 1,256
=================================================================================
Selected Other Data:
Basic earnings per share (2) (3) $ 1.46 $ 1.43 $ 0.97 $ 1.13 $ 1.23
Diluted earnings per share (2) (3) $ 1.32 $ 1.30 $ .89 $ 1.06 $ 1.18
Dividends per common share (3) $ 0.80 $ 0.83 $ 0.90 $ 0.75 $ 0.19
Dividend payout ratio 61% 64% 100% 71% 16%
Return on average assets (2) .96% 1.15% .88% 1.22% 1.51%
Return on average equity (2) 8.08% 8.33% 6.01% 7.29% 8.66%
Average equity to average assets 11.87% 13.76% 14.63% 16.70% 17.40%
</TABLE>
(1) Includes interest-bearing deposits, time deposits and investment
securities.
(2) Includes nonrecurring deposit insurance premium assessment of $436,548
during 1996.
(3) Restated for 4 for 3 stock split occurring during 1997.
1
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC. AND SUBSIDIARY
General
KS Bancorp, Inc. (KS Bancorp or the Company) is a savings bank holding company
which owns all of the common stock of KS Bank, Inc., a North Carolina-chartered
capital stock savings bank. On January 1, 1999, Kenly Savings Bank, Inc., SSB
changed its name to KS Bank, Inc. (the Bank). KS Bancorp's principal business
activities consist solely of the ownership of the Bank, a loan to the Bank's
Employee Stock Ownership Plan ("ESOP") for its purchase of common stock and the
investment of its portion of the proceeds received from the Bank's mutual to
stock conversion. The principal business of the Bank is accepting deposits from
the general public and using those deposits and other sources of funds to make
mortgage loans secured by residential real estate located in the Bank's primary
market area of Johnston, Wilson, Wayne and Wake counties.
The Bank's results of operations depend primarily on its net interest income,
which is the difference between interest income from interest-earning assets and
interest expense on interest-bearing liabilities. The Bank's operations are
also affected by noninterest income, such as miscellaneous income from loans,
customer deposit account service charges, and other sources of revenue. The
Bank's principal operating expenses, aside from interest expense, consist of
compensation and employee benefits, federal deposit insurance premiums, office
occupancy costs, data processing expenses and other general and administrative
expenses.
The following discussion and analysis is intended to assist readers in
understanding the results of operations in 1998, 1997 and 1996, and changes in
financial position for the years ended December 31, 1998 and 1997, respectively.
The discussion contains certain forward-looking statements consisting of
estimates with respect to the financial condition, results of operations and
other business of the Company that are subject to various factors which could
cause actual results to differ materially from those estimates. Factors which
could influence the estimates include changes in the national, regional and
local market conditions, legislative and regulatory conditions, and an adverse
interest rate environment.
Capital Resources and Liquidity
KS Bancorp currently conducts no business other than holding the capital stock
of the Bank and the loan from the ESOP, and investing the portion of the net
proceeds of the conversion retained at the holding company level in order to
provide sufficient funds for future operations, payment of dividends, or
repurchases of its stock. KS Bancorp's primary source of funds, other than
income from its investments, is dividends from the Bank, which are subject to
regulatory restrictions as discussed in Note 13 to the consolidated financial
statements. During 1998 and 1997, the Bank paid dividends of $500,000 and
$300,000 to KS Bancorp as follow-ups to its initial distribution since
converting to stock form of $750,000 made in 1995. KS Bancorp declared and paid
cash dividends of $688,527, $701,901, and $766,155 during 1998, 1997 and 1996,
respectively. Dividends paid by KS Bancorp during 1997 included a special
dividend of $.30 a share paid during the fourth quarter. Although the Company
anticipates that it will continue to declare cash dividends on a regular basis,
the Board of Directors will continue to review its policy on the payment of
dividends on an ongoing basis, and such payment will be subject to future
earnings, cash flows, capital needs, and regulatory restrictions.
KS Bancorp repurchased and retired 20,000 shares of its common stock for a total
cost of approximately $370,000 during 1996, bringing the total amount of common
stock repurchased since the mutual to stock conversion to 145,700 shares for a
total cost of $2.5 million. No additional shares were repurchased during 1998
and 1997.
3
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC.AND SUBSIDIARY
Capital Resources and Liquidity (Continued)
The objective of the Bank's liquidity management is to ensure the availability
of sufficient cash flows to meet all financial commitments and to capitalize on
opportunities for expansion. Liquidity management addresses the Bank's ability
to meet deposit withdrawals either on demand or at contractual maturity, to
repay borrowings as they mature and to make new loans and investments as
opportunities arise.
A significant liquidity source for the Bank is cash provided by operating
activities. These operating activities generated cash of $600,572, $1,470,417,
and $790,028 for the years ended December 31, 1998, 1997 and 1996, respectively.
Historically, in addition to cash provided by operating activities, financing
activities have provided the Bank with sources of funds for asset growth and
liquidity. For the years ended December 31, 1998 and 1997, deposits grew by
$17,620,566 and $7,967,733, respectively. As of December 31, 1998 and 1997, the
Bank had $6,000,000 and $8,000,000 in outstanding borrowings from the Federal
Home Loan Bank ("FHLB") of Atlanta. Such borrowings were used primarily to fund
increasing loan demand. During 1998 and 1997, the Bank used the cash provided by
operations primarily to fund loan demand and to invest in intermediate term
investment securities. In the future, liquidity may be supplemented by loan
sales and securitization programs which the Bank may use to facilitate the
timely liquidation of assets if and when it is deemed desirable. Approximately
$75 million of the Bank's certificates of deposit mature in 1999; however,
management believes that substantially all of these deposits will be renewed.
Cash provided by operating and financing activities is used by the Bank to
originate new loans to customers, to maintain the Bank's and KS Bancorp's
liquid investment portfolios, and to meet short term liquidity requirements.
During 1998, 1997 and 1996, loans outstanding increased by $10,411,030,
$13,578,287, and $11,653,820, respectively. During 1998 and 1997, proceeds from
sales and maturities of investment securities exceeded purchases of such
investments by $975,785 and $455,768, respectively, and were used in part to
fund dividends and loans.
As a North Carolina-chartered savings bank, the Bank is required to maintain
liquid assets equal to at least 10% of total assets. The computation of
liquidity under North Carolina regulation allows for the inclusion of
mortgage-backed securities and other investments with readily marketable values,
including investments with maturities in excess of five years. The Bank's
liquidity ratio on December 31, 1998, as computed under North Carolina
regulations, was approximately 14%. Management believes that the Bank's
liquidity and other sources of funds are adequate to fund all outstanding
commitments and other anticipated cash needs.
Asset/Liability Management
The Bank's asset/liability management, or interest rate risk management, is
focused primarily on evaluating and managing the Bank's net interest income
given various risk criteria. Factors beyond the Bank's control, such as the
effects of changes in market interest rates and competition, may also have an
impact on the management of interest rate risk.
In the absence of other factors, the Bank's overall yield on interest-earning
assets will increase as will its cost of funds on its interest-bearing
liabilities when market rates increase over an extended period of time.
Inversely, the Bank's yields and cost of funds will decrease when market rates
decline. The Bank is able to manage these swings to some extent by attempting to
control the maturities or rate adjustments of its interest-earning assets and
interest-bearing liabilities over given periods of time.
4
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC. AND SUBSIDIARY
The Bank's "gap" is typically described as the difference between the amounts of
such assets and liabilities which reprice within a period of time. The Bank's
cumulative gap during near term periods is generally negative. In a declining
interest rate environment a negative gap, or a situation where the Bank's
interest-bearing liabilities subject to repricing exceed the level of
interest-earning assets which will mature or reprice, would generally be
expected to have a favorable impact on the Bank's net interest income.
Conversely, an increase in general market rates would generally be expected to
adversely affect the Bank's net interest income.
In order to minimize the potential effects of adverse material and prolonged
increases or decreases in market interest rates on the Bank's operations,
management has implemented an asset/liability program designed to reduce the
Bank's interest rate gap. The program primarily emphasizes the origination of
adjustable rate mortgage loans which are held for investment purposes, the
origination of loans which meet secondary market requirements and can therefore
be sold if and when management deems such sales advisable, the investment of
excess cash in short or intermediate term interest-earning assets, and the
solicitation of checking or transaction deposit accounts which are less
sensitive to changes in interest rates and can be repriced rapidly. Conversely,
an increase in general market rates will tend to adversely affect the Bank's
net interest income.
The following Market Risk Analysis table reflects maturities of interest rate
sensitive assets and liabilities over the next five years.
Market Risk Analysis
December 31, 1998
<TABLE>
<CAPTION>
Expected Maturity Date
- -----------------------------------------------------------------------------------------------------------------------------------
Year Ended December 31,
- -----------------------------------------------------------------------------------------------------------------------------------
1999 2000 2001 2002 2003 Thereafter Total Fair Value
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Assets:
Loans-fixed:
Balance $ 1,413,661 $ 7,340,402 $ 887,578 $ 923,315 $ 2,834,795 $ 10,139,900 $ 23,539,651 $ 24,774,185
Interest rate 9.33% 9.37% 9.26% 9.40% 9.04% 9.25% 9.27% -
Loans-variable (1):
Balance 86,599,093 - - - - - 86,599,093 86,599,093
Interest rate 8.02% - - - - - 8.62% -
Investments (2)
Balance 12,649,257 - 1,000,000 2,250,000 1,500,000 1,936,746 19,336,003 21,188,244
Interest rate 5.60% - 6.16% 6.42% 6.32% 6.89% 5.91% -
Liabilities:
Deposits (3):
Balance 17,050,834 - - - - - 17,050,834 17,050,834
Interest rate 2.32% - - - - - 2.32% -
Deposits-certificates:
Balance 75,135,821 10,473,138 2,575,339 275,808 - - 88,460,106 89,020,403
Interest rate 5.41% 5.20% 5.50% 5.51% - - 5.42% -
FHLB advances:
Balance 4,000,000 2,000,000 - - - - 6,000,000 6,020,028
Interest rate 6.30% 5.10% - - - - 5.90% -
</TABLE>
(1) Includes line of credit loans and overdraft protection accounts, which have
no stated maturity
(2) Includes interest-earning deposits and investment securities at carrying
value
(3) Includes passbook accounts and money market accounts
Analysis of Net Interest Income
Net interest income represents the difference between income derived from
interest-earning assets and interest expense incurred on interest-bearing
liabilities. Net interest income is affected by the difference between yields on
interest-earning assets and rates paid on interest-bearing liabilities (interest
rate spread) and the relative amounts of interest-earning assets and
interest-bearing liabilities outstanding during the period.
5
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC. AND SUBSIDIARY
The following table reflects the average yields on assets and average costs of
liabilities for the years ended December 31, 1998, 1997 and 1996. Such average
yields and costs are derived by dividing income or expense by the average
monthly balance of interest-earning assets or interest-bearing liabilities,
respectively, for the periods presented.
<TABLE>
<CAPTION>
Year Ended December 31,
----------------------------------------------------------------------------------------------
1998 1997 1996
Average Average Average
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
----------------------------------------------------------------------------------------------
(Dollars in Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Assets:
Interest-earning assets:
Interest-earning
deposits $ 9,904 $ 522 5.27% $ 2,318 $ 124 5.35% $ 2,031 $ 108 5.32%
Investment securities 10,583 614 5.80% 10,575 596 5.64% 10,814 659 6.09%
Loans receivable (3) 104,048 9,013 8.66% 90,192 8,012 8.88% 77,292 6,770 8.76%
-------- ------ ------- ------ ------- ------
Total interest-earning assets 124,535 $10,149 8.15% 103,085 $ 8,732 8.47% 90,137 $ 7,537 8.36%
------ ------ ------
Non-interest-earning assets 6,578 3,422 3,744
-------- ------- -------
Total $ 131,113 $106,507 $ 93,881
======== ======= =======
Liabilities and equity:
Interest-bearing liabilities:
Deposit accounts $ 103,279 $ 5,257 5.09% $ 85,030 $ 4,276 5.03% $ 75,998 $ 3,807 5.01%
FHLB advances 7,000 435 6.21% 6,333 378 5.97% 3,500 205 5.86%
-------- ------ ------- ------ ------- ------
Total interest-bearing
liabilities 110,279 $ 5,692 5.16% 91,363 $ 4,654 5.09% 79,498 $ 4,012 5.05%
------ ------ ------
Non-interest-bearing
liabilities 5,268 494 644
Equity 15,566 14,650 13,739
-------- ------- -------
Total $ 131,113 $106,507 $ 93,881
======== ======= =======
Net interest income and
interest rate spread (1) $ 4,457 2.99% $ 4,078 3.38% $ 3,525 3.31%
====== ====== ======
Net interest-earning assets
and net interest
margin (2) $ 14,256 3.58% $ 11,722 3.96% $ 10,639 3.91%
======== ======= =======
Ratio of interest-earning
assets to interest-bearing
liabilities 112.93% 112.83% 113.38%
</TABLE>
(1) Interest rate spread represents the difference between the average yield
on interest-earnings assets and the average cost of interest-bearing
liabilities.
(2) Net interest margin represents net interest income divided by average
interest-earning assets.
(3) Includes non-accruing loans, which are considered immaterial for average
balance purposes.
Rate/Volume Analysis
The following table analyzes the dollar amount of changes in interest income and
interest expense for major components of interest-earning assets and
interest-bearing liabilities. The table distinguishes between (i) changes
attributable to volume (changes in volume multiplied by the prior period's
rate), (ii) changes attributable to rate (changes in rate multiplied by the
prior period's volume), (iii) mixed change (changes in rate multiplied by
changes in volume), and (iv) net change (the sum of the previous columns).
6
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC. AND SUBSIDIARY
<TABLE>
<CAPTION>
Year ended December 31, Year ended December 31,
1998 vs. 1997 1997 vs. 1996
---------------------------------------------- ---------------------------------------------
Increase (Decrease) Attributable to Increase (Decrease) Attributable to
---------------------------------------------- ---------------------------------------------
Rate/ Rate/
Volume Rate Volume Net Volume Rate Volume Net
---------------------------------------------- ---------------------------------------------
(In Thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income on:
Interest-earning deposits $ 406 $ (2) $ (6) $ 398 $ 15 $ 1 $ -- $ 16
Investment securities -- 18 -- 18 (15) (50) 1 (64)
Loans receivable 1,231 (199) (31) $ 1,001 1,130 96 16 1,242
---------------------------------------------- ---------------------------------------------
Total interest income on
interest-earning assets $ 1,637 $ (183) $ (37) $ 1,417 $ 1,130 $ 47 $ 17 $ 1,194
---------------------------------------------- ---------------------------------------------
Interest expense on:
Deposit accounts $ 918 $ 52 $ 11 $ 981 $ 452 $ 15 $ 2 $ 469
FHLB advances 40 16 2 58 166 4 3 173
---------------------------------------------- ---------------------------------------------
Total interest expense on
interest-bearing
liabilities $ 958 $ 68 $ 13 $ 1,039 $ 618 $ 19 $ 5 $ 642
---------------------------------------------- ---------------------------------------------
Increase (decrease) in net
interest income$ $ 679 $ (251) $ (50) $ 378 $ 512 $ 28 $ 12 $ 552
============================================== =============================================
</TABLE>
- --------------------------------------------------------------------------------
Comparison of Financial Condition at December 31, 1998 and 1997
Changes in Financial Condition
Total consolidated assets of KS Bancorp increased by approximately $16.9 million
to $130.9 million at December 31, 1998 from $114.0 million at December 31, 1997.
Assets at December 31, 1997 increased by approximately $13.2 million from total
consolidated assets at December 31, 1996. The increases in assets in 1998 and
1997 were primarily attributable to strong loan demand in the Bank's primary
lending markets which was supported by the development and maintenance of
deposits within those markets.
The Bank's asset growth has been fueled in part by a series of facilities
renovations and replacements which has strengthened its presence in several of
its markets. During 1997, Kenly completed renovation of its home office which
now serves as the corporate and accounting headquarters. Continuing the
expansion of recent years, the Bank opened its fifth full service branch in
Garner on December 15, 1997. Also, during 1997, automated teller machines
(ATM's) were placed into service at the Garner and Kenly branch locations.
Loans increased by $10,332,745 and $13,491,350 during 1998 and 1997,
respectively. These increases are attributable to across the board increases in
demand for residential mortgage loans, construction loans and equity line loans
resulting from the expansion of the Bank's lending area and solidification of
its market presence in Clayton, Goldsboro, Wilson and Garner.
Total investments and short-term interest-earning deposits increased by
$6,047,119 during 1998 after having decreased by $946,260 during 1997.
Investments securities and short-term interest-earning deposits amounted to
$21.2 million at December 31, 1998. The increase in 1998 supported the
additional liquidity necessary to maintain a larger deposit base. The decrease
in 1997 was primarily attributable to funding needed to support loan demand and
for dividends to shareholders.
7
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC. AND SUBSIDIARY
Savings deposits increased by $17,620,566 during 1998. The increase resulted
from management's decision to competively price its deposits in relation to
rates being offered in its market areas and was influenced in part by the
Bank's increased loan demand and efforts to establish and solidify its market
position. Savings deposits had increased by $7,967,733 during 1997 for similar
reasons. The Bank had borrowings from the FHLB of Atlanta of $6,000,000 and
$8,000,000 at December 31, 1998 and 1997, respectively. Borrowings were obtained
in order to support the increased loan demand.
Stockholders' equity increased by $1,109,638 during 1998 to $15,715,723 at
December 31, 1998 from $14,606,085 at December 31, 1997. Net income of
$1,258,443 for 1998 was reduced by the payment of $688,527 in cash dividends to
stockholders. Additionally, during 1998 the Company reported an increase in net
unrealized gains, net of tax effect, of approximately $409,195 on its portfolio
of available for sale securities. Net income of $1,221,100 for 1997 was reduced
by the payment of $701,901 in cash dividends to stockholders. Additionally,
during 1997 the Company also reported an increase in net unrealized gains, net
of tax effect, of $262,084 on its portfolio of available for sale securities.
Such gains were not recognized in income in either 1998 or 1997 and are shown as
a separate component of stockholders' equity. At December 31, 1998, the Bank's
capital was substantially in excess of the regulatory levels required by the
FDIC and the North Carolina Administrator.
- --------------------------------------------------------------------------------
Comparison of Operating Results For The Years Ended December 31, 1998, 1997 and
1996
Net Income
KS Bancorp's net income for the years ended December 31, 1998, 1997, and 1996
was $1,258,443, $1,221,100, and $825,317, respectively. Net income during 1998
was positively affected by increases in the interest earning assets. In 1997
there also was an increase in the interest rate spread. Net income in 1996 would
have been approximately $271,000 higher ($.29 a share, diluted) than the
earnings reported excluding the $436,548 special assessment to recapitalize the
Savings Association Insurance Fund (SAIF).
The Bank has begun efforts to increase net income through commercial lending.
The Bank's market area includes an active market for small business lending and
the Bank's management has prior experience in commercial lending. In addition
to increased yield opportunities, the Bank assumes greater risks of default in
commercial loans.
Net Interest Income
Net interest income increased $379,627 or 9.3% during 1998 to $4,457,473 for the
year ended December 31, 1998 from $4,077,846 reported for 1997. Net interest
income in 1997 increased $552,582 or 15.7% from $3,525,264 in net interest
income reported in 1996. During 1998, the Bank's interest rate spread of 2.99%
was a decrease over the spread of 3.38% and 3.31% in 1997 and 1996,
respectively. The decline in 1998 was due to the decline in the average yield on
loans, which is the majority of interest-earning assets. As market rates
remained stable to slightly lower for short-term rates during 1997, the mix and
volume of the Bank's interest-earning assets changed to favor higher yielding
loans receivable, creating a higher average yield on interest-earnings assets.
The interest rate sensitivity of the Bank's deposits was not sufficient to
fully offset the decrease in yield on interest-earning assets in a declining
short-term interest rate environment. Net interest income increased in 1998
primarily due to an increase in loan demand. The average balance of
interest-bearing liabilities increased roughly in proportion to
interest-earnings assets, primarily as a result of increases in deposits and
borrowings from the FHLB of Atlanta needed to fund loan demand.
8
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC. AND SUBSIDIARY
Interest Income
Total interest income increased by $1,417,783 to $10,149,173 for the year ended
December 31, 1998 from $8,731,390 in 1997. The 1998 increase followed an
increase of $1,193,698 for the year ended December 31, 1997 from $7,537,592 in
1996. During 1998 and 1997, the increase in the average balance of
interest-earning assets had a positive impact on interest income. KS Bancorp's
yield on interest-earning assets was 8.15% in 1998 as compared to 8.47% in 1997,
and its balance of average interest-earning assets increased by approximately
$21,437,000 during 1998. In 1997, the yield on interest-earning assets increased
slightly, to 8.47% from 8.36% in 1996. However, the balance of average
interest-earning assets outstanding increased significantly during 1997, by
approximately $12,948,000. During both 1998 and 1997, the growth in interest
earning assets was mostly due to an increase in the Bank's loan portfolio which
typically yields a much higher rate of return than the Bank's other
interest-earning assets.
Interest Expense
Total interest expense increased by $1,038,156 for the year ended December 31,
1998 to $5,691,700 following an increase of $641,116 to $4,653,544 for the year
ended December 31, 1997 from $4,012,428 for the year ended December 31, 1996.
The Bank's average balance of interest-bearing liabilities increased by
approximately $18,916,000, $11,865,000, and $8,916,000 during 1998, 1997, and
1996, respectively. The Bank's cost of funds increased by 7 basis points to
5.16% in 1998 from 5.09% in 1997. The Bank's cost of funds increased by 4 basis
points during 1997 from 5.05% in 1996. During 1998 and 1997, the increase in the
Bank's average interest-bearing liabilities contributed more to the increase in
interest expense than did the modest increase in the cost of funds.
Provision For Loan Losses
The Bank's provision for loan losses amounted to $33,500, $23,500, and $69,000
for 1998, 1997 and 1996, respectively. The provision, which is charged to
operations, and the resulting loan loss allowances are amounts the Bank's
management believes will be adequate to absorb losses on existing loans that may
become uncollectible. Loans are charged off against the allowance when
management believes that collectibility is unlikely. The decision to increase
the provision and resulting allowances is based on several factors, such as
changes in the nature and volume of the loan portfolio, overall portfolio
quality, and current economic conditions.
The Bank's level of nonperforming assets, defined as loans past due 90 days or
more and real estate acquired in foreclosure, have remained at low levels
throughout the three year period and amounted to .22%, .41%, and .34% as a
percentage of total assets at December 31, 1998, 1997 and 1996, respectively.
The larger provision in 1996 was attributable to the overall growth in the
Bank's loan portfolio. The Bank has adopted policies which it believes provide
for prudent and adequate levels of loan loss allowances.
Noninterest Expense
Operating expenses increased by $423,600 to $2,663,408 for the year ended
December 31, 1998 from $2,239,808 incurred in 1997. KS Bancorp's operating
expenses were $2,328,569 in 1996. The increase in 1998 was primarily
attributable to additional data processing expense in preparation for the Year
2000, and additional compensation and employee benefits due to an increase in
the number of employees associated with the Bank's continued expanded
operations. The decrease in 1997 was primarily attributable to a decline in SAIF
insurance premiums as compared to 1996 as a result of the $436,548 special
assessment charged in 1996. The decrease during 1997 was partially offset by an
increase in compensation and employee benefits of $216,972, primarily due to an
increase in the number of employees associated with the Bank's expanded
operations.
9
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC.AND SUBSIDIARY
Income Taxes
Income tax expense amounted to $743,059, $751,223 and $502,389 in 1998, 1997 and
1996, respectively. KS Bancorp's effective income tax rates were 37.1%, 38.1%
and 37.8% for the years ended December 31, 1998, 1997, and 1996, respectively.
Impact of Inflation and Changing Prices
The financial statements and accompanying footnotes 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 consideration for changes in the relative purchasing power of
money over time due to inflation. The assets and liabilities of KS Bancorp are
primarily monetary in nature and changes in interest rates have a greater impact
on KS Bancorp's performance than do the effects of inflation.
Year 2000 Issue
The "Year 2000 Problem" centers on the inability of computer systems to
recognize the Year 2000. Many existing computer programs and systems were
originally programed with six digit dates that provided only two digits to
identify the calendar year in the date field, without considering the upcoming
change in the century. With the impending millennium, these programs and
computers will recognize "00" as the year 1900 rather than the year 2000. Like
most financial service providers, the Bank and its operations may be
significantly affected by the Year 2000 Problem due to the nature of financial
information. Software, hardware, and equipment both within and outside the
Bank's direct control and with whom the Bank electronically or operationally
interfaces (e.g. third party vendors providing data processing, information
system management, maintenance of computer systems, and credit bureau
information) are likely to be affected. Furthermore, if computer systems are not
adequately changed to identify the Year 2000, many computer applications could
fail or create erroneous results. As a result, many calculations which rely on
the date field information, such as interest, payment or due dates and other
operating functions, will generate results which could be significantly
misstated, and the Bank could experience a temporary inability to process
transactions, send invoices or engage in similar normal business activities.
In addition, non-information technology systems, such as telephones and copiers
may also contain embedded technology which controls its operation and which may
be effected by the Year 2000 Problem. When the Year 2000 arrives, systems,
including some of those with embedded chips, may not work properly because of
the way they store date information. They may not be able to deal with the date
01/01/00, and may not be able to deal with operational 'cycles' such as 'do X
every 100 days'. Thus, even non-information technology systems may affect the
normal operations of the Bank upon arrival of the Year 2000.
Under certain circumstances, failure to adequately address the Year 2000 Problem
could adversely affect the viability of the Bank's suppliers and creditors and
the creditworthiness of its borrowers. Thus, if not adequately addressed, the
Year 2000 Problem could result in a significant adverse impact on the Bank's
products, services and competitive condition.
In order to address the Year 2000 Problem and to minimize its potential adverse
impact, management has begun a process to identify areas that will be affected
by the Year 2000 Problem, assess its potential impact on the operations of the
Bank, monitor the progress of third party software vendors in addressing the
matter, test changes provided by these vendors, and develop contingency plans
for any critical systems which are not effectively reprogrammed. A committee of
senior officers of the Bank has been formed to evaluate the effects that the
upcoming Year 2000 could have on computer programs utilized by the Bank.
10
<PAGE>
- --------------------------------------------------------------------------------
MANAGEMENT'S DISCUSSION AND ANALYSIS KS BANCORP, INC. AND SUBSIDIARY
The Bank's plan is divided into the five phases:
(1) Awareness. Define the problem, obtain executive level support and
develop an overall strategy. This phase was completed April 13, 1998.
(2) Assessment. Identify all systems and the criticality of the systems.
This phase was completed April 13, 1998.
(3) Renovation. Program enhancements, hardware and software upgrades,
system replacements, and vendor certifications. This phase is in
process and with a scheduled completion date of December 31, 1998.
(4) Validation. Test and verify system changes and coordinate with
outside parties. This phase is in process with a scheduled completion
date of March 31, 1999.
(5) Implementation. Components certified as Year 2000 compliant and moved
to production. This phase is in process with a scheduled completion
date of June 31, 1999.
Third party vendors provide the majority of software used by the Bank. All of
the Bank's software vendors are aware of the Year 2000 situation, and each has
assured the Bank that it is currently working to have its software compliant by
July 1999, and testing for the critical applications began in April 1998. This
will enable the Bank to devote substantial time to the testing of the upgraded
systems prior to the arrival of the millennium. The Bank utilizes the service of
a third party vendor to provide the software which is used to process and
maintain most mortgage and deposit customer-related accounts. This vendor has
provided the Bank with a software version which has been certified to be Year
2000 compliant. Testing by the Bank is underway to verify compliance for its
application and usage. The Bank presently believes that with modifications to
existing software and conversions to new software, the Year 2000 Problem will be
mitigated without causing a material adverse impact on the operations of the
Bank. However, if such modifications and conversions are not made, or are not
completed in a timely manner, the Year 2000 Problem could have an impact on the
operations of the Bank.
In addition, implementing, monitoring and managing the Year 2000 project will
result in additional direct and indirect costs to the Bank. Direct costs include
potential charges by third party software vendors for product enhancements,
costs involved in testing software products for Year 2000 compliance, and any
resulting costs for developing and implementing contingency plans. Indirect
costs will principally consist of the time devoted by existing employees in
monitoring software vendor progress, testing enhanced software products and
implementing any necessary contingency plans. The Bank has spent approximately
$4,290 on Year 2000 related costs to date and estimates that it will spend an
additional $12,289 for Year 2000 compliance. Both direct and indirect costs of
addressing the Year 2000 Problem will be charged to earnings as incurred. The
Bank does not believe that such costs will have a material effect on results of
operations. However, there can be no guarantee that the systems of other
companies on which the Bank's systems rely will be timely converted, or that a
failure to convert by another company or a conversion that is incompatible with
the Bank's systems, would not have material adverse effect on the Bank.
The costs of the project and the date on which the Bank plans to complete the
Year 2000 modifications are based on management's best estimates, which were
derived utilizing numerous assumptions of future events including the continued
availability of certain resources, third party modification plans and other
factors. However, there can be no guarantee that these estimates will be
achieved and actual results could differ materially from those plans. Specific
factors that might cause such material differences include, but are not limited
to, the availability and cost of personnel trained in this area, the ability to
locate and correct all relevant computer codes, and similar uncertainties.
11
<PAGE>
- --------------------------------------------------------------------------------
INDEPENDENT AUDITOR'S REPORT KS BANCORP, INC. AND SUBSIDIARY
[LOGO OF MCGLADREY AND PULLEN, LLP APPEARS HERE]
TO THE BOARD OF DIRECTORS
KS BANCORP, INC.
KENLY, NORTH CAROLINA
We have audited the accompanying consolidated statements of financial condition
of KS Bancorp, Inc. and subsidiary as of December 31, 1998 and 1997, and the
related consolidated statements of income, stockholders' equity and cash flows
for each of the years in the three year period ended December 31, 1998. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of KS Bancorp, Inc. and subsidiary
as of December 31, 1998 and 1997, and the results of their operations and their
cash flows for each of the years in the three year period ended December 31,
1998, in conformity with generally accepted accounting principles.
/s/ McGladrey & Pullen, LLP
Raleigh, North Carolina
January 22, 1999, except for Note 19, as
to which the date is February 24, 1999.
12
<PAGE>
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION . December 31, 1998 and 1997
<TABLE>
<CAPTION>
ASSETS
1998 1997
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash and cash equivalents:
Interest-earning $ 11,150,780 $ 4,781,687
Non interest-earning 519,761 851,102
Investment securities: (Note 2)
Held to maturity; market value, $1,567,108 ($3,138,248 in 1997) 1,530,015 3,104,261
Available for sale, at market value 7,590,856 6,427,784
FHLB stock and other nonmarketable equity securities 879,500 790,300
Loans receivable, net (Note 3)
Held for investment 105,335,147 95,002,402
Held for sale, at cost, estimated fair value $855,500 855,500 --
Accrued interest receivable 716,796 689,427
Property and equipment, net (Note 4) 2,138,798 2,133,715
Refundable income taxes -- 78,066
Prepaid expenses and other assets 175,327 118,887
---------------------------------------
Total assets $130,892,480 $113,977,631
=======================================
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
<S> <C> <C>
Liabilities:
Deposits (Note 5) $107,934,224 $ 90,313,658
Advances from Federal Home Loan Bank (Note 6) 6,000,000 8,000,000
Accounts payable and accrued expenses 284,295 302,876
Advance payments by borrowers for taxes and insurance 52,341 48,446
Deferred income taxes (Note 8) 905,897 706,566
---------------------------------------
Total liabilities $115,176,757 $ 99,371,546
---------------------------------------
Commitments and contingencies (Notes 9, 11, 12, and 19)
Stockholders' equity (Notes 2, 8, 12, 13, 14, 15 and 19):
Preferred stock, authorized 5,000,000 shares; none issued $ -- $ --
Common stock, no par value, authorized 20,000,000 shares;
issued and outstanding 888,633 shares in 1998 and
885,356 in 1997 -- --
Additional paid-in capital 5,317,502 5,225,975
Unearned ESOP shares 195,000 234,000
Accumulated other comprehensive income 1,125,392 716,197
Retained earnings, substantially restricted 9,467,829 8,897,913
---------------------------------------
Total stockholders'equity $ 15,715,723 $ 14,606,085
---------------------------------------
$130,892,480 $ 113,977,631
=======================================
</TABLE>
See Notes to Consolidated Financial Statements.
13
<PAGE>
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF INCOME . Years Ended December 31, 1998, 1997 and 1996
<TABLE>
<CAPTION>
1998 1997 1996
-------------------------------------------------------
<S> <C> <C> <C>
Interest and dividend income:
Loans $ 9,013,141 $ 8,011,909 $ 6,771,028
Investment securities 537,001 501,115 556,663
Mortgage-backed securities 77,348 94,292 102,089
Interest-bearing deposits 521,683 124,074 107,912
-------------------------------------------------------
Total interest income $ 10,149,173 $ 8,731,390 $ 7,537,692
-------------------------------------------------------
Interest expense:
Deposits (Note 5) $ 5,256,981 $ 4,275,930 $ 3,807,239
Advances from the FHLB 434,719 377,614 205,189
-------------------------------------------------------
Total interest expense $ 5,691,700 $ 4,653,544 $ 4,012,428
-------------------------------------------------------
Net interest income $ 4,457,473 $ 4,077,846 $ 3,525,264
-------------------------------------------------------
Provision for loan losses (Note 3) $ 33,500 $ 23,500 $ 69,000
-------------------------------------------------------
Net interest income after provision for loan losses $ 4,423,973 $ 4,054,346 $ 3,456,264
-------------------------------------------------------
Noninterest income:
Gain (Loss) on sale of investment securities $ -- $ (5,994) $ 16,019
Other income 240,937 163,779 183,992
-------------------------------------------------------
$ 240,937 $ 157,785 $ 200,011
-------------------------------------------------------
Noninterest expense:
Compensation and benefits (Notes 10, 11, 12 and 15) $ 1,549,916 $ 1,340,730 $ 1,123,758
Occupancy 80,261 114,134 86,865
Special SAIF assessment (Note 7) -- -- 436,548
Equipment maintenance and expense 208,822 100,908 72,974
Data processing and outside service fees 246,884 171,347 155,874
Insurance 123,290 103,008 156,236
Other 454,235 409,681 296,314
-------------------------------------------------------
$ 2,663,408 $ 2,239,808 $ 2,328,569
-------------------------------------------------------
Income before income taxes $ 2,001,502 $ 1,972,323 $ 1,327,706
-------------------------------------------------------
Income taxes: (Note 8):
Current $ 794,524 $ 743,608 $ 515,622
Deferred (51,465) 7,615 (13,233)
-------------------------------------------------------
$ 743,059 $ 751,223 $ 502,389
-------------------------------------------------------
Net income $ 1,258,443 $ 1,221,100 $ 825,317
=======================================================
Basic earnings per share $ 1.46 $ 1.43 $ 0.97
=======================================================
Diluted earnings per share $ 1.32 $ 1.30 $ 0.89
=======================================================
Dividends paid per share $ 0.80 $ 0.83 $ 0.90
=======================================================
</TABLE>
See Notes to Consolidated Financial Statements.
14
<PAGE>
<TABLE>
<CAPTION>
- ---------------------------------------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY . Years Ended December 31, 1998, 1997 and 1996
Accumulated
Additional Unearned Other
Paid in Retained ESOP Comprehensive
Capital Earnings Shares Income Total
- -----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance, December 31, 1995 $5,495,371 $8,319,552 $(312,000) $ 360,795 $13,863,718
Comprehensive income:
Net income -- 825,317 -- -- 825,317
Change in unrealized gain (loss) on
securities available for sale, net of taxes -- -- -- 93,318 93,318
-----------
Total comprehensive income 918,635
-----------
Cash dividends paid -- (766,155) -- -- (766,155)
Repurchase of common stock,
20,000 shares (370,000) -- -- -- (370,000)
Compensation 35,841 -- -- -- 35,841
Release of unearned shares -- -- 39,000 -- 39,000
-------------------------------------------------------------------
Balance, December 31, 1996 $5,161,212 $8,378,714 $(273,000) $ 454,113 $13,721,039
Comprehensive income:
Net income -- 1,221,100 -- -- 1,221,100
Change in unrealized gain (loss) on
securities available for sale, net of taxes -- -- -- 262,084 262,084
-----------
Total comprehensive income 1,483,184
-----------
Cash dividends paid -- (701,901) -- -- (701,901)
Compensation 58,663 -- -- -- 58,663
Release of unearned shares -- -- 39,000 -- 39,000
Stock options exercised 8,740 -- -- -- 8,740
Cash payment for fractional shares in
stock split (2,640) -- -- -- (2,640)
-------------------------------------------------------------------
Balance, December 31, 1997 $5,225,975 $8,897,913 $(234,000) $ 716,197 $14,606,085
Comprehensive income:
Net income -- 1,258,443 -- -- 1,258,443
Change in unrealized gain (loss) on
securities available for sale, net of taxes -- -- -- 409,195 409,195
-----------
Total comprehensive income 1,667,638
-----------
Cash dividends paid -- (688,527) -- -- (688,527)
Compensation 66,950 -- -- -- 66,950
Release of unearned shares -- -- 39,000 -- 39,000
Stock options exercised 24,577 -- -- -- 24,577
-------------------------------------------------------------------
Balance, December 31, 1998 $5,317,502 $9,467,829 (195,000) $1,125,392 $15,715,723
===================================================================
</TABLE>
See Notes to Consolidated Financial Statements.
15
<PAGE>
<TABLE>
<CAPTION>
- -----------------------------------------------------------------------------------------------
CONSOLIDATED STATEMENTS OF CASH FLOWS . Years Ended December 31, 1998, 1997 and 1996
1998 1997 1996
---------------------------------------------------------
<S> <C> <C> <C>
Cash Flows From Operating Activities
Net income $ 1,258,443 $ 1,221,100 $ 825,317
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation 175,701 115,685 86,756
Amortization of net premiums (discounts) 2,680 8,720 (8,157)
Deferred income taxes (51,465) 7,615 (13,233)
Provision for losses on loans 33,500 23,500 69,000
(Gains) and losses, net (8,913) 652 (59,065)
Shares allocated to ESOP contribution 105,950 97,663 74,841
Origination of loans held for sale (5,247,200) - -
Proceeds from sale of loans held for sale 4,391,700 - -
Changes in assets and liabilities:
(Increase) decrease in:
Prepaid expenses and other assets (52,940) (20,619) (39,685)
Refundable income taxes 78,066 71,492 (107,775)
Accrued interest receivable (27,369) (130,122) (61,378)
Increase (decrease) in:
Accrued expenses and other liabilities (18,581) 113,731 62,407
---------------------------------------------------------
Net cash provided by operating activities $ 639,572 $ 1,509,417 $ 829,028
---------------------------------------------------------
Cash Flows From Investing Activities
Proceeds from sales or maturity of available
for sale securities $ 2,500,000 $ 3,494,006 $ 2,997,500
Proceeds from maturity of held to maturity securities 1,568,485 777,362 1,264,385
Proceeds from redemption of nonmarketable
equity securities - - 50,688
Purchase of available for sale securities (3,000,000) (3,750,000) (1,496,328)
Purchase of held to maturity securities - - (986,998)
Purchase of nonmarketable equity securities (92,700) (65,600) -
Net change in loans receivable (10,411,030) (13,578,287) (11,653,820)
Proceeds from sale of real estate 53,698 134,204 112,814
Proceeds from sale of property and equipment - 16,750 251,945
Purchase of property and equipment (180,784) (340,068) (758,359)
---------------------------------------------------------
Net cash used in investing activities $ (9,562,331) $ (13,311,633) $ (10,218,173)
---------------------------------------------------------
Cash Flows From Financing Activities
Net increase in deposits $ 17,620,566 $ 7,967,733 $ 11,608,089
Increase (decrease) in advance payments
from borrowers for taxes and insurance 3,895 2,837 (5,967)
Advances from Federal Home Loan Bank 2,000,000 12,000,000 2,000,000
Principal payments for borrowed money (4,000,000) (8,000,000) (1,000,000)
Cash dividends paid (688,527) (701,901) (766,155)
Redemption of common stock - - (370,000)
Payments received on exercised options,
3,277 shares (1,165 in 1997) 24,577 8,740 -
Cash paid in lieu of fractional
shares on stock split - (2,640) -
---------------------------------------------------------
Net cash provided by financing activities $ 14,960,511 $ 11,274,769 $ 11,465,967
---------------------------------------------------------
Net increase (decrease) in cash and
cash equivalents 6,037,752 (527,447) 2,076,822
Cash and cash equivalents:
Beginning 5,632,789 6,160,236 4,083,414
---------------------------------------------------------
Ending $ 11,670,541 $ 5,632,789 $ 6,160,236
=========================================================
</TABLE>
16
<PAGE>
- --------------------------------------------------------------------------------
CONSOLIDATED STATEMENT OF CASH FLOWS . Years Ended December 31, 1998, 1997
and 1996
<TABLE>
<CAPTION>
(continued)
1998 1997 1996
-------------------------------------------------------
<S> <C> <C> <C>
Cash and cash equivalents:
Interest-bearing $ 11,150,780 $ 4,781,687 $ 5,680,182
Noninterest-bearing 519,761 851,102 480,054
-------------------------------------------------------
$ 11,670,541 $ 5,632,789 $ 6,160,236
=======================================================
Supplemental Disclosure of Cash Flow Information
Cash payments for:
Interest $ 5,685,974 $ 4,651,936 $ 4,008,026
=======================================================
Income taxes $ 724,091 $ 694,825 $ 624,995
=======================================================
Supplemental Disclosure of Noncash Investing and
Financing Activities:
Transfer from loans to real estate acquired
in settlement of loans $ 44,785 $ 63,257 $ 172,778
=======================================================
Change in unrealized gain on available for sale securities $ 409,195 $ 262,084 $ 93,318
=======================================================
</TABLE>
See Notes to Consolidated Financial Statements.
17
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Note 1. Nature of Business and Significant Accounting Policies
Conversion and organization of holding company: In December 1993, pursuant to a
Plan of Conversion approved by its members and regulators, Kenly Savings Bank,
Inc., SSB amended and restated its charter to effect its conversion from a North
Carolina-chartered mutual savings bank to a North Carolina-chartered stock
savings bank, and become a wholly-owned subsidiary of KS Bancorp, Inc. ("KS
Bancorp" or the "Company") a holding company formed in connection with the
conversion. On January 1, 1999, Kenly Savings Bank, Inc., SSB changed its name
to KS Bank, Inc. (the "Bank"). The Company's principal business activities
consist solely of the ownership of the Bank, a loan to the ESOP for its purchase
of common stock and the investment of its portion of the proceeds received from
the Bank's mutual to stock conversion.
The Bank primarily originates one-to-four family residential loans within its
primary lending area of Johnston, Wilson, Wayne and Wake counties. The Bank's
underwriting policies require such loans to generally be made at 80%
loan-to-value based upon appraised values. These loans are secured by the
underlying properties.
Principles of consolidation: The consolidated financial statements include the
accounts of KS Bancorp and its wholly-owned subsidiary, the Bank. All
significant intercompany accounts and transactions have been eliminated in
consolidation.
Basis of financial statement presentation: The accounting and reporting policies
of the Company conform to generally accepted accounting principles and general
practices within the financial services industry. In preparing the financial
statements, management is required to make estimates and assumptions that affect
the reported amounts of assets and liabilities as of the date of the balance
sheet and revenues and expenses for the period and disclosures of contingent
asset and liabilities. Actual results could differ from those estimates.
Effective January 1, 1998, the Bank adopted Financial Accounting Standards Board
("FASB") Statement No. 130, Reporting Comprehensive Income, which was issued in
June 1997. Statement No. 130 establishes new rules for the reporting and display
of comprehensive income and its components, but has no effect on the Bank's net
income or total stockholders' equity. Statement No. 130 requires unrealized
gains and losses on the Bank's available-for-sale securities, which prior to
adoption were reported separately in stockholders' equity, to be included in
comprehensive income. Prior year financial statements have been reclassified to
conform to the requirements of Statement No. 130. The Bank has no other items of
other comprehensive income.
Cash and cash equivalents: For purposes of reporting cash flows, the Company
considers all highly liquid debt instruments purchased with an original maturity
of three months or less to be cash equivalents. At times, the Company maintains
deposits in correspondent banks in amounts that may be in excess of the FDIC
insurance limit.
Investment securities: Debt securities and mortgage-backed securities (MBS's)
classified as held to maturity are carried at cost, adjusted for amortization of
premiums and accretion of discounts using the interest method. Such securities
will be held until their contractual maturities, and will not be available to be
sold even in response to certain conditions such as changes in market interest
rate, needs for liquidity, or changes in the ability of and the yield on
alternative investments.
Debt securities and marketable equity securities classified as available for
sale are carried at market with unrealized holding gains and losses excluded
from earnings and reported net of income taxes in a separate component of
stockholders' equity until such time as the securities are sold. Such
securities may be sold in response to certain conditions such as changes in
market interest rates, needs for liquidity, or changes in the availability of
and the yield on alternative investments, but are not bought and held
principally for the purpose of selling in the near term with the objective of
generating profits on short-term differences in price. Gain or loss on sale of
these securities is recognized when realized and is based on the cost of
specially identified securities.
18
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Trading securities are held in anticipation of short-term market gains and are
carried at fair value with realized and unrealized gains and losses included in
earnings. The Company currently has no securities which are classified as
trading securities.
Equity securities which are considered nonmarketable are not subject to the
above classifications and are carried at cost.
Loans receivable: Loans receivable are stated at unpaid principal balances, less
the allowance for loan losses and net deferred loan origination fees and
discounts.
The Bank's loan portfolio consists principally of long-term conventional loans
collateralized by first trust deeds on single-family residences, other
residential property, commercial property and land.
Loan fees: The Bank receives fees for originating and servicing loans. The Bank
defers all loan fees less certain direct costs as an adjustment to yield with
subsequent amortization into income over the life or first repricing period of
the related loan. The method of amortization used is the interest method.
Allowance for loan losses: The allowance for loan losses is established through
a provision for loan losses charged to operations. Loans are charged off against
the allowance when management believes that collectibility is unlikely. The
allowance is an amount that management believes will be adequate to absorb
losses on existing loans that may become uncollectible based on evaluations of
the collectibility of loans and prior loan loss experience. The evaluations take
into account such factors as changes in the nature and volume of the loan
portfolio, overall portfolio quality, review of specific problem loans and
current economic conditions that may affect the borrowers' ability to pay.
While management uses the best information available to make evaluations, future
adjustments may be necessary if economic or other conditions differ
substantially from the assumptions used.
The Bank establishes specific loan loss allowances on impaired loans if it is
doubtful that all principal and interest due according to the loan terms will be
collected. An allowance on an impaired loan is required if the present value of
the future cash flows discounted using the loan's effective interest rate is
less than the carrying value of the loan. An impaired loan can also be valued
based upon its fair value in the market place or on the basis of its underlying
collateral if the loan is primarily collateral dependent. If foreclosure is
imminent, and the loan is collateral dependent, the loan must be valued based
upon the fair value of the underlying collateral. The Bank does not currently
have any loans which it considers impaired.
The Bank does not accrue interest on loans delinquent 90 days or more as it
establishes reserves for uncollected interest. Such interest when ultimately
collected is credited to income in the period received. Interest on loans which
the Bank considers to be impaired is treated similarly.
Loans Held for Sale: Mortgage loans originated and intended for sale in the
secondary market are carried at the lower of cost or estimated market value in
the aggregate.
Real estate acquired in settlement of loans: Real estate acquired through, or in
lieu of, loan foreclosure (REO) is initially recorded at fair value at the date
of foreclosure establishing a new cost basis. After foreclosure, valuations of
the property are periodically performed by management and the real estate is
carried at the lower of cost or fair value minus estimated costs to sell. Costs
relating to the development and improvement of the property are capitalized,
while holding costs of the property are charged to expense in the period
incurred.
Property and equipment: Property and equipment are stated at cost, less
accumulated depreciation. Depreciation is computed generally by the
straight-line method.
19
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Note 1. Nature of Business and Significant Accounting Policies (Continued)
Income taxes: Deferred taxes are provided on a liability method whereby deferred
tax assets are recognized for deductible temporary differences and deferred tax
liabilities are recognized for taxable temporary differences. Temporary
differences are the differences between the reported amounts of assets and
liabilities and their tax bases. Deferred tax assets are reduced by a valuation
allowance when, in the opinion of management, it is more likely than not that
some portion or all of the deferred tax assets will not be realized. Deferred
tax assets and liabilities are adjusted for the effects of changes in tax laws
and rates on the date of enactment.
Advances from borrowers for taxes and insurance: Certain borrowers make monthly
payments, in addition to principal and interest, in order to accumulate funds
from which the Bank can pay the borrowers' property taxes and insurance
premiums.
Retirement plans: The Bank's employee stock ownership plan (the "ESOP") covers
substantially all of its employees. Contributions to the plan are based upon
amounts necessary to fund the amortization requirements of the ESOP's debt to
the Company, subject to compensation limitations, and are charged to expense.
The Bank has a defined contribution retirement plan which covers substantially
all of its employees. The annual contribution to the plan is based on employee
compensation and the Bank's policy is to fund plan costs as they accrue. The
plan is fully funded and there are no accrued unfunded amounts.
The Bank also has a 401(k) retirement plan which is available to substantially
all employees. The Bank matches voluntary contributions by participating
employees.
Earnings per share: The Company follows Statement of Financial Accounting
Standards (SFAS) No. 128. This statement requires dual presentation of basic and
diluted earnings per share (EPS) with a reconciliation of the numerator and
denominator of the EPS computations. Basic per share amounts are based on the
weighted average shares of common stock outstanding. Diluted earnings per share
assume the conversion, exercise or issuance of all potential common stock
instruments such as options, warrants and convertible securities, unless the
effect is to reduce a loss or increase earnings per share. The basic and diluted
weighted average shares outstanding are as follows:
<TABLE>
<CAPTION>
1998 1997 1996
--------------------------------------------
<S> <C> <C> <C>
Weighted average shares outstanding 888,078 885,069 889,640
Less weighted average unallocated ESOP shares 27,937 33,138 38,337
--------------------------------------------
Weighted average outstanding shares used for basic EPS 860,141 851,931 851,303
Plus incremental shares from assumed issuance of stock options 96,845 90,544 73,645
--------------------------------------------
Weighted average outstanding shares used for diluted EPS 956,986 942,475 924,948
============================================
</TABLE>
There were no adjustments required to be made to net income in the computation
of diluted earnings per share.
Off-balance-sheet risk: The Bank is a party to financial instruments with
off-balance-sheet risk such as commitments to extend credit and equity lines of
credit. Management assesses the risk related to these instruments for potential
loss.
Fair value of financial instruments: The estimated fair values required under
SFAS No. 107, Disclosures About Fair Value of Financial Instruments, have been
determined by the Company using available market information and appropriate
valuation methodologies. However, considerable judgment is necessarily required
to develop the estimates of fair value. Accordingly, the estimates presented in
the accompanying Note 16 for the fair value of the Company's financial
instruments are not necessarily indicative of the amounts the Company could
realize in a current market exchange. The use of different market assumptions or
estimation methodologies may have a material effect on the estimated fair value
amounts.
20
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
The fair value estimates presented in Note 16 are based on pertinent information
available to management as of December 31, 1998 and 1997, respectively. Although
management is not aware of any factors that would significantly affect the
estimated fair value amounts, such amounts have not been comprehensively
revalued for purposes of these financial statements since those dates, and
therefore, current estimates of fair value may differ significantly from the
amounts presented herein. The following methods and assumptions were used by the
Company in estimating its fair value disclosures for financial instruments:
Cash, short-term cash investments, loans held for sale and accrued interest
receivable: The carrying amounts reported in the statement of financial
condition for these instruments approximates their fair values due to the short
term nature of these instruments.
Investment securities: Investment securities include stock in the Federal Home
Loan Bank of Atlanta. No ready market exists for these stocks and they have no
quoted market values. For disclosure purposes, such stock is assumed to have a
fair value which is equal to cost or redemption value. All other debt, equity
and mortgage-backed securities are publicly traded and market values are based
on quoted market prices.
Loans receivable: The fair value for substantially all loans has been estimated
by discounting the projected future cash flows at December 31, 1998 and 1997,
using the rate on that date at which similar loans would be made to borrowers
with similar credit ratings and for similar maturities or repricing periods. The
discount rate used has been adjusted by an estimated credit risk factor to
approximate the adjustment that would be applied in the marketplace for any
nonperforming loans. Certain prepayment assumptions have also been made
depending upon the original contractual lives of the loans. For certain loans
which are indexed and adjust with prime, the carrying basis is considered to
approximate fair value.
Deposits: The fair value of deposits with no stated maturities, including
transaction accounts and passbook savings accounts is estimated to be equal to
the amount payable on demand as of December 31, 1998 and 1997. The fair value of
certificates of deposit is based upon the discounted value of future contractual
cash flows. The discount rate is estimated using the rates offered on December
31, 1998 and 1997 for deposits of similar remaining maturities.
Borrowings: Borrowed funds consist of fixed rate FHLB advances. The fair value
of these advances is based upon the discounted value using current rates at
which borrowings of similar maturity could be obtained.
Off-balance-sheet commitments: Because the Bank's commitments, which consist
entirely of loan commitments, are either short-term in nature or subject to
immediate repricing, no fair value has been assigned to these off-balance-sheet
items.
21
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
2. Investment Securities
Investment securities consist of the following:
<TABLE>
<CAPTION>
1998
----------------------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
----------------------------------------------------------------------
<S> <C> <C> <C> <C>
Held to maturity:
Debt securities:
Federal agency securities $ 500,000 $ 5,000 $ -- $ 505,000
Mortgage-backed securities 1,030,015 32,093 -- 1,062,108
----------------------------------------------------------------------
1,530,015 37,093 -- 1,567,108
----------------------------------------------------------------------
Available for sale:
Debt securities:
US Treasury securities 1,498,777 10,813 -- 1,509,590
Federal agency securities 4,250,000 58,908 -- 4,308,908
Marketable equity securities:
Federal Home Loan Mortgage
Corporation stock 26,931 1,745,427 -- 1,772,358
----------------------------------------------------------------------
5,775,708 1,815,148 -- 7,590,856
----------------------------------------------------------------------
Nonmarketable equity securities:
Federal Home Loan Bank stock 879,500 -- -- 879,500
879,500 -- -- 879,500
----------------------------------------------------------------------
$ 8,185,223 $1,852,241 $ -- $10,037,464
======================================================================
</TABLE>
22
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
<TABLE>
<CAPTION>
1997
----------------------------------------------------------------------
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
----------------------------------------------------------------------
<S> <C> <C> <C> <C>
Held to maturity:
Debt securities:
Federal agency securities $1,499,250 $ 780 $ (2,845) $ 1,497,185
Corporate securities 500,099 -- (19) 500,080
Mortgage-backed securities 1,104,912 36,071 -- 1,140,983
----------------------------------------------------------------------
3,104,261 36,851 (2,864) 3,138,248
----------------------------------------------------------------------
Available for sale:
Debt securities:
US Treasury securities 1,995,696 10,084 -- 2,005,780
Federal agency securities 3,250,000 18,945 (390) 3,268,555
Marketable equity securities:
Federal Home Loan Mortgage
Corporation stock 26,931 1,126,518 -- 1,153,449
----------------------------------------------------------------------
5,272,627 1,155,547 (390) 6,427,784
----------------------------------------------------------------------
Nonmarketable equity securities:
Federal Home Loan Bank stock 786,800 -- -- 786,800
Central Service Corporation stock 3,500 -- -- 3,500
----------------------------------------------------------------------
790,300 -- -- 790,300
----------------------------------------------------------------------
$9,167,188 $ 1,192,398 $ (3,254) $10,356,332
======================================================================
</TABLE>
The amortized cost and estimated market value of debt securities at December 31,
1998 by contractual maturity are as shown below:
<TABLE>
<CAPTION>
1998
--------------------------
Weighted Estimated
Average Amortized Market
Yield Cost Value
------------- --------------------------
<S> <C> <C> <C>
Held to maturity:
Due in one year through five years 6.31% $ 500,000 $ 505,000
==========================
Available for sale:
Due in less than one year 5.88% $1,498,777 $1,509,590
Due in one year through five years 6.37% 4,250,000 4,308,908
--------------------------
$5,748,777 $5,818,498
==========================
$6,248,777 $6,323,498
==========================
</TABLE>
23
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Note 2. Investment Securities (Continued)
The amortized cost and estimated market value of mortgage-backed securities by
contractual maturities are not reported because the actual maturities may and
often are significantly different from contractual maturities.
Summarized below is the sales activity in available for sale investment
securities:
<TABLE>
<CAPTION>
Year Ended December 31,
------------------------------------------------
1998 1997 1996
------------------------------------------------
<S> <C> <C> <C>
Cost of investment securities sold $ - $ 2,000,000 $ 504,669
Proceeds from sales of available for sale securities - $ (1,994,006) $ (497,500)
------------------------------------------------
Realized losses $ - $ 5,994 $ 7,169
================================================
<CAPTION>
The change in net unrealized gains and losses shown as a separate component of
equity for the years ended December 31, 1998, 1997 and 1996 is shown below:
1998 1997 1996
------------------------------------------------
<S> <C> <C> <C>
Balance in equity component, beginning $ 716,197 $ 454,113 $ 360,795
Change in net unrealized gains 659,991 422,717 150,511
Less change in deferred income taxes $ (250,796) (160,633) $ (57,193)
------------------------------------------------
Balance in equity component, ending $ 1,125,392 $ 716,197 $ 454,113
================================================
</TABLE>
The Bank, as a member of the Federal Home Loan Bank System, is required to
maintain an investment in capital stock of the Federal Home Loan Bank in an
amount equal to the greater of one percent of its outstanding residential
mortgage loans or one-twentieth of its outstanding advances. No ready market
exists for the stock, and it has no quoted market value. For disclosure
purposes, such stock is assumed to have a market value equal to its cost.
Certain investment securities with amortized costs of $3,000,845 and market
values of $3,045,157 at December 31, 1998 were pledged to secure public deposits
or were pledged in connection with the Bank's depository relationship with the
Federal Reserve.
Note 3. Loans Receivable
Loans receivable consist of the following:
December 31,
----------------------------
Mortgage loans: 1998 1997
----------------------------
Conventional first mortgage loans $ 84,486,015 $79,000,713
----------------------------
Construction loans 12,197,467 10,860,702
Equity-line loans 9,234,655 8,749,923
Loans on deposit accounts 262,139 333,834
Consumer loans 941,588 474,506
Commercial loans 3,016,880 --
----------------------------
110,138,744 99,419,678
----------------------------
Less:
Undisbursed portion of loans in process 4,167,318 3,812,112
Unamortized loan fees 277,412 279,797
Allowance for loan losses 358,867 325,367
----------------------------
4,803,597 4,417,276
----------------------------
$105,335,147 $95,002,402
============================
Weighted average yield 8.49% 8.76%
============================
24
<PAGE>
- --------------------------------------------------------------------------------
SELECTED FINANCIAL DATA KS BANCORP, INC. AND SUBSIDIARY
Note 3. Loans Receivable (Continued)
The following summarizes transactions in the allowance for loan losses:
Year Ended December 31,
------------------------------------
1998 1997 1996
------------------------------------
Balance, beginning $325,367 $301,867 $232,867
Provision for loan losses 33,500 23,500 69,000
------------------------------------
Balance, ending $358,867 $325,367 $301,867
====================================
Loans delinquent more than 90 days amounted to approximately $290,500 and
$533,000 at December 31, 1998 and 1997, respectively. These loans are primarily
collateral dependent and management has determined that the underlying
collateral is in excess of the carrying amounts. As a result, the Bank has
determined that specific allowances on these loans is not required. Interest
income that would have been recorded on nonaccrual loans totaled $27,608,
$15,061, and $8,241 for the years ended December 31, 1998, 1997 and 1996,
respectively.
Loans outstanding to the Company's officers and directors (including their
affiliates) are shown below. In the opinion of management, these loans were made
at lending terms and rates available to the general public and do not involve
more than normal risks of collectibility.
Year Ended December 31,
1998 1997
-------------------------------
Balance, beginning $1,222,000 $1,019,000
-------------------------------
Originations 175,000 263,000
Repayments (202,000) (60,000)
-------------------------------
Balance, ending $1,195,000 $1,222,000
===============================
Note 4. Property and Equipment
Property and equipment consists of the following:
Year Ended December 31,
1998 1997
-------------------------------
Land $ 363,812 $ 363,812
-------------------------------
Buildings 1,578,595 1,559,966
Furniture and equipment 1,030,489 868,334
-------------------------------
2,972,896 2,792,112
Accumulated depreciation (834,098) (658,379)
-------------------------------
$2,138,798 $2,133,715
===============================
25
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Note 5. Deposits
Deposits consist of the following:
December 31,
---------------------------
1998 1997
---------------------------
Passbook accounts, 3.00% $ 3,894,724 $ 3,448,166
NOW accounts, 1.25% to 2.10% 7,005,268 4,832,320
Money market deposit accounts, 3.00% to 4.10% 6,150,842 5,440,958
Noninterest-bearing accounts 2,398,938 3,156,994
---------------------------
19,449,772 16,878,438
---------------------------
Certificates:
3.00%-4.50% 4,904,706 978,679
4.51%-6.50% 83,222,163 70,068,355
6.51%-8.50% 333,237 2,369,566
---------------------------
88,460,106 73,416,600
---------------------------
107,909,878 90,295,038
Accrued interest payable 24,346 18,620
---------------------------
$107,934,224 $90,313,658
===========================
Weighted average cost of funds 5.10% 5.20%
===========================
26
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Note 5. Deposits (Continued)
Certificate accounts are summarized by maturity at December 31, 1998 as follows:
<TABLE>
<CAPTION>
1999 2000 2001 Thereafter Total
---------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
3.00%-4.50% $ 3,033,016 $ 1,869,338 $ 2,352 $ -- $ 4,904,706
4.51%-6.50% 71,769,568 8,603,800 2,572,987 275,808 83,222,163
6.51%-8.50% 333,237 -- -- -- 333,237
---------------------------------------------------------------------------------------------
$75,135,821 $10,473,138 $ 2,575,339 $ 275,808 $ 88,460,106
=============================================================================================
</TABLE>
The aggregate amount of certificates of deposit included in the table above with
a denomination of $100,000 or greater is shown below:
Maturity Amount
- --------------------------------------------------------------------------------
Less than 3 months $ 5,080,930
3 to 6 months 6,961,326
6 to 12 months 9,162,370
More than 12 months 2,418,417
-----------
$23,623,043
===========
Interest expense on deposits is summarized below:
<TABLE>
<CAPTION>
Year Ended December 31,
1998 1997 1996
------------------------------------------
<S> <C> <C> <C>
Passbook accounts $ 109,225 $ 104,214 $ 99,743
------------------------------------------
NOW and money market accounts 400,561 283,988 210,535
Certificates 4,754,711 3,896,358 3,504,973
------------------------------------------
5,264,497 4,284,560 3,815,251
Forfeitures (7,516) (8,630) (8,012)
------------------------------------------
$ 5,256,981 $ 4,275,930 $ 3,807,239
==========================================
</TABLE>
Note 6. Advances From Federal Home Loan Bank
Advances from the Federal Home Loan Bank consist of the following:
Maturing in Interest
Type Year Ending Rate
- ---------------------------------------------------
Fixed 1998 6.05%
Fixed 1998 5.93%
Fixed 1999 6.31%
Fixed 1999 6.28%
Fixed 2000 5.10%
December 31,
- --------------------------------
1998 1997
- --------------------------------
$ -- $ 2,000,000
-- 2,000,000
2,000,000 2,000,000
2,000,000 2,000,000
2,000,000 --
- --------------------------------
$ 6,000,000 $ 8,000,000
================================
Pursuant to collateral agreements with the Federal Home Loan Bank (FHLB),
advances are secured by all stock in the FHLB and qualifying first mortgage
loans pledged in the form of a blanket floating lien. Book value of qualifying
loans is in excess of outstanding borrowings.
27
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Note 7. Special Assessment
On September 30, 1996, the "Deposit Insurance Funds Act of 1996" was signed into
law. The legislation included a special assessment to recapitalize the Savings
Association Insurance Fund (SAIF) up to its statutory goal of 1.25% of insured
deposits. The assessment required the Bank to pay an amount equal to
approximately 65.7 basis points of its SAIF assessable deposit base as of March
31, 1995, which resulted in a charge to income during the year ended December
31, 1996 of $436,548.
Note 8. Income Taxes
Under the Internal Revenue Code, the Bank was allowed a special bad debt
deduction related to additions to tax bad debt reserves established for the
purpose of absorbing losses. Through 1996, the provisions of the Code permitted
the Bank to deduct from taxable income an allowance for bad debts based on 8% of
taxable income before such deduction or actual loss experience. The Bank used
the percentage of taxable income method to compute its deductions in 1996.
Legislation passed in 1996 eliminates the percentage of taxable income method as
an option for computing bad debt deductions. The Bank will still be permitted to
take deductions for bad debts, but will be required to compute such deductions
using an experience method. The Bank will also have to recapture its tax bad
debt reserves which have accumulated since 1987 amounting to approximately
$748,000 over a six year period. The tax associated with the recaptured reserves
is approximately $236,000. The recapture began with the Bank's 1998 year. The
Bank was eligible for deferral in 1997 and 1996. Deferred income taxes have been
previously established for the taxes associated with the recaptured reserves and
the ultimate payment of the taxes will not result in a charge to earnings.
28
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
At December 31, 1988, retained earnings contain certain historical additions to
bad debt reserves for income tax purposes of $1,221,000 for which no deferred
taxes have been provided, because the Bank does not intend to use these reserves
for purposes other than to absorb losses. If amounts which qualified as bad debt
deductions are used for purposes other than to absorb bad debt losses or
adjustments arising from the carryback of net operating losses, income taxes may
be imposed at the then existing rates. In the future, if the Bank does not meet
the income tax requirements necessary to permit the deduction of an allowance
for bad debts, the Bank's effective tax rate would be increased to the maximum
percent under existing law. Unrecorded deferred income taxes on pre 1988 tax bad
debt reserves amounted to approximately $465,000 at December 31, 1998.
Deferred income taxes consist of the following:
December 31,
------------------------
1998 1997
------------------------
Deferred tax assets:
Deferred loan fees $ 15,581 $ 15,162
Allowance for loan losses 136,369 123,639
Deferred compensation and directors'
death benefits 36,650 34,854
------------------------
Total deferred tax assets 188,600 173,655
------------------------
Deferred tax liabilities:
Excess accumulated tax depreciation 84,683 73,859
Federal Home Loan Bank stock basis 83,334 83,334
Tax bad debt reserves 236,724 284,068
Unrealized net appreciation, investments 689,756 438,960
------------------------
Total deferred tax liabilities 1,094,497 880,221
------------------------
Net deferred tax liabilities $ (905,897) $ (706,566)
========================
Income tax expense differs from the federal statutory rate of 35% as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
-----------------------------------
1998 1997 1996
-----------------------------------
<S> <C> <C> <C>
Income tax expense at statutory federal rate 35.00% 35.00% 35.00%
Increase (decrease) in income taxes resulting from:
Nondeductible expenses 1.23 1.06 2.62
State income taxes, net of federal benefit 1.66 3.43 3.17
Other, net (0.76) (1.40) (2.95)
-----------------------------------
37.13% 38.09% 37.84%
===================================
</TABLE>
Note 9. Concentration of Credit Risk and Off-Balance-Sheet Risk
The Bank 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. These
financial instruments include commitments to extend credit and equity lines of
credit. Those instruments involve, to varying degrees, elements of credit and
interest rate risk in excess of the amount recognized in the statement of
financial condition. The contract or notional amounts of those instruments
reflect the extent of involvement the Bank has in particular classes of
financial instruments.
The Bank's exposure to credit loss in the event of nonperformance by the other
party, to the financial instrument for commitments to extend credit is
represented by the contractual notional 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.
29
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
A summary of the contract amount of the Bank's exposure to off-balance-sheet
risk is as follows:
<TABLE>
<CAPTION>
December 31,
-----------------------------
1998 1997
-----------------------------
<S> <C> <C>
Financial instruments whose contract
amounts represent credit risk:
Commitments to extend credit, mortgage loans $ 1,491,000 $ 459,000
Undisbursed equity lines of credit 7,325,000 6,248,000
</TABLE>
The Bank evaluates each customer's credit worthiness on a case-by-case basis.
Commitments to extend credit are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since many of the commitments are expected to expire
without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements. The collateral obtained by the Bank upon
extension of credit is based on management's credit evaluation of the customer.
The collateral held is the underlying real estate.
Note 10. Retirement Plans
The Bank has a 401(k) retirement plan which contains provisions for specified
matching contributions by the Bank. The Bank funds contributions as they accrue
and 401(k) expense totaled $6,152, $5,184 and $4,553 for the years ended
December 31, 1998, 1997 and 1996, respectively.
In addition, the Bank has established a defined contribution retirement plan
which covers substantially all employees. Contributions to the plan are
discretionary and determined annually by the Bank's Board of Directors. The
Bank funds contributions as they accrue and retirement expense amounted to
$62,266, $49,052, and $38,529 for the years ended December 31, 1998, 1997 and
1996, respectively.
The accounting and reporting aspects of the Bank's ESOP plan are described in
Note 12.
Note 11. Deferred Compensation for Directors
The Bank has a deferred compensation plan for its directors to be paid in the
form of death benefits. The death benefits vest to each director in amounts
ranging from $2,000 to a maximum of $20,000 for each year of service to the Bank
beginning with the first year of service to the fifth year. At December 31, 1998
and 1997, the Bank had accrued $69,868 and $66,741, respectively, which
represents the present value of the death benefits based on directors' life
expectancies. Expense associated with the plan amounted to $3,127, $2,875, and
$36,455 for 1998, 19967and 1996, respectively.
Note 12. Employee Stock Ownership Plan
The Bank has an employee stock ownership plan (the "ESOP") to benefit employees
with 1,000 hours of annual service and who have attained age 21. The ESOP is
funded by contributions made by the Bank.
The ESOP borrowed funds from the Company to partially finance its purchase of
the common stock of the Company. The loan bears interest at 7.5% and matures
December 29, 2003. The loan will be repaid by the ESOP with contributions made
by the Bank and earnings on the ESOP's assets. At December 31, 1998 and 1997
the outstanding balance of the loan receivable from the ESOP was $195,000 and
$234,000 respectively, which is presented as a reduction of stockholders'
equity. Shares purchased by the ESOP are held in suspense for allocation among
participants as the loan is repaid. The ESOP originally purchased 53,927 shares
of common stock. At December 31, 1998 and 1997, 26,000 and 31,200 shares,
respectively, had not been allocated. Based upon the market value of the
Company's stock at December 31, 1998 and 1997, the fair value of the
unallocated shares amounted to approximately $468,000 and $772,200 at December
31, 1998 and 1997, respectively.
30
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Dividends on unallocated shares may be used by the ESOP to repay the debt to the
Company and are not reported as dividends in the financial statements. Dividends
on allocated or committed to be allocated shares are credited to the accounts of
the participants and reported as dividends in the financial statements.
Contributions are allocated among participants on the basis of compensation in
the year of allocation. Benefits become 100% vested after five years of credited
service. Forfeitures of nonvested benefits will be reallocated among remaining
participating employees in the same proportion as contributions.
The Company has the obligation to redeem the holdings of plan participants in
the event participants request the Company to do so upon their retirement and if
shares cannot be sold through the open market. The market value of the ESOP
shares less the principal balance on the ESOP loan is approximately $1.1
million.
The Bank has charged expense for $105,950, $97,662, and $74,841 for years ended
December 31, 1998, 1997 and 1996 respectively in connection with the ESOP. The
expense for 1998, 1997 and 1996 includes, in addition to the cash contribution
necessary to fund the ESOP's annual principal and interest installment on the
loan to the Company, $66,950, $58,663, and $35,841, respectively, which
represents the difference between the fair market value of the shares which have
been committed to be released to participants, and the cost of these shares to
the ESOP.
31
<PAGE>
- --------------------------------------------------------------------------------
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
Note 13. Regulatory Matters
The Bank is subject to the capital requirements of the FDIC and the
Administrator of the North Carolina Savings Institutions Division.
The FDIC requires the Bank to have a minimum leverage ratio of Tier I Capital
(principally consisting of retained earnings and common stockholders' equity,
less any intangible assets) to total assets of 3%. The FDIC also requires the
Bank to have a ratio of total capital to risk-weighted assets of 8%, of which at
least 4% must be in the form of Tier I capital. The North Carolina Administrator
requires a net worth equal to at least 5% of total assets.
At December 31, 1998, the Bank complied with all the capital requirements as
shown below:
<TABLE>
<CAPTION>
-------------------------------------------------------------------------------
Leverage Tier I NC
Ratio of Risk- Risk- Savings
Tier I Adjusted Based Bank
Capital Capital Capital Capital
-------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Consolidated stockholders' equity at
December 31, 1998 $ 15,715,723 $ 15,715,723 $ 15,715,723 $ 15,715,723
Unrealized gain on securities (1,125,392) (1,125,392) (1,125,392) (1,125,392)
Holding company's equity
at December 31, 1998 (193,608) (193,608) (193,608) (193,608)
Loan loss allowances -- -- 358,867 358,867
-------------------------------------------------------------------------------
Regulatory capital 14,396,723 14,396,723 14,755,590 14,755,590
Minimum capital requirement 3,890,580 2,898,257 5,796,514 6,534,438
-------------------------------------------------------------------------------
$ 10,506,143 $ 11,498,466 $ 8,959,076 $ 8,221,152
===============================================================================
Total tangible Bank only assets
at December 31, 1998 -- -- -- $ 130,688,760
Average tangible Bank only assets
December 31, 1998 quarter $ 129,686,016 -- -- --
Risk-weighted Bank only assets at
December 31, 1998 -- $ 72,456,424 $ 72,456,424 --
Capital as a percentage of assets:
Actual 11.10% 19.87% 20.36% 11.29%
Required 3.00% 4.00% 8.00% 5.00%
-------------------------------------------------------------------------------
Excess 8.10% 15.87% 12.36% 6.29%
===============================================================================
</TABLE>
Under the FDIC prompt corrective action regulations, a savings institution is
considered to be well capitalized if its ratio of total capital to risk-weighted
assets is at least 10%, its ratio of Tier I capital to risk-weighted assets is
at least 6.0%, and its ratio of Tier I capital to total average assets is at
least 5.0%. The Bank meets all of the above requirements at December 31, 1998
and is considered to be well capitalized under the prompt corrective action
regulations.
At the time of its conversion from a mutual to a stock charter, the Bank
established a liquidation account in an amount equal to its net worth as of
September 30, 1993 for the benefit of all holders of deposit accounts with an
aggregate balance in excess of $50 on March 31, 1993. In the unlikely event of a
complete liquidation of the Bank (and only in such event), each eligible account
holder will be entitled to his or her interest in the liquidation account prior
to any payments to holders of common stock. An eligible account holder's
interest in the liquidation account will be computed on December 31 each year
and is reduced by or will cease to exist if the funds in the related deposit
account are withdrawn. The interest of an eligible account holder in the
liquidation account will never be increased, even if there is an increase in the
related deposit account after March 31, 1993.
32
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
Subject to applicable law, the Board of Directors of the Company and the Bank
may each provide for the payment of dividends. Future declarations of cash
dividends, if any, by the Company may depend upon dividend payments by the Bank
to the Company. Subject to regulations promulgated by the NC Administrator, the
Bank will not be permitted to pay dividends on its common stock, if its
stockholders' equity would be reduced below the amount required for the
liquidation account or its capital requirement. As a North Carolina-chartered
savings bank, the Bank is required to maintain liquid assets equal to at least
10% of total assets. The computation of liquidity under North Carolina
regulation allows for the inclusion of mortgage-backed securities and other
investments with readily marketable values, including investments with
maturities in excess of five years. The Bank's liquidity ratio on December 31,
1998, as computed under North Carolina regulations, was approximately 14%.
Note 14. Stock Dividend
On June 25, 1997, the Bank effected a four for three stock split in the form of
a dividend, for shareholders of record on June 10, 1997. As a result of the
stock dividend, the Bank issued 221,219 shares of common stock and all prior
period share information included in the financial statements has been restated.
Note 15. Stock Option and Bonus Compensation Plan
The Company has an Employee Stock Option Plan which provides for the granting of
options to purchase shares of the Company's common stock to certain key
employees, and a Nonqualified Stock Option Plan which provides for the granting
of options to purchase shares of the Company's common stock to nonemployee
directors. An aggregate of 100,956 and 49,485 shares of common stock were
reserved under the plans. The exercise price of the options is not less than
100% of the fair value of the common stock on the date the option was granted
and pursuant to the plan, options may not be exercised until specified time
restrictions have lapsed and option periods may not exceed ten (10) years.
There were no Employee Stock Option Plan transactions during 1998, 1997 and
1996. Remaining options outstanding at December 31, 1998 and 1997 for the
Employee Stock Option Plan were 100,956, and all were exercisable at a weighted
average exercise price of $7.50 per share.
A summary of the status of the Nonqualified Stock Option Plan at December 31,
1998 and 1997 is as follows:
<TABLE>
<CAPTION>
1998 1997
--------------------------- --------------------------
Weighted Weighted
Average Average
Exercise Exercise
Shares Price Shares Price
--------------------------- --------------------------
<S> <C> <C> <C> <C>
Outstanding at beginning of year 52,762 $ 7.50 53,927 $ 7.50
Granted -- -- -- --
Exercised (3,277) 7.50 (1,165) 7.50
Forfeited -- -- -- --
--------------------------- --------------------------
Outstanding at end of year 49,485 $ 7.50 52,762 $ 7.50
=========================== ==========================
</TABLE>
The options under the Nonqualified Stock Option Plan were all exercisable at
December 31, 1998 and 1997 and expire in December, 2003.
The Company uses the accounting methods prescribed in Accounting Principles
Board (APB) Opinion No. 25 Accounting for Stock Issued to Employees to value the
compensation cost associated with the stock options. The stock options were
issued in 1993 at an option price equal to the fair value of the Company's
common stock and therefore no compensation expense has been reported in
earnings.
33
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
Note 15. Stock Option and Bonus Compensation Plan (Continued)
The Company has not issued any stock options or stock-based compensation since
the enactment of FASB Statement No. 123, Accounting for Stock-Based Compensation
which encourages the expensing of the fair value of options issued or,
alternatively, the disclosure of the impact such an issuance would have on the
net income and earnings per share of an entity.
Additionally, the Company has a bonus compensation plan which provides that
incentive compensation will be payable annually to those directors and employees
who hold unexercised options issued pursuant to the Employee Stock Option Plan
and the Nonqualified Stock Option Plan for Directors. Incentive compensation is
paid annually equal to the number of unexercised options granted under the plans
times the amount of dividends declared per common share outstanding. Expense
amounted to $112,640, $117,992 and $128,720 in connection with the plan during
1998, 1997 and 1996, respectively. The incentive compensation for employees was
discontinued effective January 1, 1999.
Note 16. Fair Value of Financial Instruments
The following table presents the carrying amounts and estimated fair values of
the Company's financial instruments at December 31, 1998 and 1997.
<TABLE>
<CAPTION>
1998 1997
--------------------------------------------------------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
--------------------------------------------------------------------
<S> <C> <C> <C> <C>
Financial assets:
Cash and cash equivalents $ 11,670,541 $ 11,670,541 $ 5,632,789 $ 5,632,789
Accrued interest receivable 716,796 716,796 689,427 689,427
Investment securities:
Held to maturity 1,530,015 1,567,108 3,104,261 3,138,248
Available for sale 7,590,856 7,590,856 6,427,784 6,427,784
Nonmarketable equity securities 879,500 879,500 790,300 790,300
Loans receivable 105,335,147 106,569,681 95,002,402 95,338,445
Loans held for sale 855,500 855,500 - -
Financial liabilities:
Deposits 107,934,224 108,494,521 90,313,658 90,604,956
FHLB advances 6,000,000 6,020,028 8,000,000 8,006,752
</TABLE>
Note 17. Year 2000 Issue
The Year 2000 ("Y2K") Issue relates to whether computer systems will properly
recognize and process date-sensitive information when the year changes to 2000.
Systems that do not properly recognize such information could generate erroneous
data or possibly fail. The Bank is heavily dependent on computer processing in
the conduct of substantially all of its business activities.
In 1998, the Bank developed and began implementation of a five-phase plan (the
"Y2K Plan") for Y2K information systems compliance, including its core
processing system maintained by a service center. Phase I, Awareness, is
management's knowledge and recognition of the Y2K issue and included appointing
a project team to address the impact on the Bank. Phase II, Assessment, deals
with management's determination of the magnitude that the Y2K issue could have
on the Bank. This phase includes an inventory of systems and assessment with
customers and other third parties. Phase III, Renovation, involves the process
or reprogramming or replacement of all existing systems which are not Y2K
compliant. Phase IV, Validation, is the testing phase of the plan. Phase V,
Implementation, is the final phase of the program and involves placing the
revised and tested systems into operation.
For most systems which the Bank has identified as mission critical, the Bank is
currently in phases IV and V of the Y2K Plan. The Bank expects to complete these
phases for all mission critical systems by March 31, 1999 and by June 30, 1999
for all non mission critical systems. The Bank's costs to date for updating all
existing systems have not been significant, and the remaining costs to complete
the Y2K Plan are not expected to be significant.
34
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
Note 18. Parent Company Financial Data
The following is a summary of the condensed financial statements of KS Bancorp,
Inc. as of and for the years ended December 31, 1998 and 1997:
Condensed Balance Sheets
December 31, 1998 and 1997
<TABLE>
<CAPTION>
ASSETS 1998 1997
- ------------------------------------------------------------------------------------------------
<S> <C> <C>
Cash $ 129,651 $ 256,285
Investment in KS Bank, Inc. 15,522,116 14,298,776
Other assets 74,069 60,575
-------------------------
$15,725,836 $14,615,636
=========================
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Other liabilities $ 10,112 $ 9,551
Stockholders'equity:
Common stock, no par value, 20,000,000 shares authorized,
issued and outstanding 888,633 in 1998 and 885,356 in 1997 -- --
Additional paid-in capital 12,226,522 12,134,995
Unearned ESOP shares (195,000) (234,000)
Accumulated other comprehensive income 1,125,392 716,197
Retained earnings, substantially restricted 2,558,810 1,988,893
-------------------------
$15,725,836 $14,615,636
=========================
</TABLE>
35
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS KS BANCORP, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Condensed Statements of Income
Years Ended December 31, 1998, 1997 and 1996 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Investment income $ 22,409 $ 45,936 $ 76,302
Equity in earnings of KS Bank, Inc. 1 247,194 1 214,045 791,269
Amortization of organization costs (1,809) (1,811) (1,810)
Other expense (7,572) (34,438) (24,114)
Income tax expense (1,779) (2,632) (16,330)
--------------------------------------
$1 258,443 $1 221,100 $ 825,317
======================================
<CAPTION>
Condensed Statement of Cash Flows
Years Ended December 31, 1998, 1997 and 1996 1998 1997 1996
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net income $1,258,443 $1,221,000 $ 825,317
Noncash items included in net income:
Amortization of organization costs and discounts -- 2,883 (11,117)
Equity in earnings of Kenly Savings Bank (1,247,194) (1,214,045) (791,269)
Change in assets and liabilities:
Decrease in accrued interest -- 4,751 24,103
Decrease (increase) in other assets (13,492) (19,645) 20,161
Increase (decrease) in other liabilities 559 (8,653) 3,409
--------------------------------------
Net cash provided by (used in) operating activities (1,684) (13,609) 70,604
--------------------------------------
Cash Flows from Investing Activities:
Purchase of available for sale securities (501,172)
Purchase of held to maturity securities (486,998)
Proceeds from maturities of available for sale securities 500,000 500,000
Proceeds from maturities of held to maturity investment securities 1,000,000
Upstream dividend received from KS Bank 500,000 300,000 150,000
--------------------------------------
Net cash provided by investing activities 500,000 800,000 661,830
--------------------------------------
Cash Flows from Financing Activities:
Cash dividends paid (688,527) (701,901) (766,155)
Repayment of ESOP debt 39,000 39,000 39,000
Purchase of common stock for retirement (370,000)
Payout for fractional common stock shares -- (2,640) --
Exercise of stock options 24,577 8,740 --
--------------------------------------
Net cash used in financing activities (624,950) (656,801) (1,097,155
--------------------------------------
Net increase in cash $(126,634) $ 129,590 $ (364,721)
Cash-beginning 256,285 126,695 491,416
--------------------------------------
Cash-ending $ 129,651 $ 256,285 $ 126,695
======================================
Supplemental Disclosures of Cash Flow Information
Cash payments for taxes $ 2,000 $ 800 --
</TABLE>
Note 19. Subsequent Event
On February 24, 1999, the Company's Board of Directors adopted an amended and
restated stock repurchase plan. Under the plan, the Company will be able to
repurchase shares of its outstanding common stock in the open market or in
privately negotiated transactions.
36
<PAGE>
COMMON STOCK INFORMATION KS BANCORP, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
The table below reflects the stock trading and dividend payment frequency of the
Company for the two-year period ended December 31, 1998. For further information
regarding the Company's dividend policy and restrictions on dividends paid by
the Bank to the Company, please refer to note 13 of the notes to consolidated
financial statements. Stock prices reflect bid prices between broker-dealers,
prior to any mark-ups, mark-downs or commissions, and may not necessarily
represent actual transactions.
<TABLE>
<CAPTION>
Dividends Stock Price
---------------------------- ------------------------
Regular Special High Low
---------------------------- ------------------------
<S> <C> <C> <C> <C>
1998:
First Quarter $ 0.20 $ - $ 24 3/4 $ 21
Second Quarter 0.20 - 24 21 1/2
Third Quarter 0.20 - 22 3/4 18
Fourth Quarter 0.20 - 18 1/2 17 1/2
1997:
First Quarter (1) $ 0.11 $ - $ 16 1/8 $ 14 7/8
Second Quarter (1) 0.12 - 19 1/8 14 3/8
Third Quarter 0.15 - 18 1/2 17
Fourth Quarter 0.15 0.30 25 1/2 18
</TABLE>
(1) Restated for 4 for 3 stock split occurring June 25, 1997.
Disclaimer
This statement has not been reviewed, or confirmed for accuracy or relevance, by
the Federal Deposit Insurance Corporation.
37
<PAGE>
CORPORATE INFORMATION KS BANCORP, INC. AND SUBSIDIARY
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------------
EXECUTIVE OFFICERS
<S> <C> <C>
Harold T. Keen Helen B. Pollock
President & CEO Treasurer and Assistant Secretary
William C. Clarke Ted G. Godwin Kevin J. Jorgenson
Senior Vice President Senior Vice President Senior Vice President
DIRECTORS
H. Elwin Watson R. Harold Hinnant R. Elton Parrish
Chairman of the Board Vice Chairman of the Board Funeral Director
Retired Business Owner Retired Business Owner Owner, Parrish Funeral Home
A. Carroll Coleman Harold T. Keen Ralph Edward Scott, Jr.
President and Manager President, CEO Farmer
P L Woodard & Co. KS BANCORP, INC and KS Bank, Inc. Owner, Scott Farms, Inc.
James C. Parker James C. Woodard Robert E. Fields
Certified Public Accountant Appraiser Appraiser
Partner, Parker and Parker PA Owner, J. & J. Appraisal, Inc. Owner, Fields Appraisal, Inc.
- ------------------------------------------------------------------------------------------------------------------------------------
STOCK TRANSFER AGENT INDEPENDENT AUDITORS SPECIAL LEGAL COUNSEL
First Citizens Bank & Trust McGladrey & Pullen, LLP Brooks, Pierce, McLendon
Corporate Trust Department 2418 Blue Ridge Road Humphrey & Leonard, LLP
P. O. Box 29522 P. O. Box 10366 P. O. Box 26000
Raleigh, NC 27626 Raleigh, NC 27605 Greensboro, NC 27420
CORPORATE OFFICE
P. O. Box 219
207 West Second Street
Kenly, North Carolina 27542
(919) 284-4157
- ------------------------------------------------------------------------------------------------------------------------------------
</TABLE>
FORM 10-K
A copy of Form 10-K as filed with the Securities and Exchange Commission will be
furnished without charge to the shareholders upon written request to Harold T.
Keen, President, KS Bancorp, Inc., P. O. Box 219, Kenly, North Carolina 27542.
ANNUAL MEETING
The 1999 annual meeting of shareholders of KS Bancorp, Inc. will be held at 7:00
pm on May 4, 1999 in the Corporate Office, 207 West Second Street, Kenly, North
Carolina.
COMMON STOCK
The Company had 888,633 shares of Common Stock outstanding which were held by
approximately 351 holders of record (excluding shares held in street name) as of
January 25, 1999. The Common Stock is listed for quotation on the OTC Bulletin
Board.
38
<PAGE>
CORPORATE INFORMATION KS BANCORP, INC. AND SUBSIDIARY SELECTED
- --------------------------------------------------------------------------------
Office Locations
Corporate Office
207 West Second Street
Kenly, NC 27542
KS Bank, Inc.
Full-Service Branch Offices
Kenly Selma Wilson
200 North Church Street 115 West Anderson Street 2846 Ward Blvd.
Kenly, NC 27542 Selma, NC 27576 Wilson, NC 27893
Manager Manager Manager
Mark M. Shore Earl W. Worley, Jr Guy C. Dixon
Garner Goldsboro
920 Seventh Ave. 1112 East Ash Street
Garner, NC 27529 Goldsboro, NC 27530
Manager Manager
Tom B. Fry John H. Metz, Jr.
Mortgage Loan Origination Office
Clayton
11444 Hwy. 70 West
Clayton, NC 27520
Manager
William C. Clarke
39
<PAGE>
EXHIBIT 21
SUBSIDIARY OF THE REGISTRANT
The Registrant has one subsidiary, KS Bank, Inc., a North Carolina
corporation. The subsidiary does business under its corporate name and under
the name "KS Bank." The subsidiary previously had the name of Kenly Savings
Bank, Inc., SSB, and did business under its corporate name and under the names
"Kenly Savings Bank" and "Kenly Savings Bank, SSB."
<PAGE>
EXHIBIT 23
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
As independent auditors, we hereby consent to the incorporation of our report,
dated January 22, 1999, incorporated by reference in this annual report of KS
Bancorp, Inc. and Subsidiary on Form 10-K, into the Company's previously filed
Form S-8 Registration Statement File No. 333-46287.
/s/ McGladrey & Pullen, LLP
------------------------------------------
Raleigh, North Carolina
March 22, 1999
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 519,761
<INT-BEARING-DEPOSITS> 11,150,780
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 7,590,856
<INVESTMENTS-CARRYING> 1,530,015
<INVESTMENTS-MARKET> 1,567,108
<LOANS> 105,694,014
<ALLOWANCE> 358,867
<TOTAL-ASSETS> 130,892,480
<DEPOSITS> 107,934,224
<SHORT-TERM> 6,000,000
<LIABILITIES-OTHER> 1,242,533
<LONG-TERM> 0
0
0
<COMMON> 5,317,502
<OTHER-SE> 10,398,221
<TOTAL-LIABILITIES-AND-EQUITY> 130,892,480
<INTEREST-LOAN> 9,013,141
<INTEREST-INVEST> 537,001
<INTEREST-OTHER> 599,031
<INTEREST-TOTAL> 10,149,173
<INTEREST-DEPOSIT> 5,256,981
<INTEREST-EXPENSE> 5,691,700
<INTEREST-INCOME-NET> 4,457,473
<LOAN-LOSSES> 33,500
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 2,663,408
<INCOME-PRETAX> 2,001,502
<INCOME-PRE-EXTRAORDINARY> 2,001,502
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,258,443
<EPS-PRIMARY> 1.46
<EPS-DILUTED> 1.32
<YIELD-ACTUAL> 3.50
<LOANS-NON> 290,500
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 0
<ALLOWANCE-OPEN> 325,367
<CHARGE-OFFS> 0
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 358,867
<ALLOWANCE-DOMESTIC> 358,867
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
