UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------------
FORM 10-K
ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended June 30, 1997
Commission file number 1-14070
PIEDMONT BANCORP, INC.
(Exact name of registrant as specified in its charter)
North Carolina 56-1936232
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
260 South Churton Street, P.O. Box 1000
Hillsborough, North Carolina 27278
(Address of principal executive office) (Zip Code)
Registrant's telephone number, including area code (919) 732-2143
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, No Par Value
(Title of class)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days Yes [ X ] No [ ]
Indicate by check mark if disclosure of delinquent filers in response to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
State the aggregate market value of the voting stock held by non-affiliates of
the registrant. The aggregate market value shall be computed by reference to the
price at which the stock was sold, or the average bid and asked prices of such
stock, as of a specified date within 60 days prior to the date of filing.
$24,822,996 common stock, no par value, based on the closing price of such
common stock on September 2, 1997.
Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date. 2,750,800 shares of common
stock, no par value, outstanding at September 2, 1997.
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DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Annual Report of Piedmont Bancorp, Inc. for the year ended June
30, 1997, are incorporated by reference into Part I, Part II and Part IV.
Portions of the Proxy Statement for the 1997 Annual Meeting of Shareholders of
Piedmont Bancorp, Inc. to be held on November 12, 1997, are incorporated by
reference into Part III.
<PAGE>
PART I
ITEM 1. BUSINESS
General
Piedmont Bancorp, Inc. (the "Parent") is a one-bank holding company
whose principal business is the ownership and operation of Hillsborough Savings
Bank, Inc., SSB (the "Bank") located in Hillsborough, North Carolina. The Parent
was incorporated in July 1995 for the purpose of acquiring all of the common
stock of the Bank in its recent mutual to stock conversion which was completed
on December 7, 1995 (the "Conversion"). The Conversion occurred through the sale
of 2,645,000 shares of Piedmont Bancorp, Inc. common stock (no par value). Total
proceeds of $26,450,000 were reduced by Conversion expenses of $1,052,395. The
Parent retained 50% of the net Conversion proceeds after deducting the proceeds
of a loan to the Bank's Employee Stock Ownership Plan and paid the balance of
$11,353,464 to the Bank in exchange for all of the common stock of the Bank
issued in the Conversion.
Hillsborough Savings Bank is a state-chartered stock savings bank
originally organized under the laws of North Carolina in 1913. The Bank is
headquartered in Hillsborough, North Carolina centrally located in its primary
market of central and northern Orange County, North Carolina. The Bank is a
community-oriented financial institution which offers a variety of financial
services to meet the needs of the community it serves. The Bank is principally
engaged in the business of attracting deposits from the general public and using
those deposits to make one-to-four family residential real estate loans, loans
secured by nonresidential real estate, home equity line of credit loans, and
other loans and investments. At June 30, 1997, all of the loans in the Bank's
portfolio which were secured by real estate were secured by properties located
in North Carolina. Revenues are derived primarily from interest on loans. The
Bank also receives interest income from investment securities, mortgage-backed
securities, and interest-bearing deposit balances. The major expenses of the
Bank are interest on deposits and borrowings and noninterest expenses such as
salaries, employee benefits, federal deposit insurance premiums, data processing
expenses, and occupancy expenses. The Bank conducts its business through its
office in Hillsborough, North Carolina.
Piedmont Bancorp, Inc. and its wholly-owned bank subsidiary,
Hillsborough Savings Bank, Inc., SSB are collectively referred to as "the
Company". For additional information regarding the Company's business, see the
1997 Annual Report to Security Holders and the accompanying financial
statements.
Market Area and Competition
The Company's primary market area consists of central and northern
Orange County, North Carolina. Hillsborough is located approximately ten miles
northwest of Durham, North Carolina and ten miles north of Chapel Hill, North
Carolina. North Carolina's Research Triangle Park is located about 20 miles
eastward between the cities of Chapel Hill, Durham and Raleigh. Chapel Hill and
Durham are home to the University of North Carolina at Chapel Hill and Duke
University, respectively. The economy of Orange County is significantly impacted
by these universities and the employment opportunities they generate. However,
the economy in Orange County is varied with employment spread among
manufacturing, agricultural, retail and wholesale trade, government, services
and utilities.
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The Company faces strong competition both in attracting deposits and
making real estate and other loans. Its most direct competition for deposits has
historically come from other savings institutions, credit unions and commercial
banks located in its primary market area, including large financial institutions
which have greater financial and marketing resources available to them. The
Company has also faced additional significant competition for investors' funds
from short-term money market securities and other corporate and government
securities. The ability of the Company to attract and retain savings deposits
depends on its ability to generally provide a rate of return, liquidity and risk
comparable to that offered by competing investment opportunities. The Company
experiences strong competition for real estate loans from other savings
institutions, commercial banks, and mortgage banking companies. Competition may
increase as a result of the continuing reduction of restrictions on the
interstate operations of financial institutions.
Management believes that its image as "the hometown bank" gives it
certain advantages over its local competition. The Company, its directors and
employees actively participate in local civil affairs. Long-time employment of
local personnel have enabled the Bank to establish and maintain long-term
relationships with customers. The Bank offers quick local decisions and more
flexible underwriting standards than the competition.
SUPERVISION AND REGULATION
Regulation of the Parent
Bank holding companies and state savings banks are extensively
regulated under both federal and state law. The following is a brief summary of
certain statutes and rules and regulations that affect or will affect the Parent
and the Bank. This summary is qualified in its entirety by reference to the
particular statute and regulatory provisions referred to below and is not
intended to be an exhaustive description of the statutes or regulations
applicable to the business of the Parent and the Bank. Supervision, regulation
and examination of the Parent and the Bank by the regulatory agencies are
intended primarily for the protection of depositors rather than shareholders of
the Parent.
General. The Parent was organized for the purpose of acquiring and
holding all of the capital stock of the Bank. As a savings bank holding company
subject to the Bank Holding Company Act of 1956, as amended ("BHCA"), the Parent
is subject to certain regulations of the Federal Reserve. Under the BHCA, the
Parent's activities and those of its subsidiaries are limited to banking,
managing or controlling banks, furnishing services to or performing services for
its subsidiaries or engaging in any other activity which the Federal Reserve
determines to be so closely related to banking or managing or controlling banks
as to be a proper incident thereto. The BHCA prohibits the Parent from acquiring
direct or indirect control of more than 5% of the outstanding voting stock or
substantially all of the assets of any bank or savings bank or merging or
consolidating with another bank holding company or savings bank holding company
without prior approval of the Federal Reserve.
Additionally, the BHCA prohibits the Parent from engaging in, or
acquiring ownership or control of, more than 5% of the outstanding voting stock
of any company engaged in a nonbanking business unless such business is
determined by the Federal Reserve to be so closely related to banking as to be
properly incident thereto. The BHCA generally does not place territorial
restrictions on the activities of such nonbanking related activities.
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Similarly, Federal Reserve approval (or, in certain cases,
non-disapproval) must be obtained prior to any person acquiring control of the
Parent. Control is conclusively presumed to exist if, among other things, a
person acquires more than 25% of any class of voting stock of the Parent or
controls in any manner the election of a majority of the directors of the
Parent. Control is presumed to exist if a person acquires more than 10% of any
class of voting stock and the stock is registered under Section 12 of the
Exchange Act or the acquiror will be the largest shareholder after the
acquisition.
There are a number of obligations and restrictions imposed on bank
holding companies and their depository institution subsidiaries by law and
regulatory policy that are designed to minimize potential loss to the depositors
of such depository institutions and the FDIC insurance funds in the event the
depository institution becomes in danger of default or in default. For example,
under the Federal Deposit Insurance Corporation Improvement Act of 1991 ("1991
Banking Law"), to avoid receivership of an insured depository institution
subsidiary, a bank holding company is required to guarantee the compliance of
any insured depository institution subsidiary that may become "undercapitalized"
with the terms of any capital restoration plan filed by such subsidiary with its
appropriate federal banking agency up to the lesser of (i) an amount equal to 5%
of the institution's total assets at the time the institution became
undercapitalized or (ii) the amount which is necessary (or would have been
necessary) to bring the institution into compliance with all acceptable capital
standards as of the time the institution fails to comply with such capital
restoration plan. Under a policy of the Federal Reserve with respect to bank
holding company operations, a bank holding company is required to serve as a
source of financial strength to its subsidiary depository institutions and to
commit resources to support such institutions in circumstances where it might
not do so absent such policy. The Federal Reserve under the BHCA also has the
authority to require a bank holding company to terminate any activity or to
relinquish control of a nonbank subsidiary (other than a nonbank subsidiary of a
bank) upon the Federal Reserve's determination that such activity or control
constitutes a serious risk to the financial soundness and stability of any bank
subsidiary of the bank holding company.
In addition, the "cross-guarantee" provisions of the Federal Deposit
Insurance Act, as amended ("FDIA") require insured depository institutions under
common control to reimburse the FDIC for any loss suffered by either the Savings
Association Insurance Fund (the "SAIF") or the Bank Insurance Fund (the "BIF")
as a result of the default of a commonly controlled insured depository
institution or for any assistance provided by the FDIC to a commonly controlled
insured depository institution in danger of default. The FDIC may decline to
enforce the cross-guarantee provisions if it determines that a waiver is in the
best interest of the SAIF or the BIF or both. The FDIC's claim for damages is
superior to claims of stockholders of the insured depository institution or its
holding company but is subordinate to claims of depositors, secured creditors
and holders of subordinated debt (other than affiliates) of the commonly
controlled insured depository institutions.
The Parent must notify the Federal Reserve prior to repurchasing Common
Stock in excess of 10% of its net worth during any twelve-month period.
The Parent is also registered under the savings bank holding company
laws of North Carolina. Accordingly, the Parent is also subject to regulation
and supervision by the Administrator.
<PAGE>
Capital Adequacy Guidelines for Holding Companies. The Federal Reserve
has adopted capital adequacy guidelines for bank holding companies and banks
that are members of the Federal Reserve system and have consolidated assets of
$150 million or more. For bank holding companies with less than $150 million in
consolidated assets, the guidelines are applied on a bank-only basis unless the
parent bank holding company (i) is engaged in nonbank activity involving
significant leverage or (ii) has a significant amount of outstanding debt that
is held by the general public.
Bank holding companies subject to the Federal Reserve's capital
adequacy guidelines are required to comply with the Federal Reserve's risk-based
capital regulations. Under these regulations, the minimum ratio of total capital
to risk-weighted assets (including certain off-balance sheet activities, such as
standby letters of credit) is 8%. At least half of the total capital is required
to be "Tier I capital," principally consisting of common stockholders' equity,
noncumulative perpetual preferred stock, and a limited amount of cumulative
perpetual preferred stock, less certain goodwill items. The remainder ("Tier II
capital") may consist of a limited amount of subordinated debt, certain hybrid
capital instruments and other debt securities, perpetual preferred stock, and a
limited amount of the general loan loss allowance. In addition to the risk-based
capital guidelines, the Federal Reserve has adopted a minimum Tier I (leverage)
capital ratio, under which a bank holding company must maintain a minimum level
of Tier I capital to average total consolidated assets of at least 3% in the
case of a bank holding company which has the highest regulatory examination
rating and is not contemplating significant growth or expansion. All other bank
holding companies are expected to maintain a Tier I (leverage) capital ratio of
at least 1% to 2% above the stated minimum.
Dividend Limitations. In connection with the Conversion, the FDIC
required the Company to agree that, during the first year after consummation of
the Conversion, the Company would not pay any dividend or make any other
distribution to its stockholders which represented, was characterized as or was
treated for federal tax purposes as, a return of capital. In addition, the
Parent must obtain Federal Reserve approval prior to repurchasing Common Stock
for in excess of 10% of its net worth during any twelve-month period unless the
Parent (i) both before and after the redemption satisfies capital requirements
for "well capitalized" state member banks; (ii) received a one or two rating in
its last examination; and (iii) is not the subject of any unresolved supervisory
issues. The Parent is prohibited, under the North Carolina Business Corporation
Act, from paying a dividend if such payment would (i) cause the Parent to be
unable to pay its debts as they become due in the ordinary course of business or
(ii) reduce the Parent's total assets below the sum of the Parent's total
liabilities plus any amounts which would be needed, if the Parent were to be
dissolved at the time of distribution, to satisfy the preferential rights that
are superior to holders of the Common Stock. Except as set forth in this
paragraph, neither the Administrator nor the FDIC have promulgated any
regulations specifically limiting the right of the Parent to pay dividends and
repurchase shares. However, at the Administrator's request, the Company has
provided prior notice to the Administrator of each dividend paid by the Company.
The Parent's sources of income consist of dividends paid by the Bank to
the Parent and income from investments. Following the payment of special
dividends totalling $17.8 million in 1997, the Parent's income from investments
was substantially reduced. Consequently, declarations of cash dividends by the
Parent may depend upon dividend payments by the Bank to the Parent, which are
subject to various restrictions. See " -- Regulation of the Bank -- Restrictions
on Dividends and Other Capital Distributions."
<PAGE>
Capital Maintenance Agreement. In connection with the Administrator's
approval of the Parent's application to acquire control of the Bank, the Parent
was required to execute a Capital Maintenance Agreement whereby it has agreed to
maintain the Bank's capital in an amount sufficient to enable the Bank to
satisfy all regulatory capital requirements.
Federal Securities Law. The Parent has registered its Common Stock with
the SEC pursuant to Section 12(g) of the Exchange Act and will not deregister
the Common Stock for a period of three years following the completion of the
Conversion. As a result of such registration, the proxy and tender offer rules,
insider trading reporting requirements, annual and periodic reporting and other
requirements of the Exchange Act are applicable to the Parent.
The registration under the Securities Act of the Offerings of the
Common Stock does not cover the resale of such shares. Shares of the Common
Stock purchased by persons who are not affiliates of the Parent may be resold
without registration. Shares purchased by an affiliate of the Parent are subject
to the resale provisions of Rule 144 under the Securities Act. So long as the
Parent meets the current public information requirements of Rule 144 under the
Securities Act, each affiliate of the Parent who complies with the other
conditions of Rule 144 (including those that require the affiliate's sale to be
aggregated with those of certain other persons) will be able to sell in the
public market, without registration, a number of shares not to exceed, in any
three-month period, the greater of (i) 1% of the outstanding shares of the
Parent or (ii) the average weekly volume of trading in such shares during the
preceding four calendar weeks. Provision may be made in the future by the Parent
to permit affiliates to have their shares registered for sale under the
Securities Act under certain circumstances. There are currently no demand
registration rights outstanding. However, in the event the Parent at some future
time determines to issue additional shares from its authorized but unissued
shares, the Parent might offer registration rights to certain of its affiliates
who want to sell their shares.
Regulation of the Bank
General. Federal and state legislation and regulation have
significantly affected the operations of federally insured savings institutions
and other federally regulated financial institutions in the past several years
and have increased competition among savings institutions, commercial banks and
other providers of financial services. In addition, federal legislation has
imposed new limitations on investment authority, and higher insurance and
examination assessments on savings institutions and has made other changes that
may adversely affect the future operations and competitiveness of savings
institutions with other financial institutions, including commercial banks and
their holding companies. The operations of regulated depository institutions,
including the Bank, will continue to be subject to changes in applicable
statutes and regulations from time to time.
The Bank is a North Carolina-chartered savings bank, is a member of the
Federal Home Loan Bank ("FHLB") system, and its deposits are insured by the FDIC
through the Savings Association Insurance Fund ("SAIF"). It is subject to
examination and regulation by the FDIC and the Administrator and to regulations
governing such matters as capital standards, mergers, establishment of branch
offices, subsidiary investments and activities, and general investment
authority. Generally, North Carolina-chartered savings banks whose deposits are
<PAGE>
insured by the SAIF are subject to restrictions with respect to activities and
investments, transactions with affiliates and loans-to-one borrower similar to
those applicable to SAIF-insured savings associations. Such examination and
regulation is intended primarily for the protection of depositors and the
federal deposit insurance funds.
The Bank is subject to various regulations promulgated by the Federal
Reserve including, without limitation, Regulation B (Equal Credit Opportunity),
Regulation D (Reserves), Regulation E (Electronic Fund Transfers), Regulation O
(Loans to Executive Officers, Directors and Principal Shareholders), Regulation
Z (Truth in Lending), Regulation CC (Availability of Funds) and Regulation DD
(Truth in Savings). As holders of loans secured by real property and as owners
of real property, financial institutions, including the Bank, may be subject to
potential liability under various statutes and regulations applicable to
property owners generally, including statutes and regulations relating to the
environmental condition of real property.
The FDIC has extensive enforcement authority over North
Carolina-chartered savings banks, including the Bank. This enforcement authority
includes, among other things, the ability to assess civil money penalties, to
issue cease and desist or removal orders and to initiate injunctive actions. In
general, these enforcement actions may be initiated in response to violations of
laws and regulations and unsafe or unsound practices.
The grounds for appointment of a conservator or receiver for a North
Carolina savings bank on the basis of an institution's financial condition
include: (i) insolvency, in that the assets of the savings bank are less than
its liabilities to depositors and others; (ii) substantial dissipation of assets
or earnings through violations of law or unsafe or unsound practices; (iii)
existence of an unsafe or unsound condition to transact business; (iv)
likelihood that the savings bank will be unable to meet the demands of its
depositors or to pay its obligations in the normal course of business; and (v)
insufficient capital or the incurring or likely incurring of losses that will
deplete substantially all of the institution's capital with no reasonable
prospect of replenishment of capital without federal assistance.
Transactions with Affiliates. Under current federal law, transactions
between 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 that 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 and any companies which are controlled by such
parent holding company are affiliates of the savings institution. Generally,
Sections 23A and 23 B (i) establish certain collateral requirements for loans to
affiliates; (ii) 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 savings 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 (iii) require that all
such transactions be on terms substantially the same, or at least as favorable
to the savings institution or the subsidiary, as those provided to a
nonaffiliate. The term "covered transaction" includes the making of loans or
other extensions of credit to an affiliate, the purchase of assets from an
affiliate, the purchase of, or an investment in, the securities of an affiliate,
the acceptance of securities of an affiliate as collateral for a loan or
extension of credit to any person, or issuance of a guarantee, acceptance or
letter of credit on behalf of an affiliate.
<PAGE>
Further, current federal law has extended to savings institutions the
restrictions contained in Section 22(h) of the Federal Reserve Act with respect
to loans to directors, executive officers and principal stockholders. Under
Section 22(h), loans to directors, executive officers and stockholders who own
more than 10% of a savings institution and certain affiliated entities of any of
the foregoing, may not exceed, together with all other outstanding loans to such
person and affiliated entities, the savings institution's loans-to-one borrower
limit as established by federal law (generally equal to 15% of the institution's
unimpaired capital and surplus). Section 22(h) also prohibits loans above
amounts prescribed by the appropriate federal banking agency to directors,
executive officers and stockholders who own more than 10% of a savings
institution, and their respective affiliates, unless such loan is approved in
advance by a majority of the board of directors of the savings institution. Any
"interested" director may not participate in the voting. The Federal Reserve has
prescribed the loan amount (which includes all other outstanding loans to such
person), as to which such prior board of director approval is required, as being
the greater of $25,000 or 5% of unimpaired capital and unimpaired surplus (up to
$500,000). Further, pursuant to Section 22(h) the Federal Reserve requires that
loans to directors, executive officers, and principal stockholders be made on
terms substantially the same as offered in comparable transactions to other
persons and not involve more than the normal risk of repayment or present other
unfavorable features.
Insurance of Deposit Accounts. The Bank's deposit accounts are insured
by the FDIC under the SAIF to the maximum extent permitted by law. The Bank pays
deposit insurance premiums to the FDIC based on a risk-based assessment system
established by the FDIC for all SAIF-member institutions. Under applicable
regulations, institutions are assigned to one of three capital groups that are
based solely on the level of an institution's capital ("well capitalized,"
"adequately capitalized" or "undercapitalized"), which are defined in the same
manner as the regulations establishing the prompt corrective action system
discussed below. The matrix so created results in nine assessment risk
classifications, with rates that, until September 30, 1996, ranged from 0.23%
for well capitalized, financially sound institutions with only a few minor
weaknesses to 0.31% for undercapitalized institutions that pose a substantial
risk to the SAIF unless effective corrective action is taken.
Pursuant to the Deposit Insurance Fund Act (the "DIF Act"), which was
enacted on September 30, 1996, the FDIC imposed a special assessment on each
depository institution with SAIF-assessable deposits which resulted in the SAIF
achieving its designated reserve ratio. In connection therewith, the FDIC
reduced the assessment schedule for SAIF members, effective January 1, 1997, to
a range of 0% to 0.27%, with most institutions, including the Bank, paying 0%.
This assessment schedule is the same as that for the BIF, which reached its
designated reserve ratio in 1995. In addition, since January 1, 1997, SAIF
members are charged an assessment of 0.065% of SAIF-assessable deposits for the
purpose of paying interest on the obligations issued by the Financing
Corporation ("FICO") in the 1980s to help fund the thrift industry cleanup.
BIF-assessable deposits will be charged an assessment to help pay interest on
the FICO bonds at a rate of approximately 0.013% until the earlier of December
31, 1999 or the date upon which the last savings association ceases to exist,
after which time the assessment will be the same for all insured deposits.
<PAGE>
The DIF Act provides for the merger of the BIF and the SAIF into the
Deposit Insurance Fund on January 1, 1999, but only if no insured depository
institution is a savings association on that date. The DIF Act contemplates the
development of a common charter for all federally chartered depository
institutions and the abolition of separate charters for national banks and
federal savings associations. It is not known what form the common charter may
take and what effect, if any, the adoption of a new charter would have on the
operation of the Bank.
The FDIC may terminate the deposit insurance of any insured depository
institution if it determines after a hearing that the institution has engaged or
is engaging in unsafe or unsound practices, is in an unsafe or unsound condition
to continue operations, or has violated any applicable law, regulation, order or
any condition imposed by an agreement with the FDIC. It also may suspend deposit
insurance temporarily during the hearing process for the permanent termination
of insurance, if the institution has no tangible capital. If insurance of
accounts is terminated, the accounts at the institution at the time of
termination, less subsequent withdrawals, shall continue to be insured for a
period of six months to two years, as determined by the FDIC. Management is
aware of no existing circumstances that could result in termination of the
deposit insurance of the Bank.
Community Reinvestment Act. The Bank, like other financial
institutions, is subject to the Community Reinvestment Act, as amended ("CRA").
A purpose of this Act is to encourage financial institutions to help meet the
credit needs of its entire community, including the needs of low- and
moderate-income neighborhoods. A savings bank is evaluated and rated under three
categories: a lending test, an investment test and a service test. For each of
these three tests, the savings bank is given a rating of either "outstanding,"
"high satisfactory," "low satisfactory," "needs to improve" or "substantial
non-compliance." A set of criteria for each rating is included in the
regulation. If an institution disagrees with a particular rating, the
institution has the burden of rebutting the presumption by clearly establishing
that the quantative measures do not accurately present its actual performance,
or that demographics, competitive conditions or economic or legal limitations
peculiar to the service area should be considered. The ratings received under
the three tests are used to determine the overall composite CRA rating or
"outstanding," "satisfactory," "needs to improve" or "substantial
non-compliance."
During the Bank's last compliance examination, which was performed by
the FDIC under the old CRA regulations in September 1995, the Bank received a
"satisfactory" rating with respect to CRA compliance. The Bank's rating with
respect to CRA compliance would be a factor to be considered by the Federal
Reserve and FDIC in considering applications submitted by the Bank to acquire
branches or to acquire or combine with other financial institutions and take
other actions and could result in the denial of such applications.
Capital Requirements. The FDIC requires the Bank to have a minimum
leverage ratio of Tier I capital (principally consisting of common stockholders'
equity, noncumulative perpetual preferred stock and minority interests in
consolidated subsidiaries, less certain intangible and goodwill items), to total
assets of at least 3%; provided, however that all institutions, other than those
(i) receiving the highest rating during the examination process and (ii) not
anticipating or experiencing any significant growth, are required to maintain a
ratio of 1% or 2% above the stated minimum, with an absolute minimum leverage
ratio of not less than 4%. The FDIC also requires the Bank to have a ratio of
<PAGE>
total capital to risk-weighted assets, including certain off-balance sheet
activities, such as standby letters of credit, of at least 8%. At least half of
the total capital is required to be Tier I capital. The remainder (Tier II
capital) may consist of a limited amount of subordinated debt, certain hybrid
capital instruments, other debt securities, certain types of preferred stock and
a limited amount of general loan loss allowance.
An institution which fails to meet minimum capital requirements may be
subject to a capital directive which is enforceable in the same manner and to
the same extent as a final cease and desist order, and must submit a capital
plan within 60 days to the FDIC. If the leverage ratio falls to 2% or less, the
institution may be deemed to be operating in an unsafe or unsound condition,
allowing the FDIC to take various enforcement actions, including possible
termination of insurance or placement of the institution in receivership.
The Administrator requires that net worth equal at least 5% of total
assets. Intangible assets must be deducted from net worth and assets when
computing compliance with this requirement.
At June 30, 1997, the Bank complied with each of the capital
requirements of the FDIC and the Administrator. For a description of the Bank's
required and actual capital levels on June 30, 1997, see Note 8 captioned
"Stockholders Equity" on page 33 of the 1997 Annual Report.
Each federal banking agency was required by law to revise its
risk-based capital standards to ensure that those standards take adequate
account of interest rate risk, concentration of credit risk, and the risk of
nontraditional activities, as well as reflect the actual performance and
expected risk of loss on multi-family mortgages. On August 2, 1995, the federal
banking agencies issued a joint notice of adoption of final risk-based capital
rules to take account of interest rate risk. The final regulation required an
assessment of the need for additional capital on a case-by-case basis,
considering both the level of measured exposure and qualitative risk factors.
The final rule also stated an intent to, in the future, establish an explicit
minimum capital charge for interest rate risk based on the level of a bank's
measured interest rate risk exposure. The final regulation has not had a
material impact on the Bank's capital requirements.
Effective June 26, 1996, the federal banking agencies issued a joint
policy statement announcing the agencies' election not to adopt a standardized
measure and explicit capital charge for interest rate risk at that time. Rather,
the policy statement (i) identifies the main elements of sound interest rate
risk management, (ii) describes prudent principles and practices for each of
those elements, and (iii) describes the critical factors affecting the agencies'
evaluation of a bank's interest rate risk when making a determination of capital
adequacy. The joint policy statement is not expected to have a material impact
on the Bank's management of interest rate risk.
In December 1994, the FDIC adopted a final rule changing its risk-based
capital rules to recognize the effect of bilateral netting agreements in
reducing the credit risk of two types of financial derivatives - interest and
exchange rate contracts. Under the rule, savings banks are permitted to net
positive and negative mark-to-market values of rate contracts with the same
counterparty, subject to legally enforceable bilateral netting contracts that
meet certain criteria. This represents a change from the prior rules which
recognized only a very limited form of netting. The Bank does not anticipate
that this rule will have a material effect upon its financial condition or
results of operations.
<PAGE>
Loans to One Borrower. The Bank is subject to the Administrator's
loans-to-one-borrower limits. Under these limits, no loans and extensions of
credit to any borrower outstanding at one time and not fully secured by readily
marketable collateral shall exceed 15% of the net worth of the savings bank.
Loans and extensions of credit fully secured by readily marketable collateral
may comprise an additional 10% of net worth. These limits also authorize savings
banks to make loans to one borrower, for any purpose, in an amount not to exceed
$500,000. A savings institution also is authorized to make loans to one borrower
to develop domestic residential housing units, not to exceed the lesser of $30
million, or 30% of the savings institution's net worth, provided that (i) the
purchase price of each single-family dwelling in the development does not exceed
$500,000; (ii) the savings institution is in compliance with its fully phased-in
capital requirements; (iii) the loans comply with applicable loan-to-value
requirements; (iv) the aggregate amount of loans made under this authority does
not exceed 150% of net worth; and (v) the institution's regulator issues an
order permitting the savings institution to use this higher limit. These limits
also authorize a savings bank to make loans-to-one borrower to finance the sale
of real property acquired in satisfaction of debts in an amount up to 50% of net
worth.
As of June 30, 1997, the largest aggregate amount of loans which the
Bank had to any one borrower was $1.5 million. The Bank had no loans outstanding
which management believes violate the applicable loans-to-one borrower limits.
Federal Home Loan Bank System. The FHLB system provides a central
credit facility for member institutions. As a member of the FHLB of Atlanta, the
Bank is required to own capital stock in the FHLB of Atlanta in an amount at
least equal to the greater of 1% of the aggregate principal amount of its unpaid
residential mortgage loans, home purchase contracts and similar obligations at
the end of each calendar year, or 5% of its outstanding advances (borrowings)
from the FHLB of Atlanta. On June 30, 1997, the Bank was in compliance with this
requirement with an investment in FHLB of Atlanta stock of $920,000.
Federal Reserve System. Federal Reserve regulations require savings
banks, not otherwise exempt from the regulations, to maintain reserves against
their transaction accounts (primarily negotiable order of withdrawal accounts)
and certain nonpersonal time deposits. The reserve requirements are subject to
adjustment by the Federal Reserve. As of June 30, 1997, the Bank was in
compliance with the applicable reserve requirements of the Federal Reserve.
Restrictions on Acquisitions. Federal law generally provides that no
"person," acting directly or indirectly or through or in concert with one or
more other persons, may acquire "control," as that term is defined in FDIC
regulations, of a state savings bank without giving at least 60 days' written
notice to the FDIC and providing the FDIC an opportunity to disapprove the
proposed acquisition. Pursuant to regulations governing acquisitions of control,
control of an insured institution is conclusively deemed to have been acquired,
among other things, upon the acquisition of more than 25% of any class of voting
stock. In addition, control is presumed to have been acquired, subject to
rebuttal, upon the acquisition of more than 10% of any class of voting stock,
and the issuer's securities are registered under Section 12 of the Exchange Act
or the person would be the single largest shareholder. Such acquisitions of
control may be disapproved if it is determined, among other things, that (i) the
acquisition would substantially lessen competition; (ii) the financial condition
of the acquiring person might jeopardize the financial stability of the savings
bank or prejudice the interests of its depositors; or (iii) the competency,
experience or integrity of the acquiring person or the proposed management
personnel indicates that it would not be in the interest of the depositors or
the public to permit the acquisition of control by such person.
<PAGE>
For three years following the Bank's conversion from mutual to stock
form, North Carolina conversion regulations require the prior written approval
of the Administrator before any person may directly or indirectly offer to
acquire or acquire the beneficial ownership of more than 10% of any class of an
equity security of the Bank. If any person were to so acquire the beneficial
ownership of more than 10% of any class of any equity security without prior
written approval, the securities beneficially owned in excess of 10% would not
be counted as shares entitled to vote and would not be voted or counted as
voting shares in connection with any matter submitted to stockholders for a
vote. Approval is not required for (i) any offer with a view toward public
resale made exclusively to the Bank or its underwriters or the selling group
acting on its behalf or (ii) any offer to acquire or acquisition of beneficial
ownership of more than 10% of the common stock of the Bank by a corporation
whose ownership is or will be substantially the same as the ownership of the
Bank, provided that the offer or acquisition is made more than one year
following the consummation of the conversion. During the second and third years
after the conversion, the Administrator may approve such an acquisition of more
than 10% of beneficial ownership upon a finding that (i) the acquisition is
necessary to protect the safety and soundness of the Holding Company and the
Bank or the Boards of Directors of the Holding Company and the Bank support the
acquisition and (iii) the acquiror is of good character and integrity and
possesses satisfactory managerial skills, the acquiror will be a source of
financial strength to the Holding Company and the Bank and the public interests
will not be adversely affected.
Liquidity. The Bank is subject to the Administrator's requirement that
the ratio of liquid assets to total assets equal at least 10%. The computation
of liquidity under North Carolina regulation allows the inclusion of
mortgage-backed securities and investments which, in the judgment of the
Administrator, have a readily marketable value, including investments with
maturities in excess of five years. At June 30, 1997, the Bank's liquidity
ratio, calculated in accordance with North Carolina regulations, was
approximately 15%.
Additional Limitations on Activities. Recent FDIC law and regulations
generally provide that the Bank may not engage as principal in any type of
activity, or in any activity in an amount, not permitted for national banks, or
directly acquire or retain any equity investment of a type or in an amount not
permitted for national banks. The FDIC has authority to grant exceptions from
these prohibitions (other than with respect to non-service corporation equity
investments) if it determines no significant risk to the insurance fund is posed
by the amount of the investment or the activity to be engaged in and if the Bank
is and continues to be in compliance with fully phased-in capital standards.
National banks are generally not permitted to hold equity investments other than
shares of service corporations and certain federal agency securities. Moreover,
the activities in which service corporations for savings banks are permitted to
engage are limited to those of service corporations for national banks.
Savings banks are also required to notify the FDIC at least 30 days
prior to the establishment or acquisition of any subsidiary, or at least 30 days
prior to conducting any such new activity. Any such activities must be conducted
in accordance with the regulations and orders of the FDIC and the Administrator.
Savings banks are also generally prohibited from directly or indirectly
acquiring or retaining any corporate debt security that is not of investment
grade (generally referred to as "junk bonds").
<PAGE>
Prompt Corrective Regulatory Action. Federal law provides the federal
banking agencies with broad powers to take corrective action to resolve problems
of insured depository institutions. The extent of these powers depends upon
whether the institutions in question are "well capitalized," "adequately
capitalized," "undercapitalized," "significantly undercapitalized," or
"critically undercapitalized." Under the FDIC regulations applicable to the
Bank, an institution is considered "well capitalized" if it has (i) a total
risk-based capital ratio of 10% or greater, (ii) a Tier I risk-based capital
ratio of 6% or greater, (iii) a leverage ratio of 5% or greater and (iv) is not
subject to any order or written directive to meet and maintain a specific
capital level for any capital measure. An "adequately capitalized" institution
is defined as one that has (i) a total risk-based capital ratio of 8% or
greater, (ii) a Tier I risk-based capital ratio of 4% or greater and (iii) a
leverage ratio of 4% or greater (or 3% or greater in the case of an institution
with the highest examination rating and which is not experiencing or
anticipating significant growth). An institution is considered (A)
"undercapitalized" if it has (i) a total risk-based capital ratio of less than
8%, (ii) a Tier I risk-based capital ratio of less than 4% or (iii) a leverage
ratio of less than 4% (or 3% in the case of an institution with the highest
examination rating and which is not experiencing or anticipating significant
growth); (B) "significantly undercapitalized" if the institution has (i) a total
risk-based capital ratio of less than 6%, or (ii) a Tier I risk-based capital
ratio of less than 3% or (iii) a leverage ratio of less than 3% and (C)
"critically undercapitalized" if the institution has a ratio of tangible equity
to total assets equal to or less than 2%.
Interstate Banking. The Riegle-Neal Interstate Banking and Branching
Efficiency Act of 1994 (the "Interstate Banking Act"), effective September 29,
1995, permits adequately capitalized bank and savings bank holding companies to
acquire control of banks and savings banks in any state. The states may
specifically permit interstate acquisitions prior to September 29, 1995, by
enacting legislation that provides for such transactions. North Carolina adopted
nationwide reciprocal interstate acquisition legislation in 1994.
Such interstate acquisitions are subject to certain restrictions.
States may require the bank or savings bank being acquired to have been in
existence for a certain length of time but not in excess of five years. In
addition, no bank or savings bank may acquire more than 10% of the insured
deposits in the United States or more than 30% of the insured deposits in any
one state, unless the state has specifically legislated a higher deposit cap.
States are free to legislate stricter deposit caps.
The Interstate Banking Act also provides for interstate branching,
effective June 1, 1997, allowing interstate branching in all states, provided
that a particular state has not specifically denied interstate branching by
legislation prior to such time. Unlike interstate acquisitions, a state may deny
interstate branching if it specifically elects to do so by June 1, 1997. States
may choose to allow interstate branching prior to June 1, 1997 by opting-in to a
group of states that permits these transactions. These states generally allow
interstate branching via a merger of an out-of-state bank with an in-state bank,
or on a de novo basis. North Carolina has enacted legislation permitting
branching transactions.
It is anticipated that the Interstate Banking Act will increase
competition within the markets in which the Bank now operates, although the
extent to which such competition will increase in such markets or the timing of
such increase cannot be predicted.
<PAGE>
Restrictions on Dividends and Other Capital Distributions. A North
Carolina-chartered stock savings bank may not declare or pay a cash dividend on,
or repurchase any of, its capital stock if the effect of such transaction would
be to reduce the net worth of the institution to an amount which is less than
the minimum amount required by applicable federal and state regulations. See
"--Capital Requirements." In addition, a North Carolina-chartered stock savings
bank, for a period of five years after its conversion from mutual to stock form,
must obtain the written approval from the Administrator before declaring or
paying a cash dividend on its capital stock in an amount in excess of one-half
of the greater of (i) the institution's net income for the most recent fiscal
year end, or (ii) the average of the institution's net income after dividends
for the most recent fiscal year end and not more than two of the immediately
preceding fiscal year ends, if applicable. The Bank has obtained the
Administrator's prior approval for each dividend paid by the Bank to the Parent.
Under FDIC regulations, stock repurchases may be made by the savings bank only
upon receipt of FDIC approval.
Retained income at June 30, 1997, includes approximately $2.8 million
for which no provision for federal income tax has been made. This amount
represents an allocation of income to bad debt deductions for tax purposes only.
Payment of dividends by the Bank out of this bad debt allocation would create
taxable income equal to approximately 164% of the dividend for the Bank.
At the time of the Conversion, the Bank established a liquidation
account in an amount equal to its net worth at June 30, 1995. The liquidation
account is maintained for the benefit of eligible deposit account holders who
continue to maintain their deposit accounts in the Bank after the Conversion.
Only in the event of a complete liquidation would each eligible deposit account
holder be entitled to receive a liquidating distribution in the amount of the
then current adjusted subaccount balance for the deposit accounts before any
liquidation distribution may be made with respect to the Common Stock. Dividends
paid by the Bank to the Parent cannot reduce the net worth of the Bank below the
amount required for this liquidation account.
Also, without the prior written approval of the Administrator, a North
Carolina-chartered stock savings bank, for a period of five years after its
conversion from mutual to stock form, may not repurchase any of its capital
stock. The Administrator will give approval to repurchase only upon a showing
that the proposed repurchase will not adversely affect the safety and soundness
of the institution.
Other North Carolina Regulation. As a North Carolina-chartered savings
bank, the Bank derives its authority from, and is regulated by, the
Administrator. The Administrator has the right to promulgate rules and
regulations necessary for the supervision and regulation of North Carolina
savings banks under his jurisdiction and for the protection of the public
investing in such institutions. The regulatory authority of the Administrator
includes, but is not limited to: the establishment of reserve requirements; the
regulation of the payment of dividends; the regulation of stock repurchases, the
regulation of incorporators, stockholders, directors, officers and employees;
the establishment of permitted types of withdrawable accounts and types of
contracts for savings programs, loans and investments; and the regulation of the
conduct and management of savings banks, chartering and branching of
institutions, mergers, conversions and conflicts of interest. North Carolina law
requires that the Bank maintain federal deposit insurance as a condition of
doing business.
<PAGE>
The Administrator conducts regular examinations of North
Carolina-chartered savings banks. The purpose of such examinations is to assure
that institutions are being operated in compliance with applicable North
Carolina law and regulations and in a safe and sound manner. These examinations
are usually conducted on a joint basis with the FDIC.
In addition, the Administrator is required to conduct an examination of
any institution when he has good reason to believe that the standing and
responsibility of the institution is of doubtful character or when he otherwise
deems it prudent. The Administrator is empowered to order the revocation of the
license of an institution if he finds that it has violated or is in violation of
any North Carolina law or regulation and that revocation is necessary in order
to preserve the assets of the institution and protect the interests of its
depositors. The Administrator has the power to issue cease and desist orders if
any person or institution is engaging in, or has engaged in, any unsafe or
unsound practice or unfair and discriminatory practice in the conduct of its
business or in violation of any other law, rule or regulation.
A North Carolina-chartered savings bank must maintain net worth,
computed in accordance with the Administrator's requirements, of 5% of total
assets and liquidity of 10% of total assets, as discussed above. Additionally, a
North Carolina-chartered savings bank is required to maintain general valuation
allowances and specific loss reserves in the same amounts as required by the
FDIC.
Subject to limitation by the Administrator, North Carolina-chartered
savings banks may make any loan or investment or engage in any activity which is
permitted to federally chartered institutions. However, a North
Carolina-chartered savings bank cannot invest more than 15% of its total assets
in business, commercial, corporate and agricultural loans. In addition to such
lending authority, North Carolina-chartered savings banks are authorized to
invest funds, in excess of loan demand, in certain statutorily permitted
investments, including but not limited to (i) obligations of the United States,
or those guaranteed by it; (ii) obligations of the State of North Carolina;
(iii) bank demand or time deposits; (iv) stock or obligations of the federal
deposit insurance fund or a FHLB; (v) savings accounts of any savings
institution as approved by the board of directors; and (vi) stock or obligations
of any agency of the State of North Carolina or of the United States or of any
corporation doing business in North Carolina whose principal business is to make
education loans.
North Carolina law provides a procedure by which savings institutions
may consolidate or merge, subject to approval of the Administrator. The approval
is conditioned upon findings by the Administrator that, among other things, such
merger or consolidation will promote the best interests of the members or
stockholders of the merging institutions. North Carolina law also provides for
simultaneous mergers and conversions and for supervisory mergers conducted by
the Administrator.
Future Requirements. Statutes and regulations are regularly introduced
which contain wide-ranging proposals for altering the structures, regulations
and competitive relationships of financial institutions. It cannot be predicted
whether or what form any proposed statute or regulation will be adopted or the
extent to which the business of the Company may be affected by such statute or
regulation.
<PAGE>
Subsidiaries
The Bank is the only subsidiary of the Parent. The Bank has no
subsidiaries.
Employees
As of June 30, 1997, the Bank had 29 full-time employees and two
part-time employees. The Bank provides its employees with basic and major
medical insurance, life insurance, sick leave and vacation benefits. In
addition, the Bank maintains a 401(k) retirement plan pursuant to which the Bank
matches one-half of employees' contributions, with its contribution limited to
3% of each employee's salary.
In connection with the Conversion, the Bank adopted an Employee Stock
Ownership Plan (the "ESOP"), which provides benefits to employees of the Bank.
Also, the directors, officers and employees of the Company participate in the
Management Recognition Plan and the Stock Option Plan, under which 105,800
shares of restricted stock have been awarded and options to purchase 262,354
shares of Common Stock have been granted, respectively.
Employees are not represented by any union or collective bargaining
group, and the Company considers its employee relations to be good.
Federal Income Taxation
Savings institutions such as the Bank are subject to the taxing
provisions of the Internal Revenue Code of 1986, as amended (the "Code"), for
corporations, as modified by certain provisions specifically applicable for
financial or thrift institutions. Income is reported using the accrual method of
accounting. The maximum corporate federal income tax rate is 35%.
For fiscal years beginning prior to December 31, 1995, thrift
institutions which qualified under certain definitional tests and other
conditions of the Code were permitted certain favorable provisions regarding
their deductions from taxable income for annual additions to their bad debt
reserve. A reserve could be established for bad debts on qualifying real
property loans (generally loans secured by interests in real property improved
or to be improved) under (i) a method based on a percentage of the institution's
taxable income, as adjusted (the "percentage of taxable income method") or (ii)
a method based on actual loss experience (the "experience method"). The reserve
for nonqualifying loans was computed using the experience method.
The percentage of taxable income method was limited to 8% of taxable
income. This method could not raise the reserve to exceed 6% of qualifying real
property loans at the end of the year. Moreover, the additions for qualifying
real property loans, when added to nonqualifying loans, could not exceed 12% of
the amount by which total deposits or withdrawable accounts exceed the sum of
surplus, undivided profits and reserves at the beginning of the year. The
experience method was the amount necessary to increase the balance of the
reserve at the close of the year to the greater of (i) the amount which bore the
same ratio to loans outstanding at the close of the year as the total net bad
debts sustained during the current and five preceding years bore to the sum of
the loans outstanding at the close of such six years or (ii) the balance in the
reserve account at the close of the last taxable year beginning before 1988
(assuming that the loans outstanding have not declined since such date).
<PAGE>
In order to qualify for the percentage of income method, an institution
had to have at least 60% of its assets as "qualifying assets" which generally
included, cash, obligations of the United States government or an agency or
instrumentality thereof or of a state or political subdivision, residential real
estate-related loans, or loans secured by savings accounts and property used in
the conduct of its business. In addition, it had to meet certain other
supervisory tests and operate principally for the purpose of acquiring savings
and investing in loans.
As a result of changes in law, thrift institutions were required to
change to either the reserve method or the specific charge-off method that
applied to banks. Large thrift institutions, those generally exceeding $500
million in assets, had to convert to the specific charge-off method. In
computing its bad debt reserve for federal income taxes, the Bank used the
reserve method in fiscal years 1994, 1995, and 1996.
Bad debt reserve balances in excess of the balance computed under the
experience method or amounts maintained in a supplemental reserve built up prior
to 1962 ("excess bad debt reserve") require inclusion in taxable income upon
certain distributions to shareholders. Distributions in redemption or
liquidation of stock or distributions with respect to its stock in excess of
earnings and profits accumulated in years beginning after December 31, 1951, are
treated as a distribution from the excess bad debt reserve. When such a
distribution takes place and it is treated as from the excess bad debt reserve,
the thrift is required to reduce its reserve by such amount and simultaneously
recognize the amount as an item of taxable income increased by the amount of
income tax imposed on the inclusion. Dividends not in excess of earnings and
profits accumulated since December 31, 1951 will not require inclusion of part
or all of the bad debt reserve in taxable income. The Bank has accumulated
earnings and profits since December 31, 1951 and has an excess in its bad debt
reserve. Distributions in excess of current and accumulated earnings and profits
will increase taxable income. Net retained earnings at June 30, 1997 includes
approximately $2.8 million for which no provision for federal income tax has
been made.
Legislation passed by the U.S. Congress and signed by the President in
August 1996 contains a provision that repeals the percentage of taxable income
method of accounting for thrift bad debt reserves for tax years beginning after
December 31, 1995. The legislation will trigger bad debt reserve recapture for
post-1987 excess reserves over a six-year period. At June 30, 1997, the Bank's
post-1987 excess reserves amounted to approximately $281,000. A special
provision suspends recapture of post-1987 excess reserves for up to two years
if, during those years, the institution satisfies a "residential loan
requirement." This requirement will be met if the principal amount of the
institution's residential loans exceeds a base year amount, which is determined
by reference to the average of the institution's residential loans during the
six taxable years ending before January 1, 1996. However, notwithstanding this
special provision, recapture must begin no later than the first taxable year
beginning after December 31, 1997.
The Bank may also be subject to the corporate alternative minimum tax
("AMT"). This tax is applicable only to the extent it exceeds the regular
corporate income tax. The AMT is imposed at the rate of 20% of the corporation's
alternative minimum taxable income ("AMTI") subject to applicable statutory
exemptions. AMTI is calculated by adding certain tax preference items and making
certain adjustments to the corporation's regular taxable income. Preference
<PAGE>
items and adjustments generally applicable to financial institutions include,
but are not limited to, the following: (i) the excess of the bad debt deduction
over the amount that would have been allowable on the basis of actual
experience; (ii) interest on certain tax-exempt bonds issued after August 7,
1986; and (iii) 75% of the excess, if any, of a corporation's adjusted earnings
and profits over its AMTI (as otherwise determined with certain adjustments).
Net operating loss carryovers, subject to certain adjustments, may be utilized
to offset up to 90% of the AMTI. Credit for AMT paid may be available in future
years to reduce future regular federal income tax liability. The Bank has not
been subject to the AMT in recent years.
The Bank's federal income tax returns have not been audited in the last
ten tax years.
State Taxation
Under North Carolina law, the corporate income tax is 7.75% of federal
taxable income as computed under the Code, subject to certain prescribed
adjustments. In addition, for tax years beginning in 1994, 1993, 1992 and 1991,
corporate taxpayers were required to pay a surtax equal to 1%, 2%, 3% and 4%,
respectively, of the state income tax otherwise payable by it. An annual state
franchise tax is imposed at a rate of 0.15% applied to the greatest of the
institution's (i) capital stock, surplus and undivided profits, (ii) investment
in tangible property in North Carolina or (iii) appraised valuation of property
in North Carolina.
The North Carolina corporate tax rate dropped to 7.50% in 1997, and
will drop to 7.25% in 1998, 7.00% in 1999 and 6.90% thereafter.
ITEM 2. PROPERTIES
At June 30, 1997, the Company conducted its business from its one
office in Hillsborough, North Carolina. The following table sets forth certain
information regarding the Company's property as of June 30, 1997. This property
is owned by the Company.
Net Book
Value of
Address Property
------- --------
260 South Churton Street $1,019,000
Hillsborough, North Carolina 27278
In addition to the properties described above, the Company owns two
additional office buildings located in Hillsborough, North Carolina, one at 112
North Churton Street (former branch location) and another directly adjacent to
the North Churton Street building. These properties have net book values of
$42,000 and $15,000, respectively, as of June 30, 1997 and were both used for
rental office space. The total net book value of the Company's furniture,
fixtures and equipment on June 30, 1997 was $186,000. The properties are
considered by the Company's management to be in good condition.
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
In the opinion of management, the Company is not involved in any
pending legal proceedings other than routine, non-material proceedings occurring
in the ordinary course of business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of the Company's stockholders during
the quarter ended June 30, 1997.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The high and low stock price for the Company's common stock was $10.75
and $10.375, respectively, on September 2, 1997. The information required by
this Item is set forth under the section captioned "Capital Stock" in the
Company's 1997 Annual Report which is incorporated herein by reference.
ITEM 6. SELECTED FINANCIAL DATA
The information required by this Item is set forth in the table
captioned "Five Year Summary" on the inside cover of the Company's 1997 Annual
Report which is incorporated herein by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATION
See the information set forth under Item 1 above and the information
set forth under the section captioned "Management's Discussion and Analysis of
Financial Condition and Results of Operation" in the Company's 1997 Annual
Report which section is incorporated herein by reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements of the Company and supplementary
data set forth in the Company's 1997 Annual Report are incorporated herein by
reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
There were no changes in or disagreements with accountants on
accounting and financial disclosure during the fiscal year ended June 30, 1997
and the interim subsequent period.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item is set forth under the section
captioned "Proposal 1 - Election of Directors" in the Proxy Statement for the
1997 Annual Meeting of Shareholders of Piedmont Bancorp, Inc. to be held on
November 12, 1997 (the "Proxy Statement") and the section captioned "Compliance
with Section 16(a) of the Exchange Act of 1934" in the Proxy Statement, which
sections are incorporated herein by reference.
<PAGE>
ITEM 11. EXECUTIVE COMPENSATION AND TRANSACTIONS
The information required by this Item is set forth under the sections
captioned "Proposal 1 - Election of Directors - Directors' Compensation" and " -
Management Compensation" in the Proxy Statement, which sections are incorporated
herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item is incorporated herein by
reference from the section captioned "Security Ownership of Certain Beneficial
Owners" in the Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
There have been no reportable transactions during the two most recent
fiscal years nor are any reportable transactions proposed as of the date of this
Form 10-K. [CONFIRM] See also the section captioned "Proposal 1 Election of
Directors - Certain Indebtedness and Transactions of Management" in the Proxy
Statement, which section is incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 8-K
14(a)1. Consolidated Financial Statements (contained in the Company's
1997 Annual Report attached hereto as Exhibit (13) and
incorporated herein by reference)
(a) Independent Auditors' Report
(b) Consolidated Balance Sheets as of June 30, 1997 and
1996
(c) Consolidated Statements of Income for the Years Ended
June 30, 1997, 1996 and 1995
(d) Consolidated Statements of Stockholders' Equity for
the Years Ended June 30, 1997, 1996
and 1995
(e) Consolidated Statements of Cash Flows for the Years
Ended June 30, 1997, 1996 and 1995
(f) Notes to Consolidated Financial Statements
14(a)2. Financial Statement Schedules
All schedules have been omitted as the required information is
either inapplicable or included in the Notes to Consolidated
Financial Statements.
<PAGE>
14(a)3. Exhibits
Exhibit (3)(i) Articles of Incorporation,
incorporated herein by reference to
Exhibit 3.1 of the Company's
Registration Statement on Form S-1
(No. 33-94512) filed on July 12,
1995 and amended on September 27,
1995 and October 6, 1995
Exhibit (3)(ii) Bylaws, incorporated herein by
reference to Exhibit 3.2 of the
Company's Registration Statement on
Form S-1 (No. 33-94512) filed on
July 12, 1995 and amended on
September 27, 1995 and October 6,
1995
Exhibit (4) Specimen Stock Certificate,
incorporated herein by reference to
Exhibit 4.1 of the Company's
Registration Statement on Form S-1
(No. 33-94512) filed on July 12,
1995 and amended on September 27,
1995 and October 6, 1995
Exhibit (10)(ii)(a) Piedmont Bancorp, Inc. Stock Option
Plan, incorporated herein by
reference to Exhibit (10)(ii)(a) of
the Registrant's Form 10-K for the
year ended June 30, 1996
Exhibit (10)(ii)(b) Hillsborough Savings Bank, Inc.,
SSB Management Recognition Plan,
incorporated herein by reference to
Exhibit (10)(ii)(b) of the
Registrant's Form 10-K for the year
ended June 30, 1996
Exhibit (10)(ii)(c) Employment Agreement between
Hillsborough Savings Bank, Inc.,
SSB and D. Tyson Clayton,
incorporated herein by reference to
Exhibit 10.2 of the Company's
Registration Statement on Form S-1
(No. 33-94512) filed on July 12,
1995 and amended on September 27,
1995 and October 6, 1995
Exhibit (10)(ii)(d) Employment Agreement between
Hillsborough Savings Bank, Inc.,
SSB and Peggy S. Walker,
incorporated herein by reference to
Exhibit 10.2 of the Company's
Registration Statement on Form S-1
(No. 33-94512) filed on July 12,
1995 and amended on September 27,
1995 and October 6, 1995
<PAGE>
Exhibit (10)(ii)(e) Employment Agreement between
Hillsborough Savings Bank, Inc.,
SSB and Ted R. Laws
Exhibit (10)(ii)(f) Employment Agreement between
Hillsborough Savings Bank, Inc.,
SSB and Eric J. Schuppenhauer
Exhibit (11) Statement Regarding Computation of
Per Share Earnings
Exhibit (12) Statement Regarding Computation of
Ratios
Exhibit (13) Portions of 1997 Annual Report to
Security Holders
Exhibit (27) Financial Data Schedule
14(b) The Company filed no reports on Form 8-K during the last quarter
of the fiscal year ended June 30, 1997.
<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.
PIEDMONT BANCORP, INC.
Date: September 23, 1997 By: D. Tyson Clayton
----------------
D. Tyson Clayton
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>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
/s/D. Tyson Clayton President, Chief Executive September 23, 1997
- ------------------- Officer and Director
D. Tyson Clayton
/s/Peggy S. Walker Executive Vice President, September 23, 1997
- ------------------ Secretary and Director
Peggy S. Walker
/s/Eric J. Schuppenhauer Vice President, Treasurer and September 23, 1997
- ------------------------ Principal Financial Officer
Eric J. Schuppenhauer
/s/M. Marion Clark Director September 23, 1997
- ------------------
M. Marion Clark
/s/Robert B. Nichols, Jr. Director September 23, 1997
- -------------------------
Robert B. Nichols, Jr.
/s/Alfred L. Carr Director September 23, 1997
- -----------------
Alfred L. Carr
/s/Everett H. Kennedy Director September 23, 1997
- ---------------------
Everett H. Kennedy
<PAGE>
/s/Donald W. Pope Director September 23, 1997
- -----------------
Donald W. Pope
/s/James P. Ray Director September 23, 1997
- ---------------
James P. Ray
/s/William Larry Rogers Director September 23, 1997
- -----------------------
William Larry Rogers
</TABLE>
<PAGE>
INDEX TO EXHIBITS
Exhibit No. Description
- ----------- -----------
(10)(ii)(e) Employment Agreement between Hillsborough Savings
Bank, Inc., SSB and Ted R. Laws
(10)(ii)(f) Employment Agreement between Hillsborough Savings
Bank, Inc., SSB and Eric J. Schuppenhauer
(11) Statement Regarding Computation of Per Share Earnings
(12) Statement Regarding Computation of Ratios
(13) 1997 Annual Report to Security Holders
(27) Financial Data Schedule
Copies of exhibits are available upon written request to Eric J. Schuppenhauer,
Vice President, Treasurer, and Principal Financial Officer of Piedmont Bancorp,
Inc.
EXHIBIT (10)((ii)(e)
HILLSBOROUGH SAVING BANK, INC., SSB
EMPLOYMENT AGREEMENT
This agreement entered into as of March 10, 1997, by and between
HILLSBOROUGH SAVINGS BANK, INC., SSB (hereinafter referred to as the "Savings
Bank") and Ted R. Laws (hereinafter referred to as the "Officer") and is joined
in by PIEDMONT BANCORP, INC., the parent holding company of the Savings Bank
(hereinafter referred to as the "Holding Company").
WHEREAS, the Savings Bank is a state-chartered stock savings bank and
the wholly-owned subsidiary of the Holding Company; and
WHEREAS, the Savings Bank desires to retain the services of the Officer
as Vice President and Chief Lending Officer of the Savings Bank upon the terms
and conditions set forth herein; and
WHEREAS, the services of the Officer, his experience and knowledge of
the affairs of the Savings Bank, and his reputation and contacts in the industry
and the local community are extremely valuable to the Savings Bank; and
WHEREAS, the Savings Bank wishes to attract and retain such
well-qualified executives and it is in the best interest of the Savings Bank and
of the Officer to secure the continued services of the Officer notwithstanding
any change in any change of control of the Savings Bank or the Holding Company;
and
WHEREAS, the Savings Bank considers the establishment and maintenance
of a sound and vital management to be part of its overall corporate strategy and
to be essential to protecting and enhancing the best interests of the Holding
Company, the Savings Bank and their stockholders; and
WHEREAS, the parties desire to enter into this Agreement in order to
set forth the terms and conditions of the Officer's employment relationship with
the Savings Bank.
NOW, THEREFORE, for and in consideration of the premises and mutual
promises, covenants and conditions hereinafter set forth and other good and
valuable considerations, the receipt and sufficiency of which hereby are
acknowledged, the parties hereby do agree as follows:
1. Employment. The Savings Bank hereby agrees to employ the Officer and
the Officer hereby agrees to accept employment, upon the terms and conditions
stated herein, as Vice President and Chief Lending Officer of the Savings Bank.
The Officer shall render such administrative and management services to the
Savings Bank as are customarily performed by persons situated in a similar
executive capacity. The Officer shall promote the business of the Savings Bank
and perform such other duties as shall, from time to time, be reasonably
prescribed by the Board of Directors of the Savings Bank (the "Board").
2. Compensation. The Savings Bank shall pay the Officer during the term
of this Agreement, as compensation for all service rendered by him to the
Savings Bank, a base salary at the rate of $56,500.00 per annum (to be increased
to $58,000.00 per annum after six months subject to satisfactory job
performance), payable in cash not less frequently than monthly; provided that
<PAGE>
the rate of such salary shall be reviewed by the Board not less often than
annually. Such rate of salary, or increased rate of salary, as the case may, may
be further increased from time to time in such amounts as the Board, in its
discretion, may decide. In determining salary increases, the Board shall
compensate the Officer for increases in the cost of living and may also provide
for performance or merit increases. Participation in incentive compensation,
deferred compensation, discretionary bonus, profit-sharing, retirement, stock
option and other employee benefit plans that the Savings Bank or the Holding
Company have adopted or may from time to time adopt, and participation in any
fringe benefits, shall not reduce the salary payable to the Officer under this
Section. The Officer will be entitled to such customary fringe benefits,
vacation and sick leave as are consistent with the normal practices and
established policies of the Savings Bank. In the event of a Change of Control
(as defined in Section 10), the officer's rate of salary shall be increased not
less than six percent (6%) annually during the term of this Agreement.
3. Discretionary Bonuses. During the term of this Agreement, the
Officer shall be entitled in an equitable manner with all other key management
personnel of the Savings Bank, to such discretionary bonuses as may be
authorized, declared and paid by the Directors to the Savings Bank's key
management employees. No other compensation provided for in this Agreement shall
be deemed a substitute for the Officer's right to such discretionary bonuses
when and as declared by the Directors.
4. Participation in Retirement and Employee Benefit Plans: Fringe
Benefits. The Officer shall be entitled to participate in any plan relating to
deferred compensation, stock awards, stock options, stock purchases, pension,
thrift, profit sharing, group life insurance, medical and dental coverage,
disability coverage, education, or other retirement or employee benefits that
the Savings Bank or the Holding Company have adopted, or may, from time to time
adopt, for benefit of their executive employees and for employees generally,
subject to the eligibility rules of such plans.
The Officer shall also be entitled to participate in any other fringe
benefits which are now or may be or become applicable to the Officer or the
Savings Bank's other executive employees, including the payment of reasonable
expenses for attending annual and periodic meetings of trade associations, and
any other benefits which are commensurate with the duties and responsibilities
to be performed by the Officer under this Agreement. Additionally, the Officer
shall be entitled to such vacation and sick leave as shall be established under
uniform employee policies promulgated by the Directors. The Savings Bank shall
reimburse the Officer for all out-of-pocket reasonable and necessary business
expenses which the Officer may incur in connection with his services on behalf
of the Savings Bank.
5. Term. The initial term of employment under this Agreement shall be
for the period commencing upon the effective date of this Agreement and ending
three (3) calendar years from the effective date of this Agreement. On each
anniversary of the effective date of this Agreement of the Savings Bank, the
term of this Agreement shall automatically be extended for an additional one
year period beyond the then effective expiration date unless written notice from
the Savings Bank or the Officer is received 90 days prior to an anniversary date
advising the other party that this Agreement shall not be further extended;
provided that the Directors shall review the Officer's performance annually and
make a specific determination pursuant to such review to renew this Agreement
prior to the 90 day notice period.
<PAGE>
6. Loyalty. The Officer shall devote his full efforts and entire
business time to the performance of his duties and responsibilities under this
Agreement.
The Officer agrees that he will hold in confidence all knowledge or
information of a confidential nature with respect to the respective businesses
of the Holding Company, the Savings Bank or of their subsidiaries, if any,
received by him during the term of this Agreement and will not disclose or make
use of such information, except in the ordinary course of his duties under this
Agreement, without the prior written consent of the Holding Company or the
Savings Bank.
7. Standards. The Officer shall perform his duties and responsibilities
under this Agreement in accordance with such reasonable standards expected of
employees with comparable positions in comparable organizations and as may be
established from time to time by the Board. The Savings Bank will provide the
Officer with the working facilities and staff customary for similar executives
and necessary for him to perform his duties.
8. Termination and Termination Pay.
(a) The Officer's employment under this Agreement shall be terminated
upon the death of the Officer during the term of this Agreement, in which event,
the Officer's estate shall be entitled to receive the compensation due the
Officer through the last day of the calendar month in which his death shall have
occurred and for a period of one month thereafter.
(b) The Officer's employment under this Agreement may be terminated at
any time by the Officer upon sixty (60) days' written notice to the Board of
Directors. Upon such termination, the Officer shall be entitled to receive
compensation through the effective date of such termination.
(c) The Board may terminate the Officer's employment at any time, but
any termination by the Board, other than termination for cause, shall not
prejudice the Officer's right to compensation or other benefits under this
Agreement for the remaining period which would have been covered by this
Agreement if such termination had not occurred. The Officer shall have no right
to receive compensation or other benefits for any period after termination for
"cause." Termination for "cause" shall include termination because of the
Officer's personal dishonesty, incompetence, willful misconduct, breach of
fiduciary duty involving personal profit, intentional failure to perform stated
duties, willful violation of any law, rule, regulation (other than traffic
violations or similar offenses) or final cease-and-desist order, or material
breach of any provisions of this Agreement.
9. Additional Regulatory Requirements.
(a) If the Officer is suspended and/or temporarily prohibited from
participating in the conduct of the Savings Bank's affairs by a notice served
under Section 8(e)(3) or Section 8(g)(1) of the Federal Deposit Insurance Act
(12 U.S.C. 1818(e)(3) and (g)(1)), the Savings Bank's obligations under this
Agreement shall be suspended as of the date of service, unless stayed by
appropriate proceedings. If the charges in the notice are dismissed, the Savings
Bank shall (i) pay the Officer all of the compensation withheld while its
contract obligations were suspended and (ii) reinstate (in whole or in part) any
of its obligations which were suspended.
<PAGE>
(b) If the Officer is removed and/or permanently prohibited from
participating in the conduct of the Savings Bank's affairs by an order issued
under Section 8(e)(4) of Section 8(g)(1) of the Federal Deposit Insurance Act
(12U.S.C.1818(e)(4) and (g)(1)), all obligations of the Savings Bank under this
Agreement shall terminate as of the effective date of the order, but vested
rights of the contracting parties shall not be affected.
(c) If the Savings Bank is in default as defined in Section 3(x)(1) of
the Federal Deposit Insurance Act (12U.S.C. * 1818(x)(1)), all obligations under
this Agreement shall terminate as of the date of default, but this paragraph
shall not affect any vested rights of the contracting parties.
(d) All obligations under this Agreement shall be terminated, except to
the extent determined that continuation of the Agreement is necessary for the
continued operation of the Savings Bank, (i) by the Federal Deposit Insurance
Corporation (the "Corporation"), at the time the Corporation enters into an
agreement to provide assistance to or on behalf of the Savings Bank under the
authority contained in Section 13(c) of the Federal Deposit Insurance Act (12
U.S.C. ss. 1818(c)); or (ii) by the Administrator of the Savings Institution
Division of the North Carolina Department of Commerce (the "Administrator"), at
the time the Administrator approves a supervisory merger to resolve problems
related to operation of the Savings Bank or when the Savings Bank is determined
by the Administrator to be in an unsafe or unsound condition. Any rights of the
parties that have already vested, however, shall not be affected by such action.
10. Change in Control.
(a) In the event of a "Change in Control" (as defined in Subsection (b)
below), the acquiror shall be prohibited, during the remainder of the term of
this Agreement, from:
(i) Assigning Officer any duties and/or responsibilities that are
inconsistent with his position, duties, responsibilities or status at
the time of the Change in Control or with his reporting
responsibilities or equivalent titles with the Savings Bank in effect
at such time; or
(ii) Adjusting Officer's annual base salary rate other than in
accordance with the provisions of Section 2 of this Agreement; or
(iii) Reducing in level, scope or coverage or eliminating Officer's
life insurance, medical or hospitalization insurance, disability
insurance, profit sharing plans, stock option plans, stock purchase
plans, deferred compensation plans, management retention plans,
retirement plans or similar plans or benefits being provided by the
Savings Bank or the Holding Company to the Officer as of the effective
date of the Change in Control; or
(iv) Transferring Officer to a location outside of Orange County, North
Carolina, without the Officer's express written consent.
(b) For the purposes of this Agreement, the term "Change in Control"
shall mean any of the following events:
(i) a change in control of a nature that would be required to be
reported in response to Item I of the Current Report on Form 8K, as in
effect on the date hereof, pursuant to Section 13 or 1 5(d) of the
Exchange Act; or
<PAGE>
(ii) such time as any "person" (as such term is used in Sections 13(d)
and 14(d) of the Exchange Act) is or becomes the "beneficial owner" (as
defined in Rule 13d-3 under the Exchange Act), directly or indirectly,
of securities of the Holding Company or Savings Bank representing 25
percent or more of the combined voting power of the outstanding Common
Stock of the Holding Company or Common Stock of the Savings Bank, as
applicable; or
(iii) individuals who constitute the Board or board of directors of the
Holding Company on the date hereof (the "Incumbent Board" and
"Incumbent Holding Company Board," respectively) cease for any reason
to constitute at least a majority thereof, provided that any person
becoming a director subsequent to the date hereof whose election was
approved by a vote of at least three quarters of the directors
comprising the Incumbent Board or Incumbent Holding Company Board, as
applicable, or whose nomination for election by the Savings Bank's or
Holding Company's shareholders was approved by the Savings Bank's or
Holding Company's Board of Directors or Nominating Committee, as
applicable, shall be considered as though he or she were a member of
the Incumbent Board or Incumbent Holding Company Board, as applicable;
or
(iv) either the Holding Company or the Savings Bank consolidates or
merges with or into another corporation, association or entity or is
otherwise reorganized, where neither the Holding Company nor the
Savings Bank, respectively, is the surviving corporation in such
transaction; or
(v) all or substantially all of the assets of either the Holding
Company or the Savings Bank are sold or otherwise transferred to or are
acquired by any other entity or group.
Notwithstanding the other provisions of this Section 10, a transaction
or event shall not be considered a Change in Control if, prior to the
consummation or occurrence of such transaction or event, Officer and Savings
Bank agree in writing that the same shall not be treated as a Change in Control
for purposes of this Agreement.
(c) If, after the occurrence of a Change in Control, (i) the employment
of the Officer shall be terminated by the Savings Bank or its successor for any
reason other than for "cause" as defined in Section 8(c) or (ii) the employment
of the Officer shall be terminated by the Officer as a result of a breach of
this Agreement by the Savings Bank or its successor, and as a result of such
termination, the Officer shall not become fully vested in benefits provided to
the Officer under any retirement plan, restricted stock plan, stock option plan,
stock ownership plan, or other employee benefit plan, then in addition to any
liability arising under this Agreement, the Savings Bank or its successor shall
pay to the Officer an amount equal to the value of the benefits in which the
Officer shall not become fully vested as a result of such termination.
(d) In the event any dispute shall arise between the Officer and the
Savings Bank as to the terms or interpretation of this Agreement, including this
Section 10, whether instituted by formal legal proceedings or otherwise,
including any action taken by the Officer to enforce the terms of this Section
10 or in defending against any action taken by the Savings Bank, the Savings
Bank shall reimburse the Officer for all costs and expenses incurred in such
proceedings or actions, including attorney's fees, in the event the Officer
prevails in any such action.
<PAGE>
11. Successors and Assigns.
(a) This Agreement shall inure to the benefit of and be binding upon
any corporate or other successor of the Savings Bank which shall acquire,
directly or indirectly, by conversion, merger, consolidation, purchase or
otherwise, all or substantially all of the assets of the Holding Company or the
Savings Bank.
(b) Since the Savings Bank is contracting for the unique and personal
skills of the Officer, the Officer shall be precluded from assigning or
delegating his rights or duties hereunder without first obtaining the written
consent of the Savings Bank.
12. Modification: Waiver: Ammendments. No provision of this Agreement
may be modified, waived or discharged unless such waiver, modification or
discharge is agreed to in writing, signed by the Officer and on behalf of the
Savings Bank by such officer as may be specifically designated by the Directors.
No waiver by either party hereto, at any time, of any breach by the other party
hereto of, or compliance with, any condition or provision of this Agreement to
be performed by such other party shall be deemed a waiver of similar or
dissimilar provisions or conditions at the same or at any prior or subsequent
time. No amendments or additions to this Agreement shall be binding unless in
writing and signed by both parties, except as herein otherwise provided.
13. Applicable Law. This Agreement shall be governed in all respects
whether as to validity, construction, capacity, performance or otherwise, by the
laws of North Carolina, except to the extent that federal law shall be deemed to
apply.
14. Severability. The provisions of this Agreement shall be deemed
severable and the invalidity or unenforceability of any provision shall not
affect the validity or enforceability of the other provisions hereof.
IN WlTNESS WHEREOF, the parties have executed this Agreement as of the
day and year first hereinabove written.
HILLSBOROUGH SAVINGS BANK, INC., SSB
By: /s/M. Marion Clark
------------------
Chairman of the Board
/s/Ted R. Laws
---------------------- (SEAL)
The foregoing Agreement is consented and agreed to by Piedmont Bancorp,
Inc., the parent holding company of Hillsborough Savings Bank, Inc., SSB.
PIEDMONT BANCORP, INC.
By: /s/M. Marion Clark
------------------
Chairman of the Board
<PAGE>
EXHIBIT (10)((ii)(f)
HILLSBOROUGH SAVINGS BANK, INC., SSB
EMPLOYMENT AGREEMENT
THIS AGREEMENT entered into as of March 3, 1997, by and between
HILLSBOROUGH SAVINGS BANK, INC., SSB (hereinafter referred to as the "Savings
Bank") and Eric J. Schuppenhauer (hereinafter referred to as the "Officer") and
is joined in by PIEDMONT BANCORP, INC., the parent holding company of the
Savings Bank (hereinafter referred to as the "Holding Company").
WHEREAS, the Savings Bank is a state-chartered stock savings bank and
the wholly-owned subsidiary of the Holding Company, and WHEREAS, the Savings
Bank desires to retain the services of the Officer as Vice President and Chief
Financial Officer of the Savings Bank upon the terms and conditions set forth
herein; and
WHEREAS, the services of the Officer, his experience and knowledge of
the affairs of the Savings Bank, and his reputation and contacts in the industry
and the local community are extremely valuable to the Savings Bank, and
WHEREAS, the Savings Bank wishes to attract and retain such
well-qualified executives and it is in the best interest of the Savings Bank and
of the Officer to secure the continued services of the Officer notwithstanding
any change in control of the Savings Bank or the Holding Company; and
WHEREAS, the Savings Bank considers the establishment and maintenance
of a sound and vital management to be part of its overall corporate strategy and
to be essential to protecting and enhancing the best interests of the Holding
Company, the Savings Bank and their stockholders; and
WHEREAS, the parties desire to enter into this Agreement in order to
set forth the terms and conditions of the Officer's employment relationship with
the Savings Bank.
NOW, THEREFORE, for and in consideration of the premises and mutual
promises, covenants and conditions hereinafter set forth and other good and
valuable considerations, the receipt and sufficiency of which hereby are
acknowledged, the parties hereby do agree as follows:
1. Employment. The Savings Bank hereby agrees to employ the Officer and
the Officer hereby agrees to accept employment, upon the terms and conditions
stated herein, as Vice President and Chief Financial Officer of the Savings
Bank. The Officer shall render such administrative and management services to
the Savings Bank as are customarily performed by persons situated in a similar
executive capacity. The Officer shall promote the business of the Savings Bank
and perform such other duties as shall, from time to time, be reasonably
prescribed by the Board of Directors of the Savings Bank (the "Board").
2. Compensation. The Savings Bank shall pay the Officer during the term
of this agreement, as compensation for all service rendered by him to the
Savings Bank, a base salary at the rate of $59,000.00 per annum, payable in cash
not less frequently than monthly; provided that the rate of salary shall be
reviewed by the Board not less often than annually. Such rate of salary, or
increased rate of salary, as the case may be, may be further increased from time
<PAGE>
to time in such amounts as the Board, in its discretion, may decide. In
determining salary increases, the Board shall compensate the Officer for
increases in the cost of living and may also provide for performance or merit
increases. Participation in incentive compensation, deferred compensation,
discretionary bonus, profit-sharing, retirement, stock option and other employee
benefit plans that the Savings Bank or the Holding Company have adopted or may
from time to time adopt, and participation in any fringe benefits, shall not
reduce that salary payable to the Officer under this Section. The Officer will
be entitled to such customary fringe benefits, vacation, sick leave as are
consistent with the normal practices and established policies of the Savings
Bank. In the event of a Change of Control (as defined in Section 10), the
Officer's rate of salary shall be increased not less than six percent (6%)
annually during the term of this Agreement.
3. Discretionary Bonuses. During the term of this Agreement, the
Officer shall be entitled in an equitable manner with all other key management
personnel of the Savings Bank, to such discretionary bonuses as may be
authorized, declared and paid by the Directors to the Savings Bank's key
management employees. No other compensation provided for in this Agreement shall
be deemed a substitute for the Officer's right to such discretionary bonuses
when and as declared by the Directors.
4. Participation in Retirement and Employee Benefit Plans: Fringe
Benefits. The Officer shall be entitled to participate in any plan relating to
deferred compensation, stock awards, stock options, stock purchases, pension,
thrift, profit sharing, group life insurance, medical and dental coverage,
disability coverage, education, or other retirement or employee benefits that
the Savings Bank or the Holding Company have adopted, or may, from time to time
adopt, for benefit of their executive employees and for employees generally,
subject to the eligibility rules of such plans.
The Officer shall also be entitled to participate in any other fringe
benefits which are now or may be or become applicable to the Officer or the
Savings Bank's other executive employees, including the payment of reasonable
expenses for attending annual and periodic meetings of trade associations, and
any other benefits which are commensurate with the duties and responsibilities
to be performed by the Officer under this Agreement. Additionally, the Officer
shall be entitled to such vacation and sick leave as shall be established under
uniform employee policies promulgated by the Directors. The Savings Bank shall
reimburse the Officer for all out-of-pocket reasonable and necessary business
expenses which the Officer may incur in connection with his services on behalf
of the Savings Bank.
5. Term. The initial term of employment under this Agreement shall be
for the period commencing upon the effective date of this Agreement and ending
three (3 ) calendar years from the effective date of this Agreement. On each
anniversary of the effective date of this Agreement of the Savings Bank, the
term of this Agreement shall automatically be extended for an additional one
year period beyond the then effective expiration date unless written notice from
the Savings Bank or the Officer is received 90 days prior to an anniversary date
advising the other party that this Agreement shall not be further extended;
provided that the Directors shall review the Officer's performance annually and
make a specific determination pursuant to such review to renew this Agreement
prior to the 90 day notice period.
6. Loyalty. The Officer shall devote his full efforts and entire
business time to the performance of his duties and responsibilities under this
Agreement.
<PAGE>
The Officer agrees that he will hold in confidence all knowledge or
information of a confidential nature with respect to the respective businesses
of the Holding Company, the Savings Bank or of their subsidiaries, if any,
received by him during the term of this Agreement and will not disclose or make
use of such information, except in the ordinary course of his duties under this
Agreement, without the prior written consent of the Holding Company or the
Savings Bank.
7. Standards. The Officer shall perform his duties and responsibilities
under this Agreement in accordance with such reasonable standards expected of
employees with comparable positions in comparable organizations and as may be
established from time to time by the Board. The Savings Bank will provide the
Officer with the working facilities and staff customary for similar executives
and necessary for him to perform his duties.
8. Termination and Termination Pay.
(a) The Officer's employment under this Agreement shall be terminated
upon the death of the Officer during the term of this Agreement, in which event,
the Officer's estate shall be entitled to receive the compensation due the
Officer through the last day of the calendar month in which his death shall have
occurred and for a period of one month thereafter.
(b) The Officer's employment under this Agreement may be terminated at
any time by the Officer upon sixty (60) days' written notice to the Board of
Directors. Upon such termination, the Officer shall be entitled to receive
compensation through the effective date of such termination.
(c) The Board may terminate the Officer's employment at any time, but
any termination by the Board, other than termination for cause, shall not
prejudice the Officer's right to compensation or other benefits under this
Agreement for the remaining period which would have been covered by this
Agreement if such termination had not occurred. The Officer shall have no right
to receive compensation or other benefits for any period after termination for
"cause." Termination for "cause" shall include termination because of the
Officer's personal dishonesty, incompetence, willful misconduct, breach of
fiduciary duty involving personal profit, intentional failure to perform stated
duties, willful violation of any law, rule, regulation (other than traffic
violations or similar offenses) or final cease-and-desist order, or material
breach of any provisions of this Agreement.
9. Additional Regulatory Requirements.
(a) If the Officer is suspended and/or temporarily prohibited from
participating in the conduct of the Savings Bank's affairs by a notice served
under Section 8(e)(3) or Section 8(g)(1) of the Federal Deposit Insurance Act
(12 U.S.C. 1818(e)(3) and (g)(l)), the Savings Bank's obligations under this
Agreement shall be suspended as of the date of service, unless stayed by
appropriate proceedings. If the charges in the notice are dismissed, the Savings
Bank shall (i) pay the Officer all of the compensation withheld while its
contract obligations were suspended and (ii) reinstate (in whole or in part) any
of its obligations which were suspended.
(b) If the Officer is removed and/or permanently prohibited from
participating in the conduct of the Savings Bank's affairs by an order issued
under Section 8(e)(4) of Section 8(g)(l) of the Federal Deposit lnsurance Act
(12U.S.C.1818(e)(4) and (g)(1)), all obligations of the Savings Bank under this
Agreement shall terminate as of the effective date of the order, but vested
rights of the contracting parties shall not be affected.
<PAGE>
(c) If the Savings Bank is in default as defined in Section 3(x)(1) of
the Federal Deposit Insurance Act (12U.S.C. ss. 1818(x)(1)), all obligations
under this Agreement shall terminate as of the date of default, but this
paragraph shall not affect any vested rights of the contracting parties.
(d) All obligations under this Agreement shall be terminated, except to
the extent determined that continuation of the Agreement is necessary for the
continued operation of the Savings Bank, (i) by the Federal Deposit Insurance
Corporation (the "Corporation"), at the time the Corporation enters into an
agreement to provide assistance to or on behalf of the Savings Bank under the
authority contained in Section 13(c) of the Federal Deposit Insurance Act (12
U.S.C. ss. 1818(c)); or (ii) by the Administrator of the Savings Institution
Division of the North Carolina Department of Commerce (the "Administrator"), at
the time the Administrator approves a supervisory merger to resolve problems
related to operation of the Savings Bank or when the Savings Bank is determined
by the Administrator to be in an unsafe or unsound condition. Any rights of the
parties that have already vested, however, shall not be affected by such action.
10. Change in Control.
(a) In the event of a "Change in Control" (as defined in Subsection (b)
below), the acquiror shall be prohibited, during the remainder of the term of
this Agreement, from:
(i) Assigning Officer any duties and/or responsibilities that are
inconsistent with his position, duties, responsibilities or status at
the time of the Change in Control or with his reporting
responsibilities or equivalent titles with the Savings Bank in effect
at such time; or
(ii) Adjusting Officer's annual base salary rate other than in
accordance with the provisions of Section 2 of this Agreement; or
(iii) Reducing in level, scope or coverage or eliminating Officer's
life insurance, medical or hospitalization insurance, disability
insurance, profit sharing plans, stock option plans, stock purchase
plans, deferred compensation plans, management retention plans,
retirement plans or similar plans or benefits being provided by the
Savings Bank or the Holding Company to the Officer as of the effective
date of the Change in Control; or
(iv) Transferring Officer to a location outside of Orange County, North
Carolina, without the Officer's express written consent.
(b) For the purposes of this Agreement, the term "Change in Control"
shall mean any of the following events:
(i) a change in control of a nature that would be required to be
reported in response to Item 1 of the Current Report on Form 8K, as in
effect on the date hereof, pursuant to Section 13 or 1 5(d) of the
Exchange Act; or
(ii) such time as any "person" (as such term is used in Sections 13(d)
and 14(d) of the Exchange Act) is or becomes the "beneficial owner" (as
defined in Rule 13d-3 under the Exchange Act), directly or indirectly,
of securities of the Holding Company or Savings Bank representing 25
percent or more of the combined voting power of the outstanding Common
Stock of the Holding Company or Common Stock of the Savings Bank, as
applicable; or
<PAGE>
(iii) individuals who constitute the Board or board of directors of the
Holding Company on the date hereof (the "Incumbent Board" and
"Incumbent Holding Company Board," respectively) cease for any reason
to constitute at least a majority thereof, provided that any person
becoming a director subsequent to the date hereof whose election was
approved by a vote of at least three quarters of the directors
comprising the Incumbent Board or Incumbent Holding Company Board, as
applicable, or whose nomination for election by the Savings Bank's or
Holding Company's shareholders was approved by the Savings Bank's or
Holding Company's Board of Directors or Nominating Committee, as
applicable, shall be considered as though he or she were a member of
the Incumbent Board or Incumbent Holding Company Board, as applicable;
or
(iv) either the Holding Company or the Savings Bank consolidates or
merges with or into another corporation, association or entity or is
otherwise reorganized, where neither the Holding Company nor the
Savings Bank, respectively, is the surviving corporation in such
transaction; or
(v) all or substantially all of the assets of either the Holding
Company or the Savings Bank are sold or otherwise transferred to or are
acquired by any other entity or group.
Notwithstanding the other provisions of this Section 10, a transaction
or event shall not be considered a Change in Control if, prior to the
consummation or occurrence of such transaction or event, Officer and Savings
Bank agree in writing that the same shall not be treated as a Change in Control
for purposes of this Agreement.
(c) If, after the occurrence of a Change in Control, (i) the employment
of the Officer shall be terminated by the Savings Bank or its successor for any
reason other than for "cause" as defined in Section 8(c) or (ii) the employment
of the Officer shall be terminated by the Officer as a result of a breach of
this Agreement by the Savings Bank or its successor, and as a result of such
termination, the Officer shall not become fully vested in benefits provided to
the Officer under any retirement plan, restricted stock plan, stock option plan,
stock ownership plan, or other employee benefit plan, then in addition to any
liability arising under this Agreement, the Savings Bank or its successor shall
pay to the Officer an amount equal to the value of the benefits in which the
Officer shall not become fully vested as a result of such termination.
(d) In the event any dispute shall arise between the Officer and the
Savings Bank as to the terms or interpretation of this Agreement, including this
Section 10, whether instituted by formal legal proceedings or otherwise,
including any action taken by the Officer to enforce the terms of this Section
10 or in defending against any action taken by the Savings Bank, the Savings
Bank shall reimburse the Officer for all costs and expenses incurred in such
proceedings or actions, including attorney's fees, in the event the Officer
prevails in any such action.
11. Successors and Assigns.
(a) This Agreement shall inure to the benefit of and be binding upon
any corporate or other successor of the Savings Bank which shall acquire,
directly or indirectly, by conversion, merger, consolidation, purchase or
otherwise, all or substantially all of the assets of the Holding Company or the
Savings Bank.
<PAGE>
(b) Since the Savings Bank is contracting for the unique and personal
skills of the Officer, the Officer shall be precluded from assigning or
delegating his rights or duties hereunder without first obtaining the written
consent of the Savings Bank.
12. Modification: Waiver: Amendments. No provision of this Agreement
may be modified, waived or discharged unless such waiver, modification or
discharge is agreed to in writing, signed by the Officer and on behalf of the
Savings Bank by such officer as may be specifically designated by the Directors.
No waiver by either party hereto, at any time, of any breach by the other party
hereto of, or compliance with, any condition or provision of this Agreement to
be performed by such other party shall be deemed a waiver of similar or
dissimilar provisions or conditions at the same or at any prior or subsequent
time. No amendments or additions to this Agreement shall be binding unless in
writing and signed by both parties, except as herein otherwise provided.
13. Applicable Law. This Agreement shall be governed in all respects
whether as to validity, construction, capacity, performance or otherwise, by the
laws of North Carolina, except to the extent that federal law shall be deemed to
apply.
14. Severability. The provisions of this Agreement shall be deemed
severable and the invalidity or unenforceability of any provision shall not
affect the validity or enforceability of the other provisions hereof
IN WlTNESS WHEREOF, the parties have executed this Agreement as of the
day and year first hereinabove written.
HILLSBOROUGH SAVINGS BANK, INC., SSB
By: /s/M. Marion Clark
------------------
Chairman of the Board
By: /s/Eric J. Schuppenhauer (SEAL)
------------------------
The foregoing Agreement is consented and agreed to by Piedmont Bancorp,
Inc., the parent holding company of Hillsborough Savings Bank, Inc., SSB.
PIEDMONT BANCORP, INC.
By: /s/M. Marion Clark
------------------
Chairman of the Board
STATEMENT REGARDING COMPUTATION OF PER SHARE EARNINGS
Loss per common share of $.20 for the year ended June 30, 1997 was
calculated by dividing net loss of $534,000 for the year ended June 30, 1997 by
the weighted-average number of common and common equivalent shares outstanding
of 2,665,277. Earnings per common share of $0.45 for the year ended June 30,
1996 was calculated by dividing post-conversion net income of $1,102,000 by the
weighted-average number of common and common equivalent shares outstanding of
2,466,832. For purposes of the weighted-average number of common and
common-equivalent shares outstanding, common stock equivalents consist of stock
options. The number of shares purchased by the employee stock ownership plan
which have not been allocated or committed to be released to participant
accounts are not assumed to be outstanding.
STATEMENT REGARDING COMPUTATION OF RATIOS
The averages used in computing the performance ratios provided in Item
7 represent average daily balances.
TABLE OF CONTENTS
President's Message..................................................... 3
Management's Discussion and Analysis.................................... 5
Independent Auditors' Report............................................ 24
Consolidated Financial Statements....................................... 25
Notes to Consolidated Financial Statements.............................. 32
Directors, Officers and Office Locations................................ 54
Corporate Information................................................... 54
Capital Stock........................................................... 55
This Annual Report to Stockholders contains forward-looking statements. These
statements are subject to certain risks and uncertainties that could cause
actual results to differ materially from those anticipated in the
forward-looking statements. Factors that might cause such a difference include,
but are not limited to, changes in the interest rate environment, management's
business strategy, national, regional, and local market conditions and
legislative and regulatory conditions.
Readers should not place undue reliance on forward-looking statements, which
reflect management's view only as of the date hereof. The Company undertakes no
obligation to publicly revise these forward-looking statements to reflect
subsequent events or circumstances. Readers should also carefully review the
risk factors described in other documents the Company files from time to time
with the Securities and Exchange Commission.
<PAGE>
<TABLE>
<CAPTION>
SELECTED FINANCIAL DATA
1997 1996 1995 1994 1993
--------- --------- --------- --------- ---------
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Summary of Operations:
Interest income ................................... $ 9,535 $ 9,248 $ 7,811 $ 6,864 $ 6,728
Interest expense .................................. 4,603 4,414 3,682 3,262 3,506
--------- --------- --------- --------- ---------
Net interest income ............................... 4,932 4,834 4,129 3,602 3,222
Provision for loan losses ......................... 658 96 120 87 60
--------- --------- --------- --------- ---------
Net interest income after provision for loan losses 4,274 4,738 4,009 3,515 3,162
Other income ...................................... 225 255 336 255 683
Other expenses .................................... 4,716 2,449 2,265 2,027 1,832
--------- --------- --------- --------- ---------
Income (loss) before income tax expense ........... (217) 2,544 2,080 1,743 2,013
Income tax expense ................................ 317 849 837 710 803
Net income (loss) .............................. $ (534) $ 1,695 $ 1,243 $ 1,033 $ 1,210
========= ========= ========= ========= =========
Selected Year-end Balances:
Total assets ...................................... $ 122,761 $ 128,711 $ 104,013 $ 97,368 $ 95,094
Loans receivable, net ............................. 100,173 91,187 84,713 81,733 80,937
Investments (1) ................................... 17,973 32,564 15,043 11,338 9,910
Deposits .......................................... 84,860 73,361 76,745 74,287 72,262
FHLB Advances ..................................... 16,500 17,250 13,000 10,500 11,000
Stockholders' equity .............................. 20,416 37,050 13,646 12,195 11,347
Average Balance Sheet Data:
Total assets ...................................... $ 123,896 $ 119,252 $ 100,359 $ 97,827 $ 90,876
Total earning assets .............................. 120,700 116,010 96,745 95,046 87,265
Loans receivable, net ............................. 95,937 87,917 83,326 83,534 76,642
Investments (1) ................................... 23,869 27,297 12,633 10,733 9,976
Deposits .......................................... 78,720 77,221 75,110 73,137 71,505
Borrowings ........................................ 16,481 13,248 10,628 11,603 7,074
Stockholders' equity .............................. 25,893 27,557 12,810 11,959 10,971
Selected Financial Ratios:
Return on average assets .......................... (0.43)% 1.42% 1.24% 1.06% 1.33%
Return on average equity .......................... (2.06) 6.15 9.70 8.64 11.03
Average equity to average assets .................. 20.90 23.11 12.76 12.22 12.07
Interest rate spread (tax equivalent basis) ....... 3.13 3.16 3.72 3.32 3.25
Net interest margin (tax equivalent basis) ........ 4.24 4.33 4.29 3.80 3.69
Dividend payout ratio ............................. n/a 48.89 n/a n/a n/a
Cash dividends declared per common share .......... $ 7.42 0.22 n/a n/a n/a
(1) Includes investment securities, mortgage-backed securities, and
interest-bearing deposits.
</TABLE>
<PAGE>
{Graphic-Company Logo}
President's Message
To Our Stockholders
The Board of Directors and Management of Piedmont Bancorp, Inc. (the
"Parent") and its subsidiary, Hillsborough Savings Bank, Inc., SSB (the
"Bank") (collectively referred to as the "Company") have as their primary
goal increasing value to both stockholders and customers. During fiscal
year 1997, we demonstrated our commitment to increasing stockholder value
through the payment of a $7.00 special dividend. Primarily as a result of
payment of this special dividend, the Company's equity level, as measured
by the ratio of total equity to total assets, decreased from 28.79% at June
30, 1996 to 16.63% at June 30, 1997. However, along with payment of the
special dividend came large non-recurring expenses including approximately
$132,000 in losses on the sale of investment securities to fund the special
dividend and approximately $1.4 million of additional ESOP-related
compensation expense as a result of prepayment of the ESOP loan from the
Parent to the Bank, a large portion of which was non-deductible for income
tax purposes.
Additionally, in September 1996, President Clinton signed into law the
Deposit Insurance Fund Act designed to recapitalize the Federal Deposit
Insurance Corporation's ("FDIC") Savings Association Insurance Fund
("SAIF") of which the Bank is a member. This resulted in a non-recurring
assessment to the Bank of approximately $487,000. With the recapitalization
of the SAIF, the Bank expects to experience lower levels of FDIC deposit
insurance premiums going forward.
Also occurring in the fiscal year was a charge-off of approximately
$510,000 of loans to a single borrower and subsequent reprovisioning of
this amount to the allowance for loan losses to maintain the allowance at
what management considers to be an adequate level. Management considers
this charge-off as non-recurring in nature due to the fact that the Bank
has in place underwriting standards, on-going credit review procedures, and
monitoring systems to analyze the quality of the loans that are held in the
Bank's portfolio.
These events position the Bank well for the future even though they
resulted in a net loss in the current year of approximately $534,000 or
$0.20 per share. The return on equity of the Company is expected to be
enhanced in future periods due to the occurrence of the above mentioned
events through decreased equity levels, decreased ESOP-related compensation
expense, decreased FDIC insurance premiums, and further increased
underwriting scrutiny and monitoring of loans in the Bank's portfolio. This
coupled with the initiatives that management is in the process of
implementing to grow the Bank are intended to result in increased value -
to stockholders and customers.
3
<PAGE>
These initiatives include increased marketing of the Bank's products and
services in Hillsborough and surrounding areas, product development
designed at meeting the evolving financial services needs of the community
that we serve, implementation of new technology to assist employees in
identifying sales opportunities, and analysis of strategic options to
expand the Bank's presence in one of the fastest growing areas in the
country.
We thank you for your investment in Piedmont Bancorp, Inc. and continue to
seek your support and suggestions on how we can provide the greatest value
to both our stockholders and customers.
Sincerely,
/s/D. Tyson Clayton
----------------
D. Tyson Clayton
President and Chief Executive Officer
4
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS
The purpose of this discussion and analysis is to provide the reader
with a description of the financial conditions and changes therein and results
of operations of Piedmont Bancorp, Inc. (the "Parent") and its wholly-owned
subsidiary, Hillsborough Savings Bank, Inc., SSB (the "Bank") (collectively
referred to as the "Company"). This discussion and analysis of financial
condition and results of operation should be read in conjunction with the
audited consolidated financial statements and accompanying notes included in
this report and the supplemental financial data appearing throughout this
discussion and analysis.
RESULTS OF OPERATIONS
The Company's results of operations depend primarily on net interest
income, which is the difference between interest income from interest-earning
assets and interest expense on interest-bearing liabilities. Operations are also
affected by non-interest income, such as income from customer service charges,
loan servicing fee income, gains and losses on the sale of loans and
investments, and other sources of income. The Company's principal operating
expenses, aside from interest expense, consist of compensation and employee
benefits, federal deposit insurance premiums, data processing expenses, office
occupancy costs, and income taxes.
Performance Overview
The Company ended fiscal year 1997 with a net loss of $534,000 or $0.20
per share compared with net income of $1.7 million for the year ended June 30,
1996 and $1.2 million in 1995. Earnings per share for the post conversion period
from December 7, 1995 to June 30, 1996 were $0.45 per share. Net income was
adversely impacted by three non-recurring items which occurred in the first and
second quarters of the 1997 fiscal year: (1) investment securities losses and
compensation-related expenses associated with the payment of the $7.00 special
dividend in December 1996, (2) the Federal Deposit Insurance Corporation
("FDIC") special assessment to recapitalize the Savings Association Insurance
Fund ("SAIF"), and (3) the charge-off of unsecured loans to a single borrower.
Without these non-recurring items, net income, on an after-tax basis, for the
fiscal year would have been approximately $1,569,000 or $0.61 per share.
Net Interest Income
Net interest income is one of the major determining factors in a
financial institution's performance as it is its principal source of earnings.
Net interest income is impacted by a variety of elements: volume, yield/cost and
relative mix of both interest-earning assets and interest-bearing and
noninterest-bearing sources of funds. Table 1 presents average balance sheets
and a net interest income analysis on a tax-equivalent basis for each of the
years in the three-year period ended June 30, 1997.
As shown in Table 1, net interest income, on a fully tax-equivalent
basis, amounted to $5.1 million in 1997, $5.0 million in 1996, and $4.1 million
5
<PAGE>
in 1995. The slight growth in tax-equivalent net interest income in 1997 is
attributable to a $4.7 million or 4.0% growth in average interest-earning assets
during the year, mitigated by a 2.1% decrease in the tax-equivalent net interest
margin to 4.24% in 1997 from 4.33% in 1996.
Growth in average loans receivable of $8.0 million or 9.1% in 1997,
mitigated by a decrease in average investments and interest-bearing deposits of
$3.4 million or 12.6% in 1997, accounts for the net increase in interest-earning
assets. Average loans account for 79.5% of the interest-earning assets of the
Company in 1997 compared to 75.8% of interest-earning assets in 1996. Even with
this shift of interest-earning assets toward higher-yielding assets, the
weighted average tax-equivalent yield on interest-earning assets decreased by
eight basis points in 1997. This decrease is due to loan originations at lower
rates than the existing yield in the portfolio due to market pressures.
The increase in interest expense of $189,000 or 4.3% in 1997 was due
primarily to the increased volume of both deposits and FHLB advances to fund
loan growth. Average interest-bearing liabilities increased by $4.7 million or
5.3% in 1997 while the average rate paid on those liabilities decreased by five
basis points.
Interest rate spread (on a tax-equivalent basis) declined to 3.13% in
1997 from 3.16% in 1996 and 3.72% in 1995 as the decrease in the yield on
interest-earning assets outpaced the decrease in the cost of interest-bearing
liabilities. The net interest margin (on a tax-equivalent basis) decreased to
4.24% in 1997 from 4.33% in 1996, and 4.29% in 1995 due to increased funding of
interest-earning asset growth with deposits and FHLB advances compared to the
use of conversion proceeds in the prior year. Through the payment of the special
dividend in December 1996, average equity to assist in funding decreased $1.7
million or 6.0% to $25.9 million or 21.5% of total interest-earning assets
compared to $27.6 million or 23.8% of total interest-earning assets in 1996.
In 1996, the increase in tax-equivalent interest income as compared to
1995 was primarily the result of a $19.3 million or 19.9% increase in earning
assets. Average loans increased by $4.6 million or 5.5% to $87.9 million.
Average investments increased by $11.8 million or 107% as stock Conversion
proceeds were invested primarily in both taxable and tax-exempt investment
securities. The weighted average yield on interest-earning assets increased by
five basis points in 1996, largely due to an upward adjustment of the Company's
portfolio of adjustable rate loans in a rising rate environment. In 1995,
tax-equivalent interest income rose 14.0% primarily due to increases in the
average yield which increased by 86 basis points. Average interest-bearing
liabilities increased by $4.4 million or 5.2% in 1996 while the average rate
paid on those liabilities increased by 61 basis points, resulting in an increase
of $732,000 or 19.9% in interest expense. Interest rate spread (on a tax
equivalent basis) declined to 3.16% in 1996 from 3.72% in 1995 as the increase
in the cost of interest-bearing liabilities outpaced the increase in the yield
on interest-earning assets. Despite the decline in interest rate spread, net
interest margin (on a tax equivalent basis) increased to 4.33% in 1996 from
4.29% in 1995. While Conversion proceeds were invested at yields somewhat less
than the weighted average yield on total interest-earning assets, those
investments contributed to the increase in net interest margin.
6
<PAGE>
<TABLE>
<CAPTION>
TABLE 1
NET INTEREST INCOME ANALYSIS - TAX EQUIVALENT
1997 1996 1995
---------------------------- ----------------------------- -------------------------
Average Average Average
Average Yield/ Average Yield/ Average Yield/
Balance Interest Rate Balance Interest Rate Balance Interest Rate
------- -------- ---- ------- -------- ---- ------- -------- ----
Assets: (dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable $ 95,937 $ 8,060 8.40% $ 87,917 $ 7,591 8.63% $ 83,326 $ 6,969 8.36%
Taxable investment securities 14,271 959 6.72 14,993 1,020 6.80 10,160 688 6.77
Tax-exempt investment securities(1) 7,193 542 7.54 7,754 546 7.04 821 54 6.58
Interest-bearing deposits 2,405 99 4.12 4,550 226 4.97 1,652 64 3.87
FHLB common stock 894 65 7.27 796 58 7.29 786 55 7.00
-------- ------- -------- ------- -------- -------
Total interest-earning assets 120,700 9,725 8.06 116,010 9,441 8.14 96,745 7,830 8.09
Non-interest-earning assets 3,196 3,242 3,614
-------- -------- --------
TOTAL $123,896 $119,252 $100,359
======== ======== ========
Liabilities and retained earnings:
Interest-bearing liabilities:
Deposit accounts $ 76,819 $ 3,615 4.71% $ 75,365 $ 3,614 4.80% $ 73,569 $ 3,101 4.21%
FHLB advances 16,481 988 5.99 13,248 800 6.04 10,628 581 5.47
-------- ------- -------- ------- -------- -------
Total interest-bearing liabilities 93,300 4,603 4.93 88,613 4,414 4.98 84,197 3,682 4.37
Non-interest-bearing liabilities 4,703 3,082 3,352
Stockholder's equity 25,893 27,557 12,810
-------- -------- --------
TOTAL $123,896 $119,252 $100,359
======== ========
Net interest income and interest
rate spread $ 5,122 3.13% $ 5,027 3.16% $ 4,148 3.72%
======= ======= ========
Net interest-earning assets
and net interest margin $ 27,400 4.24% $ 27,397 4.33% $ 12,548 4.29%
======== ======== ========
Ratio of interest-earning assets
to interest-bearing liabilities 129.37% 130.92% 114.90%
- -----------------
(1) Interest earned on tax-exempt investment securities has been adjusted to a
tax-equivalent basis using the applicable combined federal and state rates of
34.00% and 7.75%, respectively, and reduced by the nondeductible portion of
interest expense.
</TABLE>
7
<PAGE>
While primary reasons for increases have been discussed above, the
total increase in net interest income in the current year is attributable to an
increase in net interest-earning assets, mitigated by decreases in interest rate
spread over the three-year period. Table 2 shows the effect of variances in
volume and rate on taxable-equivalent interest income, interest expense, and net
interest income. The table shows that increases in net interest income were
primarily due to volume in both 1997 and 1996.
<TABLE>
<CAPTION>
TABLE 2
RATE / VOLUME ANALYSIS
1997 1996
--------------------------------------- ------------------------------------
Rate/ Rate/
Volume Rate Volume Net Volume Rate Volume Net
------ ---- ------ --- ------ ---- ------ ---
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Interest income (tax-equivalent) on:
Loans ............................ $ 693 $ (205) $ (19) $ 469 $ 384 $ 225 $ 13 $ 622
Taxable investment securities .... (49) (12) -- (61) 327 3 2 332
Tax-exempt investment securities . (40) 38 (2) (4) 455 4 33 492
Interest-bearing deposits ........ (107) (39) 19 (127) 112 18 32 162
FHLB common stock ................ 7 -- -- 7 1 2 -- 3
------ ------ ------ ------ ------ ------ ------ ------
Total interest income ......... 504 (218) (2) 284 1,279 252 80 1,611
------ ------ ------ ------ ------ ------ ------ ------
Deposit accounts ................. 70 (68) (1) 1 76 434 3 513
FHLB advances .................... 195 (7) -- 188 143 61 15 219
------ ------ ------ ------ ------ ------ ------ ------
Total interest expense ........ 265 (75) (1) 189 219 495 18 732
------ ------ ------ ------ ------ ------ ------ ------
Increase (decrease) in net ......... $ 239 $ (143) $ (1) $ 95 $1,060 $ (243) $ 62 $ 879
interest income ====== ====== ====== ====== ====== ====== ====== ======
</TABLE>
Provisions for Loan Losses
The provision for loan losses is charged to earnings to maintain the
total allowance for loan losses at a level considered adequate to cover loan
losses based on existing loan levels and types of loans outstanding,
nonperforming loans, prior loan loss experience, industry standards, and general
economic conditions. Provisions for loan losses totaled $658,000 in 1997
compared to $96,000 in 1996, and $120,000 in 1995. This unusually high provision
resulted primarily from the reprovision of the allowance for loan losses after
charge off of approximately $510,000 of loans to a single borrower in December
1996. No further charge offs related to this borrower have occurred or are
anticipated at this time. The Company received approximately $45,000 of
recoveries from this single borrower during the year. In both 1996 and 1995, the
provision for loan losses was recorded based primarily on loan portfolio growth.
8
<PAGE>
Other Income
Other income decreased to $225,000 in 1997 compared to $255,000 in 1996
and $337,000 in 1995. Other income included losses realized on the sale of
investments and mortgage-backed securities of $135,000, $47,000, and $100,000,
in 1997, 1996, and 1995, respectively. The net losses on the sale of investments
and mortgage-backed securities in 1997 were primarily attributable to partial
liquidation of invested conversion proceeds to facilitate payment of the special
dividend in December 1996. Net losses were incurred in prior years as
management, in response to higher prevailing market interest rates, restructured
the Company's investment portfolio to achieve higher yields in future periods.
Other income also includes lower-of-cost-or-market adjustments on loans
held-for-sale. In 1997, the Bank had $4,000 in lower-of-cost-or-market
recoveries resulting from the falling interest rate environment during the year
compared to $40,000 of lower-of-cost-or-market writedowns in 1996.
Lower-of-cost-or-market recoveries of $19,000 were recorded during 1995. Other
income was positively affected by the growth in customer service and other fees
of $26,000 or 14.9% to $201,000 from $175,000 in 1996. This increase is
attributable to both an increase in the volume of deposit accounts with the Bank
and the implementation of a new deposit-related fee schedule in July 1996.
Other Expenses
Other expenses totaled $4,716,000 in 1997 compared to $2,449,000 and
$2,265,000 in 1996 and 1995, respectively. This significant increase was
primarily attributable to two large non-recurring expenses that occurred in the
first and second quarters of fiscal year 1997. First, in 1997, the Company
recorded $1,702,000 of compensation expense related to the Company's employee
stock ownership plan ("ESOP"), primarily associated with the release and
allocation of approximately 126,000 shares of common stock of the Parent to
participants of the ESOP during the second quarter of 1997. The special dividend
paid on the Parent's stock on December 6, 1996 and management's decision to use
the special dividends paid on the unallocated shares of the Parent's common
stock held by the ESOP to pre-pay the ESOP loan from the Parent to the ESOP
resulted in a significant portion of that share release, approximately 103,000
shares. As a result, approximately $1,428,000 of the ESOP-related compensation
expense is deemed to be non-recurring in nature.
The second non-recurring other expense was the $487,000 one-time FDIC
special assessment for the recapitalization of the SAIF. The assessment was
levied on all depository institutions with SAIF-insured deposits and amounted to
65.7 basis points on assessable deposits as of March 31, 1995. The Company's
quarterly FDIC premiums have decreased since the recapitalization of the SAIF.
Without the effect of the non-recurring SAIF assessment and the
non-recurring portion of ESOP-related compensation expense, other expenses would
have totaled $2,801,000, a $352,000 increase from 1996. Compensation and fringe
benefits, excluding non-recurring items, increased by $371,000 to $1,724,000
compared to $1,353,000 in 1996, primarily related to the ESOP and the Company's
management recognition plan ("MRP"). The ESOP, which was established in
conjunction with the Conversion in the middle of the prior fiscal year, provides
a potentially higher level of retirement benefits to employees than the previous
retirement plan. The recurring portion of ESOP-related compensation expense for
1997 totaled $274,000 compared to $179,000 recorded for 1996. Also contributing
to the increase in compensation expense was $237,000 of amortization of deferred
compensation associated with the MRP implemented August 29, 1996.
9
<PAGE>
"Other" other expenses increased $70,000 to $408,000 in 1997 from
$338,000 in 1996 due to increases in marketing expenses, shareholder reporting
expenses, and franchise tax expenses. These increased expenses are mitigated to
a degree by a $105,000 decrease in FDIC-insurance premiums to $71,000 for 1997
from $176,000 for 1996. Deposit insurance premiums decreased starting with the
quarter ended December 31, 1996. The reduced level of FDIC-insurance premiums is
anticipated to continue into the future.
For 1996, other expenses increased by 8.1% from the 1995 levels.
Contributing to increased expenses in the prior year were increases in
compensation and fringe benefits, data and items processing expense, and
professional fees. Compensation and fringe benefits, consistently representing
over 50% of total other expenses, increased by $55,000 or 4.2% in 1996. Salaries
increased by $57,000 while retirement expense increased by $120,000. 1996
retirement expense reflects the implementation of the Bank's ESOP which provides
a higher level of retirement benefits to employees than the retirement plan
which was in place in previous years. Directors' compensation declined by
$113,000 to a more normal level from 1995 when extra meetings associated with
the Conversion were held. Data and items processing expense increased by $31,000
due to both increased transaction volume and investments in technology.
Professional fees increased by $30,000 as the Company obtained assistance in
making the transition from mutual to stock ownership during the year.
Income Tax Expense
The Company recorded income tax expense of $317,000 in 1997, compared
to $849,000 in 1996 and $837,000 in 1995. The decrease in tax expense in 1997
reflects the pre-tax loss and the fact that a significant portion of the
ESOP-related compensation expense is not tax-deductible.
ANALYSIS OF FINANCIAL CONDITION
During 1997, total assets of the Company decreased by $6.0 million or
4.6% as a result of the special dividend of $7.00 per share paid by the Company
in December 1996 resulting in a reduction in assets of approximately $17.8
million. This reduction in assets was mitigated by strong growth in loans of
$9.0 million or 9.9%. Also as a result of the dividend paid during the year,
total equity has decreased from $37.1 million to $20.4 million representing a
$16.6 million or 44.9% decrease. Equity to assets at the end of 1997 is 16.63%
compared to 28.79% at the end of the prior year. Funding in 1997 was provided
through an $11.5 million or 15.7% increase in deposit accounts with deposits
totaling $84.9 million at the end of 1997 compared with $73.4 million at the end
of 1996.
Loans
The Company's primary source of revenue is interest and fee income from
lending activities, consisting primarily of one-to-four family residential
mortgage loans located in its primary market area. The Company also makes loans
secured by improved nonresidential real estate, construction loans, loans
secured by undeveloped real estate, home equity loans, and consumer loans, both
secured and unsecured.
10
<PAGE>
At June 30, 1997, the loan portfolio totaled $100.2 million and
represented 81.6% of total assets. During 1997, loans increased by $9.0 million
or 9.9% . Loan originations increased from $21.2 million in 1996 to $33.2
million in 1997, largely in response to the Company's efforts to expand its loan
programs into adjacent counties through increased marketing. As presented in
Table 3, the relative composition of the loan portfolio began to change slightly
in 1997 as compared to prior years. One-to-four family loans increased as a
percentage of the portfolio in the current year to 77.48% from 73.58% in 1996.
This trend is attributable to the growth in the Hillsborough and surrounding
market areas. Also reflecting the growth in the area is the amount of
construction lending, mostly consisting of construction-to-permanent loans, that
have been made during the past year, growing from 5.51% of the total loan
portfolio in 1996 to 9.62% in 1997. Table 3 sets forth the composition of the
loan portfolio at the dates indicated.
<TABLE>
<CAPTION>
TABLE 3
TYPES OF LOANS
June 30,
-----------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
------------------ ------------------ ------------------ ------------------ ------------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Real estate loans:
Residential 1-4 family $ 77,621 77.48% $ 67,095 73.58% $ 62,379 73.63% $ 59,842 73.22% $ 58,500 72.28%
Nonresidential real estate 6,649 6.64 8,818 9.67 8,623 10.18 7,574 9.27 7,242 8.95
Home equity and other
second mortgage 10,997 10.98 11,616 12.74 11,916 14.07 12,027 14.71 11,244 13.89
Construction 9,638 9.62 5,026 5.51 1,805 2.13 2,769 3.39 5,762 7.12
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total real estate loans 104,905 104.72 92,555 101.50 84,723 100.01 82,212 100.59 82,748 102.24
Other installment loans 1,061 1.06 1,719 1.89 1,635 1.93 1,635 2.00 1,460 1.80
Less:
Unearned fees and discounts 348 0.35 281 0.31 185 0.22 268 0.33 305 0.38
Loans in process 4,649 4.64 2,198 2.41 945 1.11 1,442 1.76 2,649 3.27
Allowance for loan losses 796 0.79 608 0.67 515 0.61 404 0.50 317 0.39
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total reductions 5,793 5.78 3,087 3.39 1,645 1.94 2,114 2.59 3,271 4.04
-------- ------ -------- ------ -------- ------ -------- ------ -------- ------
Total loans, net $100,173 100.00 $ 91,187 100.00 $ 84,713 100.00 $ 81,733 100.00 $ 80,937 100.00
======== ====== ======== ====== ======== ====== ======== ====== ======== ======
</TABLE>
In order to protect the Company's net interest margin, management has, as part
of its interest rate risk management program, placed an emphasis on maintaining
adjustable rate mortgage loans and home equity lines of credit in its portfolio.
This strategy has resulted in more consistent net interest income and lower
interest sensitivity than experienced by most traditional fixed-rate residential
mortgage lenders. In both of the most recent fiscal years, 1997 and 1996, the
Company has not sold any of its mortgage loan production into the secondary
market as sufficient liquidity and interest rate protection was provided through
11
<PAGE>
the investment of conversion proceeds in shorter term investments. With the
liquidation of approximately $17.8 million of shorter term assets during the
year to pay the special dividend, the Company is expected to sell selected
current loan production to both provide for sufficient liquidity and protection
of the net interest margin.
The following table sets forth the time to contractual maturity of the Company's
loan portfolio at June 30, 1997. All loans, fixed and floating, are shown as due
in the period of contractual maturity. Demand loans, loans having no stated
maturity and overdrafts are reported as due in one year or less. The table does
not include prepayments or scheduled principal repayments. Amounts in the table
are net of loans in process and are net of unamortized loan fees.
<TABLE>
<CAPTION>
TABLE 4
LOAN MATURITIES
June 30, 1997
--------------------------------------------------------------------------------
Over 1 Over 3 Over 5
One Year Year to Years to Years to Over 10
Or Less 3 Years 5 Years 10 Years Years Total
--------- --------- --------- --------- --------- ---------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Real estate loans:
Residential 1-4 family
Fixed ..................... $ 185 $ 217 $ 540 $ 5,125 $ 36,010 $ 42,077
Floating .................. 100 226 646 3,890 30,294 35,156
Nonresidential real estate
Fixed ..................... 3 11 -- 260 1,385 1,659
Floating .................. 746 231 23 2,166 1,824 4,990
Home equity and other second
mortgage
Fixed ..................... 37 148 201 269 31 686
Floating .................. 73 136 1,799 8,176 127 10,311
Construction
Fixed ..................... -- -- -- -- 2,523 2,523
Floating .................. 840 350 -- -- 1,316 2,506
--------- --------- --------- --------- --------- ---------
Total real estate loans 1,984 1,319 3,209 19,886 73,510 99,908
Other installment loans:
Fixed ..................... 396 346 158 59 102 1,061
Floating .................. -- -- -- -- -- --
Less:
Allowance for loan losses .... (796) -- -- -- -- (796)
--------- --------- --------- --------- --------- ---------
Total loans, net ........ $ 1,584 $ 1,665 $ 3,367 $ 19,945 $ 73,612 $ 100,173
========= ========= ========= ========= ========= =========
</TABLE>
12
<PAGE>
Asset Quality and Allowance for Loan Losses
The following table sets forth information with respect to nonperforming assets,
including nonaccrual loans and real estate owned, and risk assets at the dates
indicated.
<TABLE>
<CAPTION>
TABLE 5
SUMMARY OF NONPERFORMING AND RISK ASSETS
June 30,
-----------------------------------------------------------------
1997 1996 1995 1994 1993
-------- -------- -------- -------- --------
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Total nonaccrual loans ................................ $ 803 $ 758 $ 30 $ 139 $ 158
Total restructured loans .............................. -- -- -- -- --
-------- -------- -------- -------- --------
Total nonperforming loans ....................... 803 758 30 139 158
-------- -------- -------- -------- --------
Real estate owned ..................................... -- -- -- 161 108
-------- -------- -------- -------- --------
Total nonperforming assets ..................... $ 803 $ 758 $ 30 $ 300 $ 266
Accruing loans, delinquent 90 days or more ........... 244 301 571 41 266
-------- -------- -------- -------- --------
Total risk assets ............................... $ 1,047 $ 1,059 $ 601 $ 341 $ 532
======== ======== ======== ======== ========
Nonperforming loans to total loans .................... 0.80% 0.83% 0.04% 0.17% 0.20%
Nonperforming assets to total assets .................. 0.65 0.59 0.03 0.31 0.28
Risk assets to total assets ........................... 0.85 0.82 0.58 0.35 0.56
Allowance for loan losses to:
Total nonperforming assets ........................ 0.99x 0.80x 17.17x 1.35x 1.19x
Total risk assets ................................. 0.76x 0.57x 0.86x 1.18x 0.60x
Total assets .......................................... $122,761 $128,711 $104,013 $ 97,368 $ 95,094
Total loans, net ...................................... 100,173 91,187 84,713 81,733 80,937
Allowance for loan losses ............................. 796 608 515 404 317
</TABLE>
Nonperforming assets increased to $803,000 at June 30, 1997 compared to
$758,000 and $30,000 at June 30, 1996 and 1995, respectively. One large credit
totaling $461,000 secured by commercial real estate and several smaller credits
secured by residential real estate where the borrowers have declared Chapter 13
bankruptcy comprise the nonperforming assets total at June 30, 1997. Management
has reviewed the collateral for nonaccrual loans and believes that collateral
values related to the nonperforming loans exceed the loan balances. Management
has included this review among the factors considered in the evaluation of the
allowance for possible loan losses as discussed below.
Effective July 1, 1995, the Company adopted the provisions of Statement
of Financial Accounting Standards No. 114, "Accounting by Creditors for
Impairment of a Loan", as amended by Statement of Financial Accounting Standards
No. 118, "Accounting by Creditors for Impairment of a Loan: Income Recognition"
13
<PAGE>
(collectively referred to hereafter as "SFAS No. 114"). At June 30, 1997 and
1996, the recorded investment in loans that are considered to be impaired under
SFAS No. 114 was $580,000 and $826,000, respectively. Impaired loans totaling
$458,000 and $457,000 were in non-accrual status at June 30, 1997 and 1996,
respectively. There was no related allowance for credit losses associated with
these loans as determined in accordance with SFAS No. 114; however,
approximately $87,000 and $124,000 of the general allowance for loan losses is
allocated to impaired loans as of June 30, 1997 and 1996, respectively. The
average recorded investment in impaired loans during the year ended June 30,
1997 and 1996 was approximately $779,000 and $864,000. The Company recognized
interest income on the impaired loans of approximately $25,000 and $65,000
during the year ended June 30, 1997 and 1996, respectively.
The allowance for loan losses represents management's estimate of an
amount adequate to provide for potential losses inherent in the loan portfolio.
The adequacy of the allowance for loan losses and the related provision are
based upon management's evaluation of the risk characteristics of the loan
portfolio under current economic conditions with consideration to such factors
as financial condition of the borrower, collateral values, growth and
composition of the loan portfolio, the relationship of the allowance for loan
losses to outstanding loans, and delinquency trends. Management believes that
the allowance for loan losses is adequate. While management uses all available
information to recognize losses on loans, future additions to the allowance may
be necessary based on changes in economic conditions. Various regulatory
agencies, as an integral part of their examination process, periodically review
the Company's allowance for loan losses. Such agencies may require the Company
to recognize additions to the allowance based on their judgments about
information available to them at the time of their examination.
The provision for loan losses is calculated and charged to earnings to
maintain the total allowance for loan losses at a level considered adequate to
cover potential loan losses based on an analysis of existing loan levels, types
of loans outstanding, nonperforming loans, prior loan loss experience, industry
standards and general economic conditions. Provisions for loan losses were
$658,000 in 1997, compared to $96,000 in 1996, and $120,000 in 1995. The
unusually high provision in 1997 resulted primarily from the charge off of
approximately $510,000 of loans to a single borrower in December 1996. No
further charge offs related to this borrower have occurred or are anticipated at
this time. The Company received approximately $45,000 of recoveries from this
single borrower during the year. In both 1996 and 1995, the provision for loan
losses was recorded based primarily on loan portfolio growth. At this time,
management is unaware of any significant potential problem loans except as noted
above or any other concentrations of credit risk which may exist in the
portfolio.
The following tables describe the activity related to the allowance for
loan losses and the allocation of the allowance for loan losses to various
categories of loans for the periods indicated.
14
<PAGE>
<TABLE>
<CAPTION>
TABLE 6
ANALYSIS OF THE ALLOWANCE FOR LOAN LOSSES
Year Ended June 30,
--------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Balance, beginning of period $ 608 $ 515 $ 404 $ 317 $ 277
Provision for loan losses 658 96 120 87 60
Charge-offs 519 4 14 4 21
Recoveries 49 1 5 4 1
----- ----- ----- ----- -----
Balance, end of period $ 796 $ 608 $ 515 $ 404 $ 317
===== ===== ===== ===== =====
Allowance as a percentage of loans 0.79% 0.66% 0.60% 0.49% 0.39%
<CAPTION>
TABLE 7
ALLOCATION OF THE ALLOWANCE FOR LOAN LOSSES
June 30,
--------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Residential 1-4 family $ 382 $ 256 $ 216 $ 170 $ 132
Nonresidential real estate 233 170 155 121 95
Home equity and other second mortgage 83 97 82 65 51
Construction 54 36 16 12 10
----- ----- ----- ----- -----
Total real estate loans 752 559 469 368 288
Other installment loans 44 49 46 36 29
----- ----- ----- ----- -----
Total allowance for loan losses $ 796 $ 608 $ 515 $ 404 $ 317
===== ===== ===== ===== =====
</TABLE>
The allocation of the allowance for loan losses to the respective loan
classifications is not necessarily indicative of future losses or future
allocations. Refer to Table 3 for percentages of loans in each category to total
loans.
Investment Securities
Interest and dividend income from investment securities generally
provides the second largest source of income to the Company after interest on
loans. The Company's portfolio of investment securities includes U.S. government
and agency securities, mortgage-backed securities, and obligations of states and
local governments. The mortgage-backed securities consist of mortgage-backed
securities issued by the FNMA and collateralized mortgage obligations issued by
the Federal National Mortgage Association ("FNMA") and Federal Home Loan
Mortgage Corporation ("FHLMC") which are secured by mortgage-backed securities
guaranteed by the FNMA or FHLMC.
15
<PAGE>
Investment securities totaled $14.2 million at June 30, 1997, a
decrease of $16.4 million from $30.6 million at June 30, 1996. This decrease is
attributable to liquidation of investments in the current year resulting in
realized losses of $135,000 to facilitate payment of the special dividend in
December 1996. Approximately 76% of the Company's investment portfolio is
classified as available-for-sale in order to provide flexibility to meet
liquidity needs. Generally only securities issued by the state of North Carolina
and local municipalities in North Carolina are classified by the Company as
held-to-maturity. At June 30, 1997, net unrealized losses of $138,000 were
included in the carrying value of securities classified available-for-sale
compared to net unrealized losses of $951,000 on such securities at June 30,
1996. These net unrealized losses are the result of fluctuations in market
interest rates rather than concerns about the issuers' ability to meet their
obligations.
Table 8 shows maturities of investment securities held by the Company
at June 30, 1997 and the weighted average tax-equivalent yields for each type of
security and maturity. Additional information about the Company's investment
securities as of June 30, 1997 and 1996 is presented in Note 2 of the notes to
the consolidated financial statements.
<TABLE>
<CAPTION>
TABLE 8
INVESTMENT SECURITIES - MATURITY/YIELD SCHEDULE
More than More than
One year or Less 1 Year to 5 Years 5 years to 10 years Over 10 Years Total
------------------- ------------------ -------------------- ------------------ -----------------
Weighted Weighted Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield Value Yield Value Yield
----- ----- ----- ----- ----- ----- ----- ----- ----- -----
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Available-for-sale:
U.S. government and agency $ - -% $ 504 6.55% $5,149 6.43% $ - - % $ 5,653 6.44%
State and local government (1) - - - - - - 1,016 8.75 1,016 8.75
Mortgage-backed securities (2) - - 1,945 6.42 808 7.47 1,444 6.72 4,197 6.73
----- ---- ------ ---- ------ ---- ------ ---- ------- ----
Total available-for-sale $ - - $2,449 6.45 $5,957 6.57 $2,460 7.56 $10,866 6.76
----- ---- ------ ---- ------ ---- ------ ---- ------- ----
Held-to-maturity:
U.S. government and agency $ - - $ - -% $ - -% $ - -% $ - -%
State and local government (3) 327 6.15 798 6.33 1,524 8.43 692 7.95 3,341 7.61
Mortgage-backed securities - - - - - - - - - -
----- ---- ------ ---- ------ ---- ------ ---- ------- ----
Total held-to-maturity $ 327 6.15 $ 798 6.33 $1,524 8.43 $ 692 7.95 $ 3,341 7.61
----- ---- ------ ---- ------ ---- ------ ---- ------- ----
Total investments,
at carrying value $ 327 $3,247 $7,481 $3,152 $14,207
===== ====== ====== ====== =======
16
<PAGE>
(1) Yields are stated on a taxable equivalent basis assuming statutory tax
rates of 34% for federal and 7.75% for state purposes. Book yields without
regard to tax-equivalent adjustments are: over ten years, 5.62%; total
5.62%.
(2) Mortgage-backed securities are shown at their weighted average expected
life obtained from an outside evaluation of the average remaining life of
each security based on historic prepayment speeds of the underlying
mortgages at June 30, 1997.
(3) Yields are stated on a taxable equivalent basis assuming statutory tax
rates of 34% for federal and 7.75% for state purposes. Book yields without
regard to tax- equivalent adjustments are: one year or less, 4.04%; one to
five years, 5.30%; six to ten years, 4.85%, over ten years, 5.13%; total,
4.94%.
</TABLE>
In addition to the investment securities discussed above, the Company
also earns interest on its correspondent bank account at the Federal Home Loan
Bank ("FHLB") of Atlanta and dividends on its FHLB stock. The Bank is required
to maintain, as a condition of membership, an investment in stock of the FHLB of
Atlanta equal to the greater of 1% of its outstanding home loan balances or 5%
of its outstanding advances. No ready market exists for such stock, which is
carried at cost. As of June 30, 1997, the Company's investment in stock of the
FHLB of Atlanta was $920,000.
Funding Sources
Deposits are the primary source of the Company's funds for lending and
other investment purposes. The Company attracts both short-term and long-term
deposits from the general public by offering a variety of accounts and rates
including savings accounts, NOW accounts, money market accounts, and fixed
interest rate certificates with varying maturities. Deposit inflows and outflows
are significantly influenced by general interest rates and other market
conditions, primarily competition. As competition for deposits has increased
both from larger financial institutions in the Company's local market place and
from mutual funds and other investments, borrowings have provided an additional
source of funding. The use of borrowed funds to provide liquidity assists the
Company in matching the interest rates on its assets and liabilities because the
interest rates on most borrowed funds are fixed and therefore more predictable
than the costs of deposits which are subject to change based upon market
conditions and other factors.
Deposits
Deposits totaled $84.9 million at June 30, 1997 compared to $73.4
million at June 30, 1996, and $76.7 million at June 30, 1995. The following
table sets forth certain information regarding the Company's average savings
deposits for the last three years.
17
<PAGE>
<TABLE>
<CAPTION>
TABLE 9
AVERAGE DEPOSITS
1997 1996 1995
-------------------- -------------------- --------------------
Average Average Average Average Average Average
Amount Rate Amount Rate Amount Rate
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-bearing checking accounts $ 6,011 1.48% $ 6,412 1.84% $ 5,305 2.32%
Savings and money market deposits 20,050 3.36 18,980 3.22 17,592 2.72
Certificates of deposit .......... 50,758 5.62 49,973 5.78 50,672 4.91
------- ---- ------- ---- ------- ----
Total interest-bearing deposits 76,819 4.71 75,365 4.80 73,569 4.20
Non-interest-bearing deposits .... 1,901 -- 1,856 -- 1,541 --
------- ---- ------- ---- ------- ----
TOTAL DEPOSITS .............. $78,720 4.59 $77,221 4.68 $75,110 4.11
------- ---- ------- ---- ------- ----
</TABLE>
As of June 30, 1997, the Company held $9,636,000 in time certificates
of deposit of $100,000 or more. Maturities of certificates of deposits of
$100,000 or more at June 30, 1997 were as follows: three months or less,
$2,789,000 over three months through six months, $4,348,000; over six months
through twelve months, $1,190,000; over twelve months through twenty-four
months, $310,000; and over twenty-four months, $999,000.
Borrowings
The Company's principal source of long-term borrowings are advances
from the FHLB of Atlanta. As a requirement for membership, the Bank is required
to own capital stock in the FHLB of Atlanta and is authorized to apply for
advances on the security of that stock and a floating lien on its 1-4 family
residential mortgage loans. Each credit program has its own interest rate and
range of maturities. At June 30, 1997, FHLB of Atlanta advances totaled $16.5
million compared to $17.25 million at June 30, 1996. Additional information on
borrowings is provided in Note 6 of the notes to the consolidated financial
statements.
Liquidity and Interest Rate Risk Management
Liquidity is the ability to raise funds or convert assets to cash in
order to meet customer and operating needs. The Company's primary sources of
liquidity are its portfolio of investment securities available-for-sale,
principal and interest payments on loans and mortgage-backed securities,
interest income from investment securities, maturities of investment securities
held-to-maturity, increases in deposits, and advances from the FHLB of Atlanta.
At June 30, 1997, the Bank had $8,500,000 of credit available from the FHLB of
Atlanta which would be collateralized by a blanket lien on qualifying loans
secured by first mortgages on 1-4 family residences. Additional amounts may be
made available under this blanket floating lien or by using investment
securities as collateral. Management believes that it will have sufficient funds
available to meet its anticipated future loan commitments as well as other
liquidity needs.
18
<PAGE>
Interest rate risk is the sensitivity of interest income and interest
expense to changes in interest rates. Management has structured its assets and
liabilities in an attempt to protect net interest income from large fluctuations
associated with changes in interest rates. Table 10 shows the amount of
interest-earning assets and interest-bearing liabilities outstanding at June 30,
1997 which are projected to reprice or mature in each of the future time periods
shown. At June 30, 1997, the Company had a cumulative one year
liability-sensitive gap position of $2.7 million or 2.24% of interest-earning
assets. This generally indicates that net interest income would experience
downward pressure in a rising rate environment and would increase in a declining
rate environment as interest-sensitive liabilities would generally reprice
faster than interest-sensitive assets.
It should be noted that this table reflects the interest-sensitivity of
the balance sheet as of a specific date and is not necessarily indicative of
future results. Because of this and other limitations, management also monitors
interest rate sensitivity through the use of a model which estimates the change
in net portfolio value and net interest income in response to a range of assumed
changes in market interest rates. Based on interest sensitivity measures as of
June 30, 1997, management believes that its interest rate risk is at an
acceptable level.
<TABLE>
<CAPTION>
TABLE 10
INTEREST SENSITIVITY
June 30, 1997
------------------------------------------------------------------------------
More than More than
3 Months 4 to 12 1 Year to 3 Years to Over
Or Less Months 3 Years 5 Years 5 Years Total
-------- -------- -------- --------- -------- --------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest-earning assets:
Loans receivable ......................... $ 16,101 $ 42,989 $ 14,454 $ 8,078 $ 19,347 $100,969
Interest-bearing deposits ................ 3,766 -- -- -- -- 3,766
Investment securities (1) ................ -- 327 798 2,449 10,633 14,207
FHLB common stock ........................ -- -- -- -- 920 920
-------- -------- -------- -------- -------- --------
Total interest-earning assets ........ $ 19,867 $ 43,316 $ 15,252 $ 10,527 $ 30,900 $119,862
======== ======== ======== ======== ======== ========
Interest-bearing liabilities:
Deposits:
Fixed maturity deposits ................ $ 17,994 $ 23,090 $ 12,434 $ 674 $ -- $ 54,192
NOW accounts ........................... 694 1,661 2,155 577 1,277 6,364
Savings and money market accounts ...... 1,972 3,957 5,175 3,355 7,771 22,230
-------- -------- -------- -------- -------- --------
Total deposits ....................... 20,660 28,708 19,764 4,606 9,048 82,786
FHLB advances ............................ 7,500 9,000 -- -- -- 16,500
-------- -------- -------- -------- -------- --------
Total interest-bearing liabilities ... $ 28,160 $ 37,708 $ 19,764 $ 4,606 $ 9,048 $ 99,286
======== ======== ======== ======== ======== ========
</TABLE>
19
<PAGE>
<TABLE>
<CAPTION>
TABLE 10
INTEREST SENSITIVITY (continued)
June 30, 1997
------------------------------------------------------------------------------
More than More than
3 Months 4 to 12 1 Year to 3 Years to Over
Or Less Months 3 Years 5 Years 5 Years Total
-------- -------- -------- --------- -------- --------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Interest sensitivity gap per period ......... $ (8,293) $ 5,608 $ (4,512) $ 5,921 $ 21,852 $ 20,576
Cumulative interest sensitivity gap ......... (8,293) (2,685) (7,197) (1,276) 20,576 20,576
Cumulative gap as a percentage of
total interest-earning assets ............ (6.92)% (2.24)% (6.00)% (1.06)% 17.17% 17.17%
Cumulative interest-earning assets as a
percentage of interest-bearing liabilities 70.55% 95.92% 91.60% 98.59% 120.72% 120.72%
(1) Includes investment and mortgage-backed securities
</TABLE>
This table was prepared using the assumptions regarding loan prepayment rates,
loan repricing and deposit decay rates which are used by the FHLB of Atlanta in
making its gap computations. These assumptions should not be regarded as
indicative of the actual prepayments and withdrawals that may be experienced by
the Company. However, management believes that these assumptions approximate
actual experience.
Capital Resources
Stockholders' equity decreased from $37,050,000 at June 30, 1996 to
$20,416,000 at June 30, 1997, largely as a result of the payment of the special
dividend in December 1996.
As a state savings bank holding company, the Parent is regulated by the
Board of Governors of the Federal Reserve Board ("FRB") and is subject to
securities registration and public reporting regulations of the Securities and
Exchange Commission. The Bank is regulated by the FDIC and the Savings
Institutions Division, North Carolina Department of Commerce ("the
Administrator").
The Bank must comply with the capital requirements of the FDIC and the
Administrator. The FDIC requires the Bank to maintain minimum ratios of Tier I
capital to total risk-weighted assets and total capital to risk-weighted assets
of 4% and 8%, respectively. To be "well-capitalized", the FDIC requires ratios
of Tier I capital to total risk-weighted assets and total capital to
risk-weighted assets of 6% and 10%, respectively. Tier I capital consists of
total stockholders' equity calculated in accordance with generally accepted
accounting principles less intangible assets, and total capital is comprised of
Tier I capital plus certain adjustments, the only one of which applicable to the
Bank is the allowance for loan losses. Risk-weighted assets reflect the Bank's
20
<PAGE>
on- and off-balance sheet exposures after such exposures have been adjusted for
their relative risk levels using formulas set forth in FDIC regulations. The
Bank is also subject to a leverage capital requirement, which calls for a
minimum ratio of Tier I capital (as defined above) to quarterly average total
assets of 3% and a ratio of 5% to be "well-capitalized". The Administrator
requires a net worth equal to at least 5% of assets.
At June 30, 1997 and 1996, the Bank was in compliance with all of the
aforementioned capital requirements of both the FDIC and the Administrator and
is deemed to be "well-capitalized". Refer to note 8 to the consolidated
financial statements for additional discussion of the Bank's capital resources.
Impact of Inflation and Changing Prices
The consolidated financial statements and accompanying footnotes have
been prepared in accordance with generally accepted accounting principles, which
require the measurement of financial position and operating results in terms of
historical dollars without consideration of changes in the relative purchasing
power of money over time due to inflation. The assets and liabilities of the
Company are primarily monetary in nature, and changes in interest rates have a
greater impact on the Company's performance than do the effects of inflation.
Regulatory Matters
Management is not presently aware of any current recommendation to the
Company by regulatory authorities, which, if they were implemented, would have a
material effect on the Company's liquidity, capital resources, or operations.
Accounting Issues
The Company prepares its consolidated financial statements and related
disclosures in conformity with standards established by, among others, the
Financial Accounting Standards Board (the "FASB"). Because the information
needed by users of financial reports is dynamic, the FASB frequently has new
rules and proposed new rules for companies to apply in reporting their
activities. The following discussion addresses such changes as of June 30, 1997
that will affect the Company's future reporting.
In August 1996, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards No. 125 ("SFAS 125"),
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities". This statement provides accounting and reporting standards for
transfers and servicing of financial assets and extinguishments of liabilities
based on consistent application of a financial-components approach that focuses
on control. It distinguishes transfers of financial assets that are sales from
transfers that are secured borrowings. Under the financial-components approach,
after a transfer of financial assets, an entity recognizes all financial and
servicing assets it controls and liabilities it has incurred and does not
recognize financial assets it no longer controls and liabilities that have been
extinguished. The financial-components approach focuses on the assets and
liabilities that exist after the transfer. If a transfer does not meet the
21
<PAGE>
criteria for a sale, the transfer is accounted for as a secured borrowing with
pledge of collateral. This statement is effective for transfer and servicing of
financial assets and extinguishments of liabilities occurring after December 31,
1996, and is to be applied prospectively. The Company adopted this statement on
January 1, 1997 without any impact on its consolidated financial statements.
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings per
Share". SFAS 128 establishes standards of computing and presenting earnings per
share (EPS) and applies to entities with publicly held common stock or potential
common stock. This statement simplifies the standards for computing earnings per
share previously found in APB Opinion No. 15, "Earnings per Share", and makes
them comparable to international EPS standards. It replaces the presentation of
primary EPS with a presentation of basic EPS. It also requires dual presentation
of basic and diluted EPS on the face of the income statement for all entities
with complex capital structures and requires a reconciliation of the numerator
and denominator of the basic EPS computation to the numerator and denominator of
the diluted EPS computation. SFAS 128 is effective for financial statements
issued for periods ending after December 15, 1997 and requires restatement of
all prior period EPS data presented. The Company plans to adopt SFAS 128 in
fiscal year 1998 without any significant impact on its consolidated financial
statements.
In February 1997, the FASB issued Statement of Financial Accounting
Standards No. 129 ("SFAS 129"), "Disclosure of Information about Capital
Structure". SFAS 129 establishes standards for disclosing information about an
entity's capital structure and is applicable to all entities. It contains no
change in disclosure requirements for entities that were previously subject to
the requirements of APB Opinion No. 10, "Omnibus Opinion - 1966", APB Opinion
No. 15, "Earnings Per Share", and Statement of Financial Accounting Standards
No. 47, "Disclosure of Long-Term Obligations". SFAS 129 is effective for
financial statements for periods ending after December 15, 1997. The Company
plans to adopt SFAS 129 in fiscal year 1998 with no impact on its consolidated
financial statements.
In June 1997, the FASB issued Statement of Financial Accounting
Standards No. 130 ("SFAS 130"), "Reporting Comprehensive Income". SFAS 130
establishes standards for reporting and displaying comprehensive income and its
components (revenues, expenses, gains, and losses) in a full set of
general-purpose financial statements. This Statement requires that an enterprise
(a) classify items of other comprehensive income by their nature in the
financial statement and (b) display the accumulated balance of other
comprehensive income separately from retained earnings and additional
paid-in-capital in the equity section of a statement of financial position. SFAS
130 is effective for fiscal years beginning after December 15, 1997.
Reclassification of financial statements for earlier periods provided for
comparative purposes is required. The Company plans to adopt the SFAS 130 in
fiscal year 1999 and has not determined the impact on its consolidated financial
statements.
In June 1997, the FASB issued Statement of Financial Accounting
Standards No. 131 ("SFAS 131"), "Disclosures about Segments of an Enterprise and
Related Information". SFAS 131 establishes standards for the way that public
businesses report information about operating segments in annual financial
statements and requires that those enterprises report selected information about
22
<PAGE>
operating segments in interim financial reports issued to shareholders. It also
establishes standards for related disclosures about products and services,
geographic areas, and major customers. This Statement is effective for financial
statements for periods beginning after December 15, 1997 and in the initial year
of application, comparative information for earlier years is to be restated. The
Company plans to adopt SFAS 131 in fiscal year 1999 without any significant
impact on its consolidated financial statements.
23
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Piedmont Bancorp, Inc.:
We have audited the accompanying consolidated balance sheets of Piedmont Bancorp
Inc. and subsidiary as of June 30, 1997 and 1996, and the related consolidated
statements of income, stockholders' equity and cash flows for each of the years
in the three-year period ended June 30, 1997. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Piedmont Bancorp,
Inc. and subsidiary as of June 30, 1997 and 1996, and the results of their
operations and their cash flows for each of the years in the three-year period
ended June 30, 1997, in conformity with generally accepted accounting
principles.
/s/ KPMG Peat Marwick LLP
-------------------------
KPMG Peat Marwick LLP
Raleigh, North Carolina
July 18, 1997
24
<PAGE>
<TABLE>
<CAPTION>
CONSOLIDATED BALANCE SHEETS
June 30, 1997 and 1996
1997 1996
--------- ---------
(dollars in thousands)
<S> <C> <C>
ASSETS
Cash .......................................................... $ 879 $ 723
Interest-bearing deposits in other financial institutions ..... 3,766 1,947
Investment securities (note 2):
Available-for-sale (cost: $11,004 in 1997 and
$28,049 in 1996) ....................................... 10,866 27,098
Held-to-maturity (market value: $3,395 in 1997
and $3,477 in 1996) .................................... 3,341 3,519
Loans receivable (net of allowance for loan losses of
$796 in 1997 and $608 in 1996) (note 3) .................. 100,173 91,187
Federal Home Loan Bank stock, at cost ......................... 920 863
Premises and equipment (note 4) ............................... 1,205 1,324
Prepaid expenses and other assets (note 9) .................... 1,611 2,050
--------- ---------
Total assets ............................... $ 122,761 $ 128,711
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits (note 5):
Demand, non-interest bearing ............................. 2,074 1,643
Savings, NOW and MMDA .................................... 28,594 23,302
Certificates of deposit .................................. 54,192 48,416
--------- ---------
84,860 73,361
Advances from the Federal Home Loan Bank (note 6) ............. 16,500 17,250
Accrued expenses and other liabilities ........................ 985 1,050
--------- ---------
Total liabilities .......................... 102,345 91,661
--------- ---------
Stockholders' Equity:
Preferred stock, no par value, 5,000,000 shares authorized;
none issued (note 1) ....................................... -- --
Common stock, no par value, 20,000,000 shares authorized;
2,750,800 and 2,645,000 shares issued and outstanding,
respectively (note 1) ...................................... 9,143 25,398
Unearned ESOP shares .......................................... (933) (2,552)
Unamortized deferred compensation ............................. (1,269) --
Unallocated restricted stock .................................. (21) --
Retained earnings, substantially restricted (notes 8 and 9) ... 13,580 14,783
Unrealized holding losses on available-for-sale securities, net (84) (579)
--------- ---------
Total stockholders' equity ................. 20,416 37,050
--------- ---------
Commitments and contingencies (note 3)
Total liabilities and stockholders' equity . $ 122,761 $ 128,711
========= =========
See accompanying notes to consolidated financial statements.
</TABLE>
25
<PAGE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF INCOME
Years ended June 30, 1997, 1996 and 1995
1997 1996 1995
------- ------- -------
(dollars in thousands, except per share data)
<S> <C> <C> <C>
Interest income:
Interest on loans ....................................... $ 8,060 $ 7,591 $ 6,969
Interest on deposits in other financial institutions .... 99 226 64
Interest and dividends on investment securities:
Taxable ............................................. 1,024 1,078 743
Non-taxable ......................................... 352 353 35
------- ------- -------
Total interest income .................................. 9,535 9,248 7,811
------- ------- -------
Interest expense:
Interest on deposits (note 5) ........................... 3,615 3,614 3,101
Interest on borrowings .................................. 988 800 581
------- ------- -------
Total interest expense .............................. 4,603 4,414 3,682
------- ------- -------
Net interest income .......................................... 4,932 4,834 4,129
Provision for loan losses (note 3) ........................... 658 96 120
------- ------- -------
Net interest income after provision for loan losses . 4,274 4,738 4,009
------- ------- -------
Other income:
Customer service and other fees ......................... 201 175 178
Mortgage loan servicing fees ............................ 87 96 115
Losses on sales of investment securities ................ (135) (47) (100)
Lower-of-cost or market adjustment on loans held-for-sale 4 (40) 19
Other ................................................... 68 71 125
------- ------- -------
Total other income .................................. 225 255 337
------- ------- -------
</TABLE>
26
<PAGE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF INCOME
Years ended June 30, 1997, 1996 and 1995
(continued)
1997 1996 1995
------- ------- -------
(dollars in thousands, except per share data)
<S> <C> <C> <C>
Other expenses:
Compensation and fringe benefits (note 7) ............... 3,152 1,353 1,298
SAIF recapitalization assessment (note 5) ............... 487 -- --
Data and items processing ............................... 241 239 208
Deposit insurance premiums .............................. 71 176 172
Occupancy expense ....................................... 113 123 113
Furniture and equipment expense ......................... 115 100 108
Professional fees ....................................... 129 120 90
Other ................................................... 408 338 276
------- ------- -------
Total other expenses ................................ 4,716 2,449 2,265
------- ------- -------
Income (loss) before income tax expense ............. (217) 2,544 2,081
Income tax expense (note 9) .................................. 317 849 837
------- ------- -------
Net income (loss) .......................................... $ (534) $ 1,695 $ 1,244
======= ======= =======
Net income (loss) per share (note 1) ......................... $ (0.20) $ 0.45 N/A
======= ======= =======
See accompanying notes to consolidated financial statements.
</TABLE>
27
<PAGE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the years ended June 30, 1997, 1996 and 1995
Unearned Unamortized Unallocated
Shares Common ESOP Deferred Restricted
Outstanding Stock Shares Compensation Stock
----------- ----- ------ ------------ -----
(dollars in thousands)
<S> <C> <C> <C> <C> <C>
Balance at June 30, 1994 .............. -- $ -- $ -- $ -- $ --
Net income ........................... -- -- -- -- --
Change in unrealized holding gains
(losses), net of income taxes of $144 -- -- -- -- --
--------- --------- --------- --------- ---------
Balance at June 30, 1995 .............. -- -- -- -- --
Net income ........................... -- -- -- -- --
Net proceeds from issuance of no par . 2,645,000 25,398 -- -- --
common stock
Common stock acquired by ESOP ........ -- -- (2,731) -- --
Release of ESOP shares ............... -- -- 179 -- --
Cash dividends ($0.22 per share) ..... -- -- -- -- --
Change in unrealized holding gains ... -- -- -- -- --
(losses), net of income taxes of $387 -- -- -- -- --
--------- --------- --------- --------- ---------
Balance at June 30, 1996 .............. 2,645,000 25,398 (2,552) -- --
Net loss ............................. -- -- -- -- --
Issuance of restricted stock ......... 105,800 1,587 -- (1,587) --
Release of ESOP shares ............... -- 83 1,619 -- --
Amortization of unearned compensation -- -- -- 237 --
Forfeiture of restricted stock and
related dividends ................... -- 107 -- 224 (224)
Allocation of restricted stock ....... -- (60) -- (143) 203
Tax benefit of dividends on
restricted stock .................... -- 261 -- -- --
Cash dividends ($7.42 per share)** ... -- (18,233) -- -- --
Change in unrealized holding gains
(losses), net of income taxes of $318 -- -- -- -- --
--------- --------- --------- --------- ---------
Balance of June 30, 1997 .............. 2,750,800 $ 9,143 $ (933) $ (1,269) $ (21)
========= ========= ========= ========= =========
</TABLE>
28
<PAGE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the years ended June 30, 1997, 1996 and 1995
(continued)
Unrealized
holding Total
Retained gains Stockholders'
Earnings (losses) Equity
---------- --------- ---------
<S> <C> <C> <C>
Balance at June 30, 1994 .............. $ 12,380 $ (185) $ 12,195
Net income ........................... 1,244 -- 1,244
Change in unrealized holding gains
(losses), net of income taxes of $144 -- 207 207
--------- --------- ---------
Balance at June 30, 1995 .............. 13,624 22 13,646
Net income ........................... 1,695 -- 1,695
Net proceeds from issuance of no par
common stock......................... -- -- 25,398
Common stock acquired by ESOP ........ -- -- (2,731)
Release of ESOP shares ............... -- -- 179
Cash dividends ($0.22 per share) ..... (536) -- (536)
Change in unrealized holding gains ...
(losses), net of income taxes of $387 -- (601) (601)
--------- --------- ---------
Balance at June 30, 1996 .............. 14,783 (579) 37,050
Net loss ............................. (534) -- (534)
Issuance of restricted stock ......... -- -- --
Release of ESOP shares ............... -- -- 1,702
Amortization of unearned compensation -- -- 237
Forfeiture of restricted stock and
related dividends ................... -- -- 107
Allocation of restricted stock ....... -- -- --
Tax benefit of dividends on
restricted stock .................... -- -- 261
Cash dividends ($7.42 per share)** ... (669) -- (18,902)
Change in unrealized holding gains .
(losses), net of income taxes of $318 -- 495 495
--------- --------- ---------
Balance at June 30, 1997 .............. $ 13,580 $ (84) $ 20,416
========= ========= =========
** includes $7.00 special dividend paid on December 6, 1996.
See accompanying notes to consolidated financial statements.
</TABLE>
29
<PAGE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended June 30, 1997, 1996, and 1995
1997 1996 1995
-------- -------- --------
(dollars in thousands)
<S> <C> <C> <C>
Operating activities:
Net income (loss) .............................................................. $ (534) $ 1,695 $ 1,244
Adjustments to reconcile net income to net cash
provided by operating
activities:
Depreciation ............................................................... 93 90 88
Net amortization (accretion) ............................................... 98 154 (48)
Provision for loan losses .................................................. 658 96 120
Deferred income taxes ...................................................... (163) (56) (60)
Net loss on sale of investment and mortgage-backed securities .............. 135 47 100
Release of ESOP shares ..................................................... 1,702 179 --
Compensation earned under MRP .............................................. 237 -- --
Net decrease (increase) in mortgage loans held for sale .................... 519 (1,667) (232)
Decrease (increase) in other assets ........................................ 585 (291) (109)
(Decrease) increase in other liabilities ................................... (40) 136 236
-------- -------- --------
Net cash provided by operating activities ............................. 3,290 383 1,339
-------- -------- --------
Investing activities:
Net increase in loans held for investment ...................................... (10,230) (4,995) (2,776)
Principal collected on mortgage-backed securities .............................. 628 753 149
Purchases of investment securities classified as available-for-sale ............ (504) (23,968) (485)
Purchases of investment securities classified as held-to-maturity .............. -- (1,815) (1,416)
Purchases of mortgage-backed securities classified as available-for-sale ....... (1,658) (1,482) (1,990)
Proceeds of sales of investment securities classified as available-for-sale .... 13,601 2,946 466
Proceeds from maturities of investment securities .............................. 78 75 75
Proceeds from investment securities called by issuer ........................... 1,085 4,500 --
Proceeds of sales of mortgage-backed securities classified as available-for-sale 3,847 -- 942
Purchases of FHLB Stock ........................................................ (57) (77) --
Purchases of premises and equipment ............................................ (34) (75) (70)
-------- -------- --------
Net cash provided (used) by investing activities ...................... 6,756 (24,138) (5,105)
-------- -------- --------
Financing activities:
Net increase (decrease) in time deposits ....................................... 5,776 (4,703) 3,971
Net increase (decrease) in other deposits ...................................... 5,723 1,319 (1,513)
Proceeds from borrowings ....................................................... 14,000 12,750 13,000
Repayments of borrowings ....................................................... (14,750) (8,500) (10,500)
Proceeds from issuance of no par common stock .................................. -- 25,398 --
Purchase of common stock for ESOP .............................................. -- (2,731) --
Cash dividends paid to shareholders ............................................ (18,820) (244) --
-------- -------- --------
Net cash (used) provided by financing activities ........................... (8,071) 23,289 4,958
-------- -------- --------
</TABLE>
30
<PAGE>
<TABLE>
<CAPTION>
CONSOLIDATED STATEMENTS OF CASH FLOWS
For the years ended June 30, 1997, 1996, and 1995
(continued)
1997 1996 1995
-------- -------- --------
(dollars in thousands)
<S> <C> <C> <C>
Increase (decrease) in cash and cash equivalents .................. 1,975 (466) 1,192
Cash and cash equivalents at beginning of period .................................... 2,670 3,136 1,944
-------- -------- --------
Cash and cash equivalents at end of period .......................................... $ 4,645 $ 2,670 $ 3,136
======== ======== ========
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest ....................................................................... $ 4,592 $ 4,448 $ 3,615
======== ======== ========
Income taxes ................................................................... $ 342 $ 828 $ 775
======== ======== ========
Supplemental disclosure of noncash transactions:
Unrealized gains (losses) on available-for-sale securities, net of deferred
taxes of $318 for 1997, $387 for 1996 and $144 for 1995 ........................ $ 495 $ (601) $ 207
======== ======== ========
Dividends declared but unpaid .................................................... $ (267) $ (292) $ --
======== ======== ========
Transfer of bank premises no longer in use from fixed assets to other
assets at net book value ...................................................... $ 60 $ -- $ --
======== ======== ========
See accompanying notes to consolidated financial statements.
</TABLE>
31
<PAGE>
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Significant Accounting Policies
(a) Organization and Operations
In December 1995, pursuant to a Plan of Conversion approved by its members and
regulators, Hillsborough Savings Bank, Inc., SSB (the "Bank") amended and
restated its charter to effect its conversion from a North Carolina chartered
mutual savings bank to a North Carolina chartered stock savings bank (the
"Conversion"), and became a wholly-owned subsidiary of Piedmont Bancorp, Inc.
(the "Parent"), a holding company formed in connection with the Conversion. The
Bank is primarily engaged in the business of obtaining savings deposits and
providing loans to the general public. The principal activity of the Parent is
ownership of the Bank.
(b) Basis of Presentation
The consolidated financial statements include the accounts of the Parent and the
Bank, together referred to as "the Company". All significant intercompany
transactions and balances are eliminated in consolidation. The preparation of
financial statements in conformity with generally accepted accounting principles
requires management to make estimates and assumptions that affect the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities as of the date of the balance sheets and the reported amounts of
income and expenses for the periods presented. Actual results could differ
significantly from those estimates. Material estimates that are particularly
susceptible to significant changes in the near-term relate to the determination
of the allowance for loan losses.
(c) Investment and Mortgage-Backed Securities
Management determines the appropriate classification of investment and
mortgage-backed securities at the time of purchase. Securities are classified as
held-to-maturity when the Company has both the positive intent and ability to
hold the securities to maturity. Held-to-maturity securities are stated at
amortized cost. Securities not classified as held-to-maturity are classified as
available-for-sale. Available-for-sale securities are stated at fair value, with
the unrealized gains and losses, net of tax, reported in a separate component of
stockholders' equity. The Company has no trading securities.
The amortized cost of securities classified as held-to-maturity or
available-for-sale is adjusted for amortization of premiums and accretion of
discounts to maturity, or, in the case of mortgage-backed securities, over the
estimated life of the security. Such amortization is included in interest income
from investments. Realized gains and losses, and declines in value judged to be
other-than-temporary are included in net securities gains (losses). The cost of
securities sold is based on the specific identification method.
32
<PAGE>
(1) Significant Accounting Policies, Continued
(d) Loan Sales
At the time of origination, when specific loans or groups of loans are
identified for sale, the Company classifies such loans as held for sale and
values these at the lower of aggregate cost or market value as determined by the
current investor yield requirements calculated on an aggregate loan basis. The
Company recognizes gains and losses at the time of sale if loans selected for
sale have an average interest rate, adjusted for servicing costs, which differs
substantially from the actual yield to the purchaser. Any resulting discount or
premium is amortized using a level-yield method over the actual life of such
loans. Normal servicing fees are recognized as income in the period earned.
Prepayment assumptions are reviewed in view of actual rates of prepayment of
loans sold and amortization of the excess servicing on loans sold is adjusted
accordingly.
(e) Loans Receivable
Loans held for investment are carried at their principal amount outstanding, net
of deferred loan origination fees.
Interest on loans is recorded as borrowers' monthly payments become due. Accrual
of interest income on loans (including impaired loans) is suspended when, in
management's judgment, doubts exist as to the collectibility of principal and
interest. Interest received on nonaccrual and impaired loans is generally
applied against principal or may be reported as interest income depending on
management's judgment as to the collectibility of principal. Loans are returned
to accrual status when management determines, based on an evaluation of the
underlying collateral together with the borrower's payment record and financial
condition, that the borrower has the capability and intent to meet the
contractual obligations of the loan agreement.
Loan fees are accounted for in accordance with Statement of Financial Accounting
Standards No. 91. Loan origination fees and certain direct loan origination
costs are deferred and the net amount amortized as an adjustment of the related
loans' yield over the life of the related loans using a level-yield method.
Unamortized net loan fees or costs on loans sold are recorded as gain or loss on
sale in the year of disposition.
(f) Allowance for Loan Losses
The Company provides for loan losses on the allowance method. Accordingly, all
loan losses are charged to the allowance and all recoveries are credited to it.
Additions to the allowance for loan losses are provided by charges to operating
expense. The provision is based upon management's evaluation of the risk
characteristics of the loan portfolio under current economic conditions and
considers such factors as financial condition of the borrower, collateral
values, growth and composition of the loan portfolio, the relationship of the
allowance for loan losses to outstanding loans, and delinquency trends.
At June 30, 1997, substantially all of the Company's loans were collateralized
by real estate in Orange County, North Carolina and adjacent counties. The
collateral is predominately owner-occupied residential real estate in which the
borrower does not rely on underlying cash flows from the property to satisfy
33
<PAGE>
(1) Significant Accounting Policies, Continued
(f) Allowance for Loan Losses, Continued
debt service. The ultimate collectibility of a substantial portion of the loan
portfolio is susceptible to changes in market conditions in the Company's market
area. While management uses available information to recognize losses on loans,
future additions to the allowance may be necessary based on changes in economic
conditions. Various regulatory agencies, as an integral part of their
examination processes, periodically review the Company's allowance for loan
losses. Such agencies may require the Company to recognize additions to the
allowance based on their judgments about information available to them at the
time of their examinations.
For all specifically reviewed loans for which it is probable that the Bank will
be unable to collect all amounts due according to the terms of the loan
agreement, the Bank determines fair value either based on discounted cash flows
using the loans' initial interest rate or the fair value of the collateral if
the loan is collateral dependent. Large groups of smaller balance homogenous
loans that are collectively evaluated for impairment (such as residential
mortgage and consumer installment loans) are excluded from impairment
evaluation, and their allowance for loan losses is calculated in accordance with
the allowance for loan losses policy described above.
(g) Investment in Federal Home Loan Bank Stock
As a requirement for membership, the Bank invests in stock of the Federal Home
Loan Bank of Atlanta (FHLB) in the amount of 1% of its outstanding residential
loans or 5% of its outstanding advances from the FHLB, whichever is greater. At
June 30, 1997, the Bank owned 9,200 shares of the FHLB's $100 par value capital
stock. No ready market exists for such stock, which is carried at cost.
(h) Premises and Equipment
Premises and equipment are stated at cost. Provisions for depreciation are
computed principally using the straight-line method and charged to operations
over the estimated useful lives of the assets which range from 5 to 40 years for
office buildings and 3 to 10 years for furniture, fixtures, and equipment and
other improvements.
(i) Income Taxes
The provision for income taxes is based on income and expense reported for
financial statement purposes after adjustment for permanent differences such as
tax exempt interest income. Deferred income taxes are provided when there is a
difference between the periods items are reported for financial statement
purposes and when they are reported for tax purposes and are recorded at the
enacted tax rates expected to apply to taxable income in years in which these
temporary differences are expected to be recovered or settled. Subsequent
changes in tax rates will require adjustment to these assets and liabilities.
34
<PAGE>
(j) Retirement Plans
The Bank has an employee stock ownership plan which covers substantially all of
its employees. Contributions to the plan are determined annually by the Board of
Directors based on employee compensation. Prior to establishment of the employee
stock ownership plan, the Company had a self-administered, defined contribution
retirement plan that covered all eligible employees. This plan was terminated as
of July 31, 1995 in conjunction with the Conversion. The Bank also has a 401(k)
plan that covers all eligible employees. The Bank matches voluntary
contributions by participating employees.
The Company records compensation expense for shares released to employees, as a
result of contributions by the Company or dividends paid on unreleased shares in
the employee stock ownership plan, equal to the fair value of the shares.
(k) Cash and Cash Equivalents
For purposes of reporting cash flows, the Company considers cash and
interest-bearing deposits in other institutions with original maturities of
three months or less to be cash equivalents.
(l) Earnings (Loss) Per Share
Loss per common share of $0.20 for the year ended June 30, 1997 was calculated
by dividing net loss of $534,000 for the year ended June 30, 1997 by the
weighted-average number of common and common equivalent shares outstanding of
2,665,277. Earnings per common share of $0.45 for the year ended June 30, 1996
was calculated by dividing post-conversion net income of $1,102,000 by the
weighted-average number of common and common equivalent shares outstanding of
2,446,832. For purposes of the weighted-average number of common and
common-equivalent shares outstanding, common stock equivalents consist of stock
options. The number of shares purchased by the employee stock ownership plan
which have not been allocated or committed to be released to participant
accounts are not assumed to be outstanding.
(m) Reclassifications
Certain reclassifications have been made for 1996 and 1995 to conform with the
1997 presentation. The reclassifications had no effect on previously reported
net income or stockholders' equity.
35
<PAGE>
(2) Investment Securities
The following is a summary of the investment securities portfolios by major
classification:
<TABLE>
<CAPTION>
June 30, 1997
----------------------------------------------------
(dollars in thousands)
Estimated
Amortized Unrealized Unrealized market
cost gains losses value
--------- ---------- --------- ---------
<S> <C> <C> <C> <C>
Securities available for sale:
US government and agency securities ........ $ 5,754 $ -- $ 101 $ 5,653
Mortgage-backed securities (1) ............. 4,275 10 88 4,197
State and local governments ................ 975 41 -- 1,016
------- ------- ------- -------
Total securities available-for-sale ...... 11,004 51 189 10,866
======= ======= ======= =======
Securities held-to-maturity:
State and local governments ................ $ 3,341 58 4 $ 3,395
======= ======= ======= =======
<CAPTION>
June 30, 1996
----------------------------------------------------
(dollars in thousands)
Estimated
Amortized Unrealized Unrealized market
cost gains losses value
--------- ---------- --------- ---------
<S> <C> <C> <C> <C>
Securities available for sale:
US government and agency securities ........ $10,695 $ 14 $ 400 $10,309
Mortgage-backed securities (1) ............. 7,086 37 177 6,946
State and local governments ................ 10,268 -- 425 9,843
------- ------- ------- -------
Total securities available-for-sale....... 28,049 51 1,002 27,098
======= ======= ======= =======
Securities held-to-maturity:
State and local governments ................ $ 3,519 17 59 $ 3,477
======= ======= ======= =======
</TABLE>
(1) At June 30, 1997 and 1996, the Company owned mortgage-backed securities
issued by the Federal National Mortgage Association (FNMA) and the Federal
Home Loan Mortgage Corporation (FHLMC) with an aggregate amortized cost of
$4,275,000 and $4,595,000 respectively, and a market value of $4,197,000
and $4,527,000. In addition, in 1996 the Bank owned collateralized mortgage
obligations issued by FNMA and FHLMC secured by mortgage-backed securities
guaranteed by FNMA and FHLMC, respectively. The securities had an amortized
cost of $2,491,000 and a market value of $2,419,000 at June 30, 1996.
36
<PAGE>
(2) Investment Securities, Continued
The aggregate amortized cost and approximate market value of the
available-for-sale and held-to-maturity securities portfolios at June 30, 1997,
by remaining contractual maturity are as follows:
<TABLE>
<CAPTION>
Securities available-for-sale Securities held-to-maturity
----------------------------- ---------------------------
(dollars in thousands)
Estimated Estimated
Amortized market Amortized market
cost value cost value
---- ----- ---- -----
<S> <C> <C> <C> <C>
US government and agency securities:
Due in 1 year or less ............... $ -- $ -- $ -- $ --
Due in 1 year through 5 years ....... 504 504 -- --
Due after 5 through 10 years ........ 5,250 5,149 -- --
Due after 10 years .................. -- -- -- --
Obligations of states and local governments:
Due in 1 year or less ............... -- -- 327 328
Due 1 year through 5 years .......... -- -- 798 795
Due after 5 through 10 years ........ -- -- 1,524 1,567
Due after 10 years .................. 975 1,016 692 705
Mortgage-backed securities ................. 4,275 4,197 -- --
------- ------- ------- -------
Total securities ... $11,004 $10,866 $ 3,341 $ 3,395
======= ======= ======= =======
</TABLE>
At June 30, 1997 and 1996, investment securities with book values of $4,825,000
and $1,925,000, respectively, were pledged as collateral for public deposits.
Summarized below is the sales activity in investment securities:
<TABLE>
<CAPTION>
Year ended June 30,
------------------------------------------
1997 1996 1995
(dollars in thousands)
<S> <C> <C> <C>
Proceeds from sales of available-for-sale securities $ 17,448 $ 2,946 $ 1,408
Realized gains ..................................... (55) (7) --
Realized losses ................................... 190 54 100
-------- -------- --------
Cost of available-for-sale securities sold ......... $ 17,583 $ 2,993 $ 1,508
======== ======== ========
</TABLE>
37
<PAGE>
(3) Loans Receivable
Loans receivable consist of the following:
<TABLE>
<CAPTION>
June 30,
1997 1996
--------- ---------
(dollars in thousands)
<S> <C> <C>
Loans secured by first mortgages on real estate:
Mortgage loans held for sale ................................... $ 2,986 $ 3,505
Mortgage loans held for investment, primarily one-to-four family 74,635 63,590
Construction loans ............................................. 9,638 5,026
Commercial and agricultural loans .............................. 6,379 8,600
Participation loans purchased .................................. 270 218
--------- ---------
93,908 80,939
Home equity lines of credit ......................................... 10,423 10,816
Other second mortgage loans ......................................... 574 800
Other installment loans ............................................. 1,061 1,719
--------- ---------
105,966 94,274
Undisbursed proceeds on loans in process ............................ (4,649) (2,198)
Deferred loan fees .................................................. (348) (281)
Allowance for loan losses ........................................... (796) (608)
--------- ---------
$ 100,173 $ 91,187
========= =========
</TABLE>
An analysis of the allowance for loan losses follows:
<TABLE>
<CAPTION>
1997 1996 1995
---- ---- ----
(dollars in thousands)
<S> <C> <C> <C>
Balance at beginning of period ........... $ 608 $ 515 $ 404
Provision for loan losses ................ 658 96 120
Loans charged off ........................ (519) (4) (14)
Recoveries ............................... 49 1 5
----- ----- -----
Balance at end of period $ 796 $ 608 $ 515
===== ===== =====
</TABLE>
At June 30, 1997 and 1996, the Company had loans totaling approximately $803,000
and $758,000, respectively, which were in nonaccrual status and $244,000 and
$301,000, respectively, which were contractually delinquent for 90 days or more
and still accruing.
38
<PAGE>
(3) Loans Receivable, Continued
Additional interest income that would have been recorded on nonaccrual loans for
the years ended June 30, 1997, 1996 and 1995 had they performed in accordance
with their original terms throughout each of the periods amounted to
approximately $61,000, $57,000 and $2,000, respectively.
At June 30, 1997, the Company had mortgage loan commitments outstanding of
$2,622,000, of which $724,000 are for floating rate loans. Preapproved but
unused lines of credit totaled $9,046,000, and standby letters of credit totaled
$589,000 at June 30, 1997. The Company's exposure to credit losses for
commitments to extend credit and standby letters of credit is the contractual
amount of those financial instruments. The Company uses the same credit policies
for making commitments and issuing standby letters of credit as it does for
on-balance sheet financial instruments. Each customer's creditworthiness is
evaluated on an individual basis. The amount and type of collateral, if deemed
necessary by management, is based upon this evaluation of creditworthiness.
Collateral obtained varies but may include marketable securities, deposits, real
estate, investment assets, and property and equipment. In management's opinion,
these commitments, and undisbursed proceeds on loans in process reflected above,
represent no more than normal lending risk to the Company and will be funded
from normal sources of liquidity.
At June 30, 1997 and 1996, the recorded investment in loans that are considered
to be impaired under SFAS No. 114 was $580,000 and $826,000, respectively.
Impaired loans totaling $458,000 at June 30, 1997 and $457,000 at June 30, 1996
were in non-accrual status. There was no related allowance for credit losses
associated with these loans as determined in accordance with SFAS No. 114;
however, approximately $87,000 and $124,000 of the general allowance for loan
losses is allocated to impaired loans at June 30, 1997 and 1996, respectively.
The average recorded investment in impaired loans during the year ended June 30,
1997 and 1996 was approximately $779,000 and $864,000. The Company recognized
interest income on the impaired loans of approximately $25,000 and $65,000
during the years ended June 30, 1997 and 1996, respectively.
The Company serviced loans for others of approximately $10,913,000, $12,719,000,
and $15,413,000 at June 30, 1997, 1996 and 1995, respectively. The June 30, 1997
balance of loans sold with recourse was approximately $142,000.
Certain of the Company's mortgage loans are pledged as collateral for advances
from the Federal Home Loan Bank (see note 6).
The Bank makes loans to executive officers and directors of the Company and to
their associates. It is management's opinion that such 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. Following is a
reconciliation of loans outstanding to executive officers, directors, and their
associates for the year ending June 30, 1997:
Balance at June 30, 1996 $ 573,000
New loans 89,000
Repayments (227,000)
----------
Balance at June 30, 1997 $ 435,000
==========
39
<PAGE>
(4) Premises and Equipment
Premises and equipment consist of the following:
<TABLE>
<CAPTION>
June 30, 1997 June 30, 1996
--------------------------------- ---------------------------------
Accumulated Net book Accumulated Net book
Cost depreciation value Cost depreciation value
---- ------------ ----- ---- ------------ -----
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
Land and land improvements $ 407 $ 57 $ 350 $ 443 $ 53 $ 390
Office buildings and improvements 891 222 669 1,013 295 718
Furniture, fixtures, and equipment 752 566 186 735 519 216
------- ----- ------- ------- ----- -------
$ 2,050 $ 845 $ 1,205 $ 2,191 $ 867 $ 1,324
======= ===== ======= ======= ===== =======
</TABLE>
(5) Deposits
Contractual maturities of time deposits are as follows:
<TABLE>
<CAPTION>
Total
Year Ending June 30 Maturities
------------------- ----------
(dollars in thousands)
<S> <C>
1998 $ 40,663
1999 8,497
2000 4,458
2001 574
2002 and thereafter --
---------
Total time deposits $ 54,192
=========
</TABLE>
Time deposits of $100,000 or more totaled $9,636,000 and $6,072,000 at June 30,
1997 and 1996, respectively.
Interest expense on deposits includes $406,000, $312,000, and $326,000 for the
years ended June 30, 1997, 1996, and 1995, respectively, on time deposits of
$100,000 or more.
On September 30, 1996, President Clinton signed into law the Deposit Insurance
Funds Act allowing a special assessment to be levied by the FDIC to recapitalize
the SAIF. The special assessment was based on the level of SAIF deposits a
financial institution had as of March 31, 1995 subject to a 20% reduction for
certain qualifying deposits. The Bank's special assessment totaled $487,000. On
December 11, 1996, the FDIC approved a final rule retroactive to October 1, 1996
which lowered rates on assessments paid to the SAIF.
40
<PAGE>
(6) Advances from the Federal Home Loan Bank
Advances from the Federal Home Loan Bank of Atlanta, with weighted average
interest rates, are as follows:
<TABLE>
<CAPTION>
June 30,
----------------------------
1997 1996
---- ----
(dollars in thousands)
<S> <C> <C>
5.78% due on or before June 30, 1997 $ - $ 15,250
5.96% due on or before June 30, 1998 16,500 -
6.16% due on or before June 30, 1998 - 2,000
-------- ------
$ 16,500 $ 17,250
======== ========
</TABLE>
At June 30, 1997, the Bank had additional credit availability from the Federal
Home Loan Bank of $8,500,000.
All advances are secured by stock in the Federal Home Loan Bank and a blanket
floating lien on the Bank's one-to-four family residential mortgage loans.
(7) Employee and Director Benefit Plans
Defined Contribution Retirement Plan
The Bank had a self-administered, defined contribution retirement plan that
covered all eligible employees. The Bank's policy has been to fund retirement
costs accrued. Under the plan, the Bank contributed an amount equivalent to 10%
of the eligible employees' annual salaries. In conjunction with the Conversion,
the defined contribution retirement plan was terminated as of July 31, 1995.
Funds were distributed in October 1995. There was no gain or loss upon the
termination of the defined contribution retirement plan. Retirement expense for
this plan totaled approximately $9,000 in 1996 and $79,000 in 1995.
401(k) Plan
The Bank sponsors a 401(k) plan that covers all eligible employees. The Bank
matches 50% of employee contributions, with the Bank's contribution limited to
3% of each employee's salary. Matching contributions are funded when accrued.
Matching expense totalled approximately $18,000 in 1997, $16,000 in 1996, and
$17,000 in 1995.
Employee Stock Ownership Plan ("ESOP")
The Bank has an ESOP whereby an aggregate number of shares amounting to 211,600
were purchased for future allocation to employees. Contributions to the ESOP are
made by the Bank on a discretionary basis and are allocated among ESOP
participants on the basis of relative compensation in the year of allocation.
Benefits under the ESOP vest in full upon five years of service with credit
given for years of service prior to the conversion.
41
<PAGE>
(7) Employee and Director Benefit Plans, Continued
The ESOP was funded by a $40,000 cash contribution made by the Bank in December
1995 and a loan from the Parent in the amount of $2,690,677. The loan is secured
by shares of stock purchased by the ESOP and is not guaranteed by the Bank.
Principal and interest payments on this loan are funded primarily from
discretionary contributions by the Bank. Dividends, if any, paid on shares held
by the ESOP may also be used to reduce the loan. Dividends on unallocated shares
are used by the ESOP to repay the debt to the Parent and are not reported as
dividends in the consolidated financial statements. Dividends on allocated
shares are credited to the accounts of the participants and reported as
dividends in the consolidated financial statements.
On December 31, 1996, the Bank made a $1,710,000 contribution to the ESOP,
representing the normal principal payment due for the year and the application
of dividends on unallocated shares to the principal balance of the loan. This
contribution resulted in the release of 125,819 shares to individual participant
accounts. At June 30, 1997, a total of 128,919 shares have been released and
allocated to participants and 82,681 shares remain unallocated, of which 18,725
shares are committed to be released on December 31, 1997.
Total compensation expense associated with the ESOP for the year ended June 30,
1997 was $1,702,000. At June 30, 1997, there were 82,681 unallocated ESOP shares
with a total fair value of approximately $847,000
In fiscal year 1996, the $40,000 cash contribution made as of December 31, 1995
was used to release 3,100 shares to ESOP participants. During the six months
ended June 30, 1996, 21,566 shares were considered committed to be released to
ESOP participants, and compensation expense of $139,000 associated with those
shares was recorded.
Management Recognition Plan ("MRP")
The Bank's MRP was approved by stockholders of the Parent and by the Parent's
and the Bank's Boards of Directors during fiscal year 1997. The MRP serves as a
means of providing existing directors and employees of the Bank with an
ownership interest in the Company. Shares of the Company's common stock awarded
under the MRP vest equally over a five year period. Compensation expense related
to those shares is recognized on a straight-line basis corresponding with the
vesting period. Prior to vesting, each participant granted shares under the MRP
may direct the voting of the shares allocated to the participant and will be
entitled to receive any dividends or other distributions paid on such shares. On
August 29, 1996, 105,800 shares were awarded under the MRP. During fiscal year
1997, 14,914 shares were forfeited under the MRP. 13,500 of those forfeited
shares were subsequently reallocated to new participants under the MRP. Total
compensation expense associated with the MRP for the year ended June 30, 1997
was $237,000.
Stock Option Plan
The Company adopted a Stock Option Plan which has also been approved by the
stockholders of the Parent and by the Parent's and the Bank's Boards of
Directors. The Stock Option Plan makes available options to purchase 264,500
shares, or 10% of the shares issued in the conversion to employees and
42
<PAGE>
(7) Employee and Director Benefit Plans, Continued
directors. Options granted under the Stock Option Plan have a vesting schedule
which provides that 20% of the options granted vest in the first year, and 20%
will vest on each subsequent anniversary date, so that options would be
completely vested within five years from the date of grant. Options become 100%
vested upon death or disability, if earlier. Unexercised options expire within
ten years from the date of grant.
The Company has elected to follow APB Opinion No. 25 ("APB 25"), "Accounting for
Stock Issued to Employees" and related interpretations in accounting for its
stock options as permitted under SFAS No. 123 ("SFAS 123"), "Accounting for
Stock-Based Compensation." In accordance with APB 25, no compensation cost is
recognized by the Company when stock options are granted because the exercise
price of the Company's stock options equals the market price of the underlying
common stock on the date of grant. As required by SFAS 123, disclosures are
presented below for the effect on the net loss and net loss per share that would
result from the use of the fair value based method to measure compensation cost
related to stock option grants in 1997. The effects of applying the provisions
of SFAS 123 in 1997 are not necessarily indicative of future effects.
Net loss
As reported $ (534,000)
Pro forma (569,000)
Net loss per share
As reported (0.20)
Pro forma (0.21)
The weighted-average fair value per share of options granted in 1997 amounted to
$2.74. Fair values were estimated on the date of grant using the Black-Scholes
option-pricing model with the following weighted average assumptions:
Risk-free interest rate 6.75%
Dividend yield 3.90
Volatility 30.00
Expected life 7 years
A summary of the Company's stock option activity and related information for the
year ended June 30, 1997 follows:
<TABLE>
<CAPTION>
Outstanding Exercisable
-------------------- -----------------------
Weighted Weighted
Average Average
Option Exercise Option Exercise
Shares Price Shares Price
------ ----- ------ -----
<S> <C> <C> <C> <C>
At June 30, 1996 -- $ -- -- $ --
Granted 262,354 9.52
Exercised -- --
Forfeited -- --
At June 30, 1997
262,354 $ 9.52 -- $ --
======= ======= ======= =======
</TABLE>
43
<PAGE>
(7) Employee and Director Benefit Plans, Continued
Directors' Deferred Compensation Plan
The Bank has in place two deferred compensation plans for its directors. Under
the first plan directors are to be paid specified amounts during the ten-year
period following the latter of the date that the director becomes 65 years of
age, or five years from adoption of the plan. During 1995, the Bank established
another deferred compensation plan for certain of its directors under which the
directors would be paid specified amounts during the ten-year period following
the latter of the date that the director meets a specified age requirement, or
five years from adoption of the plan. The Bank has purchased life insurance
policies with the Bank named as beneficiary to fund the benefits under both
plans. Total expense related to these plans was approximately $73,000 for 1997,
$89,000 for 1996, and $162,000 for 1995.
Employment Agreements
The Bank has entered into employment agreements with four executive officers in
order to ensure a stable and competent management base. The agreements provide
for a three-year term, but upon each anniversary, the agreements automatically
extend so that the remaining term shall always be three years. The agreements
provide that the nature of the covered employee's compensation, duties or
benefits cannot be diminished following a change in control of the Company.
These employement agreements are considered contingent liabilities which are not
reflected in the consolidated financial statements.
Severance Plan
In connection with the Conversion, the Bank adopted a Severance Plan for the
benefit of its employees. The Plan provides for severance pay benefits in the
event of a change in control which results in the termination of such employees
or diminished compensation, duties, or benefits within two years of a change in
control. The employees covered would be entitled to a severance benefit of the
greater of (a) the amount equal to two weeks' salary at the existing salary rate
multiplied by the employee's number of complete years of service or (b) the
amount of one month's salary at the employee's salary rate at the time of
termination, subject to a maximum payment equal to two times the employee's
annual salary. This severance plan is considered a contingent liability which is
not reflected in the consolidated financial statements.
(8) Stockholders' Equity
Common Stock
The Company is authorized to issue 20,000,000 shares of common stock. The common
stock has no par value. As of June 30, 1997 and 1996, there were 2,750,800 and
2,645,000 shares of common stock issued and outstanding, respectively. The
increase is attributable to an additional 105,800 shares of common stock issued
for the MRP on August 29, 1996 as discussed in Note 7 to the consolidated
financial statements.
Preferred Stock
The Company is authorized to issue up to 5,000,000 shares of preferred stock. No
shares of preferred stock have been issued or were outstanding at June 30, 1997
or 1996. Such preferred stock may be issued in one or more series with such
44
<PAGE>
(8) Stockholders' Equity, Continued
rights, preferences, and designations as the Board of Directors of the Parent
may from time to time determine subject to applicable law and regulations. If
and when such shares are issued, holders of such shares may have certain
preferences, powers, and rights (including voting rights) senior to the rights
of the holders of the common stock of the Company. The Board of Directors of the
Parent can (without stockholder approval) issue preferred stock with voting and
conversion rights which could, among other things, adversely affect the voting
power of the holders of the common stock of the Company and assist management in
impeding an unfriendly takeover or attempted change in control of the Company
that some stockholders may consider to be in their best interest but to which
management is opposed. The Company has no current plans to issue preferred
stock.
Capital Adequacy
The Parent is regulated by the Board of Governors of the Federal Reserve System
("FRB") and is subject to securities registration and public reporting
regulations of the Securities and Exchange Commission. The Bank is regulated by
the FDIC and the Administrator, Savings Institutions Division, North Carolina
Department of Commerce (the "Administrator").
The Bank is subject to the capital requirements of the FDIC and the
Administrator. The FDIC requires the Bank to maintain minimum ratios of Tier 1
capital to total risk-weighted assets and total capital to risk-weighted assets
of 4% and 8%, respectively. Tier 1 capital consists of total shareholders'
equity calculated in accordance with generally accepted accounting principles
less intangible assets, and total capital is comprised of Tier 1 capital plus
certain adjustments, the only one of which applicable to the Bank is the
allowance for possible loan losses. Risk-weighted assets refer to the on- and
off-balance sheet exposures of the Bank adjusted for their relative risk levels
using formulas set forth in FDIC regulations. The Bank is also subject to a FDIC
leverage capital requirement, which calls for a minimum ratio of Tier 1 capital
(as defined above) to quarterly average total assets of 3% and a ratio of 5% to
be "well-capitalized". The Administrator requires a net worth equal to at least
5% of total assets.
As summarized below, at June 30, 1997 and 1996, the Bank was in compliance with
all of the aforementioned capital requirements.
As of June 30, 1997, the FDIC categorized the Bank as "well-capitalized" under
the regulatory framework for prompt corrective action. To be categorized as
well-capitalized, the Bank must meet minimum ratios for total risk-based, and
Tier I leverage (the ratio of Tier I capital to average assets) as set forth in
the following table. There are no events or conditions since the notification
that management believes have changed the Bank's category.
45
<PAGE>
(8) Stockholders' Equity, Continued
<TABLE>
<CAPTION>
Minimum Ratios
-----------------------------
For To Be Well
Capital Amount Ratio Capital Capitalized Under
-------------------- ------------------- Adequacy Prompt Corrective
1997 1996 1997 1996 Purposes Action Provisions
---- ---- ---- ---- -------- -----------------
(dollars in thousands)
<S> <C> <C> <C> <C> <C> <C>
As of June 30:
Tier I Capital (to risk-weighted assets): $18,942 $23,870 27.66% 35.90% 4.00% 6.00%
Total Capital - Tier II capital (to risk-
weighted assets): .................... 19,738 24,478 28.82 36.81 8.00 10.00
Leverage - Tier I capital (to average
assets): ............................. 18,942 23,870 15.67 19.49 4.00 5.00
</TABLE>
Liquidation Account
At the time of Conversion, the Bank established a liquidation account in an
amount equal to its net worth at June 30, 1995. The liquidation account will be
maintained for the benefit of eligible deposit account holders who continue to
maintain their deposit accounts in the Bank after the conversion. Only in the
event of a complete liquidation will each eligible deposit account holder be
entitled to receive a liquidation distribtuion from the liquidation account in
the amount of the then current adjusted subaccount balance for deposit accounts
then held before any liquidation distribution may be made to stockholders of the
Parent's common stock. Dividends cannot be paid from this liquidation account.
Dividends
Subject to applicable law, the Boards of Directors of the Bank and the Parent
may each provide for the payment of dividends. Future declarations of cash
dividends, if any, by the Parent may depend upon dividend payments by the Bank
to the Parent. Subject to regulations of the Administrator, the Bank may not
declare or pay a cash dividend on or repurchase any of its common stock if its
stockholders' equity would thereby be reduced below either the aggregate amount
then required for the liquidation account or the minimum regulatory capital
requirements imposed by federal and state regulations. In addition, for a period
of five years after the Conversion, the Bank will be required, under existing
North Carolina regulations, to obtain prior written approval of the
Administrator before it can declare and pay a cash dividend on its capital stock
in an amount in excess of one-half of the greater of (i) its net income for the
most recent fiscal year, or (ii) the average of its net income after dividends
for the most recent fiscal year and not more than two of the immediately
preceding fiscal years, if applicable. As a result of this limitation, the Bank
cannot pay a dividend without the approval of the Administrator. The Bank has
obtained the Administrator's approval for each dividend paid by the Bank to the
Parent.
46
<PAGE>
(9) Income Taxes
The components of income tax expense (benefit) were as follows:
<TABLE>
<CAPTION>
Year ended June 30,
-------------------------------------
(dollars in thousands)
1997 1996 1995
----- ----- -----
<S> <C> <C> <C>
Currently payable:
Federal ................. $ 419 $ 782 $ 760
State ................... 61 123 137
----- ----- -----
480 905 897
----- ----- -----
Deferred:
Federal ................. (136) (45) (48)
State ................... (27) (11) (12)
----- ----- -----
(163) (56) (60)
----- ----- -----
$ 317 $ 849 $ 837
===== ===== =====
</TABLE>
The tax effects of temporary differences that give rise to significant portions
of the deferred tax assets and deferred tax liabilities are shown below:
<TABLE>
<CAPTION>
June 30
----------------
1997 1996
----- -----
(dollars in thousands)
<S> <C> <C>
Allowance for loan losses (net) ............................. $ 166 $ 108
Unrealized holding losses on securities available-for-sale .. 54 372
Deferred compensation accruals .............................. 165 152
Management recognition plan ................................. 92 --
Capital loss carryforward ................................... 28 --
Excess servicing ............................................ 23 23
Other temporary differences creating deferred tax assets .... 42 --
----- -----
Gross deferred tax assets .......................... 570 655
Valuation allowance ......................................... -- --
----- -----
Net deferred tax assets ............................ 570 655
----- -----
</TABLE>
47
<PAGE>
(9) Income Taxes, Continued
<TABLE>
<CAPTION>
June 30
----------------
1997 1996
----- -----
(dollars in thousands)
<S> <C> <C>
Accelerated depreciation .................................... (47) (46)
FHLB stock dividends ........................................ (106) (106)
Deferred loan origination fees, net of deferred costs ....... (46) (6)
Other temporary differences creating deferred tax liabilities (8) (23)
----- -----
Gross deferred tax liabilities ..................... (207) (181)
----- -----
Net deferred tax asset ............................. $ 363 $ 474
===== =====
</TABLE>
The Company has no valuation allowance at June 30, 1997 or 1996 because it has
sufficient taxable income in the carryback period to support the realizability
of the net deferred tax asset.
The reconciliation of income taxes at statutory tax rates to income tax expense
reported in the statements of income follows:
<TABLE>
<CAPTION>
June 30,
----------------------------------------
1997 1996 1995
---- ---- ----
(dollars in thousands)
<S> <C> <C> <C>
Income taxes at the statutory federal tax rate $ (74) $ 865 $ 707
State income taxes less federal benefit 23 74 83
Nondeductible ESOP compensation 518 - -
Tax exempt interest (104) (107) 9
Other (46) 17 38
----- ---- ----
Total tax expense $ 317 $ 849 $ 837
=== === ===
</TABLE>
Retained earnings at June 30, 1997 includes approximately $2,777,000 for which
no provision for federal income tax has been made. This amount represents
allocations of income to bad debt deductions for tax purposes only. Reduction of
such amount for purposes other than tax bad debt losses could create taxable
income in certain remote instances, which will be subject to the then current
corporate income tax rate. Payment of dividends by the Bank out of this bad debt
allocation would create taxable income equal to approximately 164% of the
dividend for the Bank.
48
<PAGE>
(10) Quarterly Financial Data (Unaudited)
Summarized unaudited quarterly financial data for the year ended June 30, 1997
is as follows:
<TABLE>
<CAPTION>
First Second Third Fourth
Quarter Quarter Quarter Quarter
--------- --------- --------- ---------
(dollars in thousands, except per share amounts)
<S> <C> <C> <C> <C>
Operating Summary:
Interest income ................................... $ 2,463 $ 2,430 $ 2,298 $ 2,344
Interest expense .................................. 1,111 1,148 1,158 1,186
--------- --------- --------- ---------
Net interest income ............................... 1,352 1,282 1,140 1,158
Provision for loan losses ......................... 21 597 20 20
--------- --------- --------- ---------
Net interest income after provision for loan losses 1,331 685 1,120 1,138
Other income ...................................... 102 (19) 70 72
Other expenses .................................... 1,214 2,261 617 624
--------- --------- --------- ---------
Income (loss) before income tax expense ........... 219 (1,595) 573 586
Income taxes ...................................... 36 (164) 201 244
--------- --------- --------- ---------
Net income (loss) ................................. $ 183 $ (1,431) $ 372 $ 342
========= ========= ========= =========
Per Share Data:
Earnings (Loss).................................... 0.07 (0.54) 0.14 0.13
Cash dividends declared ........................... 0.12 7.10 0.10 0.10
Dividend payout ................................... 171% n/a 71% 77%
Book value per share .............................. 13.54 7.14 7.31 7.42
Selected Average Balances:
Assets ............................................ $ 129,823 $ 128,579 $ 118,974 $ 119,454
Investment securities ............................. 30,897 27,202 16,116 15,335
Loans ............................................. 93,110 94,422 96,657 98,087
Interest-bearing deposits ......................... 72,231 73,953 79,217 80,171
Advances .......................................... 16,889 16,731 16,713 15,752
Stockholders' equity .............................. 37,462 31,644 19,928 20,358
</TABLE>
49
<PAGE>
(10) Quarterly Financial Data (Unaudited), Continued
Summarized unaudited quarterly financial data for the year ended June 30, 1996
is as follows:
<TABLE>
<CAPTION>
First Second Third Fourth
Quarter Quarter Quarter Quarter
-------- -------- -------- --------
(dollars in thousands, except per share amounts)
<S> <C> <C> <C> <C>
Operating Summary:
Interest income ................................... $ 2,137 $ 2,378 $ 2,363 $ 2,370
Interest expense .................................. 1,124 1,191 1,033 1,066
-------- -------- -------- --------
Net interest income ............................... 1,013 1,187 1,330 1,304
Provision for loan losses ......................... 30 24 21 21
-------- -------- -------- --------
Net interest income after provision for loan losses 983 1,163 1,309 1,283
Other income ...................................... 84 82 79 10
Other expenses .................................... 573 622 642 612
-------- -------- -------- --------
Income before income tax expense .................. 494 623 746 681
Income taxes ...................................... 187 219 243 200
-------- -------- -------- --------
Net income ........................................ $ 307 $ 404 $ 503 $ 481
======== ======== ======== ========
Per Share Data:
Earnings .......................................... n/a 0.05 0.20 0.20
Cash dividends declared ........................... n/a n/a 0.10 0.12
Dividend payout ................................... n/a n/a 50% 60%
Book value per share .............................. n/a 14.05 14.05 14.01
Selected Average Balances:
Assets ............................................ $104,824 $121,715 $123,372 $127,095
Investment securities ............................. 13,100 18,307 28,390 31,191
Loans ............................................. 86,107 87,648 87,818 90,096
Interest-bearing deposits ......................... 74,833 84,623 70,387 71,617
Advances .......................................... 12,893 13,082 11,912 15,105
Stockholders' equity .............................. 13,860 21,846 37,351 37,173
</TABLE>
50
<PAGE>
(11) Parent Company Financial Data
Condensed financial information for Piedmont Bancorp, Inc. (Parent Company) is
as follows:
<TABLE>
<CAPTION>
June 30,
1997 1996
------- -------
(dollars in thousands)
<S> <C> <C>
Condensed Balance Sheet
Assets:
Cash on deposit with bank subsidiary ........................... $ 486 $ 5,615
Investment securities available for sale at market value:
Obligations of states and local governments, cost $5,624,000 -- 5,398
Investment in bank subsidiary .................................. 19,839 26,120
Other ............................................................ 366 322
------- -------
Total assets ............................................... 20,691 37,455
======= =======
Liabilities and stockholders' equity:
Accrued taxes, expenses and other liabilities .................. 275 405
Stockholders' equity ........................................... 20,416 37,050
------- -------
Total liabilities and stockholders' equity ................. $20,691 $37,455
======= =======
<CAPTION>
June 30,
--------------------
1997 1996
------- -------
(dollars in thousands)
<S> <C> <C>
Condensed Statement of Income
Dividends from bank subsidiary ............................... $ 8,050 $ --
Interest income from bank subsidiary ......................... 153 200
Interest on loan from bank subsidiary ESOP ................... 172 148
Interest on investment securities ............................ 88 115
------- -------
Total income ............................................... 8,463 463
Interest on short-term borrowing ............................. 41 --
Loss on sale of investment securities ........................ 81 --
Operating expenses ........................................... 84 50
------- -------
Income before income taxes ................................. 8,257 413
Income tax expense ........................................... 47 117
------- -------
Income before equity in undistributed net income of subsidiary 8,210 296
Equity in undistributed net income (loss) of bank subsidiary (8,744) 1,399
------- -------
Net income (loss) ...................................... $ (534) $ 1,695
======= =======
</TABLE>
51
<PAGE>
(11) Parent Company Financial Data, Continued
<TABLE>
<CAPTION>
Year Ended June 30,
1997 1996
-------- --------
(dollars in thousands)
<S> <C> <C>
Condensed Statement of Cash Flows
Cash flows from operating activities:
Net income (loss) ................................................. $ (534) $ 1,695
Adjustments to reconcile net income to net
cash provided by operating activities:
Undistributed earnings of bank subsidiary ................... 8,744 (1,399)
Loss on sale of available-for-sale securities ............... 81 --
Payments on note receivable from ESOP ....................... 1,709 --
Increase in other assets .................................... (132) (238)
(Decrease) increase in other liabilities .................... (105) 113
-------- --------
Net cash provided by operating activities ............... 9,763 171
-------- --------
Cash flows from investing activities:
Purchases of available-for-sale securities ........................ -- (5,626)
Proceeds from sale of available-for-sale securities ............... 5,543 --
-------- --------
Net cash provided (used) by investing activities......... 5,543 (5,626)
-------- --------
Cash flows from financing activities:
Proceeds of issuance of no par common stock ....................... -- 25,398
Purchase of common stock for ESOP ................................. -- (2,731)
Capital contribution to bank subsidiary ........................... -- (11,353)
Cash dividends paid to stockholders ............................... (20,435) (244)
-------- --------
Net cash provided (used) by financing activities ........ (20,435) 11,070
-------- --------
Net increase (decrease) in cash and cash equivalents .... (5,129) 5,615
Cash and cash equivalents at beginning of year ........................ 5,615 --
-------- --------
Cash and cash equivalents at end of year .............................. $ 486 $ 5,615
======== ========
Supplemental disclosure of cash flow information:
Cash paid during the year for income taxes ......................... $ 160 $ 29
======== ========
Supplemental disclosure of noncash transactions:
Unrealized gains (losses) on securities available for sale
net of deferred taxes of $88 and $88 ........................... $ 138 $ (138)
======== ========
Unrealized gains (losses) on bank subsidiary's securities available-
for-sale net of deferred taxes of $105 and $299 ................. $ 357 $ (463)
======== ========
Dividends declared but unpaid ...................................... $ (267) $ (292)
======== ========
</TABLE>
52
<PAGE>
(12) Fair Value of Financial Instruments
Fair value estimates are made by management at a specific point in time, based
on relevant information about the financial instrument and the market. These
estimates do not reflect any premium or discount that could result from offering
for sale at one time the Company's entire holdings of a particular financial
instrument nor are protential taxes and other expenses that would be incurred in
an actual sale considered. Fair value estimates are based on judgments regarding
future expected loss experience, current economic conditions, risk
characteristics of various financial instruments, and other factors. These
estimates are subjective in nature and involve uncertainties and matters of
significant judgment and therefore cannot be determined with precision. Changes
in assumptions and/or the methodology used could significantly affect the
estimates disclosed. Similarly, the fair values disclosed could vary
significantly from amounts realized in actual transactions.
Fair value estimates are based on existing on- and off-balance sheet financial
instruments without attempting to estimate the value of anticipated future
business and the value of assets and liabilities that are not considered
financial instruments.
The following table presents the carrying values and estimated fair values of
the Company's financial instruments at June 30, 1997 and 1996:
<TABLE>
<CAPTION>
1997 1996
---- ----
Carrying Estimated Fair Carrying Estimated Fair
Value Value Value Value
----- ----- ----- -----
(dollars in thousands)
<S> <C> <C> <C> <C>
Financial assets:
Cash and interest bearing deposits $ 4,645 $ 4,645 $ 2,670 $ 2,670
Investment securities:
Available-for-sale .............. 10,866 10,866 27,098 27,098
Held-to-maturity ................ 3,341 3,395 3,519 3,477
Net loans ......................... 100,173 100,949 91,187 90,775
Federal Home Loan Bank Stock ...... 920 920 863 863
Financial liabilities:
Deposits .......................... 84,860 82,579 73,361 73,475
Federal Home Loan Bank advances ... 16,500 16,510 17,250 17,242
</TABLE>
The estimated fair values of net loans and deposits are based on cash flows
discounted at market interest rates. The carrying values of other financial
instruments, including various receivables and payables, approximate fair value.
At June 30, 1997, the Company had outstanding standby letters of credit and
commitments to extend credit. These off-balance sheet financial instruments are
generally exercisable at the market rate prevailing at the date the underlying
transaction will be complete, and, therefore, they are deemed to have no current
fair market value. Refer to note 3.
53
<PAGE>
CORPORATE INFORMATION
BOARD OF DIRECTORS
M. Marion Clark, Chairman of the Board
Retired President, Hillsborough Savings Bank, Inc., SSB
Robert B. Nichols, Jr. D. Tyson Clayton
Vice Chairman of the Board President and Chief Executive Officer
Retired Farmer of Company and Bank
Peggy S. Walker James P. Ray
Secretary of Company Owner and Operator
Executive Vice President of Bank Occoneechee Golf Club, Inc.
William L. Rogers Donald W. Pope
Farmer Owner, Pope's Tire Service
Alfred L. Carr Everett H. Kennedy
Retired Merchant Retired Realtor
EXECUTIVE OFFICERS
D. Tyson Clayton Peggy S. Walker
President and Chief Executive Officer Secretary of Company
of Company and Bank Executive Vice President of Bank
Eric J. Schuppenhauer Ted R. Laws
Treasurer of Company Vice President of Company
Vice President and Chief Financial and Bank
Officer of Bank
- --------------------------------------------------------------------------------
CORPORATE OFFICE INDEPENDENT CERTIFIED
PIEDMONT BANCORP, INC. PUBLIC ACCOUNTANTS
260 South Churton Street KPMG Peat Marwick LLP
Hillsborough, NC 27278-2507 Suite 1200, 150 Fayetteville Street Mall
(919) 732-2143 Raleigh, NC 27601
STOCK TRANSFER AGENT FORM 10-K
Registrar and Transfer Company A copy of the Form 10-K as filed with
10 Commerce Drive the Securities and Exchange Commis-
Cranford, New Jersey 07016-3572 sion will be furnished without charge
to stockholders upon written request to:
SPECIAL LEGAL COUNSEL
Brooks, Pierce, McLendon, Humphrey D. Tyson Clayton
and Leonard, LLP 260 South Churton Street
Post Office Box 26000 Hillsborough, NC 27278-2507
Greensboro, North Carolina 27420
54
<PAGE>
ANNUAL MEETING
The 1997 Annual Meeting of stockholders of Piedmont Bancorp, Inc. will be held
at 6:00 p.m. on November 12, 1997 at the Corporate Office, 260 South Churton
Street, Hillsborough North Carolina.
CAPITAL STOCK
The Parent's common stock is traded on the American Stock Exchange under the
symbol "PDB". As of June 30, 1997, there were 2,750,800 shares outstanding and
699 shareholders of record, not including the number of persons or entities
whose stock is held in nominee or street name through various brokerage firms or
banks. Payment of dividends by the Bank subsidiary to the Parent is subject to
various restrictions. Under applicable banking regulations, the Bank may not
declare a cash dividend if the effect thereof would be to reduce its net worth
to an amount less than the minimum required by federal and state banking
regulations. In addition, for a period of five years after the consummation of
the Bank's stock conversion, which occurred on December 7, 1995, the Bank will
be required to obtain prior written approval from the Administrator of the
Savings Institutions Division, North Carolina Department of Commerce, before it
can declare a cash dividend in an amount in excess of one-half the greater of
(i) its net income for the most recent fiscal year or (ii) the average of its
net income after dividends for the most recent fiscal year and not more than two
of the immediately preceding fiscal years, as applicable. As a result of this
limitation, the Bank cannot pay a dividend without the approval of the
Administrator. The Bank has obtained the Administrator's approval for each
dividend paid by the Bank to the Parent.
<TABLE>
<CAPTION>
Quarterly Common Stock Performance and Dividends Declared
For the Year Ended June 30, 1997
Stock Price Dividends Declared, Per Share
-------------------- -----------------------------
High Low
---- ---
<S> <C> <C> <C>
First quarter ended September 30 $16 1/4 $12 1/2 $ 0.12
Second quarter ended December 31 19 1/8 10 3/8 ** 7.10
Third quarter ended March 31 11 1/8 9 1/4 0.10
Fourth quarter ended June 30 11 10 1/8 0.10
** includes $7.00 special dividend paid on December 6, 1996.
</TABLE>
55
<TABLE> <S> <C>
<ARTICLE> 9
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUN-30-1997
<PERIOD-END> JUN-30-1997
<CASH> 879
<INT-BEARING-DEPOSITS> 3,766
<FED-FUNDS-SOLD> 0
<TRADING-ASSETS> 0
<INVESTMENTS-HELD-FOR-SALE> 10,866
<INVESTMENTS-CARRYING> 3,341
<INVESTMENTS-MARKET> 3,395
<LOANS> 100,173
<ALLOWANCE> 796
<TOTAL-ASSETS> 122,761
<DEPOSITS> 84,860
<SHORT-TERM> 16,500
<LIABILITIES-OTHER> 985
<LONG-TERM> 0
0
0
<COMMON> 6,920
<OTHER-SE> 13,496
<TOTAL-LIABILITIES-AND-EQUITY> 122,761
<INTEREST-LOAN> 8,060
<INTEREST-INVEST> 1,376
<INTEREST-OTHER> 99
<INTEREST-TOTAL> 9,535
<INTEREST-DEPOSIT> 3,615
<INTEREST-EXPENSE> 4,603
<INTEREST-INCOME-NET> 4,932
<LOAN-LOSSES> 658
<SECURITIES-GAINS> (135)
<EXPENSE-OTHER> 4,716
<INCOME-PRETAX> (217)
<INCOME-PRE-EXTRAORDINARY> (217)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (534)
<EPS-PRIMARY> (0.20)
<EPS-DILUTED> (0.20)
<YIELD-ACTUAL> 4.24
<LOANS-NON> 803
<LOANS-PAST> 244
<LOANS-TROUBLED> 0
<LOANS-PROBLEM> 1,365
<ALLOWANCE-OPEN> 608
<CHARGE-OFFS> 519
<RECOVERIES> 49
<ALLOWANCE-CLOSE> 796
<ALLOWANCE-DOMESTIC> 796
<ALLOWANCE-FOREIGN> 0
<ALLOWANCE-UNALLOCATED> 0
</TABLE>
