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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(Mark One)
[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 1997
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from _____________________ to ________________
Commission file number 000-23667
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HOPFED BANCORP, INC.
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(Exact name of registrant as specified in its charter)
Delaware 61-1322555
- ------------------------------ ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2700 Fort Campbell Boulevard, Hopkinsville, KY 42240
- ----------------------------------------------- ---------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (502) 885-1171.
Securities registered pursuant to Section 12(b) of the Act: None.
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
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(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 pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The registrant's voting stock is traded on the Nasdaq Stock Market. The
aggregate market value of the voting stock held by non-affiliates of the
registrant, computed by reference to the price ($17.75 per share) at which the
stock was sold on March 31, 1998, was approximately $63,379,161. For purposes
of this calculation, the term "affiliate" refers to all executive officers and
directors of the registrant and all stockholders beneficially owning more than
10% of the registrant's Common Stock.
As of the close of business on March 31, 1998, 4,033,625 shares of the
registrant's Common Stock were outstanding.
Documents Incorporated By Reference
Part II:
Annual Report to Stockholders for the year ended December 31, 1997.
Part III:
Portions of the definitive proxy statement for the 1998 Annual Meeting of
Stockholders .
PART I
ITEM 1. BUSINESS
On February 6, 1998, HopFed Bancorp, Inc. ( the "Company") issued and
sold 4,033,625 shares of common stock, par value $.01 per share (the "Common
Stock"), in connection with the conversion of Hopkinsville Federal Savings Bank
(the "Bank") from a federal mutual savings bank to a federal stock savings bank
and the issuance of the Bank's capital stock to HopFed Bancorp, Inc. (the
"Company"). The conversion of the Bank, the acquisition of all of the
outstanding capital stock of the Bank by the Company and the issuance and sale
of the Common Stock are collectively referred to herein as the "Conversion."
HOPFED BANCORP, INC.
HopFed Bancorp, Inc. was incorporated under the laws of the State of
Delaware in May 1997 at the direction of the Board of Directors of the Bank for
the purpose of serving as a savings and loan holding company of the Bank upon
the acquisition of all of the capital stock issued by the Bank in the
Conversion. Prior to the Conversion, the Company did not engage in any material
operations. The Company has no significant assets other than the outstanding
capital stock of the Bank, up to 50% of the net proceeds of the Conversion
(after deducting amounts infused into the Bank and used to fund the Employee
Stock Ownership Plan ("ESOP") and a note receivable from the ESOP. The Company's
principal business is overseeing the business of the Bank and investing the
portion of the net Conversion proceeds retained by it. The Company has
registered with the Office of Thrift Supervision ("OTS") as a savings and loan
holding company. See "Regulation Regulation of the Company."
As a holding company, the Company has greater flexibility than the
Bank to diversify its business activities through existing or newly formed
subsidiaries or through acquisition or merger with other financial institutions,
although the Company currently does not have any plans, agreements, arrangements
or understandings with respect to any such acquisitions or mergers. The Company
is classified as a unitary savings and loan holding company and is subject to
regulation by the OTS.
The Company's executive offices are located at 2700 Fort Campbell
Boulevard, Hopkinsville, Kentucky 42240, and its main telephone number is (502)
885-1171.
HOPKINSVILLE FEDERAL SAVINGS BANK
The Bank is a federally chartered stock savings bank headquartered in
Hopkinsville, Kentucky, with branch offices in Hopkinsville, Murray, Cadiz and
Elkton, Kentucky. The Bank was incorporated by the Commonwealth of Kentucky in
1879 under the name Hopkinsville Building and Loan Association. In 1940, the
Bank converted to a federal mutual savings association and received federal
insurance of its deposit accounts. In 1983, the Bank became a federal mutual
savings bank and adopted its current corporate title.
The business of the Bank primarily consists of attracting deposits
from the general public and investing such deposits in loans secured by single
family residential real estate and investment securities, including U.S.
Government and agency securities and mortgage-backed securities. The Bank also
originates single-family residential/construction loans and multi-family and
commercial real estate loans, as well as loans secured by deposits and other
consumer loans. The Bank emphasizes the origination of residential real estate
loans with adjustable interest rates and other assets which are responsive to
changes in interest rates and allow the Bank to more closely match the interest
rate maturation of its assets and liabilities.
At December 31, 1997, the Bank's net loan portfolio comprised 30.08%
of total assets, and 78.7% of total loans were secured by one-to-four family
residential properties. At December 31, 1997, short-term investments and
investment securities represented 58.73% of total assets and mortgage-backed
securities represented 7.66% of total assets. At December 31, 1997,
nonperforming loans totaled 0.16% of total assets.
2
MARKET AREA
The primary market area of the Bank consists of the adjacent counties
of Calloway, Christian, Todd and Trigg located in southwestern Kentucky. The
Bank's four-county market area reported a population of 122,301 in 1994. Median
household income levels in the counties of the Bank's market area are below
averages for the Commonwealth of Kentucky and the United States. The 1990
census estimated the income level for the Bank's market area in 1994 to be
approximately 90% of the state average and 69% of the national average. The
unemployment rates for the Bank's market area in December 1997 were reported by
the Pennyrile Area Development District (a government agency) at 5.1% for
Christian County, 5.3% for Calloway County, 5.6% for Trigg County and 4.3% for
Todd County.
The Bank is one of two thrift institutions headquartered in its market
area and there are six banks with headquarters in the Bank's market area. In
addition, a number of larger financial institutions have branch offices located
in the Bank's primary market area.
The market area's economy depends primarily on a number of industrial
facilities, including manufacturing operations for Dana Corporation Parish Frame
Division, Freudenberg Nonwovens, Phelps Dodge Magnet Wire Company, Thomas
Industries Lighting Fixtures, International Paper, Mitsubishi CNC Machining
Center & CNC Turning Center, Rockwell International Suspension Systems Company
U.S., Flynn Enterprises, ARDCO, Johnson Controls, Sun Chemical and Briggs and
Stratton. The market area is an agricultural community and is affected by
agriculture-related industries, including U.S. Tobacco, Southwestern Tobacco,
Wayne Feeds, Case Power and Equipment and Agri-Chem. The market area also
includes Fort Campbell Army Base, Murray State University, Western State
Hospital and Community College of the University of Kentucky, as well as
locally-owned companies which have achieved national recognition, including
Dunlap Sales, Kentucky Derby Hosiery and Gardner Wallcoverings.
National Capital's appraisal of the estimated pro forma market value
of the Common Stock to be sold in the Conversion included an analysis of the
Bank's primary market area and the prevailing economic conditions. In preparing
the appraisal, National Capital considered major employers and employment data,
the location of the Bank's lending operations, the Bank's deposit share and
market position, the current population and projected population growth, the
number of households, age distribution, median household income, building
permits and other housing data and occupancy rates.
LENDING ACTIVITIES
General. The Bank's total gross loan portfolio totaled $105.7 million
at December 31, 1997, representing 30.73% of total assets at that date.
Substantially all loans are originated in the Bank's market area. At December
31, 1997, $83.2 million, or 78.7% of the Bank's loan portfolio, consisted of
one-to-four family, residential mortgage loans. Other loans secured by real
estate include non-residential real estate loans, which amounted to $7.6
million, or 7.2% of the Bank's loan portfolio at December 31, 1997, and multi-
family residential loans, which were $2.4 million, or 2.2% of the Bank's loan
portfolio at December 31, 1997. The Bank also originates construction and
consumer loans. At December 31, 1997, construction loans were $5.2 million, or
4.9% of the Bank's loan portfolio, and consumer loans totaled $7.4 million, or
7.0% of the Bank's loan portfolio.
3
Analysis of Loan Portfolio. Set forth below is selected data relating
to the composition of the Bank's loan portfolio by type of loan at the dates
indicated. At December 31, 1997, the Bank had no concentrations of loans
exceeding 10% of total loans other than as disclosed below.
At December 31,
----------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
(Dollars in thousands)
Type of Loan:
- -------------
Real estate loans:
One-to-four family
residential........... $83,229 78.7% $77,318 79.6% $70,417 81.5% $66,236 82.3% $56,259 81.3%
Multi-family
residential........... 2,359 2.2% 1,466 1.5% 492 0.6% 3,475 4.3% 1,391 2.0%
Construction............ 5,166 4.9% 5,389 5.6% 4,062 4.7% 3,748 4.7% 2,963 4.3%
Non-residential (1)..... 7,593 7.2% 5,467 5.6% 5,107 5.9% 1,626 2.0% 4,523 6.5%
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Total real estate loans. 98,347 93.0% 89,640 92.3% 80,078 92.7% 75,085 93.3% 65,136 94.1%
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Consumer loans:
Secured by deposits...... 3,081 2.9% 3,484 3.6% 3,324 3.8% 3,135 3.9% 2,459 3.6%
Other consumer loans..... 4,298 4.1% 4,004 4.1% 3,016 3.5% 2,296 2.8% 1,596 2.3%
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
Total consumer loans.... 7,379 7.0% 7,488 7.7% 6,340 7.3% 5,431 6.7% 4,055 5.9%
--------- -------- -------- -------- -------- -------- -------- -------- -------- --------
105,726 100.0% 97,128 100% 86,418 100% 80,516 100% 69,191 100%
======== ======== ======== ======== ========
Less: Loans in process... 2,019 1,415 1,541 1,867 1,265
Allowance for loan
losses................. 237 217(2) 122 122 122
-------- -------- -------- -------- --------
Total.................... $103,470 $95,496 $84,755 $78,527 $67,804
======== ======== ======== ======== ========
- -------------------------
(1) Consists of loans secured by first liens on residential lots and loans
secured by first mortgages on commercial real property.
(2) Increase in allowance for loan loss reflects $100,000 provision in 1996
based upon management's assessment of risks associated with the Bank's
increased loan growth and increased emphasis on consumer lending. See "--
Nonperforming Loans and Other Assets."
Loan Maturity Schedule. The following table sets forth certain information
at December 31, 1997 regarding the dollar amount of loans maturing in the Bank's
portfolio based on their contractual terms to maturity, including scheduled
repayments of principal. Demand loans, loans having no stated schedule of
repayments and no stated maturity, and overdrafts are reported as due in one
year or less.
Due after Due after Due after
3 through 5 through 10 through Due after
Due during the year ending 5 years 10 years 15 years 15 years
December 31, after after after after
---------------------------- December 31, December 31, December 31, December 31,
1998 1999 2000 1997 1997 1997 1997 Total
---- ---- ---- ---- ---- ---- ---- ---------
(In thousands)
One-to-four family
residential............. $ 2,287 $1,031 $ 284 $2,234 $8,259 $17,549 $51,585 $ 83,229
Multi-family residential.. - - - - - 1,211 1,148 2,359
Construction.............. 5,166 - - - - - - 5,166
Non-residential........... - - - - - 2,771 4,822 7,593
Consumer.................. 3,745 664 1,081 1,497 86 - 306 7,379
--------- -------- -------- -------- -------- -------- -------- --------
Total.................... $11,198 $1,695 $1,365 $3,731 $8,345 $21,531 $57,861 $105,726
========= ======== ======== ======== ======== ======== ======== ========
4
The following table sets forth at December 31, 1997, the dollar amount of
all loans due one year or more after December 31, 1997 which had predetermined
interest rates and have floating or adjustable interest rates.
Predetermined Floating or
Rate Adjustable Rate
------------------ ------------------
(In thousands)
One-to-four family residential............... $10,471 $70,471
Multi-family residential..................... -- 2,359
Construction -- --
Non-residential.............................. -- 7,593
Consumer..................................... 3,634 --
------------------ ------------------
Total....................................... $14,105 $80,423
================== ==================
Scheduled contractual principal repayments of loans do not reflect the
actual life of such assets. The average life of loans is substantially less than
their contractual terms because of prepayments. In addition, due-on-sale
clauses on loans generally give the Bank the right to declare a loan immediately
due and payable in the event, among other things, that the borrower sells the
real property subject to the mortgage and the loan is not repaid. The average
life of mortgage loans tends to increase when current mortgage loan market rates
are substantially higher than rates on existing mortgage loans and, conversely,
decrease when current mortgage loan market rates are substantially lower than
rates on existing mortgage loans.
Originations, Purchases and Sales of Loans. The Bank generally has
authority to originate and purchase loans secured by real estate located
throughout the United States. Consistent with its emphasis on being a
community-oriented financial institution, the Bank conducts substantially all of
its lending activities in its market area.
The following table sets forth certain information with respect to the
Bank's loan origination activity for the periods indicated. The Bank has not
purchased or sold any loans in the periods presented.
Year Ended December 31,
---------------------------------
1997 1996 1995
---------- ---------- ---------
Loan originations:
One-to-four family residential....... $14,578 $16,209 $11,252
Multi-family residential............. 1,115 1,434 360
Construction......................... 6,302 5,340 3,607
Non-residential...................... 372 536 738
Consumer............................. 7,472 5,688 4,970
---------- ---------- ---------
Total loans originated.............. 29,839 29,207 20,927
---------- ---------- ---------
Loan principal reductions:
Loan principal repayments............ 21,865 18,372 14,698
---------- ---------- ---------
Net increase in loan portfolio........ $ 7,974 $10,835 $ 6,229
========== ========== =========
The Bank's loan originations are derived from a number of sources,
including existing customers, referrals by real estate agents, depositors and
borrowers and advertising, as well as walk-in customers. The Bank's solicitation
programs consist of advertisements in local media, in addition to occasional
participation in various community organizations and events. Real estate loans
are originated by the Bank's loan personnel. All of the Bank's loan personnel
are salaried, and the Bank does not compensate loan personnel on a commission
basis for loans originated. Loan applications are accepted at any of the Bank's
branches.
Loan Underwriting Policies. The Bank's lending activities are subject to
the Bank's written, non-discriminatory underwriting standards and to loan
origination procedures prescribed by the Bank's Board of Directors and its
management. Detailed loan applications are obtained to determine the ability of
borrowers to repay, and the more significant items on these applications are
verified through the use of credit reports, financial statements and
confirmations. All loans must be reviewed by the Bank's loan committee, which is
comprised of the Bank's lending officers and branch managers. Exceptions to the
Bank's underwriting standards must be approved
5
by the loan committee. In addition, the full Board of Directors reviews all
loans on a monthly basis.
Generally, upon receipt of a loan application from a prospective borrower,
a credit report and verifications are ordered to confirm specific information
relating to the loan applicant's employment, income and credit standing. If a
proposed loan is to be secured by a mortgage on real estate, an appraisal of the
real estate is undertaken by an appraiser approved by the Bank's Board of
Directors and licensed or certified (as necessary) by the Commonwealth of
Kentucky. In the case of one-to-four family residential mortgage loans, except
when the Bank becomes aware of a particular risk of environmental contamination,
the Bank generally does not obtain a formal environmental report on the real
estate at the time a loan is made. A formal environmental report may be required
in connection with nonresidential real estate loans.
It is the Bank's policy to record a lien on the real estate securing a loan
and to obtain a title opinion from Kentucky counsel which provides that the
property is free of prior encumbrances and other possible title defects.
Borrowers must also obtain hazard insurance policies prior to closing and, when
the property is in a flood hazard area, pay flood insurance policy premiums.
Applications for real estate loans are underwritten and closed in
accordance with the Bank's own lending guidelines, which generally do not
conform to FHLMC and FNMA guidelines. Although such loans may not be readily
saleable in the secondary market, the Bank's management believes that, if
necessary, such loans may be sold to private investors.
The Bank is permitted to lend up to 100% of the appraised value of the real
property securing a mortgage loan. The Bank is required by federal regulations
to obtain private mortgage insurance on that portion of the principal amount of
any loan that is greater than 90% of the appraised value of the property. Under
its lending policies, the Bank will originate a one-to-four family residential
mortgage loan for owner-occupied property with a loan-to-value ratio of up to
95%. For residential properties that are not owner-occupied, the Bank generally
does not lend more than 80% of the appraised value. For all residential mortgage
loans, the Bank may increase its lending level on a case-by-case basis, provided
that the excess amount is insured with private mortgage insurance. The federal
banking agencies, including the OTS, have adopted regulations that would
establish new loan-to-value ratio requirements for specific categories of real
estate loans.
Under applicable law, with certain limited exceptions, loans and extensions
of credit outstanding by a savings institution to a person at one time shall not
exceed 15% of the institution's unimpaired capital and surplus. Loans and
extensions of credit fully secured by readily marketable collateral may comprise
an additional 10% of unimpaired capital and surplus. Applicable law additionally
authorizes savings institutions to make loans to one borrower, for any purpose,
in an amount not to exceed the lesser of $30.0 million or 30% of unimpaired
capital and surplus to develop residential housing, provided certain
requirements are satisfied. Under these limits, the Bank's loans to one
borrower were limited to $5.0 million at December 31,1997. At that date, the
Bank had no lending relationships in excess of the loans-to-one-borrower limit.
At December 31,1997, the Bank's largest lending relationship was $2.3 million.
The loans are to a local real estate developer and his business associate and
are primarily for the development of apartments, the purchase of lots for
residential construction, and construction of one-to-four residential housing.
All loans within this relationship were current and performing in accordance
with their terms at December 31,1997.
Interest rates charged by the Bank on loans are affected principally by
competitive factors, the demand for such loans and the supply of funds available
for lending purposes. These factors are, in turn, affected by general economic
conditions, monetary policies of the federal government, including the Federal
Reserve Board, legislative tax policies and government budgetary matters.
One-to-four family Residential Lending. The Bank historically has been and
continues to be an originator of one-to-four family residential real estate
loans in its market area. At December 31, 1997, one-to-four family residential
mortgage loans, totaled approximately $83.2 million, or 78.7% of the Bank's loan
portfolio. All loans originated by the Bank are maintained in its portfolio
rather than sold in the secondary market.
6
The Bank primarily originates residential mortgage loans with adjustable
rates. As of December 31, 1997, 87.4% of one-to-four family mortgage loans in
the Bank's loan portfolio carried adjustable rates. Such loans are primarily
for terms of 25 years, although the Bank does occasionally originate adjustable
rate mortgages for 15 year and 20 year terms, in each case amortized on a
monthly basis with principal and interest due each month. The interest rates on
these mortgages are adjusted once per year, with a maximum adjustment of 1% per
adjustment period and a maximum aggregate adjustment of 5% over the life of the
loan. A borrower may also obtain a loan in which the maximum annual adjustment
is 0.5% with a higher initial rate. Prior to August 1, 1997, rate adjustments
on the Bank's adjustable rate loans were indexed to a rate which adjusted
annually based upon changes in an index based on the National Monthly Median
Cost of Funds, plus a margin of 2.75%. Because the National Monthly Median Cost
of Funds is a lagging index, which results in rates changing at a slower pace
than rates generally in the marketplace, the Bank has changed to a one-year
Treasury bill constant maturity, which the Bank believes reflects more current
market information and thus allows the Bank to react more quickly to changes in
the interest rate environment. The adjustable rate mortgage loans offered by
the Bank also provide for initial rates of interest below the rates that would
prevail when the index used for repricing is applied. Such initial rates, also
referred to as "teaser rates," often reflect a discount from the prevailing rate
greater than the 1.0% maximum adjustment allowed each year. As a result, the
Bank may not be able to restore the interest rate of a loan with a teaser rate
to its otherwise initial loan rate until at least the second adjustment period
that occurs at the beginning of the third year of the loan. Further, in a
rising interest rate environment, the Bank may not be able to adjust the
interest rate of the loan to the prevailing market rate until an even later
period because of the combination of the teaser discount and the 1% limitation
on annual adjustments.
The retention of adjustable rate loans in the Bank's portfolio helps reduce
the Bank's exposure to increases in prevailing market interest rates. However,
there are unquantifiable credit risks resulting from potential increases in
costs to borrowers in the event of upward repricing of adjustable-rate loans.
It is possible that during periods of rising interest rates, the risk of default
on adjustable rate loans may increase due to increases in interest costs to
borrowers. Further, although adjustable rate loans allow the Bank to increase
the sensitivity of its interest-earning assets to changes in interest rates, the
extent of this interest sensitivity is limited by the initial fixed-rate period
before the first adjustment and the lifetime interest rate adjustment
limitations. This risk is heightened by the Bank's practice of offering its
adjustable rate mortgages with a discount to its initial interest rate that is
greater than the annual increase in interest rates allowed under the terms of
the loan. Accordingly, there can be no assurance that yields on the Bank's
adjustable rate loans will fully adjust to compensate for increases in the
Bank's cost of funds. Finally, adjustable rate loans increase the Bank's
exposure to decreases in prevailing market interest rates, although the 1%
limitation on annual decreases in the loans' interest rates tend to offset this
effect.
The Bank also originates, to a limited extent, fixed-rate loans for terms
of 15 years. Such loans are secured by first mortgages on one-to-four family,
owner-occupied residential real property located in the Bank's market area.
Because of the Bank's policy to mitigate its exposure to interest rate risk
through the use of adjustable rate rather than fixed rate products, the Bank
does not emphasize fixed-rate mortgage loans. At December 31, 1997, only $10.5
million, or 9.9%, of the Bank's loan portfolio, consisted of fixed-rate mortgage
loans. To further reduce its interest rate risk associated with such loans, the
Bank may rely upon FHLB advances with similar maturities to fund such loans.
See "-- Deposit Activity and Other Sources of Funds -- Borrowing."
Neither the fixed rate or the adjustable rate residential mortgage loans of
the Bank are originated in conformity with secondary market guidelines issued by
FHLMC or FNMA. As a result, such loans may not be readily saleable in the
secondary market to institutional purchasers. However, such loans may still be
sold to private investors whose investment strategies do not depend upon loans
that satisfy FHLMC or FNMA criteria. Further, given its high liquidity, the
Bank does not currently view loan sales as a necessary funding source.
Construction Lending. The Bank engages in construction lending involving
loans to individuals for construction of one-to four- family residential housing
located within the Bank's market area, with such loans converting to permanent
financing upon completion of construction. Such loans are generally made to
individuals for construction primarily in established subdivisions within the
Bank's market area. The Bank mitigates its risk with construction loans by
imposing a maximum loan-to-value ratio of 95% for homes that will be owner-
occupied and 80% for homes being built on a speculative basis. At December 31,
1997, the Bank's loan portfolio included $5.2 million of loans secured by
properties under construction, including construction/permanent loans structured
to become permanent loans upon the completion of construction and interim
construction loans structured to be repaid in full upon completion of
construction and receipt of permanent financing.
7
The Bank also makes loans to qualified builders for the construction of
one-to-four family residential housing located in established subdivisions in
the Bank's market area. Because such homes are intended for resale, such loans
are generally not converted to permanent financing at the Bank. All
construction loans are secured by a first lien on the property under
construction.
Loan proceeds are disbursed in increments as construction progresses and as
inspections warrant. Construction/permanent loans may have adjustable or fixed
interest rates and are underwritten in accordance with the same terms and
requirements as the Bank's permanent mortgages. Such loans generally provide
for disbursement in stages during a construction period of up to six months,
during which period the borrower is required to make payments of interest only.
The permanent loans are typically 25-year adjustable rate loans, with the same
terms and conditions otherwise offered by the Bank. Monthly payments of
principal and interest commence the month following the date the loan is
converted to permanent financing. Borrowers must satisfy all credit
requirements that would apply to the Bank's permanent mortgage loan financing
prior to receiving construction financing for the subject property.
Construction financing generally is considered to involve a higher degree
of risk of loss than long-term financing on improved, occupied real estate.
Risk of loss on a construction loan is dependent largely upon the accuracy of
the initial estimate of the property's value at completion of construction or
development and the estimated cost (including interest) of construction. During
the construction phase, a number of factors could result in delays and cost
overruns. If the estimate of construction costs proves to be inaccurate, the
Bank may be confronted at or prior to the maturity of the loan, with a project
having a value which is insufficient to assure full repayment. The ability of a
developer to sell developed lots or completed dwelling units will depend on,
among other things, demand, pricing, availability of comparable properties and
economic conditions. The Bank has sought to minimize this risk by limiting
construction lending to qualified borrowers in the Bank's market area, by
requiring the involvement of qualified builders, and by limiting the aggregate
amount of outstanding construction loans.
Multi-Family Residential and Non-Residential Real Estate Lending. The
Bank's multi-family residential loan portfolio consists of adjustable rate loans
secured by real estate. At December 31,1997, the Bank had $2.4 million of
multi-family residential loans, which amounted to 2.2% of the Bank's loan
portfolio at such date. The Bank's non-residential real estate portfolio
generally consists of adjustable rate loans secured by first mortgages on
residential lots and rental property. In each case, such property is located in
the Bank's market area. At December 31,1997, the Bank had approximately $7.6
million of such loans, which comprised 7.2% of its loan portfolio. Multi-family
residential real estate loans are underwritten with loan-to-value ratios up to
80% of the appraised value of the property. Non-residential real estate loans
are underwritten with loan-to-value ratios up to 65% of the appraised value for
raw land and 75% for land development loans. The Bank currently does not intend
to significantly expand multi-family residential or non-residential real estate
lending, but may do so if opportunities arise in the future.
Multi-family residential and non-residential real estate lending entails
significant additional risks as compared with one-to-four family residential
property lending. Multi-family residential and commercial real estate loans
typically involve larger loan balances to single borrowers or groups of related
borrowers. The payment experience on such loans typically is dependent on the
successful operation of the real estate project, retail establishment or
business. These risks can be significantly impacted by supply and demand
conditions in the market for the office, retail and residential space, and, as
such, may be subject to a greater extent to adverse conditions in the economy
generally. To minimize these risks, the Bank generally limits itself to its
market area or to borrowers with which it has prior experience or who are
otherwise known to the Bank. It has been the Bank's policy to obtain annual
financial statements of the business of the borrower or the project for which
multi-family residential real estate or commercial real estate loans are made.
Consumer and Other Lending. The consumer loans currently in the Bank's
loan portfolio consist of loans secured by savings deposits and other consumer
loans. Savings deposit loans are usually made for up to 90% of the depositor's
savings account balance. The interest rate is approximately 2.0% above the rate
paid on such deposit account serving as collateral, and the account must be
pledged as collateral to secure the loan. Interest generally is billed on a
quarterly basis. At December 31, 1997, loans on deposit accounts totaled $3.1
million, or 2.9% of the Bank's loan portfolio. Other consumer loans include
automobile loans, the amount and terms of which are determined by the loan
committee, and home equity and home improvement loans, which are made for up to
95% of the value of the property but require private mortgage insurance on 100%
of the value of the property. Following the Conversion, the Bank expects to
focus its loan portfolio growth activities in this area. To prepare for such
8
growth activities, the Bank recently employed a new loan officer with 25 years
experience in mortgage and consumer lending.
Consumer loans may entail greater credit risk than do residential mortgage
loans, particularly in the case of consumer loans that are unsecured or are
secured by rapidly depreciable assets, such as automobiles. In such cases, any
repossessed collateral for a defaulted consumer loan may not provide an adequate
source of repayment of the outstanding loan balance as a result of the greater
likelihood of damage, loss or depreciation. In addition, consumer loan
collections are dependent on the borrower's continuing financial stability, and
therefore are more likely to be affected by adverse personal circumstances.
Furthermore, the application of various federal and state laws, including
bankruptcy and insolvency laws, may limit the amount which can be recovered on
such loans. At December 31, 1997, there were $23,000 of consumer loans
delinquent 90 days or more. There can be no assurance that delinquencies will
not increase in the future, particularly in light of the Bank's decision to
increase its efforts to originate a higher volume and greater variety of
consumer loans.
NONPERFORMING LOANS AND OTHER PROBLEM ASSETS
The Bank's nonperforming loans totaled 0.16% of total assets at December
31, 1997. Loans are placed on a non-accrual status when the loan is past due in
excess of 90 days and collection of principal and interest is doubtful. The
Bank places a high priority on contacting customers by telephone as a primary
method of determining the status of delinquent loans and the action necessary to
resolve any payment problem. The Bank's management performs quality reviews of
problem assets to determine the necessity of establishing additional loss
reserves.
Real estate acquired by the Bank as a result of foreclosure is classified
as real estate owned until such time as it is sold. The Bank generally tries to
sell the property at a price no less than its net book value, however, it will
consider slight discounts to the appraised value to expedite the return of the
funds to an earning status. When such property is acquired, it is recorded at
its fair value less estimated costs of sale. Any required write-down of the
loan to its appraised fair market value upon foreclosure is charged against the
allowance for loan losses. Subsequent to foreclosure, in accordance with
generally accepted accounting principles, a valuation allowance is established
if the carrying value of the property exceeds its fair value net of related
selling expenses.
The following table sets forth information with respect to the Bank's non-
performing assets at the dates indicated. No loans were recorded as
restructured loans within the meaning of SFAS No. 15 at the dates indicated.
At December 31,
------------------------------------------------------------
1997 1996 1995 1994 1993
---------- ---------- ---------- --------- ---------
(Dollars in thousands)
Accruing loans which are
contractually past due 90
days or more:
Residential real estate.... $140 $266 $133 $20 $80
Consumer................... 23 -- 1 17 --
---------- ---------- ---------- --------- ---------
Total.................... $163 $266 $134 $37 $80
---------- ---------- ---------- --------- ---------
Total nonperforming
loans.................... $163 $266 $134 $37 $80
========== ========== ========== ========= =========
Percentage of total loans... 0.16% 0.28% 0.16% 0.05% 0.12%
========== ========== ========== ========= =========
At December 31,1997, the Bank had no loans accounted for on a nonaccrual
basis, no other non-performing assets and $41,700 of real estate owned.
9
At December 31,1997, the Bank had no loans outstanding which were
classified as nonaccrual, 90 days past due or restructured but where known
information about possible credit problems of borrowers caused management to
have serious concerns as to the ability of the borrowers to comply with present
loan repayment terms and may result in disclosure as non-accrual, 90 days past
due or restructured. Also, the Bank had no impaired loans under SFAS 114/118.
As such, the impact of adopting these statements was not significant to the
Bank.
Federal regulations require savings institutions to classify their assets
on the basis of quality on a regular basis. An asset meeting one of the
classification definitions set forth below may be classified and still be a
performing loan. An asset is classified as substandard if it is determined to
be inadequately protected by the current retained earnings and paying capacity
of the obligor or of the collateral pledged, if any. An asset is classified as
doubtful if full collection is highly questionable or improbable. An asset is
classified as loss if it is considered uncollectible, even if a partial recovery
could be expected in the future. The regulations also provide for a special
mention designation, described as assets which do not currently expose a savings
institution to a sufficient degree of risk to warrant classification but do
possess credit deficiencies or potential weaknesses deserving management's close
attention. Such assets designated as special mention may include nonperforming
loans consistent with the above definition. Assets classified as substandard or
doubtful require a savings institution to establish general allowances for loan
losses. If an asset or portion thereof is classified loss, a savings
institution must either establish a specific allowance for loss in the amount of
the portion of the asset classified loss, or charge off such amount. Federal
examiners may disagree with a savings institution's classifications. If a
savings institution does not agree with an examiner's classification of an
asset, it may appeal this determination to the OTS Regional Director. The Bank
regularly reviews its assets to determine whether any assets require
classification or re-classification. At December 31, 1997, the Bank had
$866,000 in assets classified as special mention, $206,000 in assets classified
as substandard, no assets classified as doubtful and no assets classified as
loss. Special mention assets consist primarily of residential real estate loans
secured by first mortgages. This classification is primarily used by management
as a "watch list" to monitor loans that exhibit any potential deviation in
performance from the contractual terms of the loan.
Allowance for Loan Losses. In originating loans, the Bank recognizes that
credit losses will be experienced and that the risk of loss will vary with,
among other things, the type of loan being made, the creditworthiness of the
borrower over the term of the loan, general economic conditions and, in the case
of a secured loan, the quality of the security for the loan. It is management's
policy to maintain an adequate allowance for loan losses based on, among other
things, the Bank's and the industry's historical loan loss experience,
evaluation of economic conditions, regular reviews of delinquencies and loan
portfolio quality and evolving standards imposed by federal bank examiners. The
Bank increases its allowance for loan losses by charging provisions for possible
loan losses against the Bank's income.
Management will continue to actively monitor the Bank's asset quality and
allowance for loan losses. Management will charge off loans and properties
acquired in settlement of loans against the allowances for losses on such loans
and such properties when appropriate and will provide specific loss allowances
when necessary. Although management believes it uses the best information
available to make determinations with respect to the allowances for losses and
believes such allowances are adequate, future adjustments may be necessary if
economic conditions differ substantially from the economic conditions in the
assumptions used in making the initial determinations.
The Bank's methodology for establishing the allowance for loan losses takes
into consideration probable losses that have been identified in connection with
specific assets as well as losses that have not been identified but can be
expected to occur. Management conducts regular reviews of the Bank's assets and
evaluates the need to establish allowances on the basis of this review.
Allowances are established by the Board of Directors on a quarterly basis based
on an assessment of risk in the Bank's assets taking into consideration the
composition and quality of the portfolio, delinquency trends, current charge-off
and loss experience, loan concentrations, the state of the real estate market,
regulatory reviews conducted in the regulatory examination process and economic
conditions generally. Specific reserves will be provided for individual assets,
or portions of assets, when ultimate collection is considered improbable by
management based on the current payment status of the assets and the fair value
of the security. At the date of foreclosure or other repossession, the Bank
would transfer the property to real estate acquired in settlement of loans
initially at the lower of cost or estimated fair value and subsequently at the
lower of book value or fair value less estimated selling costs. Any portion of
the outstanding loan balance in excess of fair value less estimated selling
costs would be charged off against the allowance for loan losses. If, upon
ultimate
10
disposition of the property, net sales proceeds exceed the net carrying value of
the property, a gain on sale of real estate would be recorded.
Banking regulatory agencies, including the OTS, have adopted a policy
statement regarding maintenance of an adequate allowance for loan and lease
losses and an effective loan review system. This policy includes an arithmetic
formula for determining the reasonableness of an institution's allowance for
loan loss estimate compared to the average loss experience of the industry as a
whole. Examiners will review an institution's allowance for loan losses and
compare it against the sum of: (i) 50% of the portfolio that is classified
doubtful; (ii) 15% of the portfolio that is classified as substandard; and (iii)
for the portions of the portfolio that have not been classified (including those
loans designated as special mention), estimated credit losses over the upcoming
12 months given the facts and circumstances as of the evaluation date. This
amount is considered neither a "floor" nor a "safe harbor" of the level of
allowance for loan losses an institution should maintain, but examiners will
view a shortfall relative to the amount as an indication that they should review
management's policy on allocating these allowances to determine whether it is
reasonable based on all relevant factors.
The following table sets forth an analysis of the Bank's allowance for loan
losses for the periods indicated.
Year Ended December 31,
------------------------------------------------------
1997 1996 1995 1994 1993
--------- -------- -------- -------- ---------
Balance at beginning of period........ $217 $ 122 $122 $122 $122
Loans charged off:
Real estate mortgage:
Residential......................... -- (5) -- -- --
--------- -------- -------- -------- ---------
Total charge-offs..................... -- (5) -- -- --
--------- -------- -------- -------- ---------
Recoveries -- -- -- -- --
--------- -------- -------- -------- ---------
Net loans charged off................. -- (5) -- -- --
--------- -------- -------- -------- ---------
Provision for loan losses............. 20 100 -- -- --
Balance at end of period.............. $237 $ 217 $122 $122 $122
========= ======== ======== ======== =========
Ratio of net charge-offs to average
loans outstanding during the period... 0% 0.0053% 0% 0% 0%
========= ======== ======== ======== =========
The following table sets forth the breakdown of the allowance for loan
losses by loan category at the dates indicated. Management believes that the
allowance can be allocated by category only on an approximate basis. The
allocation of the allowance to each category is not necessarily indicative of
future losses and does not restrict the use of the allowance to absorb losses in
any category.
At December 31,
-----------------------------------------------------------------------------------
1997 1996 1995
-------------------------- ------------------- ------------------------
Percent of Loans Percent of Loans Percent of Loans
in Each Category in Each Category in Each Category
Amount to Total Loans Amount to Total Loans Amount to Total Loans
--------- ---------------- --------- ----------------- -------- -----------------
One-to-four family......... $186 78.7% $163 79.6% $94 81.5%
Construction............... 6 4.9% 11 5.6% 5 4.7%
Multi-family residential... 12 2.2% 3 1.5% 1 0.6%
Non-residential............ 19 7.2% 23 5.6% 14 5.9%
Secured by deposits........ - 2.9% - 3.6% - 3.8%
Other consumer loans....... 14 4.1% 17 4.1% 8 3.5%
--------- --------- --------- ----------- -------- ---------
Total allowance for
loan losses.............. $237 100.0% $217 100.0% $122 100.0%
========= ========= ========= =========== ======== =========
11
At December 31,
-----------------------------------------------------------------------
1994 1993
-------------------------------- -------------------------------------
Percent of Loans in Percent of Loans in
Each Category to Each Category to
Amount Total Loans Amount Total Loans
--------- ------------------- -------------- -------------------
(Dollars in thousands)
One-to-four family.......... $99 82.3% $94 81.3%
Construction................ 6 4.7% 5 4.3%
Multi-family residential.... 5 4.3% 3 2.0%
Non-residential............. 5 2.0% 15 6.5%
Secured by deposits......... -- 3.9% -- 3.6%
Other consumer loans........ 7 2.8% 5 2.3%
---------- ------------ ------------ ------------
Total allowance for
loan losses............... $122 100.0% $122 100.0%
========== ============ ============ ============
INVESTMENT ACTIVITIES
General. The Bank is permitted under federal law to make certain
investments, including investments in securities issued by various federal
agencies and state and municipal governments, deposits at the FHLB of
Cincinnati, certificates of deposit in federally insured institutions, certain
bankers' acceptances and federal funds. It may also invest, subject to certain
limitations, in commercial paper rated in one of the two highest investment
rating categories of a nationally recognized credit rating agency, and certain
other types of corporate debt securities and mutual funds. Federal regulations
require the Bank to maintain an investment in FHLB stock and a minimum amount of
liquid assets which may be invested in cash and specified securities. From time
to time, the OTS adjusts the percentage of liquid assets which savings banks are
required to maintain. See "Regulation -- Regulation of the Bank -- Liquidity
Requirements."
The Bank makes investments in order to maintain the levels of liquid
assets required by regulatory authorities and manage cash flow, diversify its
assets, obtain yield and to satisfy certain requirements for favorable tax
treatment. The investment activities of the Bank consist primarily of
investments in Agency Securities and Mortgage-Backed Securities. Typical
investments include federally sponsored agency mortgage pass-through and
federally sponsored agency and mortgage-related securities. Investment and
aggregate investment limitations and credit quality parameters of each class of
investment are prescribed in the Bank's investment policy. The Bank performs
analyses on mortgage-related securities prior to purchase and on an ongoing
basis to determine the impact on earnings and market value under various
interest rate and prepayment conditions. Securities purchases must be approved
by the Bank's President. The Board of Directors reviews all securities
transactions on a monthly basis.
The principal objective of the Bank's investment policy is to earn as
high a rate of return as possible, but to consider also financial or credit
risk, liquidity risk and interest rate risk.
The Bank had classified securities with an amortized cost of $21.7
million and an approximate market value of $26.7 million at December 31, 1997 as
available for sale. Management of the Bank presently does not intend to sell
such securities and, based on the Bank's current liquidity level and the Bank's
access to borrowings through the FHLB of Cincinnati, management currently does
not anticipate that the Bank will be placed in a position of having to sell
securities with material unrealized losses.
Securities designated as "held to maturity" are those assets which the
Bank has both the ability and the intent to hold to maturity. Upon acquisition,
securities are classified as to the Bank's intent, and a sale would only be
effected due to deteriorating investment quality. The held to maturity
investment portfolio is not used for speculative purposes and is carried at
amortized cost. In the event the Bank sells securities from this portfolio for
other than credit quality reasons, all securities within the investment
portfolio with matching characteristics may be reclassified as assets available
for sale. Securities designated as "available for sale" are those assets which
the Bank may not hold to maturity and thus are carried at market value with
unrealized gains or losses, net of tax effect, recognized in retained earnings.
12
Mortgage-Backed and Related Securities. Mortgage-backed securities
represent a participation interest in a pool of one-to-four family or multi-
family mortgages, the principal and interest payments on which are passed from
the mortgage originators through intermediaries that pool and repackage the
participation interest in the form of securities to investors such as the Bank.
Such intermediaries may include quasi-governmental agencies such as FHLMC, FNMA
and GNMA which guarantee the payment of principal and interest to investors. Of
the Bank's $26.4 million mortgage-backed security portfolio at December 31,
1997, approximately $20.8 million were originated through GNMA, approximately
$3.6 million were originated through FNMA and approximately $2.0 million were
originated through FHLMC. Mortgage-backed securities generally increase the
quality of the Bank's assets by virtue of the guarantees that back them, are
more liquid than individual mortgage loans and may be used to collateralize
borrowings or other obligations of the Bank.
Mortgage-backed securities typically are issued with stated principal
amounts and the securities are backed by pools of mortgages that have loans with
interest rates that are within a range and have similar maturities. The
underlying pool of mortgages can be composed of either fixed-rate or adjustable-
rate mortgage loans. Mortgage-backed securities generally are referred to as
mortgage participation certificates or pass-through certificates. As a result,
the interest rate risk characteristics of the underlying pool of mortgages,
i.e., fixed-rate or adjustable-rate, as well as prepayment risk, are passed on
to the certificate holder. The life of a mortgage-backed pass-through security
is equal to the life of the underlying mortgages.
The actual maturity of a mortgage-backed security varies, depending on
when the mortgagors prepay or repay the underlying mortgages. Prepayments of
the underlying mortgages may shorten the life of the investment, thereby
adversely affecting its yield to maturity and the related market value of the
Mortgage-backed security. The yield is based upon the interest income and the
amortization of the premium or accretion of the discount related to the
mortgage-backed security. Premiums and discounts on mortgage-backed securities
are amortized or accredited over the estimated term of the securities using a
level yield method. The prepayment assumptions used to determine the
amortization period for premiums and discounts can significantly affect the
yield of the mortgage-backed security, and these assumptions are reviewed
periodically to reflect the actual prepayment. The actual prepayments of the
underlying mortgages depend on many factors, including the type of mortgage, the
coupon rate, the age of the mortgages, the geographical location of the
underlying real estate collateralizing the mortgages and general levels of
market interest rates. The difference between the interest rates on the
underlying mortgages and the prevailing mortgage interest rates is an important
determinant in the rate of prepayments. During periods of falling mortgage
interest rates, prepayments generally increase, and, conversely, during periods
of rising mortgage interest rates, prepayments generally decrease. If the
coupon rate of the underlying mortgage significantly exceeds the prevailing
market interest rates offered for mortgage loans, refinancing generally
increases and accelerates the prepayment of the underlying mortgages.
Prepayment experience is more difficult to estimate for adjustable-rate
mortgage-backed securities.
The following table sets forth the carrying value of the Bank's
investment securities at the dates indicated.
At December 31,
----------------------------------------------------
1997 1996 1995
---------------- ---------------- ----------------
(In thousands)
Securities available for sale:
FHLB and FHLMC stock........................ $6,895 $5,110 $4,053
U. S. government and agency
securities (1)............................. 13,000 -- --
Mortgage-backed securities.................. 6,789 -- --
Other....................................... 15 15 --
Securities held to maturity:
U.S. government and agency
securities (1)............................. 31,988 77,962 80,990
Mortgage-backed securities.................. 19,578 17,984 17,563
------ ------ ------
Total investment securities................ $78,265 $101,071 $102,606
======= ======== ========
- -------------------
(1) Primarily reflects debt securities purchased from the FHLB of Cincinnati.
13
The following table sets forth information in the scheduled maturities,
amortized cost, market values and average yields for the Bank's investment
portfolio at December 31, 1997. At such date, all securities in the Bank's
investment portfolio, except for $4.0 million, were callable.
One Year or Less One to Five Years Total Investment Portfolio
--------------------- --------------------- ----------------------------------
Carrying Average Carrying Average Carrying Market Average
Value Yield Value Yield Value Value Yield
----- ----- ----- ----- ----- ----- -----
(Dollars in thousands)
Securities held to
maturity (1)............... $5,000 5.60% $26,988 5.90% $31,988 $31,839 5.85%
====== ======= ======= =======
(1) Excludes mortgage-backed securities. See Note 2 of Notes to Financial
Statements.
DEPOSIT ACTIVITY AND OTHER SOURCES OF FUNDS
GENERAL. Deposits are the primary source of the Bank's funds for
lending, investment activities and general operational purposes. In addition to
deposits, the Bank derives funds from loan principal and interest repayments,
maturities of investment securities and mortgage-backed securities and interest
payments thereon. Although loan repayments are a relatively stable source of
funds, deposit inflows and outflows are significantly influenced by general
interest rates and money market conditions. Borrowings may be used on a short-
term basis to compensate for reductions in the availability of funds, or on a
longer term basis for general corporate purposes. The Bank has access to borrow
from the FHLB of Cincinnati, and the Bank will continue to have access to FHLB
of Cincinnati advances. The Bank may rely upon retail deposits rather than
borrowings as its primary source of funding for future asset growth.
DEPOSITS. The Bank attracts deposits principally from within its
market area by offering competitive rates on its deposit instruments, including
money market accounts, passbook savings accounts, Individual Retirement
Accounts, and certificates of deposit which range in maturity from three months
to five years. Deposit terms vary according to the minimum balance required,
the length of time the funds must remain on deposit and the interest rate.
Maturities, terms, service fees and withdrawal penalties for its deposit
accounts are established by the Bank on a periodic basis. The Bank reviews its
deposit mix and pricing on a weekly basis. In determining the characteristics of
its deposit accounts, the Bank considers the rates offered by competing
institutions, lending and liquidity requirements, growth goals and federal
regulations. The Bank does not accept brokered deposits.
The Bank attempts to compete for deposits with other institutions in
its market area by offering competitively priced deposit instruments that are
tailored to the needs of its customers. Additionally, the Bank seeks to meet
customers' needs by providing convenient customer service to the community.
Substantially all of the Bank's depositors are Kentucky residents who reside in
the Bank's market area.
14
Savings deposits in the Bank at December 31, 1997 were represented by
the various types of savings programs described below.
Balance Percentage
Interest Minimum Minimum (In of Total
Rate* Term Category Amount thousands) Deposits
- ------- --------------------- ------------------------------ ------------- -------------- ---------------
-- % None Non-interest bearing $ 100 $1,963 0.61%
2.70%* None Demand/NOW accounts 1.500 9,484 2.96
2.75% None Passbook accounts 10 148,080 46.18
3.94%* None Money market deposit accounts 2,500 42,064 13.12
----------- -----------
201,591 62.87
----------- -----------
Certificates of Deposit
-----------------------
4.14% 3 months or less Fixed-term, fixed rate 500 25,506 7.95
5.15% Over 3 to 12-months Fixed-term, fixed-rate 500 59,980 18.71
5.55% Over 12 to 24-months Fixed-term, fixed-rate 500 21,539 6.72
5.53% Over 24 to 36-months Fixed-term, fixed-rate 500 9,564 2.98
5.83% Over 36 to 48-months Fixed-term, fixed-rate 500 1,814 0.57
6.25% Over 48 to 60-months Fixed-term, fixed rate 500 639 0.20
----------- -----------
119,042 37.13
----------- -----------
$320,633 100.00%
=========== ===========
- ----------------
* Represents weighted average interest rate.
The following table sets forth, for the periods indicated, the average
balances and interest rates based on month-end balances for interest-bearing
demand deposits and time deposits.
Year Ended December 31,
----------------------------------------------------------------------------------------------
1997 1996 1995
---------------------------- ----------------------------- -----------------------------
Interest-bearing Time Interest-bearing Time Interest-bearing Time
demand deposits demand deposits demand deposits
deposits -------- deposits -------- deposits --------
-------- -------- --------
(Dollars in thousands)
Average
balance.. $71,590 $123,429 $56,437 $133,400 $61,892 $130,460
Average
rate..... 3.51% 5.52% 3.58% 5.48% 3.32% 5.92%
15
The following table sets forth the change in dollar amount of deposits in
the various types of accounts offered by the Bank between the dates indicated.
Balance at Increase Balance at Increase
December 31, % of (Decrease) from December 31, % of (Decrease) from
1997 Deposits December 31, 1996 1996 Deposits December 31, 1995
------------- -------- ----------------- ------------ -------- -----------------
(Dollars in thousands)
Non-interest bearing.... $ 1,963 0.61% $179 $1,784 0.97% $548
Demand and NOW
accounts.............. 9,484 2.96% 1,881 7,603 4.14% (25)
Money market............ 42,064 13.12% 5,124 36,940 20.09% 2,158
Passbook savings........ 148,080 46.18% 137,448 10,632 5.78% (565)
Other time deposits..... 119,042 37.13% (7,826) 126,868 69.02% (13,064)
---------- ---------- ---------- ----------- ---------- ------------
$320,633 100.00% $136,806 $183,827 100.00% $(10,948)
========== ========== ========== =========== ========== ============
(continued)
Balance at Increase Balance at
December 31, % of (Decrease) from December 31, % of
1995 Deposits December 31, 1994 1994 Deposits
----------- -------- ----------------- ---- --------
(Dollars in thousands)
Non-interest bearing.... $1,236 0.63% $102 $1,134 0.61%
Demand and NOW
accounts.............. 7,628 3.92% 817 6,811 3.67%
Money market............ 34,782 17.86% (10,271) 45,053 24.26%
Passbook savings........ 11,197 5.75% (516) 11,713 6.31%
Other time deposits..... 139,932 71.84% 18,944 120,988 65.15%
---------- ---------- ---------- ----------- ----------
Total................. $194,775 100.00% $9,076 $185,699 100.00%
========== ========== ========== =========== ==========
The following table sets forth the time deposits in the Bank classified by
rates at the dates indicated.
At December 31,
-----------------------------------------------------------------
1997 1996 1995 1994
----------------- --------------- -------------- --------------
(In thousands)
2.01 - 4.00%....... $39 $38 $58 $21,603
4.01 - 6.00%....... 102,474 103,036 79,288 78,894
6.01 - 8.00%....... 16,529 23,794 60,586 20,491
-------- -------- -------- --------
Total............... $119,042 $126,868 $139,932 $120,988
======== ======== ======== ========
The following table sets forth the amount and maturities of time deposits
at December 31, 1997.
Amount Due
----------------------------------------------------------------------------------
Less Than One Year 1-2 Years 2-3 Years After 3 Years Total
-------------------- --------------- ------------- ------------- -------------
(In thousands)
2.01 - 4.00%.................. $ 39 $ -- $ -- $ -- $ 39
4.01 - 6.00%.................. 78,875 17,775 4,596 1,228 102,474
6.01 - 8.00%.................. 6,571 3,765 4,968 1,225 16,529
-------- -------- --------- -------- --------
Total......................... $85,485 $ 21,540 $ 9,564 $ 2,453 $119,042
======== ======== ========= ======== ========
16
The following table indicates the amount of the Bank's certificates of
deposit of $100,000 or more by time remaining until maturity as of December 31,
1997.
Maturity Period
Certificates of Deposits
- ------------------------------------------------------------ ----------------------------
(In thousands)
Three months or less........................................ $1,934
Over three through six months............................... 2,025
Over six through 12 months.................................. 2,403
Over 12 months.............................................. 1,757
------
Total...................................................... $8,119
======
Certificates of deposit at December 31, 1997 included approximately $8.1
million of deposits with balances of $100,000 or more, compared to $7.4 million
and $12.2 million at December 31, 1996 and 1995, respectively. Such time
deposits may be risky because their continued presence in the Bank is dependent
partially upon the rates paid by the Bank rather than any customer relationship
and, therefore, may be withdrawn upon maturity if another institution offers
higher interest rates. The Bank may be required to resort to other funding
sources such as borrowings or sales of its securities held available for sale if
the Bank believes that increasing its rates to maintain such deposits would
adversely affect its operating results. At this time, the Bank does not believe
that it will need to significantly increase its deposit rates to maintain such
certificates of deposit and, therefore, does not anticipate resorting to
alternative funding sources. The Bank has reduced such time deposits by 33.61%
since December 31, 1995. See Note 5 of Notes to Financial Statements.
The following table sets forth the deposit activities of the Bank for
the periods indicated.
Year Ended December 31,
---------------------------------------------------------------
1997 1996 1995 1994
---- ---- ---- ----
(In thousands)
Deposits............................. $430,943 $ 149,771 $140,662 $136,357
Withdrawals.......................... (301,475) (167,560) (139,393) (129,749)
-------- -------- -------- --------
Net increase (decrease) before
interest credited................... 129,468 (17,789) 1,269 6,608
Interest credited.................... 7,338 6,841 7,807 5,907
-------- -------- -------- --------
Net increase (decrease) in savings
Deposits............................ $136,806 $ (10,948) $9,076 $12,515
======== ======== ======== ========
In the unlikely event the Bank is liquidated after the Conversion,
depositors will be entitled to full payment of their deposit accounts prior to
any payment being made to the sole stockholder of the Bank, which is the
Company.
BORROWINGS. Savings deposits historically have been the primary source
of funds for the Bank's lending, investments and general operating activities.
The Bank is authorized, however, to use advances from the FHLB of Cincinnati to
supplement its supply of lendable funds and to meet deposit withdrawal
requirements. The FHLB of Cincinnati functions as a central reserve bank
providing credit for savings institutions and certain other member financial
institutions. As a member of the FHLB System, the Bank is required to own stock
in the FHLB of Cincinnati and is authorized to apply for advances. Advances are
pursuant to several different programs, each of which has its own interest rate
and range of maturities. The Bank has entered into a Cash Management Advance
program with FHLB. See Note 6 of Notes to Financial Statements. Advances from
the FHLB of Cincinnati are secured by FHLB investment securities.
SUBSIDIARY ACTIVITIES
As a federally chartered savings bank, the Bank is permitted to invest an
amount equal to 2% of its assets in subsidiaries, with an additional investment
of 1% of assets where such investment serves primarily community, inner-city and
community development purposes. Institutions meeting their applicable minimum
regulatory capital requirements may invest up to 50% of their regulatory capital
in conforming first mortgage loans to subsidiaries in which they own 10% or more
of the capital stock. The Bank does not have any subsidiaries.
17
COMPETITION
The Bank faces significant competition both in originating mortgage and
other loans and in attracting deposits. The Bank competes for loans principally
on the basis of interest rates, the types of loans it originates, the deposit
products it offers and the quality of services it provides to borrowers. The
Bank also competes by offering products which are tailored to the local
community. Its competition in originating real estate loans comes primarily from
other savings institutions, commercial banks and mortgage bankers making loans
secured by real estate located in the Bank's market area. Commercial banks,
credit unions and finance companies provide vigorous competition in consumer
lending. Competition may increase as a result of the continuing reduction of
restrictions on the interstate operations of financial institutions.
The Bank attracts its deposits through its five offices primarily from
the local community. Consequently, competition for deposits is principally from
other savings institutions, commercial banks and brokers in the local community
as well as from credit unions. The Bank competes for deposits and loans by
offering what it believes to be a variety of deposit accounts at competitive
rates, convenient business hours, a commitment to outstanding customer service
and a well-trained staff. The Bank believes it has developed strong
relationships with local realtors and the community in general.
The Bank is a community and retail-oriented financial institution.
Management considers the Bank's branch network and reputation for financial
strength and quality customer service as its major competitive advantage in
attracting and retaining customers in its market area. A number of the Bank's
competitors have been acquired by statewide/nationwide banking organizations,
including Bank One, First City Bank (a wholly owned subsidiary of Area
Bancshares, Corp.) and NationsBank. While the Bank is subject to competition
from other financial institutions which may have greater financial and marketing
resources, management believes the Bank benefits by its community orientation
and its long-standing relationship with many of its customers.
EMPLOYEES
As of December 31, 1997, the Company and the Bank had 28 full-time
employees, none of whom were represented by a collective bargaining agreement.
Management considers the Bank's relationships with its employees to be good.
REGULATION
The Bank is chartered as a federal savings bank under the Home Owners'
Loan Act, as amended (the "HOLA"), which is implemented by regulations adopted
and administered by the OTS. As a federal savings bank, the Bank is subject to
regulation, supervision and regular examination by the OTS. The OTS also has
extensive enforcement authority over all savings institutions and their holding
companies, including the Bank and the Company. Federal banking laws and
regulations control, among other things, the Bank's required reserves,
investments, loans, mergers and consolidations, payment of dividends and other
aspects of the Bank's operations. The deposits of the Bank are insured by the
SAIF administered by the FDIC to the maximum extent provided by law ($100,000
for each depositor). In addition, the FDIC has certain regulatory and
examination authority over OTS-regulated savings institutions and may recommend
enforcement actions against savings institutions to the OTS. The supervision
and regulation of the Bank is intended primarily for the protection of the
deposit insurance fund and the Bank's depositors rather than for holders of the
Company's stock or for the Company as the holder of the stock of the Bank.
As a savings and loan holding company, the Company is registered with the
OTS and subject to OTS regulation and supervision under the HOLA. The Company
also is required to file certain reports with, and otherwise comply with the
rules and regulations of, the Commission under the federal securities laws.
The following discussion is intended to be a summary of certain statutes,
rules and regulations affecting the Bank and the Company. A number of other
statutes and regulations have an impact on their operations. The following
summary of applicable statutes and regulations does not purport to be complete
and is qualified in its entirety by reference to such statutes and regulations.
18
REGULATION OF THE BANK
PROPOSED LEGISLATION. Legislation currently pending before the United
States Congress, if enacted, would have significant effects on the federal
thrift charter and on savings and loan holding companies. Among other things,
the proposed legislation would require a federal savings institution to maintain
10 percent of its assets in home mortgages or securities backed by residential
mortgages originated by the institution, would cause the future branching rights
of federal thrifts to be restricted in the same manner as those of commercial
banks, and would make the OTS a division of the Office of the Comptroller of the
Currency, the regulator of national banks. In addition, holding companies for
savings institutions generally would be treated for regulatory purposes as bank
holding companies and subject to the supervision of the Federal Reserve Board
(the "FRB"). However, the business activity powers of unitary savings and loan
holding companies that, like the Company, were in control of a single savings
institution on the date of enactment of the proposed legislation generally would
be grandfathered under the current proposal, and such grandfathered holding
companies would not become subject to regulation by the FRB for three years
after enactment.
The Company cannot predict whether or in what form the proposed
legislation will be enacted. However, based upon the provisions of the
currently pending legislation, the management of the Company does not believe
that the enactment of such legislation would have a material adverse effect on
its financial condition or results of operations.
BUSINESS ACTIVITIES. The Bank derives its lending and investment powers
from the HOLA and the regulations of the OTS thereunder. Under these laws and
regulations, the Bank may invest in mortgage loans secured by residential and
commercial real estate, commercial and consumer loans, certain types of
commercial paper and debt securities, and certain other assets. The Bank may
also establish service corporations that may engage in activities not otherwise
permissible for the Bank, including certain real estate equity investments and
securities and insurance brokerage. These investment powers are subject to
various limitations.
BRANCHING. Subject to certain limitations, OTS regulations currently
permit a federally chartered savings institution like the Bank to establish
branches in any state of the United States, provided that the federal savings
institution qualifies as a "domestic building and loan association" under the
Internal Revenue Code. See "-- Qualified Thrift Lender Test." The authority
for a federal savings institution to establish an interstate branch network
would facilitate a geographic diversification of the institution's activities.
However, recently proposed federal legislation could, if enacted, restrict the
Bank's ability to establish interstate branches other than by merger. See "--
Proposed Legislation."
REGULATORY CAPITAL. The OTS has adopted capital adequacy regulations
that require savings institutions such as the Bank to meet three minimum capital
standards: a "core" capital requirement of 3% of adjusted total assets, a
"tangible" capital requirement of 1.5% of adjusted total assets, and a "risk-
based" capital requirement of 8% of total risk-based capital to total risk-
weighted assets. In addition, the OTS has adopted regulations imposing certain
restrictions on savings institutions that have a total risk-based capital ratio
of less than 8%, a ratio of Tier 1 capital to risk-weighted assets of less than
4% or a ratio of Tier 1 capital to total assets of less than 4% (or 3% if the
institution is rated Composite 1 under the CAMEL examination rating system).
See "-- Prompt Corrective Regulatory Action."
The core capital, or "leverage ratio," requirement mandates that a
savings institution maintain core capital equal to at least 3% of its adjusted
total assets. "Core capital" includes common stockholders' equity (including
retained earnings), noncumulative perpetual preferred stock and related surplus,
minority interests in the equity accounts of fully consolidated subsidiaries and
certain nonwithdrawable accounts and pledged deposits and is generally reduced
by the amount of the savings institution's intangible assets, with limited
exceptions for permissible mortgage servicing rights ("MSRs"), purchased credit
card relationships and certain intangible assets arising from prior regulatory
accounting practices. Core capital is further reduced by the amount of a savings
institution's investments in and loans to subsidiaries engaged in activities not
permissible for national banks. At December 31, 1997, the Bank had no such
investments.
The risk-based capital standards of the OTS require maintenance of core
capital equal to at least 4% of risk-weighted assets and total capital equal to
at least 8% of risk-weighted assets. For purposes of the risk-based capital
requirement, "total capital" includes core capital plus supplementary capital,
provided that the amount of
19
supplementary capital does not exceed the amount of core capital. Supplementary
capital includes preferred stock that does not qualify as core capital,
nonwithdrawable accounts and pledged deposits to the extent not included in core
capital, perpetual and mandatory convertible subordinated debt and maturing
capital instruments meeting specified requirements and a portion of the
institution's loan and lease loss allowance.
The risk-based capital requirement is measured against risk-weighted
assets, which equal the sum of each asset and the credit-equivalent amount of
each off-balance sheet item after being multiplied by an assigned risk weight,
which range from 0% to 100% as assigned by the OTS capital regulations based on
the risks the OTS believes are inherent in the type of asset. Comparable risk
weights are assigned to off-balance sheet assets.
The OTS risk-based capital regulation also includes an interest rate risk
("IRR") component that requires savings institutions with greater than normal
IRR, when determining compliance with the risk-based capital requirements, to
maintain additional total capital. The OTS has, however, indefinitely deferred
enforcement of its IRR requirements.
The following table sets forth the Bank's compliance with its regulatory
capital requirements at December 31, 1997.
Capital
The Bank's Capital Requirements Excess Capital
--------------------- --------------------- ---------------------
Amount Percent Amount Percent Amount Percent
---------- --------- ---------- --------- ---------- ---------
(Dollars in thousands)
Tangible capital.............. $16,613 4.88% $5,110 1.50% $11,503 3.38%
Core capital.................. $16,613 4.88% $10,221 3.00% $6,392 1.88%
Total risk-based capital...... $16,850 16.50% $8,172 8.00% $8,678 8.50%
PROMPT CORRECTIVE REGULATORY ACTION. Under the Federal Deposit Insurance
Corporation Improvement Act of 1991 ("FDICIA"), the federal banking regulators
are required to take prompt corrective action in respect of depository
institutions that do not meet certain minimum capital requirements, including a
leverage limit and a risk-based capital requirement. All institutions,
regardless of their capital levels, are restricted from making any capital
distribution or paying any management fees that would cause the institution to
become undercapitalized. The federal banking regulators, including the OTS,
have issued regulations that classify insured depository institutions by capital
levels and provide that the applicable agency will take various prompt
corrective actions to resolve the problems of any institution that fails to
satisfy the capital standards.
Under the joint prompt corrective action regulations, a "well-capitalized"
institution is one that is not subject to any regulatory order or directive to
meet any specific capital level and that has or exceeds the following capital
levels: a total risk-based capital ratio of 10%, a Tier 1 risk-based capital
ratio of 6%, and a ratio of Tier 1 capital to total assets (`leverage ratio") of
5%. An "adequately capitalized" institution is one that does not qualify as
"well capitalized" but meets or exceeds the following capital requirements: a
total risk-based capital of 8%, a Tier 1 risk-based capital ratio of 4%, and a
leverage ratio of either (i) 4% or (ii) 3% if the institution has the highest
composite examination rating. An institution not meeting these criteria is
treated as "undercapitalized," "significantly undercapitalized," or "critically
undercapitalized" depending on the extent to which its capital levels are below
these standards. An institution that fails within any of the three
"undercapitalized" categories will be subject to certain severe regulatory
sanctions required by FDICIA and the implementing regulations. As of December
31, 1997, the Bank was "well-capitalized" as defined by the regulations.
FEDERAL DEPOSIT INSURANCE. The Bank is required to pay assessments, based
on a percentage of its insured deposits, to the FDIC for insurance of its
deposits by the SAIF. The FDIC has established a risk-based deposit insurance
assessment system for insured depository institutions, under which insured
institutions are assigned assessment risk classifications based upon capital
levels and supervisory evaluations.
In 1995 and 1996, institutions with SAIF-assessable deposits, like the
Bank, were required to pay higher deposit insurance premiums than institutions
with deposits insured by the Bank Insurance Fund (the "BIF"). In order to
recapitalize the SAIF and to address the insurance premium disparity, the
Deposit Funds Insurance Act of
20
1996 (the "1996 Act") authorized the FDIC to impose a one-time special
assessment on all institutions with SAIF-assessable deposits in the amount
necessary to recapitalize the SAIF to the statutorily designated reserve ratio
of 1.25% of insured deposits. In view of the recapitalization of the SAIF, the
FDIC set the effective insurance assessment rates payable by SAIF-insured
institutions for 1997 at $0 to 0.27% of insured deposits, depending on an
individual institution's risk classification. In addition, SAIF-insured
institutions will be required, until December 31, 1999, to pay assessments to
the FDIC at the annual rate of approximately .066% of insured deposits to help
fund interest payments on certain bonds issued by the Financing Corporation
("FICO"), an agency of the federal government established to recapitalize the
predecessor to the SAIF. During this period, BIF member banks will be assessed
for payment of the FICO obligations at the annual rate of .013% of insured
deposits. After December 31, 1999, BIF and SAIF member institutions will be
assessed at the same rate for the FICO obligations.
The 1996 Act also provides that the FDIC may not assess regular insurance
assessments for the SAIF unless required to maintain or to achieve the
designated reserve ratio of 1.25%, except for such assessments on those
institutions that are not classified as "well-capitalized" or that have been
found to have "moderately severe" or "unsatisfactory" financial, operational or
compliance weaknesses. The Bank is classified as "well-capitalized" and has not
been found by the OTS to have such supervisory weaknesses.
QUALIFIED THRIFT LENDER TEST. The HOLA and OTS regulations require all
savings institutions to satisfy one of two Qualified Thrift Lender ("QTL") tests
or to suffer a number of sanctions, including restrictions on activities. To
qualify as a QTL, a savings institution must either (i) be deemed a "domestic
building and loan association" under the Internal Revenue Code (the "Code") by
maintaining at least 60% of its total assets in specified types of assets,
including cash, certain government securities, loans secured by and other assets
related to residential real property, educational loans, and investments in
premises of the institution or (ii) satisfy the HOLA's QTL test by maintaining
at least 65% of "portfolio assets" in certain "Qualified Thrift Investments."
For purposes of the HOLA's QTL test, portfolio assets are defined as total
assets less intangibles, property used by a savings institution in its business
and liquidity investments in an amount not exceeding 20% of assets. Qualified
Thrift Investments consist of (a) loans, equity positions or securities related
to domestic, residential real estate or manufactured housing, (b) 50% of the
dollar amount of residential mortgage loans subject to sale under certain
conditions, and (c) loans to small businesses, student loans and credit card
loans. In addition, subject to a 20% of portfolio assets limit, savings
institutions are able to treat as Qualified Thrift Investments 200% of their
investments in loans to finance "starter homes" and loans for construction,
development or improvement of housing and community service facilities or for
financing small business in "credit needy" areas.
A savings institution must maintain its status as a QTL on a monthly basis
in at least nine out of every 12 months. An initial failure to qualify as a QTL
results in a number of sanctions, including the imposition of certain operating
restrictions and a restriction on obtaining additional advances from its Federal
Home Loan Bank. If a savings institution does not requalify under the QTL test
within the three-year period after it fails the QTL test, it would be required
to terminate any activity not permissible for a national bank and repay as
promptly as possible any outstanding advances from its Federal Home Loan Bank.
In addition, the holding company of such an institution, such as the Company,
would similarly be required to register as a bank holding company with the
Federal Reserve Board. At December 31, 1997, the Bank qualified as a QTL.
SAFETY AND SOUNDNESS STANDARDS. FDICIA required the OTS, together with the
other federal bank regulatory agencies, to prescribe standards, by regulation or
guideline, relating to internal controls, information systems and internal audit
systems, loan documentation, credit underwriting, interest rate risk exposure,
asset growth, asset quality, earnings, stock valuation, and compensation, fees
and benefits and such other operational and managerial standards as the agencies
deem appropriate. The OTS and the federal bank regulatory agencies have adopted
guidelines prescribing safety and soundness standards pursuant to the statute.
The safety and soundness guidelines establish general standards relating to
internal controls and information systems, internal audit systems, loan
documentation, credit underwriting, interest rate exposure, asset growth, and
compensation, fees and benefits. In general, the guidelines require, among
other things, appropriate systems and practices to identify and manage the risks
and exposures specified in the guidelines. The guidelines prohibit excessive
compensation as an unsafe and unsound practice and describe compensation as
excessive when the amounts paid are unreasonable or disproportionate to the
services performed by an executive officer, employee, director or principal
stockholder.
In addition, pursuant to FDICIA, the OTS and the federal bank regulatory
agencies have proposed guidelines for asset quality and earnings standards.
Under the proposed standards, a savings institution would be
21
required to maintain systems, commensurate with its size and the nature and
scope of its operations, to identify problem assets and prevent deterioration in
those assets as well as to evaluate and monitor earnings and ensure that
earnings are sufficient to maintain adequate capital and reserves. Management
believes that the asset quality and earnings standards, in the form proposed by
banking agencies, would not have a material effect on the operations of the
Bank.
LIMITATIONS ON CAPITAL DISTRIBUTIONS. OTS regulations impose limitations
upon capital distributions by savings institutions, such as cash dividends,
payments to repurchase or otherwise acquire its shares, payments to stockholders
of another institution in a cash-out merger and other distributions charged
against capital. A savings institution must give notice to the OTS at least 30
days before declaration of a proposed capital distribution to its holding
company, and capital distributions in excess of specified earnings or by certain
institutions are subject to approval by the OTS. A savings institution that has
capital in excess of all regulatory capital requirements before and after a
proposed capital distribution and that is not otherwise restricted in making
capital distributions, may, after prior notice but without the approval of the
OTS, make capital distributions during a calendar year equal to the greater of
(a) 100% of its net income to date during the calendar year plus the amount that
would reduce by one-half its "surplus capital ratio" (the excess capital over
its fully phased-in capital requirements) at the beginning of the calendar year,
or (b) 75% of its net income for the previous four quarters. Any additional
capital distributions would require prior OTS approval.
The OTS has proposed regulations that would simplify the existing
procedures governing capital distributions by savings institutions. Under the
proposed regulations, the approval of the OTS would be required only for capital
distributions by an institution that is deemed to be in troubled condition or
that is undercapitalized or would be undercapitalized after the capital
distribution. A savings institution would be able to make a capital
distribution without notice to or approval of the OTS if it is not held by a
savings and loan holding company, is not deemed to be in troubled condition, has
received either of the two highest composite supervisory ratings and would
continue to be adequately capitalized after such distribution. Notice would
have to be given to the OTS by any institution that is held by a savings and
loan holding company or that had received a composite supervisory rating below
the highest two composite supervisory ratings. An institution's capital rating
would be determined under the prompt corrective action regulations. See "--
Prompt Corrective Regulatory Action."
Under OTS regulations, the Bank would not be permitted to pay dividends on
its capital stock if its regulatory capital would thereby be reduced below the
amount then required for the liquidation account established for the benefit of
certain depositors of the Bank at the time of the Conversion. In addition,
under the OTC's prompt corrective action regulations, the Bank would be
prohibited from paying dividends if the Bank were classified as
"undercapitalized" under such rules. See "-- Prompt Corrective Regulatory
Action."
In addition to the foregoing, earnings of the Bank appropriated to bad debt
reserves and deducted for federal income tax purposes are not available for
payment of dividends or other distributions to the Company without payment of
taxes at the then current tax rate by the Bank on the amount of earnings removed
from the reserves for such distributions. See "Taxation."
TRANSACTIONS WITH AFFILIATES. The Bank is subject to restrictions imposed
by Sections 23A and 23B of the Federal Reserve Act on extensions of credit to,
and certain other transactions with, the Company and other affiliates, and on
investments in the stock or other securities thereof. Such restrictions prevent
the Company and such other affiliates from borrowing from the Bank unless the
loans are secured by specified collateral, and require such transactions to have
terms comparable to terms of arms-length transactions with third persons.
Further, such secured loans and other transactions and investments by the Bank
are generally limited in amount as to the Company and as to any other affiliate
to 10% of the Bank's capital and surplus and as to the Company and all other
affiliates to an aggregate of 20% of the Bank's capital and surplus. These
restrictions may limit the Company's ability to obtain funds from the Bank for
its cash needs, including funds for acquisitions and for payment of dividends,
interest and operating expenses.
22
LOANS TO DIRECTORS, EXECUTIVE OFFICERS AND PRINCIPAL STOCKHOLDERS. The
Bank's ability to extend credit to its directors, executive officers, and 10%
stockholders, as well as to entities controlled by such persons, is governed by
the requirements of Sections 22(g) and 22(h) of the Federal Reserve Act and
Regulation O of the Federal Reserve Board thereunder. Among other things, these
provisions require that an institution's extensions of credit to insiders (a) be
made on terms that are substantially the same as, and follow credit underwriting
procedures that are not less stringent than, those prevailing for comparable
transactions with unaffiliated persons and that do not involve more than the
normal risk of repayment or present other unfavorable features and (b) not
exceed certain limitations on the amount of credit extended to such persons,
individually and in the aggregate, which limits are based, in part, on the
amount of the institution's capital. In addition, extensions of credit in
excess of certain limits must be approved by the institution's Board of
Directors.
RESERVE REQUIREMENTS. Pursuant to FRB regulations, all FDIC-insured
depository institutions must maintain average daily reserves against their
transaction accounts. No reserves are required to be maintained on the first
$4.7 million of transaction accounts, and reserves equal to 3% must be
maintained on the next $47.8 million of transaction accounts, plus reserves
equal to 10% on the remainder. These percentages are subject to adjustment by
the FRB. Because required reserves must be maintained in the form of vault cash
or in a non-interest-bearing account at a Federal Reserve Bank, the effect of
the reserve requirement is to reduce the amount of the institution's interest-
earning assets. As of December 31, 1997, the Bank met its reserve requirements.
LIQUIDITY REQUIREMENTS. The Bank is required by OTS regulation to maintain
an average daily balance of liquid assets (cash, certain time deposits, bankers'
acceptances, highly rated corporate debt and commercial paper, qualifying
mortgage-related securities and mortgage loans, securities of certain mutual
funds, and specified United Sates government, state or federal agency
obligations) equal to the monthly average of not less than a specified
percentage (currently 4%) of its net withdrawable accounts plus short-term
borrowings. The average daily liquidity ratio of the Bank for the month ended
December 31, 1997 was 65.36%.
FEDERAL HOME LOAN BANK SYSTEM. The Federal Home Loan Bank System consists
of 12 district Federal Home Loan Banks subject to supervision and regulation by
the Federal Housing Finance Board ("FHFB"). The Federal Home Loan Banks provide
a central credit facility primarily for member institutions. As a member of the
FHLB, the Bank is required to acquire and hold shares of capital stock in the
FHLB in an amount at least equal to 1% of the aggregate unpaid principal of its
home mortgage loans, home purchase contracts, and similar obligations at the
beginning of each year, or 1/20 of its advances (borrowings) from the FHLB,
whichever is greater. The Bank was in compliance with this requirement, with an
investment in FHLB stock at December 31, 1997 of $1,725,400. Long-term FHLB
advances may only be made for the purpose of providing funds for residential
housing finance. At December 31, 1997, the Bank had no total advances
outstanding from the FHLB.
REGULATION OF THE COMPANY
The Company is a savings and loan holding company under the HOLA and, as
such, is subject to OTS regulation, supervision and examination. In addition,
the OTS has enforcement authority over the Company and its non-savings
institution subsidiaries and may restrict or prohibit activities that are
determined to represent a serious risk to the safety, soundness or stability of
the Bank or any other subsidiary savings institution.
Under the HOLA, a savings and loan holding company is required to obtain
the prior approval of the OTS before acquiring another savings institution or
savings and loan holding company. A savings and loan holding company may not
(i) acquire, with certain exceptions, more than 5% of a non-subsidiary savings
institution or a non-subsidiary savings and loan holding company; or (ii)
acquire or retain control of a depository institution that is not insured by the
FDIC. In addition, while the Bank generally may acquire a savings institution by
merger in any state without restriction by state law, the Company could acquire
control of an additional savings institution in a state other than Kentucky only
if such acquisition is permitted under the laws of the target institution's home
state.
As a unitary savings and loan holding company, the Company generally will
not be subject to any restriction as to the types of business activities in
which it may engage, provided that the Bank continues to satisfy the QTL test.
See "-- Regulation and Supervision of the Bank -- Qualified Thrift Lender
Test." Legislation currently pending in the United States Congress would, if
enacted, restrict the business activities of unitary savings and loan holding
companies. See "Regulation of the Bank -- Proposed Legislation."
23
Upon any non-supervisory acquisition by the Company of another savings
institution that is held as a separate subsidiary, the Company would become a
multiple savings and loan holding company and would be subject to limitations on
the types of business activities in which it could engage. The HOLA limits the
activities of a multiple savings and loan holding company and its non-insured
institution subsidiaries primarily to activities permissible for bank holding
companies under the Bank Holding Company Act, subject to the prior approval of
the OTS, and to other activities authorized by OTS regulation.
FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K, including all documents incorporated
herein by reference, contains forward-looking statements. Additional written or
oral forward-looking statements may be made by the Company from time to time in
filings with the Securities and Exchange Commission or otherwise. The words
"believe," "expect," "seek," and "intend" and similar expressions identify
forward-looking statements, which speak only as of the date the statement is
made. Such forward-looking statements are within the meaning of that term in
Section 27A of the Securities Act of 1933, as amended, and Section 21E of the
Securities Exchange Act of 1934, as amended. Such statements may include, but
are not limited to, projections of income or loss, expenditures, acquisitions,
plans for future operations, financing needs or plans relating to services of
the Company, as well as assumptions relating to the foregoing. Forward-looking
statements are inherently subject to risks and uncertainties, some of which
cannot be predicted or quantified. Future events and actual results could
differ materially from those set forth in, contemplated by or underlying the
forward-looking statements.
The Company does not undertake, and specifically disclaims, any obligation
to publicly release the results of revisions which may be made to forward-
looking statements to reflect the occurrence of anticipated or unanticipated
events or circumstances after the date of such statements.
24
ITEM 2. PROPERTIES
The following table sets forth information regarding the Bank's offices at
December 31, 1997.
Approximate
Square Footage of
Year Opened Owned or Leased Book Value (1) Office
------------- ----------------- ------------------- ---------------------
(In thousands)
MAIN OFFICE:
2700 Fort Campbell Boulevard
Hopkinsville, Kentucky 42240....... 1995 Owned $1,848 16,575
BRANCH OFFICES:
Downtown Branch Office
605 South Virginia Street
Hopkinsville, Kentucky............ 1997 Owned $ 176 756
Murray Branch Office
7th and Main Streets
Murray, Kentucky.................. 1969 Owned $ 70 4,800
Cadiz Branch Office (2)
67 Main Street
Cadiz, Kentucky................... 1974 Leased $ 3 600
Elkton Branch Office
West Main Street
Elkton, Kentucky.................. 1976 Owned $ 52 3,400
Real Estate Lot
Cadiz, Kentucky (2)............... 1996 Owned $ 158 2,200
------
$2,307
======
(1) Represents the book value of land, building, furniture, fixtures and
equipment owned by the Bank.
(2) This branch office will be relocated to a new lot in Cadiz purchased by the
Bank. Construction of the new branch office is in progress.
ITEM 3. LEGAL PROCEEDINGS
From time to time, the Bank is a party to various legal proceedings
incident to its business. At December 31, 1997, there were no legal proceedings
to which the Company or the Bank was a party, or to which any of their property
was subject, which were expected by management to result in a material loss to
the Company or the Bank. There are no pending regulatory proceedings to which
the Company, the Bank or its subsidiaries is a party or to which any of their
properties is subject which are currently expected to result in a material loss.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
EXECUTIVE OFFICERS OF THE REGISTRANT
BRUCE THOMAS. Mr. Thomas, 60, has served as President and Chief
Executive Officer of the Bank since 1992. He has been an employee of the Bank
since 1962. Mr. Thomas also serves as President and Chief Executive Officer of
the Company.
PEGGY R. NOEL. Ms. Noel, 59, has served as Executive Vice President,
Chief Financial Officer and Chief Operations Officer of the Bank since 1990.
She has been an employee of the Bank since 1966. Ms. Noel also serves as Vice
President, Chief Financial Officer and Treasurer of the Company.
25
BOYD M. CLARK. Mr. Clark, 52, has served as Senior Vice President --
Loan Administration of the Bank since 1995. Prior to his current position, Mr.
Clark served as First Vice President of the Bank. He has been an employee of
the Bank since 1973. Mr. Clark also serves as Vice President and Secretary of
the Company.
All officers serve at the discretion of the boards of directors of the
Company or the Bank. There are no known arrangements or understandings between
any office and any other person pursuant to which he or she was or is to be
selected as an officer.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
See "Market and Dividend Information" incorporated herein by reference
to the Company's Annual Report to Stockholders for the year ended December 31,
1997 (Exhibit No. 13) which is incorporated herein by reference.
ITEM 6. SELECTED FINANCIAL DATA
The information set forth under the caption "Selected Financial
Information and Other Data" in the Company's Annual Report to Stockholders for
the year ended December 31, 1997 (Exhibit No. 13) which is incorporated herein
by reference.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information set forth under the caption "Management's Discussion
and Analysis of Financial Condition and Results of Operations" in the Company's
Annual Report to Stockholders for the year ended December 31, 1997 (Exhibit No.
13) which is incorporated herein by reference.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information set forth under the caption "Management's Discussion
and Analysis of Financial Condition and Results of Operations Interest Rate
Sensitivity Analysis" in the Company's Annual Report to Stockholders for the
year ended December 31, 1997 (Exhibit No. 13) which is incorporated herein by
reference.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Bank's Financial Statements together with the related notes and the
report of York, Neel & Co. Hopkinsville, LLP, independent public accountants,
all as set forth in the Company's Annual Report to Stockholders for the year
ended December 31, 1997 (Exhibit No. 13) which are incorporated herein by
reference.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
26
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors of the Company is omitted from this
Report as the Company will file a definitive proxy statement within 120 days
after the end of the fiscal year covered by this Form (the "Proxy Statement"),
and the information included therein under "Proposal I -- Election of Directors"
is incorporated herein by reference. Information regarding the executive
officers of the Company is included under separate caption in Part I of this
Form 10-K. Item 405 of Regulation S-K disclosure is omitted from this Report as
the Company will file the Proxy Statement and the Item 405 disclosure therein
under "Section 16(a) Beneficial Ownership Reporting Compliance" which is
incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information regarding executive compensation is omitted from this
Report as the Company will file the Proxy Statement, and the information
included therein under "Proposal I -- Election of Directors" which is
incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information required by this Item is omitted from this Report as the
Company will file the Proxy Statement, and the information included therein
under "Voting Securities and Principal Holders Thereof" and "Proposal I
Election of Directors" which is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information required by this Item is omitted from this Report as the
Company will file the Proxy Statement, and the information included therein
under "Proposal I -- Election of Directors" which is incorporated herein by
reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) The following consolidated financial statements of the Company
included in the Annual Report to Stockholders for the year ended December 31,
1997, are incorporated herein by reference in Item 8 of this Report. The
remaining information appearing in the Annual Report to Stockholders is not
deemed to be filed as part of this Report, except as expressly provided herein.
1. Independent Auditor's Report.
2. Statements of Financial Condition - December 31, 1997 and 1996.
3. Statements of Income for the Years Ended December 31, 1997, 1996
and 1995.
4. Statements of Equity for the Years Ended December 31, 1997, 1996
and 1995.
5. Statements of Cash Flows for the Years Ended December 31, 1997,
1996 and 1995.
6. Notes to Financial Statements.
(a)(2) All schedules for which provision is made in the applicable
accounting regulations of the Securities and Exchange Commission are not
required under the related instructions or are inapplicable and therefore have
been omitted.
27
(a)(3) The following exhibits either are filed as part of this Report or
are incorporated herein by reference:
Exhibit No. 2. Plan of Conversion of Hopkinsville Federal Savings
--------------------------------------------------
Bank. Incorporated herein by reference to Exhibit No. 2 to
----
Registrant's Registration Statement on Form S-1 (File No. 333-30215).
Exhibit No. 3.1. Certificate of Incorporation. Incorporated herein
----------------------------
by reference to Exhibit No. 3.1 to Registrant's Registration Statement
on Form S-1 (File No. 333-30215).
Exhibit No. 3.2. Bylaws. Incorporated herein by reference to Exhibit
------
No. 3.2 to Registrant's Registration Statement on Form S-1 (File No.
333-30215).
Exhibit No. 10.1. Employment Agreements by and between Hopkinsville
-------------------------------------------------
Federal Savings Bank and Bruce Thomas, Peggy Noel and Boyd Clark.
----------------------------------------------------------------
Incorporated herein by reference to Exhibit No. 10.1 to Registrant's
Registration Statement on Form S-1 (File No. 333-30215).
Exhibit No. 10.2. Employment Agreements by and between HopFed
-------------------------------------------
Bancorp, Inc. and Bruce Thomas, Peggy Noel and Boyd Clark.
---------------------------------------------------------
Incorporated herein by reference to Exhibit No. 10.2 to Registrant's
Registration Statement on Form S-1 (File No. 333-30215).
Exhibit No. 13. Annual Report to Stockholders
-----------------------------
Except for those portions of the Annual Report to Stockholders for the
year ended December 31, 1997, which are expressly incorporated herein
by reference, such Annual Report is furnished for the information of
the Commission and is not to be deemed "filed" as part of this Report.
Exhibit No. 21. Subsidiaries of the Registrant.
------------------------------
Exhibit No. 27. Financial Data Schedule (SEC use only)
-----------------------
(b) Not applicable.
(c) Exhibits to this Form 10-K are attached or incorporated by reference
as stated above.
(d) None.
28
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
behalf by the undersigned, thereunto duly authorized.
HOPFED BANCORP, INC.
(Registrant)
Date: April 15, 1998 By: /s/ Bruce Thomas
----------------
Bruce Thomas
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 indicated and on the dates indicated.
DATE: SIGNATURE AND TITLE:
/s/ Bruce Thomas April 15, 1998
- ----------------
Bruce Thomas
Director, President and Chief Executive Officer
(Principal Executive Officer)
/s/ Peggy R. Noel April 15, 1998
- -----------------
Peggy R. Noel
Director, Vice President, Chief
Financial Officer and Treasurer
(Principal Financial and Accounting Officer)
/s/ WD Kelley April 15, 1998
- -------------
WD Kelley
Chairman of the Board
/s/ Boyd M. Clark April 15, 1998
- -----------------
Boyd M. Clark
Director, Vice President and Secretary
/s/ Clifton H. Cochran April 15, 1998
- ----------------------
Clifton H. Cochran
Director
/s/ Walton G. Ezell April 15, 1998
- -------------------
Walton G. Ezell
Director
/s/ John Noble Hall, Jr. April 15, 1998
- ------------------------
John Noble Hall, Jr.
Director
/s/ Chester K. Wood April 15, 1998
- -------------------
Chester K. Wood
Director
2