<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-------------
(Mark One) FORM 10-K
[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 [FEE REQUIRED]
For the fiscal year ended June 30, 1997
[_] TRANSITIONAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from ___________ to __________
Commission File No. 0-26360
FRANKFORT FIRST BANCORP, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 61-1271129
- ------------------------------- -------------------
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification no.)
216 W. Main Street, Frankfort, Kentucky 40602
- ---------------------------------------- -------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (502) 223-1638
Securities registered pursuant to Section 12(b) of the Act:
Not Applicable
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-K or any amendment to this
Form 10-K. [_]
As of September 30, 1997, the aggregate market value of the 2,231,817 shares of
Common Stock of the registrant issued and outstanding held by non-affiliates on
such date was approximately $22.9 million based on the closing sales price of
$10.25 per share of the registrant's Common Stock on September 15, 1997 as
reported on the National Association of Securities Dealers Automated Quotation
National Market. For purposes of this calculation, it is assumed that directors,
officers and beneficial owners of more than 5% of the registrant's outstanding
voting stock are affiliates.
Number of shares of Common Stock outstanding as of September 30, 1997: 3,279,952
DOCUMENTS INCORPORATED BY REFERENCE
The following lists the documents incorporated by reference and the Part of the
Form 10-K into which the document is incorporated:
1. Portions of Annual Report to Stockholders for the Fiscal Year Ended June
30, 1997. (Parts I and II)
2. Portions of Proxy Statement for the 1997 Annual Meeting of Stockholders.
(Part III)
<PAGE>
PART I
Item 1. Business
- -----------------
General
The Company. Frankfort First Bancorp, Inc. (the "Company") was
incorporated under the laws of the State of Delaware in August 1994 at the
direction of the Board of Directors of First Federal Savings Bank of Frankfort
("First Federal" or the "Bank") for the purpose of serving as a savings
institution holding company of First Federal upon the acquisition of all of the
capital stock issued by First Federal upon its conversion from mutual to stock
form (the "Conversion"). The Conversion was completed July 7, 1995, with the
Company issuing 3,450,000 shares of its common stock, par value $.01 per share
(the "Common Stock") to the public, and the Bank issuing all of its issued and
outstanding common stock to the Company. Prior to and since the Conversion, the
Company had not engaged in any material operations. The Company has no
significant assets other than the outstanding capital stock of First Federal.
The Company's principal business is the business of First Federal. At June 30,
1997, the Company had total assets of $132.0 million, deposits of $86.0 million
and shareholder's equity of $22.3 million.
The Bank. First Federal was originally chartered in 1934 as a
Kentucky-chartered building and loan association known as "Greater Frankfort
Building and Loan Association" and was rechartered in 1938 as First Federal
Savings and Loan Association of Frankfort. First Federal has been a member of
the Federal Home Loan Bank ("FHLB") of Cincinnati and its deposits have been
federally insured since 1938. In 1989, First Federal became a federal mutual
savings bank and adopted its current name. First Federal currently operates
through three banking offices located in Frankfort, Kentucky.
First Federal is primarily engaged in the business of attracting
deposits from the general public and originating loans secured by first
mortgages on one- to four-family residences in First Federal's market area.
First Federal also originates, to a lesser extent, church loans, home equity
loans and other loans.
As a federally chartered savings institution, First Federal is subject
to extensive regulation by the OTS. The lending activities and other investments
of First Federal must comply with various federal regulatory requirements, and
the OTS periodically examines First Federal for compliance with various
regulatory requirements. The FDIC also has the authority to conduct special
examinations. First Federal must file reports with the OTS describing its
activities and financial condition and is also subject to certain reserve
requirements promulgated by the Federal Reserve Board. For additional
information, see " -- Regulation of the Bank."
Both the Company's and First Federal's executive offices are located at
216 W. Main Street, Frankfort, Kentucky 40602, and their main telephone number
is (502) 223-1638.
Recent Developments
Restructuring Plan. In June 1997, the Company's Board of Directors
approved a plan designed to improve the Company's profitability through a series
of actions that included a special cash distribution of $4.00 per share,
termination of the Company's employee stock ownership plan ("ESOP") and
management recognition plan ("MRP") and a one-for-two reverse stock split. To
compensate plan participants for the termination of the ESOP and MRP as well as
the cancellation of all unvested awards under the MRP, the Company paid plan
participants one-time cash bonuses totaling approximately $915,000. A similar
amount held by the MRP trust was returned to the Company. The special cash
distribution of $4.00 was paid on June 24, 1997. The reverse stock split is
subject to stockholder approval at the Company's 1997 Annual Meeting of
Stockholders. For further information regarding the restructuring plan,
including the associated nonrecurring expenses recognized during the fourth
quarter of fiscal year 1997, see "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Benefit Plan Restructuring"
2
<PAGE>
in the Company's 1997 Annual Report to Stockholders (the "Annual Report")
attached as Exhibit 13 hereto and incorporated herein by reference.
Lending Activities
General. First Federal's principal lending activity consists of the
origination of loans secured by first mortgages on owner occupied one- to
four-family residences in the Bank's lending area, which is limited to the
Kentucky Counties of Franklin, Anderson, Scott, Shelby and Woodford. First
Federal formerly made loans secured by property in Owen and Henry Counties, but
has since discontinued such lending unless the loan-to-value ratio of the loan
is 50% or less. First Federal also originates loans secured by nonowner occupied
one- to four-family homes, loans secured by churches, home equity lines of
credit, second mortgages and share loans. Additionally, First Federal offers
financing for the construction of single family, owner occupied homes in
Franklin County. Such financing is available only for, and made directly to, the
homeowners.
Beginning in the early 1980s management of the Bank has sought to build
a rate sensitive loan portfolio and to manage First Federal's interest rate risk
by emphasizing the origination of adjustable rate mortgage loans with an initial
fixed term of one, three or five years. The Bank also offers fixed-rate
financing, but generally funds all or part of such loans with long-term,
fixed-rate advances from the FHLB of Cincinnati.
3
<PAGE>
Loan Portfolio Composition. The following table sets forth selected
data relating to the composition of First Federal's loan portfolio by type of
loan at the dates indicated. At June 30, 1997, First Federal had no
concentrations of loans exceeding 10% of total loans that are not otherwise
disclosed below.
<TABLE>
<CAPTION>
At June 30,
----------------------------------------------------------------
1997 1996 1995
----------------- ----------------- -----------------
Amount % Amount % Amount %
------ ------ ------ ------ ------ ------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Type of Loan:
- ------------
Real estate loans --
Construction loans........................ $ 1,060 0.87% $ 672 .6% $ 270 .3%
One- to four-family residential........... 113,549 93.14 103,944 93.7 94,816 94.0
Multi-family residential.................. 58 0.05 123 .1 134 .1
Other loans (1)........................... 1,830 1.50 1,450 1.3 1,549 1.6
Consumer loans --
Savings account loans..................... 672 0.55 547 .5 618 .6
Home equity lines of credit............... 4,742 3.89 4,182 3.8 3,449 3.4
--------- -------- ---------- ------ ---------- ------
121,911 100.00% 110,918 100.00% 100,836 100.00%
====== ====== ======
Less:
Loans in process.......................... 824 392 123
Discounts, deferred loan fees
and other............................... 99 100 28
Loan loss reserve......................... 100 95 83
--------- ---------- ----------
Total.................................. $ 120,888 $ 110,331 $ 100,602
========= ========== ==========
<CAPTION>
At June 30,
--------------------------------------
1994 1993
----------------- --------------
Amount % Amount %
------ ------ ------ -----
(Dollars in thousands)
<S> <C> <C> <C> <C>
Type of Loan:
- ------------
Real estate loans --
Construction loans........................ $ 568 .6% $ 45 .1%
One- to four-family residential........... 92,861 94.0 87,450 94.1
Multi-family residential.................. 148 .2 342 .3
Other loans (1)........................... 1,580 1.6 1,322 1.4
Consumer loans --
Savings account loans..................... 584 .6 635 .7
Home equity lines of credit............... 3,044 3.0 3,161 3.4
---------- ------ --------- ------
98,785 100.00% 92,955 100.00%
====== ======
Less:
Loans in process.......................... 448 --
Discounts, deferred loan fees
and other............................... 38 57
Loan loss reserve......................... 71 59
---------- ---------
Total.................................. $ 98,228 $ 92,839
========== =========
</TABLE>
- -----------
(1) Represents primarily church loans.
4
<PAGE>
The following table sets forth certain information at June 30, 1997
regarding the dollar amount of loans maturing in the Bank's portfolio based on
their contractual terms to maturity. 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>
Due after
Due during the year ending 3 through
June 30, 5 years after
-------------------------------- June 30,
1998 1999 2000 1997
-------- -------- --------- ----------
(In thousands)
<S> <C> <C> <C> <C>
Real estate loans:
Construction loans.................... $ 1,060 $ -- $ -- $ --
One- to four-family................... 3,898 4,001 4,164 8,821
Multi-family residential.............. 9 9 10 23
Other loans............................. 119 131 127 269
Consumer loans:
Savings account loans................. 672 -- -- --
Home equity lines of credit........... 28 143 240 798
-------- -------- --------- ----------
Total............................... $ 5,786 $ 4,284 $ 4,541 $ 9,911
======== ======== ========= ==========
<CAPTION>
Due after Due after
5 through 10 through Due after 15
10 years after 15 years after years after
June 30, June 30, June 30,
1997 1997 1997 Total
----------- ------------- ------------- -------
(In thousands)
<S> <C> <C> <C> <C>
Real estate loans:
Construction loans.................... $ -- $ -- $ -- $ 1,060
One- to four-family................... 25,549 27,053 40,063 113,549
Multi-family residential.............. 7 -- -- 58
Other loans............................. 459 413 312 1,830
Consumer loans:
Savings account loans................. -- -- -- 672
Home equity lines of credit........... 3,533 -- -- 4,742
---------- ---------- ---------- ---------
Total............................... $ 29,548 $ 27,466 $ 40,375 $ 121,911
========== ========== ========== =========
</TABLE>
The following table sets forth at June 30, 1997, the dollar amount of
all loans due more than one year after June 30, 1997 which have predetermined
interest rates and have floating or adjustable interest rates.
<TABLE>
<CAPTION>
Predetermined Floating or
Rate Adjustable Rates
------------- ----------------
(In thousands)
<S> <C> <C>
Real estate loans:
One- to four-family residential.................. $ 16,212 $ 93,439
Multi-family residential......................... -- 49
Other loans...................................... 689 1,022
Consumer loans:
Home equity lines of credit...................... -- --
Savings account loans............................ -- 4,714
----------- -----------
Total......................................... $ 16,901 $ 99,224
=========== ===========
</TABLE>
5
<PAGE>
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. 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.
Originations of Loans. The following table sets forth certain
information with respect to First Federal's loan originations during the periods
indicated.
<TABLE>
<CAPTION>
Year Ended June 30,
-------------------------------------------
1997 1996 1995
------ ------ -----
(In thousands)
<S> <C> <C> <C>
Originations
Real estate loans:
One- to four-family........................................ $ 27,878 $ 27,903 $ 15,655
Multi-family............................................... -- -- --
Other...................................................... 575 190 163
Construction loans......................................... 1,604 915 1,109
Consumer loans:
Home equity line of credit................................. 2,899 2,844 2,619
Savings account loans...................................... 524 361 497
--------- --------- ---------
Total..................................................... $ 33,480 $ 32,213 $ 20,043
========= ========= =========
</TABLE>
The Bank has not in recent years purchased or sold any loans. The Bank
does not expect to make any purchases or sales of loans in the foreseeable
future.
One- to Four-Family Residential Lending and Second Mortgage Loans. The
Bank historically has been and continues to be an originator of loans secured by
owner occupied, one- to four-family residential properties located in its market
area. At June 30, 1997, approximately $113.5 million, or 93.1% of the Bank's
loan portfolio consisted of loans secured by one- to four-family residential
properties which were primarily owner-occupied, single family residences.
First Federal began originating adjustable rate residential mortgage
loans in the early 1980s. Since that time, most one- to four-family mortgage
loans originated by the Bank have been adjustable rate loans with an initial
fixed term of one, three, or five years. After the initial term, the rate
adjustments on the Bank's adjustable rate loans are indexed to the National
Average Contract Interest Rate for Major Lenders on the Purchase of Previously
Occupied Homes ("NACR"). The interest rates on these mortgages are adjusted once
a year, with limitations on adjustments of one percentage point per adjustment
period, and a lifetime cap of five percentage points.
At June 30, 1997, the Bank's loan portfolio included $96.6 million in
adjustable rate one- to four-family residential mortgage loans, or 79.3% of the
Bank's loan portfolio.
The retention of adjustable rate loans in First Federal's portfolio
helps reduce First Federal's exposure to increases in prevailing market interest
rates. However, there are unquantifiable credit risks resulting from potential
increases in costs to borrowers in the event of upward repricing of adjustable
rate loans. It is possible that during periods of rising interest rates, the
risk of default on adjustable rate loans may increase due to increases in
interest costs to borrowers. Further, although adjustable rate loans allow First
Federal to increase the sensitivity of its interest-earning assets to changes in
interest rates, the extent of this interest sensitivity is limited by the
initial fixed rate period before the first adjustment and the periodic and
lifetime interest rate adjustment limitations. Accordingly, there can be no
assurance that yields on First Federal's adjustable rate loans will fully adjust
to compensate for increases in First
6
<PAGE>
Federal's cost of funds. Finally, adjustable rate loans increase First Federal's
exposure to decreases in prevailing market interest rates, although decreases in
First Federal's cost of funds tend to offset this effect.
In general, First Federal originates residential mortgage loans with
loan-to-value ratios of up to 90%, with private mortgage insurance required for
loans with loan-to-value ratios greater than 80%. The Bank offers a low down
payment program for the purchase of single-family owner occupied homes with
loan-to-value ratios of up to 95%. These loans, however, are limited to
properties located in Franklin County and to homes with sales prices of $100,000
or less.
The Bank also originates second mortgage loans if the Bank holds the
first mortgage on the property. Although these loans are secured by a lien on
the borrower's primary residence, they differ from the Bank's traditional first
mortgage loans in that the terms of these loans are substantially shorter than
25 years (generally 120 months or less). All of such loans are underwritten to a
maximum of 80% loan to value ratio and all are fully amortizing.
Church and Other Nonresidential Real Estate Lending. First Federal has
also been active in originating loans secured by churches located in the Bank's
primary market area. These loans have loan-to-value ratios of 75%, and are
originated under the same terms as the Bank's one-to-four family real estate
mortgage loans. At June 30, 1997, the Bank had 16 church loans aggregating
approximately $1.8 million. In the past the Bank offered small commercial loans
secured by property located in its market area. The Bank has been inactive in
this type of lending in recent years.
Construction Lending. The Bank offers single family residential
construction loans to qualified borrowers for construction of single-family
owner occupied residences in Franklin County. At June 30, 1997, single-family
residential construction loans constituted $1.1 million, or 0.9%, of First
Federal's total loans. First Federal limits its construction lending to loans to
individuals building their primary residences. These loans generally have rates
that are fixed for six months and are underwritten in accordance with the same
standards as First Federal's mortgages on existing properties, 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. Construction loans
have a maximum loan-to-value ratio of 80%. Borrowers must satisfy all credit
requirements which would apply to First Federal's permanent mortgage loan
financing for the subject property. The Bank's construction loans may be
refinanced into permanent loans upon completion of the construction.
Construction financing 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 and the estimated
cost (including interest) thereof. 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, First Federal may be required to
advance funds beyond the amount originally committed to permit completion of the
project. If the estimate of value proves to be inaccurate, First Federal 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. First Federal has sought
to minimize this risk by limiting construction lending to qualified borrowers in
Franklin County and by limiting the number of outstanding construction loans.
Consumer Lending. The consumer loans originated by the Bank include
home equity lines of credit, and loans secured by savings deposits.
At June 30, 1997, the Bank's consumer loan balance totaled $5.4
million, or 4.4% of its total loan portfolio. Of the consumer loan balance at
June 30, 1997, 87.6% were home equity loans and 12.4% were loans secured by
savings deposits at the Bank.
The Bank's home equity loans are made on the security of residential
real estate which have terms of up to 10 years. Most of the Bank's home equity
loans do not exceed 80% of the estimated value of the property, less the
outstanding principal of the first mortgage. The Bank does offer home equity
loans up to 90% of the value, less the
7
<PAGE>
balance of the first mortgage. The amount of the principal of the loan above 80%
of the estimated value of the property is not insured by private mortgage
insurance. The Bank's home equity loans require the monthly payment of 2% of the
unpaid principal until maturity, when the remaining unpaid principal, if any, is
due. The Bank's home equity loans bear variable rates of interest indexed to the
prime rate for loans with 80% or less loan to value ratio, and 2% above the
prime rate for loans with a loan to value ratio in excess of 80%. Interest rates
on these loans can be adjusted monthly. At June 30, 1997, the total outstanding
home equity loans amounted to $4.7 million, or 3.9% of the Bank's total loan
portfolio.
The Bank makes savings account loans for up to 90% of the depositor's
savings account balance. The interest rate is normally one percentage point
above the rate paid on the savings account, and the account must be pledged as
collateral to secure the loan. At June 30, 1997, loans on savings accounts
totalled $672,000, or 0.6% of the Bank's total loan portfolio.
Consumer loans generally entail greater risk than do residential
mortgage loans, particularly in the case of consumer loans which are unsecured
or secured by rapidly depreciable assets. These risks are considerably reduced
in the case of First Federal, since all of the Bank's consumer loans are home
equity lines of credit or savings account loans.
Loan Solicitation and Processing. First Federal's loan originations are
derived from a number of sources, including referrals by real estate agents,
depositors and borrowers, as well as walk-in customers. First Federal's
solicitation programs consist of advertisements in local media, in addition to
occasional participation in home buying seminars and open house events sponsored
by local realtors. Real estate loans are originated by First Federal's salaried
staff loan officers.
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 credit standing and any
deposit to be used for a down payment. It is First Federal's policy to obtain an
appraisal of the real estate intended to secure a proposed mortgage loan from an
independent fee appraiser approved by First Federal. Appraisals are generally
required on all purchase loans, all loans to refinance another lender, all loans
to refinance First Federal's loans when the existing appraisal is more than five
years old and the loan amount does not exceed regulatory limits, and other loans
at the loan committee's discretion. A panel of qualified appraisers are approved
by the Board annually, and management selects appraisers for specific jobs.
Certain Bank employees perform inspections for construction financing and for
transactions that do not require a full appraisal. Except when First Federal
becomes aware of a particular risk of environmental contamination, First Federal
generally does not obtain a formal environmental report on the real estate at
the time a loan is made.
The Bank makes a 30-day loan commitment for each loan approved. For
adjustable rate loans, the rate is guaranteed for the period of 14 days
following approval. The Bank will make a similar guarantee for fixed-rate loans
for a fee. If the borrower desires a longer commitment, the commitment may be
extended at a cost of 0.1% of the loan balance per month for up to three months.
The rate is subject to change during this extended commitment. In the case of
construction loans, a commitment is also made for the permanent financing to be
funded no later than 182 days from the date of the closing of the construction
loan. The interest rate on permanent financing is not guaranteed until closing
of the permanent loan.
The Bank's loan committee analyzes a completed application and may
approve or deny the loan if the loan is $150,000 or less and the property is a
one or two family dwelling. Loans that do not conform to these criteria must be
submitted to the Board of Directors for approval.
It is First Federal's policy to record a lien on the real estate
securing a loan. The Bank does not require title insurance unless the attorney
who provides the title opinion cannot or will not certify the title as clear and
marketable. The Bank requires fire and casualty insurance on all security
properties and flood insurance where the collateral property is located in a
designated flood hazard area. The Bank also requires an earthquake provision in
all policies for new loans. A Bank employee is designated to constantly review
and update insurance files.
8
<PAGE>
Loans to One Borrower. Under applicable law, with certain limited
exceptions, loans and extensions of credit by a savings institution to a person
outstanding at one time shall not exceed 15% of the institution's unimpaired
capital and surplus. Loans and extensions of credit fully secured by readily
marketable collateral may comprise an additional 10% of unimpaired capital and
surplus. Applicable law additionally authorizes savings institutions 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 (1) the purchase price of each single-family dwelling in the
development does not exceed $500,000, (2) the savings institution is and
continues to be in compliance with its regulatory capital requirements, (3) the
loans comply with applicable loan-to-value requirements, and (4) the aggregate
amount of loans made under this authority does not exceed 150% of the
institution's unimpaired capital and surplus. Under these limits, the Bank's
loans to one borrower were limited to $5.1 million at June 30, 1997. At that
date, the Bank had no lending relationships in excess of the OTS's
loans-to-one-borrower limit.
Interest Rates and Loan Fees. Interest rates charged by First Federal
on mortgage loans are primarily determined by competitive loan rates offered in
its market area and First Federal's yield objectives. Mortgage loan rates
reflect factors such as prevailing market 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.
First Federal receives fees in connection with late payments and for
miscellaneous services related to its loans. First Federal typically receives
fees of one point (one point being equivalent to 1% of the principal amount of
the loan) in connection with the origination of construction loans. Depending on
the type of loan and the competitive environment for mortgage loans, the Bank
may charge an origination fee on all or some of the loans it originates.
Asset Classification, Allowances for Losses and Non-Performing Assets.
Federal regulations require savings institutions to classify their assets on the
basis of quality on a regular basis. An asset is classified as substandard if it
is determined to be inadequately protected by the current net worth and paying
capacity of the obligor or of the collateral pledged, if any. An asset is
classified as doubtful if full collection is highly questionable or improbable.
An asset is classified as loss if it is considered uncollectible, even if a
partial recovery could be expected in the future. The regulations also provide
for a special mention designation, described as assets which do not currently
expose a savings institution to a sufficient degree of risk to warrant
classification but do possess credit deficiencies or potential weaknesses
deserving management's close attention. Assets classified as substandard or
doubtful require a savings institution to establish general allowances for loan
losses. If an asset or portion thereof is classified loss, a savings institution
must either establish a specific allowance for loss in the amount of the portion
of the asset classified loss, or charge off such amount. Federal examiners may
disagree with a savings institution's classifications. If a savings institution
does not agree with an examiner's classification of an asset, it may appeal this
determination to the OTS Regional Director. First Federal regularly reviews its
assets to determine whether any assets require classification or
re-classification. The Board of Directors reviews and approves all
classifications. At June 30, 1997, First Federal had no assets classified as
loss, no assets classified as doubtful and $26,000 of assets classified as
substandard. At June 30, 1997, assets designated as special mention totalled
$55,000.
Management will continue to actively monitor First Federal's asset
quality and will establish loan loss reserves and will charge off loans and
properties acquired in settlement of loans against the allowances for losses on
such loans and such properties when appropriate and will provide specific loss
allowances when necessary. Although management believes it uses the best
information available to make determinations with respect to the allowances for
losses, future adjustments may be necessary if economic conditions differ
substantially from the economic conditions in the assumptions used in making the
initial determinations.
First Federal's methodology for establishing the allowance for losses
takes into consideration probable losses that have been identified in connection
with specific assets as well as losses that have not been identified but can be
expected to occur. Management conducts regular reviews of First Federal's assets
and evaluates the need to establish allowances on the basis of this review.
Allowances are established by the Board of Directors on a quarterly basis based
9
<PAGE>
on an assessment of risk in First Federal's assets taking into consideration the
composition and quality of the portfolio, delinquency trends, current
charge-offs and loss experience, the state of the real estate market, regulatory
reviews conducted in the regulatory examination process and economic conditions
generally. Allowances will be provided for individual assets, or portions of
assets, when ultimate collection is considered improbable by management based on
the current payment status of the assets and the fair value or net realizable
value of the security. At the date of foreclosure or other repossession, First
Federal would transfer the property to real estate acquired in settlement of
loans at the lower of cost or fair value. Any portion of the outstanding loan
balance in excess of fair value would be charged off against the allowance for
loan losses. If, upon ultimate disposition of the property, net sales proceeds
exceed the net carrying value of the property, a gain on sale of real estate
would be recorded. Any losses realized on sale would be charged to the allowance
for loan losses on real estate acquired through foreclosure. The Bank has not
experienced any such losses in recent years.
The following table sets forth an analysis of First Federal's allowance
for loan losses for the periods indicated. As indicated above, First Federal has
had no loans charged off during these periods.
<TABLE>
<CAPTION>
Year Ended June 30,
---------------------------------------------------------
1997 1996 1995 1994 1993
------ ------ ------ ------ -----
(In thousands)
<S> <C> <C> <C> <C> <C>
Balance at beginning of period.................... $ 95 $ 83 $ 71 $ 59 $ 47
Provision for loan losses......................... 5 12 12 12 12
-------- ------- -------- -------- -------
Balance at end of period.......................... $ 100 $ 95 $ 83 $ 71 $ 59
======== ======= ======== ======== =======
</TABLE>
10
<PAGE>
The following table allocates the allowance for loan losses by asset
category at the dates indicated. 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>
June 30,
------------------------------------------------------
1997 1996
------------------------- ----------------------
Percent of Percent of
Loans in Loans in
Category to Category to
Amount Total Loans Amount Total Loans
------ ----------- ------ -----------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Real estate - mortgage:
Residential..................... $ 93 93.2% $ 89 93.8%
Commercial...................... 2 1.5 1 1.3
Real estate - construction........ 1 0.9 1 0.6
Consumer.......................... 4 4.4 4 4.3
------ ------ ------ -------
Total allowance for loan losses... $ 100 100.0% $ 95 100.0%
====== ====== ====== =======
<CAPTION>
June 30,
--------------------------------------------------------------------------------
1995 1994 1993
------------------------- ---------------------- ---------------------
Percent of Percent of Percent of
Loans in Loans in Loans in
Category to Category to Category to
Amount Total Loans Amount Total Loans Amount Total Loans
------ ----------- ------ ----------- ------ -----------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Real estate - mortgage:
Residential..................... $ 78 94.1% $ 67 94.2% $ 56 94.4%
Commercial...................... 2 1.6 1 1.6 1 1.4
Real estate - construction........ - 0.3 1 0.6 - 0.1
Consumer.......................... 3 4.0 2 3.6 2 4.1
------ ------ ------ ------- ------ -------
Total allowance for loan losses... $ 83 100.0% $ 71 100.0% $ 59 100.0%
====== ====== ====== ======= ====== =======
</TABLE>
11
<PAGE>
The following table sets forth information with respect to First
Federal's non-performing assets at the dates indicated. At these dates, First
Federal did not have any non-accrual loans or any restructured loans within the
meaning of SFAS No. 15. All loans 90 days or more past due are secured by
residential property for all periods in the table below.
<TABLE>
<CAPTION>
At June 30,
------------------------------------------------------------
1997 1996 1995 1994 1993
------ ------ ----- ------ -----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Accruing loans which are contractually
past due 90 days or more........................ $ 116 $ 118 $ 34 $ 213 $ 272
Percentage of total loans......................... .10% .11% .03% .20% .30%
Percentage of total assets........................ .09% .09% .02% .19% .26%
</TABLE>
At June 30, 1997, the Bank had no loans which were not already
classified as non-accrual, 90 days past due or restructured where known
information about possible credit problems of borrowers caused management to
have serious concerns as to the ability of the borrowers to comply with present
loan repayment terms.
Investment Activities
First Federal 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
Cincinnati, certificates of deposits in federally insured institutions, certain
bankers' acceptances and federal funds. First Federal 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 First Federal to maintain an investment in FHLB of Cincinnati 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 maintain. For additional information,
see " -- Regulation of the Bank -- Liquidity Requirements."
First Federal makes investments in order to diversify its assets,
manage cash flow, obtain yield and maintain the minimum levels of liquid assets
required by regulatory authorities. The Bank currently maintains an investment
portfolio consisting primarily of deposits in other financial institutions and
U.S. Government agency issues. Investment decisions generally are made by First
Federal's Investment Committee and approved by the Board of Directors. In the
future, the Investment Committee may consider other investment options and
investment strategies, including but not limited to FHLB Certificates of
Deposit, U.S. Treasury issues, U.S. Government agency issues, and
mortgage-backed securities.
First Federal has the ability and it is management's intention to hold
the Bank's investment securities to maturity. Therefore, First Federal carries
these securities at cost, adjusted for amortization of premiums and accretion of
discounts on a method which approximates the interest method over the term of
the security.
12
<PAGE>
The following table sets forth the carrying value of the First
Federal's investment portfolio and FHLB stock at the dates indicated.
<TABLE>
<CAPTION>
Year Ended June 30,
-----------------------------------------------
1997 1996 1995
---- ---- ----
(In thousands)
<S> <C> <C> <C>
Investment securities:
U.S. Government agency issues................................ $ 4,750 $ 8,772 $ --
State and municipal obligations.............................. 100 100 101
Interest-earning deposits and certificates of deposit.......... 2,790 5,873 38,680
FHLB stock..................................................... 1,156 1,078 990
--------- --------- ---------
Total investments......................................... $ 8,796 $ 15,823 $ 39,771
========= ========= =========
</TABLE>
13
<PAGE>
The following table sets forth information regarding the scheduled
maturities, market value and weighted average yields for First Federal's
investments, excluding FHLB stock, at June 30, 1997.
<TABLE>
<CAPTION>
At June 30, 1997
--------------------------------------------------------------------
One Year or Less One to Five Years Five to Ten Years
------------------ --------------------- ---------------------
Carrying Average Carrying Average Carrying
Value Yield Value Yield Value Yield
-------- ------- -------- ------- -------- -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Investment securities:
State and municipal
obligations..................... $ 100 6.24% $ -- -- % $ -- -- %
U.S. Government agency
issued bonds.................... 1,756 5.94 1,998 6.05 996 6.64
Interest-earning deposits and
certificates of deposit........... 2,690 5.18 100 5.87 -- --
-------- -------- ---------
Total........................... $ 4,546 $ 2,098 $ 996
======== ======== =========
<CAPTION>
At June 30, 1997
------------------------------------------------------
More than Ten Years Total Investment Portfolio
--------------------- ------------------------------
Carrying Average Carrying Market Average
Value Yield Value Value Yield
-------- ------ ------- ------ -------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Investment securities:
State and municipal
obligations..................... $ -- -- % $ 100 $ 100 6.24%
U.S. Government agency
issued bonds.................... -- -- 4,750 4,719 6.19
Interest-earning deposits and
certificates of deposit........... -- -- 2,790 2,790 5.18
-------- -------- -------
Total........................... $ -- $ 7,640 $ 7,604
======== ======== =======
</TABLE>
For additional information, see Notes A2 and B of the Notes to
Consolidated Financial Statements included in the Annual Report.
14
<PAGE>
Deposit Activity and Other Sources of Funds
General. Deposits are the primary source of First Federal's funds for
lending and other investment purposes. In addition to deposits, First Federal
derives funds from borrowings from the FHLB of Cincinnati, loan principal
repayments, interest payments and maturing investments. FHLB advances are
generally more costly than deposits but provide greater flexibility in terms and
are more easily matched to the life of assets in the Bank's portfolio. Loan
repayments and interest payments are a relatively stable source of funds, while
deposit inflows and outflows are significantly influenced by prevailing market
interest rates and money market conditions.
Deposits. First Federal attracts deposits principally from within its
market area by offering a variety of deposit instruments, including passbook
accounts, money market accounts, retirement savings accounts, checking accounts
and certificates of deposit which range in term from three to 120 months.
Deposit terms vary, principally on the basis of the minimum balance required,
the length of time the funds must remain on deposit and the interest rate.
First Federal's policies are designed primarily to attract deposits
from local residents through First Federal's branch network rather than from
outside First Federal's market area. First Federal does not accept deposits from
brokers due to their rate sensitivity. First Federal's interest rates,
maturities, service fees and withdrawal penalties on deposits are established by
management on a periodic basis. Management determines deposit interest rates and
maturities based on First Federal's liquidity requirements, the rates paid by
First Federal's competitors, First Federal's growth goals and applicable
regulatory restrictions and requirements.
Savings deposits in First Federal at June 30, 1997 were represented by
the various types of savings programs described below.
<TABLE>
<CAPTION>
Interest Minimum Minimum Balance in Percentage of
Rate (1) Term Category Amount Thousands Total Savings
- -------- ------- -------- ------ ----------- -------------
<S> <C> <C> <C> <C> <C>
3.00% None Passbook $ 100 $ 10,391 12.08%
3.00 None Christmas Savings N/A 196 0.23
3.00 None NOW 300 1,626 1.89
3.10 None Golden 50 300 1,479 1.72
3.09 None SuperNOW 1,000 675 0.79
3.64 None MMDA 1,000 6,181 7.19
-- None Non Interest-Bearing 300 180 0.21
---------- -------
20,728 24.11
Certificates of Deposit
-----------------------
4.09% 91-Days Fixed Term, Fixed Rate 500 1,949 2.27
4.75 182-Days Fixed-Term, Fixed Rate 500 7,040 8.19
6.01 9-month Fixed-Term, Fixed Rate 500 1,711 1.99
4.89 12-month Fixed-Term, Fixed Rate 500 8,827 10.26
5.77 15-month Fixed-Term, Fixed Rate 500 11,201 13.03
6.15 18-month Fixed-Term, Fixed Rate 500 100 0.12
5.41 24-month Fixed-Term, Fixed Rate 500 8,098 9.42
5.87 30-month Fixed-Term, Fixed Rate 500 3,168 3.69
5.50 36-month Fixed-Term, Fixed Rate 500 5,494 6.39
5.68 60-month Fixed-Term, Fixed Rate 500 4,219 4.91
6.23 72-month Fixed-Term, Fixed Rate 500 351 0.41
4.91 12-month Variable IRA 100 5,293 6.16
4.91 12-month Fixed-Term, Variable Rate 500 1,157 1.35
5.64 24-month(2) Fixed Term, Variable Rate 500 6,495 7.55
3.00 Varies Other N/A 126 0.15
---------- --------
65,229 75.89
---------- --------
$ 85,957 100.00%
========== ======
</TABLE>
- --------------
(1) Represents weighted average interest rate.
(2) Account holder has a one-time option to increase the interest rate to
the rate offered by the Bank on a new 24-month Certificate of Deposit.
15
<PAGE>
The following table sets forth the change in dollar amount of deposits
in the various types of accounts offered by First Federal between the dates
indicated.
<TABLE>
<CAPTION>
Balance at Balance at
June 30, % of Increase June 30,
1997 Deposits (Decrease) 1996
--------- -------- ---------- -----------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Passbook................................ $ 10,391 12.08% $ (774) $ 11,165
Statement savings....................... -- -- -- --
Christmas savings....................... 196 0.23 (13) 209
NOW..................................... 1,626 1.89 181 1,445
Golden 50............................... 1,479 1.72 42 1,437
SuperNOW................................ 675 0.79 (68) 743
MMDA.................................... 6,181 7.19 (4) 6,185
Non interest-bearing.................... 180 0.21 (199) 379
---------- --------- -------- ----------
20,728 24.11 (835) 21,563
Certificates of Deposit
- -----------------------
Fixed-Term, Fixed-Rate:
91-days............................... 1,949 2.27 (72) 2,021
182-days.............................. 7,040 8.19 (1,745) 8,785
9-month............................... 1,711 1.99 665 1,046
12-month.............................. 8,827 10.26 (3,943) 12,770
15-month.............................. 11,201 13.03 11,201 --
18-month.............................. 100 0.12 (1,244) 1,344
24-month.............................. 8,098 9.42 98 8,000
30-month.............................. 3,168 3.69 2,563 605
36-month.............................. 5,494 6.39 (2,150) 7,644
60-month.............................. 4,219 4.91 1,183 3,036
72-month.............................. 351 0.41 (48) 399
Variable IRA (12-month)................. 5,293 6.16 (1,056) 6,349
Fixed-Term, Variable-Rate (12 month).... 1,157 1.35 (147) 1,304
Fixed-Term, Variable-Rate (24 month).... 6,495 7.55 (6,272) 12,767
Other................................... 126 0.15 (18) 144
---------- -------- -------- ----------
65,229 75.89 (985) 66,214
---------- -------- -------- ----------
Total............................... $ 85,957 100.00% $ (1,820) $ 87,777
========== ======== ======== ==========
<CAPTION>
Balance at
% of Increase June 30, % of
Deposits (Decrease) 1995 Deposits
-------- ---------- ---------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C>
Passbook................................ 12.72% $ (35,007)/(1)/ $ 46,172 38.79%
Statement savings....................... -- (88) 88 0.07
Christmas savings....................... 0.24 (16) 225 0.19
NOW..................................... 1.65 41 1,404 1.18
Golden 50............................... 1.64 163 1,274 1.07
SuperNOW................................ 0.85 263 480 0.40
MMDA.................................... 7.05 (26) 6,211 5.22
Non interest-bearing.................... 0.43 340 39 0.03
------- --------- --------- -------
24.58 (34,330) 55,893 46.95
Certificates of Deposit
- -----------------------
Fixed-Term, Fixed-Rate:
91-days............................... 2.30 (974) 2,995 2.52
182-days.............................. 10.01 465 8,320 6.99
9-month............................... 1.19 1,046 -- --
12-month.............................. 14.55 1,197 11,573 9.72
15-month.............................. -- -- -- --
18-month.............................. 1.53 71 1,273 1.07
24-month.............................. 9.11 56 7,944 6.67
30-month.............................. 0.69 (33) 638 0.54
36-month.............................. 8.71 414 7,230 6.07
60-month.............................. 3.46 163 2,873 2.41
72-month.............................. 0.45 (107) 506 0.43
Variable IRA (12-month)................. 7.23 216 6,133 5.15
Fixed-Term, Variable-Rate (12 month).... 1.49 (461) 1,765 1.48
Fixed-Term, Variable-Rate (24 month).... 14.54 1,088 11,679 9.81
Other................................... 0.16 (75) 219 0.19
------- --------- --------- -------
75.42 3,066 63,148 53.05
------- --------- --------- -------
Total............................... 100.00% $ 31,264 $ 119,041 100.00%
======= ========= ========= =======
</TABLE>
- -------------
(1) Decrease represents in part funds used for purchase of shares in the Bank's
stock conversion.
16
<PAGE>
The following table sets forth the average balances and interest rates
based on month-end balances for interest-bearing demand deposits and time
deposits as of the dates indicated.
<TABLE>
<CAPTION>
Year Ended June 30,
-----------------------------------------------------------------
1997 1996 1995
------------------ -------------------- -----------------
Interest- Interest- Interest-
Bearing Bearing Bearing
Demand Time Demand Time Demand Time
Deposits Deposits Deposits Deposits Deposits Deposits
-------- -------- -------- -------- -------- --------
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Average balance.............. $ 9,770 $ 65,296 $ 13,805 $ 63,656 $ 10,455 $ 62,184
Average rate................. 3.33% 5.44% 3.06% 5.64% 3.16% 4.96%
</TABLE>
The following table sets forth the time deposits in First Federal
classified by rates at the dates indicated.
<TABLE>
<CAPTION>
At June 30,
----------------------------------------------
1997 1996 1995
------ ------ -----
(In thousands)
<S> <C> <C> <C>
2 - 3.99%............................... $ 152 $ 135 $ 217
4 - 5.99%............................... 54,461 46,122 41,111
6 - 7.99%............................... 10,530 19,795 21,447
8 - 9.99%............................... 86 162 319
10.00 - 11.99%.......................... -- -- 54
--------- --------- ---------
65,229 $ 66,214 $ 63,148
========= ========= =========
</TABLE>
The following table sets forth the amount and maturities of time
deposits in First Federal at June 30, 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%..................... $ 22 $ 92 $ 8 $ 30 $ 152
4 - 5.99%..................... 35,713 13,975 4,272 501 54,461
6 - 7.99%..................... 7,719 1,287 241 1,283 10,530
8 - 9.99%..................... 84 2 -- -- 86
--------- ---------- ---------- ---------- ----------
$ 43,538 $ 15,356 $ 4,521 $ 1,814 $ 65,229
========= ========== ========== ========== ==========
</TABLE>
17
<PAGE>
The following table indicates the amount of the certificates of deposit
of $100,000 or more in First Federal by time remaining until maturity at
June 30, 1997.
<TABLE>
<CAPTION>
Certificates
Maturity Period of Deposit
--------------- --------------
(In thousands)
<S> <C>
Three months or less............................................... $ 1,416
More than three through six months................................. 535
More than six through 12 months.................................... 2,146
Over 12 months..................................................... 3,073
-------
Total.............................................................. $ 7,170
=======
</TABLE>
The following table sets forth the deposit activities of First Federal
for the periods indicated.
<TABLE>
<CAPTION>
Year Ended June 30,
-----------------------------------------------
1997 1996 1995
------------ ------------ ----------
(In thousands)
<S> <C> <C> <C>
Beginning balance................................. $ 87,777 $ 119,041 $ 89,115
Deposits.......................................... 64,175 62,402 74,935
Withdrawals....................................... 69,224 96,507 47,920
--------- --------- ---------
Net increase (decrease) before interest
credited........................................ (5,049) (34,105) 27,015
Interest credited................................. 3,229 2,841 2,911
--------- --------- ---------
Net increase (decrease) in deposits............... (1,820) (31,264) 29,926
--------- --------- ---------
Ending balance.................................... $ 85,957 $ 87,777 $ 119,041
========= ========= =========
</TABLE>
Borrowings. Savings deposits historically have been the primary source
of funds for First Federal's lending, investment and general operating
activities. First Federal is authorized, however, to use advances from the FHLB
of Cincinnati to supplement its supply of lendable funds and to meet deposit
withdrawal requirements. The FHLB of Cincinnati functions as a central reserve
bank providing credit for savings institutions and certain other member
financial institutions. As a member of the FHLB system, First Federal is
required to own stock in the FHLB of Cincinnati and is authorized to apply for
advances. Advances are made pursuant to several different programs, each of
which has its own interest rate and range of maturities. Advances from the FHLB
of Cincinnati are secured by a portion of First Federal's mortgage loan
portfolio. At June 30, 1997, First Federal had $9.0 million in advances
outstanding from the FHLB of Cincinnati.
18
<PAGE>
The following table sets forth certain information regarding the
borrowings outstanding of the Company and the Bank at the dates and for the
periods indicated.
<TABLE>
<CAPTION>
At or for the
Year Ended June 30,
--------------------------
1997 1996
-------- --------
(Dollars in thousands)
<S> <C> <C>
Amounts outstanding at end of period:
FHLB advances.................................................. $ 9,006 $ 4,998
Other loans.................................................... 13,000 500
-------- ---------
Total....................................................... 22,006 5,498
Weighted average rate paid on:
FHLB advances.................................................. 6.41% 6.33%
Other loans.................................................... 8.50% 8.25%
</TABLE>
<TABLE>
<CAPTION>
For the Year
Ended June 30,
---------------------------
1997 1996
-------- --------
(Dollars in thousands)
<S> <C> <C>
Maximum amount of borrowings outstanding at any month end:
FHLB advances................................................. $ 9,006 $ 5,044
Other loans................................................... 13,000 500
</TABLE>
<TABLE>
<CAPTION>
For the Year
Ended June 30,
----------------------------
1997 1996
-------- --------
(Dollars in thousands)
<S> <C> <C>
Approximate average short-term borrowings outstanding
with respect to:
FHLB advances.................................................. $ -- $ --
Other loans (2)................................................ 1,083 42
Approximate weighted average rate paid on: (1)
FHLB advances.................................................. 6.04% 6.23%
Other loans (2)................................................ 8.50% 8.25%
</TABLE>
- ---------------
(1) Weighted average computed by dividing total interest paid by average
balance outstanding.
(2) Consists solely of a $13.0 million note originated on June 24, 1997.
Market Area
First Federal currently conducts its business through three banking
offices located in the City of Frankfort, Kentucky, which is located in the
bluegrass region of central Kentucky in Franklin County and which is about 50
miles east of Louisville and 30 miles west of Lexington. The Bank's primary
lending area includes the Kentucky Counties
19
<PAGE>
of Franklin, Anderson, Scott, Shelby and Woodford, with the majority of lending
being originated on properties located in Franklin County.
Franklin County has a population of approximately 46,000, of which
approximately 29,000 live within the city of Frankfort, which serves as the
capital of Kentucky. The primary employer in the area is the state government,
which employs about 30% of the work force. In addition, there are several large
industrial, financial and government employers in the community. Due to this
large, relatively stable source of employment, there has been little fluctuation
in the unemployment rate of about 5-6% in recent years.
Competition
First Federal faces strong competition for deposits and loans. First
Federal's principal competitors for deposits are other banking institutions,
such as commercial banks and credit unions, as well as mutual funds and other
investments. First Federal principally competes for deposits by offering a
variety of deposit accounts, convenient business hours and branch locations,
customer service and a well trained staff. First Federal competes for loans with
other depository institutions, as well as specialty mortgage lenders and brokers
and consumer finance companies. First Federal principally competes for loans on
the basis of interest rates and the loan fees it charges, the types of loans it
originates and the convenience and service it provides to borrowers. In
addition, First Federal believes it has developed strong relationships with the
businesses, real estate agents, builders and general public in its market area.
Despite First Federal's small size relative to the many and various other
depository and lending institutions in its market area, First Federal usually
ranks first with respect to the origination of single family purchase mortgages
made on properties located in Franklin County. Nevertheless, the level of
competition in the Bank's market area has limited to a certain extent the
lending opportunities in the area.
Employees
As of June 30, 1997, First Federal had 25 full-time and no part-time
employees, none of whom was represented by a collective bargaining agreement.
Regulation of the Company
General. The Company is registered as a savings and loan holding
company within the meaning of the Home Owners' Loan Act, as amended ("HOLA")
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 in its dealings with the Company and
affiliates thereof.
Activities Restrictions. The Board of Directors of the Company
presently operates 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 institution, the Director of
OTS may impose such restrictions as deemed necessary to address such risk
including limiting: (i) payment of dividends by the savings institution, (ii)
transactions between the savings institution and its affiliates; and (iii) any
activities of the savings institution that might create a serious risk that the
liabilities of the holding company and its affiliates may be imposed on the
savings institution. Notwithstanding the above rules as to permissible business
activities of unitary savings and loan holding companies, if the savings
institution subsidiary of such a holding company fails to meet the Qualified
Thrift Lender ("QTL") Test, then within one year after the institution ceased to
be a QTL, such unitary savings and loan holding company shall register as and be
deemed to be a bank holding company and will become subject to the activities
restrictions applicable to a bank holding company. See "Regulation of the Bank
- -- Qualified Thrift Lender Test."
20
<PAGE>
If the Company were to acquire control of another savings institution,
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 institution 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. The HOLA provides that, among other things, no multiple
savings and loan holding company or subsidiary thereof which is not a savings
institution may 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
institution, (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 authorized by regulation as of March 5, 1987 to be
directly engaged in by multiple savings and loan 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 savings and loan holding company.
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,
no savings institution may (i) 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 Bank
Holding Company Act of 1956, as amended ("BHCA") which also 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
condition that the customer obtain some additional services from the institution
or certain of its affiliates or not obtain services of a competitor of the
institution, subject to certain exceptions.
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 or to a greater than 10% stockholder of a savings
institution, and certain affiliated entities of the foregoing, may not exceed,
together with all other outstanding loans to such person and affiliated entities
the institution's loan 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 certain 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, the Federal Reserve Board pursuant to
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.
21
<PAGE>
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 for such
extensions of credit by the board of directors 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
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.
Restrictions on Acquisitions. The HOLA generally prohibits savings and
loan holding companies, without prior approval of the Director of OTS, from
acquiring (i) control of any other savings institution or savings and loan
holding company or substantially all the assets thereof, or (ii) more than 5% of
the voting shares of a savings institution or holding company thereof which is
not a subsidiary. Under certain circumstances, a registered savings and loan
holding company is permitted to acquire, with the approval of the Director of
OTS, up to 15% of the voting shares of an under-capitalized savings institution
pursuant to a "qualified stock issuance" without that savings institution being
deemed controlled by the holding company. In order for the shares acquired to
constitute a "qualified stock issuance," the shares must consist of previously
unissued stock or treasury shares, the shares must be acquired for cash, the
savings and loan holding company's other subsidiaries must have tangible capital
of at least 6 1/2% of total assets, there must not be more than one common
director or officer between the savings and loan holding company and the issuing
savings institution and transactions between the savings institution and the
savings and loan holding company and any of its affiliates must conform to
Sections 23A and 23B of the Federal Reserve Act. 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 institution, other
than a subsidiary savings institution, 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 to be acquired as of March 5,
1987; (ii) the acquiror is authorized to acquire control of the savings
institution pursuant to the emergency acquisition provisions of the Federal
Deposit Insurance Act; or (iii) the laws of the state in which the institution
to be acquired is located specifically permit institutions to be acquired by
state-chartered institutions 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 institutions 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 institution may not establish an
out-of-state branch unless (i) the institution qualifies as a QTL or as a
"domestic building and loan association" under (S).7701(a)(19) of the Code and
the total assets attributable to all branches of the institution in the state
would qualify such branches taken as a whole for treatment as a QTL or as a
domestic building and loan association 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 institution subsidiaries of banking holding companies. Federal savings
institutions generally may not establish new branches unless the institution
meets or exceeds minimum regulatory capital requirements. The OTS will also
consider the institution's record of compliance with the Community Reinvestment
Act of 1977 in connection with any branch application.
Regulation of the Bank
General. As a federally chartered savings institution, First Federal is
subject to extensive regulation by the OTS. The lending activities and other
investments of First Federal must comply with various state and federal
regulatory requirements. The OTS periodically examines the Bank for compliance
with various regulatory requirements.
22
<PAGE>
The Bank must file reports with the OTS describing its activities and financial
condition. The FDIC also has the authority to conduct special examinations of
the Bank because its deposits are insured by the SAIF. 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.
Regulatory Capital Requirements. Under OTS regulatory capital
requirements, savings institutions 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 recently adopted regulations
which impose certain restrictions on savings institutions 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
CAMELS under the OTS examination rating system). See "-- Prompt Corrective
Regulatory Action." For purposes of these regulations, Tier 1 capital has the
same definition as core capital. 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 institution's intangible assets for which no market
exists. Limited exceptions to the deduction of intangible assets are provided
for purchased mortgage servicing rights and qualifying supervisory goodwill.
Tangible capital is given the same definition as core capital but does not
include an exception for 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. Both core and tangible
capital are further reduced by an amount equal to a gradually increasing
percentage of the savings institution'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). At June 30, 1997, First Federal had no such investments.
Adjusted total assets are a savings institution's total assets as
determined under generally accepted accounting principles, adjusted for certain
goodwill amounts and increased by a pro rated portion of the assets of
unconsolidated includable subsidiaries in which the savings institution holds a
minority interest. Adjusted total assets are reduced by the amount of assets
that have been deducted from capital, the portion of the savings institution's
investments in unconsolidated includable subsidiaries and, for purposes of the
core capital requirement, qualifying supervisory goodwill.
In determining compliance with the risk-based capital requirement, a
savings institution is allowed to use both core capital and supplementary
capital in its total capital provided the amount of supplementary capital
included does not exceed the savings institution'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 institution'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
percentage 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. At June 30, 1997, the Bank had no high
ratio land or nonresidential construction loans and had no equity investments
for which OTS regulations require a deduction from total capital.
The risk-based capital requirement is measured against risk-weighted
assets which equal the sum of each 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, 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 and residential construction loans are assigned a
risk weight of 100%. Mortgage-backed securities issued, or fully guaranteed as
to principal and interest, by the FNMA or FHLMC are assigned a 20% risk weight.
Cash and U.S. Government securities backed by the full faith and credit of the
U.S. Government are given a 0% risk weight.
23
<PAGE>
The table below presents the Bank's capital position relative to its
various regulatory capital requirements at June 30, 1997.
<TABLE>
<CAPTION>
Percent of
Amount Assets (1)
------ ----------
(Dollars in thousands)
<S> <C> <C>
Tangible capital(2).......................................... $ 34,135 25.86%
Tangible capital requirement................................. 1,980 1.50
-------- -----
Excess..................................................... $ 32,155 24.36%
======== =====
Core capital(2).............................................. $ 34,135 25.86%
Core capital requirement..................................... 3,959 3.00
-------- -----
Excess..................................................... $ 30,176 22.86%
======== =====
Risk-based capital(2)........................................ $ 34,235 50.78%
Risk-based capital requirement............................... 5,393 8.00
-------- -----
Excess..................................................... $ 28,842 42.78%
======== =====
Tier 1 capital(2)............................................ $ 34,135 25.86%
Tier 1 capital requirement................................... 5,279 4.00
-------- -----
Excess..................................................... $ 28,856 21.86%
======== =====
Tier 1 capital(2)............................................ $ 34,135 50.64%
Tier 1 risk-based capital requirement........................ 2,696 4.00
-------- -----
Excess..................................................... $ 31,439 46.64%
======== =====
</TABLE>
- ---------------
(1) Based upon adjusted total assets for purposes of the tangible, core and
Tier 1 capital requirements, and risk-weighted assets for purposes of
the risk-based capital requirements.
(2) On July 11, 1997, the Bank distributed $11 million to the Company.
These funds were used to pay down the loan obtained on June 24, 1997
for payment of the Company's return of capital. For more information
regarding the effect of the distribution on the Bank's capital
position, see "-- Recent Developments -- Restructuring Plan."
The OTS' risk-based capital requirements require savings institutions
with more than a "normal" level of interest rate risk to maintain additional
total capital. A savings institution's interest rate risk is 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 institution
is 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.
A savings institution with a greater than normal interest rate risk is 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 institution'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 a savings institution's net
portfolio value based on data submitted by the institution 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 a savings institution's total capital is based on the
institution's Thrift Financial Report filed two quarters earlier. Savings
institutions 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 requires any exempt
savings institution that it determines may have a high level of interest rate
risk exposure to file such schedule on a quarterly basis. The Bank has
24
<PAGE>
determined that, on the basis of current financial data, it will not be deemed
to have more than normal level of interest rate risk under the rule and believes
that it will not be required to increase its total capital as a result of the
rule.
In addition to requiring generally applicable capital standards for
savings institutions, the OTS is authorized to establish the minimum level of
capital for a savings institution at such amount or at such ratio of
capital-to-assets as the OTS 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 of interest rate risk,
prepayment risk, credit risk and concentration of credit risk and certain risks
arising from non-traditional activities. The OTS may treat the failure of any
savings institution to maintain capital at or above such level as an unsafe or
unsound practice and may issue a directive requiring any savings institution
which fails to maintain capital at or above the minimum level required by the
OTS 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.
Prompt Corrective Regulatory Action. Under the Federal Deposit
Insurance Corporation Improvement Act of 1991 ("FDICIA"), the federal banking
regulators, including the OTS, are required to take prompt corrective action if
an insured depository institution fails to satisfy certain minimum capital
requirements. 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 and the institution is prohibited from
making payments of principal or interest on its subordinated debt. 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.
Under regulations jointly adopted by the federal banking regulators,
including the OTS, a depository institution's capital adequacy for purposes of
the prompt corrective action rules is determined 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). Under the regulations, a savings institution
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 institution is a savings institution 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
25
<PAGE>
ratio of 4% or greater (or 3% or greater if the savings institution has a
composite 1 CAMELS rating). An "undercapitalized institution" is a savings
institution 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 institution has a composite 1 CAMELS rating). A
"significantly undercapitalized" institution is defined as a savings institution
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 institution is defined as a savings
institution 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 institution as adequately capitalized
and may require an adequately capitalized or undercapitalized institution to
comply with the supervisory actions applicable to institutions 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 institution is in an unsafe
or unsound condition or that the institution has received and not corrected a
less-than- satisfactory rating for any CAMELS rating category. The Bank is
classified as "well capitalized" under these regulations.
Liquidity Requirements. As a member of the FHLB System, the Bank is
required to maintain average daily balances of liquid assets (cash, deposits
maintained pursuant to Federal Reserve Board requirements, time and savings
deposits in certain institutions, obligations of states and political
subdivisions thereof, shares in mutual funds with certain restricted investment
policies, highly rated corporate debt, and mortgage loans and mortgage-related
securities with less than one year to maturity or subject to purchase within one
year) equal to the monthly average of not less than a specified percentage
(currently 5%) of its net withdrawable savings deposits plus short-term
borrowings. Member institutions have also been required to maintain average
daily balances of short-term liquid assets at a specified percentage (currently
1%) of the total of their net withdrawable savings accounts and borrowings
payable in one year or less. Monetary penalties may be imposed for failure to
meet liquidity requirements. The average daily and short term liquidity ratios
of the Bank for June 1997 were 7.77% and 5.33%, respectively.
Qualified Thrift Lender Test. The Bank is currently subject to OTS
regulations which use the concept of a qualified thrift lender ("QTL") to
determine eligibility for Federal Home Loan Bank advances and for certain other
purposes. A savings institution that does not meet the 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 are restricted to those of a national bank
located in the institution's home state; (iii) the institution shall not be
eligible to obtain any advances from its Federal Home Loan Bank; 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 be deemed a bank holding company subject to all of the
provisions of 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 Federal Home Loan Bank 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 mortgage-backed securities, residential
mortgages, home equity loans, loans made for educational purposes, small
business loans, credit card loans and shares of stock issued by a Federal Home
Loan Bank. 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
26
<PAGE>
activities directly related to purchasing, refinancing, constructing, improving
or repairing domestic residential housing or manufactured housing, (iii) 200% of
their investments in loans 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, and (v) loans for personal, family, household or educational
purposes, provided that the dollar amount treated as Qualified Thrift
Investments may not exceed 10% of the savings institution's portfolio assets.
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 QTL 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 June 30, 1997, approximately
98.5% of the Bank's "portfolio" assets were invested in Qualified Thrift
Investments.
Dividend Limitations. Under OTS regulations, the Bank is not permitted
to 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 institution 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.
Federal regulations impose limitations on the payment of dividends and
other capital distributions (including stock repurchases and cash mergers) by
the Bank. Under these regulations, a savings institution 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
greater of (i) 75% of net income for the previous four quarters 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 capital-to-assets ratio
exceeded the ratio of its fully phased-in capital requirement to assets at the
beginning of the calendar year. A savings institution with total capital in
excess of current minimum capital requirements but not in excess of 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 institution that fails to meet current minimum capital requirements (a
"Tier 3 Association") is prohibited from making any capital distributions
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. Unless the OTS determines
that the Bank is an institution requiring more than normal supervision, the Bank
is authorized to pay dividends in accordance with the provisions of the OTS
regulations discussed above as a Tier 1 Association.
Under the OTS' prompt corrective action regulations, the Bank is also
prohibited from making any capital distributions if after making the
distribution, the Bank would have: (i) a total risk-based capital ratio of less
than 8%; (ii) a Tier 1 risk-based capital ratio of less than 4%; or (iii) a
leverage ratio of less than 4%. The OTS, after consultation with the FDIC,
however, may permit an otherwise prohibited stock repurchase if made in
connection with the issuance of additional shares in an equivalent amount and
the repurchase will reduce the institution's financial obligations or otherwise
improve the institution's financial condition.
Safety and Soundness Standards. 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. The final rule and the
guidelines became 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
27
<PAGE>
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 has materially affected the
Bank's operations.
Additionally under FDICIA, as amended by the CDRI Act, the Federal
banking agencies were 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
percentage of its insured deposits to the FDIC for insurance of its deposits by
the FDIC through the SAIF. Under the Federal Deposit Insurance Act, the FDIC is
required to set semi-annual assessments for SAIF-insured institutions at a level
necessary 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
indicating a significant risk of substantial future losses to the SAIF.
Under the FDIC's risk-based deposit insurance assessment system, the
assessment rate for an insured depository institution depends on the assessment
risk classification assigned to the institution by the FDIC, which is determined
by the institution's capital level and supervisory evaluations. Based on the
data reported to regulators for the date closest to the last day of the seventh
month preceding the semi-annual assessment period, institutions are assigned to
one of three capital groups -- well capitalized, adequately capitalized or
undercapitalized -- using the same percentage criteria as 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 years, institutions with SAIF-assessable deposits, like
the Bank, were required to pay higher deposit insurance premiums than
institutions with deposits insured by the Bank Insurance Fund ("BIF")
administered by the FDIC. 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. As a result of the special
assessment, the Bank incurred a pre-tax expense of $567,000 during the quarter
ended September 30, 1996.
The special assessment recapitalized the SAIF, and as a result, the
FDIC lowered the SAIF deposit insurance assessment rates through the end of 1997
to zero for well capitalized institutions with the highest supervisory ratings
and 0.31% of insured deposits for institutions in the highest risk-based premium
category. Since the BIF is above its designated reserve ratio of 1.25% of
insured deposits, "well-capitalized" institutions in Subgroup A, numbering 95%
28
<PAGE>
of BIF-insured institutions, pay no federal deposit insurance premiums, with the
remaining 5% of institutions paying a graduated range of rates up to 0.27% of
insured deposits for the highest risk-based premium category. 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.
Since the SAIF now meets its designated reserve ratio as a result of
the special assessment, SAIF members are now permitted to convert to the status
of members of the BIF and may merge with or transfer assets to a BIF member.
However, 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 the SAIF deposit insurance premiums effectively eliminated this
disparity and could have the effect of increasing the net income of the Bank and
restoring the competitive equality between BIF-insured and SAIF-insured
institutions.
Federal Home Loan Bank System. The Bank is a member of the FHLB, which
consists of 12 Federal Home Loan Banks subject to supervision and regulation by
the Federal Housing Finance Board ("FHFB"). The Federal Home Loan Banks provide
a central credit facility primarily for member institutions. As a member of the
FHLB of Cincinnati, the Bank is required to acquire and hold shares of capital
stock in the FHLB of Cincinnati 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
from the FHLB of Cincinnati, whichever is greater. The Bank was in compliance
with this requirement with investment in FHLB of Cincinnati stock at June 30,
1997, of $1.1 million. The FHLB of Cincinnati 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 Cincinnati. As of June 30,
1997, the Bank had $9.0 million in advances and other borrowings from the FHLB
of Cincinnati. See " -- Deposit Activity and Other Sources of Funds --
Borrowings."
Federal Reserve System. Pursuant to regulations of the Federal Reserve
Board, a thrift institution must maintain average daily reserves equal to 3% on
the first $49.3 million of transaction accounts, plus 10% on the remainder. This
percentage is subject to adjustment by the Federal Reserve Board. 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 June 30, 1997, the Bank met its reserve
requirements.
Taxation
First Federal files its tax return based on a fiscal year ending June
30. The Company and the Bank will file separate tax returns for fiscal 1997.
Thrift institutions are subject to the provisions of the Internal
Revenue Code of 1986, as amended (the "Code") in the same general manner as
other corporations. Prior to recent legislation, institutions such as First
Federal which met certain definitional tests and other conditions prescribed by
the Code benefitted 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 were 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 was based on actual loss
experience, however, the amount of the bad debt reserve deduction with respect
to qualifying real property loans could 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").
29
<PAGE>
First Federal historically elected to use the percentage of taxable
income method. Under such method, the bad debt reserve deduction for qualifying
real property loans was computed as a percentage of taxable income, with certain
adjustments, effective for taxable years beginning after 1986. The allowable
deduction under the percentage of taxable income method (the "percentage bad
debt deduction") for taxable years beginning before 1987 was scaled downward in
the event that less than 82% of the total dollar amount of the assets of an
association were within certain designated categories. When the percentage
method bad debt deduction was lowered to 8%, the 82% qualifying assets
requirement was lowered to 60%. For all taxable years, no deduction was
permitted in the event that less than 60% of the total dollar amount of the
assets of an association fell within such categories.
Earnings appropriated to an institution's bad debt reserve and claimed
as a tax deduction were not available for the payment of cash dividends or for
distribution to shareholders (including distributions made on dissolution or
liquidation), unless such amount was included in taxable income, along with the
amount deemed necessary to pay the resulting federal income tax.
Legislation recently signed by the President repealed the percentage of
taxable income method of calculating the bad debt reserve. Savings associations,
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 over a six-year period beginning with the first
taxable year beginning after December 31, 1995. The start of such recapture may
be delayed until the third taxable year beginning after December 31, 1995 if the
dollar amount of the institution's residential loan originations in each year is
not less than the average dollar amount of residential loans originated in each
of the six most recent years disregarding the years with the highest and lowest
originations during such period. For purposes of this test, residential loan
originations would not include refinancings and home equity loans. Under such
legislation, the Bank is required to recapture approximately $140,000 of its bad
debt reserve. The Bank has provided deferred taxes on its post-1987 additions to
its bad debt reserves and, as a result, the recapture provisions will have no
effect on the Bank's results of operations.
Beginning with the first taxable year beginning after December 31,
1995, savings institutions, such as the Bank, will be treated the same as
commercial banks. Institutions with $500 million or more in assets will only be
able to take a tax deduction when a loan is actually charged off. Institutions
with less than $500 million in assets will still be permitted to make deductible
bad debt additions to reserves, but only using the experience method.
First Federal's federal corporate income tax returns have not been
audited in the last five years.
Under provisions of the Revenue Reconciliation Act of 1993 ("RRA"),
enacted on August 10, 1993, the maximum federal corporate income tax rate was
increased from 34% to 35% for taxable income over $10.0 million, with a 3%
surtax imposed on taxable income over $15.0 million. Also under provisions of
RRA, a separate depreciation calculation requirement has been eliminated in the
determination of adjusted current earnings for purposes of determining
alternative minimum taxable income, rules relating to payment of estimated
corporate income taxes were revised, and certain acquired intangible assets such
as goodwill and customer-based intangibles were allowed a 15-year amortization
period. Beginning with tax years ending on or after January 1, 1993, RRA also
provides that securities dealers must use mark-to-market accounting and
generally reflect changes in value during the year or upon sale as taxable gains
or losses. The IRS has indicated that financial institutions which originate and
sell loans will be subject to the new rule.
30
<PAGE>
State Income Taxation
The Commonwealth of Kentucky imposes an annual franchise tax on
financial institutions regularly engaged in business in Kentucky at any time
during the calendar year. This tax is 1.1% of First Federal's net capital. For
purposes of this tax, net capital is defined as the aggregate of the Bank's
capital stock, paid-in capital, retained earnings and net unrealized gains or
losses on securities designated as available for sale less an amount equal to
the five year average of the percentage that the book value of any United States
obligations held by the Bank bears to the book value of the Bank's total assets.
Financial institutions which are subject to tax both within and without Kentucky
must apportion on their net capital.
Shareholders of the Company who are residents of the Commonwealth of
Kentucky may be subject to a Kentucky tax on intangible property, defined for
this purpose to include shares of stock in a corporation. The tax is an ad
valorem tax based upon the fair market value of the shares held by the
individual, and is assessed at a rate of $.25 per $100 in value.
Executive Officers Who Are Not Directors
The following table sets forth information regarding the executive
officer of the Company who does not serve on the Board of Directors.
<TABLE>
<CAPTION>
Age at
June 30,
Name 1997 Title
- ---- -------- -----
<S> <C> <C>
Joyce H. Jennings (1) 60 Vice President and Treasurer
</TABLE>
- -----------
(1) Mrs. Jennings is the wife of William C. Jennings, Chairman of the Board
and President of the Company and the Bank and the mother of Don
Jennings, Vice President of the Bank.
Joyce H. Jennings has been an employee of First Federal since 1955. She
has served as Vice President and Treasurer of the Bank since 1983 and Treasurer
of the Company since its inception. Mrs. Jennings has been active in
philanthropy and civic activities in the Frankfort area, and holds several
offices in her church. She currently serves on the Board of the Franklin County
Council on Aging. Her husband, William C. Jennings, is President and Chairman of
the Board of the Company and First Federal and her son, Don Jennings, is Vice
President of the Bank.
Item 2. Properties
- -------------------
The following table sets forth information regarding First Federal's
offices at June 30, 1997.
<TABLE>
<CAPTION>
Book Value Deposits at
Year Owned or at June 30, Approximate June 30,
Opened Leased 1997 Square Footage 1997
------ ------ ---- -------------- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Main Office:
216 West Main Street 1989 Owned $ 1,248 14,400 $ 46,860
Frankfort, Kentucky 40601
</TABLE>
31
<PAGE>
<TABLE>
<CAPTION>
Book Value Deposits at
Year Owned or at June 30, Approximate June 30,
Opened Leased 1997 Square Footage 1997
------ ------ ---- -------------- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Branch Offices:
East Branch 1971 Owned $153 1,800 $22,732
1980 Versailles Road
Frankfort, Kentucky 40601
West Branch 1975 Owned 142 2,480 16,365
1220 US 127 South
Frankfort, Kentucky 40601
</TABLE>
The net book value of the Automatic Teller Machines buildings located
at the East and West Branches at June 30, 1997 was $30,000. First Federal owns a
small parcel of land to the rear of the East Branch which is rented to a local
business for parking.
The book value of First Federal's investment in premises and equipment
totaled $1.6 million at June 30, 1997.
Item 3. Legal Proceedings.
- -------------------------
From time to time, First Federal is a party to various legal
proceedings incident to its business. At June 30, 1997, there were no legal
proceedings to which the Company or First Federal was a party, or to which any
of their property was subject, which were expected by management to result in a
material loss to the Company or the Bank.
Item 4. Submission of Matters to a Vote of Security Holders
- ------------------------------------------------------------
There were no matters submitted to a vote of security holders during
the fourth quarter of the fiscal year ended June 30, 1997.
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholders'
- ---------------------------------------------------------------------------
Matters
- -------
The information required by this Item is incorporated by reference to
"Market Information" contained in the Company's Annual Report attached as
Exhibit 13 hereto.
Item 6. Selected Financial Data
- --------------------------------
The information contained in the table captioned "Selected Consolidated
Financial and Other Data" in the Annual Report is incorporated herein by
reference.
Item 7. Management's Discussion and Analysis of Financial Condition and
- ------------------------------------------------------------------------
Results of Operations
- ---------------------
The information required by this item is incorporated by reference to
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" in the Annual Report.
32
<PAGE>
Item 8. Financial Statements and Supplementary Data
- ----------------------------------------------------
The financial statements required by this item are incorporated by
reference to the consolidated financial statements, notes to consolidated
financial statements and independent auditors' report in the Annual Report.
Item 9. Changes in and Disagreements With Accountants on Accounting and
- ------------------------------------------------------------------------
Financial Disclosure
- --------------------
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
- ------------------------------------------------------------
For information concerning the Board of Directors and executive
officers 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 1997 Annual Meeting of Stockholders (the "Proxy
Statement") is incorporated herein by reference.
For certain information regarding the one executive officer of the
Company who is not a director, see "Item 1. Description of Business -- Executive
Officers Who Are Not Directors."
For more information concerning compliance with Section 16(a) of the
Securities Exchange Act of 1934, as amended, the information contained under the
section captioned "Section 16(a) Beneficial Ownership Reporting Compliance" is
incorporated herein by reference.
Item 11. Executive Compensation
- --------------------------------
The information required by this item is incorporated by reference to
"Executive Compensation" in the Proxy Statement.
Item 12. 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
Principal Holders Thereof" 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
Principal Holders Thereof" and "Proposal I -- 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.
33
<PAGE>
Item 13. Certain Relationships and Related Transactions
- --------------------------------------------------------
The information required by this item is incorporated herein by
reference to the section captioned "Proposal I -- Election of Directors --
Transactions with Management" in the Proxy Statement.
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K.
- -------------------------------------------------------------------------
(a) List of Documents Filed as Part of this Report
----------------------------------------------
(1) Financial Statements. The following consolidated financial
statements are incorporated by reference from Item 8 hereof:
Independent Auditors' Report
Consolidated Statements of Financial Condition as of June 30,
1997 and 1996
Consolidated Statements of Operations for the years ended June
30, 1997, 1996, and 1995
Consolidated Statements of Shareholders' Equity for the years
ended June 30, 1997, 1996 and 1995
Consolidated Statements of Cash Flows for the years ended June
30, 1997, 1996 and 1995
Notes to Consolidated Financial Statements for the years ended
June 30, 1997, 1996 and 1995
(2) Financial Statement Schedules. All schedules for which provision is
made in the applicable accounting regulations of the Securities and Exchange
Commission are omitted because of the absence of conditions under which they are
required or because the required information is included in the consolidated
financial statements and related notes thereto.
(3) Exhibits. The following is a list of exhibits filed as part of this
Annual Report on Form 10-K and is also the Exhibit Index.
<TABLE>
<CAPTION>
No. Description
--- -----------
<S> <C> <C>
3.1 Certificate of Incorporation of Frankfort First Bancorp, Inc. *
3.2 Bylaws of Frankfort First Bancorp, Inc. *
4 Form of Stock Certificate of Frankfort First Bancorp, Inc. *
10.1 Stock Option and Incentive Plan * +
10.3(a) Employment Agreements with First Federal Savings Bank of Frankfort * +
10.3(b) Employment Agreements with Frankfort First Bancorp, Inc. * +
10.4 Deferred Compensation Plan * +
10.5 Trust Agreement Relating to Employment Agreements and Deferred ** +
Compensation Plan
13 Annual Report to Stockholders
21 Subsidiaries of the Registrant
23.1 Consent of Grant Thornton L.L.P.
23.2 Consent of Butler & Associates, P.S.C.
27 Financial Data Schedule
</TABLE>
- --------------
(*) Incorporated herein by reference from Registration Statement on Form
S-1 filed (File No. 33-83968).
(**) Incorporated herein by reference from the Company's Annual Report on
Form 10-K for the fiscal year ended June 30, 1995.
(+) Management contract or compensatory plan or arrangement.
34
<PAGE>
(b) Reports on Form 8-K. A Current Report on Form 8-K dated June 5,
-------------------
1997 and filed on June 11, 1997 to report the implementation of the benefit plan
restructuring and a Current Report on Form 8-K dated June 10, 1997 and filed
June 13, 1997 regarding the delay of the effective date of the one-for-two
reverse stock split were filed during the quarter ended June 30, 1997.
(c) Exhibits. The exhibits required by Item 601 of Regulation S-K are
--------
either filed as part of this Annual Report on Form 10-K or incorporated by
reference herein.
(d) Financial Statements and Schedules Excluded from Annual Report.
--------------------------------------------------------------
There are no other financial statements and financial statement schedules which
were excluded from the Annual Report to Stockholders pursuant to Rule
14a-3(b)(1) which are required to be included herein.
35
<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.
FRANKFORT FIRST BANCORP, INC.
September 22, 1997 By: /s/ William C. Jennings
-----------------------
William C. Jennings
President and Chief Executive
Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<TABLE>
<S> <C>
/s/ William C. Jennings September 22, 1997
- ----------------------------------------------
William C. Jennings
President and Chief Executive Officer
(Principal Executive Officer and Principal
Financial and Accounting Officer)
/s/ Danny A. Garland September 22, 1997
- ----------------------------------------------
Danny A. Garland
Vice President and Director
/s/ Charles A. Cotton, III September 22, 1997
- ----------------------------------------------
Charles A. Cotton, III
Director
/s/ David Eddins September 22, 1997
- ----------------------------------------------
David Eddins
Director
/s/ William M. Johnson September 22, 1997
- ----------------------------------------------
William M. Johnson
Director
/s/ Frank McGrath September 22, 1997
- ----------------------------------------------
Frank McGrath
Director
/s/ Herman D. Regan, Jr. September 22, 1997
- ----------------------------------------------
Herman D. Regan, Jr.
Director
</TABLE>
36
<PAGE>
=============================================
Frankfort First Bancorp, Inc.
Annual Report
1997
=============================================
Parent Company of
First Federal Savings Bank of Frankfort
216 West Main Street
P.O. Box 535
Frankfort, KY 40602
<PAGE>
TABLE OF CONTENTS
President's Message 1
Frankfort First Bancorp, Inc. 2
First Federal Savings Bank of Frankfort 2
Market Information 2
Selected Consolidated Financial Information 3
Management's Discussion and Analysis
of Financial Condition and Results of Operations 5
Independent Auditors' Report 17
Consolidated Financial Statements:
Consolidated Statements of Financial Condition 18
Consolidated Statements of Operations 19
Consolidated Statements of Shareholders' Equity 20
Consolidated Statements of Cash Flows 21
Notes to Consolidated Financial Statements 22
Corporate Information 42
<PAGE>
Frankfort First Bancorp, Inc.
Parent Company of First Federal Savings Bank of Frankfort
President's Message
Dear Shareholder:
We are very happy to present Frankfort First Bancorp's Annual Report to
Shareholders for the fiscal year ended June 30, 1997. The most significant event
of the past year was the announcement of a major restructuring plan which
involved a special $4.00 distribution, the elimination of two stock benefit
plans, and the proposal for a one-for-two reverse stock split. The Board and
management believe that this plan has significantly increased the value of your
investment and that it positions the Company for improved future performance.
As you can see from the financial statements, the Company did experience a net
loss for the year--mainly due to the one-time charge to terminate the Company's
Employee Stock Ownership Plan and Management Recognition Plan and to the special
premium paid to re-capitalize the Savings Association Insurance Fund (the
"SAIF"). Both of these charges will serve to reduce future non-interest expense
through a reduction in the FDIC premium expense and the elimination of the ESOP
and MRP expense. We also expect to see a decrease in net interest income
resulting from the interest expense associated with funding the $4.00 special
distribution paid to shareholders on June 24, 1997.
Despite the net loss, the value of your investment has increased significantly
over the past year. Although book value per share decreased from $9.93 on June
30, 1996 to $6.94 on June 30, 1997 (a decrease of $2.99), shareholders have
received $4.36 in dividends. This results in a 13.8% increase in the book value
of your investment.
On August 6, 1997, we announced the information concerning the taxability of the
special $4.00 distribution. The news was better than our original estimate in
that $3.60 is not taxable but will reduce the shareholders' basis in the stock.
The remaining $0.40 is considered a dividend and will be taxable during the
current year as will all other dividends paid during the year.
At the shareholder meeting on November 11, you will be asked to vote on the
final component of our restructuring plan--a one-for-two reverse stock split. If
this measure is approved, we would expect the market price per share to adjust
accordingly, but we do not expect any other market effects. We believe that the
reverse split will be of benefit in that it will establish the price per share
of our stock well above the $10 mark which is the minimum threshold for some
investors and lenders.
We believe that through our actions this year, the future for Frankfort First
Bancorp, Inc. looks bright. As always, we hope that our local shareholders will
remember First Federal for their day-to-day banking needs. Thanks for your
continued support of our Company.
Sincerely,
William C. Jennings
President
1
<PAGE>
Frankfort First Bancorp, Inc.
Frankfort First Bancorp, Inc. (the "Company") was incorporated under
the laws of the State of Delaware in August 1994 at the direction of the Board
of Directors of First Federal Savings Bank of Frankfort ("First Federal" or the
"Bank") for the purpose of serving as a savings institution holding company of
First Federal upon the acquisition of all of the capital stock issued by First
Federal upon its conversion from mutual to stock form (the "Conversion"). The
Conversion was completed July 7, 1995, with the Company issuing 3,450,000 shares
of its common stock, par value $.01 per share (the "Common Stock") to the
public, and the Bank issuing all of its outstanding common stock to the Company.
Prior to and since the Conversion, the Company had not engaged in any material
operations. The Company has no significant assets other than the outstanding
capital stock of First Federal and a note receivable from the Employee Stock
Ownership Plan of the Bank (the "ESOP"). The Company's principal business is the
business of First Federal. At June 30, 1997, the Company had total assets of
$132.0 million, deposits of $86.0 million and shareholders' equity of $22.3
million.
First Federal Savings Bank of Frankfort
First Federal was originally chartered in 1934 as a Kentucky-chartered
building and loan association known as "Greater Frankfort Building and Loan
Association" and was rechartered in 1938 as First Federal Savings and Loan
Association of Frankfort. First Federal has been a member of the Federal Home
Loan Bank ("FHLB") of Cincinnati and its deposits have been federally insured
since 1938. In 1989, First Federal became a federal mutual savings bank and
adopted its current name. First Federal currently operates through three banking
offices located in Frankfort, Kentucky.
First Federal is primarily engaged in the business of attracting
deposits from the general public and originating loans secured by first
mortgages on one- to four-family residences in First Federal's market area.
First Federal also originates, to a lesser extent, church loans, home equity
loans and other loans.
As a federally chartered savings institution, First Federal is subject
to extensive regulation by the OTS. The lending activities and other investments
of First Federal must comply with various federal regulatory requirements, and
the OTS periodically examines First Federal for compliance with various
regulatory requirements. The FDIC also has the authority to conduct special
examinations. First Federal must file reports with the OTS describing its
activities and financial condition and is also subject to certain reserve
requirements promulgated by the Federal Reserve Board.
Both the Company's and First Federal's executive offices are located at
216 W. Main Street, Frankfort, Kentucky 40602, and their main telephone number
is (502) 223-1638.
Market Information
The Common Stock began trading under the symbol "FKKY' on the Nasdaq
National Market on July 10, 1995. There are currently 3,279,952 shares of the
Common Stock outstanding. The number of registered holders of Common Stock on
September 15, 1997 was 664.
2
<PAGE>
The following table shows the high and low stock prices for the Common Stock and
dividends declared on a quarterly basis for the fiscal years ended June 30, 1997
and 1996.
<TABLE>
<CAPTION>
Fiscal 1996 Dividends
Quarter ended High Low Declared
------------- ---- --- --------
<S> <C> <C> <C>
September 30, 1995 $12.875 $11.625 $0.09
December 31, 1995 13.250 12.250 0.09
March 31, 1996 15.250 12.750 0.09 (1)
June 30, 1996 16.250 10.750 4.09 (2)
</TABLE>
<TABLE>
<CAPTION>
Fiscal 1997 Dividends
Quarter ended High Low Declared
------------- ---- --- --------
<S> <C> <C> <C>
September 30, 1996 12.250 9.750 0.09
December 31, 1996 12.125 10.500 0.09
March 31, 1997 11.375 9.750 0.09
June 30, 1997 12.750 8.000 4.09 (3)
</TABLE>
----------------------------
(1) Includes $0.08 deemed to constitute a tax-free return of excess
capital.
(2) Includes $4.04 deemed to constitute a tax-free return of excess
capital.
(3) Includes $3.60 deemed to constitute a tax-free return of excess
capital.
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
The following summary of selected consolidated financial information and
other data does not purport to be complete and is qualified in its entirety by
reference to the detailed information and consolidated financial statements and
accompanying notes appearing elsewhere herein.
Selected Consolidated Financial and Other Data
<TABLE>
<CAPTION>
At June 30,
------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C>
Total amount of:
Assets..................................$ 132,038 $ 128,513 $ 142,772 $ 111,955 $ 105,801
Loans receivable, net................... 120,888 110,331 100,602 98,228 92,839
Cash and investment securities.......... 7,801 14,889 38,918 11,027 10,283
Deposits................................ 85,957 87,777 119,041 89,115 88,736
Advances from FHLB...................... 9,006 4,998 4,416 4,652 --
Shareholders' equity-substantially
restricted (1)........................ 22,345 34,265 18,604 17,715 16,493
Number of:
Real estate loans outstanding........... 2,732 2,685 2,582 2,585 2,586
Deposits accounts....................... 8,032 8,397 8,500 8,586 8,865
Offices................................. 3 3 3 3 3
</TABLE>
- -----------------------------
(1) Consisted solely of retained earnings at June 30, 1993 through June 30, 1995
inclusive.
3
<PAGE>
Summary of Operations
<TABLE>
<CAPTION>
Year Ended June 30,
----------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(Dollars in thousands, except per share data)
<S> <C> <C> <C> <C> <C>
Interest income...................................... $ 9,226 $ 9,699 $ 7,809 $ 7,434 $ 7,961
Interest expense..................................... 4,685 4,585 4,234 3,754 4,108
------- ------- ------- ------- -------
Net interest income.................................. 4,541 5,114 3,575 3,680 3,853
Provision for loan losses............................ 5 12 12 12 12
Other income......................................... 61 54 50 58 94
General, administrative, and other expense........... 4,474 2,669 2,270 1,899 1,859
------- ------- ------- ------- -------
Earnings before federal income taxes................. 123 2,487 1,343 1,827 2,076
Federal income taxes................................. 491 827 454 618 705
Cumulative effect of change in
accounting principle............................... -- -- -- (37) --
Net earnings (loss).................................. $ (368) $ 1,660 $ 889 $ 1,172 $ 1,371
======= ======= ======= ======= =======
Earnings (loss) per share............................ $ (0.12) $ 0.52 n/a n/a n/a
======= ======= ======= ======= =======
</TABLE>
Key Operating Ratios
<TABLE>
<CAPTION>
At or for the Year Ended June 30,
------------------------------------------
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Performance Ratios
Return on assets (net earnings (loss) divided by
average total assets)........................................... (0.28%) 1.20% 0.79%
Return on equity (net earnings (loss) divided by
average equity)................................................. (1.11%) 3.64% 4.90%
Equity to assets ratio (average equity divided by
average total assets)........................................... 25.49% 33.00% 16.04%
Interest rate spread for the period............................... 2.34% 2.12% 2.59%
Net interest margin for the period................................ 3.58% 3.76% 3.24%
Operating expenses to average assets.............................. 3.45% 1.93% 2.01%
Ratio of average interest-earning assets to average
interest-bearing liabilities.................................... 133.50% 148.78% 117.00%
Regulatory Capital Ratios
Tangible capital as a percent of assets........................... 25.86% 25.20% 13.03%
Core capital as a percent of assets............................... 25.86% 25.20% 13.03%
Risk-based capital as a percent of risk-weighted assets........... 50.64% 51.65% 32.34%
Asset Quality Ratio
Non-performing assets to total assets............................. 0.09% 0.09% 0.02%
Loan loss allowance to total assets............................... 0.08% 0.07% 0.06%
Loan loss allowance to total non-performing assets................ 86.21% 80.51% 244.12%
</TABLE>
4
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
General
The Company's principal business, since July 7, 1995, has been that of
First Federal. The principal business of the Bank consists of accepting deposits
from the general public and investing these funds in loans secured by one- to
four-family owner-occupied residential properties in the Bank's primary market
area. The Bank also invests in loans secured by non-owner occupied one to
four-family residential properties and some churches located in the Bank's
primary market area. The Bank also maintains an investment portfolio, most of
which is in the form of U.S. Government agency issues, FHLB stock, FHLB
certificates of deposit, and insured deposit accounts held at other
institutions.
The Bank's net earnings are dependent primarily on its net interest
income, which is the difference between interest income earned on its loan and
investment portfolio and interest paid on interest-bearing liabilities. To a
lesser extent, the Bank's net earnings are also affected by the level of other
income, such as service charges and other fees. For the year ended June 30,
1997, net interest income amounted to $4.5 million, and other income amounted to
$61,000. In addition, net earnings are affected by the level of general,
administrative and other expenses. First Federal's net earnings are also
affected by competitive conditions in the Bank's market area. Due to significant
competition from other institutions, and given the relative lack of diversity in
the Bank's lending and investment portfolios, the yields on the Bank's assets
are somewhat below average. Further, First Federal's sources of fee income and
other non-interest income are relatively limited. Thus, the Bank's net earnings
are limited by a relatively low net interest margin and relatively low levels of
non-interest income. First Federal's significant investment in adjustable rate
mortgage loans has in some cases further served to limit the Bank's earnings
potential.
The operations of First Federal and the entire thrift industry's
earnings are significantly affected by prevailing economic conditions,
competition, and the monetary and fiscal policies of governmental agencies.
Lending activities are influenced by the demand for and supply of housing,
competition among lenders, the level of interest rates, and the availability of
funds. The Bank's deposit flows and costs of funds are influenced by prevailing
market rates of interest--primarily on competing investments, account
maturities, and the levels of personal income and savings in the Bank's market
area.
Restructuring Plan
In June 1997, the Company's Board of Directors approved a plan designed
to improve the Company's profitability through a series of actions consisting of
a special cash distribution of $4.00 per share, termination of the Company's
employee stock ownership plan ("ESOP") and management recognition plan ("MRP")
and a proposed one-for-two reverse stock split. The special cash distribution of
$4.00 was paid on June 24, 1997. The reverse stock split is subject to
shareholder approval at the Company's 1997 annual meeting of shareholders. For
information regarding the fiscal year 1997 expense related to termination of the
ESOP and MRP as well as the impact of the restructuring on future expense, see
"--Comparison of Operating Results for the Years Ended June 30, 1997 and 1996 --
General, Administrative, and Other Expenses." For a discussion of the plan's
impact on the Company's shareholders' equity, see "--Comparison of Financial
Condition at June 30, 1997 and 1996 -- Shareholders' Equity," and "Note A
Section 8 of the Notes to Consolidated Financial Statements."
Asset/Liability Management
Net interest income, the primary component of the Bank's net earnings,
is derived from the difference or "spread" between the yield on interest-earning
assets and the cost of interest-bearing liabilities. First Federal has sought to
reduce its exposure to changes in interest rates by matching the effective
maturities or repricing characteristics of its interest-sensitive assets and
liabilities. In accordance with the Bank's interest rate risk policy, management
has emphasized the origination of adjustable rate mortgages with rate
adjustments indexed to the National Average Contract Interest Rate for Major
Lenders on the Purchase of Previously Occupied Homes
5
<PAGE>
("NACR"). The Bank also offers fixed-rate mortgages which are fully or partially
funded with long-term advances from the Federal Home Loan Bank of Cincinnati.
Management believes that these fixed rate loan originations are beneficial in
that they allow the Bank to respond to customer demand without incurring undue
interest rate or credit risk and without an increase in operating expenses. At
June 30, 1997, first mortgage loans with adjustable rates represented 80.6% of
the Bank's mortgage loan portfolio. Nearly all of the Bank's adjustable rate
mortgage loans have an annual adjustment cap of one percent and a lifetime cap
of five percent. These caps may restrict the interest rates from increasing at
the same pace that the Bank's cost of funds increase. In addition, some of the
rates on adjustable rate mortgages may already be at their lifetime cap or
lifetime floor. The Bank currently expects to fund future loan growth from
working capital, FHLB advances, and proceeds from deposit growth.
The Bank's Asset/Liability management program primarily involves
monitoring of Net Present Value ("NPV") through interest rate sensitivity
analysis. NPV represents the market value of portfolio equity and is equal to
the market value of assets minus the market value of liabilities, with
adjustments made for off-balance sheet items. Management monitors and considers
methods of managing the rate sensitivity and repricing characteristics of
balance sheet components in an effort to maintain acceptable levels of change in
NPV and net interest income in the event of changes in prevailing market
interest rates. Interest rate sensitivity analysis is used to measure the
Company's interest rate risk by computing estimated changes in NPV that are a
result of changes in the net present value of its cash flows from assets,
liabilities, and off-balance sheet items. These changes in cash flow are
estimated based on hypothetical instantaneous and permanent 1% through 4%
increases and decreases in market interest rates.
In the Bank's interest rate risk policy, the Board of Directors has
established maximum decreases in NPV given these instantaneous changes in
interest rates. The Company's exposure to interest-rate risk is reviewed on a
quarterly basis by the Board of Directors. If estimated changes to NPV are not
within the limits established by the Board, the Board may direct management to
adjust its asset and liability mix to bring interest rate risk within
Board-approved limits.
The following table sets forth the interest rate sensitivity of the
Bank's NPV as of June 30, 1997 in the event of 1%, 2%, 3%, and 4% instantaneous
and permanent increases and decreases in market interest rates, respectively.
All market risk sensitive instruments presented in this table are held to
maturity. The Company has no trading securities or securities available for
sale.
<TABLE>
<CAPTION>
Board of
Director
Net Portfolio Value NPV as % of Portfolio Value of Assets Limits
Change -------------------------------------- ------------------------------------- ------
in Rates Amount $Change %Change NPV Ratio Basis Point Changes %Change
- -------- ------ ------- ------- --------- ------------------- -------
<S> <C> <C> <C> <C> <C> <C>
+400bp $ 27,957 $ (7,849) (22%) 23.20% (378 bp) 50%
+300bp 30,370 (5,436) (15%) 24.51% (247 bp) 35
+200bp 32,639 (3,167) (9%) 25.65% (133 bp) 25
+100bp 34,518 (1,288) (4%) 26.50% (48 bp) 10
0bp 35,806 - - 26.98% - -
-100bp 36,223 417 1% 26.94% (4 bp) 10
-200bp 36,043 237 1% 26.57% (41 bp) 25
-300bp 35,754 (52) 0% 26.11% (87 bp) 35
-400bp 35,702 (104) 0% 25.77% (121 bp) 50
</TABLE>
6
<PAGE>
The preceding table indicates that at June 30, 1997, in the event of a
sudden and sustained increase in prevailing market interest rates, the Company's
NPV would be expected to decrease, and that in the event of a sudden and
sustained decrease in prevailing interest rates, the Company's NPV would be
expected to increase slightly or stay the same. At June 30, 1997, the Company's
estimated changes in NPV were within the targets established by the Board of
Directors.
NPV is calculated by the Office of Thrift Supervision using information
provided by the Company. The calculation is based on the net present value of
discounted cash flows utilizing market prepayment assumptions and market rates
of interest. Computations of prospective effects of hypothetical interest rate
changes are based on numerous assumptions, including relative levels of market
interest rates, loan prepayments, and deposit run-offs. These computations
should not be relied upon as indicative of actual results. Further, the
computations do not contemplate any actions the Bank may undertake in response
to changes in interest rates.
Certain shortcomings are inherent in this method of computing of NPV.
For example, although certain assets and liabilities may have similar maturities
or periods to repricing, they may react in differing degrees to changes in
market interest rates. The interest rates on certain types of assets and
liabilities may fluctuate in advance of changes in market interest rates, while
interest rates on other types may lag behind changes in market rates.
Additionally, certain assets, such as adjustable rate loans, which represent the
Bank's primary loan product, have features which restrict changes in interest
rates on a short-term basis and over the life of the asset. In addition, the
proportion of adjustable rate loans in the Bank's portfolio could decrease in
future periods if market interest rates remain at or decrease below current
levels due to refinance activity. Further, in the event of a change in interest
rates, prepayment and early withdrawal levels would likely deviate significantly
from those assumed in the tables. Finally, the ability of many borrowers to
service their adjustable-rate debt may decrease in the event of an interest rate
increase.
The OTS adopted a final rule in August of 1993 incorporating an
interest rate risk ("IRR") component into the risk-based capital rules. The new
rule became effective January 1, 1994, with institutions first required to meet
the new standards at July 1, 1994. The IRR component is a dollar amount that
will be deducted from total capital for the purpose of calculating an
institution's risk-based capital requirement and is measured in terms of the
sensitivity of its NPV to changes in interest rates. An institution's IRR is
measured as the change to its NPV as a result of a hypothetical 200 basis point
change in market interest rates. A resulting change in NPV of more than 2% of
the estimated market value of its assets will require the institution to deduct
from its capital 50% of that excess change. Under the rule, the OTS calculates
the IRR component quarterly for each institution with information as of the
preceding quarter end. Savings institutions 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 savings institution that it determines may have
a high level of interest rate risk exposure to file such schedule on a quarterly
basis. Based on the Bank's asset size and capital ratio at June 30, 1997, it was
not subject to any increased capital requirements in connection with its level
of interest rate risk.
The following table sets forth the interest rate risk capital component
for the Bank at June 30, 1997 and 1996 given a hypothetical 200 basis point rate
change in market interest rate.
<TABLE>
<CAPTION>
At At
June 30, June 30,
1997 1996
<S> <C> <C>
Pre-Shock NPVRatio: NPV as % of Portfolio Value of Assets......... 26.98% 25.68%
Exposure Measure: Post-Shock NPVRatio............................. 25.65% 23.89%
Sensitivity Measure: Change in NPVRatio........................... (133 bp) (179 bp)
Interest Rate Risk Capital Component ($000)....................... -- --
</TABLE>
7
<PAGE>
Average Balance, Interest and Average Yields and Rates
The following table sets forth certain information relating to the
Bank's average balance sheet and reflects an average yield on assets and average
cost of liabilities for the periods indicated and the average yields earned and
rates paid 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. Average balances are
derived from monthly balances. Management does not believe that the use of
monthly balances instead of daily balances has caused any material difference in
the information presented.
The table also presents information for the periods indicated with
respect to the difference between the weighted average yield earned on
interest-earning assets and weighted average rate paid on interest-bearing
liabilities, or "interest rate spread," which savings institutions have
traditionally used as an indicator of profitability. Another indicator of an
institution's net interest income is its "net interest margin." Net interest
income is affected by the interest rate spread and by 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.
8
<PAGE>
<TABLE>
<CAPTION>
1997 1996
Average Average
Average Yield/ Average Yield/
Balance Interest Cost Balance Interest Cost
------- -------- ---- ------- -------- ----
(Dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable........................ $115,690 $8,579 7.42% $104,602 $7,880 7.53%
Investment securities (1)............... 11,026 647 5.87% 31,488 1,819 5.78%
------ --- ------ -----
Total interest-earning assets........ 126,716 9,226 7.28% 136,090 9,699 7.13%
Non-interest-earning assets................. 2,867 2,030
----- -----
Total assets......................... $129,583 $138,120
======== ========
Interest bearing liabilities:
Deposits................................ 86,826 4,196 4.83% 86,886 4,296 4.94%
Borrowings.............................. 8,094 489 6.04% 4,586 289 6.30%
----- ----- ----- -----
Total interest-bearing liabilities... 94,920 4,685 4.94% 91,472 4,585 5.01%
Non-interest-bearing liabilities............ 1,638 1,074
------ ------
Total liabilities.................... 96,558 92,546
Shareholders' equity (2).................... 33,025 45,574
------ ------
Total liabilities and shareholders'
equity............................ $129,583 $138,120
======== ========
Net yield on interest-earnings assets....... $4,541 $5,114
====== ======
Interest rate spread........................ 2.34% 2.12%
===== =====
Net interest margin......................... 3.58% 3.76%
===== =====
Average interest-earning assets as
a percentage of average interest-
bearing liabilities..................... 133.50% 148.78%
======= =======
<CAPTION>
1995
Average
Average Yield/
Balance Interest Cost
------- -------- ----
(Dollars in thousands)
<S> <C> <C> <C>
Interest-earning assets:
Loans receivable........................ $101,227 $7,340 7.25%
Investment securities (1)............... 8,996 469 5.21%
----- ---
Total interest-earning assets........ 110,223 7,809 7.08%
Non-interest-earning assets................. 2,974
-----
Total assets......................... $113,197
========
Interest bearing liabilities:
Deposits................................ 89,647 3,946 4.40%
Borrowings.............................. 4,559 228 6.32%
------ -----
Total interest-bearing liabilities... 94,206 4,234 4.49%
Non-interest-bearing liabilities............ 832
------
Total liabilities.................... 5,038
Shareholders' equity (2).................... 18,159
------
Total liabilities and shareholders'
equity............................ $113,197
========
Net yield on interest-earnings assets....... $3,575
======
Interest rate spread........................ 2.59%
======
Net interest margin......................... 3.24%
======
Average interest-earning assets as
a percentage of average interest-
bearing liabilities..................... 117.00%
=======
</TABLE>
- --------------------------------------------------------------------------------
(1) Includes cash and cash equivalents and interest bearing deposits at other
financial institutions.
(2) Consisted solely of retained earnings for the fiscal year ended June 30,
1995.
9
<PAGE>
Rate/Volume Analysis
The table below sets forth certain information regarding changes in
interest income and interest expense of the Company for the periods indicated.
For each category of interest-earning assets and interest-bearing liabilities,
information is provided on changes attributable to: (i) changes in volume
(changes in volume multiplied by old rate), (ii) changes in rates (change in
rate multiplied by old volume), and (iii) total change. Changes in rate-volume
(changes in rate multiplied by changes in volume) are allocated proportionately
between changes in rate and changes in volume.
<TABLE>
<CAPTION>
Year Ended June 30,
-------------------------------------------------------------
1997 vs. 1996 1996 vs. 1995
-------------------------- -------------------------
Increase (Decrease) Increase (Decrease)
Due to Due to
------------------------- -------------------------
Volume Rate Total Volume Rate Total
------ ---- ----- ------ ---- -----
<S> <C> <C> <C> <C> <C> <C>
Interest income:
Loan portfolio................................... $ 825 $ (126) $ 699 $ 247 $ 293 $ 540
Investment securities (1)........................ (1,200) 28 (1,172) 1,179 171 1,350
------- ------- ------- -------- ------- -------
Total interest-earning assets.................. (375) (98) (473) 1,426 464 1,890
Interest expense:
Savings deposits................................. (3) (97) (100) (141) 491 350
FHLB Advances.................................... 212 (12) 200 2 (1) 1
------- ------- ------- -------- ------- -------
Total interest-bearing
liabilities.................................... 209 (109) 100 (139) 490 351
------- ------- ------- -------- ------- -------
Change in net interest income..................... $ (375) $ (98) $ (473) $ 1,426 $ 464 $ 1,890
======= ======= ======= ======== ======= =======
</TABLE>
- -------------------------
(1) Includes cash and cash equivalents and interest-bearing deposits at other
financial institutions.
10
<PAGE>
Note Regarding Forward-Looking Statements
In addition to historical information contained herein, the following
discussion contains forward-looking statements that involve risks and
uncertainties. Economic circumstances, the Company's operations, and the
Company's actual results could differ significantly from those discussed in the
forward-looking statements. Some of the factors that could cause or contribute
to such differences are discussed herein but also include changes in the economy
and interest rates in the nation and the Company's market area generally.
Comparison of Financial Condition at June 30, 1997 and 1996
Assets: The Company's total assets increased from $128.5 million at
June 30, 1996 to $132.0 million at June 30, 1997, an increase of $3.5 million or
2.7%. The increase is due primarily to the increase in net loans receivable of
$11.0 million despite decreases in cash and cash equivalents and investment
securities.
Loan disbursements totaled $33.5 million in fiscal 1997 and were
partially offset by principal repayments of $23.0 million for an increase in net
loans receivable of $10.5 million. At June 30, 1997, the Company's allowance for
loan losses totaled $100,000 representing approximately 0.08% of total loans and
86.2% of nonperforming loans (loans past due 90 days or more but still
accruing). This allowance totaled $95,000 at June 30, 1996. Nonperforming loans
totaled $116,000 and $118,000 at June 30, 1997 and 1996, respectively, or 0.10%
and 0.11% of total loans at these respective dates. At both dates, the
percentage of nonperforming loans to total loans was far below industry
averages. Although management believes that its allowance for loan losses at
June 30, 1997 was adequate based upon facts and circumstances available, there
can be no assurance that unanticipated additions to this allowance will not be
necessary in future periods, which could adversely affect the Company's results
of operations.
Liabilities: Deposits decreased from $87.8 million at June 30, 1996 to
$86.0 million at June 30, 1997, a decrease of $1.8 million or 2.1%. The slight
decrease was due to several factors including the loss of approximately $1.9
million from an account held by the Company's ESOP and used to pay down the ESOP
note. Other factors resulting in the Company's lack of deposit growth include
increased competition in the Company's market area as well as the Company's
increasing reliance on FHLB Advances which are more easily matched to the
Company's asset portfolio.
FHLB Advances increased from $5.0 million at June 30, 1996 to $9.0
million at June 30, 1997, an increase of $4.0 million or 80.2%. The proceeds
from the increase in the balance of these advances were used to fund the
increase in the Company's net loans. Other borrowed money increased from
$500,000 at June 30, 1996 to $13.0 million at June 30, 1997. On June 24, 1997,
the Company borrowed this $13.0 million to fund the special $4.00 per share
distribution paid to shareholders on that date. Since June 30, 1997, the Company
has repaid $11.0 million of this loan with the proceeds of a dividend from the
Bank. In turn, the Bank has increased its FHLB Advances by $11.0 million to fund
this dividend.
Shareholders' Equity. Shareholders' Equity decreased from $34.3 million
at June 30, 1996 to $22.3 million at June 30, 1997, a decrease of $11.9 million
or 34.8%. This decrease was primarily caused by the special distribution paid to
shareholders on June 24, 1997 in the aggregate amount of $13.5 million, along
with four regular dividends paid during the year totaling $1.2 million. Also,
the Company repurchased 65,000 of its shares during the year at a cost of
$666,000 which also decreased shareholders' equity. Offsetting this decrease was
the elimination of both the Company's ESOP and MRP benefit plans. Specifically,
105,048 shares held by the MRP were cancelled and $1.9 million was paid by the
ESOP trust on the ESOP's loan to the holding company. In addition, 22,583 shares
were allocated under the ESOP as the normal allocation for the year ended June
30, 1997. Management anticipates that the remainder of the ESOP loan to the
holding company will be paid off on or about December 31, 1997. At June 30,
1997, the Company's book value per share was $6.94 compared to $9.93 at June 30,
1996.
11
<PAGE>
Comparison of Operating Results for the Years Ended June 30, 1997 and 1996
Net Earnings. Net earnings decreased from a total of $1.7 million for
the year ended June 30, 1996 to a net loss of $368,000 for the year ended June
30, 1997, a difference of $2.0 million. The primary reason for the decline in
earnings was the one-time charge to terminate the Company's MRP and ESOP plans.
Other factors included the decrease in net interest income caused by the
decrease in interest-earning assets as a result of the $4 special distribution
paid to shareholders on June 3, 1996 and the one-time assessment of $567,000 to
recapitalize the Savings Association Insurance Fund ("SAIF").
Net Interest Income. Net interest income decreased from $5.1 million
for the year ended June 30, 1996 to $4.5 million for the year ended June 30,
1997, a decrease of $573,000 or 11.2%. The primary reason for the decrease was
the $473,000 decrease in interest income.
Interest Income. Interest income decreased from $9.7 million for the
year ended June 30, 1996 to $9.2 million for the year ended June 30, 1997, a
decrease of $473,000 or 4.9%. The primary reason for this decrease was the $9.4
million decrease in average interest-earning assets that resulted from the
special distribution paid to shareholders on June 3, 1996 in the amount of $13.8
million. Average interest-earning assets decreased from $136.1 million for the
year ended June 30, 1996 to $126.7 million for the year ended June 30, 1997.
Interest Expense. Interest expense increased from $4.6 million for the
year ended June 30, 1996 to $4.7 million for the year ended June 30, 1997, an
increase of $100,000 or 2.2%. The increase was due to the $3.5 million increase
in the level of average FHLB advances outstanding, which was partially offset by
a slight decrease in the average rate paid on deposits. Management expects
interest expense to increase in future periods due to the borrowing of $13
million to fund the special $4 distribution paid to shareholders on June 24,
1997.
Provision for Loan Losses. The Company's provision for losses on loans
for the year ended June 30, 1997 was $5,000 compared to $12,000 for the year
ended June 30, 1996. The Board of Directors periodically reviews the allowance
for loan losses and has determined that, based on a variety of factors, this
allowance was adequate. There can be no assurance that the allowance for loan
losses will be adequate to cover losses on nonperforming assets in the future.
Other Operating Income. Other operating income increased from $54,000
for the year ended June 30, 1996 to $61,000 in the year ended June 30, 1997.
Other operating income is generally comprised of service charges and fees on
loan and deposit accounts.
General, Administrative, and Other Expense. General, administrative,
and other expense increased from $2.7 million for the year ended June 30, 1996
to $4.5 million for the year ended June 30, 1997, an increase of $1.8 million or
67.6%. Expense for employee compensation and benefits increased by $1.3 million,
which primarily relates to the termination of the MRP and ESOP, although
approximately $100,000 of this increase represented the payment required under
the MRP to the estate of Director Joseph R. Johnson at his death. Management
fully expects that expense for compensation and benefits will be significantly
reduced in future periods due to the elimination of the ongoing expense of these
two plans. Also, the termination of the plans eliminates potential unexpected
expenses associated with the plans such as payments to participants who die or
become disabled or increased expenses due to increases in the market value of
the Company's stock.
The expense for FDIC premiums increased by $494,000 from the year ended
June 30, 1996 to the year ended June 30, 1997. This increase was caused by the
one-time charge of $567,000 to recapitalize the SAIF. Insurance premiums in the
periods subsequent to the recapitalization have been substantially less than in
previous periods, and management expects the lower premiums to continue into the
foreseeable future. There was relatively little change in the other expense
categories that make up general, administrative, and other expenses.
Income Tax. The effective tax rate for the year ended June 30, 1996 was
33.3%. Although the Company experienced a net loss in the year ended June 30,
1997, the Company did provide for $491,000 in federal income taxes due to the
fact that most of the expense involved with the termination of the ESOP was not
deductible for tax purposes.
12
<PAGE>
Comparison of Operating Results for the Years Ended June 30, 1996 and 1995
Net Earnings. Net earnings increased from $889,000 for the year ended
June 30, 1995 to $1.7 million for the year ended June 30, 1996, an increase of
$771,000 or 86.7%. The primary reason for the increase is the increase in
interest-earning assets purchased with proceeds from the conversion.
Net Interest Income. Net interest income increased from $3.6 million
for the fiscal year ended June 30, 1995 to $5.1 million for the fiscal year
ended June 30, 1996, an increase of $1.5 million or 43.0%. The primary reason
for the increase was the $25.9 million or 23.5% increase in interest-earning
assets purchased with proceeds from the Company's stock offering.
Interest Income. Interest income increased from $7.8 million for the
fiscal year ended June 30, 1995 to $9.7 million for the fiscal year ended June
30, 1996 for an increase of $1.9 million or 24.2%. The primary reason for the
increase is the increase in interest-earning assets purchased with proceeds from
the Conversion. These assets include residential mortgage loans, investment
securities, and deposits in interest-bearing bank accounts. As mentioned above,
as of June 3, 1996 the Company returned $13.8 million to the shareholders, thus
reducing the Bank's interest-earning assets. Primarily, the $13.8 million had
been held in short-term interest-bearing accounts.
Interest Expense. Interest expense increased from $4.2 million for the
year ended June 30, 1995 to $4.6 million for the year ended June 30, 1996, an
increase of $351,000 or 8.3%. This increase is due primarily to higher
prevailing interest rates in the earlier part of this fiscal year. In addition,
a portion of the Bank's certificates of deposits reflect the higher interest
rates experienced in fiscal 1995.
Provision for Losses on Loans. The Company's provision for losses on
loans for the year ended June 30, 1996 was $12,000. The Board of Directors
periodically reviews the allowance for loan losses and determined that, based on
a variety of factors, this allowance was adequate. There can be no assurance
that the allowance for loan losses will be adequate to cover losses on
nonperforming assets in the future.
Other Operating Income. Other operating income was virtually the same
for fiscal years 1995 and 1996. Other operating income is generally comprised of
service charges and fees on loan and deposit accounts.
General, Administrative and Other Expense. General, administrative, and
other expense increased from $2.3 million for the year ended June 30, 1995 to
$2.7 million for the year ended June 30, 1996, an increase of $399,000 or 17.6%.
This increase includes an increase in employee compensation and benefits of
$209,000 or 15.9% which is primarily a result of the costs attendant to the
Company's Employee Stock Ownership Plan as implemented in connection with the
Conversion and the accruals for the Company's Management Recognition Plan
("MRP") as approved at the Annual Meeting of Shareholders on January 16, 1996.
Other increases in expenses during the year ended June 30, 1996 include
an increase of $167,000 or 53.9% in other operating expenses which includes
professional fees, annual meeting expenses, and transfer services which are
essential for a publicly traded company. Also, franchise and other taxes, which
includes Kentucky income tax on the Company's earnings and Delaware franchise
taxes, increased by $49,000 or 49.0%.
Income Tax. The effective tax rate for the year ended June 30, 1996 was
33.3% compared to 33.8% for the year ended June 30, 1995. Overall expense
increased from $454,000 for the year ended June 30, 1995 to $827,000 for the
year ended June 30, 1996. The increase was due to the Company's $1.1 million or
85.2% increase in pretax earnings.
13
<PAGE>
Liquidity and Capital Resources
Since July 7, 1995, the Company has had no business other than that of
the Bank and investment of the portion of the net Conversion proceeds retained
by the Company. Management believes that dividends that may be paid from the
Bank to the Company will provide sufficient funds for its future operations,
including the servicing of debt. The Company's primary sources of liquidity are
dividends paid by the Bank. The Bank is subject to certain regulatory
limitations with respect to the payment of dividends to the Company. The Company
loaned a portion of the net proceeds retained from the Conversion to the ESOP to
permit its purchase of Common Stock in the Conversion; however, at June 30, 1997
all but $414,000 of this loan had been repaid. At June 30, 1997, the Bank
exceeded all regulatory minimum capital requirements.
The Bank's primary sources of funds are (i) cash generated from
operations, (ii) deposits, (iii) principal repayments on loans, and (iv)
advances from the FHLB of Cincinnati. As reflected in the Statement of Cash
Flows, net cash flows provided by operating activities for fiscal years 1997,
1996, and 1995 were $2.0 million, $2.6 million, and $651,000.
Net cash used in investing activities for fiscal years 1997, 1996, and
1995 were $6.6 million, $18.9 million, and $489,000, respectively. Amounts
fluctuate from period to period primarily as a result of the volume of principal
repayments on loans and loan disbursements.
Net cash provided by financing activities was $1.6 million for fiscal
1997; net cash used in financing activities was $16.5 million for fiscal 1996;
and net cash provided by financing activities for fiscal year 1995 was $29.7
million.
The primary investing activity of the Bank is the origination of
mortgage loans. During the years ended June 30, 1997, 1996 and 1995, the Bank
originated mortgage loans in the amounts of $33.5 million, $32.2 million and
$20.0 million, respectively. Other investing activities include investment in
U.S. Government agency issues, FHLB certificates of deposit, and insured
certificates of deposits in other institutions. The Bank may in the future
consider other investing activities that may provide higher yields. The primary
financing activity of the Bank is the attraction of savings deposits, though the
Bank has somewhat reduced its reliance on deposits as a source of funds in
recent periods due to competitive conditions in First Federal's market area.
Deposits decreased by $1.8 million during the fiscal year ended June 30, 1997.
Another source of liquidity is the Bank's ability to obtain advances
from the FHLB of Cincinnati. In addition, the Bank maintains a portion of its
investments in FHLB overnight funds that will be available when needed.
The Bank is required to maintain minimum levels of liquid assets as
defined by OTS regulations. This requirement, which may be changed at the
direction of the OTS depending upon economic conditions and deposit flows, is
based upon a percentage of deposits and short-term borrowings. The required
minimum ratio is currently 5.0%. The Bank's liquidity ratios were 7.8%, 10.4%,
and 24.2% at June 30, 1997, 1996, and 1995, respectively. Historically,
management of the Bank has sought to maintain a relatively high level of
liquidity in order to retain flexibility in terms of investment opportunities
and deposit pricing. If necessary, the Bank could elect to increase its
borrowings from the FHLB of Cincinnati or increase its rates on deposits in
order to generate additional funds, and net earnings in future periods could be
adversely affected as a result. See "--Comparison of Financial Condition at June
30, 1997 and 1996."
The Bank's most liquid asset is cash held in an interest-bearing
overnight interest account at the FHLB of Cincinnati. The level of cash is
dependent on the Bank's operating, financing and investing activities during any
given period. At June 30, 1997, 1996 and 1995, cash totaled $2.8 million, $5.8
million, and $38.6 million, respectively.
Management believes that the Bank will have sufficient funds available
to meet its current commitments. At June 30, 1997, the Bank had commitments to
originate loans of $1.4 million. Additionally, the Bank was obligated under
unused lines of credit totaling $4.5 million. Certificates of deposit which were
scheduled to mature is less than one year at June 30, 1997, totaled $43.5
million. On the basis of historical experience, management believes that a
significant portion of such deposits will remain with the Bank.
14
<PAGE>
Impact of Inflation and Changing Prices
The consolidated financial statements of the Company and notes thereto,
presented elsewhere herein, have been prepared in accordance with generally
accepted accounting principles, which required the measurement of financial
position and operating results in terms of historical dollars without
considering the change in the relative purchasing power of money over time and
due to inflation. The impact of inflation is reflected in the increased costs of
the Company's operations. Unlike most industrial companies, nearly all the
assets and liabilities of the Company are monetary. As a result, interest rates
have a greater impact on the Company'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.
Impact of Recent Accounting Pronouncements
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 SFAS No. 123 will not have a material
effect on the Company's consolidated financial condition or results of
operations.
Accounting for Transfers of Financial Assets. In June 1996, the FASB
issued SFAS No. 125, "Accounting for Transfers 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 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, make use of special purpose entitles 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
obligation 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, 1997, 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.
In February, 1997, the FASB issued SFAS No. 128, "Earnings Per Share,"
which requires companies to present basic earnings per share and, if applicable,
diluted earnings per share, instead of primary and fully diluted earnings per
share, respectively. Basic earnings per share is computed without including
potential common shares, i.e., no dilutive effect.
15
<PAGE>
Diluted earnings per share is computed taking into consideration common shares
and potentially dilutive common shares, including options, warrants, convertible
-----------
securities, and contingent stock agreements. SFAS No. 128 is effective for
periods ending after December 15, 1997. Early application is not permitted.
Based upon the provisions of SFAS No. 128, the Company's basic and diluted loss
per share for the fiscal year ended June 30, 1997, would have been $(0.12) and
$(0.12), respectively. Basic and diluted earnings per share for the fiscal year
ended June 30, 1996, would have been $0.52 and $0.52, respectively.
In June, 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income," which requires entities presenting a complete set of financial
statements to include details of comprehensive income that arise in the
reporting period. Comprehensive income consists of net earnings or loss for the
current period and other comprehensive income--expenses, gains, and losses that
bypass the statement of earnings and are reported in a separate component of
equity, i.e., unrealized gains and losses on certain investment securities. SFAS
No. 130 is effective for fiscal years beginning after December 15, 1997. The
adoption of SFAS No. 130 relates solely to disclosure provisions and therefore
will not have a material effect on the Company's consolidated financial position
or results of operations.
16
<PAGE>
Report of Independent Certified Public Accountants
--------------------------------------------------
Board of Directors
Frankfort First Bancorp, Inc.
We have audited the accompanying consolidated statements of financial condition
of Frankfort First Bancorp, Inc. as of June 30, 1997 and 1996, and the related
consolidated statements of operations, shareholders' equity, and cash flows for
the years then ended. These consolidated financial statements are the
responsibility of the Corporation's management. Our responsibility is to express
an opinion on these financial statements based on our audits. The financial
statements as of and for the year ended June 30, 1995, were audited by other
auditors, whose report thereon dated July 20, 1995, expressed an unqualified
opinion on those statements.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Frankfort First
Bancorp, Inc. as of June 30, 1997 and 1996, and the consolidated results of its
operations and its consolidated cash flows for each of the years ended June 30,
1997 and 1996, in conformity with generally accepted accounting principles.
Cincinnati, Ohio
August 19, 1997
17
<PAGE>
Frankfort First Bancorp, Inc.
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
June 30,
(In thousands, except share data)
<TABLE>
<CAPTION>
ASSETS 1997 1996
<S> <C> <C>
Cash and due from banks $ 161 $ 144
Interest-bearing deposits in other financial institutions 2,590 5,673
--------- ---------
Cash and cash equivalents 2,751 5,817
Certificates of deposit in other financial institutions 200 200
Investment securities - at amortized cost, approximate market value
of $4,819 and $8,811 as of June 30, 1997 and 1996 4,850 8,872
Loans receivable - net 120,888 110,331
Office premises and equipment - at depreciated cost 1,573 1,606
Federal Home Loan Bank stock - at cost 1,156 1,078
Accrued interest receivable on loans 316 264
Accrued interest receivable on investments and
interest-bearing deposits 79 156
Prepaid expenses and other assets 95 126
Prepaid federal income taxes -- 21
Deferred federal income taxes 130 42
--------- ---------
Total assets $ 132,038 $ 128,513
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Deposits $ 85,957 $ 87,777
Advances from the Federal Home Loan Bank 9,006 4,998
Other borrowed money 13,000 500
Advances by borrowers for taxes and insurance 298 267
Accrued interest payable 129 138
Other liabilities 1,162 568
Accrued federal income taxes 141 --
--------- ---------
Total liabilities 109,693 94,248
Commitments -- --
Shareholders' equity
Preferred stock, 5,000,000 shares authorized, $.01 par value;
no shares issued -- --
Common stock, 7,500,000 shares authorized, $.01 par value;
3,450,000 shares issued 35 35
Additional paid-in capital 5,858 19,595
Retained earnings - restricted 17,532 19,120
Shares acquired by stock benefit plans (414) (4,485)
Less 65,000 shares of treasury stock - at cost (666) --
--------- ---------
Total shareholders' equity 22,345 34,265
--------- ---------
Total liabilities and shareholders' equity $ 132,038 $ 128,513
========= =========
</TABLE>
The accompanying notes are an integral part of these statements.
18
<PAGE>
Frankfort First Bancorp, Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS
For the year ended June 30,
(In thousands, except share data)
<TABLE>
<CAPTION>
1997 1996 1995
<S> <C> <C> <C>
Interest income
Loans $ 8,579 $ 7,880 $ 7,340
Investment securities 379 486 74
Interest-bearing deposits and other 268 1,333 395
------- ------- -------
Total interest income 9,226 9,699 7,809
Interest expense
Deposits 4,196 4,296 3,946
Borrowings 489 289 288
------- ------- -------
Total interest expense 4,685 4,585 4,234
------- ------- -------
Net interest income 4,541 5,114 3,575
Provision for losses on loans 5 12 12
------- ------- -------
Net interest income after provision
for losses on loans 4,536 5,102 3,563
Other operating income 61 54 50
General, administrative and other expense
Employee compensation and benefits 2,869 1,522 1,313
Occupancy and equipment 162 167 165
Federal deposit insurance premiums 725 231 255
Franchise and other taxes 149 149 100
Data processing 126 123 127
Other operating 443 477 310
------- ------- -------
Total general, administrative and other expense 4,474 2,669 2,270
------- ------- -------
Earnings before income taxes 123 2,487 1,343
Federal income taxes
Current 579 857 502
Deferred (88) (30) (48)
------- ------- -------
Total federal income taxes 491 827 454
------- ------- -------
NET EARNINGS (LOSS) $ (368) $ 1,660 $ 889
======= ======= =======
EARNINGS (LOSS) PER SHARE $ (.12) $ .52 N/A
======= ======= =======
</TABLE>
The accompanying notes are an integral part of these statements.
19
<PAGE>
Frankfort First Bancorp, Inc.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
For the years ended June 30, 1997, 1996 and 1995
(In thousands, except share data)
<TABLE>
<CAPTION>
Shares
Additional acquired
Common paid-in Retained by stock Treasury
stock capital earnings benefit plans stock Total
<S> <C> <C> <C> <C> <C> <C>
Balance at July 1, 1994 $ - $ - $ 17,715 $ - $ - $ 17,715
Net earnings for the year ended June 30, 1995 - - 889 - - 889
--- ------ ------ ----- ---- ------
Balance at June 30, 1995 - - 18,604 - - 18,604
Net proceeds from issuance of common stock 35 33,355 - (2,710) - 30,680
Shares acquired by stock benefit plans - - - (1,974) - (1,974)
Principal repayments on loan to ESOP and amortization of
expense related to stock benefit plans - 40 - 199 - 239
Net earnings for the year ended June 30, 1996 - - 1,660 - - 1,660
Capital distributions of $4.36 per common share - (13,800) (1,144) - - (14,944)
--- ------ ------ ----- ---- ------
Balance at June 30, 1996 35 19,595 19,120 (4,485) - 34,265
Purchase of treasury shares - - - - (666) (666)
Principal repayments on loan to ESOP in conjunction
with pending termination of the plan - (197) - 4,071 - 3,874
Net loss for the year ended June 30, 1997 - - (368) - - (368)
Capital distributions of $4.36 per common share - (13,540) (1,220) - - (14,760)
--- ------ ------ ----- ---- ------
Balance at June 30, 1997 $35 $ 5,858 $ 17,532 $ (414) $(666) $ 22,345
=== ====== ====== ===== ==== ======
</TABLE>
The accompanying notes are an integral part of these statements.
20
<PAGE>
Frankfort First Bancorp, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the year ended June 30,
(In thousands)
<TABLE>
<CAPTION>
1997 1996 1995
Cash flows from operating activities:
<S> <C> <C> <C>
Net earnings (loss) for the year $ (368) $ 1,660 $ 889
Adjustments to reconcile net earnings (loss) to net cash
provided by (used in) operating activities:
Amortization of discounts and premiums on loans,
investments and mortgage-backed securities - net 22 5 --
Amortization of deferred loan origination fees (21) (11) (10)
Depreciation and amortization 89 93 98
Provision for losses on loans 5 12 12
Amortization of expense related to stock benefit plans 1,605 239 --
Federal Home Loan Bank stock dividends (78) (88) (63)
Increase (decrease) in cash due to changes in:
Accrued interest receivable 25 (208) (23)
Prepaid expenses and other assets 31 569 (430)
Other liabilities 585 315 236
Federal income taxes
Current 162 1 (10)
Deferred (88) (30) (48)
-------- -------- --------
Net cash provided by operating activities 1,969 2,557 651
Cash flows provided by (used in) investing activities:
Purchase of investment securities designated as held to maturity -- (12,776) --
Proceeds from maturity of investment securities 4,000 4,000 --
Loan principal repayments 22,939 22,483 17,667
Loan disbursements (33,480) (32,213) (20,043)
Purchase of office premises and equipment (56) (378) (113)
Decrease in deposits in other financial institutions -- -- 2,000
-------- -------- --------
Net cash used in investing activities (6,597) (18,884) (489)
Cash flows provided by (used in) financing activities:
Net increase (decrease) in deposit accounts (1,820) (31,264) 29,926
Proceeds from Federal Home Loan Bank advances 4,500 904 --
Repayment of Federal Home Loan Bank advances (492) (322) (236)
Proceeds from other borrowed money 13,000 500 --
Repayment of other borrowed money (500) -- --
Advances by borrowers for taxes and insurance 31 (53) 26
Net proceeds from the issuance of common stock -- 30,680 --
Purchase of shares for employee stock benefit plans -- (1,974) --
Principal repayments on ESOP loan in conjunction with pending
termination of the plan - net 2,269 -- --
Capital distributions paid on common stock (14,760) (14,944) --
Acquisition of treasury stock (666) -- --
-------- -------- --------
Net cash provided by (used in) financing activities 1,562 (16,473) 29,716
-------- -------- --------
Net increase (decrease) in cash and cash equivalents (3,066) (32,800) 29,878
Cash and cash equivalents at beginning of year 5,817 38,617 8,739
-------- -------- --------
Cash and cash equivalents at end of year $ 2,751 $ 5,817 $ 38,617
======== ======== ========
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Federal income taxes $ 405 $ 909 $ 512
======== ======== ========
Interest on deposits and borrowings $ 4,694 $ 4,613 $ 4,190
======== ======== ========
</TABLE>
The accompanying notes are an integral part of these statements.
21
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
On July 26, 1994, the Board of Directors of First Federal Savings Bank of
Frankfort (the "Savings Bank") adopted a Plan of Conversion whereby the
Savings Bank would convert to the stock form of ownership (the
"Conversion"), followed by the issuance of all of the Savings Bank's
outstanding stock to a newly formed holding company, Frankfort First
Bancorp, Inc. (the "Corporation"), and the issuance of common shares of the
Corporation to subscribing members of the Savings Bank. The conversion to
the stock form of ownership was completed on July 7, 1995, culminating in
the Corporation's issuance of 3,450,000 common shares. Condensed financial
statements of the Corporation as of and for the periods ended June 30, 1997
and 1996 are presented in Note M. Future references are made to either the
Corporation or the Savings Bank as applicable.
The Corporation is a savings and loan holding company whose activities are
primarily limited to holding the stock of the Savings Bank. The Savings Bank
conducts a general banking business in central Kentucky which primarily
consists of attracting deposits from the general public and applying those
funds to the origination of loans for residential, consumer and
nonresidential purposes. The Savings Bank's profitability is significantly
dependent on net interest income, which is the difference between interest
income generated from interest-earning assets (i.e. loans and investments)
and the interest expense paid on interest-bearing liabilities (i.e. customer
deposits and borrowed funds). Net interest income is affected by the
relative amount of interest-earning assets and interest-bearing liabilities
and the interest received or paid on these balances. The level of interest
rates paid or received by the Savings Bank can be significantly influenced
by a number of environmental factors, such as governmental monetary policy,
that are outside of management's control.
The consolidated financial information presented herein has been prepared in
accordance with generally accepted accounting principles ("GAAP") and
general accounting practices within the financial services industry. In
preparing consolidated financial statements in accordance with GAAP,
management is required to make estimates and assumptions that affect the
reported amounts of assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the financial statements and revenues
and expenses during the reporting period. Actual results could differ from
such estimates.
The following is a summary of the Corporation's significant accounting
policies which have been consistently applied in the preparation of the
accompanying consolidated financial statements.
1. Principles of Consolidation
---------------------------
The consolidated financial statements include the accounts of the
Corporation and the Savings Bank. All significant intercompany balances and
transactions have been eliminated.
22
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
2. Investment Securities
---------------------
The Corporation accounts for investment securities in accordance with
Statement of Financial Accounting Standards ("SFAS") No. 115 "Accounting for
Certain Investments in Debt and Equity Securities". SFAS No. 115 requires
that investments in debt and equity securities be categorized as
held-to-maturity, trading, or available for sale. Securities classified as
held-to-maturity are to be carried at cost only if the Corporation has the
positive intent and ability to hold these securities to maturity. Trading
securities and securities designated as available for sale are carried at
fair value with resulting unrealized gains or losses recorded to operations
or shareholders' equity, respectively. At June 30, 1997 and 1996, the
Corporation had designated all investment securities as held-to-maturity.
Realized gains or losses on sales of securities are recognized using the
specific identification method.
3. Loans Receivable
----------------
Loans receivable are stated at the principal amount outstanding, adjusted
for deferred loan origination fees and the allowance for loan losses.
Interest is accrued as earned unless the collectibility of the loan is in
doubt. Interest on loans that are contractually past due is charged off, or
an allowance is established based on management's periodic evaluation. The
allowance is established by a charge to interest income equal to all
interest previously accrued, and income is subsequently recognized only to
the extent that cash payments are received until, in management's judgment,
the borrower's ability to make periodic interest and principal payments has
returned to normal, in which case the loan is returned to accrual status. If
the ultimate collectibility of the loan is in doubt, in whole or in part,
all payments received on nonaccrual loans are applied to reduce principal
until such doubt is eliminated.
4. Loan Origination Fees
---------------------
The Savings Bank accounts for loan origination fees in accordance with SFAS
No. 91 "Accounting for Nonrefundable Fees and Costs Associated with
Originating or Acquiring Loans and Initial Direct Cost of Leases". Pursuant
to the provisions of SFAS No. 91, origination fees received from loans, net
of direct origination costs, are deferred and amortized to interest income
using the level-yield method, giving effect to actual loan prepayments.
Additionally, SFAS No. 91 generally limits the definition of loan
origination costs to the direct costs attributable to originating a loan,
i.e., principally actual personnel costs. Fees received for loan commitments
that are expected to be drawn upon, based on the Savings Bank's experience
with similar commitments, are deferred and amortized over the life of the
loan using the level-yield method. Fees for other loan commitments are
deferred and amortized over the loan commitment period on a straight-line
basis.
23
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
5. Allowance for Losses on Loans
-----------------------------
It is the Savings Bank's policy to provide valuation allowances for
estimated losses on loans based on past loss experience, trends in the level
of delinquent and problem loans, adverse situations that may affect the
borrower's ability to repay, the estimated value of any underlying
collateral and current and anticipated economic conditions in the primary
lending area. When the collection of a loan becomes doubtful, or otherwise
troubled, the Savings Bank records a loan charge-off equal to the difference
between the fair value of the property securing the loan and the loan's
carrying value. Lending areas are reviewed periodically to determine
potential problems at an early date. The allowance for loan losses is
increased by charges to earnings and decreased by charge-offs (net of
recoveries).
In June 1993, the FASB issued SFAS No. 114, "Accounting by Creditors for
Impairment of a Loan". This promulgation, which was amended by SFAS No. 118
as to certain income recognition and disclosure provisions and was effective
as to the Corporation in fiscal 1996, requires that impaired loans be
measured based upon the present value of expected future cash flows
discounted at the loan's effective interest rate or, as an alternative, at
the loan's observable market price or fair value of the collateral. The
Savings Bank's current procedures for evaluating impaired loans result in
carrying such loans at the lower of cost or fair value.
The Savings Bank adopted SFAS No. 114, as subsequently amended, on July 1,
1995, without material effect on consolidated financial condition or results
of operations.
A loan is defined under SFAS No. 114 as impaired when, based on current
information and events, it is probable that a creditor will be unable to
collect all amounts due according to the contractual terms of the loan
agreement. In applying the provisions of SFAS No. 114, the Savings Bank
considers its investment in one-to-four family residential loans and
consumer installment loans to be homogeneous and therefore excluded from
separate identification for evaluation of impairment. With respect to the
Savings Bank's investment in multi-family and nonresidential loans, and its
evaluation of impairment thereof, such loans are collateral dependent and,
as a result, are carried as a practical expedient at the lower of cost or
fair value.
Collateral dependent loans which are more than ninety days delinquent are
considered to constitute more than a minimum delay in repayment and are
evaluated for impairment under SFAS No. 114 at that time.
At June 30, 1997 and 1996, the Savings Bank had no loans that would be
defined as impaired under SFAS No. 114.
24
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
6. Office Premises and Equipment
-----------------------------
Office premises and equipment are carried at cost and include expenditures
which extend the useful lives of existing assets. Maintenance, repairs and
minor renewals are expensed as incurred. For financial reporting,
depreciation and amortization are provided on the straight-line and
accelerated methods over the useful lives of the assets, estimated to be
forty years for buildings, ten to forty years for building improvements, and
five to ten years for furniture and equipment. An accelerated method is used
for tax reporting purposes.
7. Federal Income Taxes
--------------------
The Corporation accounts for federal income taxes in accordance with the
provisions of SFAS No. 109, "Accounting for Income Taxes". SFAS No. 109
established financial accounting and reporting standards for the effects of
income taxes that result from the Corporation's activities within the
current and previous years. Pursuant to the provisions of SFAS No. 109, a
deferred tax liability or deferred tax asset is computed by applying the
current statutory tax rates to net taxable or deductible differences between
the tax basis of an asset or liability and its reported amount in the
financial statements that will result in taxable or deductible amounts in
future periods. Deferred tax assets are recorded only to the extent that the
amount of net deductible temporary differences or carryforward attributes
may be utilized against current period earnings, carried back against prior
years earnings, offset against taxable temporary differences reversing in
future periods, or utilized to the extent of management's estimate of future
taxable income. A valuation allowance is provided for deferred tax assets to
the extent that the value of net deductible temporary differences and
carryforward attributes exceeds management's estimates of taxes payable on
future taxable income. Deferred tax liabilities are provided on the total
amount of net temporary differences taxable in the future.
The Corporation's principal temporary differences between pretax financial
income and taxable income result from different methods of accounting for
deferred loan origination fees and costs, Federal Home Loan Bank stock
dividends, the general loan loss allowance, deferred compensation, and
percentage of earnings bad debt deductions. Additional temporary differences
result from depreciation computed using accelerated methods for tax
purposes.
8. Retirement and Employee Benefit Plans
-------------------------------------
In conjunction with the conversion, the Corporation implemented an Employee
Stock Ownership Plan ("ESOP"). The ESOP provides retirement benefits for
substantially all employees who have completed one year of service and have
attained the age of 21. Expense recognized related to the ESOP totaled
approximately $238,000 for the year ended June 30, 1996. During the fiscal
year ended June 30, 1997, the Board elected to terminate the ESOP and has
filed with the Internal Revenue Service for a favorable determination letter
in this regard. Payment of the fiscal 1997 scheduled ESOP loan installment,
coupled with accelerated principal payments related to the pending plan
termination, resulted in 204,728 common shares being committed for release
to participants with a corresponding $1.5 million charge to compensation
expense during the current year.
25
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
8. Retirement and Employee Benefit Plans (continued)
-------------------------------------------------
The Corporation also had a Management Recognition Plan ("MRP"). Subsequent
to the conversion the MRP purchased 136,920 shares of common stock in the
open market. All of the shares available under the MRP were granted to
executive officers, directors and employees of the Savings Bank upon receipt
of shareholder approval of the MRP. Common stock granted under the MRP
vested over a five year period at twenty percent per year, commencing in
January 1996. A provision of $52,000 and $178,000 related to the MRP was
charged to expense for the years ended June 30, 1997 and 1996. During fiscal
1997, the Board of Directors terminated the MRP. In conjunction therewith,
the Corporation received cash of $900,000 and 105,048 common shares at fair
value from the MRP. The common shares received upon termination of the MRP
were placed in treasury and simultaneously deemed retired. Coincident with
termination of the MRP, the Corporation established a deferred unfunded
compensation plan liability for the benefit of management and the directors.
There was no expense under this plan for fiscal 1997.
Also, the Board of Directors adopted the Frankfort First Bancorp, Inc. 1995
Stock Option and Incentive Plan (the "Plan") that provided for the issuance
of 345,000 shares of authorized, but unissued shares of common stock at fair
market value at the date of grant. The Corporation had initially granted
options to purchase shares at the adjusted fair value of $9.48 per share.
Such fair value will be adjusted further in the subsequent period to give
effect to the return of capital distributions (Note A-9) paid by the
Corporation in fiscal 1997, in order to place option holders in an
economically equivalent position post-dividend. The Plan provides for
one-fifth of the shares granted to be exercisable on each of the first five
anniversaries of the date of the Plan, commencing in January 1996. As of
June 30, 1997, none of the stock options granted had been exercised.
During fiscal 1995, the Savings Bank transferred its defined benefit funds
into a multiemployer defined benefit pension plan. All employees over 21
years of age enter this plan at the first entrance date after completing one
year of service. For the fiscal years ended June 30, 1997, 1996 and 1995,
the Savings Bank recorded expense totaling $72,000, $88,000 and $224,000 in
pension costs. Management does not anticipate any pension costs during
fiscal 1998 due to the pension plan's overfunded status.
The Savings Bank also offered a thrift savings plan [401(k)] to its
employees with at least one year of service. Participants could designate up
to 15% of their annual compensation as their contribution to the plan. The
Savings Bank did not match any contribution under the plan. Management
terminated the plan during the fiscal year ending June 30, 1995. Funds in
this account were transferred to self-directed individual retirement
accounts.
26
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
9. Earnings Per Share and Dividends Per Share
------------------------------------------
Earnings per share is based upon the weighted-average shares outstanding
during the period plus those stock options that are dilutive, less shares in
the ESOP that are unallocated and not committed to be released.
Weighted-average common shares deemed outstanding, which gives effect to a
reduction for 250,677 and 251,110 weighted-average unallocated shares held
by the ESOP, totaled 3,166,391 and 3,198,890 for the fiscal years ended June
30, 1997 and 1996, respectively. There is no dilutive effect attendant to
the Corporation's stock option plan.
The provisions of Accounting Principles Board Opinion No. 15 "Earnings Per
Share" is not applicable to the fiscal year ended June 30, 1995, as the
Corporation had not issued any common stock prior to July 1995.
During each of the fiscal years ended June 30, 1997 and 1996, the
Corporation declared dividends of $4.36 per common share. Of this amount,
$4.00 per share was paid in June 1997, and $4.00 per share was paid in June
1996, from funds retained by the Corporation in the conversion and were
deemed by management to constitute a return of excess capital. Accordingly,
the Corporation charged each of these capital distributions to additional
paid-in-capital. Management had obtained a Private Letter Ruling from the
Internal Revenue Service which states that the Corporation's dividend
payments in excess of accumulated earnings and profits are considered a
tax-free return of capital for federal income tax purposes. As a result,
management believes that approximately $3.60 and $4.12 of the distributions
paid during the fiscal years ended June 30, 1997 and 1996, respectively,
constitute a tax-free return of capital.
10. Fair Value of Financial Instruments
-----------------------------------
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments",
requires disclosure of the fair value of financial instruments, both assets
and liabilities whether or not recognized in the consolidated statement of
financial condition, for which it is practicable to estimate that value. For
financial instruments where quoted market prices are not available, fair
values are based on estimates using present value and other valuation
methods.
The methods used are greatly affected by the assumptions applied, including
the discount rate and estimates of future cash flows. Therefore, the fair
values presented may not represent amounts that could be realized in an
exchange for certain financial instruments.
27
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
10. Fair Value of Financial Instruments (continued)
-----------------------------------------------
The following methods and assumptions were used by the Corporation in
estimating its fair value disclosures for financial instruments at June 30,
1997 and 1996:
Cash and cash equivalents: The carrying amounts presented in the
-------------------------
consolidated statements of financial condition for cash and cash
equivalents are deemed to approximate fair value.
Certificates of deposit in other financial institutions: The
-------------------------------------------------------
carrying amounts presented in the consolidated statements of
financial condition for certificates of deposit in other financial
institutions are deemed to approximate fair value.
Investment securities: For investment securities, fair value is
---------------------
deemed to equal the quoted market price.
Loans receivable: The loan portfolio has been segregated into
----------------
categories with similar characteristics, such as one-to-four family
residential, multi-family residential and nonresidential real
estate. These loan categories were further delineated into
fixed-rate and adjustable-rate loans. The fair values for the
resultant loan categories were computed via discounted cash flow
analysis, using current interest rates offered for loans with
similar terms to borrowers of similar credit quality. For loans on
deposit accounts and consumer and other loans, fair values were
deemed to equal the historic carrying values. The historical
carrying amount of accrued interest on loans is deemed to
approximate fair value.
Federal Home Loan Bank stock: The carrying amount presented in the
----------------------------
consolidated statements of financial condition is deemed to
approximate fair value.
Deposits: The fair value of NOW accounts, passbook accounts, money
--------
market deposits and advances by borrowers for taxes and insurance
are deemed to approximate the amount payable on demand. Fair values
for fixed-rate certificates of deposit have been estimated using a
discounted cash flow calculation using the interest rates currently
offered for deposits of similar remaining maturities.
Advances from the Federal Home Loan Bank: The fair value of these
----------------------------------------
advances is estimated using the rates currently offered for similar
advances of similar remaining maturities or, when available, quoted
market prices.
28
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
10. Fair Value of Financial Instruments (continued)
-----------------------------------------------
Other borrowed money: The fair value of other borrowed money is
--------------------
estimated using rates currently offered for similar borrowings of
similar remaining maturities or, when available, quoted market
prices.
Commitments to extend credit: For fixed-rate and adjustable-rate
----------------------------
loan commitments, the fair value estimate considers the difference
between current levels of interest rates and committed rates. The
difference between the fair value and notional amount of
outstanding loan commitments at June 30, 1997 and 1996, was not
material.
Based on the foregoing methods and assumptions, the carrying value and fair
value of the Corporation's financial instruments at June 30 are as follows:
<TABLE>
<CAPTION>
1997 1996
Carrying Fair Carrying Fair
value value value value
(In thousands)
<S> <C> <C> <C> <C>
Financial assets
Cash and cash equivalents $ 2,751 $ 2,751 $ 5,817 $ 5,817
Certificates of deposit in other financial
institutions 200 200 200 200
Investment securities 4,850 4,819 8,872 8,811
Loans receivable 120,888 116,380 110,331 107,945
Stock in Federal Home Loan Bank 1,156 1,156 1,078 1,078
-------- -------- -------- --------
$129,845 $125,306 $126,298 $123,851
======== ======== ======== ========
Financial liabilities
Deposits $ 85,957 $ 86,078 $ 87,777 $ 88,459
Advances from the Federal Home Loan Bank 9,006 8,923 4,998 4,998
Other borrowed money 13,000 13,000 500 500
Advances by borrowers for taxes and insurance 298 298 267 267
-------- -------- -------- --------
$108,261 $108,299 $ 93,542 $ 94,224
======== ======== ======== ========
</TABLE>
11. Cash and Cash Equivalents
-------------------------
For purposes of reporting cash flows, cash and cash equivalents include cash
and due from banks and interest-bearing deposits in other financial
institutions with original maturities of less than ninety days.
29
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)
12. Reclassifications
-----------------
Certain prior year amounts have been reclassified to conform to the 1997
consolidated financial statement presentation.
NOTE B - INVESTMENT SECURITIES
Carrying values and estimated fair values of investment securities held to
maturity at June 30 are summarized as follows:
<TABLE>
<CAPTION>
1997 1996
Estimated Estimated
Carrying fair Carrying fair
value value value value
(In thousands)
<S> <C> <C> <C> <C>
U.S. Government agency
obligations $4,750 $4,719 $8,772 $8,711
Municipal securities 100 100 100 100
------ ------ ------ ------
$4,850 $4,819 $8,872 $8,811
====== ====== ====== ======
</TABLE>
At June 30, 1997, the carrying value of the Corporation's investment
securities exceeded market value by $31,000, consisting of $3,000 in gross
unrealized gains and $34,000 in gross unrealized losses. At June 30, 1996,
the carrying value of the Corporation's investment securities exceeded
market value by $61,000, consisting of $5,000 in gross unrealized gains and
$66,000 in gross unrealized losses.
The amortized cost and estimated fair value of U.S. Government agency
obligations and municipal securities designated as held to maturity, by
contractual term to maturity at June 30 are shown below:
<TABLE>
<CAPTION>
1997 1996
Estimated Estimated
Amortized fair Amortized fair
cost value cost value
(In thousands)
<S> <C> <C> <C> <C>
Due within one year $1,856 $1,859 $3,004 $3,007
Due after one year through five years 1,998 1,999 4,868 4,857
Due after five years through ten years 996 961 1,000 947
------ ------ ------ ------
$4,850 $4,819 $8,872 $8,811
====== ====== ====== ======
</TABLE>
30
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE C - LOANS RECEIVABLE
The composition of the loan portfolio at June 30 is as follows:
<TABLE>
<CAPTION>
1997 1996
(In thousands)
<S> <C> <C>
Residential real estate
One-to-four family $113,549 $103,944
Multi-family 58 123
Construction 1,060 672
Nonresidential real estate and land 1,830 1,450
Consumer and other 5,414 4,729
-------- --------
121,911 110,918
Less:
Undisbursed portion of loans in process (824) (392)
Deferred loan origination fees (99) (100)
Allowance for loan losses (100) (95)
-------- --------
$120,888 $110,331
======== ========
</TABLE>
The Savings Bank's lending efforts have historically focused on one-to-four
family and multi-family residential real estate loans, which comprise
approximately $113.6 million, or 94%, of the total loan portfolio at June
30, 1997, and $104.2 million, or 94%, of the total loan portfolio at June
30, 1996. Generally, such loans have been underwritten on the basis of no
more than an 80% loan-to-value ratio, which has historically provided the
Savings Bank with adequate collateral coverage in the event of default.
Nevertheless, the Savings Bank, as with any lending institution, is subject
to the risk that real estate values could deteriorate in its primary lending
area of central Kentucky, thereby impairing collateral values. However,
management is of the belief that residential real estate values in the
Savings Bank's primary lending area are presently stable.
In the normal course of business, the Savings Bank has made loans to some of
its directors, officers and employees. Related party loans are made on
substantially the same terms, including interest rates and collateral, as
those prevailing at the time for comparable transactions with unrelated
persons and do not involve more than the normal risk of collectibility. The
aggregate dollar amount of loans outstanding to directors and officers
totaled approximately $563,000 and $289,000 at June 30, 1997 and 1996,
respectively.
31
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE D - ALLOWANCE FOR LOAN LOSSES
The activity in the allowance for loan losses is summarized as follows for
the years ended June 30:
<TABLE>
<CAPTION>
1997 1996 1995
(In thousands)
<S> <C> <C> <C>
Balance at beginning of year $ 95 $83 $71
Provision for loan losses 5 12 12
---- --- ---
Balance at end of year $100 $95 $83
==== === ===
</TABLE>
As of June 30, 1997, the Savings Bank's allowance for loan losses was solely
general in nature, and is includible as a component of regulatory risk-based
capital, subject to certain percentage limitations.
Nonperforming loans totaled approximately $116,000, $118,000 and $34,000 at
June 30, 1997, 1996 and 1995, respectively. The Savings Bank did not incur
any reduction in interest income related to such nonperforming loans during
the respective periods.
NOTE E - OFFICE PREMISES AND EQUIPMENT
Office premises and equipment at June 30 are comprised of the following:
<TABLE>
<CAPTION>
1997 1996
(In thousands)
<S> <C> <C>
Land and improvements $ 187 $ 187
Office buildings and improvements 1,716 1,685
Furniture, fixtures and equipment 758 733
------ ------
2,661 2,605
Less accumulated depreciation and
amortization 1,088 999
------ ------
$1,573 $1,606
------ ------
</TABLE>
32
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE F - DEPOSITS
Deposits consist of the following major classifications at June 30:
<TABLE>
<CAPTION>
Deposit type and weighted-
average interest rate 1997 1996
(In thousands)
<S> <C> <C>
NOW accounts
1997 - 2.92% $ 3,960
1996 - 2.73% $ 4,004
Passbook
1997 - 3.00% 10,587
1996 - 3.00% 11,374
Money market deposit accounts
1997 - 3.64% 6,181
1996 - 3.48% 6,185
------- -------
Total demand, transaction and
passbook deposits 20,728 21,563
Certificates of deposit
Original maturities of:
Less than 12 months
1997 - 4.81% 10,826
1996 - 4.81% 11,852
12 months to 24 months
1997 - 5.36% 41,171
1996 - 5.84% 42,534
30 months to 36 months
1997 - 5.64% 8,662
1996 - 5.33% 8,249
More than 36 months
1997 - 5.72% 4,570
1996 - 5.51% 3,579
------- -------
Total certificates of deposit 65,229 66,214
------- -------
Total deposit accounts $85,957 $87,777
======= =======
</TABLE>
At June 30, 1997 and 1996, the Savings Bank had deposits with balances in excess
of $100,000 totaling approximately $7.6 million and $7.2 million, respectively.
33
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE F - DEPOSITS (continued)
Maturities of outstanding certificates of deposit at June 30 are summarized
as follows:
<TABLE>
<CAPTION>
1997 1996
(In thousands)
<S> <C> <C>
Less than one year $43,538 $52,451
One to three years 19,877 12,933
Over three years 1,814 830
------- -------
$65,229 $66,214
======= =======
</TABLE>
NOTE G - ADVANCES FROM THE FEDERAL HOME LOAN BANK
Advances from the Federal Home Loan Bank, collateralized at June 30, 1997 by
pledges of certain residential mortgage loans totaling $13.5 million, and
the Savings Bank's investment in Federal Home Loan Bank stock, are
summarized as follows:
<TABLE>
<CAPTION>
Maturing
year ending
Interest rate June 30, 1997 1996
(In thousands)
<S> <C> <C> <C>
6.70% 2004 $ 693 $ 807
6.55% 2006 1,412 -
6.62% 2007 1,488 -
6.16% - 6.21% 2009 3,060 3,293
6.90% 2012 494 -
6.44% - 6.61% 2016 1,859 898
------- -------
$ 9,006 $ 4,998
======= =======
Weighted-average interest rate 6.44% 6.33%
==== ====
</TABLE>
NOTE H - OTHER BORROWED MONEY
At June 30, 1996, other borrowed money consisted of an unsecured fixed-rate
bank note, bearing interest at a rate of 8.25%, which matured in July 1996.
At June 30, 1997, other borrowed money consisted of a variable rate bank
note totaling $13.0 million, which bears interest at a rate of 8.50%. This
borrowing is collateralized by 100,000 shares of First Federal Savings Bank
of Frankfort stock, and is scheduled to mature during the fiscal year ended
June 30, 1998.
34
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE I - FEDERAL INCOME TAXES
Federal income taxes differ from the amounts computed at the statutory
corporate tax rate as follows:
<TABLE>
<CAPTION>
June 30,
1997 1996 1995
(In thousands)
<S> <C> <C> <C>
Federal income taxes computed at
statutory rate $ 42 $ 846 $ 457
Decrease in taxes resulting from:
Interest on municipal securities (2) (2) (2)
Nondeductible ESOP compensation expense 451 -- --
Other -- (17) (1)
----- ----- -----
Federal income tax provision per consolidated
statements of earnings $ 491 $ 827 $ 454
===== ===== =====
</TABLE>
The composition of the Corporation's net deferred tax asset at June 30 is as
follows:
<TABLE>
<CAPTION>
1997 1996
(In thousands)
<S> <C> <C>
Taxes (payable) refundable on temporary differences
at estimated corporate tax rate:
Deferred tax assets:
General loan loss allowance $ 34 $ 32
Deferred loan origination fees 34 6
Deferred compensation 149 61
Book/tax depreciation 10 14
---- ----
Total deferred tax assets 227 113
Deferred tax liabilities:
Percentage of earnings bad debt deductions (47) (47)
Federal Home Loan Bank stock dividends (50) (24)
---- ----
Total deferred tax liabilities (97) (71)
---- ----
Net deferred tax asset $130 $ 42
==== ====
</TABLE>
35
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE I - FEDERAL INCOME TAXES (continued)
The Savings Bank was allowed a special bad debt deduction, generally limited
to 8% of otherwise taxable income, and subject to certain limitations based
on aggregate loans and deposit account balances at the end of the year. If
the amounts that qualify as deductions for federal income taxes are later
used for purposes other than bad debt losses, including distributions in
liquidation, such distributions will be subject to federal income taxes at
the then current corporate income tax rate. Retained earnings at June 30,
1997 include approximately $5.3 million for which federal income taxes have
not been provided. The approximate amount of unrecognized deferred tax
liability relating to the cumulative bad debt deduction was approximately
$1.8 million at June 30, 1997. See Note L for additional information
regarding the Savings Bank's future percentage of earnings bad debt
deductions.
NOTE J - LOAN COMMITMENTS
The Savings Bank is a party to financial instruments with off-balance-sheet
risk in the normal course of business to meet the financing needs of its
customers including commitments to extend credit. Such commitments involve,
to varying degrees, elements of credit and interest-rate risk in excess of
the amount recognized in the statement of financial condition. The contract
or notional amounts of the commitments reflect the extent of the Savings
Bank's involvement in such financial instruments.
The Savings Bank's exposure to credit loss in the event of nonperformance by
the other party to the financial instrument for commitments to extend credit
is represented by the contractual notional amount of those instruments. The
Savings Bank uses the same credit policies in making commitments and
conditional obligations as those utilized for on-balance-sheet instruments.
At June 30, 1997, the Savings Bank had outstanding commitments of
approximately $1.4 million to originate loans. Additionally, the Savings
Bank was obligated under unused lines of credit totaling $4.5 million. In
the opinion of management all loan commitments equaled or exceeded prevalent
market interest rates as of June 30, 1997, and will be funded from normal
cash flow from operations.
36
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE K - REGULATORY CAPITAL
The Savings Bank is subject to minimum regulatory capital standards
promulgated by the Office of Thrift Supervision (the "OTS"). Failure to meet
minimum capital requirements can initiate certain mandatory -- and possibly
additional discretionary -- actions by regulators that, if undertaken, could
have a direct material effect on the consolidated financial statements.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Savings Bank must meet specific capital guidelines
that involve quantitative measures of the Savings Bank's assets,
liabilities, and certain off-balance-sheet items as calculated under
regulatory accounting practices. The Savings Bank's capital amounts and
classification are also subject to qualitative judgments by the regulators
about components, risk weightings, and other factors.
The minimum capital standards of the OTS generally require the maintenance
of regulatory capital sufficient to meet each of three tests, hereinafter
described as the tangible capital requirement, the core capital requirement
and the risk-based capital requirement. The tangible capital requirement
provides for minimum tangible capital (defined as shareholders' equity less
all intangible assets) equal to 1.5% of adjusted total assets. The core
capital requirement provides for minimum core capital (tangible capital plus
certain forms of supervisory goodwill and other qualifying intangible
assets) equal to 3.0% of adjusted total assets. An OTS proposal, if adopted
in present form, would increase the core capital requirement to a range of
4.0% - 5.0% of adjusted total assets for substantially all savings
associations. Management anticipates no material change to the Savings
Bank's excess regulatory capital position as a result of this proposed
change in the regulatory capital requirement. The risk-based capital
requirement currently provides for the maintenance of core capital plus
general loss allowances equal to 8.0% of risk-weighted assets. In computing
risk-weighted assets, the Savings Bank multiplies the value of each asset on
its statement of financial condition by a defined risk-weighting factor,
e.g., one- to four-family residential loans carry a risk-weighted factor of
50%.
As of June 30, 1997, management believes that the Savings Bank met
all capital adequacy requirements to which it is subject. As of
June 30, 1997
<TABLE>
<CAPTION>
As of June 30, 1997
For capital
Actual adequacy purposes
--------------- ----------------------------------------------------------------
Amount Ratio Amount Ratio
(In thousands)
<S> <C> <C> <C> <C>
Tangible capital $34,135 25.9% greater than or equal to $1,980 greater than or equal to 1.5%
Core Capital $34,135 25.9% greater than or equal to $3,959 greater than or equal to 3.0%
Risk-based capital $34,235 50.8% greater than or equal to $5,393 greater than or equal to 8.0%
<CAPTION>
As of June 30, 1997
To be "well-
capitalized" under
prompt corrective
action provisions
-----------------------------------------------------------------
Amount Ratio
(In thousands)
<S> <C> <C>
Tangible capital greater than or equal to $6,599 greater than or equal to 5.0%
Core Capital greater than or equal to $7,919 greater than or equal to 6.0%
Risk-based capital greater than or equal to $6,741 greater than or equal to 10.0%
</TABLE>
37
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE K - REGULATORY CAPITAL (continued)
The Savings Bank's management believes that, under the current regulatory
capital regulations, the Savings Bank will continue to meet its minimum
capital requirements in the foreseeable future. However, events beyond the
control of the Savings Bank, such as increased interest rates or a downturn
in the economy in the Savings Bank's market area, could adversely affect
future earnings and, consequently, the ability to meet future minimum
regulatory capital requirements.
NOTE L - LEGISLATIVE DEVELOPMENTS
The deposit accounts of the Savings Bank and of other savings associations
are insured by the Federal Deposit Insurance Corporation ("FDIC") through
the Savings Association Insurance Fund ("SAIF"). The reserves of the SAIF
were below the level required by law, because a significant portion of the
assessments paid into the fund were used to pay the cost of prior thrift
failures. The deposit accounts of commercial banks are insured by the FDIC
through the Bank Insurance Fund ("BIF"), except to the extent such banks
have acquired SAIF deposits. The reserves of the BIF met the level required
by law in May 1995. As a result of the respective reserve levels of the
funds, deposit insurance assessments paid by healthy savings associations
exceeded those paid by healthy commercial banks by approximately $.19 per
$100 in deposits in 1995. In fiscal 1996 and 1997, no BIF assessments were
required for healthy commercial banks except for a $2,000 minimum fee.
Legislation was enacted to recapitalize the SAIF that provided for a special
assessment totaling $.657 per $100 of SAIF deposits held at March 31, 1995,
in order to increase SAIF reserves to the level required by law. The Savings
Bank held $86.3 million in deposits at March 31, 1995, resulting in an
assessment of approximately $567,000, or $374,000 after-tax, which was
charged to operations in fiscal 1997.
A component of the recapitalization plan provided for the merger of the SAIF
and BIF on January 1, 1999. However, the SAIF recapitalization legislation
currently provides for an elimination of the thrift charter or of the
separate federal regulation of thrifts prior to the merger of the deposit
insurance funds. As a result, the Savings Bank would be regulated as a bank
under federal laws which would subject it to the more restrictive activity
limits imposed on national banks. In the opinion of management, such
activity limit restrictions would not have a material effect on the
Corporation's financial position or results of operations.
Under separate legislation related to the recapitalization plan, the Savings
Bank is required to recapture as taxable income approximately $140,000 of
its tax bad debt reserve, which represents the post-1987 additions to the
reserve, and will be unable to utilize the percentage of earnings method to
compute its bad debt deduction in the future. The Savings Bank has provided
deferred taxes for this amount and will be permitted to amortize the
recapture of the bad debt reserve in taxable income over six years.
38
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE M - CONDENSED FINANCIAL STATEMENTS OF FRANKFORT FIRST BANCORP, INC.
The following condensed financial statements summarize the financial
position of Frankfort First Bancorp, Inc. as of June 30, 1997 and 1996, and
the results of its operations and its cash flows for the periods then ended.
Frankfort First Bancorp, Inc.
STATEMENTS OF FINANCIAL CONDITION
June 30,
(In thousands)
<TABLE>
<CAPTION>
ASSETS 1997 1996
<S> <C> <C>
Interest-bearing deposits in First Federal Savings Bank
of Frankfort $ 2,174 $ 160
Loan receivable from ESOP -- 2,511
Investment in First Federal Savings Bank of Frankfort 34,135 32,373
Prepaid expenses and other 128 62
------- -------
Total assets $36,437 $35,106
======= =======
LIABILITIES AND SHAREHOLDERS' EQUITY
Other borrowed money $13,000 $ 500
Dividends payable 295 311
Deferred compensation 750 --
Other liabilities 47 30
------- -------
14,092 841
Shareholders' equity
Common stock 35 35
Additional paid-in capital 5,858 19,595
Retained earnings 17,532 19,120
Shares acquired by employee stock benefit plans (414) (4,485)
Less 65,000 shares of treasury stock - at cost (666) --
------- -------
Total shareholders' equity 22,345 34,265
------- -------
Total liabilities and shareholders' equity $36,437 $35,106
======= =======
</TABLE>
Frankfort First Bancorp, Inc
STATEMENTS OF EARNINGS
Periods ended June 30,
(In thousands)
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Revenue
Interest income $ 204 $ 632
Equity in earnings of First Federal Savings Bank of Frankfort 1,004 1,519
------- -------
Total revenue 1,208 2,151
General and administrative expenses 1,667 405
------- -------
Earnings (loss) before income taxes (459) 1,746
Federal income taxes (credits) (91) 86
------- -------
NET EARNINGS (LOSS) $ (368) $ 1,660
======= =======
</TABLE>
39
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE M - CONDENSED FINANCIAL STATEMENTS OF FRANKFORT FIRST BANCORP, INC.
(continued)
Frankfort First Bancorp, Inc.
STATEMENTS OF CASH FLOWS
Periods ended June 30,
(In thousands)
<TABLE>
<CAPTION>
1997 1996
<S> <C> <C>
Cash from operating activities:
Net earnings (loss) for the period $ (368) $ 1,660
Adjustments to reconcile net earnings (loss) to net
cash provided by (used in) operating activities
(Undistributed earnings of) excess distributions
from consolidated subsidiary 1,996 (1,519)
Increase (decrease) in cash due to changes in:
Prepaid expenses and other assets (66) (62)
Other liabilities 866 341
-------- --------
Net cash provided by operating activities 2,428 420
Cash flows provided by (used in) investing activities:
Issuance of loan to ESOP -- (2,760)
Purchase of investment in First Federal Savings Bank
of Frankfort -- (16,695)
Proceeds from repayment of loan to ESOP 2,511 249
-------- --------
Net cash provided by (used in) investing activities 2,511 (19,206)
Cash flows provided by (used in) financing activities:
Proceeds from other borrowed money 13,000 500
Repayments of other borrowed money (500) --
Proceeds from issuance of common stock -- 33,390
Payment of dividends on common stock (14,759) (14,944)
Purchase of treasury stock (666) --
-------- --------
Net cash provided by (used in) financing activities (2,925) 18,946
-------- --------
Net increase in cash and cash equivalents 2,014 160
Cash and cash equivalents at beginning of period 160 --
-------- --------
Cash and cash equivalents at end of period $ 2,174 $ 160
======== ========
</TABLE>
40
<PAGE>
Frankfort First Bancorp, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
June 30, 1997, 1996 and 1995
NOTE M - CONDENSED FINANCIAL STATEMENTS OF FRANKFORT FIRST BANCORP, INC.
(continued)
As a condition to regulatory approval of the stock conversion and
reorganization to the holding company form of ownership, the Savings Bank
agreed to limit the amount of dividends payable to the Corporation.
Regulations of the Office of Thrift Supervision (OTS) impose limitations on
the payment of dividends and other capital distributions by savings
associations. Under such 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 requirement is generally permitted without OTS approval
(but subsequent to 30 days prior notice to the OTS of the planned dividend)
to make capital distributions during a calendar year in the amount of up to
the greater of (i) 100% of its net earnings to date during the 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 year or (ii) 75% of its net earnings for the most recent four
quarters. Pursuant to such OTS dividend regulations, the Savings Bank had
the ability to pay dividends of approximately $11.7 million to the
Corporation at June 30, 1997.
NOTE N - CORPORATE REORGANIZATION AND CONVERSION TO STOCK FORM
On July 26, 1994, the Savings Bank's Board of Directors adopted a plan of
conversion (the "Plan") whereby the Savings Bank would convert to the stock
form of ownership, followed by the issuance of all of the Savings Bank's
outstanding stock to a newly formed holding company, Frankfort First
Bancorp, Inc. Pursuant to the Plan, the Corporation offered for sale up to
3,450,000 common shares. The stock offering was completed on July 7, 1995,
culminating in the sale of 3,450,000 common shares which, after
consideration of offering expenses totaling $1.1 million, and shares
acquired by the ESOP totaling $2.7 million, resulted in the receipt of $30.7
million of net equity capital.
At the completion of the conversion to stock form, the Savings Bank
established a liquidation account in an amount equal to retained earnings
contained in the final offering circular. The liquidation account will be
maintained for the benefit of eligible savings account holders who maintain
deposit accounts in the Savings Bank after conversion.
In the event of a complete liquidation (and only in such event), each
eligible savings account holder will be entitled to receive a liquidation
distribution from the liquidation account in the amount of the then current
adjusted balance of deposit accounts held, before any liquidation
distribution may be made with respect to common stock. Except for the
repurchase of stock and payment of dividends by the Savings Bank, the
existence of the liquidation account will not restrict the use or
application of such retained earnings. The Savings Bank may not declare, pay
a cash dividend on, or repurchase any of its common stock, if the effect
thereof would cause retained earnings to be reduced below either the amount
required for the liquidation account or the regulatory capital requirements
for SAIF insured institutions.
41
<PAGE>
<TABLE>
BOARD OF DIRECTORS
<S> <C> <C>
William C. Jennings Charles A. Cotton III David G. Eddins
President and Chairman of the Board Commissioner of the Department Certified Public Accountant
of the Bank and Company of Housing, Building, and
Construction,
Commonwealth of Kentucky
Danny A. Garland Herman D. Regan, Jr. William M. Johnson
Vice President and Secretary of the Retired Chairman of the Board Attorney
Bank and the Company and President
Kenvirons, Inc.
Frank McGrath C. Michael Davenport
President President
Frankfort Lumber Company C. Michael Davenport, Inc.
and Davenport Broadcasting
EXECUTIVE OFFICERS
William C. Jennings Danny A. Garland Joyce H. Jennings
President and Chairman of the Board Vice President and Secretary Vice President and Treasurer
OFFICE LOCATIONS
Main Office and Corporate Branch Offices:
Headquarters: East Branch West Branch
216 West Main Street 1980 Versailles Road 1220 US 127 South
Frankfort, Kentucky 40601 Frankfort, Kentucky 40601 Frankfort, Kentucky 40601
(502) 223-1638
GENERAL INFORMATION
Independent Auditors Annual Meeting Shareholder Inquiries and
Grant Thornton, LLP The Annual Meeting of Share- Availability of 10-K Report
Suite 900 holders will be held on A COPY OF THE COM-
625 Eden Park Drive November 11, 1997 at 4:30 p.m. PANY'S ANNUAL REPORT
Cincinnati, Ohio 45202-4181 at First Federal Savings Bank of ON FORM 10-K FOR THE
Frankfort YEAR ENDED JUNE 30,
Special Counsel 1997, AS FILED WITH THE
Housley, Kantarian & Bronstein, P.C. Transfer Agent and Registrar SECURITIES AND EX-
1220 19th Street, N.W. Suite 700 Illinois Stock Transfer CHANGE COMMISSION
Washington, D.C. 20036 223 W. Jackson Blvd., Suite WILL BE FURNISHED
1210 WITHOUT CHARGE TO
Chicago, Illinois 60606 SHAREHOLDERS AS OF
THE RECORD DATE FOR
THE NOVEMBER 11, 1997
ANNUAL MEETING UPON
WRITTEN REQUEST TO
INVESTOR RELATIONS,
FRANKFORT FIRST BAN-
CORP, INC., P.O. BOX 535
FRANKFORT, KY 40602
</TABLE>
42
<PAGE>
Exhibit 21
Subsidiaries of the Registrant
Parent
- ------
Frankfort First Bancorp, Inc.
<TABLE>
<CAPTION>
State or
Percentage Other Jurisdiction
Subsidiaries (1) Ownership of Incorporation
- ---------------- --------- ----------------
<S> <C> <C>
First Federal Savings Bank of Frankfort 100% United States
</TABLE>
- ------------
(1) The assets, liabilities and operations of the subsidiaries are included in
the consolidated financial statements contained in the Annual Report to
Stockholders attached hereto as an exhibit.
<PAGE>
Exhibit 23.1
ACCOUNTANT'S CONSENT
We have issued our report dated August 19, 1997, accompanying the
consolidated financial statements of Frankfort First Bancorp, Inc. which are
incorporated within the Annual Report on form 10-KSB for the year ended June 30,
1997. We hereby consent to the incorporation by reference of said report in
Frankfort First Bancorp, Inc.'s Form S-8.
/s/ Grant Thornton LLP
Cincinnati Ohio
September 19, 1997
<PAGE>
Exhibit 23.2
[LETTERHEAD OF BUTLER & ASSOCIATES, P.S.C. APPEARS HERE]
INDEPENDENT AUDITOR'S CONSENT
-----------------------------
We consent to the incorporation by reference in the Annual Report on
Form 10-KSB under the Securities Exchange Act of 1934 of Frankfort First
Bancorp, Inc. for the year ended June 30, 1997 of our report, dated July 20,
1995, as such report relates to the financial statements of Frankfort First
Bancorp, Inc. for the year ended June 30, 1995.
Butler & Associates, P.S.C.
September 22, 1997
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 9
<LEGEND>
All information is at June 30, 1997 or for the year ended June 30, 1997.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUN-30-1997
<PERIOD-END> JUN-30-1997
<CASH> 161
<INT-BEARING-DEPOSITS> 2,590
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 0
<INVESTMENTS-CARRYING> 4,850
<INVESTMENTS-MARKET> 4,819
<LOANS> 120,988
<ALLOWANCE> 100
<TOTAL-ASSETS> 132,038
<DEPOSITS> 85,957
<SHORT-TERM> 13,000
<LIABILITIES-OTHER> 1,730
<LONG-TERM> 9,006
0
0
<COMMON> 35
<OTHER-SE> 22,310
<TOTAL-LIABILITIES-AND-EQUITY> 132,038
<INTEREST-LOAN> 8,579
<INTEREST-INVEST> 379
<INTEREST-OTHER> 268
<INTEREST-TOTAL> 9,226
<INTEREST-DEPOSIT> 4,196
<INTEREST-EXPENSE> 4,685
<INTEREST-INCOME-NET> 4,541
<LOAN-LOSSES> 5
<SECURITIES-GAINS> 0
<EXPENSE-OTHER> 4,474
<INCOME-PRETAX> 123
<INCOME-PRE-EXTRAORDINARY> (368)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (368)
<EPS-PRIMARY> (0.12)
<EPS-DILUTED> (0.12)
<YIELD-ACTUAL> 2.34
<LOANS-NON> 0
<LOANS-PAST> 116
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 26
<ALLOWANCE-OPEN> 95
<CHARGE-OFFS> 0
<RECOVERIES> 0
<ALLOWANCE-CLOSE> 100
<ALLOWANCE-DOMESTIC> 0
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 100
</TABLE>
