<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
-----------------
FORM 10-KSB
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1997
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File No. 0-25728
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SECURITY FEDERAL BANCORP, INC.
------------------------------------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
Delaware 63-1134627
------------------------------- ----------------------
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER
OF INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
2301 University Boulevard, Tuscaloosa, Alabama 35401-1593
- ----------------------------------------------- -----------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (205) 345-8800
---------------
Securities registered pursuant to Section 12(b) of the Act:
NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $.01 PER SHARE
--------------------------------------
(TITLE OF CLASS)
Indicate by check mark whether the registrant (1) has filed all reports required
by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or such shorter period that the registrant was required to
file such reports) and (2) has been subject to such filing requirements for the
past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to 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-KSB or any amendment to
this Form 10-KSB. [ ]
The registrant's revenues for its most recent fiscal year were $6,568,488.
As of March 1, 1998, the aggregate market value of the 505,044 shares of Common
Stock of the registrant issued and outstanding held by non-affiliates on such
date was approximately $10.7 million based on the last known sale price of
$21.125 per share of the registrant's Common Stock on February 23, 1998. For
purposes of this calculation, it is not assumed that directors, executive
officers and beneficial owners of more than 5% of the registrant's outstanding
voting stock are not affiliates.
The total number of outstanding shares of the registrant's common stock at March
1, 1998 was 678,876.
Transitional small business disclosure format: No.
DOCUMENTS INCORPORATED BY REFERENCE
The following lists the documents (other than exhibits) incorporated by
reference (and the Part of the Form 10-KSB into which the document is
incorporated):
1. Portions of Annual Report to Stockholders for the year ended December
31, 1997 (Parts I and II).
2. Portions of Proxy Statement for 1998 Annual Meeting of Stockholders
(Part III).
<PAGE>
PART I
ITEM 1. DESCRIPTION OF BUSINESS
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GENERAL
THE COMPANY. Security Federal Bancorp, Inc. (the "Company"), a Delaware
corporation, was incorporated under the laws of the State of Delaware to become
a savings institution holding company with Security Bank ("Security Bank" or the
"Bank") as its subsidiary. The Company was incorporated at the direction of the
Board of Directors of the Bank in 1994. In 1995, the Bank converted from mutual
to stock form as a wholly owned subsidiary of the Company (the "Conversion")
and adopted its present name. In conjunction with the Conversion, the Company
issued 671,469 shares of its common stock to the public.
The Company is classified as a unitary savings and loan holding company
subject to regulation by the Office of Thrift Supervision ("OTS") of the
Department of the Treasury. Prior to its acquisition of the Bank, the Company
had no significant assets and no liabilities and engaged in no business
activities. Since the acquisition, the Company has not engaged in any
significant activity other than holding the stock of the Bank and operating the
business of a savings bank through the Bank. Accordingly, the information set
forth in this report, including financial statements and related data, relates
primarily to the Bank.
On September 15, 1997, the Company determined to change its fiscal year-end
from September 30 to December 31. As a result, the Company has filed a
quarterly report on Form 10-QSB for the nine months ended September 30, 1997,
and the Company is filing this annual report on Form 10-KSB for the fiscal year
ended December 31, 1997. While this report includes selected information,
including certain audited financial statements, for the transition period from
October 1, 1996 to December 31, 1996, information for the transition period is
omitted herein where in management=s judgment such information would be
impractical to present or immaterial to investors.
The executive offices of the Company are located at 2301 University
Boulevard, Tuscaloosa, Alabama 35401-1593, and its telephone number is (205)
345-8800.
THE BANK. Security Bank was formed in 1965 as a federally chartered
mutual savings and loan association. In 1966, the Bank obtained federal
insurance of accounts, became a member of the FHLB of Atlanta, and commenced
operations. In 1990, the Bank converted to a federally chartered mutual savings
bank. In 1995, the Bank converted to the stock form of ownership. In 1997, the
Bank changed its name to "Security Bank". The Bank operates through its sole
office in Tuscaloosa, Alabama.
The Bank is principally engaged in the business of accepting deposits from
the general public and investing these funds primarily in loans secured by first
mortgages on one- to four-family residential properties located in its market
area. The Bank also originates loans secured by savings accounts and home
equity loans and began originating various types of consumer and commercial
loans in the last quarter of 1998. At December 31, 1997, the Bank had total
assets of $76.3 million, deposits of $65.4 million, net loans receivable of
$66.5 million and retained earnings of $5.8 million.
The Bank's deposits are insured by the Savings Association Insurance Fund
("SAIF"), which is administered by the Federal Deposit Insurance Corporation
("FDIC") up to applicable limits for each depositor. The Bank is a member of
the Federal Home Loan Bank ("FHLB") of Atlanta, which is one of the 12 district
banks comprising the FHLB System. The Bank is subject to comprehensive
examination, supervision and regulation by the OTS and the FDIC. Such
regulation is intended primarily for the protection of depositors.
Security Bank's executive offices are located at 2301 University Boulevard,
Tuscaloosa, Alabama 35401-1593 and its telephone number is (205) 345-8800.
2
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PENDING LEGISLATION
Legislation has been introduced in Congress that provides for the
elimination of the distinctions between banks and thrifts under federal law.
The legislation may require the automatic conversion of all federally chartered
savings associations such as the Bank into national banks by a specified
deadline. It could impose activities restrictions and restrictions on branches,
and it could also compel the holding companies of such institutions to be
subject to the more restrictive regulations that govern holding companies of
banks rather than thrifts. The legislation could restrict current or future
activities of the Bank and the Company, and it could increase regulatory
compliance costs because of the new regulatory structure to which the Bank and
the Company would be subject. Management cannot predict at this time whether
any pending legislation ultimately will be enacted in its current form or, if
enacted, whether such legislation would result in any significant adverse
financial and tax effects.
MARKET AREA
The Bank considers its primary area for deposits and lending to consist of
the Tuscaloosa metropolitan statistical area, consisting of Tuscaloosa County.
To a lesser extent, the Bank also conducts operations in the neighboring
counties of Jefferson, Bibb, Hale, Greene, Pickens and Fayette.
The metropolitan Tuscaloosa area has a diversified economy based on a
combination of services, education, trade, manufacturing and government.
Employers include Mercedes Benz, Uniroyal Goodrich, JVC, Phifer Wire Products,
and Tuscaloosa Steel, as well as four large hospitals and the University of
Alabama. Based upon the 1992 census, Tuscaloosa and Tuscaloosa County have
populations of approximately 78,000 and 153,000, respectively. In addition,
approximately 19,000 full time students attending the University of Alabama are
not included in these population statistics.
The unemployment rate for Tuscaloosa County in December 1997 was 2.3%,
compared to rates of 4.6% and 4.7% for the State of Alabama and the United
States, respectively. The relatively low unemployment rate is believed to
reflect the overall stability of Tuscaloosa County's economy. Economic
development in the Bank's market area also is believed to stabilize employment.
LENDING ACTIVITIES
General. The principal lending activity of Security Bank is the
origination of conventional mortgage loans for the purpose of purchasing or
refinancing owner-occupied one-to four-family residential properties in the
Bank's primary market area. At December 31, 1997, one- to four-family mortgage
loans constituted 88.7% of the Bank's gross loan portfolio. A majority of such
mortgage loans have adjustable-rates, although a significant amount of fixed-
rate mortgage loans are also originated. The Bank also originates multi-family
residential, construction and commercial real estate loans, as well as a small
amount of consumer loans primarily secured by deposits.
Prior to the 1980s, the Bank's residential lending activities consisted
primarily of originating fixed-rate mortgage loans with maturities of up to 30
years for retention in the loan portfolio. Fundamental changes in the
regulation of savings institutions in the early 1980s and then prevailing
economic conditions combined to increase significantly both the level and
volatility of the Bank's cost of funds. Since the early 1980s, the Bank has
sought to build a more rate-sensitive loan portfolio by originating adjustable-
rate mortgages in addition to continuing to originate fixed-rate mortgage loans.
Adjustable-rate mortgages generally are indexed to the weekly average rate on
United States Treasury securities adjusted to a constant maturity, usually one
year ("U.S. Treasury Constant Maturity Index"). At December 31, 1997, the
Bank's one- to four-family mortgage loan portfolio consisted of 64.6% of
adjustable-rate loans and 35.4% of fixed-rate loans. Most mortgage loans are
underwritten to qualify for sale in the secondary market.
The Bank continues to originate fixed-rate one- to four-family mortgage
loans in response to consumer demand generated by the decline in market interest
rates. In an environment of low interest rates which continues to prevail,
3
<PAGE>
borrowers tended to prefer long term, fixed-rate mortgage loans rather than
adjustable-rate mortgage loans with short-term interest rate changes. Security
Bank nonetheless continued to originate adjustable-rate mortgage loans.
Although most of the Bank's fixed-rate loans are originated for sale in the
secondary market, the Bank's fixed-rate loan originations depend upon the level
of interest rate risk that the Bank is willing to accept given its capital,
profitability and other factors. The Bank continues to emphasize pricing of its
adjustable-rate mortgage loans to continue attracting this type of loan.
The Bank intends to continue actively monitoring the interest rate
environment, prepayment activity, interest rate risk and other factors in
developing its strategy with respect to the volume and pricing of its fixed-rate
loans and in its lending activities generally.
Savings institutions generally are subject to the lending limits applicable
to national banks. With certain limited exceptions, the maximum amount that a
savings institution or a national bank may lend to any borrower (including
certain related entities of the borrower) at one time may not exceed 15% of the
unimpaired capital and surplus of the institution, plus an additional 10% of
unimpaired capital and surplus for loans fully secured by readily marketable
collateral. Savings institutions are additionally authorized to make loans to
one borrower, for any purpose, in an amount not to exceed $500,000 or, by order
of the Director of OTS, in an amount not to exceed the lesser of $30,000,000 or
30% of unimpaired capital and surplus to develop residential housing, provided:
(i) the purchase price of each single-family dwelling in the development does
not exceed $500,000; (ii) the savings institution is in compliance with its
fully phased-in capital requirements; (iii) the loans comply with applicable
loan-to-value requirements; and (iv) the aggregate amount of loans made under
this authority does not exceed 150% of unimpaired capital and surplus.
At December 31, 1997, the maximum amount that the Bank could have loaned to
any one borrower without prior OTS approval was $1.38 million. The Bank's five
largest loans to one borrower outstanding at December 31, 1997 ranged from
$453,000 to $1.37 million.
Loan Portfolio Composition. The following table sets forth selected data
relating to the composition of the Bank's loan portfolio by type of loan at the
dates indicated. At December 31, 1997, the Bank had no concentrations of loans
exceeding 10% of total loans that are not otherwise disclosed below.
<TABLE>
<CAPTION>
At September 30, AT DECEMBER 31,
----------------------------------------------- ----------------
1995 1996 1997 (1)
----------------- ---------------- ----------------
Amount % AMOUNT % AMOUNT %
----------------- ------- ------- ------- ------- -------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Type of Loan:
- -------------
Real estate loans --
Construction loans.................. $ 6,015 9.64% $ 6,240 8.52% $ 3,876 5.72%
One- to four-family residential..... 51,281 82.17 60,014 84.06 60,122 88.69
Multi-family........................ 2,715 4.35 3,478 4.75 2,158 3.18
Commercial.......................... 1,885 3.02 1,410 1.93 744 1.10
Non-mortgage loans --
Savings account and consumer loans.. 507 .81 468 .63 510 .75
Home improvement loans.............. 5 .01 7 .01 -- --
Home equity loans................... -- -- 70 .10 334 .49
Commercial business................. -- -- -- -- 45 .07
------- ------ ------- ------ ------- ------
............................ 62,408 100.00% 71,687 100.00% 67,789 100.00%
====== ====== ======
Less:
Loans in process.................... 1,958 2,409 559
Deferred loan fees.................. 309 437 408
Loan loss reserve................... 330 330 330
------- ------- -------
Total.............................. $59,811 $68,511 $66,492
======= ======= =======
</TABLE>
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(1) On September 15, 1997, the Company determined to change its fiscal year-end
from September 30 to December 31.
4
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Loan Maturity Schedule. The following table sets forth certain information
at December 31, 1997 regarding the dollar amount of loans maturing in the Bank's
portfolio based on their contractual terms to maturity, including scheduled
repayments of principal. Demand loans, loans having no stated schedule of
repayments and no stated maturity, and overdrafts are reported as due in one
year or less.
<TABLE>
<CAPTION>
WITHIN AFTER ONE AFTER
ONE BUT WITHIN FIVE
YEAR FIVE YEARS YEARS TOTAL
--------- ---------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Real estate mortgage............ $ 64 $ 1,103 $ 61,857 $ 63,024
Real estate construction/
permanent...................... 2,635 -- 1,241 3,876
Consumer................ 334 221 334 889
--------- -------- -------- --------
Total................. $ 3,033 $ 1,324 $ 63,432 $ 67,789
========= ======== ======== ========
</TABLE>
The following table sets forth at December 31, 1997, the dollar amount of
all loans due more than one year after December 31, 1997 which have
predetermined interest rates and have floating or adjustable interest rates.
<TABLE>
<CAPTION>
PREDETERMINED FLOATING OR
RATES ADJUSTABLE-RATES
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(IN THOUSANDS)
<S> <C> <C>
Real estate mortgage.............. $ 22,557 $ 40,404
Real estate construction.......... -- 1,241
Consumer.......................... 405 149
-------- --------
Total.......................... $ 22,962 $ 41,794
======== ========
</TABLE>
5
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Scheduled contractual principal repayments of loans do not necessarily
reflect the actual life of such assets. The average life of long-term loans is
substantially less than their contractual terms, due to prepayments. In
addition, "due-on-sale" clauses in mortgage loans generally give Security Bank
the right to declare a loan due and payable in the event, among other things,
that a borrower sells the real property subject to the mortgage and the loan is
not repaid. Due-on-sale clauses are a means of increasing the rate on existing
mortgage loans during periods of rising interest rates and increasing the
turnover of mortgage loans in the Bank's portfolio. The average life of
mortgage loans tends to increase when current mortgage loan market rates are
substantially higher than rates on existing mortgage loans and tends to decrease
when current mortgage loan market rates are substantially lower than rates on
existing mortgage loans. The approximate average length of time that loans made
by the Bank on one- to four-family residences remain outstanding is seven years.
One- to Four-Family Real Estate Lending. The primary emphasis of the
Bank's lending activity is the origination of loans secured by first mortgages
on owner-occupied, one- to four-family residential properties. The purchase
price or appraisal value of most of such residences is currently in
approximately the $95,000 to $106,000 range, with Security Bank's loan amounts
averaging approximately $85,000. Management believes that price range includes
the majority of the single family properties in the Bank's market area. At
December 31, 1997, $60.1 million or 88.7% of the Bank's gross loan portfolio
consisted of loans secured by one- to four-family residential real properties
which were primarily owner-occupied, single-family residences primarily located
in the Bank's market area.
The Bank's lending policies generally limit the maximum loan-to-value ratio
on mortgage loans secured by owner-occupied properties up to 95% of the lesser
of the appraised value or purchase price, with private mortgage insurance
required on loans with loan-to-value ratios in excess of 80%. The maximum loan-
to-value ratio on mortgage loans secured by non-owner-occupied properties is
80%.
Security Bank originates fixed-rate mortgage loans on one- to-four family
residential properties with terms to maturity of up to 30 years. Although most
such loans are amortized on a monthly basis, with principal and interest due
each month, some fixed-rate loans are originated on a long-term amortizing basis
with balloon payments due up to 7 years from date of origination. Security Bank
originated $20.4 million in fixed-rate one- to-four family mortgage loans during
the year ended December 31, 1997, compared with $24.6 million during the year
ended September 30, 1997. Such loans are originated primarily for sale in the
secondary market. A small number of loans have been sold in prior years to
individuals and other lending institutions.
Security Bank began originating conventional residential mortgage loans
with adjustable-rates in the early 1980's, in response to fluctuating interest
rates. Currently, the Bank principally offers adjustable-rate mortgage loans
with rate adjustments indexed to the U.S. Treasury Constant Maturity Index. The
primary adjustable-rate product is a five year adjustable-rate mortgage loan
that has a 2% cap on yearly adjustments and a 6% adjustment cap over the life of
the loan. Security Bank originated $7.7 million in adjustable-rate one-to-four
family mortgage loans during the year ended December 31, 1997, compared with
$8.73 million during the year ended September 30, 1997. Such loans are
primarily originated for the Bank's own loan portfolio. However, from time to
time the Bank may sell adjustable-rate loans in the secondary market for
liquidity.
The retention of adjustable-rate mortgage loans in the Bank's portfolio
helps reduce the Bank's exposure to changes in interest rates. However, there
are unquantifiable credit risks resulting from potential increased costs to the
borrower as a result of repricing of adjustable-rate mortgage loans. It is
possible that during periods of rising interest rates, the risk of default on
adjustable-rate mortgage loans may increase due to the upward adjustment of
interest cost to the borrower. Further, although adjustable-rate mortgage loans
allow the Bank to increase the sensitivity of its asset base to changes in
interest rates, the extent of this interest sensitivity is limited by the
periodic and lifetime interest rate adjustment limitations. Accordingly, there
can be no assurance that yields on the Bank's adjustable-rate mortgages will
adjust sufficiently to compensate for increases, if any, in the Bank's cost of
funds.
6
<PAGE>
Construction Lending. Security Bank engages in construction lending,
involving loans to qualified borrowers for construction of one- to four-family
residential properties. These properties are primarily located in the Bank's
market area. At December 31, 1997 the Bank's loan portfolio included $3.9
million of loans secured by properties under construction, the majority of which
were construction/permanent loans structured to become permanent loans upon the
completion of construction. To a lesser extent, the Bank also originates
interim construction loans structured to be repaid in full upon completion of
construction and receipt of permanent financing. All construction loans are
secured by a first lien on the property under construction. Loan proceeds are
disbursed in increments as construction progresses and as inspections warrant.
Construction/permanent loans generally have adjustable or fixed interest
rates and are underwritten in accordance with the same terms and requirements as
the Bank's permanent mortgages, except the loans generally provide for
disbursement in stages during a construction period of up to six months, during
which period the borrower is required to make monthly payments of accrued
interest on the outstanding loan balance. Borrowers must satisfy all credit
requirements which would apply to the Bank's permanent mortgage loan financing
for the subject property.
Construction financing generally is considered to involve a higher degree
of risk of loss than long-term financing on improved, occupied real estate.
Risk of loss on a construction loan is dependent largely upon the accuracy of
the initial estimate of the property's value at completion of construction or
development and the estimated cost (including interest) of construction. During
the construction phase, a number of factors could result in delays and cost
overruns. If the estimate of construction costs proves to be inaccurate, the
Bank may be required to advance funds beyond the amount originally committed to
permit completion of the development. If the estimate of value proves to be
inaccurate, the Bank may be confronted, at or prior to the maturity of the loan,
with a project having a value which is insufficient to assure full repayment.
The ability of a developer to sell developed lots or completed dwelling units
will depend on, among other things, demand, pricing, availability of comparable
properties and economic conditions. The Bank has sought to minimize this risk
by limiting construction lending to qualified borrowers in the Bank's market
area and by limiting the aggregate amount of outstanding construction loans.
Multi-Family and Commercial Real Estate Lending. Although Security Bank
has not actively pursued multi-family and commercial real estate lending because
of its emphasis on providing mortgage loans secured by one- to four-family
residences, the Bank originates limited amounts of such loans in order to
benefit from the higher origination fees and interest rates, as well as shorter
terms to maturity, than can be obtained from single-family mortgage loans.
Security Bank's multi-family loans are primarily secured by apartment buildings
in the Bank's market area. The commercial real estate loans originated by the
Bank have generally been made to small businesses and have primarily been
secured by first mortgages on commercial real property as well as personal
guarantees. At December 31, 1997, loans on commercial real estate properties
constituted approximately $2.9 million, or 4.3% of the Bank's gross loan
portfolio.
Multi-family and commercial real estate lending entails significant
additional risks as compared to one- to four-family residential lending. For
example, such loans typically involve large loans to single borrowers or related
borrowers, the payment experience on such loans is typically dependent on the
successful operation of the project, and these risks can be significantly
affected by the supply and demand conditions in the market for commercial
property and multi-family residential units. To minimize these risks, Security
Bank generally limits such lending to its market area and to borrowers with
which it has substantial experience or who are otherwise well known to the Bank.
It is the Bank's current policy to obtain personal guarantees and current
financial statements from all principals obtaining commercial real estate loans.
Substantially all of the properties securing the Bank's multi-family and
commercial real estate loans are inspected by the Bank's lending personnel
before the loan is made. The Bank also obtains appraisals on each property in
accordance with applicable regulations. If such loans later become delinquent,
the Bank contacts and works with the borrower to resolve the delinquency before
initiating foreclosure proceedings.
7
<PAGE>
Consumer Lending. During the last quarter of 1997, the Bank began placing
an emphasis on consumer lending by expanding its consumer loan operations. At
the present time, the Bank's consumer loans primarily consist of loans secured
by deposit account balances. The Bank generally makes certificate of deposit
loans for up to 90% of the face amount of the certificate. The interest rate on
these loans generally is 2.0% above the rate paid on the certificate, and
interest is billed on a quarterly basis. These loans are payable on demand, and
the account must be assigned to the Bank as collateral for the loan. At
December 31, 1997 such loans amounted to $432,000, or .64% of the Bank's gross
loan portfolio.
During 1998, the Bank intends to broaden its consumer portfolio by
increasing originations of consumer loans other than loans secured by deposit
accounts. Beginning in the last quarter of 1997, the Bank added a consumer
lending department which offers various types of loans including automobile
loans, loans secured by other personal property and debt consolidation loans.
Consumer loans not secured by a deposit account balance generally involve more
risk than first mortgage one- to four-family residential real estate loans.
Repossessed collateral for a defaulted loan may not provide an adequate source
of repayment of the outstanding loan balance as a result of damage, loss or
depreciation, and the remaining deficiency often does not warrant further
substantial collection efforts against the borrower. In addition, loan
collections are dependent on the borrower's continuing financial stability, and
thus are more likely to be adversely affected by job loss, divorce, illness or
personal bankruptcy. Further, the application of various federal and state
laws, including federal and state bankruptcy and insolvency laws, may limit the
amount which can be recovered. These loans may also give rise to claims and
defenses by a borrower against the Bank, and a borrower may be able to assert
against the Bank claims and defenses which it has against the seller of the
underlying collateral. In underwriting consumer loans, the Bank considers the
borrower's credit history, an analysis of the borrower's income, expenses and
ability to repay the loan and the value of the collateral.
Commercial Business Lending. During the last quarter of 1997, the Bank
began soliciting commercial businesses loans to small and medium sized business
in its market area. Commercial business loans may be larger and involve greater
risk than other types of lending. Because payments on such loans are often
dependent on successful operation of the business involved, repayment of such
loans may be subject to a greater extent to adverse conditions in the economy.
It is anticipated that any such lending would be restricted to borrowers with
which the Bank has substantial experience or who are otherwise well known to
Security Bank.
Loan Solicitation and Processing. Loan originations primarily come from
walk-in customers and referrals by realtors, homebuilders, depositors and
borrowers. Loan applications are underwritten and closed on the Bank's own loan
guidelines.
Upon receipt of a loan application from a prospective borrower, a credit
report and verifications are ordered to verify specific information relating to
the loan applicant's employment, income and credit standing. An appraisal of
the real estate intended to secure the proposed loan is undertaken by an
independent appraiser approved by the Bank.
The Board of Directors of Security Bank has the responsibility and
authority for general supervision over the loan policies of the Bank. All
mortgage loans, regardless of dollar amount, are approved prior to closing by a
loan committee comprised of three Bank directors. Consumer and commercial loans
over a dollar amount set by the Board are approved prior to closing by the loan
committee.
Loan applicants are promptly notified of the decision of the Bank. The
Bank generally issues loan commitments for a term not to exceed 60 days.
Security Bank currently charges a fee of .25% of the loan amount to guarantee
the interest rate up to 60 days. If an approved loan is not funded within 60
days, the applicant must re-apply. It has been management's experience that
less than 10% of commitments expire without being funded. Fire and casualty
insurance are required for all loans as appropriate, and a title opinion or
title insurance is required for loans secured by real estate.
8
<PAGE>
Originations and Sales of Loans. The following table sets forth certain
information with respect to originations and sales of loans during the periods
indicated.
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
September 30, DECEMBER 31,
------------- ------------
1995 1996 1997 (1)
------------- ------------ ------------
(IN THOUSANDS)
<S> <C> <C> <C>
Loans originated:
Real estate loans:
Construction loans........ $ 7,127 $ 8,740 $ 3,972
One- to four-family....... 19,875 33,331 25,803
Multi-family.............. -- 1,091 --
Commercial................ -- -- --
Consumer loans............. 7 13 963
Commercial business loans.. 61 -- 45
------- ------- --------
Total loans originated... $27,070 $43,175 $ 30,783
======= ======= ========
Loan purchased:
Real estate loans:
Commercial loans.......... $ -- $ -- $ --
------- ------- --------
Total loans purchased.... $ -- $ -- $ --
======= ======= ========
Loans sold:
Whole loans................ $ 9,374 $15,336 $ 20,458
------- ------- --------
Total loans sold......... $ 9,374 $15,336 $ 20,458
======= ======= ========
</TABLE>
- ---------------
(1) On September 15, 1997, the Company determined to change its fiscal year-end
from September 30 to December 31.
Security Bank sold $20.4 million of its residential mortgage loans in the
year ended December 31, 1997, compared with $15.34 million in the year ended
September 30, 1996. Almost all loans are sold in the secondary market to the
Federal Home Loan Mortgage Corporation ("FHLMC"), although a small number of
loans have, from time to time, been sold to individual investors and other
institutions. Security Bank does not retain any participation interest in any
loans which are sold, but in most cases the Bank retains servicing rights on the
loans sold. As of December 31, 1997, the Bank was servicing 1,287 loans
totaling $86.1 million. During the year ended December 31, 1997, loan servicing
fees amounted to approximately 2.8% of total gross income, compared with 3.5%
during the year ended September 30, 1996. For additional information, see Note
4 of Notes to Consolidated Financial Statements at Item 7 of this report.
Interest Rates and Loan Fees. Interest rates charged by the Bank on
mortgage loans are primarily determined by competitive loan rates offered in its
market area. Mortgage loan rates reflect factors such as general interest rate
levels, the supply of money available to the savings industry and the demand for
such loans. These factors are in turn affected by general economic conditions,
the monetary policies of the Federal government, including the Board of
Governors of the Federal Reserve System (the "Federal Reserve Board"), the
general supply of money in the economy, tax policies and governmental budget
matters.
In addition to the interest earned on loans, the Bank receives fees in
connection with loan commitments and originations, loan modifications, late
payments and fees for miscellaneous services related to its loans. The Bank
charges a fee for its costs associated with the origination of adjustable-rate
mortgage loans and fixed-rate mortgage loans in addition to a 1% origination
fee. All fee income is recognized by the Bank in accordance with guidelines
established by Statement of Financial Accounting Standards ("SFAS") No. 91.
9
<PAGE>
To the extent that loans are originated or acquired for the portfolio, SFAS
No. 91 limits immediate recognition of loan origination or acquisition fees as
revenues and requires that such income (net of certain loan origination or
acquisition costs) be recognized over the estimated life of such loans and
thereby reduces the amount of revenue recognized by Security Bank at the time
such loans are originated or acquired. At December 31, 1997, the Bank had
received $408,000 of loan fees that had been deferred and were being recognized
as income over the estimated lives of the related loans.
Asset Classification and Allowance for Loan Losses. Federal regulations
require savings associations to review their assets on a regular basis and to
classify them as "substandard," "doubtful" or "loss," if warranted. Assets
classified as substandard or doubtful require the institution to establish
general allowances for loan losses. If an asset or portion thereof is
classified loss, the insured institution must either establish specified
allowances for loan losses in the amount of 100% of the portion of the asset
classified loss, or charge off such amount. An asset which does not currently
warrant classification but which possesses weaknesses or deficiencies deserving
close attention is required to be designated as "special mention." Currently,
general loss allowances established to cover possible losses related to assets
classified substandard or doubtful may be included in determining an
institution's regulatory capital, while specific valuation allowances for loan
losses do not qualify as regulatory capital. See "Regulation of the Bank --
Regulatory Capital Requirements." OTS examiners may disagree with the insured
institution's classifications and amounts reserved. If an institution does not
agree with an examiner's classification of an asset, it may appeal this
determination to the OTS. The Bank has an asset classification committee,
consisting of four employees of the Bank, including President John F. Harvard,
which meets monthly to review assets and determine whether those assets should
be classified pursuant to OTS regulations. Through the committee, the Bank has
determined that at December 31, 1997 it had $600,000 in assets classified as
substandard, and no assets classified as doubtful, loss or special mention. For
additional information, see " -- Non-Performing Loans and Other Problem Assets"
below.
In originating loans, the Bank recognizes that credit losses will be
experienced and that the risk of loss will vary with, among other things, the
type of loan being made, the creditworthiness of the borrower over the term of
the loan, general economic conditions and, in the case of a secured loan, the
quality of the security for the loan. It is management's policy to maintain an
adequate general allowance for loan losses based on, among other things, the
Bank's and the industry's historical loan loss experience, evaluation of
economic conditions and regular reviews of delinquencies and loan portfolio
quality and risk. The Bank increases its allowance for loan losses by charging
provisions for possible loan losses against the Bank's income. Management
continues to actively monitor the Bank's asset quality and to charge off loans
against the allowance for loan losses when appropriate. Although management
believes it uses the best information available to make determinations with
respect to the allowance for loan losses, future adjustments may be necessary if
economic conditions differ substantially from the economic conditions in the
assumptions used in making the initial determinations.
The Bank was examined by the OTS in January 1997 and its loan loss
allowance was considered by the OTS to be adequate as of that time. While the
Bank believes it has established its existing allowances for loan losses in
accordance with generally accepted accounting principles, there can be no
assurance that regulators, in reviewing the Bank's loan portfolio during future
examinations, will not request the Bank to significantly increase its allowance
for loan losses, thereby negatively effecting the Bank's financial condition and
earnings.
10
<PAGE>
The following table sets forth an analysis of the Bank's allowance for loan
losses for the periods indicated.
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
----------------------- ------------
1995 1996 1997 (1)
------ ------ -------------
(IN THOUSANDS)
<S> <C> <C> <C>
Balance at beginning of period......... $ 330 $ 330 $ 330
------ ------- --------
Loans charged-off:
Real estate -- mortgage:
Residential........................ -- -- --
Commercial......................... -- -- --
Real estate -- construction.......... -- -- --
Commercial business.................. -- -- --
Consumer............................. -- -- --
------ ------- --------
Total charge-offs...................... -- -- --
------ ------- --------
Recoveries:
Real estate -- mortgage:
Residential........................ -- -- --
Commercial......................... -- -- --
Real estate -- construction.......... -- -- --
Commercial business.................. -- -- --
Consumer............................. -- -- --
Total recoveries....................... -- -- --
Net loans charged-off.................. -- -- --
Provision for loan losses.............. -- -- --
------ ------- --------
Balance at end of period............... $ 330 $ 330 $ 330
====== ======= ========
Ratio of net charge-offs to average
loans outstanding during the period.. --% --% --%
Allowance for loan losses to total
loans receivable, gross.............. .53% .46% .49%
====== ======= ========
_______________
</TABLE>
(1) On September 15, 1997, the Company determined to change its fiscal year-end
from September 30 to December 31.
11
<PAGE>
The following table sets forth the breakdown of the allowance for loan
losses by loan category at the dates indicated. Management believes that the
allowance can be allocated by category only on an approximate basis. The
allocation of the allowance to each category is not necessarily indicative of
future losses and does not restrict the use of the allowance to absorb losses in
any category.
<TABLE>
<CAPTION>
SEPTEMBER 30,
------------------------------------------------------- DECEMBER 31,
1995 1996 1997
----------------------- -------------------------- -------------------------
PERCENT OF PERCENT OF PERCENT OF
LOANS IN LOANS IN LOANS IN
EACH CATEGORY EACH CATEGORY EACH CATEGORY
AMOUNT TO TOTAL LOANS AMOUNT TO TOTAL LOANS AMOUNT TO TOTAL LOANS
------ -------------- ------ -------------- ------ --------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C>
Real estate - mortgage:
Residential (1)................... $186 86.57% $121 88.92% $275 91.87%
Commercial........................ 110 3.01 91 1.93 8 1.10
Real estate - construction......... 31 9.59 114 8.52 39 5.72
Consumer........................... 3 .83 4 .64 8 1.31
---- ------ ---- ------ ---- ------
Total allowance for loan losses.. $330 100.00% $330 100.00% $330 100.00%
==== ====== ==== ====== ==== ======
_______________
</TABLE>
(1) Includes multi-family.
Non-Performing Loans and Other Problem Assets. Management reviews the
Bank's loans on a regular basis. After mortgage loans become past due more than
90 days, the Bank places them on non-accrual status. The Bank has had a
favorable loan loss history, and has not charged off any residential real estate
loans in recent years. For additional information, see Note 4 of the Notes to
Consolidated Financial Statements at Item 7 of this report.
The Bank's collection procedures provide that when a loan becomes past due
10 days, the borrower is contacted by mail, and payment is requested. If
payment is not promptly received, the borrower is contacted again, and efforts
are made to formulate an affirmative plan to cure the delinquency. After a loan
becomes past due 90 days, the Bank generally initiates legal proceedings. Loans
delinquent 90 days or greater are managed based on a workout plan developed by
the Bank and the borrower.
Real estate acquired by the Bank as a result of foreclosure is classified
as real estate owned until such time as it is sold. When such property is
acquired, it is recorded at the lower of the unpaid principal balance or its net
realizable value. Any required write-down of the loan to its appraised fair
market value less selling costs upon foreclosure is charged against the
valuation allowance for real estate owned. The Bank generally attempts to sell
the property at a price no less than its net book value; however, the Bank will
consider a slight discount to the appraised value to expedite the return of the
funds to an earning status.
12
<PAGE>
The following table sets forth information with respect to the Bank's
nonperforming assets at the dates indicated. No loans were recorded as
restructured loans within the meaning of SFAS No. 15 at the dates indicated.
<TABLE>
<CAPTION>
AT SEPTEMBER 30, AT
-------------------- DECEMBER 31,
1995 1996 1997
------ ------- ------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
Loans accounted for on a non-accrual basis: (1)
Real estate:
Construction................................... $ -- $ 426 $ --
Residential (2)................................ 95 268 279
Commercial..................................... 333 -- --
Commercial business............................. -- -- --
Consumer........................................ -- -- --
----- ------ ----
Total......................................... $ 428 $ 694 $279
===== ====== ====
Accruing loans which are contractually past due
90 days or more:
Real estate:
Construction................................... $ -- $ -- $ --
Residential.................................... -- 372 --
Commercial..................................... -- -- --
Commercial business............................. -- -- --
Consumer........................................ -- -- --
----- ------ ----
Total......................................... $ -- $ 372 $ --
===== ====== ====
Total of non-performing loans................. $ 428 $1,066 $279
Real estate owned................................ 162 117 277
----- ------ ----
Total non-performing assets...................... $ 590 $1,183 $556
===== ====== ====
</TABLE>
_______________
(1) Payments received on a non-accrual loan are either applied to the
outstanding principal balance or recorded as interest income, depending on
assessment of the collectibility of the loan.
(2) Includes multi-family loans.
Management believes there was no single non-performing asset at December
31, 1997 which presented a significant risk of loss to Security Bank.
The Bank establishes general reserves for all classified loans, and the
loan is written down to an amount the Bank determines to be the fair value of
the property based on regular inspections of the property by management.
Updated appraisals generally are not conducted until after a loan enters
foreclosure proceedings, and there may be risks associated with not obtaining
updated appraisals on classified loans. The most significant risk could be a
market value substantially below the current book value of the property, thereby
requiring a charge against the valuation allowance for real estate owned.
However, due to the relatively small number of classified loans in the Bank's
portfolio, the small number of large commercial real estate loans in the
portfolio, the origination of commercial real estate loans only in the Bank's
market area, and the fact that inspections by management are conducted
regularly, management does not consider the lack of obtaining updated appraisals
on classified loans as a significant risk.
At December 31, 1997, management had identified 27 loans aggregating
approximately $1.58 million, which were between 60 and 89 days delinquent and
were not reflected in the preceding table, but as to which known information
about possible credit problems of borrowers caused management to have doubts as
to the ability of the borrowers to comply with present loan repayment terms.
Management does not expect Security Bank to experience any material loss on
these loans in the future.
13
<PAGE>
During the year ended December 31, 1997, gross interest income of $18,969
would have been recorded on loans accounted for on a non-accrual basis if the
loans had been current throughout the respective periods. No interest on such
loans was included in income during these periods.
INVESTMENT ACTIVITIES
Security Bank is permitted under federal law to make certain investments,
including investments in securities issued by various federal agencies and state
and municipal governments, deposits at the FHLB of Atlanta, certificates of
deposits in federally insured institutions, certain bankers' acceptances and
federal funds. The Bank may also invest, subject to certain limitations, in
commercial paper having one of the two highest investment ratings of a
nationally recognized credit rating agency, and certain other types of corporate
debt securities and mutual funds. Federal regulations require the Bank to
maintain an investment in FHLB of Atlanta stock and a minimum amount of liquid
assets which may be invested in cash and specified securities. From time to
time, the OTS adjusts the percentage of liquid assets which savings institutions
are required to all maintain. For additional information, see "Regulation of
the Bank -- Liquidity Requirements."
The Bank invests in investment securities in order to diversify its assets,
manage cash flow, obtain yield and maintain the minimum levels of liquid assets
required by regulatory authorities. Such investments generally include
purchases of federal government and agency securities and qualified deposits in
the FHLB of Atlanta and in other financial institutions. The investment
portfolio consists of short- and intermediate-term investments, which mature in
five years or less. The cash and investment portfolio has increased in recent
periods, as excess cash flow resulting from loan portfolio shrinkage and from
the sale of loans has largely been maintained in cash and investments. At
December 31, 1997, the Bank had no forward commitments to purchase or sell any
securities. The Bank's investment policy prohibits the purchase of junk bonds,
mortgage derivatives or futures. Investment decisions generally are made by the
Investment Committee consisting of Directors Sealy, Moore and Harvard.
The following table sets forth the carrying value of the Bank's investment
securities portfolio at the dates indicated.
<TABLE>
<CAPTION>
AT SEPTEMBER 30, AT
-------------------- DECEMBER 31,
1995 1996 1997
------ ------- ------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
Investment securities:
U.S. government and agency obligations..... $7,147 $2,985 $3,077
State and municipal obligations............ -- -- --
------ ------ ------
Total investment securities............... 7,147 2,985 3,077
Interest-earning deposits and certificates.. 977 993 3,004
FHLB stock.................................. 508 539 620
------ ------ ------
Total investments......................... $8,632 $4,517 $6,701
====== ====== ======
</TABLE>
For additional information, see Note 3 of the Notes to Consolidated Financial
Statements at Item 7 of this report.
14
<PAGE>
The following table sets forth the scheduled maturities, carrying values,
market values and average yields for the Bank's investment portfolio at December
31, 1997.
<TABLE>
<CAPTION>
ONE YEAR OR ONE TO FIVE
LESS YEARS FIVE TO TEN YEARS MORE THAN TEN YEARS TOTAL INVESTMENT PORTFOLIO
------------------ ----------------- ----------------- ------------------- --------------------------
CARRYING AVERAGE CARRYING AVERAGE CARRYING AVERAGE CARRYING AVERAGE CARRYING MARKET AVERAGE
Value YIELD VALUE YIELD VALUE YIELD VALUE YIELD VALUE VALUE YIELD
-------- -------- -------- -------- -------- ------- -------- -------- -------- ------ --------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Investment securities:
U.S. government and
agency securities........ $ -- --% $3,076 6.29% --$ --% $ -- --% $3,076 $3,076 6.29%
Other..................... -- -- -- -- -- -- 1 -- 1 1 --
Interest-earning deposits.. 3,004 5.98 -- -- -- -- -- -- 3,004 3,004 5.98
FHLB stock................. -- -- -- -- -- -- 620 7.25 620 620 7.25
------ ------ -------- -------- ------ ------
Total................... $3,004 5.98 $3,076 6.29 $ -- -- $ $621 7.25 $6,701 $6,701 6.24
====== ====== ======== ======== ====== ======
</TABLE>
15
<PAGE>
MORTGAGE-BACKED SECURITIES
In 1991 and prior years, Security Bank maintained a portfolio of Government
National Mortgage Association ("GNMA") and FHLMC participation certificates.
Such certificates are guaranteed by their respective agencies as to principal
and interest. Mortgage-backed securities generally entitle the Bank to receive
a pro rata portion of the cash flows from an identified pool of mortgages.
Although mortgage-backed securities yield from 30 to 100 basis points less than
the loans which are exchanged for such securities, they present substantially
lower credit risk and more liquidity than individual loans and may be used to
collateralize obligations of the Bank. Although the Bank held no mortgage-
backed securities at December 31, 1997, in the future the Bank may determine to
invest again in such securities based on liquidity levels and overall lending
activity.
DEPOSIT ACTIVITY AND OTHER SOURCES OF FUNDS
General. Deposits and sales of loans are the primary sources of the Bank's
funds for lending and other investment purposes. In addition to deposits and
sales of loans, Security Bank derives funds from loan principal repayments,
maturing investment securities, and interest payments. Loan repayments and
interest payments are a relatively stable source of funds, while deposit inflows
and outflows are significantly influenced by general interest rates and money
market conditions. Borrowings must be used to supplement Security Bank's
available funds, and from time to time Security Bank has borrowed funds from the
FHLB of Atlanta. For additional information, see Note 13 of the Notes to
Consolidated Financial Statements at Item 7 of this report.
Deposits. Deposits are attracted principally from within the Bank's
primary market area through the offering of passbook savings accounts and
certificates of deposit ranging in term from six months to five years. During
the year ended December 31, 1997, the Bank began offering additional types of
deposit accounts including NOW accounts, money market accounts, on regular
checking accounts. Security Bank advertises regularly on radio and television
and in the local newspaper depending on the Bank's need for deposits. Deposit
account terms vary, principally on the basis of the minimum balance required,
the time periods the funds must remain on deposit and the interest rate. The
Bank also offers individual retirement accounts ("IRAs").
The Bank's policies are designed primarily to attract deposits from local
residents rather than to solicit deposits from areas outside its primary market.
The Bank does not accept deposits from brokers. Interest rates paid, maturity
terms, service fees and withdrawal penalties are established by the Bank on a
periodic basis. Determination of rates and terms are predicated upon a
combination of then prevailing economic conditions, Treasury yield information,
competition, other relevant market data, prior period deposit activity, a survey
of local deposit rates and the Bank's need for funds. Deposit pricing is
established weekly by senior management. Historically, Security Bank has paid
deposit rates at the upper end of its market area.
Over the last several years, the balances of total deposits have shown a
steady increase, as management has followed a moderate growth strategy to
support lending activities and to leverage the operations and fixed assets of
the Bank.
16
<PAGE>
Savings deposits in the Bank as of December 31, 1997 were represented by
the various types of savings programs described below.
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
INTEREST MINIMUM MINIMUM PERCENTAGE OF
RATE TERM CATEGORY AMOUNT BALANCES TOTAL SAVINGS
- -------- ------- --------- ------ -------- -------------
<S> <C> <C> <C> <C> <C>
3.50% None Passbook Savings Accounts $ 50 $3,666 5.61%
2.16 None Demand Deposit Accounts Various 441 .67
Certificates of Deposit
-----------------------
5.58 180 days 180 Fixed-Term, Fixed-Rate 2,500 2,969 4.54
5.98 12-month Fixed-Term, Fixed-Rate 1,000 25,200 38.55
5.72 18-month Fixed-Term, IRA Accounts 100 1,382 2.11
6.32 36-month Fixed-Term, IRA Accounts 100 123 .19
6.76 60-month Fixed-Term, IRA Accounts 100 1,437 2.20
5.91 18-month Fixed-Term, Fixed-Rate 1,000 4,675 7.15
5.97 24-month Fixed-Term, Fixed-Rate 1,000 15,533 23.76
6.08 30-month Fixed-Term, Fixed-Rate 1,000 878 1.34
6.26 36-month Fixed-Term, Fixed-Rate 1,000 2,899 4.43
6.87 48-month Fixed-Term, Fixed-Rate 1,000 721 1.10
6.12 60-month Fixed-Term, Fixed-Rate 1,000 5,463 8.35
------- ------
$65,387 100.00%
======= ======
</TABLE>
For additional information, see Note 18 of the Notes to Consolidated
Financial Statements at Item 7 of this report.
During 1998, the Bank intends to increase its outstanding demand deposit
accounts in order to provide additional services for its customers and to expand
its growth in full service banking.
The following table sets forth, for the periods indicated, the average
balances and interest rates based on month-end balances for interest-bearing
passbook deposits and time deposits.
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30, YEAR ENDED DECEMBER 31,
--------------------------------------------- -----------------------
1995 1996 1997 (1)
--------------------- ------------------- ------------------------
INTEREST- INTEREST INTEREST-
BEARING BEARING BEARING
PASSBOOK TIME PASSBOOK TIME PASSBOOK TIME
DEPOSITS DEPOSITS DEPOSITS DEPOSITS DEPOSITS DEPOSITS
--------- -------- -------- ---------- --------- --------
<S> <C> <C> <C> <C> <C> <C>
Average Balance.. $ 4,399 $53,024 $3.821 $54,892 $ 4,062 $60,438
Average Rate..... 3.50% 6.29% 3.50% 6.25% 3.50% 6.20%
</TABLE>
_______________
(1) On September 15, 1997, the Company determined to change its fiscal year-end
from September 30 to December 31.
17
<PAGE>
The following table sets forth the change in dollar amount of deposits in
the various types of accounts offered by the Bank between the dates indicated.
<TABLE>
<CAPTION>
INCREASE INCREASE
(DECREASE) (DECREASE)
BALANCE AT FROM BALANCE AT FROM BALANCE AT
SEPTEMBER 30 % SEPTEMBER 30, SEPTEMBER 30, % SEPTEMBER 30, DECEMBER 31,
1995 DEPOSIT 1994 1996 DEPOSIT 1995 1997
------------ ------- ------------- ------------- ------- ------------- -------------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Passbook and regular
savings................... $ 3,688 6.47% $(1,414) $ 3,711 6.06% $ 23 $ 3,666
Demand deposits............ -- -- -- -- -- -- 441
Certificates:
6 month................... 4,436 7.79 (869) 3,085 5.04 (1,351) 2,969
12 month.................. 6,622 11.62 (6,611) 20,442 33.37 13,820 25,200
IRA accounts............... 3,045 5.34 415 2,963 4.84 (82) 2,942
1 - 3 year certificates.... 31,117 54.62 6,838 23,299 38.04 (7,818) 23,985
4 - 5 year certificates.... 8,067 14.16 (1,057) 7,752 12.65 (315) 6,184
------- ------ ------- ------- ------ ------- -------
Total.................... $56,975 100.00% $(2,698) $61,252 100.00% $ 4,277 $65,387
======= ====== ======= ======= ====== ======= =======
</TABLE>
<TABLE>
<CAPTION>
INCREASE
(DECREASE)
FROM
% SEPTEMBER 30,
DEPOSIT 1996
------- -------------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Passbook and regular
savings................... 5.61% (45)
Demand deposits............ .67 441
Certificates:
6 month................... 4.54 (116)
12 month.................. 38.54 4,758
IRA accounts............... 4.50 (21)
1 - 3 year certificates.... 36.68 686
4 - 5 year certificates.... 9.46 (1,568)
------ -------
Total.................... 100.00% $ 4,135
====== =======
</TABLE>
18
<PAGE>
Time Deposits by Rates. The following table sets forth the time deposits
in the Bank classified by nominal rates at the dates indicated.
<TABLE>
<CAPTION>
AT
DECEMBER 31,
AT SEPTEMBER 30, 1997
-------------------- ------------
1995 1996 1997
------ ------ ------
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C>
2 - 3.99%.. $ -- $ -- $ --
4 - 5.99%.. 27,830 43,423 38,439
6 - 7.99%.. 25,368 14,118 22,840
8 - 9.99%.. 89 -- --
------- ------- -------
$53,287 $57,541 $61,279
======= ======= =======
</TABLE>
Time Deposit Maturity Schedule. The following table sets forth the
amount and maturities of time deposits at December 31, 1997.
<TABLE>
<CAPTION>
AMOUNT DUE
---------------------------------------
LESS THAN AFTER
RATE ONE YEAR 1-2 YEARS 2-3 YEARS 3 YEARS TOTAL
- ---- -------- --------- --------- ------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
2 - 3.99%...... $ -- $ -- $ -- $ -- $ --
4 - 5.99%...... 29,141 7,188 1,398 712 38,439
6 - 7.99%...... 17,829 2,741 1,531 739 22,840
------- ------ ------ ------- -------
$46,970 $9,929 $2,929 $1,451 $61,279
======= ====== ====== ======= =======
</TABLE>
The following table indicates the amount of the Bank's certificates of
deposit of $100,000 or more by time remaining until maturity as of December 31,
1997.
<TABLE>
<CAPTION>
CERTIFICATES
MATURITY PERIOD OF DEPOSIT
--------------- ------------
(IN THOUSANDS)
<S> <C>
Three months or less................. $ 686
Over three through six months........ 874
Over six through 12 months........... 4,085
Over 12 months....................... 1,907
---------
Total.............................. $ 7,552
=========
</TABLE>
19
<PAGE>
Savings Deposit Activity. The following table sets forth the savings
activities of the Bank for the periods indicated.
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED
SEPTEMBER 30, DECEMBER 31,
------------------ ------------
1995 1996 1997 (1)
------ ------ ------------
(IN THOUSANDS)
<S> <C> <C> <C>
Deposits............................................ $38,676 $ 30,340 $ 26,152
Withdrawals......................................... 42,945 (28,424) (26,011)
------- -------- --------
Net increase (decrease) before interest credited.. (4,269) 1,916 141
Interest credited................................... 1,571 2,361 2,517
------- -------- --------
Net increase in savings deposits................ $(2,698) $ 4,277 $ 2,658
======= ======== ========
</TABLE>
______________
(1) On September 15, 1997, the Company determined to change its fiscal year-end
from September 30 to December 31. The net increase in deposits for this
three month period was $1,477,000.
The Bank expects that a significant amount of the certificates of deposit
expiring within the twelve months following December 31, 1997 will be renewed.
Should such deposits not be renewed, the Bank expects to rely upon its excess
liquidity and/or borrowings from the FHLB of Atlanta as short-term funding
alternatives.
The Bank generally does not offer premiums for deposits and does not offer
interest rates on deposits which exceed the highest rates offered by other
financial institutions in its market area. From time to time the Bank has
instituted promotional programs which resulted in increased rates being paid on
deposits. Management's strategy is to maintain slow and measured growth for the
Bank.
The Bank does not have any comprehensive plan to attract IRA funds.
However, the Bank is considering the benefits of offering new products in order
to attract new deposits, including the new Roth IRA accounts.
Borrowings. Total borrowings were $585,000 at December 31, 1997 and
consisted entirely of advances from the FHLB of Atlanta. This amount consists
of a long-term advance, taken in 1991 for a 20-year term with an interest cost
of 3.0% utilized to fund an affordable housing program extended by the Bank.
20
<PAGE>
The following table sets forth certain information regarding borrowings by
the Bank at the dates and for the periods indicated:
<TABLE>
<CAPTION>
AT OR FOR THE AT OR FOR THE
YEAR ENDED YEAR ENDED
September 30, DECEMBER 31,
------------------------------ --------------
1995 1996 1997 (1)
-------------- -------------- ---------
(IN THOUSANDS)
<S> <C> <C> <C>
Amounts outstanding at end of period:
Long-term borrowings from FHLB - Atlanta... $ 585 $ 585 $ 585
Short-term borrowings from FHLB - Atlanta.. 700 2,250 --
Mortgage note payable...................... 425 40 36
Weighted average rate paid on:
Long-term borrowings from FHLB - Atlanta... 3.00% 3.00% 3.00%
Short-term borrowings from FHLB - Atlanta.. 7.00 6.05 --
Mortgage note payable...................... 8.00 8.00 8.00%
Maximum amount of borrowings outstanding
at any month end:
Long-term borrowings from FHLB - Atlanta... $ 585 $ 585 $ 585
Short-term borrowings from FHLB - Atlanta.. 700 4,150 2,000
Mortgage note payable...................... 44 42 39
Approximate average borrowings outstanding
with respect to:
Long-term borrowings from FHLB - Atlanta... $ 585 $ 585 $ 585
Short-term borrowings from FHLB - Atlanta.. 158 1,172 566
Mortgage note payable...................... 43 41 38
Approximate weighted average rate paid on:
Long-term borrowings from FHLB - Atlanta... 3.00% 3.00% 3.00%
Short-term borrowings from FHLB - Atlanta.. 5.62 5.26 5.50
Mortgage note payable...................... 8.00 8.00 8.00
- ---------------
</TABLE>
(1) On September 15, 1997, the Company determined to change its fiscal year-end
from September 30 to December 31.
Savings deposits historically have been the primary source of funds for the
Bank's lending and investment activities and for its general business
activities. The Bank is authorized, however, to use advances from the FHLB of
Atlanta to supplement its supply of lendable funds and to meet deposit
withdrawal requirements. Advances from the FHLB are secured by the Bank's stock
in the FHLB and a portion of the Bank's mortgage loans. For additional
information, see Note 13 of the Notes to Consolidated Financial Statements at
Item 7 of this report.
The FHLB of Atlanta functions as a central reserve bank providing credit
for savings institutions and certain other member financial institutions. As a
member, Security Bank is required to own capital stock in the FHLB and is
authorized to apply for advances on the security of such stock and certain of
its home mortgages and other assets (principally, securities which are
obligations of, or guaranteed by, the United States) provided certain standards
related to creditworthiness have been met. See "Regulation of the Bank --
Federal Home Loan Bank System."
21
<PAGE>
SUBSIDIARY ACTIVITIES
As a federally chartered savings bank, Security Bank is permitted to invest
an amount equal to 2% of its assets in subsidiaries with an additional
investment of 1% of assets where such investment serves primarily community,
inner-city, and community development purposes. Under such limitations, as of
December 31, 1997 Security Bank was authorized to invest up to approximately
$2.3 million in the stock of or loans to subsidiaries including the additional
1% investment for community inner-city and community development purposes.
Institutions meeting regulatory capital requirements, which Security Bank
currently does, may invest up to 50% of their regulatory capital in conforming
first mortgage loans to subsidiaries in which they own 10% or more of the
capital stock.
The Bank does not own any service corporations.
EMPLOYEES
As of December 31, 1997, Security Bank had 20 full-time and one part-time
employees, none of whom was represented by a collective bargaining agreement.
Security Bank believes that it enjoys good relations with its personnel.
COMPETITION
Security Bank has experienced substantial and increasing competition both
in attracting and retaining savings deposits and in the making of mortgage and
other loans. Primary competition for savings deposits and other financial
services comes from eight commercial banks and other financial institutions (one
other thrift institution and eight credit unions) located in its primary market
area. In addition to numerous local financial institutions, the services and
attractive rates offered by investment and insurance companies provide
significant competition. The primary factors in competing for loans are
interest rates and loan origination fees and the range of services offered by
various financial institutions. Competition for origination of real estate
loans normally comes from other savings institutions, commercial banks, credit
unions, mortgage companies, investment companies and finance companies.
The Bank's primary competition comes from institutions headquartered in
Tuscaloosa, as well as numerous additional regional commercial banks, which have
branch offices located in the Bank's market area. Many competing financial
institutions have financial resources substantially greater than Security Bank
and offer a wider array of deposits and loan products.
The Bank is a community oriented financial institution serving its market
area with deposit services, residential and commercial real estate loans and
loans secured by savings deposits. Management considers Security Bank's
reputation for financial strength and quality customer service as its major
competitive advantage in attracting and retaining customers in its market area.
While the Bank is subject to competition from other financial institutions which
may have greater financial and marketing resources, management believes Security
Bank benefits by its community orientation.
REGULATION OF THE BANK
GENERAL. As a savings association, Security Bank is subject to extensive
regulation by the OTS. The lending activities and other investments of the Bank
must comply with various federal regulatory requirements. The OTS will
periodically examine the Bank for compliance with various regulatory
requirements. The FDIC also has the authority to conduct examinations of SAIF
members. The Bank must file reports with OTS describing its activities and
financial condition. The Bank is also subject to certain reserve requirements
promulgated by the Federal Reserve Board. This supervision and regulation is
intended primarily for the protection of depositors. Certain of these
regulatory requirements are referred to below or appear elsewhere herein.
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FEDERAL HOME LOAN BANK SYSTEM. The Bank is a member of the FHLB System,
which consists of twelve district Federal Home Loan Banks subject to supervision
and regulation by the Federal Housing Finance Board ("FHFB"). The FHLBs provide
a central credit facility primarily for member institutions. As a member of the
FHLB of Atlanta, the Bank is required to acquire and hold shares of capital
stock in the FHLB of Atlanta in an amount at least equal to 1% of the aggregate
unpaid principal of its home mortgage loans, home purchase contracts, and
similar obligations at the beginning of each year, or 1/20 of its advances
(borrowings) from the FHLB of Atlanta, whichever is greater. The Bank was in
compliance with this requirement with investment in FHLB of Atlanta stock at
December 31, 1997 of $620,300. The FHLB of Atlanta serves as a reserve or
central bank for its member institutions within its assigned district. It is
funded primarily from proceeds derived from the sale of consolidated obligations
of the FHLB System. It makes advances to members in accordance with policies
and procedures established by the FHFB and the Board of Directors of the FHLB of
Atlanta. Long-term advances may only be made for the purpose of providing funds
for residential housing finance. See "Deposit Activity and Other Sources of
Funds -- Borrowings."
LIQUIDITY REQUIREMENTS. The Bank is required to maintain average daily
balances of liquid assets (cash, certain time deposits, bankers' acceptances,
highly rated corporate debt and commercial paper, securities of certain mutual
funds, and specified United States government, state or federal agency
obligations) equal to a certain percentage of the sum of its average daily
balance of net withdrawable deposit accounts and, if any, borrowings payable in
one year or less. The liquidity requirements may vary from time to time
(between 4% and 10%) depending on economic conditions and savings flows of all
savings institutions. Monetary penalties may be imposed for failure to meet
liquidity requirements. At December 31, 1997, our required liquid assets ratio
was 4% and our actual ratio was 10.82%.
QUALIFIED THRIFT LENDER TEST. The Bank is subject to OTS regulations which
use the concept of Qualified Thrift Lender ("QTL") to determine eligibility for
FHLB advances and for certain other purposes. A savings institution that does
not meet the Qualified Thrift Lender ("QTL") test must either convert to a bank
charter or comply with the following restrictions on its operations: (i) the
institution may not engage in any new activity or make any new investment,
directly or indirectly, unless such activity or investment is permissible for
both a national bank and a savings institution; (ii) the branching powers of the
institution shall be restricted to those of a national bank; (iii) the
institution shall not be eligible to obtain any advances from its FHLB; and (iv)
payment of dividends by the institution shall be subject to the rules regarding
payment of dividends by a national bank. In addition, any company that controls
a savings institution that fails to qualify as a QTL will be required to
register as, and to be deemed, a bank holding company subject to all of the
provisions of the Bank Holding Company Act of 1956 (the "BHCA") and other
statutes applicable to bank holding companies. Upon the expiration of three
years from the date the institution ceases to be a QTL, it must cease any
activity and not retain any investment not permissible for both a national bank
and a savings institution and immediately repay any outstanding FHLB advances
(subject to safety and soundness considerations).
To qualify as a QTL, a savings institution must either qualify as a
"domestic building and loan association" under the Internal Revenue Code or
maintain at least 65% of its "portfolio assets" in Qualified Thrift Investments.
Portfolio assets are defined as total assets less intangibles, property used by
a savings institution in its business and liquidity investments in an amount not
exceeding 20% of assets. All of the following may be included as Qualified
Thrift Investments: investments in residential mortgages, home equity loans,
loans made for educational purposes, small business loans, credit card loans and
shares of stock issued by an FHLB. Subject to a 20% of portfolio assets limit,
savings institutions are also able to treat the following as Qualified Thrift
Investments: (i) 50% of the dollar amount of residential mortgage loans subject
to sale under certain conditions, (ii) investments, both debt and equity, in the
capital stock or obligations of and any other security issued by a service
corporation or operating subsidiary, provided that such subsidiary derives at
least 80% of its annual gross revenues from activities directly related to
purchasing, refinancing, constructing, improving or repairing domestic
residential housing or manufactured housing, (iii) 200% of their investments in
loan to finance "starter homes" and loans for construction, development or
improvement of housing and community service facilities or for financing small
businesses in "credit-needy" areas, (iv) loans for the purchase, construction,
development or improvement of community service facilities, (v) loans for
personal, family, household or educational purposes, and (vi) shares of stock
issued by FNMA or FHLMC.
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A savings institution must maintain its status as a QTL on a monthly basis
in nine out of every 12 months. A savings institution that fails to maintain
Qualified Thrift Lender status will be permitted to requalify once, and if it
fails the QTL test a second time, it will become immediately subject to all
penalties as if all time limits on such penalties had expired. At December 31,
1997, the Bank qualified as a QTL.
At December 31, 1997, approximately 94% of the Bank's portfolio assets were
invested in Qualified Thrift Investments.
DIVIDEND LIMITATIONS. Under OTS regulations, the Bank may not pay
dividends on its capital stock if its regulatory capital would thereby be
reduced below the amount then required for the liquidation account established
for the benefit of certain depositors of the Bank at the time of its conversion
to stock form. In addition, savings association subsidiaries of savings and
loan holding companies are required to give the OTS 30 days prior notice of any
proposed declaration of dividends to the holding company.
OTS regulations impose additional limitations on the payment of dividends
and other capital distributions (including stock repurchases and cash mergers)
by the Bank. Under these regulations, a savings association that, immediately
prior to, and on a pro forma basis after giving effect to, a proposed capital
distribution, has total capital (as defined by OTS regulation) that is equal to
or greater than the amount of its fully phased-in capital requirements (a "Tier
1 Association") is generally permitted without OTS approval, after notice, to
make capital distributions during a calendar year in the amount equal to the
higher of (i) 75% of its net income over the most recent four-quarter period or
(ii) up to 100% of its net income to date during the calendar year plus an
amount that would reduce by one-half the amount by which its total capital-to-
assets ratio exceeded regulatory capital requirements at the beginning of the
calendar year. A savings association with total capital immediately prior to,
or on a pro forma basis after giving effect to a proposed capital distribution,
equal to or in excess of current minimum capital requirements but less than the
fully phased-in requirements (a "Tier 2 Association") is permitted, after
notice, to make capital distributions without OTS approval of up to 75% of its
net income for the previous four quarters, less dividends already paid for such
period. A savings association that fails to meet current minimum capital
requirements (a "Tier 3 Association") is prohibited from making any capital
contributions without the prior approval of the OTS. Tier 1 Associations that
have been notified by the OTS that they are in need of more than normal
supervision will be treated as either a Tier 2 or Tier 3 Association. At
December 31, 1997, the Bank was a Tier 1 Association. The Bank is prohibited
from making any capital distributions if after making the distribution, it would
be undercapitalized as defined in the OTS' prompt corrective action regulations.
See " -- Prompt Corrective Regulatory Action."
In addition to the foregoing, earnings of the Bank appropriated to bad debt
reserves and deducted for federal income tax purposes are not available for
payment of cash dividends or other distributions to the Company without payment
of taxes at the then current tax rate by the Bank on the amount of earnings
removed from the reserves for such distributions. See " -- Taxation." The
Company intends to make full use of this favorable tax treatment afforded to the
Bank and the Company and does not contemplate use of any earnings of the Bank in
a manner which would limit the Bank's bad debt deduction or create federal tax
liabilities.
REGULATORY CAPITAL REQUIREMENTS. Under OTS regulations, savings
associations must maintain "tangible" capital equal to 1.5% of adjusted total
assets, "core" capital equal to 3% of adjusted total assets and a combination of
core and "supplementary" capital equal to 8% of "risk-weighted" assets. In
addition, the OTS has adopted regulations which impose certain restrictions on
savings associations that have a total risk-based capital ratio that is less
than 8%, a ratio of Tier 1 capital to risk-weighted assets of less than 4% or a
ratio of Tier 1 capital to adjusted total assets of less than 4% (or 3% if the
institution is rated composite 1 under the OTS examination rating system). For
purposes of these regulations, Tier 1 capital has the same definitions as core
capital. See "-- Prompt Corrective Regulatory Action." Core capital is defined
as common stockholders' equity (including retained earnings), noncumulative
perpetual preferred stock and related surplus, minority interests in the equity
accounts of fully consolidated subsidiaries, certain nonwithdrawable accounts
and pledged deposits and "qualifying supervisory goodwill." Core capital is
generally reduced by the amount of the savings association's intangible assets
for which no market exists. Limited exceptions to the rules requiring the
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deduction of intangible assets are provided for mortgage servicing rights,
purchased credit card relationships and qualifying supervisory goodwill held by
an eligible savings association. Tangible capital is given the same definition
as core capital but does not include qualifying supervisory goodwill and is
reduced by the amount of all the savings association's intangible assets with
only a limited exception for purchased mortgage servicing rights and purchased
credit card relationships.
Both core and tangible capital are further reduced by an amount equal to a
gradually increasing percentage of the savings association's debt and equity
investments in subsidiaries engaged in activities not permissible to national
banks, other than subsidiaries engaged in activities undertaken as agent for
customers or in mortgage banking activities and subsidiary depository
institutions or their holding companies. As of December 31, 1997, the Bank had
no investments in, or extensions of credit to, subsidiaries engaged in
activities not permitted to national banks.
"Adjusted total assets" are a savings association's total assets as
determined under generally accepted accounting principles ("GAAP"), increased by
certain goodwill amounts and by a pro-rated portion of the assets of
subsidiaries in which the savings association holds a minority interest.
Adjusted total assets are reduced by the amount of assets that have been
deducted from capital, the portion of savings association's investments in
unconsolidated includable subsidiaries that must be netted against capital under
the capital rules and, for purposes of the core capital requirement, qualifying
supervisory goodwill.
In determining compliance with the risk-based capital requirement, a
savings association is allowed to use both core capital and supplementary
capital, provided the amount of supplementary capital used does not exceed the
savings association's core capital. Supplementary capital is defined to include
certain preferred stock issues, nonwithdrawable accounts and pledged deposits
that do not qualify as core capital, certain approved subordinated debt, certain
other capital instruments and a portion of the savings association's general
loss allowances. Total core and supplementary capital are reduced by the amount
of capital instruments held by other depository institutions pursuant to
reciprocal arrangements and by an increasing amount of the savings institution's
high loan-to-value ratio land loans and non-residential construction loans and
equity investments other than those deducted from core and tangible capital. As
of December 31, 1997, the Bank had no equity investments for which OTS
regulations required a deduction from total capital.
The risk-based capital requirement is measured against risk-weighted
assets, which equal the sum of each on-balance-sheet asset and the credit-
equivalent amount of each off-balance-sheet item after being multiplied by an
assigned risk weight. Under the OTS risk-weighting system, cash and securities
backed by the full faith and credit of the U.S. government are given a 0% risk
weight. Mortgage-backed securities, or fully guaranteed as to principal and
interest, by the FNMA or FHLMC, are assigned a 20% risk weight. One-to four-
family first mortgages not more than 90 days past due with loan-to-value ratios
under 80%, are assigned a risk weight of 50%. Consumer loans, non-qualifying
residential construction loans and commercial real estate loans are assigned a
risk weight of 100%. OTS capital regulations require savings institutions to
maintain minimum total capital consisting of core capital plus supplemental
capital, equal to 8% of risk-weighted assets.
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The table below presents the Bank's capital position at December 31, 1997,
relative to its various minimum regulatory capital requirements.
<TABLE>
<CAPTION>
PERCENT OF
AMOUNT ASSETS (1)
------ -----------
(DOLLARS IN THOUSANDS)
<S> <C> <C>
Tangible capital.................... $8,627 11.31%
Tangible capital requirement........ 1,144 1.50
------ -----
Excess............................ $7,483 9.81%
====== =====
Core capital........................ $8,627 11.31%
Core capital requirement............ 2,288 3.00
------ -----
Excess............................ $6,339 8.31%
====== =====
Total regulatory capital............ $8,956 22.50%
Risk-based capital requirement...... 3,184 8.00
------ -----
Excess............................ $5,773 14.50%
====== =====
- ------------------------
</TABLE>
(1) Based upon adjusted total assets of $76.3 million for purposes of the
tangible and core capital requirements, and risk-weighted assets of $39.8
million for purposes of the risk-weighted capital requirements. For
additional information, see Note 17 of the Notes to Consolidated Financial
Statements at Item 7 of this report.
The risk-based capital standards of the OTS require savings associations
with more than a "normal" level of interest rate risk to maintain additional
total capital. An association's interest rate risk will be measured in terms of
the sensitivity of its "net portfolio value" to changes in interest rates. Net
portfolio value is defined, generally, as the present value of expected cash
inflows from existing assets and off-balance sheet contracts less the present
value of expected cash outflows from existing liabilities. A savings
association will be considered to have a "normal" level of interest rate risk
exposure if the decline in its net portfolio value after an immediate 200 basis
point increase or decrease in market interest rates (whichever results in the
greater decline) is less than two percent of the current estimated economic
value of its assets. An association with a greater than normal interest rate
risk will be required to deduct from total capital, for purposes of calculating
its risk-based capital requirement, an amount (the "interest rate risk
component") equal to one-half the difference between the association's measured
interest rate risk and the normal level of interest rate risk, multiplied by the
economic value of its total assets.
The OTS calculates the sensitivity of an association's net portfolio value
based on data submitted by the association in a schedule to its quarterly Thrift
Financial Report and using the interest rate risk measurement model adopted by
the OTS. The amount of the interest rate risk component, if any, to be deducted
from an institution's total capital will be based on the institution's Thrift
Financial Report filed two quarters earlier. Savings associations with less
than $300 million in assets and a risk-based capital ratio above 12% are
generally exempt from filing the interest rate risk schedule with their Thrift
Financial Reports. However, the OTS will require any exempt institution that it
determines may have a high level of interest rate risk exposure to file such
schedule on a quarterly basis and may be subject to an additional capital
requirement based upon its level of interest rate risk as compared to its peers.
Due to its size and risk-based capital level, the Bank is exempt from the
interest rate risk component.
In addition to requiring generally applicable capital standards for savings
institutions, the Director of the OTS is authorized to establish the minimum
level of capital for an institution at such amount or at such ratio of capital-
to-assets as the Director determines to be necessary or appropriate for such
institution in light of the particular circumstances of the institution. Such
circumstances would include a high degree of exposure to interest rate risk,
prepayment risk, credit risk, concentration of credit risk and certain risks
arising from non-traditional activities. The
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Director of the OTS may treat the failure of any institution to maintain capital
at or above such level as an unsafe or unsound practice and may issue a
directive requiring any institution which fails to maintain capital at or above
the minimum level required by the Director to submit and adhere to a plan for
increasing capital. Such an order may be enforced in the same manner as an order
issued by the FDIC.
At December 31, 1997, the Bank exceeded all regulatory minimum capital
requirements.
PROMPT CORRECTIVE REGULATORY ACTION. Under the Federal Deposit Insurance
Corporation Improvement Act ("FDICIA"), the federal banking regulators are
required to take prompt corrective action if an insured depository institution
fails to satisfy certain minimum capital requirements, including a leverage
limit, a risk-based capital requirement and any other measure of capital deemed
appropriate by the federal banking regulators for measuring the capital adequacy
of an insured depository institution. All institutions, regardless of their
capital levels, are restricted from making any capital distribution or paying
any management fees if the institution would thereafter fail to satisfy the
minimum levels for any of its capital requirements. An institution that fails
to meet the minimum level for any relevant capital measure (an "undercapitalized
institution") may be: (i) subject to increased monitoring by the appropriate
federal banking regulator; (ii) required to submit an acceptable capital
restoration plan within 45 days; (iii) subject to asset growth limits; and (iv)
required to obtain prior regulatory approval for acquisitions, branching and new
lines of businesses. The capital restoration plan must include a guarantee by
the institution's holding company that the institution will comply with the plan
until it has been adequately capitalized on average for four consecutive
quarters, under which the holding company would be liable up to the lesser of 5%
of the institution's total assets or the amount necessary to bring the
institution into capital compliance as of the date it failed to comply with its
capital restoration plan. A "significantly undercapitalized" institution, as
well as any undercapitalized institution that did not submit an acceptable
capital restoration plan, may be subject to regulatory demands for
recapitalization, broader application of restrictions on transactions with
affiliates, limitations on interest rates paid on deposits, asset growth and
other activities, possible replacement of directors and officers, and
restrictions on capital distributions by any bank holding company controlling
the institution. Any company controlling the institution could also be required
to divest the institution or the institution could be required to divest
subsidiaries. The senior executive officers of a significantly undercapitalized
institution may not receive bonuses or increases in compensation without prior
approval of the OTS and the institution is prohibited from making payments of
principal or interest on its subordinated debt, with certain exceptions. In
their discretion, the federal banking regulators may also impose the foregoing
sanctions on an undercapitalized institution if the regulators determine that
such actions are necessary to carry out the purposes of the prompt corrective
action provisions. If an institution's ratio of tangible capital to total
assets falls below a "critical capital level," the institution will be subject
to conservatorship or receivership within 90 days unless periodic determinations
are made that forbearance from such action would better protect the deposit
insurance fund. Unless appropriate findings and certifications are made by the
appropriate federal bank regulatory agencies, a critically undercapitalized
institution must be placed in receivership if it remains critically
undercapitalized on average during the calendar quarter beginning 270 days after
the date it became critically undercapitalized.
Federal banking regulators, including the OTS, have adopted regulations
implementing the prompt corrective action provisions of FDICIA. Under these
regulations, the federal banking regulators will measure a depository
institution's capital adequacy on the basis of the institution's total risk-
based capital ratio (the ratio of its total capital to risk-weighted assets),
Tier 1 risk-based capital ratio (the ratio of its core capital to risk-weighted
assets) and leverage ratio (the ratio of its core capital to adjusted total
assets). A savings association that is not subject to an order or written
directive to meet or maintain a specific capital level will be deemed "well
capitalized" if it also has: (i) a total risk-based capital ratio of 10% or
greater; (ii) a Tier 1 risk-based capital ratio of 6% or greater; and (iii) a
leverage ratio of 5% or greater. An "adequately capitalized" savings
association is a savings association that does not meet the definition of well
capitalized and has: (i) a total risk-based capital ratio of 8% or greater; (ii)
a Tier 1 capital risk-based ratio of 4% or greater; and (iii) a leverage ratio
of 4% or greater (or 3% or greater if the savings association has a composite 1
CAMEL rating). An "undercapitalized institution" is a savings association that
has (i) a total risk-based capital ratio less than 8%; or (ii) a Tier 1 risk-
based capital ratio of less than 4%; or (iii) a leverage ratio of less than 4%
(or 3% if the association has a composite 1 CAMEL rating). A "significantly
undercapitalized" institution is defined as a savings
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association that has: (i) a total risk-based capital ratio of less than 6%; or
(ii) a Tier 1 risk-based capital ratio of less than 3%; or (iii) a leverage
ratio of less than 3%. A "critically undercapitalized" savings association is
defined as a savings association that has a ratio of "tangible equity" to total
assets of less than 2%. Tangible equity is defined as core capital plus
cumulative perpetual preferred stock (and related surplus) less all intangibles
other than qualifying supervisory goodwill and certain purchased mortgage
servicing rights. The OTS may reclassify a well capitalized savings association
as adequately capitalized and may require an adequately capitalized or
undercapitalized association to comply with the supervisory actions applicable
to associations in the next lower capital category (but may not reclassify a
significantly undercapitalized institution as critically under-capitalized) if
the OTS determines, after notice and an opportunity for a hearing, that the
savings association is in an unsafe or unsound condition or that the association
has received and not corrected a less-than-satisfactory rating for any CAMEL
rating category. At December 31, 1997, the Bank was "well capitalized" under OTS
regulations.
SAFETY AND SOUNDNESS GUIDELINES. Under FDICIA, as amended by the Riegle
Community Development and Regulatory Improvement Act of 1994 (the "CDRI Act"),
each federal banking agency is required to establish safety and soundness
standards for institutions under its authority. On July 10, 1995, the Federal
banking agencies, including the OTS, released Interagency Guidelines
Establishing Standards for Safety and Soundness and published a final rule
establishing deadlines for submission and review of safety and soundness
compliance plans. The final rule and the guidelines become effective on August
9, 1995. The guidelines require savings institutions to maintain internal
controls and information systems and internal audit systems that are appropriate
for the size, nature and scope of the institution's business. The guidelines
also establish certain basic standards for loan documentation, credit
underwriting, interest rate risk exposure, and asset growth. The guidelines
further provide that savings institutions should maintain safeguards to prevent
the payment of compensation, fees and benefits that are excessive or that could
lead to material financial loss, and should take into account factors such as
comparable compensation practices at comparable institutions. If the OTS
determines that a savings institution is not in compliance with the safety and
soundness guidelines, it may require the institution to submit an acceptable
plan to achieve compliance with the guidelines. A savings institution must
submit an acceptable compliance plan to the OTS within 30 days of receipt of a
request for such a plan. Failure to submit or implement a compliance plan may
subject the institution to regulatory sanctions. Management believes that the
Bank already meets substantially all the standards adopted in the interagency
guidelines, and therefore does not believe that implementation of these
regulatory standards will materially affect the Bank's operations.
Additionally under FDICIA, as amended by the CDRI Act, the federal banking
agencies are required to establish standards relating to the asset quality and
earnings that the agencies determine to be appropriate. On July 10, 1995, the
Federal banking agencies, including the OTS, issued proposed guidelines relating
to asset quality and earnings. Under the proposed guidelines, a savings
institution should maintain systems, commensurate with its size and the nature
and scope of its operations, to identify problem assets and prevent
deterioration in those assets as well as to evaluate and monitor earnings and
ensure that earnings are sufficient to maintain adequate capital and reserves.
Management believes that the asset quality and earnings standards, in the form
proposed by the banking agencies, would not have a material effect on the Bank's
operations.
DEPOSIT INSURANCE. The Bank is required to pay assessments based on a
percent of its insured deposits to the FDIC for insurance of its deposits by the
SAIF. Under the Federal Deposit Insurance Act, the FDIC is required to set
semi-annual assessments for SAIF-insured institutions to maintain the designated
reserve ratio of the SAIF at 1.25% of estimated insured deposits or at a higher
percentage of estimated insured deposits that the FDIC determines to be
justified for that year by circumstances raising a significant risk of
substantial future losses to the SAIF. The FDIC also administers the Bank
Insurance Fund ("BIF").
Under the risk-based deposit insurance assessment system adopted by the
FDIC, 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 --
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using the same percentage criteria as under 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.
Over the past several semi-annual periods, institutions with SAIF-
assessable deposits, like the Bank, were required to pay higher deposit
insurance premiums than institutions with deposits insured by the BIF. In order
to recapitalize the SAIF and address the premium disparity, in November 1996 the
FDIC imposed a one-time special assessment on institutions with SAIF-assessable
deposits based on the amount determined by the FDIC to be necessary to increase
the reserve levels of the SAIF to the designated reserve ratio of 1.25% of
insured deposits. Institutions were assessed at the rate of 65.7 basis points
based on the amount of their SAIF-assessable deposits as of March 31, 1995.
The special assessment recapitalized the SAIF, and as a result, the FDIC
has adopted a new assessment schedule for SAIF deposit insurance pursuant to
which the assessment rate for well capitalized institutions with the highest
supervisory ratings would be reduced to zero and institutions in the worst risk
assessment classification will be assessed at the rate of 0.27% of insured
deposits. Until December 31, 1999, SAIF-insured institutions will be required
to pay assessments to the FDIC at the rate of 6.5 basis points to help fund
interest payments on certain bonds issued by the Financing Corporation ("FICO")
an agency of the federal government established to finance takeovers of
insolvent thrifts. During this period, BIF members will be assessed for these
obligations at the rate of 1.3 basis points. After December 31, 1999, both BIF
and SAIF members will be assessed at the same rate for FICO payments, or sooner
if the two funds are merged.
Substantial entrance and exit fees apply to conversions from SAIF to BIF
insurance and such fees may make a SAIF to BIF conversion prohibitively
expensive. In the past the substantial disparity existing between deposit
insurance premiums paid by BIF and SAIF members gave BIF-insured institutions a
competitive advantage over SAIF-insured institutions like the Bank. The
reduction of SAIF deposit insurance premiums effectively eliminated this
disparity and could have the effect of increasing the net earnings of the Bank
and restoring the competitive equality between BIF-insured and SAIF-insured
institutions.
The FDIC has adopted a regulation which provides that any insured
depository institution with a ratio of Tier 1 capital to total assets of less
than 2% will be deemed to be operating in an unsafe or unsound condition, which
would constitute grounds for the initiation of termination of deposit insurance
proceedings. The FDIC, however, would not initiate termination of insurance
proceedings if the depository institution has entered into and is in compliance
with a written agreement with its primary regulator, and the FDIC is a party to
the agreement, to increase its Tier 1 capital to such level as the FDIC deems
appropriate. Tier 1 capital is defined as the sum of common stockholders'
equity, noncumulative perpetual preferred stock (including any related surplus)
and minority interests in consolidated subsidiaries, minus all intangible assets
other than mortgage servicing rights and qualifying supervisory goodwill
eligible for inclusion in core capital under OTS regulations and minus
identified losses and investments in certain securities subsidiaries. Insured
depository institutions with Tier 1 capital equal to or greater than 2% of total
assets may also be deemed to be operating in an unsafe or unsound condition
notwithstanding such capital level. The regulation further provides that in
considering applications that must be submitted to it by savings associations,
the FDIC will take into account whether the savings association is meeting with
the Tier 1 capital requirement for state non-member banks of 4% of total assets
for all but the most highly rated state non-member banks.
FEDERAL RESERVE SYSTEM. Pursuant to regulations of the Federal Reserve
Board, all FDIC-insured depository institutions must maintain average daily
reserves against their net transaction accounts. This percentage is subject to
adjustment by the Federal Reserve Board. Reserves equal to 3% must be
maintained on the first $47.8 million of
29
<PAGE>
transaction accounts, and a reserve of 10% must be maintained against all
remaining transaction accounts. Because required reserves must be maintained in
the form of vault cash or in a non-interest bearing account at a Federal Reserve
Bank, the effect of the reserve requirement is to reduce the amount of the
institution's interest-earning assets. As of December 31, 1997, the Bank met its
reserve requirements.
TRANSACTIONS WITH AFFILIATES. Transactions between savings institutions and
any affiliate are governed by Sections 23A and 23B of the Federal Reserve Act.
An affiliate of a savings institution is any company or entity which controls,
is controlled by or is under common control with the savings institution. In a
holding company context, the parent holding company of a savings institution
(such as the Company) and any companies which are controlled by such parent
holding company are affiliates of the savings institution. Generally, Sections
23A and 23B (i) limit the extent to which the savings institution or its
subsidiaries may engage in "covered transactions" with any one affiliate to an
amount equal to 10% of such institution'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 (ii) require that all such
transactions be on terms substantially the same, or at least as favorable, to
the institution or subsidiary as those provided to a non-affiliate. The term
"covered transaction" includes the making of loans, purchase of assets, issuance
of a guarantee and similar other types of transactions. In addition to the
restrictions imposed by Sections 23A and 23B, OTS regulations provide that no
savings institution may (i) make a loan or otherwise extend credit to an
affiliate, except for any affiliate which engages only in activities which are
permissible for bank holding companies, or (ii) purchase or invest in any
stocks, bonds, debentures, notes or similar obligations of any affiliate, except
for affiliates which are subsidiaries of the savings institution. Section 106
of the BHCA which applies to the Bank, prohibits the Bank from extending credit
to or offering any other services, or fixing or varying the consideration for
such extension of credit or service, on the condition that the customer obtain
some additional service from the institution or certain of its affiliates or not
obtain services of a competitor of the institution, subject to certain
exceptions.
LOANS TO DIRECTORS, EXECUTIVE OFFICERS AND PRINCIPAL STOCKHOLDERS. Savings
institutions are also subject to the restrictions contained in Section 22(h) and
Section 22(g) of the Federal Reserve Act on loans to executive officers,
directors and principal stockholders. Under Section 22(h), loans to a director,
executive officer and to a greater than 10% stockholder of a savings institution
and certain affiliated entities of such persons, may not exceed, together with
all other outstanding loans to such person and affiliated entities, the
institution's loans-to-one-borrower limit (generally equal to 15% of the
institution's unimpaired capital and surplus and an additional 10% of such
capital and surplus for loans fully secured by readily marketable collateral).
Section 22(h) also prohibits loans, above amounts prescribed by the appropriate
federal banking agency, to directors, executive officers and greater than 10%
stockholders of a savings institution, and their respective affiliates, unless
such loan is approved in advance by a majority of the board of directors of the
institution with any "interested" director not participating in the voting. The
Federal Reserve Board 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 capital and
surplus (up to $500,000). Further, Section 22(h) 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.
Section 22(h) also generally prohibits a depository institution from paying the
overdrafts of any of its executive officers or directors.
Section 22(g) of the Federal Reserve Act requires that loans to executive
officers of depository institutions not be made on terms more favorable than
those afforded to other borrowers, requires approval by the board of directors
of the depository institution for such extensions of credit to executive
officers of the institution, and imposes reporting requirements for and
additional restrictions on the type, amount and terms of credits to such
officers. In addition, Section 106 of the BHCA prohibits extensions of credit
to executive officers, directors, and greater than 10% stockholders of a
depository institution by any other institution which has a correspondent
banking relationship with the institution, unless such extension of credit is on
substantially the same terms as those prevailing at the time for comparable
transactions with other persons and does not involve more than the normal risk
of repayment or present other unfavorable features.
30
<PAGE>
REGULATION OF THE COMPANY
GENERAL. The Company is a unitary savings and loan holding company within
the meaning of the Home Owners' Loan Act ("HOLA"). As such, the Company is
registered with the OTS and subject to OTS regulations, examinations,
supervision and reporting requirements. As a subsidiary of a savings and loan
holding company, the Bank is subject to certain restrictions on its dealings
with the Company and affiliates thereof. The Company is required to file
certain reports with, and otherwise comply with the rules and regulations of the
Securities and Exchange Commission under federal securities laws.
ACTIVITIES RESTRICTIONS. The Board of Directors of the Company presently
intends to operate the Company as a unitary savings and loan holding company.
There are generally no restrictions on the activities of a unitary savings and
loan holding company. However, if the Director of OTS determines that there is
reasonable cause to believe that the continuation by a savings and loan holding
company of an activity constitutes a serious risk to the financial safety,
soundness, or stability of its subsidiary savings association, the Director of
OTS may impose such restrictions as deemed necessary to address such risk
including limiting: (i) payment of dividends by the savings association, (ii)
transactions between the savings association and its affiliates, and (iii) any
activities of the savings association that might create a serious risk that the
liabilities of the holding company and its affiliates may be imposed on the
savings association. Notwithstanding the above rules as to permissible business
activities of unitary savings and loan holding companies, if the savings
association subsidiary of such a holding company fails to meet the QTL Test,
then such unitary holding company shall also presently become subject to the
activities restrictions applicable to multiple holding companies and unless the
savings association requalifies as a QTL within one year thereafter, register
as, and become subject to, the restrictions applicable to a bank holding
company. See "Regulation of the Bank -- Qualified Thrift Lender Test."
If the Company were to acquire control of another savings association,
other than through merger or other business combination with the Bank, the
Company would thereupon become a multiple savings and loan holding company.
Except where such acquisition is pursuant to the authority to approve emergency
thrift acquisitions and where each subsidiary savings association meets the QTL
Test, the activities of the Company and any of its subsidiaries (other than the
Bank or other subsidiary savings institutions) would thereafter be subject to
further restrictions. Among other things, no multiple savings and loan holding
company or subsidiary thereof which is not a savings association shall commence
or continue for a limited period of time after becoming a multiple savings and
loan holding company or subsidiary thereof, any business activity, upon prior
notice to, and no objection by the OTS, other than: (i) furnishing or performing
management services for a subsidiary savings association, (ii) conducting an
insurance agency or escrow business, (iii) holding, managing, or liquidating
assets owned by or acquired from a subsidiary savings institution, (iv) holding
or managing properties used or occupied by a subsidiary savings institution, (v)
acting as trustee under deeds of trust, (vi) those activities previously
directly authorized by regulation as of March 5, 1987 to be engaged in by
multiple holding companies, or (vii) those activities authorized by the Federal
Reserve Board as permissible for bank holding companies, unless the Director of
OTS by regulation prohibits or limits such activities for savings and loan
holding companies. Those activities described in (vii) above must also be
approved by the Director of OTS prior to being engaged in by a multiple holding
company.
RESTRICTIONS ON ACQUISITIONS. The HOLA generally prohibits savings and
loan holding companies from acquiring, without prior approval of the Director of
OTS, (i) control of any other savings association or savings and loan holding
company or substantially all the assets thereof or (ii) more than 5% of the
voting shares of a savings association or holding company thereof which is not a
subsidiary. Except with the prior approval of the Director of OTS, no director
or officer of a savings and loan holding company or person owning or controlling
by proxy or otherwise more than 25% of such company's stock, may also acquire
control of any savings association, other than a subsidiary savings association,
or of any other savings and loan holding company.
The Director of OTS may only approve acquisitions resulting in the
formation of a multiple savings and loan holding company which controls savings
institutions in more than one state if: (i) the multiple savings and loan
holding company involved controls a savings institution which operated a home or
branch office in the state of the institution
31
<PAGE>
to be acquired as of March 5, 1987; (ii) the acquiror is authorized to acquire
control of the savings association pursuant to the emergency acquisition
provisions of the Federal Deposit Insurance Act; or (iii) the statutes of the
state in which the association to be acquired is located specifically permit
institutions to be acquired by state-chartered associations or savings and loan
holding companies located in the state where the acquiring entity is located (or
by a holding company that controls such state-chartered savings institutions).
OTS regulations permit federal savings associations to branch in any state
or states of the United States and its territories. Except in supervisory cases
or when interstate branching is otherwise permitted by state law or other
statutory provision, a federal savings association may not establish an out-of-
state branch unless (i) the federal association qualifies as a "domestic
building and loan association" under '7701(a)(19) of the Internal Revenue Code
or qualifies as a QTL and the total assets attributable to all branches of the
association in the state would qualify such branches taken as a whole for
treatment as a domestic building and loan association or for treatment as a QTL
and (ii) such branch would not result in (a) formation of a prohibited multi-
state multiple savings and loan holding company or (b) a violation of certain
statutory restrictions on branching by savings association subsidiaries of
banking holding companies. Federal savings associations generally may not
establish new branches unless the association meets or exceeds minimum
regulatory capital requirements. The OTS will also consider the association's
record of compliance with the Community Reinvestment Act of 1977 in connection
with any branch application.
Under the BHCA, bank holding companies are specifically authorized to
acquire control of any savings institution. Pursuant to rules promulgated by
the Federal Reserve Board, owning, controlling or operating a savings
institution is a permissible activity for bank holding companies, if the savings
institution engages only in deposit-taking activities and lending and other
activities that are permissible for bank holding companies. A bank holding
company that controls a savings institution may merge or consolidate the assets
and liabilities of the savings institution with, or transfer assets and
liabilities to, any subsidiary bank which is a member of the BIF with the
approval of the appropriate federal banking agency and the Federal Reserve
Board. The resulting bank will be required to continue to pay assessments to
the SAIF at the rates prescribed for SAIF members on the deposits attributable
to the merged savings institution plus an annual growth increment. In addition,
the transaction must comply with the restrictions on interstate acquisitions of
commercial banks under the BHCA.
TAXATION
GENERAL. The Company and the Bank file separate federal income tax returns
and state excise tax returns on a calendar year basis.
FEDERAL INCOME TAXATION. Thrift institutions are subject to the provisions
of the Code in the same general manner as other corporations. However,
institutions such as Security Bank which meet certain definitional tests and
other conditions prescribed by the Code may benefit from certain favorable
provisions regarding their deductions from taxable income for annual additions
to their bad debt reserve. For purposes of the bad debt reserve deduction,
loans are separated into "qualifying real property loans," which generally are
loans secured by interests in certain real property, and nonqualifying loans,
which are all other loans. The bad debt reserve deduction with respect to
nonqualifying loans must be based on actual loss experience. For tax years
beginning before January 1, 1996, the amount of the bad debt reserve deduction
with respect to qualifying real property loans may be based upon actual loss
experience (the "experience method") or a percentage of taxable income
determined without regard to such deduction (the "percentage of taxable income
method").
Legislation that is effective for tax years beginning after December 31,
1995 requires institutions to recapture into taxable income over a six taxable
year period the portion of the tax loan reserve that exceeds the pre-1988 tax
loan loss reserve. The Bank will no longer be allowed to use the reserve method
for tax loan loss provisions, but would be allowed to use the experience method
of accounting for bad debts. There will be no future effect on net income from
the recapture because the taxes on these bad debts reserves has already been
accrued as a deferred tax liability.
32
<PAGE>
The legislation provides for a suspension of this recapture if the
institution meets the "residential loan requirement." This requirement is met
if the principal amount of residential loans that the institution originates
during its first taxable year after December 31, 1995, exceeds the average of
the principal amounts of residential loans made by the institution during the
six most recent taxable years beginning before January 1, 1996. For the taxable
year ended December 31, 1997, this requirement was not met. The Bank will be
required to recapture approximately $465,000 of its tax bad debt reserves over a
six year period beginning with its 1997 tax year.
Earnings appropriated to an institution's bad debt reserve and claimed as a
tax deduction are not available for the payment of cash dividends or for
distribution to shareholders (including distributions made on dissolution or
liquidation), unless such amount is included in taxable income, along with the
amount deemed necessary to pay the resulting federal income tax.
Security Bank's federal corporate income tax returns have not been audited
in the last five years.
STATE INCOME TAXATION. The State of Alabama imposes a 6.0% excise tax on
the earnings of financial institutions such as Security Bank. The 6.0% excise
tax also would apply to the Company. In addition to the excise taxes, the State
of Alabama imposes an annual state franchise tax for domestic and foreign
corporations. A domestic corporation, including a federally chartered stock
savings bank domiciled in Alabama, is assessed a domestic franchise tax of
approximately 1.0% based on the par value of its common stock. Foreign
corporations, such as the Company which is incorporated in Delaware, are
assessed a foreign franchise tax of 0.3% based on a total of capital (as defined
by statute) deemed to be employed in the State of Alabama. The foreign
corporation's investment in the capital of an Alabama corporation is excluded
from the taxable base. The Company is also subject to the Delaware franchise
tax.
For additional information, see Note 7 of the Notes to Consolidated
Financial Statements at Item 7 of this report.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following information is supplied with respect to executive officers of
the Company.
Name and Age* Position
------------- --------
John F. Harvard, 53 President and Chief Operating Officer
and Secretary and Treasurer
Marlin D. Moore, Jr., 61 Chairman of the Board and Chief Executive
Officer
T. Gary Fitts, 64 Vice President
- --------------------
* Age at December 31, 1997.
33
<PAGE>
The principal occupation of each executive officer is set forth below.
JOHN F. HARVARD has been President and Chief Operating Officer of the
Company and the Bank since December 1995, and has served as the Bank's Secretary
and Treasurer since joining the Bank in 1972. Prior to December 1995, Mr.
Harvard also served as Managing Officer of the Company and the Bank. Mr.
Harvard is a member of the Chamber of Commerce of West Alabama, the Homebuilders
Association of Tuscaloosa and the Tuscaloosa Board of Realtors. He also has
served as a director and immediate past chairman of the Southern Community
Banks.
MARLIN D. MOORE, JR. is co-owner of Pritchett-Moore, Inc., a real estate
and insurance company, in Tuscaloosa, Alabama. Mr. Moore has been Chairman of
the Board and Chief Executive Officer of the Company and the Bank since December
1995, and previously had served as Vice President of the Bank. Mr. Moore has
served on the Board of the Industrial Development Authority of Tuscaloosa, the
Chamber of Commerce of West Alabama and the President's Cabinet at the
University of Alabama. He also has served as a director of the Birmingham Board
of Directors of the Federal Reserve Bank of Atlanta.
T. GARY FITTS is President of Fitts Agency, Inc. in Tuscaloosa, Alabama, an
insurance agency. Mr. Fitts has served as Vice President of the Bank since
1990. He is a member and past president of the Tuscaloosa Rotary Club and a
member of the Chamber of Commerce of West Alabama. He also serves as the State
National Director for Alabama Independent Insurance Agents and as an advisory
director of the Tuscaloosa Board of Directors of Compass Bank. As Vice
President of the Bank, Mr. Fitts serves as a member of the Bank's executive
committee and would be available to exercise the authority of the President, if
the President were unable to serve. Mr. Fitts is not separately compensated for
his services as Vice President of the Bank.
ITEM 2. DESCRIPTION OF PROPERTY
- --------------------------------
The following table sets forth the location and certain additional
information regarding the Bank's office at December 31, 1997.
Year Owned or Square
Opened Leased Footage Net Book Value
------ ------ ------- --------------
2301 University Boulevard
Tuscaloosa, Alabama 1984 Owned 7,700 $1.1 million
For additional information, see Note 6 of the Notes to Consolidated
Financial Statements at Item 7 of this report.
Intrieve, Inc. (formerly Savings and Loan Data Center), Cincinnati, Ohio,
performs data processing and record keeping for Security Bank.
ITEM 3. LEGAL PROCEEDINGS
- --------------------------
Although Security Bank, from time to time, is involved in various legal
proceedings in the normal course of business, there are no material legal
proceedings to which Security Bank is a party or to which any of its property is
subject.
34
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ------------------------------------------------------------
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year ended December 31, 1997.
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
- -----------------------------------------------------------------
The information contained under the section captioned "Market and Dividend
Information" in the Annual Report to Stockholders for the year ended December
31, 1997 (the "Annual Report") is filed as an exhibit to this report and
incorporated herein by reference.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
- ------------------------------------------------------------------
The information contained in the section captioned "Management's Discussion
and Analysis of Financial Condition and Results of Operations" in the Annual
Report is filed as an exhibit to this report and incorporated herein by
reference.
ITEM 7. FINANCIAL STATEMENTS
- -----------------------------
The Independent Auditor's Report and related consolidated financial
statements and notes thereto contained in the Annual Report are filed as an
exhibit to this report and incorporated herein by reference.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
- ------------------------------------------------------------------------
FINANCIAL DISCLOSURE
--------------------
For information regarding the Company's change of accountants effective
April 1, 1996, see the Company's Current Report on Form 8-K, as amended, dated
February 19, 1996.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
-------------------------------------------------------------
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
-------------------------------------------------
For information concerning the Board of Directors of the Company, the
information contained under the section captioned "Proposal I -- Election of
Directors" in the Company's definitive proxy statement for the Company's 1998
Annual Meeting of Stockholders (the "Proxy Statement") is incorporated herein by
reference.
Information regarding executive officers of the Company is contained in the
section captioned "Executive Officers of the Registrant" at Item 1 of this
report and is incorporated herein by reference.
The information regarding compliance with Section 16(a) of the Exchange Act
contained in the section captioned "Section 16(a) Beneficial Ownership Reporting
Compliance" in the Proxy Statement is incorporated herein by reference.
ITEM 10. EXECUTIVE COMPENSATION
- --------------------------------
The information contained under the section captioned "Election of
Directors -- Executive Compensation and Other Benefits" in the Proxy Statement
is incorporated herein by reference.
35
<PAGE>
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
- ------------------------------------------------------------------------
(a) Security Ownership of Certain Beneficial Owners.
Information required by this item is incorporated herein by reference
to the section captioned "Voting Securities and Security Ownership" in
the Proxy Statement.
(b) Security Ownership of Management
Information required by this item is incorporated herein by reference
to the sections captioned "Voting Securities and Beneficial Ownership"
and "Election of Directors" in the Proxy Statement.
(c) Changes in Control
Management of the Company knows of no arrangements, including any
pledge by any person of securities of the Company, the operation of
which may at a subsequent date result in a change in control of the
registrant.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
- --------------------------------------------------------
The information required by this item is incorporated herein by reference
to the section captioned "Election of Directors -- Transactions with Management"
in the Proxy Statement.
PART IV
ITEM 13. EXHIBITS, LIST AND REPORTS ON FORM 8-K
- ------------------------------------------------
(a) Exhibits. The exhibits required by Item 601 of Regulation S-B are
--------
either filed as part of this Annual Report on Form 10-KSB or incorporated herein
by reference. The following is a list of exhibits filed as part of this Annual
Report on Form 10-KSB and is also the Exhibit Index.
No. Exhibit
-- -------
3.1* Certificate of Incorporation of Security Federal Bancorp, Inc.
3.2* Bylaws of Security Federal Bancorp, Inc.
10.1* Retirement Plan for Directors
10.2* Profit Sharing Retirement Plan
10.3* Stock Option and Incentive Plan
10.4** Employment Agreements with John F. Harvard
13 Portions of Annual Report to Stockholders for the Year Ended
December 31, 1997
21** Subsidiaries of the Registrant
23.1 Consent of Jamison, Money Farmer & Co., P.C.
23.2 Consent of Morrison and Smith, Certified Public Accountants
27 Financial Data Schedule
- -------------------------
* Incorporated by reference to the Company's Registration Statement on Form
S-1 (File No. 33-83912).
** Incorporated by reference to the Company's Annual Report on Form 10-KSB for
the fiscal year ended December 31, 1995.
(b) Reports on Form 8-K. No reports on Form 8-K were filed by the Company
-------------------
during the last quarter of the fiscal year covered by this report on Form 10-
KSB.
36
<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, as of the date set
forth below.
SECURITY FEDERAL BANCORP, INC.
Date: March 30, 1998 By: /s/ John F. Harvard
-------------------
John F. Harvard
President
(Duly Authorized Representative)
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 in the capacities indicated as of the date set forth above.
/s/ Marlin D. Moore, Jr. /s/ John F. Harvard
- ------------------------ -------------------
Marlin D. Moore, Jr. John F. Harvard
Chief Executive Officer and President, Secretary
Chairman of the Board, President, Secretary(Principal Financial
Treasurer and Director and Accounting Officer)
(Principal Executive Officer)
/s/ T. Gary Fitts /s/ Russell S. Lee
- ----------------- ------------------
T. Gary Fitts Russell S. Lee
Vice President and Director Vice President and Director
/s/ Charles O. Sealy, Jr.
- ------------------------ -------------------------
Catherine J. Randall Charles O. Sealy, Jr.
Director Director
- ------------------------ ------------------
W. Ford Simpson, Jr. E. B. Stansell
Director Director
37
<PAGE>
EXHIBIT 13
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
The following tables set forth selected consolidated financial data
concerning the Company at the dates and for the periods indicated. On September
15, 1997, the Company determined to change its fiscal year end from September 30
to December 31. The following data is qualified in its entirety by the detailed
information and consolidated financial statements appearing elsewhere in this
Annual Report.
<TABLE>
<CAPTION>
FINANCIAL CONDITION DATA
At September 30, At
------------------------------------- December 31,
1993 1994 1995 1996 1997
------- ------- ------- ------- ------------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Total amount of:
Assets...................................... $61,253 $65,447 $70,540 $76,640 $76,296
Loans receivable, net....................... 56,141 53,173 59,636 68,511 66,492
Cash and investment securities.............. 2,615 9,716 8,204 4,022 7,010
Mortgage-backed securities.................. -- -- -- -- --
Deposits.................................... 55,786 59,673 56,975 61,252 65,387
Federal Home Loan Bank advances............. 585 585 1,285 2,835 585
Other borrowings............................ 46 44 42 40 36
Retained earnings- substantially
restricted................................ 3,918 4,353 4,703 4,529 5,818
- ---------------------------------------------------------------------------------------------------------------------------
Number of:
Real estate loans outstanding............... 1,020 964 999 1,064 1,067
Savings accounts............................ 3,308 2,971 2,867 2,926 3,110
Offices open................................ 1 1 1 1 1
</TABLE>
<TABLE>
<CAPTION>
SUMMARY OF OPERATIONS
Year Ended September 30, Year Ended
------------------------------------- December 31,
1993 1994 1995 1996 1997
------- ------- ------- ------- ------------
(In thousands)
<S> <C> <C> <C> <C> <C>
Interest income.............................. $ 4,942 $ 4,522 $ 5,179 $ 6,011 $ 6,251
Interest expense............................. (2,908) (2,764) (3,211) 3,610 3,749
------- ------- ------- ------- -------
Net interest income before provision
for loan losses............................ 2,034 1,758 1,968 2,401 2,502
Provision for losses on loans................ (151) -- -- -- --
Gain (loss) on sale of loans................. 144 (5) (38) (96) 84
Other income................................. 336 279 262 303 234
Non-interest expense......................... (1,099) (1,359) (1,316) (2,060) (1,566)
------- ------- ------- ------- -------
Income before income tax expense............. 1,264 673 876 548 1,254
Income tax expense........................... (518) (238) (324) (184) 467
------- ------- ------- ------- -------
Net income before cumulative effect
of accounting change....................... 746 435 552 364 787
------- ------- ------- ------- -------
Cumulative effect of accounting change....... -- -- -- -- --
------- ------- ------- ------- -------
Net income................................... $ 746 $ 435 $ 552 $ 364 $ 787
======= ======= ======= ======= =======
Earnings per share........................... $ -- $ -- $ .82 $.54 $1.17
======= ======= ======= ======= =======
</TABLE>
1
<PAGE>
KEY OPERATING RATIOS
<TABLE>
<CAPTION>
AT OR FOR THE
YEAR ENDED AT OR FOR THE
SEPTEMBER 30, YEAR ENDED
---------------- DECEMBER 31,
1995 1996 1997
------ ------ -------------
<S> <C> <C> <C>
Return on assets (net income divided by
average total assets)..................... .82% .49% 1.05%
Return on equity (net income divided by
average equity)........................... 7.19 3.38 8.94
Dividend payout ratio (dividends declared
per share divided by net income per share).. 36.59 148.15 51.28
Equity to assets ratio (average equity
divided by average total assets)............ 11.40 14.59 11.72
- ---------------
</TABLE>
(1) The Company changed its fiscal year end from September 30 to December 31.
2
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL
The earnings of Security Bank depend primarily on its level of net interest
income, which is the difference between interest earned on Security Bank's
interest-earning assets, consisting primarily of mortgage loans, interest-
bearing deposits at other institutions, investment securities and other
investments, and the interest paid on interest-bearing liabilities which have
consisted primarily of savings deposits. Net interest income is a function of
Security Bank's interest rate spread, which is the difference between the
average yield on interest-earning assets and the average rate paid on interest-
bearing liabilities, as well as a function of the average balance of interest-
earning assets as compared to interest-bearing liabilities. Security Bank's
earnings are also affected by its level of non-interest income including
primarily gains on the sale of loans and service fees and charges, and non-
interest expense, including primarily compensation and employee benefits,
occupancy and equipment expenses and SAIF deposit insurance premiums. Earnings
of Security Bank also are affected significantly by general economic and
competitive conditions, particularly changes in market interest rates,
government policies and actions of regulatory authorities, which events are
beyond the control of Security Bank.
ASSET/LIABILITY MANAGEMENT
The matching of assets and liabilities may be analyzed by examining the
extent to which such assets and liabilities are "interest rate sensitive" and by
monitoring an institution's interest rate sensitivity "gap." An asset or
liability is interest rate sensitive within a specific time period if it will
mature or reprice within that time period. The interest rate sensitivity gap is
defined as the difference between the amount of interest-earning assets maturing
or repricing within a specific time period and the amount of interest-bearing
liabilities maturing or repricing within that time period. A gap is considered
positive when the amount of interest rate sensitive assets exceeds the amount of
interest rate sensitive liabilities. A gap is considered negative when the
amount of interest rate sensitive liabilities exceeds the amount of interest
rate sensitive assets. During a period of rising interest rates, a negative gap
would tend to adversely affect net interest income while a positive gap would
tend to positively affect net interest income. Similarly, during a period of
falling interest rates, a negative gap would tend to positively affect net
interest income while a positive gap would tend to adversely affect net interest
income.
Security Bank's strategy in recent years has been to reduce its exposure to
interest rate risk generally by emphasizing the origination of one- to four-
family adjustable rate loans and short term construction loans for portfolio
whenever market conditions permit and by selling fixed-rate one-to four-family
mortgage loans in the secondary market. Funds held for liquidity and other
excess funds are invested in short and medium term U.S. Government and agency
securities and other short-term investments such as the daily investment account
at the Federal Home Loan Bank of Atlanta. By maintaining a significant
percentage of its assets in cash, other liquid investments and adjustable rate
mortgage loans, Security Bank is able to reinvest or reprice a higher percentage
of its assets more quickly in response to changes in market interest rates,
thereby reducing its exposure to interest rate volatility. In addition to
emphasizing adjustable rate loans and high levels of liquidity, Security Bank
offers competitive rates on deposit accounts and prices certificates of deposit
to provide customers with incentives to choose certificates of deposit with
longer terms. Due to the current interest rate environment, however,
certificates of deposit with longer terms generally are not attractive to
customers.
FINANCIAL CONDITION
The Company's total assets decreased by $344,000, or .4%, from $76.6
million at September 30, 1996 to $76.3 million at December 31, 1997, primarily
as a result of a decrease in loans receivable of $2 million, or 2.9%, from $68.5
million at September 30, 1996 to $66.5 million at December 31, 1997. Loans held
for sale decreased by $1.5 million,
3
<PAGE>
or 100%, from $1.5 million at September 30, 1996 to none being held at December
31, 1997. These decreases were partially offset by an increase of $3.0 million,
or 74%, in cash and investment securities from $4.0 million at September 30,
1996 to $7.0 million at December 31, 1997.
Over the past four years, loans receivable have grown at an average of 4.7%
per year with an overall increase of $10.3 million in growth. This growth
related primarily to single-family residential mortgage loans and was funded by
an increase in the Company's deposit base and proceeds from the conversion from
mutual to stock form. During the year ended December 31, 1997, the Bank
increased its efforts in providing other types of loans. The Bank=s outstanding
home equity loans increased by $1.3 million to $1.5 million at December 31,
1997 from $230,000 at September 30, 1996. During the last quarter of the fiscal
year, the Bank began offering various types of consumer loans and commercial
loans. Prior to that time, the Bank primarily only offered loans on share
accounts to consumers. While consumer and commercial loans are minimal at
December 31, 1997, the Bank intends to increase its volume in these areas in
1998 as part of its expansion into offering full service banking.
The Company's total liabilities increased by $800,000, or 1.2%, from $66.4
million at September 30, 1996 to $67.2 million at December 31, 1997, primarily
as a result of an increase in deposits of $4.1 million, or 6.7%, from $61.3
million at September 30, 1996 to $65.4 million at December 31, 1997. In
addition, advances from the Federal Home Loan Bank decreased by $2.2 million, or
79%, from $2.8 million at September 30, 1996 to $585,000 at December 31, 1997.
Other liabilities decreased by $457,000, or 59.3%, from $771,000 at September
30, 1996 to $314,000 at December 31, 1997. The increase during fiscal 1996 was
caused by the one-time Savings Association Insurance Fund (SAIF) assessment
payable of $381,000 accrued at year end and an increase over 1997 in the accrued
director's retirement plan of $95,000, primarily related to benefits paid
subsequent to September 30, 1996. Refer to Note 25 of the Notes to Consolidated
Financial Statements concerning the SAIF assessment and Note 22 of the Notes to
Consolidated Financial Statements concerning the directors' retirement plan.
Over the past four years, deposits have grown at an average of 4.2% per
year with an overall increase of $9.6 million. This growth is primarily in
short-term certificates of deposits. During the year ended December 31, 1997,
the Bank began offering several new deposit products including NOW accounts,
money market accounts and regular checking. The Bank also began offering safe
deposit boxes, accepting bond coupons, and offering credit cards underwritten by
a correspondent bank. In 1998, the Bank plans to further expand its full
service capabilities including providing access to an automated teller machine.
RESULTS OF OPERATIONS
The earnings of the Company depend primarily on Security Bank's level of
net interest income, which is the difference between interest earned on Security
Bank's interest-earning assets, consisting primarily of mortgage loans, consumer
loans, and investment securities, and the interest paid on interest-bearing
liabilities. Net income totaled $552,000, $364,000 and $787,000 for the fiscal
years ended September 30, 1995 and 1996 and December 31, 1997, respectively.
Interest Income. Total interest income increased by $250,000, or 4.17%,
from $6.0 million for the year ended September 30, 1996 to $6.25 million for the
year ended December 31, 1997. This was primarily due to an increase in interest
income on mortgage loans of $370,000, from $5.5 million for the year ended
September 30, 1996 to $5.87 million for the year ended December 31, 1997. As
shown in the table on page 8, the increase in interest income on loans generally
reflects the increases in the volume of loans receivable held. Additionally,
the Company had an increase in interest-earning assets for the fiscal year ended
December 31, 1997 compared to the fiscal year ended September 30, 1996. Average
interest-earning assets increased from $71.1 million for the year ended
September 30, 1996 to $73.8 million for the year ended December 31, 1997. This
increase in available funds for investment in interest-earning assets
contributed to the increase in interest income for the fiscal year ended
December 31, 1997 over interest income for the fiscal year ended September 30,
1996.
4
<PAGE>
Interest Expense. Total interest expense increased by $150,000, or 4.17%,
from $3.6 million for the year ended September 30, 1996 to $3.75 million for the
year ended December 31, 1997. This was primarily due to an increase in interest
expense on deposits of $160,000, or 4.5%, from $3.53 million for the year ended
September 30, 1996 to $3.69 million for the year ended December 31, 1997. The
increase in interest expense generally reflects the growth of deposits by $4.1
million from fiscal 1996 to fiscal 1997.
Net Interest Income. Net interest income increased by $100,000, or 4.17%,
from $2.4 million for the year ended September 30, 1996 to $2.5 million for the
year ended December 31, 1997. This was primarily due to increases in the volume
of interest-earning assets and interest-bearing liabilities and the positive
spread between interest earning asset yields and interest-bearing liability
rates. The net interest rate spread for the two years ended September 30, 1996
and the year ended December 31, 1997 were 2.49%, 2.77% and 2.78%, respectively.
Net yield on interest-bearing liabilities for the two years ended September 30,
1996 and the year ended December 31, 1997 was 3.04%, 3.38% and 3.39%,
respectively.
Provision for Losses. No provision against income was made for losses on
loans during the year ended December 31, 1997 or the years ended September 30,
1995 or 1996, because management deemed the existing balance in the allowance
for losses account to be adequate based on their knowledge of known and inherent
risk characteristics of the loan portfolio.
Security Bank maintains an allowance for losses on loans based on
management's review and classification of the loan portfolio. Factors
considered in evaluating loans include analyses of the borrowers' ability to
pay, past collection experience, risk characteristics of individual loans or
groups of similar loans and underlying collateral, current and prospective
economic conditions, status of nonperforming loans, and regulatory reviews
conducted in the regulatory examination process. A classification system is
used to rank loans and real estate owned based on similar characteristics. The
classification system is considered adequate to provide for losses based on
management's evaluation of known and inherent risk characteristics of the loan
portfolio, the fair value of the underlying collateral, and current economic
conditions, and the fact that the actual loss exposure for the Bank has been
minimal. However, there can be no assurance that additional losses will not be
incurred.
Once classified, a standard percentage range is applied to each
classification, and the provision for losses on loans and foreclosed real estate
owned is adjusted with an applicable charge being made to expense. Total non-
performing assets were $590,000, $1,183,000, $556,000 and at September 30, 1995
and 1996 and December 31, 1997, respectively. The significant fluctuations in
non-performing assets were believed to be attributable primarily to the
relatively small number of loans in the Bank's portfolio. In addition, during
the year ended December 31, 1997, the Bank strengthened its policies in granting
extensions and renewals in an effort to reduce delinquencies. The ratio of the
allowance for loan losses to non-performing loans was 55.9%, 27.9% and 59.4% at
September 30, 1995, 1996 and December 31, 1997, respectively. Management
recognizes that these ratios are less than those of comparable institutions.
However, generally restricting residential lending to the Bank's market area is
believed to have limited Security Bank's credit risk and historical losses.
Non-Interest Income. Non-interest income for the year ended December 31,
1997 increased by $111,000, or 53.6%, as compared to the year ended September
30, 1996. This increase was primarily due to an increase in the gain on sale of
loans by $180,000 from 1996 to 1997. This increase is related to the adoption
of Statement of Financial Accounting Standards 122, "Accounting for Mortgage
Servicing Rights." SFAS 122 requires the Company to capitalize the cost of
mortgage servicing rights when a definitive plan to sell loans and retain the
servicing rights exist. In addition, the Bank=s servicing portfolio increased
by $14.3 million, or 19.9%, from $71.8 million at September 30, 1996 to $86.1
million at December 31, 1997. The increase in non-interest income was partially
offset by a decrease in gains on sales of investments of $41,000 as compared to
the same period for the previous year. The average balance of investment
securities decreased $2.0 million, or 35%, from $5.7 million at September 30,
1996 to $3.7 million at December 31, 1997.
5
<PAGE>
Non-Interest Expense. Non-interest expense decreased by $500,000, or
23.8%, to $1.6 million for the year ended December 31, 1997 from $2.1 million
for the year ended September 30, 1996. The largest portion of the decrease
relates to the one-time deposit insurance assessment of $381,000 assessed by the
Savings Association Insurance Fund to recapitalize the fund in 1996. After
recapitalization, regular deposit insurance assessments are expected to decrease
significantly in future periods. The decrease in non-interest expense also
resulted from a decrease in salaries and benefits of $50,000, or 5.5%, which was
primarily caused by the acceleration of expenses incurred for the directors'
retirement plan and management recognition plan upon the death of two
participants.
Income Taxes. Effective October 1, 1991, Security Bank adopted the
provisions of SFAS No. 109 "Accounting for Income Taxes" which requires deferred
taxes to be accounted for using the asset and liability method. Income tax
provisions for the years ended December 31, 1997 and September 30, 1996 and 1995
are generally reflective of the amounts of Security Bank's pre-tax income and
the effective income tax rate then in effect. For additional information, see
Notes 1 and 7 of the Notes to Consolidated Financial Statements.
The provision for income taxes increased by $283,000, or 154%, to $466,000
for the year ended December 31, 1997 from $184,000 for the year ended September
30, 1996, primarily as a result of the increase in income before taxes. A
reconciliation of the differences between income tax expense and income taxes
calculated by applying the applicable statutory federal tax rates is provided in
note 7 of the Notes to Consolidated Financial Statements.
Legislation in August 1996 repealed the percentage of taxable income method
of calculating the bad debt reserve. Savings institutions, like the Bank, which
have previously used that method are required to recapture into taxable income
post-1987 reserves in excess of the reserves calculated under the experience
method. The Bank will be required to recapture approximately $465,000 of its
tax bad debt reserves over a six year period beginning with its 1997 tax year.
The recapture will not affect the Bank's net income or equity because the
related tax expense has already been accrued.
6
<PAGE>
AVERAGE BALANCES, INTEREST AND AVERAGE YIELDS
Net interest income is affected by (i) the difference ("interest rate
spread") between rates of interest earned on interest-earning assets and rates
of interest paid on interest-bearing liabilities and (ii) the relative amounts
of interest-earning assets and interest-bearing liabilities. When interest-
earning assets approximate or exceed interest-bearing liabilities, any positive
interest rate spread will generate net interest income. Savings institutions
have traditionally used interest rate spreads as a measure of net interest
income. Another indication of an institution's net interest income is its "net
yield on interest-earning assets" which is net interest income divided by
average interest-earning assets. The following table sets forth certain
information relating to average interest-earning assets and interest-bearing
liabilities and reflects the average yield on assets and average cost of
liabilities for the periods indicated. Such yields and costs are derived by
dividing income or expense by the average monthly balance of assets or
liabilities, respectively, for the periods presented. During the periods
indicated, non-accruing loans are included in the net loan category. During the
years ended September 30, 1995 and 1996 and December 31, 1997, loan fees
included in interest income totaled $245,000, $496,000 and $495,000,
respectively. Average balances are derived from month-end average balances.
Management does not believe that the use of month-end average balances instead
of average daily balances has caused any material difference in the information
presented.
<TABLE>
<CAPTION>
Year Ended September 30, YEAR ENDED DECEMBER 31, AT DECEMBER 31,
-------------------------------------------------------- -------------------------- ----------------
1995 1996 1997 1997
---------------------------- -------------------------- -------------------------- ----------------
AVERAGE AVERAGE AVERAGE AVERAGE
AVERAGE YIELD/ AVERAGE YIELD/ AVERAGE YIELD/ YIELD/
BALANCE INTEREST COST BALANCE INTEREST COST BALANCE INTEREST COST BALANCE COST
------- -------- -------- -------- -------- ------- ------- -------- ------- ------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable........... $56,399 $4,654 8.25% $63,627 $5,536 8.70% $68,085 $5,900 8.67% $66,492 7.94%
Investment securities...... 5,798 372 6.42 5,697 372 6.53 3,680 242 6.58 3,697 6.45
Short-term investment and
other interest-earning
assets.................... 2,539 153 6.00 1,814 103 5.68 2,046 109 5.33 3,004 5.98
------- ------ ------- ------ ------- ------ -------
Total interest-earning
assets................... 64,736 5,179 8.00 71,138 6,011 8.45 73,811 6,251 8.47 73,193 7.79
------ ------ ------
Non-interest-earning assets. 2,526 2,185 3,070 3,103
------- ------- ------- -------
Total assets.............. $67,262 $73,323 $76,881 $76,296
======= ======= ======= =======
Interest-bearing liabilities:
Deposits................... $57,423 3,181 5.54 $61,721 3,528 5.72 $64,715 3,695 5.71 $65,387 5.98
Borrowings................. 829 30 3.62 1,797 82 4.56 1,189 54 4.54 621 2.83
------- ------ ------- ------ ------- ------ -------
Total interest-bearing
liabilities.............. 58,252 3,211 5.51 63,518 3,610 5.68 65,904 3,749 5.69 66,008 5.95
------ ------ ------
Non-interest-bearing
liabilities................ 1,341 1,805 1,954 1,198
------- ------- ------- -------
Total liabilities......... 59,593 65,323 67,858 67,206
Stockholders' Equity........ 7,669 8,000 9,023 9,090
------- ------- ------- -------
Total liabilities and
stockholders' equity..... $67,262 $73,323 $76,881 $76,296
======= ======= ======= =======
Net interest income......... $1,968 $2,401 $2,502
====== ====== ======
Interest rate spread........ 2.49% 2.77% 2.78% 1.84%
====== ====== ====== ======
Net yield on
interest-earning assets.... 3.04% 3.38% 3.39%
====== ====== ======
Ratio of average
interest-earning assets to
average interest-bearing
liabilities............... 111.13% 112.00% 112.00% 110.89%
====== ====== ====== ======
</TABLE>
7
<PAGE>
RATE/VOLUME ANALYSIS
The table below sets forth certain information regarding changes in
interest income and interest expense for the periods indicated. For each
category of interest-earning asset and interest-bearing liability, information
is provided on changes attributable to (i) changes in volume (changes in volume
multiplied by old rate); (ii) changes in rate (changes in rate multiplied by old
volume); and (iii) changes in rate-volume (changes in rate multiplied by changes
in volume).
<TABLE>
<CAPTION>
YEAR ENDED SEPTEMBER 30, YEAR ENDED
------------------------------------- -------------------------------------
1995 VS. 1996 SEPT 30, 1996 VS. DEC. 31, 1997
------------------------------------- -------------------------------------
Increase (Decrease) Due to Increase (Decrease) Due to
------------------------------------- -------------------------------------
Rate/ Rate/
Volume RATE VOLUME TOTAL Volume RATE VOLUME TOTAL
------ ----- ------ ------ ------ ----- ------ ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
(In thousands)
Interest income:
Loan portfolio......................... $ 596 $254 $ 32 $882 $ 382 $(19) $(1) $ 362
Investment securities.................. (6) 6 -- -- (132) 3 (1) (130)
Other interest-earning assets.......... (44) (8) 2 (50) 13 (6) (1) 6
----- ----- ----- ----- ----- ----- --- -----
Total interest-earning assets......... 546 252 34 832 263 (22) (3) 238
Interest expense:
Savings deposits....................... 236 103 8 347 171 (6) -- 165
Borrowings and FHLB advances........... 35 8 9 52 (28) -- -- (28)
----- ---- ----- ---- ----- ----- --- -----
Total interest-bearing
liabilities.......................... 271 111 17 399 143 (6) -- 137
----- ---- ----- ---- ----- ----- --- -----
Change in net interest income........... $ 275 $141 $ 17 $433 $ 120 $(16) $(3) $ 101
===== ==== ===== ==== ===== ===== === =====
</TABLE>
LIQUIDITY AND CAPITAL RESOURCES
Security Bank is required to maintain minimum levels of liquid assets as
defined by OTS regulations. This requirement, which varies from time to time
depending upon economic conditions and deposit flows, is based upon a percentage
of deposits and short-term borrowings. The required ratio currently is 5.0%.
Security Bank's liquidity ratio averaged 10.82% during the month of December
1997. Security Bank adjusts its liquidity levels in order to meet funding needs
of deposit outflows, payment of real estate taxes on mortgage loans and
repayment of borrowings and loan commitments. Security Bank also adjusts
liquidity as appropriate to meet its asset and liability management objectives.
Security Bank's primary sources of funds are deposits, sale of mortgage
loans, amortization and prepayment of loans, maturities of investment securities
and other investments, and earnings and funds provided from operations. While
scheduled principal repayments on loans are a relatively predictable source of
funds, deposit flows and loan prepayments are greatly influenced by interest
rates, economic conditions, and competition. Security Bank manages the pricing
of its deposits to maintain a desired deposit balance. In addition, Security
Bank invests in short-term interest-earning assets, which provide liquidity to
meet lending requirements. At December 31, 1997, none of Security Bank's
investment portfolio was scheduled to mature in one year or less, and $3.0
million, or 99.1%, was scheduled to mature in one to five years. At December
31, 1997, certificates of deposit which were scheduled to mature in one year or
less totaled $47.0 million. Assets qualifying for liquidity outstanding at
December 31, 1997 amounted to $6.6 million. For additional information about
cash flows from Security Bank's operating, financing and investing activities,
see the Statements of Cash Flows included in the Consolidated Financial
Statements.
During the year ended December 31, 1997, cash and cash equivalents (cash
and short-term investments with maturities less than 90 days) increased by
$660,000 primarily due to increases in certificates of deposit of $2.8 million
8
<PAGE>
and $860,000 provided by operating activities. These increases were partially
offset by purchases of $2.3 million of FHLB overnight deposits and a $1.0
million decrease in advances from the FHLB.
Security Bank had $1.2 million in outstanding loan commitments at December
31, 1997 and loan applications and approvals have remained consistent since
then. Security Bank expects to fund its loan originations through principal and
interest payments on loans, proceeds from securities as maturities occur, the
sale of mortgage loans in the secondary market and, if necessary, borrowed
funds. Management expects that funds provided from these sources will be
adequate to meet Security Bank's needs.
POSSIBLE YEAR 2000 COMPUTER PROGRAM PROBLEMS
A great deal of information has been disseminated about the global computer
crash that may occur in the year 2000. Many computer programs that can only
distinguish the final two digits of the year entered (a common programming
practice in earlier years) are expected to read entries for the year 2000 as the
year 1900 and compute payment, interest or delinquency based on the wrong date
or are expected to be unable to compute payment, interest or delinquency. Rapid
and accurate data processing is essential to the operations of the Bank. Data
processing is also essential to most other financial institutions and other
companies.
All of the significant data processing of the Bank that could be affected
by this problem is provided by a third party service bureau. The service bureau
of the Bank has advised the Bank that it expects to resolve this potential
problem before the year 2000. However, if the service bureau is unable to
resolve this potential problem in time, the Bank would likely experience
significant data processing delays, mistakes or failures. These delays,
mistakes or failures could have a material adverse impact on the financial
condition and results of operation of the Bank.
The Bank is actively monitoring the Year 2000 issues to ensure that all
data processing applications are promptly converted to allow for Year 2000
processing. To oversee the resolution of the problem, the Bank has appointed a
committee chaired by Catherine Randall, director of the computer-based honors
program at the University of Alabama.
PROPOSED LEGISLATION
Legislation has been introduced in Congress that provides for the
elimination of the distinctions between banks and thrifts under federal law.
The legislation may require the automatic conversion of all federally chartered
savings associations such as the Bank into national banks by a specified
deadline. It could impose activities restrictions and restrictions on branches,
and it could also compel the holding companies of such institutions to be
subject to the more restrictive regulations that govern holding companies of
banks rather than thrifts. The legislation could restrict current or future
activities of the Bank and the Company, and it could increase regulatory
compliance costs because of the new regulatory structure to which the Bank and
the Company would be subject. Management cannot predict at this time whether
any pending legislation ultimately will be enacted in its current form or, if
enacted, whether such legislation would result in any significant adverse
financial and tax effects.
IMPACT OF INFLATION AND CHANGING PRICES
The consolidated financial statements, and notes thereto, presented herein
have been prepared in accordance with generally accepted accounting principles,
which require the measurement of financial position and operating results in
terms of historical dollars without considering the changes in the relative
purchasing power of money over time due to inflation. The impact of inflation
is reflected in the increased cost of the Bank's operations. Unlike most
industrial companies, nearly all the assets and liabilities of the Bank are
monetary in nature. As a result, interest rates have a greater impact on the
Bank's performance than do the effects of general levels of inflation. Interest
rates do not necessarily move in the same direction or to the same extent as the
price of goods and services.
9
<PAGE>
IMPACT OF NEW ACCOUNTING STANDARDS
Disclosures of Fair Value of Financial Instruments. In December 1991, the
Financial Accounting Standards Board ("FASB") issued Statement of Financial
Accounting Standards ("SFAS") No. 107, "Disclosures About Fair Value of
Financial Instruments." SFAS No. 107 requires all entities to disclose the fair
value of financial instruments (both assets and liabilities recognized and not
recognized in the statements of financial condition) for which it is practicable
to estimate the fair value, except those financial instruments specifically
excluded. The disclosure shall be either in the body of the financial
statements or in the accompanying notes and shall include the methods and
significant assumptions used to estimate the fair value of a financial
instrument or a class of financial instruments as well as the reasons why it is
not practicable to estimate fair value. SFAS No. 107 is effective for fiscal
years ending after December 15, 1992 for companies with assets of greater than
$150 million. For companies with assets of less than $150 million, SFAS No. 107
is effective for fiscal years ending after December 15, 1995. The Bank adopted
the disclosure requirements of SFAS No. 107 for the fiscal year ended September
30, 1996.
Accounting for Impaired Loans. In September 1993, the FASB issued SFAS No.
114, "Accounting by Creditors for Impairment of a Loan." SFAS No. 114 requires
that specified impaired loans be measured based on the present value of expected
future cash flows discounted at the loan's effective interest rate, or, as an
alternative, at the fair value of the collateral or the observable market price
of the loan. SFAS No. 114 does not apply to large groups of small balance,
homogeneous loans that are collectively evaluated for impairment. Subsequent to
October 1994, the FASB issued SFAS No. 118 "Accounting by Creditors for
Impairment of a Loan -- Income Recognition and Disclosures" as an amendment to
SFAS No. 114. SFAS No. 118 amends the disclosure requirements of SFAS No. 114
to require information about the recorded investment in certain impaired loans
and about how a creditor recognizes interest income related to those impaired
loans. SFAS No. 114, as amended by SFAS No. 118, is effective for years
beginning after December 15, 1994. The Company adopted SFAS No. 114 as of July
1, 1995, as required, without a material effect on the Company's consolidated
financial condition or results of operations.
Accounting for Stock-Based Compensation. In October 1994, the FASB issued
SFAS No. 123 entitled "Accounting for Stock Based Compensation." SFAS No. 123
establishes a fair value based method of accounting for stock-based compensation
paid to employees. SFAS No. 123 recognizes the fair value of an award of stock
or stock options on the grant date and is effective for transactions occurring
after December 1995. Companies are allowed to continue to measure compensation
cost for those plans using the intrinsic value based method of accounting, which
generally does not result in compensation expense recognition for most plans.
Companies that elect to remain with the existing accounting are required to
disclose in a footnote to the financial statements pro forma net earnings and,
if presented, earnings per share, as if SFAS No. 123 had been adopted.
Management has determined that the Company will continue to account for stock-
based compensation pursuant to Accounting Principles Board Opinion No. 25, and
therefore adoption of the disclosure provisions set forth in SFAS No. 123 will
not have a material effect on the Company's consolidated financial condition or
results of operations.
Derivative Financial Instruments. In October 1994, the FASB issued SFAS
No. 119, "Disclosure about Derivative Financial Instruments and Fair Value of
Financial Instruments," which is applicable for financial statements issued for
fiscal years ending after December 15, 1994, except for entities with less than
$150 million in total assets for which it is effective for fiscal years ending
after December 15, 1995. SFAS No. 119 requires the disclosure of the amounts,
nature and terms of derivative financial instruments that are not subject to
SFAS No. 105 because they do not result in off-balance sheet risk of accounting
loss. SFAS No. 119 requires that a distinction be made between financial
instruments held or issued for trading purposes and financial instruments held
or issued for purposes other than trading. It also amends SFAS No. 105 and SFAS
No. 107 to require that distinction in certain disclosures required by those
statements. The Company adopted SFAS No. 119 on July 1, 1995, as required,
without material effect on consolidated financial condition or results of
operations.
Accounting for Transfers of Financial Assets. In June 1996, the FASB
issued SFAS No. 125, "Accounting for Transfer of Financial Assets, Servicing
Rights, and Extinguishment of Liabilities," that provides accounting guidance on
transfers of financial assets, servicing of financial assets, and extinguishment
of liabilities. SFAS No. 125 introduces
10
<PAGE>
an approach to accounting for transfers of financial assets that provides a
means of dealing with more complex transactions in which the seller disposes of
only a partial interest in the assets, retains rights or obligations, makes use
of special purpose entities in the transaction, or otherwise has continuing
involvement with the transferred assets. The new accounting method, the
financial components approach, provides that the carrying amount of the
financial assets transferred be allocated to components of the transaction based
on their relative fair values. SFAS No. 125 provides criteria for determining
whether control of assets has been relinquished and whether a sale has occurred.
If the transfer does not qualify as a sale, it is accounted for as a secured
borrowing. Transactions subject to the provisions of SFAS No. 125 include, among
others, transfers involving repurchase agreements, securitizations of financial
assets, loan participations, factoring arrangements, and transfers of
receivables with recourse.
An entity that undertakes an obligation to service financial assets
recognizes either a servicing asset or liability for the servicing contract
(unless related to a securitization of assets, and all the securitized assets
are retained and classified as held-to-maturity). A servicing asset or
liability that is purchased or assumed is initially recognized at its fair
value. Servicing assets and liabilities are amortized in proportion to and over
the period of estimated net servicing income or net servicing loss and are
subject to subsequent assessments for impairment based on fair value.
SFAS No. 125 provides that a liability is removed from the balance sheet
only if the debtor either pays the creditor and is relieved of its obligations
for the liability or is legally released from being the primary obligor. SFAS
No. 125 is effective for transfers and servicing of financial assets and
extinguishment of liabilities occurring after December 31, 1996 and is to be
applied prospectively. Earlier or retroactive application is not permitted.
Management does not believe that adoption of SFAS No. 125 will have a material
adverse effect on the Company's consolidated financial position or results of
operations.
Accounting for Impaired Assets. In March 1995, the FASB issued SFAS No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed of," effective for fiscal years beginning after December
15, 1995. This statement requires the recognition of impairment losses when
conditions indicate that long-lived assets are impaired and the undiscounted
cash flows estimated to be generated by the assets are less than the asset's
carrying amount. The Company will adopt SFAS No. 121 in the first quarter of
the fiscal year ending September 30, 1997, and does not anticipate that the
effect of the adoption will be material to the consolidated financial
statements.
Accounting for Mortgage Servicing Rights. In May 1995, the FASB issued
SFAS No. 122, "Accounting for Mortgage Servicing Rights, an Amendment of FASB
65," effective for fiscal years beginning after December 15, 1995. When a
company has a definitive plan to sell or securitize mortgage loans it originated
and intends to retain the mortgage servicing rights, SFAS No. 122 requires that
the cost of mortgage servicing rights are capitalized separately from the cost
of originating the loan. Under statement 65, only mortgage servicing rights
that are purchased are capitalized. SFAS No. 122 eliminates the disparity
between the treatment of mortgage servicing rights obtained through loan
origination and those that are purchased from other parties. In addition, SFAS
No. 122 requires that capitalized mortgage servicing rights should be amortized
in proportion to and over the period of estimated servicing income and should be
evaluated for impairment based on their fair value. The Company adopted SFAS
No. 122 in the quarter ending December 31, 1996. Note 28 of the Notes to
Consolidated Financial Statements reflects the impact of the adoption of SFAS
No. 122.
RELATIONSHIPS WITH INDEPENDENT PUBLIC ACCOUNTANTS
The financial statements as of September 30, 1995 and for the year ended
September 30, 1995 have been included herein in reliance upon the report of
Morrison and Smith, CPAs, independent auditors, and upon the authority of said
firm as experts in accounting and auditing. The financial statements as of
September 30, 1996 and December 31, 1997 and for the years ended September 30,
1996, December 31, 1997 and the three months ended December 31, 1996 have been
included herein in reliance upon the report of Jamison, Money, Farmer & Co.,
CPAs, independent auditors, appearing elsewhere herein, and upon the authority
of said firm as experts in accounting and auditing.
11
<PAGE>
MARKET AND DIVIDEND INFORMATION
At the present time, there is no established public trading market in which
shares of the Common Stock are regularly traded, nor are there any uniformly
quoted prices for such shares. There were 678,876 shares of the Common Stock
outstanding and approximately 107 holders of record of the Common Stock (does
not include beneficial owners of shares held in "street name") as of December
31, 1997. The last known sale of the Common Stock was on February 23, 1998 at
$21.125 per share.
On December 10, 1996, the Company declared a one-time cash distribution
which resulted in a return of capital of $3.00 per share. This distribution was
paid on December 27, 1996. On March 31, 1997 and September 30, 1997, the
Company paid distributions of $.30 per share which also resulted in a return of
capital to its stockholders.
The Board of Directors of the Company periodically reviews its dividend
policy in light of the performance of the Company and the Bank. Any change in
the Company's dividend policy, as determined by the Board of Directors, will
depend on the Company's debt and equity structure, earnings, regulatory capital
requirements, and other factors, including economic conditions, regulatory
restrictions, and tax considerations.
Security Bank may not declare or pay a cash dividend on or repurchase any
of its stock if the effect would be to reduce retained earnings of the Bank
below the capital requirements of the OTS or the amount then required for the
liquidation account that was established by the Bank at the time of the mutual-
to-stock conversion for the benefit of certain depositors at that time. Federal
regulations adopted by the OTS impose certain limitations on the payment of
dividends and other capital distributions, including stock repurchases by the
Bank. OTS regulations utilize a tiered approach which permits various levels of
distributions based primarily upon an institution's capital level and net
income. The Bank generally may make capital distributions during a calendar
year up to the greater of (1) 100% of its net earnings to date during the
calendar year plus an amount equal to one-half of the amount by which its total
capital-to-assets ratio exceeded its fully phased-in capital-to-assets ratio at
the beginning of the calendar year or (2) 75% of its net income during the most
recent four quarter period. At December 31, 1997, approximately $3.96 million
was available for payment of dividends from the Bank to the Company under the
above mentioned OTS restrictions. Capital distributions by the Bank are further
subject to a 30-day advance written notice to the OTS.
12
<PAGE>
[LETTERHEAD OF JAMISON, MONEY, FARMER & CO., P.C. APPEARS HERE]
February 4, 1998
Board of Directors and Stockholders
Security Federal Bancorp, Inc., and Subsidiary
Tuscaloosa, Alabama
INDEPENDENT AUDITOR'S REPORT
----------------------------
We have audited the consolidated statement of financial condition of Security
Federal Bancorp, Inc., and Subsidiary, as of December 31, 1997, and September
30, 1996, and the related consolidated statements of income, changes in
stockholders' equity, and cash flows for the years then ended. We have also
audited the consolidated statements of income, changes in stockholders' equity,
and cash flows for the three months ended December 31, 1996. These statements
are the responsibility of the Company's management. Our responsibility is to
express an opinion on these financial statements based on our audits. The
financial statements of Security Federal Bancorp, Inc., and Subsidiary, as of
September 30, 1995, and for the year then ended were audited by other auditors
whose opinion dated November 14, 1995, was unqualified. As stated in Note 26,
the Company has restated its financial statements as of September 30, 1995, and
for the year then ended to report deferred income taxes for the temporary
difference in the allowance for loan losses for financial and tax reporting
purposes in conformity with generally accepted accounting principles. The other
auditors reported on the financial statements as of September 30, 1995, and for
the year then ended before the restatement.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Security Federal Bancorp, Inc.,
and Subsidiary, and the results of its operations and its cash flows for the
periods then ended in conformity with generally accepted accounting principles.
<PAGE>
Board of Directors and Stockholders
Security Federal Bancorp, Inc., and Subsidiary
February 4, 1998
Page 2
We also audited the adjustments described in Note 26 that were applied to
restate the 1995 financial statements. In our opinion, such adjustments are
appropriate and have been properly applied.
/s/ Jamison, Money, Farmer & Co., P.C.
Certified Public Accountants
Tuscaloosa, Alabama
<PAGE>
[LETTERHEAD OF MORRISON & SMITH, LLP APPEARS HERE]
INDEPENDENT AUDITOR'S REPORT
Board of Directors
Security Federal Bancorp, Inc.
and Subsidiaries
Tuscaloosa, Alabama
Gentlemen:
We have audited the accompanying consolidated statements of financial condition
of Security Federal Bancorp, Inc. and Subsidiaries, Tuscaloosa, Alabama, as of
September 30, 1994 and 1995, and the related consolidated statements of income,
retained earnings, and cash flows for each of the years in the three year period
ended September 30, 1995. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Security Federal
Bancorp, Inc. and subsidiaries as of September 30, 1994 and 1995, and the
results of operations and cash flows for each of the years in the three year
period ended September 30, 1995, in conformity with generally accepted
accounting principles.
/s/ Morrison and Smith
MORRISON AND SMITH
Certified Public Accountants
November 14, 1995
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
December 31, 1997, and September 30, 1996
ASSETS
------
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
----------- -----------
<S> <C> <C>
Cash and Cash Equivalents $ 929,082 $ 44,271
Cash and Cash Equivalents - Interest-Bearing Deposits 473,108 567,305
Federal Home Loan Bank - Overnight Deposits 2,530,932 426,084
Investment Securities:
Securities available-for-sale, at fair value 3,076,996 2,984,586
Loans Held for Sale, Net of Deferred Fees - 1,514,050
Loans Receivable - Net 66,491,770 68,510,569
Real Estate Owned 277,348 117,217
Office Properties and Equipment 1,137,736 1,155,670
Federal Home Loan Bank Stock - at Cost 620,300 539,000
Accrued Interest and Dividends Receivable 354,256 421,300
Deferred Tax Asset - 258,109
Other Assets 404,180 101,945
----------- -----------
TOTAL ASSETS $76,295,708 $76,640,106
=========== ===========
</TABLE>
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
3
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
December 31, 1997, and September 30, 1996
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
<TABLE>
<CAPTION>
1997 1996
----------- -----------
<S> <C> <C>
Deposits $65,386,961 $61,252,015
Checks Outstanding in Excess of Deposits - 174,177
Advances from Federal Home Loan Bank 585,000 2,835,000
Advances from Borrowers for Taxes and Insurance 329,812 662,689
Income and Excise Tax Payable - Current 185,060 338,073
Unremitted Collections on Mortgage Loans Serviced 307,430 299,630
Mortgage Note Payable 36,233 39,597
Accrued Expenses and Other Liabilities 314,033 771,371
Deferred Income Tax Liability 61,500 -
----------- -----------
Total Liabilities 67,206,029 66,372,552
----------- -----------
Stockholders' Equity:
Common stock, $.01 par value, 1,900,000 shares
authorized, 678,876 and 671,469 shares issued
and outstanding at 1997 and 1996, respectively 6,789 6,714
Additional paid-in capital 3,517,964 6,144,956
Net unrealized loss on equity securities available-for-
sale, net of deferred tax - (58,800)
Retained earnings, substantially restricted 5,818,256 4,529,374
Shares acquired by MRP trust (253,330) (354,690)
----------- -----------
Total Stockholders' Equity 9,089,679 10,267,554
----------- -----------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $76,295,708 $76,640,106
=========== ===========
</TABLE>
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
4
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF INCOME
For the Years Ended December 31, 1997, September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
<TABLE>
<CAPTION>
Three Months
Year Ended Ended Year Ended Year Ended
12/31/97 12/31/96 9/30/96 9/30/95
---------- ------------ ---------- ----------
<S> <C> <C> <C> <C>
Interest Income:
Loans:
Mortgage loans $5,865,841 $1,433,862 $5,494,427 $4,615,011
Consumer and other loans 34,185 9,336 41,652 39,025
Investment securities, mortgage
backed securities, and FHLB
overnight deposits 350,856 84,893 475,274 524,801
---------- ---------- ---------- ----------
Total Interest Income 6,250,882 1,528,091 6,011,353 5,178,837
---------- ---------- ---------- ----------
Interest Expense:
Deposits - savings 143,722 34,478 134,397 154,144
Deposits - certificates 3,545,977 867,077 3,393,451 3,027,167
Deposits - demand accounts 5,258 - - -
Mortgage note payable 3,016 788 3,275 3,464
Borrowed funds 50,635 26,147 79,204 26,444
---------- ---------- ---------- ----------
Total Interest Expense 3,748,608 928,490 3,610,327 3,211,219
---------- ---------- ---------- ----------
Net Interest Income 2,502,274 599,601 2,401,026 1,967,618
---------- ---------- ---------- ----------
Non-Interest Income:
Servicing fees 180,698 52,700 219,634 203,963
Income from late charges 40,494 9,341 33,030 26,987
Other operating revenue 6,054 2,115 9,417 21,605
Gain on sale of real estate owned 5,989 - - 4,125
Gain (loss) on sale of loans 84,371 90,404 (96,502) (37,966)
Gain on sale of investments - - 41,335 6,237
Loss from permanent decline in
value of investments - - - (1,125)
---------- ---------- ---------- ----------
Total Non-Interest Income 317,606 154,560 206,914 223,826
---------- ---------- ---------- ----------
</TABLE>
(continued)
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
5
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF INCOME (Continued)
For the Years Ended December 31, 1997, September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
<TABLE>
<CAPTION>
Three Months
Year Ended Ended Year Ended Year Ended
12/31/97 12/31/96 9/30/96 9/30/95
---------- ------------ ---------- ----------
<S> <C> <C> <C> <C>
Non-Interest Expense:
Salaries and employee benefits $ 855,663 $ 226,974 $ 905,371 $ 660,830
Net occupancy expense 99,579 24,216 117,251 141,613
Equipment expense 108,623 24,873 97,989 67,855
OTS/FDIC premiums 83,012 18,277 543,999 157,566
Advertising 88,930 16,943 60,307 57,414
Net expenses of real estate owned 8,093 378 3,378 4,706
Other operating expenses 322,262 78,347 332,079 225,690
---------- --------- ---------- ----------
Total Non-Interest
Expense 1,566,162 390,008 2,060,374 1,315,674
---------- --------- ---------- ----------
Income before Income Taxes 1,253,718 364,153 547,566 875,770
---------- --------- ---------- ----------
Income Tax Expense:
Current expense 413,232 368,723 306,241 358,847
Deferred expense (benefit) 53,113 (232,405) (122,530) (34,364)
---------- --------- ---------- ----------
Total Income Tax Expense 466,345 136,318 183,711 324,483
---------- --------- ---------- ----------
Net Income $ 787,373 $ 227,835 $ 363,855 $ 551,287
========== ========= ========== ==========
Earnings per Common Share $ 1.17 $ .34 $ .54 $ .82
========== ========= ========== ==========
</TABLE>
(continued)
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
6
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
For the Years Ended December 31, 1997, September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
<TABLE>
<CAPTION>
Net
Unrealized
Loss on Retained Shares
Additional Securities Earnings Acquired Total
Common Paid-in Available Substantially by MRP Stockholders'
Stock Capital for Sale Restricted Trust Equity
------ ---------- ----------- -------------- -------- --------------
<S> <C> <C> <C> <C> <C> <C>
Balance, September 30, 1994 $ - $ - ($1,125) $4,352,848 $ - $4,351,723
Sale of 671,469 shares of
common stock 6,714 6,144,956 - - - 6,151,670
Net income for the year ended
September 30, 1995 - - - 551,287 - 551,287
Dividends declared and paid -
$.30 per share - - - (201,441) - (201,441)
Change in net unrealized loss on
securities available-for-sale,
net of deferred tax - - 52,882 - - 52,882
------ ---------- ---------- ------------- -------- ----------
Balance, September 30, 1995 6,714 6,144,956 51,757 4,702,694 - 10,906,121
Net income for the year ended
September 30, 1996 - - - 363,855 - 363,855
Dividends declared and paid -
$.80 per share - - - (537,175) - (537,175)
Purchase of shares for MRP trust - - - - (354,690) (354,690)
</TABLE>
(continued)
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
7
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (Continued)
For the Years Ended December 31, 1997, September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
<TABLE>
<CAPTION>
Net
Unrealized
Loss on Retained Shares
Additional Securities Earnings Acquired Total
Common Paid-in Available Substantially by MRP Stockholders'
Stock Capital for Sale Restricted Trust Equity
---------- ------------ -------------- ------------- ------------ -------------
<S> <C> <C> <C> <C> <C> <C>
Change in net unrealized loss on
securities available-for-sale,
net of deferred tax $ - $ - $ (110,557) $ - $ - $ (110,557)
---------- ------------ -------------- ------------- ------------ -------------
Balance, September 30, 1996 6,714 6,144,956 (58,800) 4,529,374 (354,690) 10,267,554
Net income for the three months
ended December 31, 1996 - - - 227,834 - 227,834
Special distribution declared and
paid - $3.00 per share - (2,014,407) - - - (2,014,407)
Reclassification of prior year
dividend to restate as a
return of capital - (273,675) - 273,675 - -
---------- ------------ -------------- ------------- ------------ -------------
Balance, December 31, 1996 6,714 3,856,874 (58,800) 5,030,883 (354,690) 8,480,981
Net income for the year ended
December 31, 1997 - - - 787,373 - 787,373
Return of capital declared and
paid - $.60 per share - (402,882) - - - (402,882)
(continued)
</TABLE>
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
8
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (Continued)
For the Years Ended December 31, 1997, September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
<TABLE>
<CAPTION>
Net
Unrealized
Loss on Retained Shares
Additional Securities Earnings Acquired Total
Common Paid-in Available Substantially by MRP Stockholders'
Stock Capital for Sale Restricted Trust Equity
------ ----------- ---------- ------------- -------- -------------
<S> <C> <C> <C> <C> <C> <C>
Issue of 7,407 shares of common
stock through exercise of stock
options $ 75 $ 85,692 $ - $ - $ - $ 85,767
Distribution of MRP Awards - (21,720) - - 101,360 79,640
Change in net unrealized loss on
securities available-for-sale,
net of deferred tax - - 58,800 - - 58,800
------ ---------- ---------- ------------- -------- -------------
Balance, December 31, 1997 $6,789 $3,517,964 $ - $ 5,818,256 ($253,330) $ 9,089,679
====== ========== ========== ============= ======== =============
</TABLE>
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
9
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the Years Ended December 31, 1997, and September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
----------------------------------------------------
<TABLE>
<CAPTION>
Three Months
Year Ended Ended Year Ended Year Ended
12/31/97 12/31/96 9/30/96 9/30/95
---------- --------- ----------- ----------
<S> <C> <C> <C> <C>
Cash Flows from Operating Activities:
Net income $ 787,373 $ 227,835 $ 363,855 $ 551,287
Adjustments to reconcile net
income to net cash provided by
operating activities:
(Gain) loss on sale of assets (90,360) (90,404) 55,167 (9,237)
Depreciation expense for
property and equipment 70,455 17,398 70,469 84,558
Amortization of premiums/
discounts on investments 385 96 2,006 2,597
Deferred taxes 53,112 257,480 (192,891) -
Changes in assets and liabilities:
(Increase) decrease in
accrued interest and
dividend receivable (22,780) 89,824 67,252 (193,282)
(Increase) decrease in other
assets 22,002 (93,001) (374,511) 152,811
Increase (decrease) in accounts
payable and other liabilities 65,981 (443,859) 697,843 51,406
Increase (decrease) in deferred
loan fees (2,506) (25,735) 126,894 67,121
Increase (decrease) in income
tax payable (23,425) (154,662) 256,520 99,881
Net (increase) decrease in
loans held for sale - 267,050 (1,339,050) (175,000)
---------- --------- ----------- ----------
Net Cash Provided by
(Used in) Operating
Activities 860,237 52,022 (266,446) 632,142
---------- --------- ----------- ----------
</TABLE>
(continued)
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
10
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
For the Years Ended December 31, 1997, and September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (Continued)
----------------------------------------------------
<TABLE>
<CAPTION>
Three Months
Year Ended Ended Year Ended Year Ended
12/31/97 12/31/96 9/30/96 9/30/95
------------ ----------- ------------ ------------
<S> <C> <C> <C> <C>
Cash Flows from Investing Activities:
Sales (purchases) of U. S.
Government Treasuries and
Agencies $ - $ - $ 3,022,452 ($3,802,085)
Received on sales of real estate
owned 255,420 116,902 79,829 520,396
Maturities/redemptions of
treasuries and agencies - - 1,000,000 500,000
(Purchase) sales of Federal Home
Loan Bank - overnight deposit (2,274,853) 170,005 (182,371) 4,866,710
Loan originations, net of
repayments (19,666,087) (4,529,946) (24,197,487) (16,672,001)
Purchase of stock in Federal
Home Loan Bank (81,300) - (31,100) (10,400)
Purchases of office properties and
equipment (69,006) (1,083) (6,136) (1,691)
Proceeds from sales of loans 20,192,812 6,714,685 15,064,327 9,622,016
------------ ----------- ------------ ------------
Net Cash Provided by (Used in)
Investing Activities (1,643,014) 2,470,563 (5,250,486) (4,977,055)
------------ ----------- ------------ ------------
Cash Flows from Financing Activities:
Net proceeds from sale of stock - - - 6,151,671
Net increase (decrease) in advances
from borrowers for tax and
insurance 1,889 (334,766) (68,715) 95,818
Increase (decrease) in bank overdraft - (174,177) 174,177 -
Repayments of mortgage notes
payable (2,718) (646) (2,458) (2,270)
Net increase (decrease) from
unremitted collections on
mortgage loans serviced 104,204 (96,404) (77,469) 257,383
</TABLE>
(continued)
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
11
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
For the Years Ended December 31, 1997, and September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (Continued)
----------------------------------------------------
<TABLE>
<CAPTION>
Three Months
Year Ended Ended Year Ended Year Ended
12/31/97 12/31/96 9/30/96 9/30/95
----------- ----------- ---------- -----------
<S> <C> <C> <C> <C>
Cash Flows from Financing Activities
(Continued):
Borrowings from (repayment of)
Federal Home Loan Bank
advances $(1,000,000) $(1,250,000) $1,550,000 $ 700,000
Net increase (decrease) in savings
and demand accounts (185,674) 581,501 23,393 (1,413,960)
Net increase (decrease) in
certificates of deposit 2,843,828 895,291 4,253,491 (1,284,348)
Cash dividends/return of capital (402,881) (2,014,407) (537,175) (201,441)
Proceeds from exercise of stock
options 85,766 - - -
----------- ----------- ---------- -----------
Net Cash Provided by (Used in)
Financing Activities 1,444,414 (2,393,608) 5,315,244 4,302,853
----------- ----------- ---------- -----------
Net Increase (Decrease) in Cash and
Cash Equivalents 661,637 128,977 (201,688) (42,060)
Cash and Cash Equivalents, Beginning
of Year 740,553 611,576 813,264 855,324
----------- ----------- ---------- -----------
Cash and Cash Equivalents, End of
Year $ 1,402,190 $ 740,553 $ 611,576 $ 813,264
=========== =========== ========== ===========
</TABLE>
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
12
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
For the Years Ended December 31, 1997, and September 30, 1996 and 1995, and
For the Three Months Ended December 31, 1996
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
-------------------------------------------------
During the years ended December 31, 1997, and September 30, 1996 and 1995,
cash was paid as follows:
<TABLE>
<CAPTION>
Three Months
Year Ended Ended Year Ended Year Ended
12/31/97 12/31/96 9/30/96 9/30/95
---------- --------- ---------- ----------
<S> <C> <C> <C> <C>
Interest on deposits, advances and
other borrowings $3,753,715 $ 917,730 $3,607,857 $3,181,947
Income taxes 450,857 33,500 120,082 230,312
</TABLE>
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
--------------------------------------------------------------------
<TABLE>
<CAPTION>
Three Months
Year Ended Ended Year Ended Year Ended
12/31/97 12/31/96 9/30/96 9/30/95
---------- ------------ ---------- ----------
<S> <C> <C> <C> <C>
Deposit accounts converted to
purchase stock $ - $ - $ - $1,641,346
Additions to real estate owned
through foreclosure 277,348 - 34,974 -
</TABLE>
SEE INDEPENDENT AUDITOR'S REPORT.
SEE NOTES TO FINANCIAL STATEMENTS.
13
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1997
1. Summary of Significant Accounting Policies
------------------------------------------
A. Basis of Presentation and Nature of Operations
----------------------------------------------
The consolidated financial statements include the accounts of
Security Federal Bancorp, Inc. (the "Company") and its wholly-owned
subsidiary, Security Bank, (the "Bank"). All significant intercompany
balances and transactions are eliminated in consolidation. Security Bank
is engaged principally in accepting deposits from individuals and
corporate customers and investing those funds in loans secured by first
mortgages primarily for one to four family residences. Security Bank has
one main office located in Tuscaloosa, Alabama, that serves the West
Alabama area.
B. Organization
------------
Security Federal Bancorp, Inc., was incorporated in June, 1994, for
the purpose of acting as a savings and loan holding company with the Bank
as its sole subsidiary. On March 31, 1995, the Company acquired all of
the common stock of the Bank upon its conversion from mutual to stock
form. The Company's principal business is the business of the Bank. The
Bank is a federally chartered stock savings bank and a member of the
Federal Home Loan Bank System. On September 15, 1997, the Board of
Directors of the Company approved changing the fiscal year-end from
September 30th to December 31st. The consolidated financial statements,
as of and for the years ended December 31, 1997, and September 30, 1996,
include the accounts of the Company and the Bank. Prior to 1995 and the
conversion, the financial statements include the accounts of the Bank
only.
C. General
-------
Records are maintained on the accrual method for financial reporting
and tax purposes. The Bank provides financial services to individuals and
corporate customers, and is subject to competition from other financial
institutions.
The Bank is a member of the Federal Home Loan Bank System and is
subject to regulation by the Office of Thrift Supervision. As a member of
this system, the Bank is required to maintain an investment in capital
stock of the Federal Home Loan Bank in Atlanta. The Bank maintains
insurance on savings deposits within certain limitations as a member of
the Savings Association Insurance Fund which is administered by the
Federal Deposit Insurance Corporation.
(continued)
14
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
1. Summary of Significant Accounting Policies (Continued)
------------------------------------------
D. Valuation of Allowance for Losses
---------------------------------
The allowance for loan losses is maintained at a level which is
considered adequate to provide for losses based upon management's
evaluation of known and inherent risk characteristics of the loan
portfolio, the fair value of underlying collateral, trends in historical
loss experience, current economic conditions, and other pertinent
factors. A provision for loan losses is charged to operations based on
management's periodic evaluation of these risks.
E. Loan Fees
---------
Nonrefundable fees for making loans are deferred to the extent that
they exceed the direct costs of underwriting and closing loans. These
deferred fees are amortized to income over the contractual life of the
mortgage loan in accordance with Statement of Financial Accounting
Standards No. 91, as an adjustment to the yield of such loans.
F. Properties and Equipment
------------------------
Properties and equipment are stated at cost, less accumulated
depreciation. Depreciation is computed on the straight-line and
accelerated methods over the estimated useful lives of the applicable
assets. Useful lives range generally from five to thirty-nine years.
Costs of major additions and improvements are capitalized. Expenditures
for maintenance and repairs are charged to operations as incurred.
G. Real Estate Owned
-----------------
Real estate acquired in settlement of loans is initially recorded at
the lower of cost or fair value of the asset acquired and, subsequently,
at the lower of cost or fair value minus estimated cost to sell. Costs
of holding real estate acquired in settlement of loans are reflected in
income currently. Improvements to the real estate are capitalized as a
part of the carrying value. Gains or losses on sales of such real estate
are taken into income based on the Bank's initial and continuing
investment in the property. Valuations are periodically performed by
management, and an allowance for loss is established by a charge to
operations if the carrying value of a property exceeds its estimated fair
value.
(continued)
15
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
1. Summary of Significant Accounting Policies (Continued)
------------------------------------------
H. Cash and Cash Equivalents
-------------------------
Cash and cash equivalents consist of cash on hand of $98,804 and
$4,050 at December 31, 1997, and September 30, 1996, respectively, and
funds on deposit with banks with original maturities of three months or
less of $1,303,386 and $607,526 at December 31, 1997, and September 30,
1996, respectively.
I. Income Taxes
------------
Deferred taxes are provided when income and expenses are recognized
in different periods for financial reporting purposes and for purposes of
computing income taxes currently payable.
Security Federal Bancorp, Inc., accounts for income taxes using the
liability method pursuant to Statement of Financial Accounting Standards
(SFAS) No. 109, "Accounting for Income Taxes." The objective of the
asset and liability method, as prescribed under SFAS No. 109, is to
establish deferred tax assets and liabilities for the temporary
differences between the financial reporting basis and the tax basis of
the Company's assets and liabilities at enacted tax rates expected to be
in effect when such amounts are realized or settled. Security Federal
Bancorp, Inc., and its sole subsidiary, Security Bank, file separate
federal and state income tax returns.
J. Loans Receivable
----------------
Loans receivable are carried at cost, as the Bank has the intent and
the ability to hold them until maturity. Generally, interest is credited
to income as earned; however, on loans delinquent more than 90 days, the
interest is not accrued unless such interest is ultimately collected, and
is credited to income in the year received.
K. Securities
----------
In accordance with Statement of Financial Accounting Standards No.
115, "Accounting for Certain Debt and Equity Securities" (SFAS 115)
securities are classified into three categories: held-to-maturity (HTM),
available-for-sale (AFS), and trading.
(continued)
16
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
1. Summary of Significant Accounting Policies (Continued)
------------------------------------------
K. Securities (Continued)
----------
Securities classified as held-to-maturity, which are those the Bank
has the positive intent and ability to hold to maturity, are reported at
amortized costs. Securities classified as available-for-sale may be sold
in response to changes in interest rates, liquidity needs, and for other
purposes. Available-for-sale securities are reported at fair value and
include securities not classified as held-to-maturity or trading.
Trading securities are those held principally for the purpose of selling
in the near future and are carried at fair value. The Bank currently has
no trading securities or held-to-maturity securities.
Unrealized holding gains and losses for available-for-sale securities
are excluded from earnings and reported, net of any income tax effect, as
a separate component of stockholders' equity. Realized gains and losses
are reported in earnings based on the adjusted cost of the specific
security sold.
L. Loan Servicing Fees
-------------------
The Bank sells loans with servicing retained. Loans are
generally sold to FHLMC, and the contractual servicing fee is set at
then normal servicing fee rates. Loan servicing costs are charged to
expense as incurred.
In May, 1995, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 122, "Accounting for
Mortgage Servicing Rights, an Amendment of FASB 65," effective for fiscal
years beginning after December 15, 1995. When a company has a definitive
plan to sell or securitize mortgage loans it originated and intends to
retain the mortgage servicing rights, Statement No. 122 requires that the
cost of mortgage servicing rights are capitalized separately from the
cost of originating the loan. Under Statement No. 65, only mortgage
servicing rights that are purchased are capitalized. Statement No. 122
eliminates the disparity between the treatment of mortgage servicing
rights obtained through loan origination and those that are purchased
from other parties. In addition, Statement No. 122 requires that
capitalized mortgage servicing rights should be amortized in proportion
to and over the period of estimated servicing income and should be
evaluated for impairment based on their fair value. The Company adopted
Statement No. 122 in the quarter ended December 31, 1996.
M. Gains (Losses) on Sales of Loans
--------------------------------
Gains (losses) on sales of mortgage loans are recognized at the time
of settlement.
(continued)
17
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
1. Summary of Significant Accounting Policies (Continued)
------------------------------------------
N. Loans Held for Sale
-------------------
Loans held for sale are nonrecourse loans which management has given
a commitment to sell to FHLMC and represent all the loans that management
intends to sell. The loans have been closed, but not yet delivered as of
the balance sheet date. The interest rates have been locked-in so that
the Bank suffers no interest rate risk and no resultant gain or loss on
sale. Therefore, these loans are carried at cost which approximates
market value.
O. Use of Estimates in the Preparation of Financial Statements
-----------------------------------------------------------
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities
and disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
Material estimates that are particularly susceptible to significant
change relate to the determination of the allowances for losses on loans
and the valuation of real estate acquired in connection with foreclosures
or in satisfaction of loans. In connection with the determination of the
allowances for losses on loans and foreclosed real estate, management
obtains independent appraisals for significant properties.
While management uses available information to recognize losses on
loans and foreclosed real estate, future additions to the allowances may
be necessary based on changes in local economic conditions. In addition,
regulatory agencies, as an integral part of their examination process,
periodically review the Bank's allowances for losses on loans and
foreclosed real estate. Such agencies may require the Bank to recognize
additions to the allowances based on their judgements about information
available to them at the time of their examination. Because of these
factors, it is reasonably possible that the allowances for losses on
loans and foreclosed real estate may change materially in the near term.
P. Advertising Costs
-----------------
The Company expenses advertising costs as they are incurred.
Advertising expense was $88,930, $60,307, and $57,414 for the years ended
December 31, 1997, September 30, 1996 and 1995, respectively.
Advertising expense was $16,943 for the three months ended December 31,
1996.
(continued)
18
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
1. Summary of Significant Accounting Policies (Continued)
------------------------------------------
Q. Impairment of Long-Lived Assets
-------------------------------
In March, 1995, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed
Of," effective for fiscal years beginning after December 15, 1995. This
Statement requires the recognition of impairment losses when conditions
indicate that long-lived assets are impaired and the undiscounted
cash flows estimated to be generated by the assets are less than the
asset's carrying amount. The Company adopted Statement No. 121 in the
quarter ended December 31, 1996, and does not anticipate that the effect
of the adoption will be material to the consolidated financial
statements.
R. Earnings Per Share
------------------
Earnings per share computations are based upon the weighted average
number of shares outstanding during the periods. The dilutive effect of
shares issuable under stock options and stock awards granted by the
Company is immaterial.
2. Related Party Transactions
--------------------------
The Bank has loans outstanding at December 31, 1997, and September 30,
1996, to directors, officers, and employees as follows:
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
-------- --------
<S> <C> <C>
Beginning balance $261,482 $558,110
Additions 165,928 -
Reductions (61,027) (296,628)
------- --------
Ending balance $366,383 $261,482
======== ========
</TABLE>
These are loans made during the normal course of business and the rates,
collateral and terms are equivalent to those that are required for similar
loans made at arms length.
(continued)
19
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
2. Related Party Transactions (Continued)
--------------------------
The former President of the Company served as legal counsel for the Bank
and provided title services to customers on loans made. Title fees were
collected from customers at the time of closing and were paid direct to
Insured Titles of Tuscaloosa, Inc., a corporation wholly-owned by the
President. None of this amount is included in expense on the consolidated
statements of income of the Company. For the year ended September 30, 1996,
the amount paid to Insured Titles of Tuscaloosa, Inc., totaled $163,261. For
the year ended December 31, 1997, no title fees were paid to Insured Titles
of Tuscaloosa, Inc.
During the fiscal years ended December 31, 1997, and September 30, 1996,
various companies owned by three directors of the Company received $236,113
and $203,820, respectively, in real estate commissions and homeowner's
insurance premiums from the closing of mortgage loans originated by the Bank.
For the three months ended December 31, 1996, those companies received
$36,201. The fees are collected from the buyers and sellers at closing, and
thus, are not included in expenses on the consolidated statements of income
of the Company.
3. Investment Securities
---------------------
December 31, 1997 - Securities available-for-sale consisted of the following:
-----------------
<TABLE>
<CAPTION>
Fair Unrealized
Maturity Market Amortized Gain
Description Date Rate Value Cost (Loss)
- --------------------------------------- ---------- ------ ---------- ---------- -------
<S> <C> <C> <C> <C> <C>
U. S. Government (including
agencies):
Federal Agricultural Mortgage
Corporation Stock - - $ 875 $ 875 $ -
Federal National Mortgage
Association Bond 12/13/2000 6.29% 3,076,121 3,076,121 -
---------- ---------- -------
$3,076,996 $3,076,996 $ -
========== ========== =======
</TABLE>
(continued)
20
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
3. Investment Securities (Continued)
---------------------
September 30, 1996 - Securities available-for-sale consisted of the
------------------
following:
<TABLE>
<CAPTION>
Fair Unrealized
Maturity Market Amortized Gain
Description Date Rate Value Cost (Loss)
- --------------------------------------- ---------- ----- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C>
U. S. Government (including
agencies):
Federal Agricultural Mortgage
Corporation Stock - - $ 875 $ 875 $ -
Federal National Mortgage
Association Bond 12/13/2000 6.29% 2,983,711 3,076,602 (92,891)
---------- ---------- ----------
$2,984,586 $3,077,477 $ (92,891)
========== ========== ==========
</TABLE>
All bonds classified as available-for-sale are carried at the lower of
cost or estimated fair market value in the aggregate. Net unrealized gain or
losses are recognized through a valuation allowance that is shown as an
increase or reduction in the carrying value of related securities and a
corresponding increase or reduction in stockholders' equity.
The following is a summary of maturities of securities available-for-sale
as of December 31, 1997:
<TABLE>
<CAPTION>
Securities Available-For-Sale
-----------------------------
Amortized Fair
Cost Value
------------ -------------
<S> <C> <C>
Amounts maturing in:
One year or less $ - $ -
After one year through five years 3,076,121 3,076,121
After five years through ten years - -
After ten years 875 875
---------- ----------
$3,076,996 $3,076,996
========== ==========
</TABLE>
No gross proceeds from sales or maturities of investments occurred during
the year ended December 31, 1997, or the three months ended December 31,
1996.
(continued)
21
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
3. Investment Securities (Continued)
---------------------
During the fiscal year ended September 30, 1996, securities classified as
available-for-sale were sold for total proceeds of $6,101,797, resulting in
gross realized gains of $41,335. Net unrealized losses on available-for-sale
securities of $92,891 were accrued, resulting in a net decrease in
stockholders' equity. In addition, maturities of securities classified as
held-to-maturity totaled $1,000,000 during the year ended September 30, 1996.
During the fiscal year ended September 30, 1995, securities classified as
held-to-maturity totaling $1,238,802 in amortized cost were sold, resulting
in gross realized gains of $6,237. The securities were sold based on the
cash flow needs of the Bank. Due to anticipated future sales of securities
based on continuing cash flow needs, and due to the fact that securities were
sold during the fiscal year ended September 30, 1995, the decision was made
to reclassify securities having maturity dates of more than three months from
September 30, 1995, with amortized cost of $6,059,722 from the held-to-
maturity classification to the available-for-sale classification, resulting
in unrealized gains of $86,262. A deferred tax liability of $34,505 was
accrued, resulting in a net increase in stockholders' equity of $51,757.
Additionally, maturities of securities classified as held-to-maturity totaled
$500,000 during the year ended September 30, 1995.
4. Loans Receivable
----------------
Loans receivable at December 31, 1997, and September 30, 1996, consisted
of the following:
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
----------- -----------
<S> <C> <C>
Real Estate Loans:
One to four family residential loans $60,121,873 $60,014,323
Constructions loans 3,876,110 6,239,389
Multi-family loans 2,157,846 3,478,064
Commercial loans 743,719 1,410,218
----------- -----------
Total Real Estate Loans 66,899,548 71,141,994
Consumer Loans 889,482 544,648
----------- -----------
Total Loans Receivable 67,789,030 71,686,642
</TABLE>
(continued)
22
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
4. Loans Receivable (Continued)
----------------
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
----------- -----------
<S> <C> <C>
Total Loans Receivable (Brought forward) $67,789,030 $71,686,642
Less:
Unearned discounts on home improvement loans - 1,838
Undisbursed portion of loans in process 559,432 2,408,300
Deferred fees on mortgage loans 407,825 435,932
Allowance for losses 330,003 330,003
----------- -----------
$66,491,770 $68,510,569
=========== ===========
</TABLE>
A summary of the allowance for loan losses at December 31, 1997, and
September 30, 1996, is shown below:
<TABLE>
<CAPTION>
<S> <C>
Balance at September 30, 1995 $ 330,003
Addition to allowance for year ended September 30, 1996 -
-----------
Balance at September 30, 1996 330,003
Addition to allowance for year ended December 31, 1997,
and the three months ended December 31, 1996 -
-----------
Balance at December 30, 1997 $ 330,003
===========
</TABLE>
While management uses available information to recognize losses on loans,
future additions may be necessary based on changes in economic conditions.
The Bank is subject to the regulations of certain Federal agencies and
undergoes periodic examinations by those agencies. As an integral part of
the examinations, the regulatory agencies periodically review the Bank's
allowance for losses on loans. Such agencies may require the Bank to
recognize additions to the allowance based on their judgment about
information available to them at the time of their examination.
Loan balances more than 90 days delinquent that had reached non-accrual
status totaled approximately $279,392 and $695,879 at December 30, 1997, and
September 30, 1996, respectively. Gross interest income of $18,969 and
$21,021 would have been recorded on these loans for the years ended December
31, 1997, and September 30, 1996, respectively. No interest on such loans
was included in income during these periods.
(continued)
23
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
4. Loans Receivable (Continued)
----------------
Mortgage loans serviced for others are not included in the accompanying
statements of financial condition. The unpaid principal balances of these
loans at December 31, 1997, and September 30, 1996, consisted of the
following:
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
----------- -----------
<S> <C> <C>
Mortgage loans serviced for:
FHLMC $83,783,493 $70,575,970
Other investors 2,337,151 1,237,155
----------- -----------
$86,120,644 $71,813,125
=========== ===========
</TABLE>
5. Fair Value of Financial Instruments
-----------------------------------
The following methods and assumptions were used by the Company in
estimating its fair value disclosures for financial instruments as of
December 31, 1997, and September 30, 1996.
Cash and cash equivalents: The carrying amount reported in the consolidated
-------------------------
statement of financial condition is a reasonable estimate of fair value.
Federal Home Loan Bank interest-bearing deposits: The carrying amount
------------------------------------------------
reported in the consolidated statement of financial condition is a reasonable
estimate of fair value.
Investment securities: Estimated fair values are based on quoted market
---------------------
prices, if available. If quoted market prices are not available, estimated
fair values are based on other available information.
Loans receivable: Estimated fair values for adjustable rate loans, which may
----------------
be repriced frequently and have no significant credit risk, are based on
carrying value. Estimated fair values of all other loans are estimated by
discounting the future cash flows using the current rates at which similar
loans would be made to borrowers with similar credit ratings and for the same
remaining maturities. The carrying amounts of accrued interest receivable and
dividends receivable reported in the consolidated statement of financial
condition are a reasonable estimate of fair value.
Loans held for sale, net of deferred fees: Estimated fair values for loans
-----------------------------------------
held for resale are based on the quoted market prices for those loans at
year-end.
(continued)
24
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
5. Fair Value of Financial Instruments (Continued)
-----------------------------------
Mortgage servicing rights: The fair value of mortgage servicing rights have
-------------------------
been estimated based on the present value of future cash inflows with
consideration of potential prepayment, default, and current interest rates.
Deposit liabilities: The fair value of savings accounts is the amount
-------------------
payable on demand at the reporting date. The fair value of fixed-maturity
certificates of deposit is estimated by discounted cash flow analyses, using
the interest rates currently offered for deposits of similar remaining
maturities.
Checks outstanding in excess of deposits: The carrying amount reported in
----------------------------------------
the consolidated statement of financial condition is a reasonable estimate of
fair value.
Advances from Federal Home Loan Bank: The carrying amount of short-term
------------------------------------
advances from the Federal Home Loan Bank approximates fair value as the
current rate for new advances from the Federal Home Loan Bank is the same as
the rate for the advances received as of the reporting date. The Bank has
available significant amounts at the Federal Home Loan Bank from which
additional advances could be drawn. Estimated fair value of the long-term
advance was estimated based on discounting future cash flows using interest
rates currently offered for advances with similar remaining maturities.
Advances from borrowers for taxes and insurance: The carrying amount
-----------------------------------------------
reported in the consolidated statement of financial condition is a reasonable
estimate of fair value.
Unremitted collections on mortgage loans serviced: The carrying amount
-------------------------------------------------
reported in the consolidated statement of financial condition is a reasonable
estimate of fair value.
Mortgage note payable: The carrying amount of mortgage note payable
---------------------
approximates fair value as the interest rate for the mortgage note payable is
the interest rate currently available to the Bank for debt with similar
amount, terms and remaining maturities.
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
---------------------- ----------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Financial Assets
- -------------------
Cash and cash equivalents $1,402,190 $1,402,190 $ 611,576 $ 611,576
Federal Home Loan bank -
interest bearing deposits 2,530,932 2,530,932 426,084 426,084
Investment securities 3,076,996 3,076,996 2,984,586 2,984,586
</TABLE>
(continued)
25
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
5. Fair Value of Financial Instruments (Continued)
-----------------------------------
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
------------------------ ------------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Financial Assets (Continued)
- ----------------
Loans receivable $66,491,770 $67,297,000 $68,510,569 $68,449,662
Loans held for sale, net of
deferred fees - - 1,514,050 1,510,265
Accrued interest and dividends
receivable 354,256 354,256 421,300 421,300
Mortgage servicing rights 336,141 333,827 - -
Financial Liabilities
- ---------------------
Deposits 65,386,961 65,689,876 61,252,015 61,257,289
Checks outstanding in excess of
deposits - - 174,177 174,177
Advances from Federal Home
Loan Bank 585,000 403,000 2,835,000 2,835,000
Advances from borrowers for
taxes and insurance 329,812 329,812 662,689 662,689
Unremitted collections on
mortgage loans serviced 307,430 307,430 299,630 299,630
Mortgage note payable 36,233 36,233 39,597 39,597
</TABLE>
6. Office Properties and Equipment
-------------------------------
Office properties and equipment consisted of the following at December
31, 1997, and September 30, 1996:
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
---------- ----------
<S> <C> <C>
Office furniture and equipment $ 329,842 $ 279,198
Office building, land and improvement 1,385,058 1,366,058
---------- ----------
1,714,900 1,645,256
</TABLE>
(continued)
26
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
6. Office Properties and Equipment (Continued)
-------------------------------
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
---------- ----------
<S> <C> <C>
(Brought Forward) $1,714,900 $1,645,256
Less: Accumulated depreciation 577,164 489,586
---------- ----------
$1,137,736 $1,155,670
========== ==========
</TABLE>
Depreciation and amortization are computed using both straight-line and
accelerated methods for financial reporting and income tax purposes.
Depreciation expense totaled $70,455 for the year ended December 31, 1997,
and $84,524 and $70,469 for the years ended September 30, 1995 and 1996,
respectively. Depreciation expense totaled $17,398 for the three months
ended December 31, 1996.
7. Income Taxes
------------
Income tax expense for the years ended December 31, 1997, September 30,
1996 and 1995, and for the three months ended December 31, 1996, is as
follows:
<TABLE>
<CAPTION>
Federal State Total
--------- -------- ---------
<S> <C> <C> <C>
December 31, 1997:
Current $ 369,941 $ 43,291 $ 413,232
Deferred 47,345 5,768 53,113
--------- -------- ---------
$ 417,286 $ 49,059 $ 466,345
========= ======== =========
December 31, 1996 (3 months):
Current $ 334,029 $ 34,694 $ 368,723
Deferred (207,166) (25,239) (232,405)
--------- -------- ---------
$ 126,863 $ 9,455 $ 136,318
========= ======== =========
September 30, 1996:
Current $ 267,354 $ 38,887 $ 306,241
Deferred (104,150) (18,380) (122,530)
--------- -------- ---------
$ 163,204 $ 20,507 $ 183,711
========= ======== =========
September 30, 1995:
Current $ 315,606 $ 43,241 $ 358,847
Deferred (29,209) (5,155) (34,364)
--------- -------- ---------
$ 286,397 $ 38,086 $ 324,483
========= ======== =========
</TABLE>
(continued)
27
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
7. Income Taxes (Continued)
------------
Included in these amounts are income taxes of approximately $15,200 and
$2,300 in 1996 and 1995, respectively, related to the sales of investment
securities. No investment securities were sold in the year ended December
31, 1997, or the three months ended December 31, 1996.
Temporary differences that gave rise to significant portions of the
deferred tax asset (liability) at December 31, 1997, and September 30, 1996,
related to the following:
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
--------- --------
<S> <C> <C>
Unrealized loss on investment securities
available-for-sale $ - $ 34,091
Stock dividends, FHLB stock (72,005) (72,005)
Reserve for loan losses (21,214) (38,030)
Director's retirement plan 94,645 97,857
SAIF assessment payable - 139,868
Deferred fees 58,742 69,058
Mortgage servicing rights (123,364) -
Other, net 1,696 27,270
--------- --------
$ (61,500) $258,109
========= ========
</TABLE>
At December 31, 1997, September 30, 1996 and 1995, retained earnings
include $712,606 of accumulated tax reserves for bad debts for which no
deferred income tax liability has been accrued. These amounts represent
allocations of income to bad debt deductions for tax purposes only.
Reduction of these reserves for purposes other than tax bad-debt losses or
adjustments arising from carryback of net operating losses would create
income for tax purposes, which would be subject to the then-current corporate
income tax rate. The unrecorded deferred liability on these amounts was
approximately $262,000 at December 31, 1997, and at September 30, 1996.
Total income tax expense differed from the amounts computed by applying
the statutory Federal rate of 34% to income before income taxes as a result
of the following:
(continued)
28
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
7. Income Taxes (Continued)
------------
<TABLE>
<CAPTION>
Three Months
Ended
1 9 9 7 12/31/96 1 9 9 6 1 9 9 5
--------- ------------ --------- ---------
<S> <C> <C> <C> <C>
Expected federal income
tax expense $ 426,264 $123,812 $186,172 $297,762
Items affecting income tax
expense:
Allowable bad debt
deduction, net - - - (28,977)
State tax, net 49,059 9,455 7,659 57,900
Other (8,978) 3,051 (10,120) (2,202)
--------- ------------ --------- ---------
$ 466,345 $136,318 $183,711 $324,483
========= ============ ========= =========
Effective tax rate 37% 37% 34% 37%
========= ============ ========= =========
</TABLE>
8. Profit Sharing Plan and Deferred Compensation Plan
--------------------------------------------------
The Board of Directors adopted a profit sharing plan in October, 1988,
and the plan covers substantially all employees. Contributions to the plan
are at the discretion of the Board of Directors and the plan is maintained on
a calendar year. During calendar years 1997, 1996, and 1995, contributions
to the plan charged to operations were $40,000, $22,137, and $49,701,
respectively.
Additionally, in 1988, the Board of Directors adopted a non-qualified
deferred compensation plan to cover the former President of the Bank. During
the years ended September 30, 1996 and 1995, $16,250 and $65,000,
respectively, was contributed to the plan and charged to operations. Upon
the death of the former President of the Bank in December, 1995, the assets
of the plan were distributed to his beneficiaries.
9. Other Operating Expenses
------------------------
Other operating expenses for the years ended December 31, 1997, September
30, 1996 and 1995, and for the three months ended December 31, 1996, are
shown on the following page.
(continued)
29
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
9. Other Operating Expenses (Continued)
------------------------
<TABLE>
<CAPTION>
Three Months
Ended
1 9 9 7 12/31/96 1 9 9 6 1 9 9 5
--------- -------- -------- --------
<S> <C> <C> <C> <C>
Professional services $ 82,700 $ 29,424 $134,253 $ 51,452
Stationery, printing and
office supplies 71,832 14,576 52,479 48,097
Other expenses 167,730 34,347 145,347 126,141
--------- -------- -------- --------
$ 322,262 $ 78,347 $332,079 $225,690
========= ======== ======== ========
</TABLE>
10. Other Assets
------------
Other assets consisted of the following at December 31, 1997, and
September 30, 1996:
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
-------- --------
<S> <C> <C>
Mortgage servicing rights $336,141 $-
Stock in savings and loan data corporation 15,000 15,000
Prepaid expenses and other assets 53,039 86,945
-------- --------
Total Other Assets $404,180 $101,945
======== ========
</TABLE>
11. Accrued Expenses and Other Liabilities
--------------------------------------
Accrued expenses and other liabilities consisted of the following at
December 31, 1997, and September 30, 1996:
<TABLE>
1 9 9 7 1 9 9 6
-------- --------
<S> <C> <C>
Accrued interest payable $ 42,585 $ 36,932
Accounts payable 11,451 45,766
Accrued director's retirement plan 257,890 266,640
Accounts payable - SAIF assessment - 381,113
Accrued management recognition plan - 34,306
Other accrued expenses 2,107 6,614
-------- --------
$314,033 $771,371
======== ========
</TABLE>
(continued)
30
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
12. Federal Home Loan Bank Stock
----------------------------
The Bank is a member of the Federal Home Loan Bank System and is required
to maintain an investment in the stock of the Federal Home Loan Bank of
Atlanta equal to at least 1% of the unpaid principal balances of its
residential mortgage loans, .3% of its total assets or 5% of its outstanding
advances from FHLB-Atlanta. Purchases and sales of stock are made directly
with FHLB-Atlanta. The stock ownership is evaluated annually on December 31.
As of the latest annual evaluation, the Bank met its stock ownership
requirement.
13. Advances from Federal Home Loan Bank
------------------------------------
Advances from Federal Home Loan Bank at December 31, 1997, and September
30, 1996, included a $585,000 loan made to Security Bank for a term of twenty
years at a 3% fixed rate of interest which is due on August 5, 2011.
Advances at September 30, 1996, also included various short-term advances at
an interest rate of 6.05%, totaling $2,250,000. The advances from the
Federal Home Loan Bank are collateralized by a blanket lien on the Bank's one
to four family first mortgage loans. No principal amounts are payable within
the next five years. The Bank's total available credit line with the Federal
Home Loan Bank was $7.8 million at December 31, 1997.
14. Concentration of Credit Risk
----------------------------
The Bank grants consumer, commercial and residential loans to various
customers primarily in the West Central Alabama region.
The Bank maintains cash balances at various local financial institutions.
Cash accounts at these banks are insured by the Federal Deposit Insurance
Corporation for up to $100,000. Amounts in excess of insured limits were
approximately $917,133 at December 31, 1997. The excess is computed based on
the balance of each account according to each institution at December 31,
1997. The balance of the accounts included in cash and cash equivalents as
shown on the consolidated statement of financial condition will vary from the
balance according to the financial institution by the amount of any
outstanding checks or deposits in transit at December 31, 1997.
(continued)
31
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
15. Commitments and Contingencies
-----------------------------
At December 31, 1997, and September 30, 1996, outstanding commitments to
originate both fixed and variable rate loans amounted to $1,188,550 and
$1,090,000, respectively. Commitment periods ranged from 30 to 90 days from
the date of commitment with interest on fixed rate loans expected to range
from 6.75% to 9.5% based on maturities. The majority of the fixed rate loan
commitments were locked in at December 31, 1997.
Commitments to sell mortgage loans amounted to $661,000 and $1,632,050 at
December 31, 1997, and September 30, 1996, respectively. Of the $661,000 in
commitments at December 31, 1997, none were funded. Of the $1,632,050 in
commitments at September 30, 1996, $1,514,050 were funded.
Unused lines of credit on home equity lines totaled $1,482,419 and
$54,562 at December 31, 1997, and September 30, 1996, respectively. These
extensions of credit are collateralized by second mortgages on residential
property.
Commitments to extend credit may involve, to varying degrees, elements of
credit risk and interest rate risk in excess of the amount recognized in the
statement of financial condition. The amount of credit loss in the event of
nonperformance by the other party to the commitment is represented by the
contractual amount of the loan when originated. Interest rate risk on
commitments to extend credit results from the possibility that interest rates
may have moved unfavorably from the position of the Bank since the time the
commitment was made.
Other than the commitments discussed in the preceding paragraph, the Bank
has not engaged in any transactions that would give rise to potential off-
balance sheet credit losses. Accordingly, no reserve for such losses has
been established.
16. Segment Information
-------------------
The primary operations of the Bank consist of the origination and
servicing of one-to-four family mortgage loans. The table below provides
summarized information by business segment for the year ended December 31,
1997, the three months ended December 31, 1996, and the year ended September
30, 1996.
<TABLE>
1 9 9 7 12/31/96 1 9 9 6
---------- ---------- ----------
<S> <C> <C> <C>
Revenue from Unaffiliated Customers:
Mortgage banking $ 265,069 $ 143,104 $ 123,132
Other 6,303,419 1,682,651 6,095,135
---------- ---------- ----------
$6,568,488 $1,825,755 $6,218,267
========== ========== ==========
</TABLE>
(continued)
32
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
16. Segment Information (Continued)
-------------------
<TABLE>
<CAPTION>
1 9 9 7 12/31/96 1 9 9 6
---------- ----------- -----------
<S> <C> <C> <C>
Operating Profit:
Mortgage banking $ 184,033 $ 109,210 $ 86,069
Other 1,069,685 254,943 461,497
---------- ----------- -----------
$1,253,718 $ 364,153 $ 547,566
========== =========== ===========
1 9 9 7 1 9 9 6
----------- -----------
Identifiable Assets:
Mortgage banking $ 336,141 $ 1,514,050
Other 75,959,567 75,480,746
----------- -----------
$76,295,708 $76,994,796
=========== ===========
</TABLE>
Revenues are comprised of interest income, loan fees, loan servicing
revenue, net gains or losses on the sale of loans and other income.
Operating profit is interest income less interest expense, provision for
losses, and operating expenses. General overhead expenses not directly
attributable to a segment are allocated to all segments.
Identifiable assets by segments are those assets used exclusively by such
segment.
17. Financial Institutions Reform, Recovery and Enforcement Act ("FIRREA") of
-------------------------------------------------------------------------
1989
----
FIRREA was signed into law on August 9, 1989; regulations for savings
institutions' minimum capital requirements went into effect on December 7,
1989. In addition to its capital requirements, FIRREA included provisions
for changes in the Federal regulatory structure for institutions including a
new deposit insurance system, increased deposit insurance premiums, and
restricted investment activities with respect to non-investment-grade
corporate debt and certain other investments. FIRREA also increased the
required ratio of housing related assets in order to qualify as a savings
institution.
The regulations require institutions to have a minimum regulatory
tangible capital equal to 1.5 percent of total assets, a minimum core capital
equal to 3 percent of total assets and risk-based capital equal to 8 percent
of total risk-weighted assets.
(continued)
33
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
17. Financial Institutions Reform, Recovery and Enforcement Act ("FIRREA") of
-------------------------------------------------------------------------
1989 (Continued)
----
At December 31, 1997, the Bank met the regulatory capital requirements as
defined by FIRREA. At December 31, 1997, the Bank's regulatory tangible
capital was $8,627,357 or 11.31% of total assets, core capital was $8,627,357
or 11.31% of total assets and risk based capital was $8,956,360 or 22.50% of
total risk-weighted assets, as defined by FIRREA.
The Bank at September 30, 1996, met the regulatory capital requirements
as defined by FIRREA. At September 30, 1996, the Bank's regulatory tangible
capital was $7,894,856 or 10.31 percent of total assets, core capital was
$7,894,856 or 10.31 percent of total assets, and risk-based capital was
$8,158,859 or 20.41 percent of total risk-weighted assets, as defined by
FIRREA.
A reconciliation of GAAP capital to regulatory capital is shown below:
<TABLE>
<CAPTION>
Unaudited
Regulatory
----------------------------------
GAAP Tangible Core Risk-Based
Capital Capital Capital Capital
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
1997 GAAP Capital $8,627,357 $8,627,357 $8,627,357 $8,627,357
- ----------------- ==========
Additional Capital Items:
General valuation allowances less
assets required to be deducted - - 329,003
---------- ---------- ----------
Regulatory Capital - Computed 8,627,357 8,627,357 8,956,360
- -----------------------------
Minimum Capital Requirements 1,144,223 2,288,445 3,183,840
---------- ---------- ----------
Regulatory Capital - Excess $7,483,134 $6,338,912 $5,772,520
========== ========== ==========
</TABLE>
(continued)
34
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
17. Financial Institutions Reform, Recovery and Enforcement Act ("FIRREA") of
-------------------------------------------------------------------------
1989 (Continued)
----
<TABLE>
<CAPTION>
Unaudited
Regulatory
----------------------------------
GAAP Tangible Core Risk-Based
Capital Capital Capital Capital
---------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
1996 GAAP Capital $7,836,056 $7,836,056 $7,836,056 $7,836,056
- ------------------ ==========
Additional Capital Items:
General valuation allowances less
assets required to be deducted - - 264,003
Unrealized losses on available-for-
sale securities 58,800 58,800 58,800
---------- ---------- ----------
Regulatory Capital - Computed 7,894,856 7,894,856 8,158,859
- -----------------------------
Minimum Capital Requirements 1,149,320 2,298,640 3,197,609
---------- ---------- ----------
Regulatory Capital - Excess $6,745,536 $5,596,216 $4,961,250
========== ========== ==========
</TABLE>
18. Deposits
--------
Savings accounts are segregated by original maturity date and interest
rate as follows:
<TABLE>
<CAPTION>
Weighted
Average
Rate at December 31, September 30,
12-31-97 1 9 9 7 1 9 9 6
------------- ------------ -------------
<S> <C> <C> <C>
Passbook Accounts
- -------------------------------------
3.50% at December 31, 1997 3.50% $3,665,891 $3,711,419
---------- ----------
Total Passbook Accounts 3,665,891 3,711,419
---------- ----------
</TABLE>
(continued)
35
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
18. Deposits (Continued)
--------
<TABLE>
<CAPTION>
Weighted
Average
Rate at December 31, September 30,
12-31-97 1 9 9 7 1 9 9 6
------------ ------------ ------------
<S> <C> <C> <C>
Certificate Accounts
- -------------------------------------------
6 months or less
5.50% to 5.825% at December 31, 1997
4.875% to 5.125% at September 30, 1996 5.58 $ 2,969,281 $ 3,084,513
6 months to 12 months
5.50% to 6.125% at December 31, 1997
5.00% to 6.125% at September 30, 1996 5.98 25,199,894 20,442,302
Over 1 year to 3 years
5.25% to 7.0% at December 31, 1997
4.875% to 7.1% at September 30, 1996 5.98 25,489,065 24,845,975
More than 3 years
5.25% to 7.25% at December 31, 1997
5.5% to 7.25% at September 30, 1996 6.31 7,621,475 9,167,806
----------- -----------
Total Certificate Accounts 61,279,715 57,540,596
----------- -----------
Demand Deposit Accounts
- -------------------------------------------
0% to 3.9% 2.16 441,355 -
----------- -----------
Total Deposits $65,386,961 $61,252,015
=========== ===========
</TABLE>
(continued)
36
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
18. Deposits (Continued)
--------
At December 31, 1997, and September 30, 1996, contractual maturities of
certificate accounts within each interest range are as follows:
<TABLE>
<CAPTION>
December 31, 1997:
- --------------------
Amount Due
-----------------------------------------------
Two After
Less Than One to to Three Three
Rate One Year Two Years Years Years Total
- -------------------- ----------- ---------- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C>
4 to 5.99% $29,140,951 $7,188,583 $1,397,694 $ 712,151 $38,439,379
6 to 7.99% 17,828,667 2,740,929 1,531,657 739,083 22,840,336
8% and above - - - - -
----------- ---------- ---------- ---------- -----------
$46,969,618 $9,929,512 $2,929,351 $1,451,234 $61,279,715
=========== ========== ========== ========== ===========
September 30, 1996:
- -------------------
Amount Due
------------------------------------------------
Two After
Less Than One to to Three Three
Rate One Year Two Years Years Years Total
- -------------------- ----------- ----------- ---------- ---------- -----------
4 to 5.99% $28,411,060 $12,399,150 $2,125,800 $ 486,931 $43,422,941
6 to 7.99% 5,883,933 5,106,879 825,635 2,301,208 14,117,655
8% and above - - - - -
----------- ----------- ---------- ---------- -----------
$34,294,993 $17,506,029 $2,951,435 $2,788,139 $57,540,596
=========== =========== ========== ========== ===========
</TABLE>
Certificate accounts with balances equal to or exceeding $100,000 were
approximately $12,907,000 and $5,519,000 at December 31, 1997, and September
30, 1996, respectively.
19. Mortgage Note Payable
---------------------
Mortgage note payable represents a note payable $477.82 monthly, with
interest at 8%, amortized over 15 years. The note is secured by a mortgage
on property which is part of the office building. Principal amounts due over
the next five fiscal years are shown on the following page.
(continued)
37
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
19. Mortgage Note Payable (Continued)
---------------------
<TABLE>
<CAPTION>
September 30, Amount
------------- -------
<S> <C>
1998 $ 2,940
1999 3,186
2000 3,450
2001 3,736
2002 4,047
Thereafter 18,875
-------
$36,234
=======
</TABLE>
20. Accrued Interest and Dividends Receivable
-----------------------------------------
Accrued interest and dividends receivable consisted of the following at
December 31, 1997, and September 30, 1996:
<TABLE>
<CAPTION>
1 9 9 7 1 9 9 6
-------- --------
<S> <C> <C>
Accrued interest on loans $332,805 $353,737
Accrued interest on investments 10,208 58,563
Accrued dividends on Federal Home Loan Bank Stock 11,243 9,000
-------- --------
$354,256 $421,300
======== ========
</TABLE>
21. Stock Conversion
----------------
On March 31, 1995, Security Bank (the "Bank"), formerly known as Security
Federal Bank, a Federal Savings Bank, completed its conversion from mutual to
stock form. Security Federal Bancorp, Inc. (the "Company"), a Delaware
corporation, was formed to act as the holding company of the Bank. On the
date of conversion, the Company completed the sale of 671,469 shares of
common stock, $.0l par value per share, to depositors at $10.00 per share.
Net proceeds from the above transactions, after deducting offering expenses,
were $6.15 million.
(continued)
38
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
22. Director's Retirement Plan
--------------------------
In conjunction with the plan of conversion, the Bank adopted a director's
retirement plan for the employee and non-employee directors. Following
termination of service on the Board, each director would receive monthly
benefits for a ten year period in an amount equal to the product of his or
her benefit percentage, his or her vested percentage and $700. The benefit
percentage is based on overall years of service on the Board, and increases
in increments of 33-1/3% from 0% for less than five years of service, to 33-
1/3% for five to nine years of service, to 66-2/3% for ten to fourteen years
of service and to 100% for fifteen or more years of service. The vested
percentage equals 33-1/3% if the participant serves on the Board for one year
following the date of conversion, increases to 66-2/3% if the participant
completes a second year of service following the date of conversion, and
becomes 100% if the participant completes a third year of service following
the date of conversion. In the event a participant dies before beginning to
collect any benefits under the plan, the vested percentage becomes 100% and
the participant is due 100% of the present value of benefits otherwise
payable. In the event of a change of control of the Bank or the failure of a
director to be re-elected after being nominated to the Board, the vested
percentage becomes 100%. At December 31, 1997, and September 30, 1996, the
Bank had accrued $257,890 and $266,640, respectively, of benefits payable
under the director's retirement plan. Included in the $266,640 at September
30, 1996, is approximately $129,300 for accrued benefits payable due to the
death of two participants.
23. Other Benefit Plans
-------------------
The Board of Directors of the Company, at a special stockholders' meeting
held November 20, 1995, approved the adoption of an employee stock ownership
plan, a management recognition plan, and a stock option and incentive plan.
Under the employee stock ownership plan, a trust will be established to
purchase, on the open market, a number of shares of stock equal to 8% of the
Company's common stock issued in the conversion. The Company will loan the
trust an amount sufficient to allow it to purchase the shares. Generally,
all employees completing one year of service and having attained age 21 will
be eligible to participate in the plan. An amount sufficient to repay the
loan over a ten year period will be paid to the trust and expensed by the
Company. Vesting occurs at the end of the five years of service and
accelerates to 100% upon death, disability or attainment of age 65. At
December 31, 1997, the plan was unfunded.
(continued)
39
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
23. Other Benefit Plans (Continued)
-------------------
The management recognition plan provides for the purchase of outstanding
shares of Company common stock equal to 4% of the shares issued in the
conversion. Non-employee and employee directors are entitled to plan share
awards as of the plan's effective date totaling 10,743 shares. In the year
ended December 31, 1997, 269 additional plan share awards were granted upon
the appointment of a new director. Future awards will be made by a committee
consisting of three non-employee directors. Vesting will occur at the rate
of 20% per year over five years and accelerates to 100% upon a participant's
death or disability.
For the year ended December 31, 1997, the three months ended December 31,
1996, and the year ended September 30, 1996, the amount expensed in
accordance with the plan was $22,633, $22,701, and $34,306, respectively.
During the quarter ended March 31, 1996, purchases totaling $354,690 were
made on the open market of the holding company stock to be used for plan
share awards under the management recognition plan. These purchases will be
used to pay out plan share awards as participants vest. A total of $101,360
of the total purchase was paid out in the year ended December 31, 1997, for
5,792 vested shares. The cost of the remaining shares at December 31, 1997,
is $253,330.
The stock option and incentive plan provides for the issuance of new
shares of Company common stock equal to 10% of the share issued in the
conversion. At the plan's effective date, the non-employee and employee
directors were granted options at an option price of $13.75, on 26,881
shares. The options are exercisable at the rate of 20% per year following
the date of the grant and have a term of ten years. The options become
immediately exercisable upon death or disability. The plan also contains
provisions for expiration of the options following termination of services.
On November 17, 1997, the Board of Directors approved an amendment to the
plan that was required by the Plan document. This amendment ensures that the
options have the same economic value after the 1996 return of capital as they
did before the distribution was paid to the stockholders on December 27,
1996. The amendment changed the option price to $11.579 and increased the
total granted options to 31,919.
(continued)
40
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
23. Other Benefit Plans (Continued)
-------------------
Stock option activity since inception is summarized below:
<TABLE>
<CAPTION>
Weighted
Number of Average
Shares Exercise Price
--------- --------------
<S> <C> <C>
Balance, October 1, 1995 - -
---------
Granted 26,881 13.75
---------
Outstanding, September 30, 1996 26,881 13.75*
Granted 1,342 18.00
Exercised (7,407) 11.579
Adjustment of options discussed above 5,062 11.579
Forfeited/canceled - -
---------
Outstanding, December 31, 1997 25,878 11.912
=========
</TABLE>
*See above discussion of subsequent adjustment of exercise price to
reflect return of capital.
In October, 1995, the FASB issued Statement of Financial Accounting
Standards No. 123, "Accounting and Disclosure of Stock-Based Compensation"
(SFAS 123). SFAS 123 is effective for fiscal years beginning after December
15, 1995, and allows for the option of continuing to follow Accounting
Principles Board Opinion No. 25 (APB 25), "Accounting for Stock Issued to
Employees," and the related Interpretations or selecting the fair value
method of expense recognition as described in SFAS 123. The Company has
elected to follow APB 25 in accounting for its employee stock options. Pro
forma net income and net income per share data as required by SFAS 123 as if
the fair value method had been applied in measuring compensation costs is
presented below for the periods ended:
<TABLE>
<CAPTION>
12/31/97 12/31/96 9/30/96
--------- --------- --------
<S> <C> <C> <C>
Pro forma net income $ 775,593 $ 202,349 $363,855
Pro forma net income per share $ 1.15 $ .30 $ .54
</TABLE>
(continued)
41
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
23. Other Benefit Plans (Continued)
-------------------
The options outstanding have a weighted average contractual life of 8.1
years. The weighted average fair value of options granted was $3.11 in 1997
and $1.82 in 1996. The fair value of each grant is estimated on the date of
grant using the Black-Scholes option-pricing model with the following
assumptions used for grants in 1997 and 1996: expected dividend yield of
4.36%; expected option life of 2.5-7 years; expected volatility of 18.72%;
and a risk-free interest rate of 5.7%.
Under APB 25, because the exercise price of the Company's employee stock
options equals the market price of the underlying stock on the date of grant,
no compensation expense is recognized.
The effects of applying SFAS 123 in providing pro forma disclosures are
not likely to be representative of the effects on reported net income for
future years.
24. Security Federal Bancorp, Inc., - Holding Company Only Financial
----------------------------------------------------------------
Information
-----------
The condensed statement on the following page summarizes the financial
position, operating results and cash flows of Security Federal Bancorp, Inc.
(parent company only) for the years ended December 31, 1997, and September
30, 1996.
Condensed Statement of Financial Condition
------------------------------------------
ASSETS
------
<TABLE>
1 9 9 7 1 9 9 6
---------- ----------
<S> <C> <C>
Certificate of deposit with Security Bank $ 449,361 $2,846,824
Investment in subsidiary 4,622,703 3,615,152
Other assets 21,557 -
---------- ----------
Total Assets $5,093,621 $6,461,976
========== ==========
</TABLE>
(continued)
42
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
24. Security Federal Bancorp, Inc., - Holding Company Only Financial
----------------------------------------------------------------
Information (Continued)
-----------
<TABLE>
<CAPTION>
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
1 9 9 7 1 9 9 6
---------- ----------
<S> <C> <C>
Accounts payable $ 8,595 $ 38,787
Income taxes payable - 21,848
---------- ----------
Total Liabilities 8,595 60,635
Stockholders' equity 5,085,026 6,401,341
---------- ----------
Total Liabilities and Stockholders'
Equity $5,093,621 $6,461,976
========== ==========
</TABLE>
<TABLE>
<CAPTION>
Condensed Statement of Income
- -----------------------------
Three Months
Ended
1 9 9 7 1 9 9 6 12/31/96
--------- --------- ---------
<S> <C> <C> <C>
Interest income $ 42,620 $ 215,299 $ 49,607
Other operating expenses (58,293) (125,611) (23,862)
--------- --------- ---------
Net income (loss) before income taxes
and equity in undistributed net
income of subsidiary (15,673) 89,688 25,745
Applicable income (taxes) benefit 7,357 (66,842) (9,773)
--------- --------- ---------
Net income (loss) before equity in
undistributed net income of subsidiary (8,316) 22,846 15,972
Equity in undistributed income of subsidiary 795,688 206,715 211,863
--------- --------- ---------
Net income $ 787,372 $ 229,561 $ 227,835
========= ========= =========
</TABLE>
(continued)
43
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
24. Security Federal Bancorp, Inc., - Holding Company Only Financial
----------------------------------------------------------------
Information (Continued)
-----------
<TABLE>
<CAPTION>
Condensed Statement of Cash Flows
- ---------------------------------
Three Months
Ended
1 9 9 7 1 9 9 6 12/31/96
--------- --------- -----------
<S> <C> <C> <C>
Operating Activities:
Net income $ 787,372 $ 229,561 $ 227,835
Adjustments to reconcile net
income to cash
provided by operating activities:
Equity in undistributed net income
of subsidiary (795,688) (206,715) (211,863)
Increase (decrease) in accounts payable
and income taxes payable (46,383) 60,635 (13,014)
Other adjustments (14,200) (4,770) -
--------- --------- -----------
Net Cash Provided by (Used in)
Operating Activities (68,899) 78,711 2,958
--------- --------- -----------
Investing Activities:
Investment in certificate of deposit with
Security Bank 386,014 323,646 2,011,449
Investment in subsidiary - - -
------- --------- -----------
Net Cash Provided by Investing
Activities 386,014 323,646 2,011,449
------- --------- -----------
Financing Activities:
Cash dividends/return of capital (402,881) (402,881) (2,014,407)
Proceeds from exercise of stock options 85,766 - -
------- --------- -----------
Net Cash (Used in)
Financing Activities (317,115) (402,881) (2,014,407)
------- --------- -----------
Net (Decrease) in Cash - (524) -
Cash, Beginning of Year - 524 -
------- --------- -----------
Cash, End of Year $ - $ - $ -
======= ========= ===========
</TABLE>
(continued)
44
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
25. Deposit Agreement
-----------------
The Bank's deposits are insured by the Savings Association Insurance Fund
(SAIF), which is insured by the Federal Deposit Insurance Corporation. On
September 30, 1996, legislation was enacted containing provisions to
recapitalize the SAIF by charging a one time assessment of 65.7 basis points
on all SAIF-insured deposits as of March 31, 1995. This special assessment
was accrued at September 30, 1996, and resulted in a pre-tax charge of
$381,113 to income from operations. This assessment will fully capitalize
the SAIF and will equalize the disparity between premiums paid by those
institutions covered under the SAIF and those covered under the Bank
Insurance Fund. The assessment will effectively reduce future SAIF premiums,
thereby increasing net income for future periods.
26. Prior Period Adjustment
-----------------------
The deferred tax effect of the allowance for loan losses of $330,000 was
not recognized in the year ended September 30, 1995. This resulted in the
following restatement of retained earnings and the deferred liability as of
September 30, 1995, as shown below:
<TABLE>
<CAPTION>
Deferred
Retained Tax Asset
Earnings (Liability)
---------- -----------
<S> <C> <C>
As originally reported, September 30, 1995 $4,581,583 ($55,893)
Unrecorded deferred tax asset 121,111 121,111
---------- ---------
As adjusted $4,702,694 $ 65,218
========== =========
</TABLE>
27. Reclassification
----------------
Under the Bank's Management Recognition Plan, the Bank purchased shares
of stock on the open market to hold in trust for the Plan's participants. The
cost of these shares, $354,690, at December 31, 1996, was originally reported
in other assets. In 1997, the cost of the shares acquired by the trust has
been shown as a part of stockholder's equity.
(continued)
45
<PAGE>
SECURITY FEDERAL BANCORP, INC., AND SUBSIDIARY
Tuscaloosa, Alabama
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
December 31, 1997
28. Mortgage Servicing Rights
-------------------------
The cost of acquiring the rights to service mortgage loans is capitalized
and amortized in proportion to, and over the period of, estimated servicing
income. During the year ended December 31, 1997, $260,842 of such cost were
capitalized and the amount of amortization was $29,606. During the three
months ended December 31, 1996, (the first quarter after adoption of SFAS
122), $105,818 of such costs were capitalized, and the amount of amortization
was $913.
For measuring impairment, mortgage servicing rights are stratified based
on one or more of the predominant risk characteristics of the underlying
loans. Such characteristics include loan type, loan size, interest rate,
date of origination, loan term, and geographic region.
At December 31, 1997, the aggregate fair value of mortgage servicing
rights approximates their unamortized cost. Fair value is based on
fundamental analysis and the present value of expected future cash inflows.
In estimating fair value, assumptions were made regarding prepayment,
default, and interest rates.
See Independent Auditor's Report.
46
<PAGE>
EXHIBIT 23.1
[LETTERHEAD OF JAMISON, MONEY, FARMER & CO., P.C. APPEARS HERE]
March 19, 1998
Board of Directors
Security Federal Bancorp, Inc.
2301 University Boulevard
Tuscaloosa, AL 35401
We consent to incorporation by reference in Registration Statement
Nos. 33-99732 and 33-98680 of Security Federal Bancorp, Inc., of our report
dated February 4, 1998, relating to the consolidated statement of financial
condition of Security Federal Bancorp, Inc., and Subsidiary, as of December 31,
1997 and September 30, 1996, and the related consolidated statements of income,
changes in stockholders' equity and cash flows for the years then ended, which
appears in the 1997 Annual Report to the Stockholders of Security Federal
Bancorp, Inc., which is filed as an exhibit to and incorporated by reference in
this annual report on Form 10-KSB.
/s/ Jamison, Money, Farmer & Co., P.C.
JAMISON, MONEY, FARMER & CO., P.C.
Tuscaloosa, Alabama
<PAGE>
EXHIBIT 23.2
[LETTERHEAD OF MORRISON & SMITH, LLP APPEARS HERE]
March 19, 1998
Board of Directors
Security Federal Bancorp, Inc.
2301 University Boulevard
Tuscaloosa, AL 35401
We consent to incorporation by reference in registration statement
Nos. 33-98680 and 33-99732 of Security Federal Bancorp, Inc., of our report
dated November 14, 1995, relating to the consolidated statements of financial
condition of Security Federal Bancorp, Inc., and Subsidiary, as of September 30,
1995, and the related consolidated statements of income, changes in
stockholders' equity and cash flows for the year ended September 30, 1995, which
appears in the 1997 Annual Report to the Stockholders' of Security Federal
Bancorp, Inc., which is incorporated by reference in this annual report on
Form 10-KSB.
/s/ Morrison and Smith
MORRISON & SMITH, LLP
Certified Public Accountants
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> DEC-31-1997
<CASH> 929,082
<INT-BEARING-DEPOSITS> 3,004,040
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 3,076,996
<INVESTMENTS-CARRYING> 0
<INVESTMENTS-MARKET> 0
<LOANS> 66,821,773
<ALLOWANCE> 330,003
<TOTAL-ASSETS> 76,295,708
<DEPOSITS> 65,386,961
<SHORT-TERM> 0
<LIABILITIES-OTHER> 1,197,835
<LONG-TERM> 621,233
0
0
<COMMON> 6,789
<OTHER-SE> 9,082,890
<TOTAL-LIABILITIES-AND-EQUITY> 76,295,708
<INTEREST-LOAN> 5,900,026
<INTEREST-INVEST> 350,856
<INTEREST-OTHER> 0
<INTEREST-TOTAL> 6,250,882
<INTEREST-DEPOSIT> 3,694,957
<INTEREST-EXPENSE> 3,748,608
<INTEREST-INCOME-NET> 2,502,274
<LOAN-LOSSES> 0
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 1,566,162
<INCOME-PRETAX> 1,253,718
<INCOME-PRE-EXTRAORDINARY> 1,253,178
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 787,373
<EPS-PRIMARY> 1.17
<EPS-DILUTED> 1.17
<YIELD-ACTUAL> 3.42
<LOANS-NON> 279,392
<LOANS-PAST> 0
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 600,105
<ALLOWANCE-OPEN> 330,003
<CHARGE-OFFS> 0
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 330,003
<ALLOWANCE-DOMESTIC> 330,003
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
