Back to GetFilings.com
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------------
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended March 31, 2004
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: 0-16120
SECURITY FEDERAL CORPORATION
- -----------------------------------------------------------------------------
(Exact Name of Registrant as Specified in its Charter)
South Carolina 57-08580504
- --------------------------------------------- -----------------------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1705 Whiskey Road South, Aiken, South Carolina 29803
- --------------------------------------------- -----------------------
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (803) 641-3000
-----------------------
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
$0.01 per share
-----------------------
(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
amendments to this Form 10-K.
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes No X
--------- ----------
As of June 15, 2004, there were issued and outstanding 2,533,291 shares
of the registrant's Common Stock. The aggregate market value of the voting
stock held by non-affiliates of the registrant, computed by reference to the
average of the bid and asked price of such stock as of September 30, 2003, was
$44.9 million. (The exclusion from such amount of the market value of the
shares owned by any person shall not be deemed an admission by the registrant
that such person is an affiliate of the registrant.)
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of the Registrant's Annual Report to Stockholders for the Fiscal
Year Ended March 31, 2004. (Parts I and II)
2. Portions of the Registrant's Proxy Statement for the 2004 Annual Meeting
of Stockholders. (Part III)
PART I
Item 1. Business
Security Federal Corporation
- ----------------------------
Security Federal Corporation (the "Company") was incorporated under the
laws of the State of Delaware in July 1987 by authorization of the Board of
Directors of Security Federal Bank ("Security Federal" or the "Bank") for the
purpose of becoming a savings and loan holding company to acquire all of the
outstanding stock of Security Federal issued upon the conversion of Security
Federal from the mutual to the stock form (the "Conversion"). Effective
August 17, 1998, the Company changed its state of incorporation from Delaware
to South Carolina.
As a South Carolina corporation, the Company is authorized to engage in
any activity permitted by South Carolina General Corporation Law. The Company
is a unitary savings and loan holding company. Through the unitary holding
company structure, it is possible to expand the size and scope of the
financial services offered beyond those currently offered by the Bank. The
holding company structure also provides the Company with greater flexibility
than the Bank would have to diversify its business activities, through
existing or newly formed subsidiaries, or through acquisitions or mergers of
stock thrift institutions as well as other companies. There are no current
arrangements, understandings or agreements regarding any such acquisition.
Future activities of the Company, other than the continuing operations of
Security Federal, will be funded through dividends from Security Federal and
through borrowings from third parties. See "Regulation - Savings and Loan
Holding Company Regulation" and "Taxation." Activities of the Company may also
be funded through sales of additional securities or income generated by other
activities of the Company. At this time, there are no plans regarding such
sales of additional securities or such activities.
At March 31, 2004, the Company had assets of approximately $528.0
million, deposits of approximately $389.6 million and shareholders' equity of
approximately $33.5 million.
The executive office of the Company is located at 1705 Whiskey Road
South, Aiken, South Carolina 29803, telephone (803) 641-3000.
Security Federal Bank
- ---------------------
General. Security Federal, a federally chartered stock savings bank, is
headquartered in Aiken, South Carolina. Security Federal, which has 11 branch
offices in Aiken and Lexington Counties, was originally chartered under the
name Aiken Building and Loan Association on March 27, 1922. The association
received its federal charter and changed its name to Security Federal Savings
and Loan Association of Aiken on March 7, 1962, and later changed its name to
Security Federal Savings Bank of South Carolina, on November 11, 1986.
Effective April 8, 1996, the Bank changed its name to Security Federal Bank.
The Bank converted from the mutual to the stock form of organization on
October 30, 1987.
In October 1993, Security Federal increased its branch network to nine
with the completion of its acquisition of four former NationsBank of South
Carolina, N.A. branches located in Aiken County. In February 1996, Security
Federal opened a new branch office in the Aiken Wal-Mart Superstore, which
became the Bank's tenth location. The Bank opened a branch in West Columbia,
Lexington County, South Carolina, in December 2000, which provides the Bank
with the opportunity to expand its market area. In August 2003, the Bank
opened a new branch in Lexington, South Carolina. During February 2004, the
Bank completed the sale of its Denmark, South Carolina branch office to South
Carolina Bank and Trust, N. A. of Orangeburg, South Carolina. The Bank plans
to open a full service branch in Irmo, South Carolina during calendar year
2004.
The principal business of Security Federal is the acceptance of savings
deposits from the general public and the origination of mortgage loans to
enable borrowers to purchase or refinance one- to four-family residential real
estate. The Bank also makes loans secured by multi-family residential and
commercial real estate and consumer and commercial loans. In addition, the
Bank originates construction loans on single family residences, multi-family
dwellings and projects, commercial real estate, and loans for the acquisition,
development and construction of residential subdivisions
1
and commercial projects. Additional financial services are provided by three
of the Bank's wholly owned subsidiaries, Security Federal Insurance, Inc.,
Security Federal Investments, Inc. and Security Federal Trust, Inc.
Security Federal's income is derived primarily from interest and fees
earned in connection with its lending activities, and its principal expenses
are interest paid on savings deposits and borrowings and operating expenses.
Selected Consolidated Financial Information
- -------------------------------------------
This information is incorporated by reference to page 7 of the 2004
Annual Report to Stockholders ("Annual Report").
Yields Earned and Rates Paid
- ----------------------------
This information is incorporated by reference to page 15 of the Annual
Report.
Rate/Volume Analysis
- --------------------
This information is incorporated by reference to page 14 of the Annual
Report.
Lending Activities
- ------------------
General. The primary source of revenue for the Bank is interest and fee
income from lending activities. The principal lending activity of the Bank is
making conventional first mortgage real estate loans to enable borrowers to
purchase or refinance one- to four-family residential real property. The Bank
also makes loans secured by multi-family residential and commercial real
estate and consumer and commercial loans. The Bank continues to emphasize the
origination of adjustable rate residential mortgage loans, subject to market
conditions, for retention in its portfolio. In addition, the Bank originates
construction loans on single family residences, multi-family dwellings and
projects, commercial real estate, and loans for the acquisition, development
and construction of residential subdivisions and commercial projects.
Adjustable rate mortgage loans ("ARMs") constituted approximately 24.3%
of the Bank's total outstanding loan portfolio at March 31, 2004.
The loan-to-value ratio, maturity and other provisions of loans made by
the Bank reflect its policy of making the maximum loan permissible consistent
with applicable regulations, established lending policies and market
conditions. The Bank requires title insurance (or acceptable legal opinions
on smaller loans secured by real estate) and fire insurance, and flood
insurance where applicable, on loans secured by improved real estate.
2
Loan Portfolio Composition. The following table sets forth information concerning the composition of
the Bank's loan portfolio in dollar amounts and in percentages by type of loan, and presents a
reconciliation of total loans receivable before net items.
At March 31,
---------------------------------------------------------------------------------------
2004 2003 2002 2001 2000
--------------- --------------- --------------- --------------- ---------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ ------- ------ -------
(Dollars in Thousands)
TYPE OF LOAN:
- -------------
Fixed Rate Loans
- ----------------
Residential real
estate $ 43,911 15.8% $43,091 16.8% $ 35,012 14.0% $ 34,070 13.9% $ 13,408 6.6%
Commercial business
and commercial
real estate 62,799 22.6 53,509 20.8 55,845 22.4 42,877 17.5 39,756 19.6
Consumer 26,508 9.5 30,165 11.7 33,185 13.3 32,447 13.3 28,984 14.2
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total fixed rate
loans 133,218 47.9 126,765 49.3 124,042 49.7 109,394 44.7 82,148 40.4
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Adjustable rate loans
- ---------------------
Residential real
estate 67,516 24.3 60,528 23.5 67,220 26.9 89,913 36.7 86,040 42.3
Commercial business
and commercial
real estate 58,313 20.9 53,488 20.8 41,551 16.7 31,643 12.9 22,306 11.0
Consumer 19,133 6.9 16,429 6.4 16,667 6.7 13,830 5.7 12,735 6.3
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total adjustable
rate loans 144,962 52.1 130,445 50.7 125,438 50.3 135,386 55.3 121,081 59.6
------- ----- ------- ----- ------- ----- ------- ----- ------- -----
Total loans 278,180 100.0% 257,210 100.0% 249,480 100.0% 244,780 100.0% 203,229 100.0%
===== ===== ===== ===== =====
Less
- ----
Loans in process 12,356 8,991 11,288 10,739 7,832
Deferred fees and
discounts 165 152 184 260 275
Allowance for loan
losses 5,764 4,911 3,689 2,784 2,121
------- ------- ------- ------- -------
Total loans
receivable $259,895 $243,156 $234,319 $230,997 $193,001
======== ======== ======== ======== ========
3
The following table sets forth information concerning the composition of the Bank's loan portfolio in
dollar amounts and in percentages by type of security, and presents a reconciliation of total loans
receivable before net items.
At March 31,
---------------------------------------------------------------------------------------
2004 2003 2002 2001 2000
--------------- --------------- --------------- --------------- ---------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ ------- ------ ------- ------ -------
(Dollars in Thousands)
TYPE OF SECURITY:
- -----------------
Real Estate Loans:
Residential real
estate $ 95,863 34.5% $86,707 33.7% $86,486 34.7% $104,819 42.8% $ 82,754 40.7%
Residential
construction 15,564 5.6 16,912 6.6 15,746 6.3 19,164 7.8 16,694 8.2
-------- ----- -------- ----- -------- ----- -------- ----- -------- -----
Total real
estate loans 111,427 40.1 103,619 40.3 102,232 41.0 123,983 50.6 99,448 48.9
-------- ----- -------- ----- -------- ----- -------- ----- -------- -----
Commercial business
and commercial
real estate 121,112 43.5 106,997 41.6 97,396 39.0 74,520 30.5 62,062 30.6
Consumer loans:
Deposit account 1,383 0.5 1,726 0.7 2,160 0.9 2,516 1.0 1,304 0.6
Home equity lines 13,694 4.9 13,140 5.1 12,352 4.9 10,731 4.4 9,986 4.9
Consumer first and
second mortgages 15,080 5.4 18,551 7.2 20,090 8.1 20,451 8.3 18,593 9.2
Other 15,484 5.6 13,177 5.1 15,250 6.1 12,579 5.2 11,836 5.8
-------- ----- -------- ----- -------- ----- -------- ----- -------- -----
Total consumer
loans 45,641 16.4 46,594 18.1 49,852 20.0 46,277 18.9 41,719 20.5
-------- ----- -------- ----- -------- ----- -------- ----- -------- -----
Total loans 278,180 100.0% 257,210 100.0% 249,480 100.0% 244,780 100.0% 203,229 100.0%
===== ===== ===== ===== =====
Less:
Loans in process 12,356 8,991 11,288 10,739 7,832
Deferred fees and
discounts 165 152 184 260 275
Allowance for loan
losses 5,764 4,911 3,689 2,784 2,121
-------- -------- -------- -------- --------
Total loans
receivable $259,895 $243,156 $234,319 $230,997 $193,001
======== ======== ======== ======== ========
4
The following schedule illustrates the maturities of Security Federal's
loan portfolio at March 31, 2004. Mortgages which have adjustable or
renegotiable interest rates are shown as maturing in the period when the
contract is due. This schedule does not reflect the effects of possible
prepayments or enforcement of due-on-sale clauses.
At March 31, 2004
----------------------------------------------------
Commercial
Business and
Residential Commercial
Real Estate (1) Consumer (2) Real Estate Total
-------------- ----------- ------------- -------
(In Thousands)
Six months or less (3) $ 7,852 $ 5,010 $ 18,728 $ 31,590
Over six months to
one year 8,397 2,284 11,219 21,900
Over one year to three
years 2,508 6,734 33,412 42,654
Three to five years 1,863 7,769 38,034 47,666
Over five to ten years 3,845 9,471 8,277 21,593
Over ten years 74,605 14,373 11,442 100,420
------- ------- -------- --------
Total (4) $99,070 $45,641 $121,112 $265,823
======= ======= ======== ========
- -----------
(1) Includes multi-family dwellings.
(2) Includes home improvement loans and equity line of credit loans.
(3) Includes demand loans, loans having no stated maturity and overdraft
loans.
(4) Loan amounts are net of undisbursed funds for loans in process of $12.4
million.
The total amount of loans due after March 31, 2005, which have
predetermined or fixed interest rates is $87.9 million, while the total amount
of loans due after such date which have floating or adjustable interest rates
is $124.4 million.
Loan Originations, Purchases and Sales. The following table shows the
loan origination, purchase, sale and repayment activities of the Bank for the
periods indicated.
Year Ended March 31,
------------------------------------------------
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
(In Thousands)
Originated:
Adjustable rate - residential
real estate $ 47,263 $ 45,260 $ 41,672 $ 36,998 $ 44,382
Fixed rate - residential real
estate (1) 73,291 92,388 93,602 35,813 22,812
Consumer 26,829 25,439 26,916 20,297 17,080
Commercial business and
commercial real estate 95,062 64,097 50,468 31,623 34,847
-------- -------- -------- -------- --------
Total consumer/commercial
business real estate 121,891 89,536 77,384 51,920 51,927
-------- -------- -------- -------- --------
Total loans originated $242,445 $227,184 $212,658 $124,731 $119,121
======== ======== ======== ======== ========
Purchased -- -- -- -- --
Less:
Sold:
Fixed rate - residential
real estate $ 63,497 $ 80,345 $ 84,505 $ 28,547 $ 16,927
Adjustable rate - residential
real estate -- -- -- -- --
Principal repayments 156,012 140,613 123,523 53,683 60,324
(Increase) decrease in loans
held for sale 1,967 (1,505) (80) 950 (308)
Increase (decrease) in other
items, net 4,230 (1,106) 1,378 3,555 1,163
Net increase (decrease) $ 16,739 $ 8,837 $ 3,332 $ 37,996 $ 41,015
- -----------
(1) Includes newly originated fixed rate loans held for sale,
construction/permanent loans converted to fixed rate loans and sold, and
residential lot loans.
5
In addition to interest earned on loans, the Bank receives loan
origination fees or "points" for originating loans. Loan points are a
percentage of the principal amount of the mortgage loan which are charged to
the borrower for the creation of the loan.
The Bank's loan origination fees generally range from 1% to 2% on
conventional residential mortgages, commercial real estate loans and
commercial business loans. The total fee income (including amounts amortized
to income as yield adjustments) for the fiscal year ended March 31, 2004 was
$840,000.
Loan origination and commitment fees are volatile sources of income.
These fees vary with the volume and type of loans and commitments made and
purchased and with competitive conditions in mortgage markets, which in turn
are governed by the demand for and availability of money.
The following table shows deferred loan origination fees recognized as
income by the Bank expressed as a percentage of the dollar amount of total
mortgage loans originated (and retained in the Bank's portfolio) and purchased
during the periods indicated and the dollar amount of deferred loan
origination fees at the end of each respective period.
At or for the Year Ended March 31,
----------------------------------
2004 2003 2002
-------- -------- --------
(Dollars in Thousands)
Net deferred loan origination fees
earned during the period(1) $188 $209 $224
Mortgage loan origination fees earned as
a percentage of total loans originated
during the period 0.2% 0.1% 0.2%
Net deferred loan origination fees in loan
portfolio at end of period $165 $152 $184
- ------------
(1) Includes amounts amortized to interest income as yield adjustments.
Does not include fees earned on loans sold.
The Bank also receives other fees and charges related to existing loans,
conversion fees, assumption fees, late charges, and other fees collected in
connection with a change in borrower or other loan modifications.
Security Federal currently sells substantially all conforming fixed-rate
loans with terms of 15 years or greater in the secondary mortgage market.
These loans are sold in order to provide a source of funds and as one of the
strategies available to close the gap between the maturities of its
interest-earning assets and interest-bearing liabilities. Currently, most
fixed-rate, long-term mortgage loans are being originated based on Federal
National Mortgage Association ("Fannie Mae") and Federal Home Loan Mortgage
Corporation ("Freddie Mac") underwriting standards.
Secondary market sales have been made primarily to Freddie Mac, or other
banks or investors. Freddie Mac is a quasi-governmental agency that purchases
residential mortgage loans from federally insured financial institutions and
certain other lenders. All loans sold to Freddie Mac are without recourse to
Security Federal and essentially all other loans sold to other investors are
without recourse. For the past few years, substantially all loans have been
sold on a service released basis. Previous to that, some loans sold to
Freddie Mac, Fannie Mae and one other investor had been sold service retained,
whereby Security Federal would collect a .25% to .375% servicing fee on the
principal balance of the loan serviced. However, the pricing on loans sold
service released is more favorable to the borrower. As a result of that
factor, along with prepayments and refinancings, Security Federal's loan
serviced for others portfolio was decreasing in size. Accordingly, because of
the fixed costs of servicing that portfolio, Security Federal sold its loan
serviced for others portfolio for a before tax, net gain of approximately
$400,000 in the last quarter of fiscal 2001. At March 31, 2001, Security
Federal was sub-servicing this portfolio of approximately $47.0 million for
the buyer, while the actual transfer took place in April 2001. In fiscal
2004, Security Federal sold $63.5 million in fixed rate residential loans on a
service released basis on the secondary market. Loans closed but not yet
settled with Freddie Mac or other investors, are carried in the Bank's "loans
held for sale" portfolio. At March 31, 2004, the Bank held $1.7 million of
loans held for sale. These loans are fixed rate residential loans that have
been originated in the Bank's name and have closed. Virtually all of these
loans have commitments to be purchased by investors, mainly Freddie Mac, and
the
6
majority of these loans were locked in by price with the investors on the same
day or shortly thereafter that the loan was locked in with the Bank's
customers. Therefore, these loans present very little market risk for the
Bank. The Bank usually delivers to and receives funding from the investor
within 30 days. Security Federal originates all of its loans held for sale on
a "best efforts" basis. Best efforts means that the Bank suffers no penalty
if it is unable to deliver a loan to a potential investor.
The Bank also originates and holds fixed rate construction loans or fixed
rate lot loans. The construction loans are for one year terms. Lot loans are
financed on a two or three year term, or a five year balloon term. At March
31, 2004, the Bank held $32.5 million or 11.7% of the total loan portfolio in
these fixed rate loans in its residential portfolio. At March 31, 2004, the
Bank also held approximately $11.4 million in longer term fixed rate
residential mortgage loans. These loans, which were 4.1% of the entire loan
portfolio at March 31, 2004, had converted from ARM loans to fixed rate loans
during the previous 24 months. These fixed rate loans had remaining
maturities of 12 to 29 years. At March 31, 2004, the Bank had approximately
$16.4 million of residential ARM loans that could convert to fixed rate loans
over the next 36 months. The Bank no longer originates ARM loans with
conversion features.
Loan Solicitation and Processing. The Bank actively solicits mortgage
loan applications from existing customers, real estate agents, builders, real
estate developers and others. The Bank also receives mortgage loan
applications as a result of customer referrals and from walk-in customers.
Detailed loan applications are obtained to determine the borrower's
creditworthiness and ability to repay, and the more significant items on these
applications are verified through the use of credit reports, financial
statements and confirmations. After analysis of the loan application and
property or collateral involved, including an appraisal of the property
(residential appraisals are obtained through independent fee appraisers), the
lending decision is made in accordance with the underwriting guidelines of the
Bank. These guidelines are generally consistent with Freddie Mac and Fannie
Mae guidelines for residential real estate loans. With respect to commercial
real estate loans, the Bank also reviews the capital adequacy of the business,
the income potential of the property, the ability of the borrower to repay the
loan and honor its other obligations, and general economic and industry
conditions.
Upon receipt of a loan application and all required related information
from a prospective borrower, the loan application is submitted for approval or
rejection. The residential mortgage loan underwriters approve loans which
meet Freddie Mac and Fannie Mae underwriting requirements, not to exceed
$333,700 per loan, and the government loan direct endorser approves Federal
Housing Administration ("FHA") loans not to exceed $161,000 and Veterans'
Administration ("VA") loans not to exceed $240,000. The Chairman, Chief
Executive Officer, President of the Bank or Senior Consumer/Commercial Loan
Officer approve loans of $250,000 or less, except as set forth above. Loans
in excess of $250,000 require approval of any two of the above and any loan in
an amount in excess of $350,000 must be approved by the Bank's Executive
Committee, which operates as the Bank's Loan Committee. The loan approval
limits shown are the aggregate of all loans to any one borrower or entity.
The general policy of Security Federal is to issue loan commitments to
qualified borrowers for a specified time period. These commitments are
generally for a period of 45 days or less. With management approval,
commitments may be extended for a longer period. The total outstanding amount
of residential mortgage loan commitments for portfolio loans issued by
Security Federal as of March 31, 2004, was approximately $429,000 (excluding
undisbursed portions of construction loans in process). Security Federal also
had outstanding commitments available on retail lines of credit (including
home equity and other consumer loans) totaling $25.6 million as of March 31,
2004. See Note 13 of the Notes to Consolidated Financial Statements contained
in the Annual Report.
Permanent Residential Mortgage Lending. Residential real estate mortgage
loans constituted approximately 34.5% of the Bank's total outstanding loan
portfolio at March 31, 2004.
Security Federal offers a variety of ARMs which offer adjustable rates of
interest, payments, loan balances or terms to maturity which vary according to
specified indices. The Bank's ARMs generally have a loan term of 15 to 30
years with initial rate adjustments every one, three, five or seven years
during the term of the loan. After the initial rate adjustment, the loan rate
then adjusts annually. Most of the Bank's ARMs contain a 200 basis point
limit as to the maximum amount of change in the interest rate at any
adjustment period and a 500 or 600 basis point limit over the life
7
of the loan. The Bank generally originates ARMs to hold in its portfolio.
Such loans are generally made consistent with Freddie Mac and Fannie Mae
guidelines. At March 31, 2004, residential ARMs totaled $67.5 million, or
24.3% of the Bank's loan portfolio. For the year ended March 31, 2004, the
Bank originated $120.6 million in residential real estate loans, 39.2% of
which had adjustable rates of interest.
There are unquantifiable risks resulting from possible increased costs to
the borrower as a result of periodic repricing. Despite the benefits of ARMs
to the Bank's asset/liability management program, these loans also pose
potential additional risks, primarily because as interest rates rise, the
underlying payment by the borrower rises, increasing the potential for
default. At the same time, marketability of the underlying property may be
adversely affected by higher interest rates.
When making a one- to four-family residential mortgage loan, the Bank
evaluates both the borrower's creditworthiness and his or her general ability
to make principal and interest payments and the value of the property that
will secure the loan. The Bank generally makes loans on one- to four-family
residential properties in amounts of 95% or less of the appraised value
thereof. Where loans are made in amounts which exceed 80% of the appraised
value of the underlying real estate, the Bank's general policy is to require
private mortgage insurance on a portion of the loan. In general, the Bank
restricts its residential lending to South Carolina and the nearby Augusta,
Georgia market.
The Bank also provides construction financing for single family dwellings
both to owner-occupants and to builders for resale. Construction loans are
generally made for periods of six months to one year. Typically, interest
rates on interim construction loans are made on a fixed-rate basis. At March
31, 2004, residential construction loans on one- to four-family dwellings
totaled $15.6 million, or 5.6% of the Bank's loan portfolio. In addition to
the factors mentioned above concerning the creditworthiness of the borrower,
on loans of this type the Bank seeks to evaluate the financial condition and
prior performance of the builder. On construction loans offered to
individuals (non-builders), the Bank offers a construction/permanent loan.
The construction portion of the loan is a fixed rate (typically prime plus
..50%) during the construction period. After construction, the loan then
automatically converts to an adjustable rate mortgage loan. The borrower also
has the option, after the construction period only, to convert it to a fixed
rate loan which the Bank then sells on the secondary market immediately on a
service released basis.
Commercial Business and Commercial Real Estate Loans. The commercial
business and commercial real estate loans originated by the Bank are primarily
secured by business properties, churches, income property developments,
undeveloped land, business equipment, furniture and fixtures, inventory, and
receivables. At March 31, 2004, the Bank had approximately $121.1 million or
43.5% of the Bank's total loan portfolio, in commercial business and
commercial real estate loans. Approximately $74.0 million or 61.1% of
commercial business and commercial real estate loans were secured primarily by
real estate at March 31, 2004. Loans secured by commercial real estate are
typically written for terms of 10 to 20 years. Commercial loans not secured
by real estate are typically based on terms of three to 60 months. Fixed rate
loans typically balloon at the end of three to seven years. Adjustable rate
loans are usually tied to the prime interest rate as quoted in the Wall Street
Journal and adjust monthly or annually. Some adjustable rate loans have
interest rate caps. Most of these loans have a five year balloon.
Commercial business and commercial real estate lending entails
significant additional credit risk when compared to residential lending.
Commercial loans typically involve large loan balances to single borrowers or
groups of related borrowers. The payment experience of such loans is
typically dependent upon the successful operation of the business or real
estate project. These risks can be significantly affected by supply and
demand conditions in the market for office and retail space and for
condominiums and apartments and to adverse conditions in the local economy.
Although commercial loans generally involve more risk than residential loans,
they also typically earn more yield and are more sensitive to changes in
interest rates.
The underwriting standards employed by the Bank for commercial business
and commercial real estate lending include a determination of the borrower's
current financial condition, ability to pay, past earnings and payment
history. In addition, the current financial condition and payment history of
all principals are reviewed. Normally, the Bank requires the principal or
owners of a business to guarantee all loans made to their business by the
Bank. Although the creditworthiness of the business and its principals is of
primary consideration, the underwriting process also includes a comparison of
the value of the security, if any, in relation to the proposed loan amount.
8
Properties securing commercial loans originated by the Bank are generally
appraised at the time of the loan by appraisers designated by the Bank.
Although the Bank is permitted to invest in loans up to 100% of the appraised
value of a property on a commercial loan, the Bank currently seeks to invest
in loans with a loan to value ratio of 75% to 80%.
At March 31, 2004, the Bank did not have any commercial business or
commercial real estate loans to one borrower in excess of $4.5 million.
Federal law restricts the Bank's permissible lending limits to one borrower to
the greater of $500,000 or 15% of unimpaired capital and surplus. The Bank
has only infrequently made loans to one borrower equal to the amount federal
law allows or approximately $5.3 million as calculated at March 31, 2004.
Consumer Loans. The Bank originates consumer loans for any personal,
family or household purpose, including but not limited to the financing of
home improvements, automobiles, boats, mobile homes, recreational vehicles and
education. The Bank also makes consumer first and second mortgage loans
secured by residences. These loans typically do not qualify for sale in the
secondary market, but are generally not considered sub-prime lending. In
addition, the Bank has expanded its home equity lending program. Home equity
loans are secured by mortgage lines on the borrower's principal or second
residence. At March 31, 2004, the Bank had $13.7 million of home equity lines
of credit outstanding and $20.7 million of additional commitments of such
lines of credit. The Bank also makes secured and unsecured lines of credit
available. Although consumer loans involve a higher level of risk than one-
to four-family residential mortgage loans, they generally carry higher yields
and have shorter terms to maturity than one- to four-family residential
mortgage loans. The Bank has increased its origination of consumer loans
during the past several years and at March 31, 2004, the Bank had total
consumer loans of $45.6 million, or 16.4% of the Bank's loan portfolio.
The underwriting standards employed by the Bank for consumer loans
include a determination of the applicant's payment history on other debts and
an assessment of ability to meet existing obligations and payments on the
proposed loan. The stability of the applicant's monthly income is determined
by verification of gross monthly income from primary employment, and
additionally from any verifiable secondary income. Although creditworthiness
of the applicant is of primary consideration, the underwriting process also
includes a comparison of the value of the security, if any, in relation to the
proposed loan amount.
The Bank also has a credit card program. As of March 31, 2004, 1,319
Visa credit cards had been issued by the Bank with total approved credit lines
of $3.7 million, of which $1.3 million was outstanding.
Loan Delinquencies and Defaults
- -------------------------------
General. The Bank's collection procedures provide that when a real
estate loan is approximately 20 days past due, the borrower is contacted by
mail and payment is requested. If the delinquency continues, subsequent
efforts are made to contact the delinquent borrower and establish a program to
bring the loan current. In certain instances, the Bank may modify the loan or
grant a limited moratorium on loan payments to enable the borrower to
reorganize his financial affairs. If the loan continues in a delinquent
status for 60 days or more, the Bank generally initiates foreclosure
proceedings after the customer has been notified by certified mail. At March
31, 2004, the Bank had property acquired as the result of foreclosures and
other property repossessed classified as repossessed assets valued at $51,000.
9
Delinquent Loans. The following table sets forth information concerning
delinquent mortgage and other loans at March 31, 2004. The amounts presented
represent the total remaining principal balances of the related loans (before
specific reserves for losses), rather than the actual payment amounts which
are overdue.
Real Estate Non-Real Estate
------------------------------------- ------------------------------------
Commercial
Residential Commercial Consumer Business
----------------- ----------------- ---------------- -----------------
Number Amount Number Amount Number Amount Number Amount
------ ------ ------ ------ ------ ------ ------ ------
(Dollars in Thousands)
Loans delinquent for:
30 - 59 days 8 $ 940 6 $ 595 79 $1,260 8 $102
60 - 89 days 1 72 1 4 14 73 6 88
90 days and over 7 559 5 817 17 243 9 425
--- ------ --- ------ --- ------ --- ----
Total delinquent loans 16 $1,571 12 1,416 110 $1,576 23 $615
=== ====== === ====== === ====== === ====
Classified Assets. Federal regulations provide for the classification of
loans and other assets such as debt and equity securities considered to be of
lesser quality as "substandard," "doubtful" or "loss" assets. The regulation
requires savings associations to classify their own assets and to establish
prudent general allowances for loan losses for assets classified "substandard"
or "doubtful." For the portion of assets classified as "loss," an institution
is required to either establish specific allowances of 100% of the amount
classified or charge off such amount. In addition, the Office of Thrift
Supervision ("OTS") may require the establishment of a general allowance for
losses based on assets classified as "substandard" and "doubtful" or based on
the general quality of the asset portfolio of an association. Assets which do
not currently expose the savings association to sufficient risk to warrant
classification in one of the aforementioned categories but possess potential
weaknesses are designated "special mention" by management.
At March 31, 2004, approximately $5.4 million of the Bank's loans were
classified "substandard" and $2.5 million were classified as "special
mention." The Bank had no loans classified as "doubtful" or "loss" at March
31, 2004. As of March 31, 2004, there were loans totaling $646,000 which were
troubled debt restructurings within the meaning of Statement of Financial
Accounting Standard ("SFAS") No. 15. The Bank's policy is to classify all
troubled debt restructurings as substandard. The Bank's classification of
assets is consistent with OTS regulatory classifications.
Non-performing Assets. Loans are placed on non-accrual status when the
collection of principal and/or interest becomes doubtful. In addition, all
loans are placed on non-accrual status when the loan becomes 90 days or more
contractually delinquent. All consumer loans more than 90 days delinquent are
charged against the consumer loan allowance for loan losses unless there is
adequate collateral which is in the process of being repossessed or foreclosed
on. At March 31, 2004, the Bank did not have any troubled debt restructurings
which involve forgiving a portion of interest or principal on any loans or
making loans at a rate materially less than that of market rates. Other loans
of concern are those loans (not delinquent more than 60 days) that management
has determined need to be closely monitored as the potential exists for
increased risk on these loans in the future. Nonperforming loans are reviewed
monthly on a loan by loan basis. Charge-offs, whether partial or in full,
associated with these loans will vary based on estimates of recovery for each
loan.
10
The following table sets forth the amounts and categories of risk
elements in the Bank's loan portfolio.
March 31,
---------------------------------------------
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
(Dollars in Thousands)
Loans Delinquent 60 to 89
Days:
Residential $ 72 $ 45 $ -- $ -- $ 163
Consumer 73 435 370 320 95
Commercial business and
real estate 88 311 144 274 43
------ ------ ------ ------ ------
Total $ 233 $ 791 $ 514 $ 594 $ 301
====== ====== ====== ====== ======
Total as a percentage of
total assets 0.04% 0.18% 0.14% 0.18% 0.10%
Non-Accruing Loans Delinquent
90 Days or More:
Residential $ 559 $ 585 $ 761 $ -- $ 335
Consumer 243 229 350 172 386
Commercial business and
real estate 1,242 226 279 11 169
------ ------ ------ ------ ------
Total $2,044 $1,040 $1,390 $ 183 $ 890
====== ====== ====== ====== ======
Total as a percentage of
total assets 0.39% 0.23% 0.37% 0.06% 0.29%
Troubled debt restructurings $ 646(1) $ 674(2) $ 622 $ 587 $ 784
Repossessed assets $ 51 $ 151 $ 98 $ 130 $ 332
Allowance for loan losses $5,764 $4,911 $3,689 $2,784 $2,121
- ------------
(1) $201,000 of troubled debt restructurings are included in non-accruing
loans.
(2) $210,000 of troubled debt restructurings are included in non-accruing
loans.
For the fiscal year ended March 31, 2004, the interest income which would
have been recognized with respect to non-accruing loans, had such loans been
current in accordance with their original terms and with respect to troubled
debt restructurings, had such loans been current in accordance with their
original terms, totaled $106,000, compared to $44,000 for the year ended March
31, 2003.
At March 31, 2004, non-accrual loans totaled $2.0 million, compared to
$1.0 million and $1.4 million at March 31, 2003 and 2002, respectively.
Included in non-accruing loans at March 31, 2004 were seven residential real
estate loans totaling $559,000, 14 commercial loans totaling $1.2 million and
17 consumer loans totaling $243,000. Of the 17 consumer loans on non-accrual
status at fiscal year end, no loan exceeded $50,000. Of the 14 commercial
loans on non-accrual status at fiscal year end, no loan exceeded $350,000.
The Bank had seven loans totaling $646,000 at fiscal year end which were
troubled debt restructurings compared to seven loans of $674,000 at March 31,
2003. The seven troubled debt restructurings were three consumer loans of
$355,000 secured by residential dwellings, a $9,000 commercial loan secured by
a second mortgage on a residence, a $58,000 commercial loan secured by two
rental properties, a $23,000 unsecured commercial loan, and a $201,000
commercial loan secured by commercial real estate. The $9,000 commercial loan
was 30 days delinquent and the $201,000 loan was more than 90 days delinquent
and on non-accrual status at March 31, 2004.
At March 31, 2004, repossessed assets had an outstanding carrying value
of $51,000 and consisted of four automobiles.
Provision for Losses on Loans and Repossessed Assets. Security Federal
recognizes that credit losses will be experienced during the course of making
loans 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 and, in the case of a secured loan, the quality of the underlying
security for the loan.
11
The Bank seeks to establish and maintain sufficient reserves for
estimated losses on specifically identified loans and real estate where such
losses can be estimated. Additionally, general reserves for estimated
possible losses are established on specified portions of the Bank's portfolio
such as consumer loans and higher risk residential construction mortgage loans
based on management's estimate of the potential loss for loans which normally
can be classified as higher risk. Specific and general reserves are based on,
among other criteria (1) the risk characteristics of the loan portfolio, (2)
current economic conditions on a local as well as a statewide basis, (3)
actual losses experienced historically and (4) the level of reserves for
possible losses in the future. Additionally, a reserve is maintained for
uncollected interest on loans 90 days or more past due.
At March 31, 2004, total reserves relating to loans were $5.8 million.
In determining the adequacy of the reserve for loan losses, management reviews
past experience of loan charge-offs, the level of past due and non-accrual
loans, the size and mix of the portfolio, general economic conditions in the
market area, and individual loans to identify potential credit problems.
Commercial business, commercial real estate and consumer loans have increased
to $166.8 million, or 59.9% of the Bank's total loan portfolio at March 31,
2004, and it is anticipated there will be a continued emphasis on this type of
credit. Although commercial business and consumer loans carry a higher level
of credit risk than conventional residential mortgage loans, the level of
reserves reflects management's continuing evaluation of this risk based on
upon the Bank's past loss experience. At fiscal year end, the Bank's ratio of
loans delinquent more than 60 days to total assets was 0.43%. These
delinquent loans are considered to be well secured and are in the process of
collection. Management uses four methods or calculations to estimate the
adequacy of the reserve using the factors mentioned above. The reserve is
management's best estimate for the reserve. There can be no guarantee that
the estimate is adequate or accurate. Management believes that reserves for
loan losses are at a level adequate to provide for inherent loan losses.
Although management believes that it has considered all relevant factors in
its estimation of future losses, future adjustments to reserves may be
necessary if conditions change substantially from the assumptions used in
making the original estimations. Regulators will from time to time evaluate
the allowance for loan losses which are subject to adjustments based upon the
information available to the regulators at the time of their examinations.
Management believes the Bank has no undue concentration of loans in any
one particular industry. At March 31, 2004, the Bank had no allowance for
losses on real estate owned.
The following table sets forth an analysis of the Bank's allowance for
loan losses.
March 31,
---------------------------------------------
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
(Dollars in Thousands)
Balance at beginning of year $4,911 $3,689 $2,784 $2,121 $1,715
Provision charged to
operations 1,200 1,800 1,525 925 750
Charge-offs:
Residential real estate 38 17 5 4 --
Commercial business and
commercial real estate 164 299 229 86 114
Consumer 467 594 584 240 269
------ ------ ------ ------ ------
Total charge-offs 669 910 818 330 383
------ ------ ------ ------ ------
Recoveries:
Residential real estate -- -- 6 17 --
Commercial business 16 40 41 4 1
Consumer 306 292 151 47 38
------ ------ ------ ------ ------
Total recoveries 322 332 198 68 39
------ ------ ------ ------ ------
Balance at end of year $5,764 $4,911 $3,689 $2,784 $2,121
====== ====== ====== ====== ======
Ratio of net charge-offs
during the year to average
loans outstanding during
the year 0.14% 0.24% 0.26% 0.12% 0.20%
====== ====== ====== ====== ======
12
The distribution of the Bank's allowance for loan losses at the dates indicated is summarized in the
following table. The entire allowance is available to absorb losses from all loan categories.
At March 31,
----------------------------------------------------------------------------------------
2004 2003 2002 2001 2000
---------------- ---------------- ---------------- ---------------- ----------------
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
(Dollars in Thousands)
Residential $ 500 40.1% $ 473 40.3% $ 435 41.0% $ 374 50.6% $ 258 48.9%
Consumer 2,632 16.4 2,219 18.1 1,405 20.0 1,205 18.9 870 20.5
Commercial business
and commercial
real estate 2,632 43.5 2,219 41.6 1,849 39.0 1,205 30.5 993 30.6
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
Total $5,764 100.0% $4,911 100.0% $3,689 100.0% $2,784 100.0% $2,121 100.0%
====== ===== ====== ===== ====== ===== ====== ===== ====== =====
Service Corporation
- -------------------
As a federally chartered savings bank, Security Federal is permitted by
OTS regulations to invest up to 3% of its assets in the stock of service
corporations. Provided that any investment in excess of 2% of its assets must
be primarily for community, inner-city or community development purposes. At
March 31, 2004, Security Federal's net investment in its service corporations
(including loans to service corporations) totaled $750,000. In addition to
investments in service corporations, federal institutions are permitted to
invest an unlimited amount in operating subsidiaries engaged solely in
activities which a federal savings bank may engage in directly.
Security Federal Insurance, Inc. ("SFINS"), Security Federal Investments,
Inc. ("SFINV") and Security Federal Trust, Inc. ("SFT"). SFINS, SFINV AND
SFT, wholly owned subsidiaries of the Bank, were formed during fiscal 2002 and
began operating during the December 2001 quarter. SFINS is an insurance
agency offering business, health, home and life insurance. SFINV offers
mutual funds, annuities and discount brokerage services. SFT offers a full
range of trust and financial planning services. The operations of SFINS,
SFINV and SFT are included in the Company's Consolidated Financial Statements.
Security Financial Services Corporation ("SFSC"). SFSC was incorporated
in 1975 as a wholly owned subsidiary of the Bank. Its primary activity was
investment brokerage services. SFSC is currently inactive.
Real Estate Partnership. The Company has developed real estate through
two real estate partnerships which it purchased from SFSC at market value in
December 1995. Each project was designed primarily to develop and sell
residential lots in and around the Bank's primary lending area. One project
was completed during fiscal 1998 and the other project was completed during
fiscal 2001. The Company had no investment in the remaining project at March
31, 2004. The Company has no current plans for additional real estate
ventures.
Investment Activities
- ---------------------
Investment securities. The Bank has authority to invest in various types
of liquid assets, including U.S. Treasury obligations and securities of
various federal agencies, certificates of deposit at insured institutions,
bankers' acceptances and federal funds.
The Bank may also invest a portion of its assets in certain commercial
paper and corporate debt securities. The Bank is also authorized to invest in
mutual funds whose assets conform to the investments that a federal thrift
institution is authorized to make directly. There are various restrictions on
the foregoing investments. For example, the commercial paper must be
appropriately rated by at least two nationally recognized investment rating
services and the corporate debt securities must be appropriately rated by at
least one such service. In addition, the average maturity of an institution's
portfolio of corporate debt securities may not, at any one time, exceed six
years, and the commercial paper must mature within nine months of issuance.
Moreover, an institution's total investment in the commercial paper and
corporate debt securities of any one issuer may not exceed 1% of the
institution's assets except that an institution may invest 5% of its assets in
the shares of any appropriate mutual fund. See "Regulation - Federal
Regulation of Savings Associations."
13
As a member of the Federal Home Loan Bank ("FHLB") System, Security
Federal must maintain minimum levels of investments that are liquid assets as
defined in Federal regulations. See "Regulation - Federal Regulation of
Savings Associations - Federal Home Loan Bank System." Liquidity may increase
or decrease depending upon the availability of funds and comparative yields on
investments in relation to the return on loans.
Historically, the Bank has maintained its liquid assets above the minimum
requirements imposed by the OTS regulations and at a level believed adequate
to meet requirements of normal daily activities, repayment of maturing debt
and potential deposit outflows. Cash flow projections are regularly reviewed
and updated to assure that adequate liquidity is provided.
The following table sets forth the composition of the Company's portfolio
of securities and other investments, not including mortgage-backed securities.
At March 31,
---------------------------
2004 2003 2002
------- ------- -------
(In Thousands)
Interest bearing deposit at FHLB $ 303 $ 339 $ 5,205
------- ------- -------
Total $ 303 $ 339 $ 5,205
======= ======= =======
Investment Securities:
Available for sale:
FHLB securities $14,280 $47,794 $50,829
Federal Farm Credit Bank securities 2,042 5,129 8,526
Freddie Mac bonds 578 816 2,002
------- ------- -------
Total securities available for sale 16,900 53,739 61,357
------- ------- -------
Held to Maturity:
FHLB securities 57,944 18,990 --
Fannie Mae securities -- 30 163
Federal Farm Credit securities 13,010 2,006 -
------- ------- -------
Total securities held to maturity 70,954 21,026 163
------- ------- -------
Total securities (1) 87,854 74,765 61,520
FHLB stock 4,817 2,859 2,669
------- ------- -------
Total securities and FHLB stock (1) $92,671 $77,624 $64,189
======= ======= =======
- --------------
(1) Does not include mortgage-backed securities.
At March 31, 2004, the Company did not have any investment securities
(exclusive of obligations of the U.S. Government and federal agencies) issued
by any one entity with a total book value in excess of 10% of stockholders'
equity.
14
The following table sets forth the maturities or repricing of investment securities and FHLB stock at
March 31, 2004, and the weighted average yields of such securities and FHLB stock (calculated on the basis
of the cost and effective yields weighted for the scheduled maturity of each security). Callable securities
are shown at their likely call dates based on current interest rates. The table was prepared using
amortized cost.
Maturing or Repricing
---------------------------------------------------------------------------
After One But After Five But
Within One Year Within Five Years Within Ten Years After Ten Years
--------------- ----------------- ---------------- ---------------
Amount Yield Amount Yield Amount Yield Amount Yield
------ ----- ------ ----- ------ ----- ------ -----
(Dollars in Thousands)
U.S. Government and other
agency obligations $42,578 3.45% $42,951 3.47% $2,029 3.64% $ -- --%
FHLB stock (1) - -- 4,817 3.50 -- -- -- --
Total $42,578 3.45% $47,768 3.47% $2,029 3.64% $ -- --%
- -----------
(1) FHLB stock has no stated maturity date.
For information regarding the market value of the Bank's securities
portfolios, see Notes 3 and 4 of the Notes to Consolidated Financial
Statements contained in the Annual Report.
Mortgage-backed securities. Security Federal has a portfolio of
mortgage-backed securities which it holds in both an available for sale and a
held to maturity portfolio. Such mortgage-backed securities can serve as
collateral for borrowings and, through repayments, as a source of liquidity.
Under the Bank's risk-based capital requirement, mortgage-backed securities
have a risk weight of 20% (or 0% in the case of Government National Mortgage
Association ("Ginnie Mae") securities) in contrast to the 50% risk weight
carried by residential loans. See "Regulation."
The Bank had $18.8 million, $16.8 million and $14.5 million of
mortgage-backed securities issued by Freddie Mac at March 31, 2004, 2003 and
2002, respectively. The Bank had $91.5 million in mortgage-backed securities
issued by Fannie Mae and $47.6 million issued by Ginnie Mae at March 31, 2004,
compared to $57.8 million in mortgage-backed securities issued by Fannie Mae
and $32.8 million issued by Ginnie Mae at March 31, 2003, and $28.2 million in
mortgage-backed securities issued by Fannie Mae and $14.7 million issued by
Ginnie Mae at March 31, 2002.
At March 31,
---------------------------------
2004 2003 2002
-------- -------- -------
(In thousands)
Available for Sale:
Freddie Mac $ 18,452 $ 15,810 $13,099
Fannie Mae 91,494 57,794 28,239
Ginnie Mae 47,566 32,808 14,667
-------- -------- -------
Total $157,512 $106,412 $56,005
======== ======== =======
The following table sets forth the composition of the mortgage-backed
securities held to maturity portfolio at the dates indicated.
At March 31,
------------------------------------
2004 2003 2002
---------- ---------- ----------
Book Value Book Value Book Value
---------- ---------- ----------
(In Thousands)
Held to Maturity:
Freddie Mac $350 $941 $1,373
==== ==== ======
15
At March 31, 2004, the Company did not have any mortgage-backed
securities (exclusive of obligations of agencies of the U.S. Government)
issued by any one entity with a total book value in excess of 10% of
stockholders equity.
For information regarding the market values of Security Federal's
mortgage-backed securities portfolio, see Notes 3 and 4 of the Notes to
Consolidated Financial Statements contained in the Annual Report.
The following table sets forth the final maturities or initial
repricings, whichever occurs first, and the weighted average yields of the
mortgage-backed securities at March 31, 2004. Not considered in the
preparation of the table below is the effect of scheduled payments or
anticipated prepayments. The table is prepared using amortized cost.
The Earliest of Maturing or Repricing March 31, 2004
----------------------------------------------------------------- --------------
Less Than 1 to 5 5 to 10 Over Balance
1 Year Years Years Ten Years Outstanding
-------------- -------------- -------------- -------------- --------------
Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield
------ ----- ------ ----- ------ ----- ------ ----- ------ -----
(Dollars in Thousands)
Fannie Mae $ 6,187 3.80% $40,681 3.80% $34,007 3.96% $10,012 4.45% $ 90,887 3.93%
Freddie Mac -- -- 4,723 4.48 9,321 3.97 4,525 5.04 18,569 4.36
Ginnie Mae 40,957 3.08 4,517 3.80 1,221 5.97 895 6.65 47,590 3.29
------- ---- ------- ---- ------- ---- ------- ---- -------- ----
Total $47,144 3.17% $49,921 3.86% $44,549 4.02% $15,432 4.75% $157,046 3.79%
======= ==== ======= ==== ======= ==== ======= ==== ======== ====
Sources of Funds
- ----------------
Deposit accounts have traditionally been a principal source of the Bank's
funds for use in lending and for other general business purposes. In addition
to deposits, the Bank derives funds from loan repayments, cash flows generated
from operations (including interest credited to deposit accounts), FHLB of
Atlanta advances, the sale of securities under agreements to repurchase, and
loan sales. Scheduled loan payments are a relatively stable source of funds
while deposit inflows and outflows and the related cost of such funds have
varied widely. FHLB of Atlanta advances and the sale of securities under
agreements to repurchase may be used on a short-term basis to compensate for
seasonal reductions in deposits or deposit inflows at less than projected
levels and may be used on a longer term basis in support of expanded lending
activities. The availability of funds from loan sales is influenced by
general interest rates. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations" contained in the Annual Report.
Deposits. The Bank attracts both short-term and long-term deposits from
the general public by offering a wide assortment of account types and rates.
In recent years, market conditions have required the Bank to rely increasingly
on short-term accounts and other deposit alternatives that are more responsive
to market interest rates than the savings accounts and regulated fixed
interest rate, fixed-term certificates that were the Bank's primary source of
deposits before 1978. The Bank offers regular savings accounts, checking
accounts, various money market accounts, fixed interest rate certificates with
varying maturities, negotiated rate $100,000 or above jumbo certificates of
deposit ("Jumbo CDs") and individual retirement accounts.
At March 31, 2004, the Bank had no brokered deposits. In addition, the
Bank believes that, based on its experience over the past several years, its
savings and transaction accounts are stable sources of deposits.
16
The following table sets forth the dollar amount of savings deposits in
the various types of deposit programs for the periods indicated.
At March 31,
---------------------------------------------------------
2003 2003 2002
----------------- ----------------- -----------------
Percent Percent Percent
Amount of Total Amount of Total Amount of Total
------ -------- ------ -------- ------ --------
(Dollars in Thousands)
Interest Rate Range
- -------------------
for 2004:
---------
Savings accounts
0 % - 1.50% $ 17,367 4.5% $ 16,455 4.6% $ 15,107 4.9%
NOW and other
transaction
accounts 0% -
1.74% 80,739 20.7 82,522 23.0 71,907 23.2
Money market
funds 1.00% -
2.03% 158,587 40.7 102,397 28.6 74,075 24.0
-------- ----- -------- ----- -------- -----
Total non-
certificates $256,693 65.9% $201,374 56.2% $161,089 52.1%
======== ===== ======== ===== ======== =====
Certificates:
- -------------
0.00-4.99% $122,599 31.5% $144,635 40.3% $127,068 41.1%
5.00-6.99% 10,301 2.6 12,437 3.5 19,982 6.5
7.00-8.99% -- -- 28 -- 899 0.3
-------- ----- -------- ----- -------- -----
Total
certificates 132,900 34.1 157,100 43.8 147,949 47.9
-------- ----- -------- ----- -------- -----
Total deposits $389,593 100.0% $358,474 100.0% $309,038 100.0%
======== ===== ======== ===== ======== =====
The Bank relies to a limited extent upon locally obtained Jumbo CDs to
maintain its deposit levels. At March 31, 2004, Jumbo CDs constituted 12.1%
of the Bank's total deposits. Security Federal has not relied heavily on
Jumbo CDs to manage interest rate sensitivity.
The following table sets forth the deposit flows at the Bank during the
periods indicated.
Years Ended March 31,
--------------------------------
2004 2003 2002
-------- -------- --------
(Dollars in Thousands)
Opening balance $358,474 $309,038 $257,410
Net deposits 24,339 41,747 41,645
Interest credited 6,780 7,689 9,983
-------- -------- --------
Ending balance 389,593 358,474 309,038
-------- -------- --------
Net increase (decrease) 31,119 49,436 $ 51,628
======== ======== ========
Percent increase (decrease) 8.7% 16.0% 20.1%
======== ======== ========
17
The following table shows rate and maturity information for the Bank's
certificates of deposit as of March 31, 2004.
Less than 2.00- 3.00- 4.00- 5.00- 6.00-
2.00% 2.99% 3.99% 4.99% 5.99% 6.99% Total
--------- ----- ----- ----- ----- ----- -------
(In Thousands)
Certificate
accounts
maturing in
quarter ending:
June 30, 2004 $30,289 $ 3,945 $ 454 $ 105 $ 97 $ -- $ 34,890
September 30,
2004 30,583 3,446 983 663 76 -- 35,751
December 31,
2004 10,076 1,306 727 12 35 -- 12,156
March 31, 2005 4,771 1,540 155 259 26 84 6,835
June 30, 2005 1,816 2,106 35 466 1 3 4,427
September 30,
2005 1,061 1,755 410 189 14 -- 3,429
December 31,
2005 616 272 325 65 8 -- 1,286
March 31, 2006 200 95 98 27 184 -- 604
June 30, 2006 29 300 -- 367 -- -- 696
September 30,
2006 -- 9,510 143 353 18 -- 10,024
December 31,
2006 -- 39 112 1,573 -- -- 1,724
Thereafter - 1,196 4,962 5,165 9,755 -- 21,078
------- ------- ------ ------ ------- ---- --------
Total $79,441 $25,510 $8,404 $9,244 $10,214 $ 87 $132,900
======= ======= ====== ====== ======= ==== ========
The following table indicates the amount of the Bank's deposits of
$100,000 or more by time remaining until maturity at March 31, 2004.
Savings, NOW and
Certificates of Deposit Money Market Accounts
----------------------- ---------------------
(In Thousands)
Maturity Period
- ---------------
Three months or less $ 9,803 $125,752
Over three through six months 14,513 -
Over six through twelve months 7,015 -
Over twelve months 15,711 -
------- --------
Total $47,042 $125,752
======= ========
Borrowings
- ----------
As a member of the FHLB of Atlanta, the Bank is required to own capital
stock in the FHLB of Atlanta and is authorized to apply for advances from the
FHLB of Atlanta. Each FHLB credit program has its own interest rate, which
may be fixed or variable, and range of maturities. The FHLB of Atlanta may
prescribe the acceptable uses to which these advances may be put, as well as
limitations on the size of the advances and repayment provisions. See Note 7
of the Notes to Consolidated Financial Statements contained in the Annual
Report for disclosure regarding the maturities and rate structure of the
Bank's FHLB advances. Federal law contains certain collateral requirements
for FHLB advances. See "Regulation - Federal Regulation of Savings
Associations - Federal Home Loan Bank System."
At March 31, 2004, the Bank had $5.5 million in retail repurchase
agreements with an average rate of 0.93%. These repurchase agreements are
included in "Other Borrowings" in the consolidated financial statements and
the following table.
18
The following table sets forth the maximum month-end balance and average
balance of FHLB advances and other borrowings at the dates indicated.
Years Ended March 31,
-------------------------------
2004 2003 2002
-------- -------- --------
(In Thousands)
Maximum Balance:
FHLB advances $103,886 $57,472 $43,058
Other borrowings 6,213 6,735 6,169
Average Balance:
FHLB advances $ 72,995 $42,123 $35,351
Other borrowings 5,361 5,663 4,187
The following table sets forth information as to the Bank's borrowings
and the weighted average interest rates thereon at the dates indicated.
Years Ended March 31,
-------------------------------
2004 2003 2002
-------- -------- --------
(Dollars in Thousands)
Balance:
FHLB advances $96,336 $49,772 $33,108
Other borrowings 5,477 4,193 6,169
Weighted Average Interest Rate:
At Fiscal Year End:
FHLB advances 3.59% 4.50% 6.09%
Other borrowings 0.93 1.17 1.73
During Fiscal Year:
FHLB advances 3.87% 5.31% 5.98%
Other borrowings 0.97 1.57 2.75
Competition
- -----------
The Bank serves the counties of Aiken and Lexington, South Carolina
through its eleven branch offices located in Aiken, Denmark, North Augusta,
Graniteville, Langley, Clearwater, Wagener, and West Columbia, South Carolina.
On October 21, 1993, the Bank expanded its market area through the acquisition
of four branch offices of NationsBank of South Carolina, N.A. The branches are
located in Langley, Graniteville, Clearwater and Wagener, Aiken County, South
Carolina. In December 2000, the Bank opened its West Columbia office and in
August 2003, opened a branch in Lexington, South Carolina.
Security Federal faces strong competition both in originating loans and
in attracting deposits. Competition in originating loans comes primarily from
other thrift institutions, commercial banks, mortgage bankers and credit
unions who also make loans in the Bank's market area. The Bank competes for
loans principally on the basis of the interest rates and loan fees it charges,
the types of loans it makes and the quality of services it provides to
borrowers.
The Bank faces substantial competition in attracting deposits from other
thrift institutions, commercial banks, money market and mutual funds, credit
unions and other investment vehicles. The ability of the Bank to attract and
retain deposits depends on its ability to provide an investment opportunity
that satisfies the requirements of investors as to rate of return, liquidity,
risk and other factors. The Bank attracts a significant amount of deposits
through its branch offices primarily from the communities in which those
branch offices are located. Therefore, competition for those deposits is
principally from other thrift institutions and commercial banks located in the
same communities. The Bank competes
19
for these deposits by offering a variety of deposit accounts at competitive
rates, convenient business hours, and convenient branch locations with
interbranch deposit and withdrawal privileges at each.
The authority to offer money market deposits, and expanded lending and
other powers authorized for thrift institutions by federal law, have resulted
in increased competition for both deposits and loans between thrift
institutions and other financial institutions such as commercial banks and
credit unions.
REGULATION
General
- -------
The Bank, as a federally-chartered savings institution, is subject to
federal regulation and oversight by the OTS extending to all aspects of its
operations. The Bank also is subject to regulation and examination by the
Federal Deposit Insurance Corporation ("FDIC"), which insures the deposits of
the Bank to the maximum extent permitted by law, and requirements established
by the Federal Reserve Board. Federally-chartered savings institutions are
required to file periodic reports with the OTS and are subject to periodic
examinations by the OTS and the FDIC. The investment and lending authority of
savings institutions are prescribed by federal laws and regulations, and these
institutions are prohibited from engaging in any activities not permitted by
the laws and regulations. This regulation and supervision primarily is
intended for the protection of depositors and not for the purpose of
protecting shareholders.
The OTS regularly examines the Bank and prepares reports for the
consideration of the Bank's Board of Directors on any deficiencies that it may
find in the Bank's operations. The FDIC also has the authority to examine the
Bank in its roles as the administrator of the Savings Association Insurance
Fund ("SAIF"). The Bank's relationship with its depositors and borrowers also
is regulated to a great extent by both federal and state laws, especially in
matters such as the ownership of savings accounts and the form and content of
the Bank's mortgage requirements. Any change in these regulations, whether by
the FDIC, the OTS or Congress, could have a material adverse impact on the
Company, the Bank and their operations.
Federal Regulation of Savings Institutions
- ------------------------------------------
Office of Thrift Supervision. The OTS has extensive authority over the
operations of savings institutions. As part of this authority, the Bank is
required to file periodic reports with the OTS and is subject to periodic
examinations by the OTS and the FDIC. When these examinations are conducted
by the OTS and the FDIC, the examiners may require the Bank to provide for
higher general or specific loan loss reserves. All savings institutions are
subject to a semi-annual assessment, based upon the institution's total
assets, to fund the operations of the OTS. The OTS also has extensive
enforcement authority over all savings institutions and their holding
companies, including the Bank and the Company. This enforcement authority
includes, among other things, the ability to assess civil money penalties,
issue cease-and-desist or removal orders and initiate injunctive actions. In
general, these enforcement actions may be initiated for violations of laws and
regulations and unsafe or unsound practices. Other actions or inactions may
provide the basis for enforcement action, including misleading or untimely
reports filed with the OTS. Except under certain circumstances, public
disclosure of final enforcement actions by the OTS is required.
In addition, the investment, lending and branching authority of the Bank
is prescribed by federal laws and it is prohibited from engaging in any
activities not permitted by these laws. For example, no savings institution
may invest in non-investment grade corporate debt securities. In addition,
the permissible level of investment by federal institutions in loans secured
by non-residential real property may not exceed 400% of total capital, except
with approval of the OTS. Federal savings institutions are also generally
authorized to branch nationwide. The Bank is in compliance with the noted
restrictions.
All savings institutions are required to pay assessments to the OTS to
fund the agency's operations. The general assessments, paid on a semi-annual
basis, are determined based on the savings institution's total assets,
including consolidated subsidiaries. The Bank's OTS assessment for the fiscal
year ended March 31, 2004 was $99,000.
20
Federal Home Loan Bank System. The Bank is a member of the FHLB of
Atlanta, which is one of 12 regional FHLBs that administer the home financing
credit function of savings institutions. Each FHLB serves as a reserve or
central bank for its members within its assigned region. It is funded
primarily from proceeds derived from the sale of consolidated obligations of
the FHLB System. It makes loans or advances to members in accordance with
policies and procedures, established by the Board of Directors of the FHLB,
which are subject to the oversight of the Federal Housing Finance Board. All
advances from the FHLB are required to be fully secured by sufficient
collateral as determined by the FHLB. In addition, all long-term advances are
required to provide funds for residential home financing.
As a member, the Bank is required to purchase and maintain stock in the
FHLB of Atlanta. At March 31, 2004, the Bank had $4.8 million in FHLB stock,
which was in compliance with this requirement. In past years, the Bank has
received substantial dividends on its FHLB stock. Over the past two fiscal
years such dividends have averaged 3.56% and were 4.28% for the fiscal year
ended March 31, 2004.
Under federal law, the FHLBs are required to provide funds for the
resolution of troubled savings institutions and to contribute to low- and
moderately-priced housing programs through direct loans or interest subsidies
on advances targeted for community investment and low- and moderate-income
housing projects. These contributions have affected adversely the level of
FHLB dividends paid and could continue to do so in the future. These
contributions could also have an adverse effect on the value of FHLB stock in
the future. A reduction in value of the Bank's FHLB stock may result in a
corresponding reduction in the Bank's capital.
Federal Deposit Insurance Corporation. The FDIC is an independent
federal agency established originally to insure the deposits, up to prescribed
statutory limits, of federally-insured banks and to preserve the safety and
soundness of the banking industry. The FDIC maintains two separate insurance
funds: the Bank Insurance Fund ("BIF") and the SAIF. The Bank is a member of
the SAIF, which is administered by the FDIC. Deposits are insured up to the
applicable limits by the FDIC and this insurance is backed by the full faith
and credit of the United States government.
As insurer, the FDIC imposes deposit insurance premiums and is authorized
to conduct examinations of and to require reporting by FDIC-insured
institutions. It also may prohibit any FDIC-insured institution from engaging
in any activity the FDIC determines by regulation or order to pose a serious
risk to the SAIF or the BIF. The FDIC also has the authority to initiate
enforcement actions against savings institutions, after giving the OTS an
opportunity to take such action, and may terminate the deposit insurance if it
determines that the institution has engaged in unsafe or unsound practices or
is in an unsafe or unsound condition.
The FDIC's deposit insurance premiums are assessed through a risk-based
system under which all insured depository institutions are placed into one of
nine categories and assessed insurance premiums based upon their level of
capital and supervisory evaluation. Under the system, institutions classified
as well capitalized (i.e., a core capital ratio of at least 5%, a ratio of
Tier 1, or core capital, to risk-weighted assets ("Tier 1 risk-based capital")
of at least 6% and a risk-based capital ratio of at least 10%) and considered
healthy pay the lowest premium while institutions that are less than
adequately capitalized (i.e., core or Tier 1 risk-based capital ratios of less
than 4% or a risk-based capital ratio of less than 8%) and considered of
substantial supervisory concern pay the highest premium. The FDIC makes risk
classifications of all insured institutions for each semi-annual assessment
period.
The FDIC is authorized to increase assessment rates, on a semi-annual
basis, if it determines that the reserve ratio of the SAIF will be less than
the designated reserve ratio of 1.25% of SAIF insured deposits. In setting
these increased assessments, the FDIC must seek to restore the reserve ratio
to that designated reserve level, or such higher reserve ratio as established
by the FDIC. The FDIC may also impose special assessments on SAIF members to
repay amounts borrowed from the United States Treasury or for any other reason
deemed necessary by the FDIC.
Since January 1, 1997, the premium schedule for BIF and SAIF insured
institutions has ranged from 0 to 27 basis points. However, SAIF- and
BIF-insured institutions are required to pay a Financing Corporation
assessment in order to fund the interest on bonds issued to resolve thrift
failures in the 1980s equal to approximately 1.50 points for each $100 in
domestic deposits annually. These assessments, which may be revised based
upon the level of BIF and SAIF deposits, will continue until the bonds mature.
21
Under the Federal Deposit Insurance Act ("FDIA"), the FDIC may terminate
deposit insurance upon a finding that the institution has engaged in unsafe or
unsound practices, is in an unsafe or unsound condition to continue operations
or has violated any applicable law, regulation, rule, order or condition
imposed by the FDIC or the OTS. Management of the Bank does not know of any
practice, condition or violation that might lead to termination of deposit
insurance.
Prompt Corrective Action. The OTS is required to take certain
supervisory actions against undercapitalized savings institutions, the
severity of which depends upon the institution's degree of
undercapitalization. Generally, an institution that has a ratio of total
capital to risk-weighted assets of less than 8%, a ratio of Tier I (core)
capital to risk-weighted assets of less than 4%, or a ratio of core capital to
total assets of less than 4% (3% or less for institutions with the highest
examination rating) is considered to be "undercapitalized." An institution
that has a total risk-based capital ratio less than 6%, a Tier I capital ratio
of less than 3% or a leverage ratio that is less than 3% is considered to be
"significantly undercapitalized" and an institution that has a tangible
capital to assets ratio equal to or less than 2% is deemed to be "critically
undercapitalized." Subject to a narrow exception, the OTS is required to
appoint a receiver or conservator for a savings institution that is
"critically undercapitalized."
An institution that has a total risk-based capital ratio less than 6%, a
Tier I capital ratio of less than 3% or a leverage ratio that is less than 3%
is considered to be "significantly undercapitalized" and an institution that
has a tangible capital to assets ratio equal to or less than 2% is deemed to
be "critically undercapitalized." Subject to a narrow exception, the OTS is
required to appoint a receiver or conservator for a savings institution that
is "critically undercapitalized." OTS regulations also require that a capital
restoration plan be filed with the OTS within 45 days of the date a savings
institution receives notice that it is "undercapitalized," "significantly
undercapitalized" or "critically undercapitalized." Compliance with the plan
must be guaranteed by any parent holding company in an amount of up to the
lesser of 5% of the institution's assets or the amount which would bring the
institution into compliance with all capital standards. In addition, numerous
mandatory supervisory actions become immediately applicable to an
undercapitalized institution, including, but not limited to, increased
monitoring by regulators and restrictions on growth, capital distributions and
expansion. The OTS also could take any one of a number of discretionary
supervisory actions, including the issuance of a capital directive and the
replacement of senior executive officers and directors.
At March 31, 2004, the Bank was categorized as "well capitalized" under
the prompt corrective action regulations of the OTS.
Standards for Safety and Soundness. The federal banking regulatory
agencies have prescribed, by regulation, standards for all insured depository
institutions relating to: (i) internal controls, information systems and
internal audit systems; (ii) loan documentation; (iii) credit underwriting;
(iv) interest rate risk exposure; (v) asset growth; (vi) asset quality; (vii)
earnings; and (viii) compensation, fees and benefits ("Guidelines"). The
Guidelines set forth the safety and soundness standards that the federal
banking agencies use to identify and address problems at insured depository
institutions before capital becomes impaired. If the OTS determines that the
Bank fails to meet any standard prescribed by the Guidelines, the OTS may
require the Bank to submit to the OTS an acceptable plan to achieve compliance
with the standard. OTS regulations establish deadlines for the submission and
review of such safety and soundness compliance plans. Management is aware of
no conditions relating to these safety and soundness standards which would
require submission of a plan of compliance.
Qualified Thrift Lender Test. All savings institutions, including the
Bank, are required to meet a qualified thrift lender ("QTL") test to avoid
certain restrictions on their operations. This test requires a savings
institution to have at least 65% of its total assets less (i) specified liquid
assets up to 20% of total assets, (ii) intangibles, including goodwill and
(iii) the value of property used to conduct business in certain "qualified
thrift investments" in at least nine out of each 12 month period on a rolling
basis. As an alternative, the savings institution may maintain 60% of its
assets in those assets specified in Section 7701(a)(19) of the Internal
Revenue Code ("Code"). Under either test, such assets primarily consist of
residential housing related loans and investments. At March 31, 2004, the
Bank met the test and its QTL percentage was 95%.
Any savings institution that fails to meet the QTL test must convert to a
national bank charter, unless it requalifies as a QTL and thereafter remains a
QTL. If an institution does not requalify and converts to a national bank
22
charter, it must remain SAIF-insured until the FDIC permits it to transfer to
the BIF. If such an institution has not yet requalified or converted to a
national bank, its new investments and activities are limited to those
permissible for both a savings institution and a national bank, and it is
limited to national bank branching rights in its home state. In addition, the
institution is subject to national bank limits for payment of dividends. If
such institution has not requalified or converted to a national bank within
three years after the failure to meet the QTL test, it must divest of all
investments and cease all activities not permissible for a national bank. In
addition, it must repay promptly any outstanding FHLB borrowings, which may
result in prepayment penalties. If any institution that fails the QTL test is
controlled by a holding company, then within one year after the failure, the
holding company must register as a bank holding company and become subject to
all restrictions on bank holding companies. See " -Savings and Loan Holding
Company Regulations."
Capital Requirements. Federally-insured savings institutions, such as the
Bank, are required to maintain a minimum level of regulatory capital. The OTS
has established capital standards, including a tangible capital requirement, a
leverage ratio (or core capital) requirement and a risk-based capital
requirement applicable to such savings institutions. These capital
requirements must be generally as stringent as the comparable capital
requirements for national banks. The OTS is also authorized to impose capital
requirements in excess of these standards on individual institutions on a
case-by-case basis.
The capital regulations require tangible capital of at least 1.5% of
adjusted total assets (as defined by regulation). At March 31, 2004, the Bank
had tangible capital of $32.1 million, or 6.1% of adjusted total assets, which
is approximately $21.6 million above the minimum requirement of 1.5% of
adjusted total assets in effect on that date. At March 31, 2004, the Bank did
not have any core deposit intangible or servicing assets.
The capital standards also require core capital equal to at least 3% to
4% of adjusted total assets, depending on an institution's supervisory rating.
Core capital generally consists of tangible capital. At March 31, 2004, the
Bank had core capital equal to $32.1 million, or 6.1% of adjusted total
assets, which is $11.0 million above the minimum leverage ratio requirement of
4% as in effect on that date.
The OTS also requires savings institutions to have core capital equal to
4% of risk-weighted assets ("Tier 1 risk-based"). At March 31, 2004, the Bank
had Tier 1 risk-based capital of $32.1 million or 11.8% of risk-weighted
assets, which is approximately $21.2 million above the minimum on that date.
The OTS risk-based requirement requires savings institutions to have total
capital of at least 8% of risk-weighted assets. Total capital consists of
core capital, as defined above, and supplementary capital. Supplementary
capital consists of certain permanent and maturing capital instruments that do
not qualify as core capital and general valuation loan and lease loss
allowances up to a maximum of 1.25% of risk-weighted assets. Supplementary
capital may be used to satisfy the risk-based requirement only to the extent
of core capital. The OTS is also authorized to require a savings institution
to maintain an additional amount of total capital to account for concentration
of credit risk and the risk of non-traditional activities.
In determining the amount of risk-weighted assets, all assets, including
certain off-balance sheet items, are multiplied by a risk weight, ranging from
0% to 100%, based on the risk inherent in the type of asset. For example, the
OTS has assigned a risk weight of 50% for prudently underwritten permanent
one- to- four family first lien mortgage loans not more than 90 days
delinquent and having a loan-to-value ratio of not more than 80% at
origination unless insured to such ratio by an insurer approved by Fannie Mae
or Freddie Mac.
On March 31, 2004, the Bank had total risk-based capital of approximately
$35.5 million, including $32.1 million in core capital and $3.4 million in
qualifying supplementary capital, and risk-weighted assets of $272.9 million,
or total capital of 13.0% of risk-weighted assets. This amount was $13.7
million above the 8% requirement in effect on that date.
The OTS and the FDIC are authorized and, under certain circumstances,
required to take certain actions against savings institutions that fail to
meet their capital requirements. The OTS is generally required to take action
to restrict the activities of an "undercapitalized association", which is an
institution with less than either a 4.0% core capital ratio, a 4.0% Tier 1
risked-based capital ratio or an 8% risk-based capital ratio). Any such
institution must submit a capital restoration plan and until such plan is
approved by the OTS may not increase its assets, acquire another institution,
establish a branch or engage in any new activities, and generally may not make
capital distributions. The OTS is
23
authorized to impose the additional restrictions that are applicable to
significantly undercapitalized institutions. As a condition to the approval
of the capital restoration plan, any company controlling an undercapitalized
institution must agree that it will enter into a limited capital maintenance
guarantee with respect to the institution's achievement of its capital
requirements.
Any savings institution that fails to comply with its capital plan or has
Tier 1 risk-based or core capital ratios of less than 3.0% or a risk-based
capital ratio of less than 6.0% and is considered "significantly
undercapitalized" will be made subject to one or more additional specified
actions and operating restrictions which may cover all aspects of its
operations and may include a forced merger or acquisition of the institution.
An institution that becomes "critically undercapitalized" because it has a
tangible capital ratio of 2.0% or less is subject to further mandatory
restrictions on its activities in addition to those applicable to
significantly undercapitalized institutions. In addition, the OTS must
appoint a receiver, or conservator with the concurrence of the FDIC, for a
savings institution, with certain limited exceptions, within 90 days after it
becomes critically undercapitalized. Any undercapitalized institution is also
subject to the general enforcement authority of the OTS and the FDIC,
including the appointment of a conservator or a receiver.
The OTS is also generally authorized to reclassify an institution into a
lower capital category and impose the restrictions applicable to such category
if the institution is engaged in unsafe or unsound practices or is in an
unsafe or unsound condition.
The imposition by the OTS or the FDIC of any of these measures on the
Bank may have a substantial adverse effect on its operations and
profitability.
Limitations on Capital Distributions. The OTS imposes various
restrictions on savings institutions with respect to their ability to make
distributions of capital, which include dividends, stock redemptions or
repurchases, cash-out mergers and other transactions charged to the capital
account. The OTS also prohibits a savings institution from declaring or
paying any dividends or from repurchasing any of its stock if, as a result of
such action, the regulatory capital of the institution would be reduced below
the amount required to be maintained for the liquidation account established
in connection with the institution's mutual to stock conversion.
The Bank may make a capital distribution without OTS approval provided
that the Bank notify the OTS 30 days before it declares the capital
distribution and that the following requirements are met: (i) the Bank has a
regulatory rating in one of the two top examination categories; (ii) the Bank
is not of supervisory concern, and will remain adequately or well capitalized,
as defined in the OTS prompt corrective action regulations, following the
proposed distribution; and (iii) the distribution does not exceed the Bank's
net income for the calendar year-to-date plus retained net income for the
previous two calendar years (less any dividends previously paid). If the Bank
does not meet these stated requirements, it must obtain the prior approval of
the OTS before declaring any proposed distributions.
If the Bank's capital falls below its regulatory requirements or the OTS
notifies it that it is in need of more than normal supervision, the Bank's
ability to make capital distributions will be restricted. In addition, no
distribution will be made if OTS notifies the Bank that a proposed capital
distribution would constitute an unsafe and unsound practice, which would
otherwise be permitted by the regulation.
Loans to One Borrower. Federal law provides that savings institutions are
generally subject to the national bank limit on loans to one borrower. A
savings institution may not make a loan or extend credit to a single or
related group of borrowers in excess of 15% of its unimpaired capital and
surplus. An additional amount may be lent, equal to 10% of unimpaired capital
and surplus, if secured by specified readily-marketable collateral. At March
31, 2004, the Bank's limit on loans to one borrower was $5.3 million. At
March 31, 2004, the Bank's largest single loan to one borrower was $4.5
million, which was performing according to its original terms.
Activities of Associations and Their Subsidiaries. When a savings
institution establishes or acquires a subsidiary or elects to conduct any new
activity through a subsidiary that the institution controls, the savings
institution must notify the FDIC and the OTS 30 days in advance and provide
the information each agency may, by regulation, require. Savings institutions
also must conduct the activities of subsidiaries in accordance with existing
regulations and orders.
24
The OTS may determine that the continuation by a savings institution of
its ownership control of, or its relationship to, the subsidiary constitutes a
serious risk to the safety, soundness or stability of the institution or is
inconsistent with sound banking practices or with the purposes of the FDIA.
Based upon that determination, the FDIC or the OTS has the authority to order
the savings institution to divest itself of control of the subsidiary. The
FDIC also may determine by regulation or order that any specific activity
poses a serious threat to the SAIF. If so, it may require that no SAIF member
engage in that activity directly.
Transactions with Affiliates. Savings institutions must comply with
Sections 23A and 23B of the Federal Reserve Act relative to transactions with
affiliates in the same manner and to the same extent as if the savings
institution were a Federal Reserve member bank. Generally, transactions
between a savings institution or its subsidiaries and its affiliates are
required to be on terms as favorable to the association as transactions with
non-affiliates. In addition, certain of these transactions, such as loans to
an affiliate, are restricted to a percentage of the institution's capital.
Affiliates of the Bank include the Company and any company which is under
common control with the Bank. In addition, a savings institution may not lend
to any affiliate engaged in activities not permissible for a bank holding
company or acquire the securities of most affiliates. The OTS has the
discretion to treat subsidiaries of savings institutions as affiliates on a
case by case basis.
On April 1, 2003, the Federal Reserve's Regulation W, which
comprehensively amends sections 23A and 23B of the Federal Reserve Act, became
effective. The Federal Reserve Act and Regulation W are applicable to savings
institutions such as the Bank. The Regulation unifies and updates staff
interpretations issued over the years, incorporates several new interpretative
proposals (such as to clarify when transactions with an unrelated third party
will be attributed to an affiliate) and addresses new issues arising as a
result of the expanded scope of nonbanking activities engaged in by banks and
bank holding companies in recent years and authorized for financial holding
companies under the Gramm-Leach-Bliley Financial Services Modernization Act of
1999.
Certain transactions with directors, officers or controlling persons are
also subject to conflict of interest regulations enforced by the OTS. These
conflict of interest regulations and other statutes also impose restrictions
on loans to such persons and their related interests. Among other things,
such loans must be made on terms substantially the same as for loans to
unaffiliated individuals.
Community Reinvestment Act. Under the Community Reinvestment Act, every
FDIC-insured institution has a continuing and affirmative obligation
consistent with safe and sound banking practices to help meet the credit needs
of its entire community, including low and moderate income neighborhoods. The
Community Reinvestment Act does not establish specific lending requirements or
programs for financial institutions nor does it limit an institution's
discretion to develop the types of products and services that it believes are
best suited to its particular community, consistent with the Community
Reinvestment Act. The Community Reinvestment Act requires the OTS, in
connection with the examination of the Bank, to assess the institution's
record of meeting the credit needs of its community and to take such record
into account in its evaluation of certain applications, such as a merger or
the establishment of a branch, by the Bank. An unsatisfactory rating may be
used as the basis for the denial of an application by the OTS. Due to the
heightened attention being given to the Community Reinvestment Act in the past
few years, the Bank may be required to devote additional funds for investment
and lending in its local community. The Bank was examined for Community
Reinvestment Act compliance and received a rating of satisfactory in its
latest examination.
Regulatory and Criminal Enforcement Provisions. The OTS has primary
enforcement responsibility over savings institutions and has the authority to
bring action against all "institution-affiliated parties," including
stockholders, and any attorneys, appraisers and accountants who knowingly or
recklessly participate in wrongful action likely to have an adverse effect on
an insured institution. Formal enforcement action may range from the issuance
of a capital directive or cease and desist order to removal of officers or
directors, receivership, conservatorship or termination of deposit insurance.
Civil penalties cover a wide range of violations and can amount to $25,000 per
day, or $1.1 million per day in especially egregious cases. The FDIC has the
authority to recommend to the Director of the OTS that enforcement action be
taken with respect to a particular savings institution. If action is not
taken by the Director, the FDIC has authority to take such action under
certain circumstances. Federal law also establishes criminal penalties for
certain violations.
25
Environmental Issues Associated with Real Estate Lending. The
Comprehensive Environmental Response, Compensation and Liability Act
("CERCLA"), a federal statute, generally imposes strict liability on all prior
and present "owners and operators" of sites containing hazardous waste.
However, Congress asked to protect secured creditors by providing that the
term "owner and operator" excludes a person whose ownership is limited to
protecting its security interest in the site. Since the enactment of the
CERCLA, this "secured creditor exemption" has been the subject of judicial
interpretations which have left open the possibility that lenders could be
liable for cleanup costs on contaminated property that they hold as collateral
for a loan.
To the extent that legal uncertainty exists in this area, all creditors,
including the Bank, that have made loans secured by properties with potential
hazardous waste contamination (such as petroleum contamination) could be
subject to liability for cleanup costs, which costs often substantially exceed
the value of the collateral property.
Savings and Loan Holding Company Regulations
- --------------------------------------------
General. The Company is a unitary savings and loan holding company
subject to regulatory oversight of the OTS. Accordingly, the Company is
required to register and file reports with the OTS and is subject to
regulation and examination by the OTS. In addition, the OTS has enforcement
authority over the Company and its non-savings institution subsidiaries which
also permits the OTS to restrict or prohibit activities that are determined to
present a serious risk to the subsidiary savings institution.
New Legislation
- ---------------
Financial Services Modernization Act. On November 12, 1999, the
Gramm-Leach-Bliley Financial Services Modernization Act of 1999 ("Act") was
signed into law. The purpose of this legislation was to modernize the
financial services industry by establishing a comprehensive framework to
permit affiliations among commercial banks, insurance companies, securities
firms and other financial service providers. Generally, the Act:
* repealed the historical restrictions and eliminated many federal
and state law barriers to affiliations among banks, securities
firms, insurance companies and other financial service providers;
* provided a uniform framework for the functional regulation of the
activities of banks, savings institutions and their holding
companies;
* broadened the activities that may be conducted by national banks,
banking subsidiaries of bank holding companies and their financial
subsidiaries;
* provided an enhanced framework for protecting the privacy of
consumer information; and
* addressed a variety of other legal and regulatory issues affecting
day-to-day operations and long-term activities of financial
institutions.
Acquisitions. Federal law and OTS regulations issued thereunder
generally prohibit a savings and loan holding company, without prior OTS
approval, from acquiring more than 5% of the voting stock of any other savings
institution or savings and loan holding company or controlling the assets
thereof. They also prohibit, among other things, any director or officer of a
savings and loan holding company, or any individual who owns or controls more
than 25% of the voting shares of such holding company, from acquiring control
of any savings association not a subsidiary of such savings and loan holding
company, unless the acquisition is approved by the OTS.
Activities. As a unitary savings and loan holding company, the Company
generally is not subject to activity restrictions. If the Company acquires
control of another savings institution as a separate subsidiary other than in
a supervisory acquisition, it would become a multiple savings and loan holding
company and the activities of the Bank and any other subsidiaries (other than
the Bank or any other SAIF-insured savings institution) would generally become
subject to additional restrictions. There generally are more restrictions on
the activities of a multiple savings and loan holding company than on those of
a unitary savings and loan holding company. Federal law provides that, among
other
26
things, no multiple savings and loan holding company or subsidiary thereof
which is not an insured association shall commence or continue for more than
two years after becoming a multiple savings and loan association holding
company or subsidiary thereof, any business activity other than: (i)
furnishing or performing management services for a subsidiary insured
institution, (ii) conducting an insurance agency or escrow business, (iii)
holding, managing, or liquidating assets owned by or acquired from a
subsidiary insured institution, (iv) holding or managing properties used or
occupied by a subsidiary insured institution, (v) acting as trustee under
deeds of trust, (vi) those activities previously directly authorized by
regulation as of March 5, 1987 to be engaged in by multiple holding companies
or (vii) those activities authorized by the Federal Reserve Board as
permissible for bank holding companies, unless the OTS by regulation,
prohibits or limits such activities for savings and loan holding companies.
Those activities described in (vii) above also must be approved by the OTS
prior to being engaged in by a multiple savings and loan holding company.
The USA Patriot Act. In response to the terrorist events of September
11, 2001, the Uniting and Strengthening America by Providing Appropriate Tools
Required to Intercept and Obstruct Terrorism Act of 2001 (the "USA Patriot
Act") was signed into law on October 26, 2001. The USA Patriot Act gives the
federal government new powers to address terrorist threats through enhanced
domestic security measures, expanded surveillance powers, increased
information sharing, and broadened anti-money laundering requirements. Title
III of the USA Patriot Act takes measures intended to encourage information
sharing among bank regulatory agencies and law enforcement bodies. Further,
certain provisions of Title III impose affirmative obligations on a broad
range of financial institutions.
Among other requirements, Title III of the USA Patriot Act imposes the
following requirements:
* Financial institutions must establish anti-money laundering
programs that include (i) internal policies, procedures and
controls, (ii) specific designation of an anti-money laundering
compliance officer, (iii) ongoing employee training programs and
(iv) an independent audit function to test the anti-money
laundering program.
* Financial institutions must implement a risk-based customer
identification program in connection with opening new accounts.
The program must contain requirements for identity verification,
record-keeping, comparison of information to government-maintained
lists and notice to customers.
* Financial institutions that establish, maintain, administer, or
manage private banking accounts or correspondent accounts in the
United States for non-United States persons or their
representatives must establish appropriate, specific and, where
necessary, enhanced due diligence policies, procedures and controls
designed to detect and report money laundering.
* Financial institutions are prohibited from establishing,
maintaining, administering or managing correspondent accounts for
foreign shell banks that do not have a physical presence in any
country and will be subject to certain recordkeeping obligations
with respect to correspondent accounts of foreign banks.
* Bank regulators are directed to consider a holding company's
effectiveness in combating money laundering when ruling on Federal
Reserve Act and Bank Merger Act applications.
Our policies and procedures have been updated to reflect the requirements
of the USA Patriot Act. No significant changes in our business or customer
practices were required as a result of the implementation of these
requirements.
Sarbanes-Oxley Act of 2002. The Sarbanes-Oxley Act of 2002
("Sarbanes-Oxley Act") was signed into law on July 30, 2002 in response to
public concerns regarding corporate accountability in connection with the
recent accounting scandals at Enron and WorldCom. The stated goals of the
Sarbanes-Oxley Act are to increase corporate responsibility, to provide for
enhanced penalties for accounting and auditing improprieties at publicly
traded companies and to protect investors by improving the accuracy and
reliability of corporate disclosures pursuant to the securities laws. The
Sarbanes-Oxley Act generally applies to all companies, both U.S. and non-U.S.,
that file or are required to file periodic reports with the Securities and
Exchange Commission ("SEC") under the Securities Exchange Act of 1934.
27
The Sarbanes-Oxley Act includes very specific additional disclosure
requirements and new corporate governance rules, requires the SEC and
securities exchanges to adopt extensive additional disclosure, corporate
governance and related rules. The Sarbanes-Oxley Act represents significant
federal involvement in matters traditionally left to state regulatory systems,
such as the regulation of the accounting profession, and to state corporate
law, such as the relationship between a board of directors and management and
between a board of directors and its committees.
The Sarbanes-Oxley Act addresses, among other matters:
* audit committees;
* certification of financial statements by the chief executive
officer and the chief financial officer;
* the forfeiture of bonuses or other incentive-based compensation and
profits from the sale of an issuer's securities by directors and
senior officers in the twelve month period following initial
publication of any financial statements that later require
restatement;
* a prohibition on insider trading during pension fund black out
periods;
* disclosure of off-balance sheet transactions;
* a prohibition on personal loans to directors and officers;
* expedited filing requirements for Form 4s;
* disclosure of a code of ethics and filing a Form 8-K for a change
or waiver of such code;
* "real time" filing of periodic reports;
* the formation of a public company accounting oversight board;
* auditor independence; and
* various increased criminal penalties for violations of securities
laws.
Qualified Thrift Lender Test. If the Bank fails the QTL test, within one
year the Company must register as, and will become subject to, the significant
activity restrictions applicable to bank holding companies. See " -Federal
Regulation of Savings Institutions - Qualified Thrift Lender Test" for
information regarding the Bank's QTL test.
TAXATION
Federal Taxation
- ----------------
General. The Company and the Bank report their income on a fiscal year
basis using the accrual method of accounting and are subject to federal income
taxation in the same manner as other corporations with some exceptions,
including particularly the Bank's reserve for bad debts discussed below. The
following discussion of tax matters is intended only as a summary and does not
purport to be a comprehensive description of the tax rules applicable to the
Bank or the Company.
Bad Debt Reserve. Historically, savings institutions such as the Bank
which met certain definitional tests primarily related to their assets and the
nature of their business ("qualifying thrift") were permitted to establish a
reserve for bad debts and to make annual additions thereto, which may have
been deducted in arriving at their taxable income. The Bank's deductions with
respect to "qualifying real property loans," which are generally loans secured
by certain interest in real property, were computed using an amount based on
the Bank's actual loss experience, or a percentage equal to 8% of the Bank's
taxable income, computed with certain modifications and reduced by the amount
of any
28
permitted additions to the non-qualifying reserve. Due to the Bank's loss
experience, the Bank generally recognized a bad debt deduction equal to 8% of
taxable income.
The thrift bad debt rules were revised by Congress in 1996. The new
rules eliminated the 8% of taxable income method for deducting additions to
the tax bad debt reserves for all thrifts for tax years beginning after
December 31, 1995. These rules also required that all institutions recapture
all or a portion of their bad debt reserves added since the base year (last
taxable year beginning before January 1, 1988). The Bank has no post-1987
reserves subject to recapture. For taxable years beginning after December 31,
1995, the Bank's bad debt deduction will be determined under the experience
method using a formula based on actual bad debt experience over a period of
years. The unrecaptured base year reserves will not be subject to recapture
as long as the institution continues to carry on the business of banking. In
addition, the balance of the pre-1988 bad debt reserves continue to be subject
to provisions of present law referred to below that require recapture in the
case of certain excess distributions to shareholders.
Distributions. To the extent that the Bank makes "nondividend
distributions" to the Company, such distributions will be considered to result
in distributions from the balance of its bad debt reserve as of December 31,
1987 (or a lesser amount if the Bank's loan portfolio decreased since December
31, 1987) and then from the supplemental reserve for losses on loans ("Excess
Distributions"), and an amount based on the Excess Distributions will be
included in the Bank's taxable income. Nondividend distributions include
distributions in excess of the Bank's current and accumulated earnings and
profits, distributions in redemption of stock and distributions in partial or
complete liquidation. However, dividends paid out of the Bank's current or
accumulated earnings and profits, as calculated for federal income tax
purposes, will not be considered to result in a distribution from the Bank's
bad debt reserve. The amount of additional taxable income created from an
Excess Distribution is an amount that, when reduced by the tax attributable to
the income, is equal to the amount of the distribution. Thus, if, after the
Conversion, the Bank makes a "nondividend distribution," then approximately
one and one-half times the Excess Distribution would be includable in gross
income for federal income tax purposes, assuming a 34% corporate income tax
rate (exclusive of state and local taxes). See "Regulation" for limits on the
payment of dividends by the Bank. The Bank does not intend to pay dividends
that would result in a recapture of any portion of its tax bad debt reserve.
Corporate Alternative Minimum Tax. The Code imposes a tax on alternative
minimum taxable income ("AMTI") at a rate of 20%. The excess of the tax bad
debt reserve deduction using the percentage of taxable income method over the
deduction that would have been allowable under the experience method is
treated as a preference item for purposes of computing the AMTI. In addition,
only 90% of AMTI can be offset by net operating loss carryovers. AMTI is
increased by an amount equal to 75% of the amount by which the Bank's adjusted
current earnings exceeds its AMTI (determined without regard to this
preference and prior to reduction for net operating losses). For taxable
years beginning after December 31, 1986, and before January 1, 1996, an
environmental tax of 0.12% of the excess of AMTI (with certain modification)
over $2.0 million is imposed on corporations, including the Bank, whether or
not an Alternative Minimum Tax is paid.
Dividends-Received Deduction. The Company may exclude from its income
100% of dividends received from the Bank as a member of the same affiliated
group of corporations. The corporate dividends-received deduction is
generally 70% in the case of dividends received from unaffiliated corporations
with which the Company and the Bank will not file a consolidated tax return,
except that if the Company or the Bank owns more than 20% of the stock of a
corporation distributing a dividend, then 80% of any dividends received may be
deducted.
Audits. The Company, the Bank and its consolidated subsidiaries have
been audited or their books closed without audit by the IRS with respect to
consolidated federal income tax returns through March 31, 1999. See Note 10
of the Notes to Consolidated Financial Statements contained in the Annual
Report for additional information regarding income taxes.
State Taxation
- --------------
South Carolina has adopted the Code as it relates to savings banks,
effective for taxable years beginning after December 31, 1986. The Bank is
subject to South Carolina income tax at the rate of 6%. The Bank has not been
audited by the State of South Carolina during the past five years.
29
The Company's income tax returns have not been audited by federal or
state authorities within the last five years. For additional information
regarding income taxes, see Note 10 of the Notes to Consolidated Financial
Statements contained in the Annual Report.
Item 2. Properties
----------
At March 31, 2004, Security Federal owned the buildings and land for its
main office, five of its branch offices, including the operations center,
leased the land and owned the improvements thereon for one of its offices,
and leased the remaining five offices. The property related to the offices
owned by Security Federal had a depreciated cost (including land) of
approximately $3.8 million at March 31, 2004. At March 31, 2004, the
aggregate net book value of leasehold improvements (excluding furniture and
equipment) associated with leased premises was $1.2 million. See Note 6 of
the Notes to Consolidated Financial Statements contained in the Annual Report.
The following table sets forth the net book value of the offices owned
(including land) and leasehold improvements on properties leased by Security
Federal at March 31, 2004.
Date
Lease Facility Gross
Owned or Expiration Opened/ Square Net Book
Location Leased Date Acquired Footage Value
- ------------------------ -------- ---------- --------- ------- --------
Main Office:
1705 Whiskey Road S.
Aiken, South Carolina Owned N/A 1980 10,000 $306,000
Full Service Branch Offices
100 Laurens Street, N.W.
Aiken, South Carolina Leased 2013 1959 4,500 7,700
313 East Martintowne Road
North Augusta,
South Carolina Owned(1) N/A 1973 4,356 626,000
1665 Richland Avenue, W.
Aiken, South Carolina Owned N/A 1984 1,942 212,000
Montgomery & Canal Streets
Masonic Shopping Center
Graniteville,
South Carolina Leased 2007 1993(2) 3,576 $348,000
2812 Augusta Road
Langley, South Carolina Owned N/A 1993(2) 2,509 136,000
Highway 125 and Highways
1 and 78
Midland Valley
Shopping Center
Clearwater,
South Carolina Leased 2003 1993(2) 2,287 84,000
118 Main Street North
Wagener, South Carolina Owned N/A 1993(2) 3,600 224,000
Wal-Mart Superstore
2035 Whiskey Road
Aiken, South Carolina Leased 2001 1996 517 100,000
30
Date
Lease Facility Gross
Owned or Expiration Opened/ Square Net Book
Location Leased Date Acquired Footage Value
- ------------------------ -------- ---------- --------- ------- --------
1185 Sunset Boulevard
West Columbia,
South Carolina Leased 2015 2000 10,000 625,000
5446 Sunset Boulevard
Lexington,
South Carolina (3) Owned(4) N/A 2003 9,200 1,472,000
Operations Center:
871 East Pine Log Road
Aiken, South Carolina Owned N/A 1988 10,000 860,000
- ---------------
(1) Security Federal has a lease with options through 2063.
(2) Represents acquisition date.
(3) Opened in August 2003.
(4) Security Federal has a lease on the land for this office which expires in
2018, but has options through 2063.
Item 3. Legal Proceedings
-----------------
The Company is involved as plaintiff or defendant in various legal
actions arising in the course of its business. It is the opinion of
management, after consultation with counsel, that the resolution of these
legal actions will not have a material adverse effect on the Company's
financial condition and results of operations.
Item 4. Submission of Matters to a Vote of Security Holders
---------------------------------------------------
No matter was submitted to a vote of security holders, through the
solicitation of proxies or otherwise, during the quarter ended March 31, 2004.
31
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters
------------------------------------------------------------------
and Issuer Purchases of Equity Securities
-----------------------------------------
The information contained in the section captioned "Shareholders
Information - Price Range of Common Stock" and " -Dividends" in the Annual
Report is incorporated herein by reference.
Stock Repurchases. The Company did not repurchase any shares of its
outstanding Common Stock during the fourth quarter of the year ended March 31,
2004. In addition, the Company has no publicly-announced plans to repurchase
its common stock.
Item 6. Selected Financial Data
-----------------------
The information contained in the section captioned "Selected Consolidated
Financial and Other Data" in the Annual Report is incorporated herein by
reference.
Item 7. Management's Discussion and Analysis of Financial Condition and
---------------------------------------------------------------
Results of Operations
---------------------
The information contained in the section captioned "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in
the Annual Report is incorporated herein by reference.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
----------------------------------------------------------
Market risk is the risk of loss from adverse changes in market prices and
rates. Our market risk arises principally from interest rate risk inherent in
our lending, investing, deposit and borrowings activities. Management
actively monitors and manages its interest rate risk exposure. In addition to
other risks that we manage in the normal course of business, such as credit
quality and liquidity, management considers interest rate risk to be a
significant market risk that could have a potentially have a material effect
on our financial condition and result of operations. The information
contained in the section captioned "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Asset and Liability
Management" in the Annual Report is incorporated herein by reference.
Item 8. Financial Statements and Supplementary Data
-------------------------------------------
Independent Auditors' Report*
Consolidated Balance Sheets, March 31, 2004 and 2003*
Consolidated Statements of Income For the Years Ended March 31, 2004,
2003 and 2002*
Consolidated Statements of Changes in Shareholders' Equity For the
Years Ended March 31, 2004, 2003 and 2002*
Consolidated Statements of Cash Flows For the Years Ended March 31,
2004, 2003 and 2002*
Notes to Consolidated Financial Statements*
Quarterly Financial Data (unaudited)*
* Contained in the Annual Report filed as an exhibit hereto and
incorporated herein by reference.
Item 9. Changes in and Disagreements With Accountants on Accounting and
---------------------------------------------------------------
Financial Disclosure
--------------------
None.
Item 9A. Controls and Procedures
-----------------------
(a) Evaluation of Disclosure Controls and Procedures: An evaluation
of the Company's disclosure controls and procedures (as defined in Section
13a-15(e) of the Securities Exchange Act of 1934 (the "Act")) was carried out
under the supervision and with the participation of the Company's Chief
Executive Officer, Chief Financial Officer and several other members of the
Company's senior management as of the end of the period covered by this
report. The
32
Company's Chief Executive Officer and Chief Financial Officer concluded that
the Company's disclosure controls and procedures as currently in effect are
effective in ensuring that the information required to be disclosed by the
Company in the reports it files or submits under the Act is (i) accumulated
and communicated to the Company's management (including the Chief Executive
Officer and Chief Financial Officer) in a timely manner, and (ii) recorded,
processed, summarized and reported within the time periods specified in the
SEC's rules and forms.
(b) Changes in Internal Controls: In the year ended March 31, 2004,
the Company did not make any significant changes in, nor take any corrective
actions regarding, its internal controls or other factors that could
significantly affect these controls.
PART III
Item 10. Directors and Executive Officers of the Registrant
--------------------------------------------------
The information contained under the section captioned "Election of
Directors" in the Proxy Statement is incorporated herein by reference. The
information contained under the section captioned "Compliance With Section
16(a) of the Exchange Act" in the Proxy Statement is incorporated herein by
reference.
Audit Committee Financial Expert. The Audit Committee of the Company is
composed of Directors Harry O. Weeks (Chairperson), Clyburn and Moore. Each
member of the Audit Committee is "independent" as defined in the Nasdaq Stock
Market listing standards. The Board of Directors has determined there is no
"audit committee financial expert" as defined by the Securities and Exchange
Commission ("SEC"). The Board believes that the current members of the Audit
Committee are qualified to serve based on their collective experience and
background. Each member of the Audit Committee is independent as that term is
used in Item 7(d)(3)(iv) of Schedule 14A promulgated under the Exchange Act.
Code of Ethics. The Board of Directors adopted a Code of Ethics for the
Company's officers (including its senior financial officers), directors, and
employees. The Code is applicable to the Company's principal executive
officer and senior financial officers, and requires individuals to maintain
the highest standards of professional conduct. A copy of the Code of Ethics
is available upon request from the Company. Requests should be made to:
Secretary, Security Federal Corporation, P.O. Box 810, Aiken, South Carolina
29802.
Item 11. Executive Compensation
----------------------
The information contained in the section captioned "Executive Officers"
in the Proxy Statement is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
--------------------------------------------------------------
The information contained in the section captioned "Security Ownership of
Certain Beneficial Owners and Management" in the Proxy Statement is
incorporated herein by reference.
Equity Compensation Plan Information. The information contained in the
section captioned "Proposal II- Approval of 2004 Stock Option Plan" in the
Proxy Statement is incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions
----------------------------------------------
The information contained in the section captioned "Certain Transactions"
in the Proxy Statement is incorporated herein by reference.
Item 14. Principal Accountant Fees and Services
----------------------------------------
The information contained under the section captioned "Independent
Auditors" is included in the Company's Proxy Statement and is incorporated
herein by reference.
33
PART IV
Item 15. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
----------------------------------------------------------------
(a) 1. Financial Statements.
--------------------
For a list of the financial statements filed as part of this
report see Part II - Item 8.
2. Financial Statement Schedules.
-----------------------------
All schedules have been omitted as the required information
is either inapplicable or contained in the Consolidated
Financial Statements or related Notes contained in the Annual
Report filed as an exhibit hereto.
3. Exhibits:
--------
3.1 Articles of Incorporation, as amended (1)
3.2 Bylaws (2)
4 Instruments defining the rights of security holders,
including indentures (3)
10 Executive Compensation Plans and Arrangements:
Salary Continuation Agreements (4)
Amendment One to Salary Continuation Agreements (5)
1999 Stock Option Plan (2)
1987 Stock Option Plan (4)
2002 Stock Option Plan (6)
Incentive Compensation Plan (4)
13 Annual Report to Stockholders
21 Subsidiaries of Registrant
23 Consent of Elliott Davis, LLC
31.1 Certification of Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act
31.2 Certification of Chief Financial Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act
32 Certification of Chief Executive Officer and Chief
Financial Officer Pursuant to Section 906 of the
Sarbanes-Oxley Act
----------------
(1) Filed on June 26, 1998, as an exhibit to the Company's
Proxy Statement and incorporated herein by reference.
(2) Filed on March 2, 2000, as an exhibit to the Company's
Registration Statement on Form S-8 and incorporated
herein by reference.
(3) Filed on August 12, 1987, as an exhibit to the Company's
Registration Statement on Form 8-A and incorporated
herein by reference.
(4) Filed on June 28, 1993, as an exhibit to the Company's
Annual Report on Form 10-KSB and incorporated herein by
reference.
(5) Filed as an exhibit to the Company's Quarterly Report on
Form 10-QSB for the quarter ended September 30, 1993 and
incorporated herein by reference.
(6) Filed on June 19, 2002, as an exhibit to the Company's
Proxy Statement and incorporated herein by reference.
34
(b) Reports on Form 8-K.
During the three months ended March 31, 2004, the Company
filed three Current Reports on Form 8-K on the following
dates:
1. January 12, 2004 to report the appointment of J. Chris
Verenes, President of the Company's financial institution
subsidiary, Security Federal Bank, and its subsidiaries
Security Federal Trust, Inc., Security Federal
Investments, Inc. and Security Federal Insurance, Inc.
2. January 23, 2004 to report earnings for the quarter
ended December 31, 2003.
3. February 19, 2004 to report the sale of its Denmark,
South Carolina branch office to South Carolina Bank and
Trust, N. A. of Orangeburg, South Carolina.
35
SIGNATURES
Pursuant to the requirements of section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
SECURITY FEDERAL CORPORATION
Date: June 24, 2004 By: /s/ Timothy W. Simmons
-------------------------------------
Timothy W. Simmons
President, Chief Executive Officer
and Director
(Duly Authorized Representative)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
By: /s/ Timothy W. Simmons June 24, 2004
--------------------------------------
Timothy W. Simmons
President, Chief Executive Officer and Director
(Principal Executive Officer)
By: /s/ Roy G. Lindburg June 24, 2004
--------------------------------------
Roy G. Lindburg
Treasurer and Chief Financial Officer
(Principal Financial and Accounting Officer)
By: /s/ T. Clifton Weeks June 24, 2004
--------------------------------------
T. Clifton Weeks
Chairman of the Board and Director
By: /s/ J. Chris Verenes June 24, 2004
--------------------------------------
J. Chris Verenes
President of the Bank and Director of
the Company and the Bank
By: /s/ Gasper L. Toole III June 24, 2004
--------------------------------------
Gasper L. Toole III
Director
By: June __, 2004
--------------------------------------
Harry O. Weeks Jr.
Director
By: /s/ Robert E. Alexander June 24, 2004
--------------------------------------
Robert E. Alexander
Director
By: June __, 2004
--------------------------------------
Thomas L. Moore
Director
By: June __, 2004
--------------------------------------
William Clyburn
Director
INDEX TO EXHIBITS
Exhibit Number
- --------------
13 Annual Report to Stockholders
21 Subsidiaries of the Registrant
23 Consent of Elliott Davis, LLC
31.1 Certification of Chief Executive Officer of Security Federal
Corporation Pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
31.2 Certification of Chief Financial Officer of Security Federal
Corporation Pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
32 Certification of Chief Executive Officer and Chief Financial
Officer of Security Federal Corporation Pursuant to Section
906 of the Sarbanes-Oxley Act
Exhibit 13
Annual Report to Stockholders
Annual Report
March 31st, 2004
Security
Federal
Corporation
CONTENTS
Letter to Shareholders 3
Financial Highlights 4-6
Selected Consolidated Financial and Other Data 7
Management's Discussion and Analysis
of Financial Condition and Results of Operations 8
Report of Elliott Davis, LLC, Independent Auditors 23
Consolidated Balance Sheets 24
Consolidated Statements of Income 25
Consolidated Statements of Shareholders' Equity 26
& Comprehensive Income
Consolidated Statements of Cash Flows 27-28
Notes to Consolidated Financial Statements 29-49
Shareholders Information 50-51
Security Federal Bank Board of Directors 52-54
& Management Team
Security Federal Bank's Financial Service Subsidiaries 55
BUILDING COMMUNITY
In addition to meeting and exceeding many of its financial goals for the
fiscal year ending 2004, Security Federal Corporation achieved several
objectives designed to further enhance its customer base and promote solid
growth.
In September, the bank celebrated the grand opening of a new banking branch in
Lexington, South Carolina that further expands our service reach to customers
in the greater Columbia area. In January, the Board of Directors appointed J.
Chris Verenes as President of Security Federal Bank and its subsidiaries -
with a strong background in finance, accounting, strategic planning, business
development, marketing and government affairs, Chris has already proven to be
a positive addition to the leadership team.
In an effort to better serve customers and keep pace with new banking trends,
the bank updated its website to support online transaction services including
money transfer, bill paying, account access and check viewing. Now customers
can access their accounts 24 hours a day, seven days a week. Lastly, the
popular Looney Tunes Savings Club was expanded to serve over 4700 elementary
and middle school students in 17 schools. Created to teach fiscal skills and
promote financial responsibility, it has also been an excellent vehicle for
introducing services to families in our banking communities.
For over 80 years Security Federal's tradition of providing exceptional
customer service continues to be a strong and prosperous business strategy.
2
Fellow Shareholders:
Building our continued commitment to put customers first we are pleased to
report that Security Federal Corporation achieved record earnings for the
seventh consecutive year.
Security Federal Corporation announced earnings totaling $4.3 million or $1.70
per share (basic) for the year ending March 31, 2004 compared to $3.2 million
or $1.29 per share (basic) for the year ending March 31, 2003, an increase in
earnings of 32%. A portion of the increase in earnings was the result of the
sale of the Denmark, SC branch, which increased net income after tax and
contingencies by approximately $820,000. Excluding the gain from the branch
sale, which occurred in February 2004, earnings were a record $3.4 million
$1.37 per share (basic) for they year ending March 31, 2004, an increase of
6.6%. Total assets increased 19% to $528.0 million, net loans receivable
increased 6.9% to $259.9 million, and deposits increased 8.7% to $389.6
million at March 31, 2004 compared to March 31, 2003.
Putting customers first, building on solid business basics and honoring a
tradition of personal accountability have once again produced a prosperous
year. Thank you for your being a part of our continued success.
Sincerely, Sincerely,
/s/T. Clifton Weeks /s/Timothy W. Simmons
T. Clifton Weeks Timothy W. Simmons
Chairman President & Chief Executive Officer
3
FINANCIAL HIGHLIGHTS
Years Ended March 31,
2004 2003
Net Income $4,263,163 $3,231,161
Earnings Per Share - Basic 1.70 1.29
Book Value Per Share 13.30 11.98
Total Interest Income 23,011,005 23,659,833
Total Interest Expense 9,606,100 10,016,264
Net Interest Income Before Provision
For Loan Losses 13,404,905 13,643,569
Provision For Loan Losses 1,200,000 1,800,000
Net Income After Provision For Loan Losses 12,204,905 11,843,569
Net Interest Margin 2.84% 3.46%
Total Loans Originated 228,263,000 208,506,000
Adjustable Rate Loans As A Percentage Of
Total Gross Loans 52.1% 50.7%
4
FINANCIAL HIGHLIGHTS
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
Net Income (In Thousands) $4,263 $3,231 $2,510 $2,127 $2,021
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
Total Assets (In Millions) $ 528 $ 445 $ 376 $ 331 $ 305
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
Return on Equity 13.67% 11.37% 9.97% 9.98% 10.41%
Allowance for Loan Losses (1) 2004 2003 2002 2001 2000
------ ------ ------ ------ ------
2.17% 1.98% 1.55% 1.19% 1.09%
(1) Allowance for losses as a percentage of total loans.
5
FINANCIAL HIGHLIGHTS
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
Book Value Per Share $13.30 $11.98 $10.18 $ 9.43 $ 7.89
2004 2003 2002 2001 2000
------ ------ ------ ------ ------
Earnings Per Share - Basic $ 1.70 $ 1.29 $ 1.00 $ 0.85 $ 0.80
Security Federal Corporation Stock Prices
3/2004 9/2003 3/2003 9/2002 3/2002 9/2001 3/2001 9/2000 3/2000 9/1999 3/1999 9/1998 3/1998
- ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------
21.00 24.50 20.26 22.33 21.67 21.00 20.00 18.33 18.00 17.17 15.00 8.33 7.33
9/1997 3/1997 9/1996 3/1996 9/1995 3/1995 9/1994 3/1994 9/1993 3/1993 9/1992 3/1992 9/1991
- ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------ ------
7.33 5.17 4.83 4.54 4.13 3.65 3.53 3.37 2.83 2.75 2.59 2.54 2.46
3/1991 9/1990 3/1990 9/1989 3/1989 9/1988 3/1988 10/1987
- ------ ------ ------ ------ ------ ------ ------ -------
2.46 2.52 2.40 1.89 1.83 1.42 1.75 1.67
6
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Selected Consolidated Financial and Other Data
At Or For The Year Ended March 31,
----------------------------------------------------
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
Balance Sheet Data (Dollars In Thousands, Except Per Share Data)
- -----------------------
Total Assets $528,005 $444,904 $376,320 $330,642 $304,802
Cash And Cash
Equivalents 6,749 8,239 11,528 12,616 7,417
Investment And Mortgage-
Backed Securities 245,715 182,117 118,898 74,405 91,531
Total Loans Receivable,
Net (1) 259,895 243,156 234,319 230,997 193,001
Deposits 389,593 358,474 309,038 257,410 228,823
Advances From Federal
Home Loan Bank 96,336 49,772 33,108 42,704 50,611
Total Shareholders'
Equity 33,472 30,040 25,401 23,500 19,759
Income Data
- -----------------------
Total Interest Income 23,011 23,660 24,632 24,153 19,805
Total Interest Expense 9,606 10,016 12,211 13,871 10,378
-------- -------- -------- -------- --------
Net Interest Income 13,405 13,644 12,421 10,282 9,427
Provision For Loan Losses 1,200 1,800 1,525 925 750
-------- -------- -------- -------- --------
Net Interest Income
After Provision For
Loan Losses 12,205 11,844 10,896 9,357 8,677
Other Income 5,235 3,811 3,465 2,739 2,296
General And
Administrative Expense 10,725 10,483 10,337 8,851 7,845
Income Taxes 2,452 1,941 1,514 1,118 1,107
-------- -------- -------- -------- --------
Net Income $ 4,263 $ 3,231 $ 2,510 $ 2,127 $ 2,021
======== ======== ======== ======== ========
Per Common Share Data
- -----------------------
Net Income Per Common
Share (Basic) $ 1.70 $ 1.29 $ 1.00 $ 0.85 $ 0.80
======== ======== ======== ======== ========
Cash Dividends Declared $ 0.08 $ 0.0602 $ 0.0536 $ 0.0536 $ 0.0536
======== ======== ======== ======== ========
Other Data
- -----------------------
Interest Rate Spread
Information:
Average During Period 2.66% 3.19% 3.42% 3.00% 3.19%
End Of Period 2.59% 3.00% 3.48% 3.11% 2.90%
Net Interest Margin (Net
Interest Income/Average
Earning Assets) 2.84% 3.46% 3.73% 3.38% 3.54%
Average Interest-Earning
Assets To Average
Interest-Bearing
Liabilities 109.05% 110.47% 108.80% 108.39% 109.11%
Equity To Total Assets 6.34% 6.75% 6.75% 7.11% 6.48%
Non-Performing Assets
To Total Assets (2) 0.40% 0.27% 0.40% 0.11% 0.40%
Return On Assets (Ratio
Of Net Income To Average
Total Assets) 0.87% 0.79% 0.71% 0.66% 0.72%
Return On Equity (Ratio
Of Net Income To Average
Equity) 13.67% 11.37% 9.97% 9.98% 10.41%
Equity To Assets Ratio
(Ratio Of Average Equity
To Average Total Assets) 6.36% 6.90% 7.14% 6.62% 6.93%
Dividend Pay-Out Ratio
On Common Shares 4.75% 4.67% 5.31% 6.31% 6.70%
Number Of Full-Service
Offices 11 11 11 11 10
(1) INCLUDES LOANS HELD FOR SALE.
(2) NON-PERFORMING ASSETS CONSIST OF NON-ACCRUAL LOANS AND REPOSSESSED
ASSETS.
7
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
General
The following discussion is presented to provide the reader with an
understanding of the financial condition and results of operations of Security
Federal Corporation and its subsidiaries. The investment and other activities
of the parent company, Security Federal Corporation (the "Company"), have had
no significant impact on the results of operations for the periods presented
in the financial statements. The information presented in the following
discussion of financial results is indicative of the activities of Security
Federal Bank (the "Bank"), a wholly owned subsidiary of the Company. The Bank
is a federally chartered thrift that was founded in 1922. The Bank also has
three wholly owned subsidiaries, Security Federal Insurance Inc., Security
Federal Investments Inc., and Security Federal Trust Inc. that were formed in
the fiscal year ended March 31, 2002. Unless the context indicates otherwise,
references to the Company shall include the Bank and its subsidiaries.
The principal business of the Bank is accepting deposits from the general
public and originating consumer and commercial business loans as well as
mortgage loans that enable borrowers to purchase or refinance one to four
family residential real estate. The Bank also originates construction loans
on single-family residences, multi-family dwellings and projects, and
commercial real estate, as well as loans for the acquisition, development and
construction of residential subdivisions and commercial projects.
The Bank's net income is dependent on its interest rate spread which is the
difference between the average yield earned on its loan and investment
portfolios and the average rate paid on its deposits and borrowings. The
Bank's interest spread is impacted by interest rates, deposit flows, and loan
demands. Levels of non-interest income and operating expense are also
significant factors in earnings.
Forward-Looking Statements
This document, including information included or incorporated by reference,
contents, and future filings by the Company on Form 10-K, Form 10-Q, and Form
8-K, and future oral and written statements by the Company and its management
may contain forward-looking statements about the Company and its subsidiaries
which we believe are within the meaning of the Private Securities Litigation
Reform Act of 1995. These forward-looking statements include, without
limitation: statements with respect to anticipated future operating and
financial performance; growth opportunities; interest rates; acquisition and
divestiture opportunities; and synergies, efficiencies, and cost-savings.
Words such as "may," "could," "should," "would," "believe," "anticipate,"
"estimate," "expect," "intend," "plan," and similar expressions are intended
to identify these forward-looking statements. Forward-looking statements by
the Company and its management are based on beliefs, plans, objectives, goals,
expectations, anticipations, estimates, and intentions of management and are
not guarantees of future performance. Factors which could affect results
include interest rate trends, the general economic climate in the Company's
market area and the nation as a whole, the ability of the Company to control
costs and expenses, deposit flows, demand for mortgages and other loans, real
estate values and vacancy rates, competition, pricing, loan delinquency rates
and changes in federal regulation. These factors should be considered in
evaluating "forward-looking statements," and undue reliance should not be
placed on any such statements. The Company disclaims any obligation to update
or revise any forward-looking statements based on the occurrence of future
events, the receipt of new information, or otherwise. The important factors
we discuss below and elsewhere in this document, identified in our filings
with the Securities and Exchange Commission ("SEC"), and presented by our
management from time to time could cause actual results to differ materially
from those indicated by the forward-looking statements made in this document.
Critical Accounting Policies
The Company has adopted various accounting policies which govern the
application of accounting principles generally accepted in the United States
in the preparation of the Company's financial statements. The significant
accounting policies of the Company are described in Note 1 of the Notes to the
Consolidated Financial Statements.
Certain accounting policies involve significant judgements and assumptions by
management, which have a material impact on the carrying value of certain
assets and liabilities; management considers such accounting policies to be
critical accounting policies. The judgements and assumptions used by
management are based on historical experience and other factors, which are
believed to be reasonable under the circumstances. Because of the nature of
the judgements and assumptions made by management, actual results could differ
from these judgements and estimates that could have a material impact on the
carrying values of assets and liabilities and the results of operations of the
Company.
8
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Critical Accounting Policies, Continued
Of these significant accounting policies, the Company considers its policies
regarding the allowance for loan losses to be its most critical accounting
policy because of the significant degree of management judgement involved in
determining the amount of allowance for loan losses. The Company has
developed policies and procedures for assessing the adequacy of the allowance
for loan losses, recognizing that this process requires a number of
assumptions and estimates with respect to its loan portfolio. The Company's
assessments may be impacted in future periods by changes in economic
conditions, the impact of regulatory examinations, and the discovery of
information with respect to borrowers, which is not known to management at the
time of the issuance of the consolidated financial statements. Refer to the
discussion under the section entitled "Financial Condition" and "The Provision
for Loan Losses" section in the "Comparison of the Years Ended March 31, 2004
and 2003" herein for a further discussion of the Company's estimation process
and methodology related to the allowance for loan losses.
Asset and Liability Management
The Bank's program of asset and liability management seeks to limit the Bank's
vulnerability to material and prolonged increases or decreases in interest
rates, or "interest rate risk." The principal determinant of the exposure of
the Bank's earnings to interest rate risk is the timing difference ("gap")
between the repricing or maturity of the Bank's interest-earning assets and
the repricing or maturity of its interest-bearing liabilities. If the
maturities of the Bank's assets and liabilities were perfectly matched and the
interest rates borne by its assets and liabilities were equally flexible and
moved concurrently (neither of which is the case), the impact on net interest
income of any material and prolonged changes in interest rates would be
minimal.
A negative gap position generally has an adverse effect on net interest income
during periods of rising interest rates. A negative one-year gap position
occurs when the dollar amount of rate sensitive liabilities maturing or
repricing within one year exceeds the dollar amount of rate sensitive assets
maturing or repricing during that same period. As a result, during periods of
rising interest rates, the interest paid on interest-bearing liabilities will
increase faster than interest received from earning assets, thus reducing net
interest income. The reverse is true in periods of declining interest rates
resulting generally in an increase in net interest income.
The Bank's Board of Directors reviews the Interest Rate Exposure Report
generated for the Bank by the Office of Thrift Supervision. This report
measures the interest rate sensitivity of the Bank's net portfolio value (NPV)
on a quarterly basis under different interest rate scenarios. The Bank's
sensitivity measure is well within the Bank's policy on changes in NPV. The
Bank's asset and liability policies are directed toward maximizing long term
profitability while managing acceptable interest rate risk within the Bank's
policies.
At March 31, 2004, the negative mismatch of interest-earning assets repricing
or maturing within one year with interest-bearing liabilities repricing or
maturing within one year was $87.0 million or 16.5% of total assets compared
to $52.8 million or 11.9% at March 31, 2003. The increase in the negative gap
was attributable to an overall 12.9% increase in interest-bearing liabilities
repricing within one year compared to a smaller increase of 2.1% in financial
assets repricing within one year. The increase in interest-bearing
liabilities increasing within one year occurred as a result of increases in
money market, savings, and interest -bearing checking accounts totaling $55.3
million. These accounts are assumed to reprice within one year, where in
actuality, they may not entirely be that interest rate sensitive. Many
financial institutions use decay rates that spread those accounts out over
several interest rate time periods. Financial assets repricing within one
year had only a modest increase as a result of a rise in short-term treasury
rates which lengthened the anticipated call dates on the Company's callable
investments. For more information on the Bank's repricing position at March
31, 2004, see the tables on pages 11 and 12.
9
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Asset and Liability Management, Continued
During the past year, the Bank originated, for investment purposes,
approximately $47.3 million in adjustable rate residential real estate loans,
which are held for investment and not sold. The Bank's loan portfolio included
$130.4 million of adjustable rate consumer loans, commercial loans, and
mortgage loans or, approximately 52.1% of total gross loans at March 31, 2004.
The Bank also originated a total of $121.9 million in consumer and commercial
loans, which are usually short term in nature. During fiscal 2004, 93.5% of
total new loan originations on loans held for investment were comprised of
consumer, commercial, and adjustable rate mortgage loans ("ARMs") compared to
92.7% of originations of loans held for investment in fiscal 2003. The Bank's
portfolio of consumer and commercial loans was $166.8 million at March 31,
2004, $153.6 million at March 31, 2003, and $147.2 million at March 31, 2002.
Consumer and commercial loans combined were 59.9% of total loans at March 31,
2004, 59.7% at March 31, 2003, and 59.0% at March 31, 2002.
The Bank originated $11.8 million, $10.5 million, and $9.1 million in fixed
rate residential loans, most of which were residential lot loans with terms of
two to five years, in fiscal 2004, 2003, and 2002, respectively. At March 31,
2004, these fixed rate residential lot loans, including construction loans
with terms of one year or less, amounted to $32.5 million or 11.7% of the
total loan portfolio compared to $32.7 million or 12.7% at the end of the
previous fiscal year. At March 31, 2003, the Bank held approximately $11.4
million in longer term fixed rate residential mortgage loans. These loans,
which amounted to 4.1% of the total loan portfolio, had converted from ARM
loans to fixed rate loans during the previous 24 months. These fixed rate
loans have remaining maturities ranging from 10 to 29 years. The Bank has
approximately $16.4 million remaining in convertible ARM loans that could
convert to fixed rate loans over the next 36 months. On new originations,
the Bank sells virtually all of its 15 and 30 year fixed rate mortgage loans
at origination. In fiscal 2001, the Bank decided to no longer service loans
for the Federal Home Loan Mortgage Corporation ("Freddie Mac") or other
institutional investors, because of the fixed cost of servicing those loans,
while the income stream generated by that portfolio was decreasing as a result
of prepayments. Thus, during fiscal 2004, 2003, and 2002, the Bank sold its
new fixed rate residential loan originations exclusively on a service-released
basis. Fixed rate residential loans sold to Freddie Mac and other
institutional investors, on a service-released basis, totaled $63.5 million in
fiscal 2004, $80.3 million in fiscal 2003, and $84.5 million in fiscal 2002.
Certificates of deposit of $100,000 or more "Jumbo Certificates" are normally
considered to be interest rate sensitive because of their relatively short
maturities. Many financial institutions have used Jumbo Certificates to
manage interest rate sensitivity and liquidity. The Bank has not relied on
Jumbo Certificates for liquidity or asset liability management. As of March
31, 2004, the Bank had $47.0 million outstanding in Jumbo Certificates
compared to $44.4 million at March 31, 2003. The Bank has no brokered
deposits.
The following table sets forth the maturity schedule of certificates of
deposit with balances of $100,000 or greater at March 31, 2004.
At March 31, 2004
(In thousands)
Within 3 Months $ 9,803
After 3, Within 6 Months 14,513
After 6, Within 12 Months 7,015
After 12 Months 15,711
---------
$ 47,042
=========
10
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Asset and Liability Management, Continued
The following table sets forth the Bank's interest-bearing liabilities and
interest-earning assets repricing or maturing within one year. The table on
the following page presents the Bank's entire interest-bearing liabilities and
interest-earning assets into repricing or maturity time periods. Both tables
present adjustable rate loans in the periods they are scheduled to reprice,
not mature. Both tables also assume investments reprice at the earlier of
maturity; the likely call date, if any, based on current interest rates; or
the next scheduled interest rate change, if any. NOW accounts, money market
accounts, and regular savings accounts are deemed to reprice in the less than
three-months category.
At March 31
----------------------
2004 2003
-------- --------
(Dollars in Thousands)
Loans (1) $146,932 $143,398
Mortgage-Backed Securities:
Held To Maturity 103 187
Available For Sale 68,421 56,054
Investment Securities:
Held To Maturity 25,974 16,159
Available For Sale 16,900 37,116
Other Interest-Earning Assets 303 339
-------- --------
Total Interest Rate Sensitive Assets
Repricing Within 1 Year $258,633 $253,253
-------- --------
Deposits 321,785 295,145
FHLB Advances And Other Borrowed Money 23,813 10,893
-------- --------
Total Interest Rate Sensitive Liabilities
Repricing Within 1 Year $345,598 $306,038
-------- --------
Gap $(86,965) $(52,785)
======== ========
Interest Rate Sensitive Assets/Interest Rate
Sensitive Liabilities 74.84% 82.75%
Gap As A Percent Of Total Assets (16.5)% (11.9)%
(1) LOANS ARE NET OF UNDISBURSED FUNDS AND LOANS IN PROCESS.
11
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Asset and Liability Management, Continued
The following table sets forth the interest sensitivity of the Bank's assets
and liabilities at March 31, 2004, on the basis of the factors and assumptions
set forth in the table on the previous page.
< Three 3 - 12 1 - 3 3 - 5 5
- - 10 > 10 Years
Months Months Years Years
Years Years Total
--------- -------- -------- -------- ---
- ----- -------- --------
Interest-Earnings Assets
Loans (1) $ 86,619 $ 60,313 $ 77,671 $ 25,236 $
10,092 $ 5,892 $265,823
Mortgage-Backed Securities:
Held To Maturity, At Cost 29 74 197 50
- - 350
Available For Sale, At
Fair Value 22,038 46,383 49,318 20,853
16,424 2,496 157,512
Investment Securities: (2)
Held To Maturity, At Cost 5,000 20,974 34,975 7,976
2,029 - 70,954
Available For Sale, At
Fair Value 4,633 12,267 - -
- - 16,900
FHLB Stock, At Cost - - 4,817 -
- - 4,817
Other Interest-Earning
Assets 303 - - -
- - 303
--------- -------- -------- -------- ---
- ----- -------- --------
Total Financial Assets $ 118,622 $140,011 $166,978 $ 54,115 $
28,545 $ 8,388 $516,659
========= ======== ======== ========
======== ======== ========
Interest-Bearing Liabilities
Deposits:
Certificate Accounts $ 34,890 $ 54,742 $ 24,568 $ 18,700 $
- $ - $132,900
NOW Accounts 56,199 - - -
- - 56,199
Money Market Accounts 158,587 - - -
- - 158,587
Passbook Accounts 17,367 - - -
- - 17,367
Borrowings 13,777 10,036 58,000 20,000
- - 101,813
--------- -------- -------- -------- ---
- ----- -------- --------
Total Interest-Bearing
Liabilities $ 280,820 $ 64,778 $ 82,568 $ 38,700 $
- $ - $466,866
========= ======== ======== ========
======== ======== ========
Current Period Gap $(162,198) $ 75,233 $ 84,410 $ 15,415 $
28,545 $ 8,388 $ 49,793
Cumulative Gap $(162,198) $(86,965) $ (2,555) $ 12,860 $
41,405 $ 49,793 $ 49,793
Cumulative Gap As A Percent
Of Total Assets (30.7)% (16.5)% (0.5)% 2.4%
7.9% 9.4% 9.4%
(1) LOANS ARE NET OF UNDISBURSED FUNDS AND LOANS IN PROCESS.
(2) CALLABLE SECURITIES ARE SHOWN AT THEIR LIKELY CALL DATES BASED ON
MANAGEMENT'S ESTIMATES AT MARCH 31,
2004.
In evaluating the Bank's exposure to interest rate risk, certain shortcomings
inherent in the method of analysis presented in the foregoing tables must be
considered. For example, although certain assets and liabilities may have
similar maturities or periods of repricing, they may react in different
degrees to changes in market interest rates. Additionally, the interest rates
of certain types of assets and liabilities may fluctuate in advance of changes
in market interest rates. Loan repayment rates and withdrawals of deposits
will likely differ substantially from the assumed rates previously set forth
in the event of significant changes in interest rates due to the option of
borrowers to prepay their loans and the ability of depositors to withdraw
funds prior to maturity. Further, certain assets, such as ARMs, have features
that restrict changes in interest rates on a short-term basis as well as over
the life of the asset.
12
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Financial Condition
Total assets at March 31, 2004 were $528.0 million, an increase of $83.1
million or 18.7% from March 31, 2003. This increase was the result of a
modest increase in net loans receivable and a significant increase in total
investment and mortgage-backed securities. The Bank sold its Denmark, South
Carolina branch office in February 2004. See Note 2 of the Notes to
Consolidated Financial Statements included herein for additional information.
The Denmark branch was the Bank's only branch in Bamberg County. The Bank
plans to explore expanding its branch network in Aiken and Lexington Counties
during the next few years.
Total net loans receivable were $259.9 million at March 31, 2004, an increase
of $16.7 million or 6.9% from $243.2 million at March 31, 2003. Residential
real estate loans increased $9.8 million or 9.8% to $109.7 million at March
31, 2004. Typically, long term, newly originated fixed rate mortgage loans
are not retained in the portfolio but are sold immediately. ARMs are
typically retained in the portfolio. At March 31, 2004, the Bank held 60.6%
of its residential mortgage loans in ARMs, while it had 39.4% in fixed rate
mortgages. Consumer loans decreased $953,000 or 2.0% while commercial
business and commercial real estate loans increased to $121.1 million at
fiscal year end from $107.0 million at March 31, 2003; an increase of $14.1
million or 13.2%. Loans held for sale, which were $1.7 million at March 31,
2004, decreased $2.0 million from the previous fiscal year end. Total
investments and mortgage-backed securities increased $63.6 million or 34.9% as
a result of the modest growth in net loans receivable, strong deposit growth,
and arbitrage strategies with FHLB advances.
Repossessed assets decreased $101,000 to $51,000 at March 31, 2004 from
$152,000 at March 31, 2003. Repossessed assets at March 31, 2004 consisted of
four automobiles.
Non-accrual loans totaled $2.0 million at March 31, 2004 compared to $1.0
million a year earlier. Non-accrual loans averaged 1.8 million in fiscal 2004
compared to $1.1 million during fiscal 2003. The Bank classifies all loans as
non-accrual when they become 90 days or more delinquent. The Bank had seven
loans totaling $646,000 at March 31, 2004 that were troubled debt
restructurings compared to four loans of $674,000 at March 31, 2003. One
$9,000 commercial loan was 30 days delinquent and a $201,000 commercial loan
was on non-accrual. The seven troubled debt restructurings consisted of three
consumer loans secured by residential dwellings totaling $355,000, a $9,000
commercial loan secured by a second mortgage on a residence, a $58,000
commercial loan secured by two rental properties, a $23,000 unsecured
commercial loan and a $201,000 commercial loan secured by commercial real
estate. All troubled debt restructurings are also considered impaired. At
March 31, 2004, the Bank held $1.4 million in impaired loans compared to $1.2
million at March 31, 2003.
The Bank reviews its loan portfolio and allowance for loan losses on a monthly
basis. Future additions to the Bank's allowance for loan losses are dependent
on, among other things, the performance of the Bank's loan portfolio, the
economy, changes in real estate values, and interest rates. There can be no
assurance that additions to the allowance will not be required in future
periods. Management continually monitors its loan portfolio for the impact of
local economic changes. The ratio of allowance for loan losses to total loans
was 2.17% at March 31, 2004 compared to 1.98% at March 31, 2003.
Deposits at the Bank increased $31.1 million or 8.7% to $389.6 million at
March 31, 2004 from $358.5 million at March 31, 2003. The Bank had tremendous
success in attracting money market accounts and certificate of deposit
accounts with aggressive pricing and advertising. Advances from the Federal
Home Loan Bank ("FHLB") increased to $96.3 million at March 31, 2004 from
$49.8 million a year earlier, an increase of $46.5 million. The Bank utilized
the majority of the increase in advances to use arbitrage strategies with
investments. Other borrowed money, which consists of retail repurchase
agreements, increased $1.3 million to $5.5 million at March 31, 2004 compared
to $4.2 million at March 31, 2003.
Total shareholders' equity was $33.5 million at March 31, 2004, an increase of
$3.5 million or 11.4% compared to $30.0 million a year earlier. The increase
was attributable to net income of $4.3 million and a decrease in the employee
stock ownership debt of $108,000, offset partially by a net decrease in
accumulated other comprehensive income of $755,000 and $203,000 in dividends
paid.
13
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Results of Operations
The following table presents the dollar amount of changes in interest income
and interest expense for major components of interest-earning assets and
interest-bearing liabilities. The table also distinguishes between the
changes related to higher or lower outstanding balances and the changes due to
the volatility of interest rates. For each category of interest-earning
assets and interest-bearing liabilities, information is provided on changes
attributable to: (1) changes in rate (changes in rate multiplied by prior year
volume); (2) changes in volume (changes in volume multiplied by prior year
rate); and (3) net change (the sum of the prior columns). For purposes of
this table, changes attributable to both rate and volume, which cannot be
segregated, have been allocated proportionately to the change due to volume
and the change due to rate.
Fiscal Year 2004 Compared To 2003 Fiscal Year 2003 Compared To 2002
---------------------------------- ------------------------------------
Volume Rate Net Volume Rate Net
------- -------- -------- --------- -------- -------
(In Thousands)
Interest-Earning Assets:
Loans: (1)
Real Estate Loans $ 142 $ (864) $ (722) $ (1,059) $ (495) $ (1,554)
Other Loans 448 (1,206) (758) (2,316) 1,336 (980)
------- -------- -------- -------- -------- --------
Total Loans 590 (2,070) (1,480) (3,375) 841 (2,534)
Mortgage-Backed Securities (2) 2,160 (1,134) 1,026 1,312 (612) 700
Investments (2) 396 (562) (166) 1,423 (527) 896
Other Interest-Earning Assets (21) (7) (28) 21 (55) (34)
------- -------- -------- -------- -------- --------
Total Interest-Earning Assets $ 3,125 $ (3,773) $ (648) $ (619) $ (353) $ (972)
======= ======== ======== ======== ======== ========
Interest-Bearing Liabilities:
Deposits:
Certificate Accounts $ (324) $ (1,196) $ (1,520) $ 352 $ (2,743) $ (2,391)
NOW Accounts 32 (10) 22 32 (24) 8
Money Market Accounts 1,041 (441) 600 796 (661) 135
Savings Accounts 19 (82) (63) 46 (92) (46)
------- -------- -------- -------- -------- --------
Total Deposits 768 (1,729) (961) 1,226 (3,520) (2,294)
Borrowings 1,310 (759) 551 420 (322) 98
------- -------- -------- -------- -------- --------
Total Interest-Bearing
Liabilities 2,078 (2,488) (410) 1,646 (3,842) (2,196)
------- -------- -------- -------- -------- --------
Effect On Net Income $ 1,047 $ (1,285) $ (238) $ (2,265) $ 3,489 $ 1,224
======= ======== ======== ======== ======== ========
(1) INTEREST ON NON-ACCRUAL LOANS IS NOT INCLUDED IN INCOME, ALTHOUGH THEIR LOAN BALANCES ARE INCLUDED IN
AVERAGE LOANS OUTSTANDING.
(2) SECURITIES AVAILABLE FOR SALE ARE COMPUTED USING THEIR HISTORICAL COST.
14
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Results of Operations, Continued
The following table presents the total dollar amount of interest income from
average interest-earning assets for the periods indicated and the resultant
yields as well as the interest expense on average interest-bearing liabilities
expressed both in dollars and rates. No tax equivalent adjustments were made.
Averages For Fiscal Years Ended March 31,
-----------------------------------------------------------------------------------
Yield/ 2004 2003 2002
Rate At -------------------------- -------------------------- -------------------------
March 31, Average Yield/ Average Yield/ Average Yield/
2004 Balance Interest Rate Balance Interest Rate Balance Interest Rate
-------- ------- -------- ------ ------- -------- ------ ------- -------- ------
(Dollars in Thousands)
Interest-Earning
Assets:
Mortgage
Loans 5.47% $ 92,824 $ 5,557 5.99% $ 90,729 $ 6,279 6.92% $105,676 $ 7,833 7.41%
Other Loans 6.01% 152,922 9,892 6.47% 146,581 10,650 7.27% 130,359 11,630 8.92%
---- -------- ------- ---- -------- ------- ---- -------- ------- ----
Total Loans
(1) 5.80% 245,746 15,449 6.29% 237,310 16,929 7.13% 236,035 19,463 8.25%
Mortgage-Backed
Securities
(2) 3.79% 139,025 4,479 3.22% 77,911 3,453 4.43% 50,045 2,753 5.50%
Investments
(2) 3.46% 85,480 3,067 3.59% 75,468 3,233 4.28% 43,924 2,337 5.32%
Other
Interest-
Earning
Assets 1.21% 1,542 16 1.04% 3,478 44 1.27% 2,598 79 3.04%
---- -------- ------- ---- -------- ------- ---- -------- ------- ----
Total Interest-
Earning Assets 4.77% $471,793 $23,011 4.88% $394,167 $23,659 6.00% $332,602 $24,632 7.41%
==== ======== ======= ==== ======== ======= ==== ======== ======= ====
Interest-
Bearing
Liabilities:
Certificate
Accounts 2.26% $143,986 $ 3,482 2.42% $154,614 $ 5,002 3.24% $147,263 $ 7,393 5.02%
NOW Accounts 0.65% 57,825 354 0.61% 52,455 332 0.63% 47,691 324 0.68%
Money Market
Accts. 1.97% 135,190 2,718 2.01% 86,093 2,118 2.46% 57,804 1,983 3.43%
Savings
Accounts 0.98% 17,291 174 1.01% 15,859 237 1.49% 13,418 283 2.11%
---- -------- ------- ---- -------- ------- ---- -------- ------- ----
Total
Interest-
Bearing
Accounts 1.83% 354,292 6,728 1.90% 309,021 7,689 2.49% 266,176 9,983 3.75%
Other
Borrowings 0.93% 5,361 52 0.97% 5,663 89 1.57% 4,187 115 2.75%
FHLB
Advances 3.59% 72,995 2,826 3.87% 42,123 2,238 5.31% 35,351 2,114 5.98%
---- -------- ------- ---- -------- ------- ---- -------- ------- ----
Total Interest-
Bearing
Liabilities 2.18% $432,648 $ 9,606 2.22% $356,807 $10,016 2.81% $305,714 $12,212 3.99%
==== ======== ======= ==== ======== ======= ==== ======== ======= ====
Net Interest
Income $13,405 $13,643 $12,420
======= ======= =======
Interest Rate
Spread 2.59% 2.66% 3.19% 3.42%
==== ==== ==== ====
Net Yield On
Earning
Assets 2.84% 3.46% 3.73%
==== ==== ====
(1) INTEREST ON NON-ACCRUAL LOANS IS NOT INCLUDED IN INCOME, ALTHOUGH THEIR LOAN BALANCES ARE INCLUDED IN
AVERAGE LOANS OUTSTANDING.
(2) SECURITIES AVAILABLE FOR SALE ARE COMPUTED USING THEIR HISTORICAL COST.
15
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Comparison of the Years Ended March 31, 2004 and 2003
General
The Company earned record net income of $4.3 million for the year ended March
31, 2004, an increase of $1.0 million or 31.9% over net income of for the year
ended March 31, 2003. This marked the seventh consecutive year of record
earnings. The primary reason for the increased earnings was a branch sale
that netted $820,000 after tax and contingencies and a decrease in the
provision for loan losses of $600,000 offset in part by a decrease of $326,000
in the gain on sale of mortgage loans and an increase of $242,000 in general
and administrative expenses. Without the branch sale, earnings for fiscal
2004 would have been a record $3.4 million or a 6.6% increase from the
previous year.
Net Interest Income
Net interest income decreased $239,000 or 1.8% to $13.4 million in fiscal 2004
compared to $13.6 million in fiscal 2003. The decrease was attributable to a
shrinking interest rate spread. The Bank's interest rate spread decreased 53
basis points to 2.66% during fiscal 2004. The yield of average earning assets
decreased 112 basis points to 4.88%, while the cost of average interest
bearing liabilities decreased 59 basis points to 2.22%.
Interest income on loans decreased $1.5 million to $15.4 million during the
year ended March 31, 2004 compared to $16.9 million during fiscal 2003. The
decrease was attributable to the decrease in overall interest rates charged on
the Bank's loans during fiscal 2004 and a decrease in the yields earned on
average total loans of 0.84%. Average total loan balances during fiscal 2004
and 2003 increased $8.4 million. Interest income on investment securities,
mortgage-backed securities, and other investments increased $832,000 as a
result of a $69.2 million, or 44.1% increase in aggregate average balances
during fiscal 2004 compared with 2003. Consistent with general market
conditions, the yields on aggregate investments and mortgage-backed securities
decreased by 94 basis points in fiscal 2004 compared to 2003.
Interest expense on deposits decreased $961,000 or 12.5% during the year ended
March 31, 2004 compared to the year ended March 31, 2003. Average interest
bearing deposits increased $45.3 million while the average cost of those
deposits decreased 59 basis points during the year. Interest expense on FHLB
advances and other borrowings increased $551,000 or 23.7% during fiscal 2004
compared to 2003. The increase was a result of an increase in average FHLB
advances outstanding during the year of $30.9 million offset partially by a
decrease in the weighted average interest rate paid on FHLB advances of 144
basis points.
Provision for Loan Losses
The Company's provision for loan losses decreased $600,000 to $1.2 million
during the year ended March 31, 2004 from $1.8 million in fiscal 2003. During
fiscal year 2003, the bank's internal review mechanism had identified several
loans as potential problem loans. Management provided extra funding to the
allowance for loan losses to cover these loans. The amount of the provision
is determined by management's on-going monthly analysis of the loan portfolio.
Management uses three methods to measure the estimate of the adequacy of the
allowance for loan losses. These methods incorporate percentage of classified
loans, five-year averages of historical loan losses in each loan category, and
current economic trends, and assign percentage targets of reserves in each
loan category. Management has used all three methods for the past five fiscal
years.
Non-accrual loans, which are loans delinquent 90 days or more, were $2.0
million at March 31, 2004 compared to $1.0 million at March 31, 2003. Net
charge-offs were $347,000 in fiscal 2004 compared to $578,000 in fiscal 2003.
The ratio of the allowance for loan losses to total loans at March 31, 2004
was 2.17% compared to 1.98% at March 31, 2003. Management believes the
allowance for loan losses is adequate based on its best estimates of the
losses inherent in the loan portfolio, although there can be no guarantee as
to these estimates. In addition, bank regulatory agencies may require
additions to the allowance for loan losses based on their judgments and
estimates as part of their examination process. Because the allowance for
loan losses is an estimate, there can be no guarantee that actual loan losses
would not exceed the allowance for loan losses or that additional increases in
the allowance for loan losses will not be required in the future.
16
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Other Income
Other income increased $1.4 million from $3.8 million during fiscal 2003 to
$5.2 million during fiscal 2004 as a result of the before tax and
contingencies gain on the sale of the Denmark, South Carolina branch of $1.5
million. Without the branch sale, other income would have decreased $98,000
or 2.6%. Gain on sale of loans decreased $326,000 to $1.3 million during
fiscal 2004 compared to fiscal 2003 a result of a decline in re-finances in
the mortgage industry. Loan servicing fees increased $5,000 or 2.2% during
fiscal 2004. Service fees on deposit accounts increased $78,000 or 6.2% a
result of growth in demand deposit accounts. Other miscellaneous income
including trust fees, life and casualty insurance commissions, annuity and
investment brokerage commissions, credit life insurance, and other
miscellaneous income increased $142,000 or 21.3% to $811,000 during fiscal
2004 compared to $669,000 during fiscal 2003. The Bank's three financial
subsidiaries, Security Federal Insurance, Inc., Security Federal Investments,
Inc., and Security Federal Trust, Inc., began operating in the latter part of
the fiscal year ended March 31, 2002. Security Federal Insurance, Inc. is an
insurance agency handling property and casualty insurance and life and health
insurance. It became profitable during the fiscal year ended March 31, 2004.
Security Federal Investments, Inc. markets mutual funds, discount brokerage,
and annuities. Security Federal Trust, Inc., is a full-service trust company.
Both companies have not yet attained profitability.
General and Administrative Expenses
General and administrative expenses increased $242,000 or 2.3% to $10.7
million during the year ended March 31, 2004 compared to $10.5 million during
the same period one year earlier primarily a result of a $200,000 contingency
expensed for the sale of the Denmark, South Caroline branch office. Without
that expense, general and administrative expenses would have increased only
$42,000 or 0.4%. Compensation and employee benefits increased $69,000 or 1.2%
a result of normal annual salary adjustments. Occupancy expense increased
$172,000 or 21.1% due to the opening of the new Lexington, South Carolina
branch office. Advertising expense decreased $5,000 while depreciation and
maintenance of equipment expense increased $32,000 or 3.0% and FDIC
insurance premiums increased $3,000 or 5.3% to $56,000. Amortization of
intangibles expense decreased $185,000 to zero for fiscal 2004. At March 31,
2004, the Company has no intangible assets on its balance sheet. Excluding
the branch sale contingency expense of $200,000, other miscellaneous expenses,
which encompasses repossessed assets expense, legal, professional, and
consulting expenses, stationery and office supplies, and other sundry expenses
decreased $43,000 or 1.9% during fiscal 2004.
Income Taxes
The provision for income taxes increased $511,000 to $2.4 million during the
year ended March 31, 2004 compared to $1.9 million for the year ended March
31, 2003 a result of an increase in taxable income. The effective tax rate
was 36.5% for fiscal 2004 and 37.5% for fiscal 2003.
17
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Comparison of the Years Ended March 31, 2003 and 2002
General
The Company earned record net income of $3.2 million for the year ended March
31, 2003, an increase of $722,000 or 28.8% over net income of $2.5 million for
the year ended March 31, 2002. This marked the sixth consecutive year of
record earnings. The primary reason for the increased earnings was an
increase in net interest income and other income offset in part by increases
in the provision for loan losses.
Net Interest Income
Net interest income increased $1.2 million to $13.6 million in fiscal 2003
compared to $12.4 million in fiscal 2002. The increase was a result of a
$61.6 million increase in total average interest-earning assets in 2003
compared with 2002. The Bank's net yield on earning assets decreased 27 basis
points during the year primarily as a result of the decline in market interest
rates in calendar year 2002; however the effect of the decrease on net
interest income was more than offset by the 18.5% increase in total average
interest-bearing assets.
Interest income on loans decreased $2.5 million during the year ended March
31, 2003 compared to fiscal 2002. The decrease was attributable to the
decrease in overall interest rates charged on the Bank's loans during fiscal
2003 and a decrease in the yields earned on average total loans of 1.12%.
Average total loan balances during fiscal 2003 and 2002 were relatively
stable. Interest income on investment securities, mortgage-backed securities,
and other investments increased $1.6 million as a result of a $60.3 million,
or 62.4% increase in aggregate average balances during fiscal 2003 compared
with 2002. Consistent with general market conditions, the yields on aggregate
investments and mortgage-backed securities decreased by 1.06% in fiscal 2003
compared to 2002.
Interest expense on deposits decreased $2.3 million during the year ended
March 31, 2003 compared to the year ended March 31, 2002. Average interest
bearing deposits increased $42.8 million while the average cost of those
deposits decreased 1.26% during the year. Interest expense on FHLB advances
and other borrowings increased $98,000 during fiscal 2003 compared to 2002.
The increase was as a result of an increase in the average of other borrowings
and FHLB advances outstanding during the year of $8.2 million offset partially
by a decrease in interest rates on FHLB advances of 67 basis points. The
total average cost of borrowings decreased 77 basis points in fiscal 2003
compared to fiscal 2002.
Provision for Loan Losses
The Company's provision for loan losses increased $275,000 to $1.8 million
during the year ended March 31, 2003. The amount of the provision is
determined by management's on-going monthly analysis of the loan portfolio.
Management uses three methods to measure the estimate of the adequacy of the
allowance for loan losses. These methods incorporate percentage of classified
loans, five-year averages of historical loan losses in each loan category, and
current economic trends, and assign percentage targets of reserves in each
loan category. Management has used all three methods for the past four fiscal
years.
Non-accrual loans, which are loans delinquent 90 days or more, were $1.0
million at March 31, 2003 compared to $1.4 million at March 31, 2002. Net
charge-offs were $578,000 in fiscal 2003 compared to $620,000 in fiscal 2002.
The ratio of the allowance for loan losses to total loans at March 31, 2003
was 1.98% compared to 1.55% at March 31, 2002. Management felt it prudent to
increase the provision due to the predicted general slowing of the national
economy, the cyclical nature of economic business trends, the growing
percentage of commercial loans in the portfolio compared to residential
mortgage loans, and the entrance into a new loan market for the Bank the prior
year. Management believes the allowance for loan losses is adequate based on
its best estimates of the losses inherent in the loan portfolio, although
there can be no guarantee as to these estimates. In addition, bank regulatory
agencies may require additions to the allowance for loan losses based on their
judgments and estimates as part of their examination process. Because the
allowance for loan losses is an estimate, there can be no guarantee that
actual loan losses would not exceed the allowance for loan losses or that
additional increases in the allowance for loan losses will not be required in
the future.
18
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Other Income
Other income increased $346,000 or 10.0% from $3.5 million during fiscal 2002
to $3.8 million during fiscal 2003. Gain on sale of loans increased $134,000
to $1.7 million during fiscal 2003 compared to $1.5 million during fiscal
2002. Proceeds of loans held for sale decreased $4.0 million in fiscal year
2003 compared to the previous year; however, a concerted effort to better
manage the Bank's secondary market sales resulted in better pricing in fiscal
year 2003 compared to 2002. Loan servicing fees increased $11,000. Service
fees on deposit accounts increased $106,000 as a result the growth in demand
deposit accounts. Other miscellaneous income including credit life insurance,
annuity, and investment brokerage commissions, and other miscellaneous income
increased $122,000 or 22.3% during fiscal 2003.
General and Administrative Expenses
General and administrative expenses increased $146,000 or 1.4% to $10.5
million during the year ended March 31, 2003 compared to $10.3 million during
the same period one year earlier. Compensation and employee benefits
increased $149,000 or 2.6% as a result of normal annual salary adjustments.
Occupancy expense increased $6,000 or less than 1.0%. Advertising expense
increased $41,000 during fiscal 2003 due to the promotion of the Bank's
financial service subsidiaries and the advertisement of the Bank's deposit
rates. Depreciation and maintenance of equipment expense decreased $45,000 or
4.1%. Other miscellaneous expenses encompassing repossessed assets expense,
legal, professional, and consulting expenses, stationery and office supplies,
and other sundry expenses increased $271,000 or 14.0% during fiscal 2003
primarily as a result of slight increases in most of the above mentioned
expenses.
Income Taxes
The provision for income taxes increased $427,000 during the year ended March
31, 2003 compared to the year ended March 31, 2002 as a result of an increase
in taxable income. The effective tax rate was 37.5% for fiscal 2003 and 37.6%
for fiscal 2002.
19
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Regulatory Capital
The following table reconciles the Bank's shareholders' equity to its various
regulatory capital positions:
March 31,
2004 2003
-------- --------
(In Thousands)
Shareholders' Equity (1) (2) $ 32,140 $ 28,879
Reduction For Goodwill And Other Intangibles - -
-------- --------
Tangible Capital 32,140 28,879
-------- --------
Qualifying Core Deposit Intangibles - -
Core Capital 32,140 28,879
-------- --------
Supplemental Capital 3,412 3,064
Less Assets Required To Be Deducted 54 152
-------- --------
Total Risk-Based Capital $ 35,498 $ 31,791
======== ========
(1) FOR FISCAL 2004 AND 2003, EXCLUDES UNREALIZED GAINS OF $690,000 AND $1.4
MILLION, RESPECTIVELY ON AVAILABLE FOR SALE SECURITIES.
(2) FOR FISCAL 2004 AND 2003, EXCLUDES EQUITY OF THE COMPANY.
The following table compares the Bank's capital levels relative to regulatory
requirements at March 31, 2004:
Amount Percent Actual Actual Excess Excess
Required Required Amount Percent Amount Percent
-------- -------- ------ ------- ------- -------
(Dollars in Thousands)
Tangible Capital $ 10,546 2.0% $ 32,140 6.1% $ 21,594 4.1%
Tier 1 Leverage
(Core) Capital 21,093 4.0% 32,140 6.1% 11,047 2.1%
Tier 1 Risk-Based
(Core) Capital 10,917 4.0% 32,140 11.8% 21,223 7.8%
Total Risk-Based
Capital 21,834 8.0% 35,498 13.0% 13,664 5.0%
20
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Liquidity and Capital Resources
Liquidity refers to the ability of the Bank to generate sufficient cash flows
to fund current loan demand, repay maturing borrowings, fund maturing deposit
withdrawals, and meet operating expenses. The Bank's primary sources of funds
include loan repayments, loan sales, increased deposits, advances from the
FHLB, and cash flow generated from operations. The need for funds varies
among periods depending on funding needs as well as the rate of amortization
and prepayment on loans. The use of FHLB advances varies depending on loan
demand, deposit inflows, and the use of investment leverage strategies to
increase net interest income.
The principal use of the Bank's funds is the origination of mortgages and
other loans and the purchase of investments and mortgage-backed securities.
Loan originations on loans held for investment were $180.9 million in fiscal
2004 compared to $145.3 million in fiscal 2003 and $128.3 million in fiscal
2002. Purchases of investments and mortgage-backed securities were $200.9
million in fiscal 2004 compared to $168.2 million in fiscal 2003 and $104.0
million in fiscal 2002.
Outstanding loan commitments for the Bank's residential mortgage loan
portfolio amounted to $429,000 at March 31, 2004 compared to $200,000 at March
31, 2003. Those commitments were for adjustable rate mortgage loans in which
the commitment generally expires in 45 days. In addition, unused lines of
credit on home equity loans, credit cards, and commercial loans amounted to
$41.9 million at March 31, 2004. Home equity loans are made on a floating
rate basis with final maturities of 10 to 15 years. Credit cards are
generally made on a floating rate basis, and are renewed annually or every
other year. Management does not anticipate that the percentage of funds drawn
on unused lines of credit will increase substantially over amounts currently
utilized. In addition to the above commitments the Bank has undisbursed
loans-in-process of $12.4 million at March 31, 2004 which will disburse over
an average of 90 days. These commitments to originate loans and future
advances of lines of credit are expected to be provided from loan
amortizations and prepayments, deposit inflows, maturing investments and
short-term borrowing capacity.
Management believes that liquidity during fiscal 2005 can be met through the
Bank's deposit base, which increased $31.1 million during fiscal 2004, and
from maturing investments. Also, the Bank has another $35.7 million in unused
borrowing capacity at FHLB.
Historically the Bank's cash flow from operating activities has been
relatively stable. The cash flows from investing activities have had a trend
of increasing outflows as a result of increases in purchases of
mortgage-backed and investment securities. The cash flows from financing
activities have had a trend of increased inflows as a result of increases in
FHLB advances. See "Consolidated Statements of Cash Flows" in the
Consolidated Financial Statements.
21
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Contractual Obligations
In the normal course of business, the Company enters into contractual
obligations that meet various business needs. These contractual obligations
include time deposits to customers, borrowings from the FHLB of Atlanta and
lease obligations for facilities. See Notes 6, 8, and 9 of the Notes to
Consolidated Financial Statements included herein for additional information.
The following table summarizes the Company's long-term contractual obligations
at March 31, 2004:
Less than One to Three to
One Year Three Years Five Years Thereafter Total
--------- ----------- ---------- ---------- --------
(In Thousands)
Time deposits $ 89,632 $ 24,568 $ 18,700 $ - $132,900
FHLB Advances 13,336 43,000 30,000 10,000 96,336
Operating Lease
Obligations 278 527 497 1,980 3,282
Purchase
Obligation -
Building
Contract - - - - -
-------- -------- -------- -------- --------
Total $103,246 $ 68,095 $ 49,197 $ 11,980 $232,518
======== ======== ======== ======== ========
Off-Balance Sheet Arrangements
In the normal course of business, the Company makes off-balance sheet
arrangements, including credit commitments to its customers to meet their
financial needs. These arrangements involve, to varying degrees, elements of
credit and interest rate risk not recognized in the consolidated statement of
financial condition. The bank makes personal, commercial, and real estate
lines of credit available to customers and does issue standby letters of
credit.
Commitments to extend credit to customers are subject to the Bank's normal
credit policies and are essentially the same as those involved in extending
loans to customers. See Note 13 of the Notes to Consolidated Financial
Statements included herein for additional information.
Impact of Inflation and Changing Prices
The consolidated financial statements, related notes, and other financial
information presented herein have been prepared in accordance with Generally
Accepted Accounting Principles ("GAAP") that require the measurement of
financial position and operating results in terms of historical dollars
without considering changes in relative purchasing power over time due to
inflation. Unlike most industrial companies, substantially all of the assets
and liabilities of a financial institution are monetary in nature. As a
result, interest rates generally have a more significant impact on a financial
institution's performance than does the effect of inflation.
22
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Consolidated Balance Sheets
March 31,
---------------------------
2004 2003
------------ ------------
ASSETS:
Cash And Cash Equivalents $ 6,749,211 $ 8,238,690
Investment And Mortgage-Backed Securities:
Available For Sale: (Amortized Cost of
$173,300,028 and $157,821,789 at March 31,
2004 and 2003, Respectively) 174,411,819 160,150,262
Held To Maturity: (Fair Value of $71,686,256
and $22,040,207 at March 31, 2004 and 2003,
Respectively) 71,303,507 21,966,533
------------ ------------
Total Investment And Mortgage-Backed Securities 245,715,326 182,116,795
------------ ------------
Loans Receivable, Net:
Held For Sale 1,703,869 3,670,498
Held For Investment: (Net of Allowance of
$5,763,935 and $4,911,224 at March 31, 2004
and 2003, Respectively) 258,190,791 239,485,158
------------ ------------
Total Loans Receivable, Net 259,894,660 243,155,656
------------ ------------
Accrued Interest Receivable:
Loans 902,589 976,134
Mortgage-Backed Securities 549,541 441,900
Investments 778,725 667,735
------------ ------------
Total Accrued Interest Receivable 2,230,855 2,085,769
------------ ------------
Premises And Equipment, Net 6,562,734 5,219,947
Federal Home Loan Bank Stock, At Cost 4,816,800 2,858,600
Repossessed Assets Acquired In Settlement
Of Loans 50,869 151,450
Other Assets 1,984,598 1,077,078
------------ ------------
Total Assets $528,005,053 $444,903,985
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY:
Liabilities:
Deposit Accounts $389,592,645 $358,473,601
Advances From Federal Home Loan Bank 96,336,000 49,772,000
Other Borrowings 5,477,023 4,193,480
Advance Payments By Borrowers For Taxes
And Insurance 317,421 279,425
Other Liabilities 2,810,049 2,145,526
------------ ------------
Total Liabilities 494,533,138 414,864,032
------------ ------------
Commitments (Notes 6 and 13)
Shareholders' Equity:
Serial Preferred Stock, $.01 Par Value;
Authorized 200,000 Shares; Issued And
Outstanding, None - -
Common Stock, $.01 Par Value; Authorized
5,000,000 Shares, Issued 2,533,291 And
Outstanding Shares, 2,516,191 at March 31,
2004 And 2,529,824 And 2,507,717 at
March 31, 2003 25,333 25,298
Additional Paid-In Capital 4,013,674 3,995,230
Indirect Guarantee Of Employee Stock
Ownership Trust Debt (336,972) (444,685)
Accumulated Other Comprehensive Income 689,755 1,444,585
Retained Earnings, Substantially Restricted 29,080,125 25,019,525
------------ ------------
Total Shareholders' Equity 33,471,915 30,039,953
------------ ------------
Total Liabilities And Shareholders' Equity $528,005,053 $444,903,985
============ ============
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
24
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Income
For the Years Ended March 31,
----------------------------------------
2004 2003 2002
------------ ------------ ------------
Interest Income:
Loans $15,448,987 $16,929,226 $19,462,998
Mortgage-Backed Securities 4,479,444 3,453,195 2,752,563
Investment Securities 3,066,824 3,233,033 2,337,395
Other 15,750 44,379 79,319
------------ ------------ ------------
Total Interest Income 23,011,005 23,659,833 24,632,275
------------ ------------ ------------
Interest Expense:
NOW And Money Market Accounts 3,071,306 2,450,502 2,307,002
Passbook Accounts 174,353 236,657 282,646
Certificate Accounts 3,482,214 5,002,233 7,392,855
FHLB Advances And Other
Borrowed Money 2,878,227 2,326,872 2,229,154
------------ ------------ ------------
Total Interest Expense 9,606,100 10,016,264 12,211,657
------------ ------------ ------------
Net Interest Income 13,404,905 13,643,569 12,420,618
Provision For Loan Losses 1,200,000 1,800,000 1,525,000
------------ ------------ ------------
Net Interest Income After Provision
For Loan Losses 12,204,905 11,843,569 10,895,618
------------ ------------ ------------
Other Income:
Gain On Sale Of Investment
Securities 7,700 4,245 29,817
Gain On Sale Of Loans 1,329,729 1,656,152 1,522,535
Loan Servicing Fees 213,437 208,791 198,124
Service Fees On Deposit Accounts 1,351,175 1,272,782 1,166,958
Gain On Sale Of Branch 1,521,401 - -
Other 811,323 669,143 547,305
------------ ------------ ------------
Total Other Income 5,234,765 3,811,113 3,464,739
------------ ------------ ------------
General And Administrative Expenses:
Compensation And Employee Benefits 6,023,215 5,953,904 5,805,020
Occupancy 985,378 813,113 807,430
Advertising 210,962 216,204 175,256
Depreciation And Maintenance Of
Equipment 1,086,930 1,055,181 1,100,237
Amortization Of Intangibles - 185,210 465,240
FDIC Insurance Premiums 55,596 52,793 48,442
Other 2,362,783 2,206,237 1,934,847
------------ ------------ ------------
Total General And Administrative
Expenses 10,724,864 10,482,642 10,336,472
------------ ------------ ------------
Income Before Income Taxes 6,714,806 5,172,040 4,023,885
Provision For Income Taxes 2,451,643 1,940,879 1,514,299
------------ ------------ ------------
Net Income $ 4,263,163 $ 3,231,161 $ 2,509,586
============ ============ ============
Net Income Per Common Share (Basic) $ 1.70 $ 1.29 $ 1.00
============ ============ ============
Net Income Per Common Share
(Diluted) $ 1.66 $ 1.26 $ 0.98
============ ============ ============
Cash Dividend Per Share On
Common Stock $ 0.08 $ 0.0602 $ 0.0536
============ ============ ============
Weighted Average Shares
Outstanding (Basic) 2,513,319 2,508,774 2,506,709
============ ============ ============
Weighted Average Shares
Outstanding (Diluted) 2,560,710 2,558,607 2,560,368
============ ============ ============
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
25
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Shareholders' Equity and Comprehensive Income
For the Years Ended March 31, 2004, 2003 and 2002
- -----------------------------------------------------------------------------------------------------------
Accumulated
Additional Indirect Other
Common Paid - In Guarantee Comprehensive Retained
Stock Capital of ESOP Debt Income (Loss) Earnings Total
-------- ---------- ------------- ------------- --------- ----------
Balance At March 31, 2001 $16,842 $3,985,312 $ (415,000) $ 348,015 $19,565,195 $23,500,364
Net Income - - - - 2,509,586 2,509,586
Other Comprehensive Income,
Net Of Tax:
Unrealized Holding Losses
On Securities Available
For Sale - - - (511,671) - (511,671)
Reclassification Adjustment
For Gains Included In Net
Income - - - (19,679) - (19,679)
-----------
Comprehensive Income - - - - - 1,978,236
Decrease in Indirect Guarantee
of ESOP Debt - - 56,703 - - 56,703
Cash Dividends - - - - (134,740) (134,740)
------- ---------- ---------- ----------- ----------- -----------
Balance At March 31, 2002 $16,842 $3,985,312 $ (358,297) $ (183,335) $21,940,041 $25,400,563
======= ========== ========== =========== =========== ===========
- -----------------------------------------------------------------------------------------------------------
Accumulated
Additional Indirect Other
Common Paid - In Guarantee Comprehensive Retained
Stock Capital of ESOP Debt Income (Loss) Earnings Total
-------- ---------- ------------- ------------- --------- ----------
Balance At March 31, 2002 $16,842 $3,985,312 $ (358,297) $ (183,335) $21,940,041 $25,400,563
Net Income - - - - 3,231,161 3,231,161
Other Comprehensive Income,
Net Of Tax:
Unrealized Holding Gains
On Securities Available
For Sale - - - 1,630,552 - 1,630,552
Reclassification Adjustment
For Gains Included In Net
Income - - - (2,632) - (2,632)
-----------
Comprehensive Income - - - - - 4,859,081
Exercise of Stock Options 23 18,473 18,496
3-For- 2 Stock Split 8,433 (8,555) (122)
Increase in Indirect Guarantee
of ESOP Debt - - (86,388) - - (86,388)
Cash Dividends - - - - (151,677) (151,677)
------- ---------- ---------- ----------- ----------- -----------
Balance At March 31, 2003 $25,298 $3,995,230 $ (444,685) $ 1,444,585 $25,019,525 $30,039,953
======= ========== ========== =========== =========== ===========
- -----------------------------------------------------------------------------------------------------------
Accumulated
Additional Indirect Other
Common Paid - In Guarantee Comprehensive Retained
Stock Capital of ESOP Debt Income (Loss) Earnings Total
-------- ---------- ------------- ------------- --------- ----------
Balance At March 31, 2003 $25,298 $3,995,230 $ (444,685) $ 1,444,585 $25,019,525 $30,039,953
Net Income - - - - 4,263,163 4,263,163
Other Comprehensive Income,
Net Of Tax:
Unrealized Holding Gains
On Securities Available
For Sale - - - (750,056) - (750,056)
Reclassification Adjustment
For Gains Included In Net
Income - - - (4,774) - (4,774)
-----------
Comprehensive Income - - - - - 3,508,333
Exercise of Stock Options 35 18,444 18,479
Decrease in Indirect Guarantee
of ESOP Debt - - 107,713 - - 107,713
Cash Dividends - - - - (202,563) (202,563)
------- ---------- ---------- ----------- ----------- -----------
Balance At March 31, 2004 $25,333 $4,013,674 $ (336,972) $ 689,755 $29,080,125 $33,471,915
======= ========== ========== =========== =========== ===========
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
26
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the Years Ended March 31,
-------------------------------------------
2004 2003 2002
------------- ------------- -------------
CASH FLOWS FROM OPERATING
ACTIVITIES:
Net Income $ 4,263,163 $ 3,231,161 $ 2,509,586
Adjustments To Reconcile Net
Income To Net Cash Provided By
Operating Activities:
Depreciation 844,641 825,253 959,341
Amortization Of Intangibles - 185,210 465,240
Discount Accretion And Premium
Amortization 828,444 327,329 178,126
Provisions For Losses On Loans
And Real Estate 1,200,000 1,800,000 1,525,000
Gain On Sales Of Loans (1,329,729) (1,656,152) (1,522,535)
Gain On Sales Of Investment
Securities (7,700) (4,245) (29,817)
(Gain) Loss On Sale Of Real
Estate (85,713) (68,419) 13,681
Amortization Of Deferred Fees
On Loans (187,937) (209,430) (223,581)
(Gain) Loss On Disposition Of
Premises And Equipment (1,815) 1,811 (330)
Proceeds From Sale Of Loans
Held For Sale 64,827,155 82,001,517 86,027,850
Origination Of Loans For Sale (61,530,797) (81,849,945) (84,455,282)
(Increase) Decrease In Accrued
Interest Receivable:
Loans 66,894 273,139 98,905
Mortgage-Backed Securities (107,641) (158,125) (103,798)
Investments (110,990) (17,701) (77,960)
(Decrease) Increase In Advance
Payments By Borrowers 37,996 32,276 (135,329)
Other, Net 359,259 (749,680) (1,098,713)
------------- ------------- -------------
Net Cash Provided By Operating
Activities 9,065,230 3,963,999 4,130,384
------------- ------------- -------------
CASH FLOWS FROM INVESTING
ACTIVITIES:
Purchase Of Mortgage-Backed
Securities Available For Sale (110,002,424) (80,157,881) (40,134,586)
Principal Repayments On
Mortgage-Backed Securities
Available For Sale 55,003,975 30,444,934 17,931,424
Principal Repayments On
Mortgage-Backed Securities
Held To Maturity 591,457 431,751 740,244
Purchase Of Investment
Securities Held To Maturity (90,880,070) (20,995,471) -
Purchase Of Investment
Securities Available For Sale - (67,041,485) (63,835,317)
Maturities Of Investment
Securities Available For Sale 36,242,259 75,281,684 34,642,931
Maturities Of Investment
Securities Held To Maturity 40,995,331 133,025 102,351
Proceeds From Sales Of
Investment Securities Available
For Sale - 985,938 2,003,738
Proceeds From Sale of Mortgage-
Backed Securities Available
For Sale 2,413,515 - 3,075,600
Purchase Of FHLB Stock (5,338,000) (1,017,500) -
Redemption Of FHLB Stock 3,379,800 828,200 761,700
Increase In Loans Receivable (22,245,974) (9,796,818) (5,075,962)
Proceeds From Sale Of
Repossessed Assets 781,537 847,009 468,475
Purchase And Improvement Of
Premises And Equipment (2,419,827) (1,187,871) (555,524)
Proceeds From Sale of Premises
and Equipment 1,815 - 330
Net Cash Outflow From Sale
of Branch (9,930,521) - -
------------- ------------- -------------
Net Cash Used By Investing
Activities (101,407,127) (71,244,485) (49,874,596)
------------- ------------- -------------
(Continued)
27
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Consolidated Statements of Cash Flows, Continued
For the Years Ended March 31,
-------------------------------------------
2004 2003 2002
------------- ------------- -------------
CASH FLOWS FROM FINANCING
ACTIVITIES:
Increase In Deposit Accounts 43,188,959 49,435,999 51,627,185
Proceeds From FHLB Advances 226,425,000 119,200,000 75,075,000
Repayment Of FHLB Advances (179,861,000) (102,536,000) (84,671,000)
Proceeds (Repayment) Of Other
Borrowings, Net 1,283,543 (1,975,931) 2,760,049
Purchase Of Fractional Shares
Due To Stock Split - (122) -
Proceeds From Exercise Of
Stock Options 18,479 18,496 -
Dividends To Shareholders (202,563) (151,677) (134,740)
------------- ------------- -------------
Net Cash Provided By Financing
Activities 90,852,418 63,990,765 44,656,494
------------- ------------- -------------
Net Decrease In Cash And Cash
Equivalents (1,489,479) (3,289,721) (1,087,718)
Cash And Cash Equivalents At
Beginning Of Year 8,238,690 11,528,411 12,616,129
------------- ------------- -------------
Cash And Cash Equivalents At
End Of Year $ 6,749,211 $ 8,238,690 $ 11,528,411
============= ============= =============
SUPPLEMENTAL DISCLOSURE OF CASH
FLOW INFORMATION:
Cash Paid During The Period For:
Interest $ 9,740,893 $ 10,246,814 $ 12,780,647
============= ============= =============
Income Taxes $ 2,076,388 $ 2,710,335 $ 1,994,513
============= ============= =============
Supplemental Schedule Of Non
Cash Transactions:
Additions To Repossessed Assets $ 595,243 $ 874,040 $ 402,656
============= ============= =============
Increase (Decrease) In
Unrealized Net Gain On
Securities Available For Sale,
Net Of Taxes $ (754,830) $ 1,627,920 $ (531,350)
============= ============= =============
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
28
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(1) Significant Accounting Policies
-------------------------------
The following is a description of the more significant accounting and
reporting policies used in the preparation and presentation of the
accompanying consolidated financial statements. All significant intercompany
transactions have been eliminated in consolidation.
(a) Basis of Consolidation and Nature of Operations
-----------------------------------------------
The accompanying consolidated financial statements include the
accounts of Security Federal Corporation (the "Company") and its
wholly owned subsidiary, Security Federal Bank (the "Bank") and the
Bank's wholly owned subsidiaries, Security Federal Insurance
("SFINS"), Security Federal Investments ("SFINV"), Security Federal
Trust ("SFT"), and Security Financial Services Corporation ("SFSC").
The Bank is primarily engaged in the business of accepting savings
and demand deposits and originating mortgage loans and other loans to
individuals and small businesses for various personal and commercial
purposes. SFINS, SFINV, and SFT were formed during fiscal 2002
and began operating during the December 2001 quarter. SFINS is an
insurance agency offering business, health, home and life insurance.
SFINV engages primarily in investment brokerage services. SFT offers
trust, financial planning and financial management services.
(b) Cash and Cash Equivalents
-------------------------
For purposes of reporting cash flows, cash and cash equivalents
include cash and due from banks, interest-bearing balances in other
banks, and federal funds sold. Cash equivalents have original
maturities of three months or less.
(c) Investment and Mortgage-Backed Securities
-----------------------------------------
Investment securities, including mortgage-backed securities, are
classified in one of three categories: held to maturity, available
for sale, or trading. Management determines the appropriate
classification of debt securities at the time of purchase.
Investment securities are classified as held to maturity when the
Company has the positive intent and ability to hold the securities to
maturity. These securities are recorded at cost and adjusted for
amortization of premiums and accretion of discounts over the
estimated life of the security using a method that approximates a
level yield. Prepayment assumptions on mortgage-backed securities
are anticipated.
Management classifies investment securities that are not considered
to be held to maturity as available for sale. These type investments
are stated at fair value with unrealized gains and losses, net of
tax, reported in a separate component of shareholders' equity
("accumulated other comprehensive income (loss)"). Gains and losses
from sales of investment and mortgage-backed securities available for
sale are determined using the specific identification method. The
Company has no trading securities.
The Bank maintained liquid assets in excess of the amount required by
regulations. Liquid assets consist primarily of cash, time deposits,
and certain investment securities.
(d) Loans Receivable Held for Investment
------------------------------------
Loans are stated at their unpaid principal balance. Interest income
is computed using the simple interest method and is recorded in the
period earned.
(e) Allowance for Loan Losses
-------------------------
The Company provides for loan losses using the allowance method.
Accordingly, all loan losses are charged to the related allowance and
all recoveries are credited to the allowance for loan losses.
Additions to the allowance for loan losses are provided by charges to
operations based on various factors which, in Management's judgment,
deserve current recognition in estimating possible losses. Such
factors considered by Management include the fair value of the
underlying collateral; stated guarantees by the borrower, if
applicable, the borrower's ability to repay from other economic
resources, growth and composition of the loan portfolios, the
relationship of the allowance for loan losses to outstanding loans,
loss experience, delinquency trends, and general economic conditions.
Management evaluates the carrying value of the loans periodically and
the allowance is adjusted accordingly. While Management uses the
best information available to make evaluations, future adjustments to
the allowance may be necessary if economic conditions differ
substantially from the assumptions used in making these evaluations.
Allowances for loan losses are subject to periodic evaluations by
various regulatory authorities and may be subject to adjustments
based upon the information that is available at the time of their
examinations.
29
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(1) Significant Accounting Policies, Continued
------------------------------------------
The Company values impaired loans at the loan's fair value if it is
probable that the Company will be unable to collect all amounts due
according to the terms of the loan agreement at the present value of
expected cash flows, the market price of the loan, if available, or
the value of the underlying collateral. Expected cash flows are
required to be discounted at the loan's effective interest rate.
When the ultimate collectibility of an impaired loan's principal is
in doubt, wholly or partially, all cash receipts are applied to
principal. When this doubt does not exist, cash receipts are applied
under the contractual terms of the loan agreement first to interest
then to principal. Once the recorded principal balance has been
reduced to zero, future cash receipts are applied to interest income
to the extent that any interest has been foregone. Further cash
receipts are recorded as recoveries of any amounts previously charged
off.
(f) Loans Receivable Held for Sale
------------------------------
Loans originated and intended for sale in the secondary market are
carried at the lower of cost or estimated fair value in the
aggregate. Net unrealized losses are provided for in a valuation
allowance by charges to operations.
(g) Repossessed Assets Acquired in Settlement of Loans
--------------------------------------------------
Repossessed assets represent real estate and other assets acquired
through foreclosure or repossession and are initially recorded at the
lower of cost (principal balance of the former mortgage loan less any
specific valuation allowances) or estimated fair value less costs to
sell. Subsequent improvements are capitalized. Costs of holding
real estate, such as property taxes, insurance, general maintenance
and interest expense, are expensed as a period cost. Fair values are
reviewed regularly and allowances for possible losses are established
when the carrying value of the asset owned exceeds the fair value
less estimated costs to sell. Fair values are generally determined
by reference to an outside appraisal.
(h) Premises and Equipment
----------------------
Premises and equipment are carried at cost, net of accumulated
depreciation. Depreciation of premises and equipment is amortized on
a straight-line method over the estimated useful life of the related
asset. Estimated lives are seven to 30 years for buildings and
improvements and generally five to 10 years for furniture, fixtures
and equipment. Maintenance and repairs are charged to current
expense. The cost of major renewals and improvements are
capitalized.
(i) Income Taxes
------------
Deferred tax expense or benefit is recognized for the net change
during the year in the deferred tax liability or asset. That amount
together with income taxes currently payable is the total amount of
income tax expense or benefit for the year. Deferred taxes are
provided for in differences in financial reporting bases for assets
and liabilities compared with their tax bases. Basically, a current
tax liability or asset is established for taxes presently payable or
refundable and a deferred tax liability or asset is established for
future tax items. A valuation allowance, if applicable, is
established for deferred tax assets that may not be realized. Tax
bad debt reserves in excess of the base year amount (established as
taxable years ending March 31, 1988 or later) would create a deferred
tax liability. Deferred income taxes are provided for in differences
between the provision for loan losses for financial statement
purposes and those allowed for income tax purposes.
(j) Loan Fees and Costs Associated with Originating Loans
-----------------------------------------------------
Loan fees received, net of direct incremental costs of originating
loans, are deferred and amortized over the contractual life of the
related loan. The net fees are recognized as yield adjustments by
applying the interest method. Prepayments are not anticipated.
30
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(1) Significant Accounting Policies, Continued
------------------------------------------
(k) Intangible Assets
-----------------
Goodwill, which represents the excess of purchase price over fair
value of net assets acquired, is amortized on a straight-line basis
over the expected periods to be benefited. The Company assesses the
recoverability of this intangible asset by determining whether the
amortization of the goodwill balance over its remaining life can be
recovered through projected undiscounted future results. The amount
of goodwill impairment, if any, is measured based on projected
discounted future results using a discount rate reflecting the
Company's average cost of funds.
Deposit based premiums, representing the cost of acquiring deposits
from other financial institutions, are included in the balance sheet
as "Other Assets" and are amortized by charges to operations over the
expected periods to be benefited. The effective amortization period
for intangible assets is approximately 10 years. The balance of
intangible assets was zero at March 31, 2004 and March 31, 2003.
(l) Interest Income
---------------
Interest on loans is accrued and credited to income monthly based on
the principal balance outstanding and the contractual rate on the
loan. The Company places loans on non-accrual status when they
become greater than 90 days delinquent or when, in the opinion of
management, full collection of principal or interest is unlikely.
The Company provides an allowance for uncollectible accrued interest
on loans that are contractually 90 days delinquent for all interest
accrued prior to the loan being placed on non-accrual status. The
loans are returned to an accrual status when full collection of
principal and interest appears likely.
(m) Advertising Expense
-------------------
Advertising and public relations costs are generally expensed as
incurred. External costs relating to direct mailing costs are
expensed in the period in which the direct mailing are sent.
Advertising and public relations costs of $210,962 and $216,204 and
$175,256, were included in the Company's results of operations for
2004, 2003, and 2002, respectively.
(n) Fair Value of Financial Instruments
-----------------------------------
The Company discloses the fair value of on- and off-balance sheet
financial instruments when it is practicable to do so. Fair values
are based on quoted market prices, where available, on estimates of
present value, or on other valuation techniques. These estimates are
made at a specific point in time, are subjective in nature, and
involve uncertainties and significant judgment. In addition, the
Company does not disclose the fair value of non-financial
instruments. Accordingly, the aggregate fair values presented do not
represent the underlying fair value of the Company.
Fair value approximates carrying value for the following financial
instruments due to the short-term nature of the instrument: cash and
cash equivalents.
Securities are valued using quoted fair market prices.
Fair value for the Company's off-balance sheet financial instruments
is based on the discounted present value of the estimated future
cash flows.
Fair value for variable rate loans that reprice frequently, loans
held for sale, and loans that mature in less than three months is
based on the carrying value. Fair value for fixed rate mortgage
loans, personal loans, and other loans (primarily commercial)
maturing after three months is based on the discounted present value
of the estimated future cash flows. Discount rates used in these
computations approximate the rates currently offered for similar
loans of comparable terms and credit quality.
Fair value for demand deposit accounts and interest-bearing accounts
with no fixed maturity date is equal to the carrying value.
Certificates of deposit accounts and securities sold under repurchase
agreements maturing within one year are valued at their carrying
value. The fair value of certificates of deposit accounts and
securities sold under repurchase agreements after one year are
estimated by discounting cash flows from expected maturities using
current interest rates on similar instruments. Fair value for
long-term FHLB advances is based on discounted cash flows using the
Company's current incremental borrowing rate. Discount rates used
in these computations approximate rates currently offered for
similar borrowings of comparable terms and credit quality.
31
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(1) Significant Accounting Policies, Continued
------------------------------------------
(o) Stock-Based Compensation
------------------------
At March 31, 2004, the Company sponsored stock-based compensation
plans, which are described more fully in Note 12. The Company has
elected the disclosure - only provision of SFAS No. 123, "Accounting
for Stock-Based Compensation." Accordingly, no compensation cost has
been recognized for the stock option plan. Had compensation cost for
the Company's stock option plan been determined based on the fair
value at the grant date consistent with the provisions of SFAS No.
123, the Company's net income and earnings per share amounts as of
the year ended March 31 would have been reduced to the pro forma
amounts indicated below.
2004 2003 2002
---------- --------- ---------
Net Income, As Reported $4,263,163 3,231,161 2,509,586
Deduct: Total stock-based employee
compensation expense determined
under fair-value based method for
all awards $ (241,193) (205,804) (111,908)
Net Income, Pro Forma $4,021,970 3,025,357 2,397,678
Net Income Per Common Share
(Basic), As Reported $ 1.70 1.29 1.00
Net Income Per Common Share
(Basic), Pro Forma $ 1.60 1.21 0.96
Net Income Per Common Share
(Diluted), As Reported $ 1.66 1.26 0.98
Net Income Per Common Share
(Diluted), Pro Forma $ 1.57 1.18 0.94
(p) Earnings Per Share
------------------
Net income per share is computed by dividing consolidated net income
by the weighted average number of common shares outstanding during
the period. The treasury stock method is used to compute the
dilutive effect of stock options in the diluted weighted average
number of common shares. All per share data has been restated to
reflect the 3-for-2 stock split that occurred during the year ended
March 31, 2003.
For the Year Ended
March 31, 2004 March 31, 2003
------------------------------ ------------------------------
Per share Per share
Income Shares amounts Income Shares amounts
---------- --------- ------- ---------- --------- -------
Basic EPS $4,263,163 2,513,319 $ 1.70 $3,231,161 2,508,774 $ 1.29
Dilutive
effect of:
Stock
Options - 28,959 (0.024) - 33,166 (0.02)
ESOP - 18,432 (0.016) - 16,667 (0.01)
---------- --------- ------- ---------- --------- -------
Diluted EPS $4,263,163 2,560,710 $ 1.66 $3,231,161 2,558,607 $ 1.26
========== ==========
For the Year Ended
March 31, 2002
-----------------------------------
Per share
Income Shares amounts
---------- --------- -------
Basic EPS $2,509,586 2,506,709 $ 1.00
Dilutive effect of:
Stock Options - 34,068 (0.01)
ESOP - 19,591 (0.01)
---------- --------- -------
Diluted EPS $2,509,586 2,560,368 $ 0.98
==========
(p) Use of Estimates
----------------
The preparation of financial statements in conformity with Generally
Accepted Accounting Principles ("GAAP") requires Management to make
estimates and assumptions that affect the reported amounts of assets
and liabilities and the disclosure of contingent assets and
liabilities at the dates of the financial statements and the reported
amounts of income and expenses during the reporting periods. Actual
results could differ from those estimates.
32
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(1) Significant Accounting Policies, Continued
------------------------------------------
(q) Recently Issued Accounting Standards
------------------------------------
In December 2002, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards ("SFAS") No. 148,
"Accounting for Stock-based Compensation Transition and
Disclosure," an amendment of FASB Statement No. 123, "Accounting for
Stock-based Compensation", to provide alternative methods of
transition for a voluntary change to the fair value based method of
accounting for stock-based employee compensation. SFAS No. 148 also
amends the disclosure provisions of SFAS No. 123 and Accounting
Pronouncement Board ("APB") Opinion No. 28, "Interim Financial
Reporting", to require disclosure in the summary of significant
accounting policies of the effects of an entity's accounting policy
with respect to stock-based employee compensation on reported net
income and earnings per share in annual and interim financial
statements. While SFAS No. 148 does not amend SFAS No. 123 to
require companies to account for employee stock options using the
fair value method, the disclosure provisions of SFAS No. 148
applicable to all companies with stock-based employee compensation,
regardless of whether they account for compensation using the fair
value method of SFAS No. 123 or the intrinsic value method of APB
Opinion No. 25. The provisions of SFAS No. 148 are effective for
annual financial statements for fiscal years ending December 15,
2002, and for financial reports containing condensed financial
statements for interim periods beginning after December 15, 2002.
In April 2003, the FASB issued SFAS No. 149, "Amendment of Statement
133 on Derivative Instruments and Hedging Activities." SFAS No. 149
amends and clarifies accounting for derivative instruments, including
certain derivative instruments embedded in other contracts and loan
commitments that relate to the origination of mortgage loans held for
sale, and for hedging activities under SFAS No. 133. SFAS No. 149 is
generally effective for contracts entered into or modified after
June 30, 2003. The adoption of SFAS No. 149 did not have any impact
on the financial condition or operating results of the Company.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain
Financial Instruments with Characteristics of both Liabilities and
Equity." SFAS No. 150 establishes standards for how an issuer
classifies and measures certain financial instruments with
characteristics of both liabilities and equity. It requires that an
issuer classify a financial instrument that is within its scope as a
liability (or an asset in some circumstances). Many of those
instruments were previously classified as equity. SFAS No. 150 is
generally effective for financial instruments entered into or
modified after May 31, 2003, and otherwise is effective at the
beginning of the interim period after June 15, 2003. The adoption
of SFAS No. 150 did not have any impact on the financial condition or
operating results of the Company.
In November 2002, the FASB issued Interpretation ("FIN") No. 45.
"Guarantor's Accounting and Disclosure Requirements for Guarantees,
Including Indirect Guarantees of Indebtedness of Others". FIN No. 45
requires a company, at the time it issues a guarantee, to recognize
an initial liability for the fair value of obligations assumed under
the guarantee and elaborates on existing disclosure requirements
related to guarantees and warranties. The initial recognition
requirements of FIN No. 45 are effective for guarantees issued or
modified after December 31, 2002. The disclosure requirements are
effective for financial statements of periods ending after
December 15, 2002. The adoption of FIN No. 45 did not have any
effect on the Company's financial position or results of operations.
In January 2003, the FASB issued FIN No. 46, "Consolidation of
Variable Interest Entities." FIN No. 46 requires a variable interest
entity to be consolidated by a company if that company is subject to
a majority of the risk of loss from the variable interest entity's
activities or entitled to receive a majority of the entity's residual
returns, or both. FIN No. 46 also requires disclosures about
variable interest entities that a company is not required to
consolidate, but in which has a significant variable interest. FIN
No. 46 provides guidance for determining whether an entity qualifies
as a variable interest entity by considering, among other
considerations, whether the entity lacks sufficient equity or its
equity holders lack adequate decision-making ability. The
consolidation requirements of FIN No. 46 apply immediately to
variable interest entities created after January 31, 2003. The
consolidation requirements apply to existing entities in the first
fiscal year or interim period beginning after June 15, 2003. Certain
of the disclosure requirements apply in all financial statements
issued after January 31, 2003, regardless of when the variable
interest entity was established. The adoption of FIN No. 46 did not
have any effect on the Company's financial position or results of
operations.
33
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(1) Significant Accounting Policies, Continued
------------------------------------------
In March 2004, the FASB issued an exposure draft on "Share-Based
Payment". The proposed Statement addresses the accounting for
transactions in which an enterprise receives employee services in
exchange for a) equity instruments of the enterprise or b)
liabilities that are based on the fair value of the enterprise's
equity instruments or that may be settled by the issuance of such
equity instruments. This proposed Statement would eliminate the
ability to account for share-based compensation transactions using
APB Opinion No. 25, "Accounting for Stock Issued to Employees", and
generally would require instead that such transactions be accounted
for using a fair-value-based method. This Statement, if approved,
will be effective for awards that are granted, modified, or settled
in fiscal years beginning after a) December 15, 2004 for public
entities and nonpublic entities that used the fair-value-based method
of accounting under the original provisions of Statement 123 for
recognition or pro forma disclosure proposes and b) December 15, 2005
for all other nonpublic entities. Earlier application is encouraged
provided that financial statements for those earlier years have not
yet been issued. Retrospectively application of this Statement is
not permitted. The adoption of this Statement, if approved, is
expected to have an impact on the Company's financial position or
results of operations.
Other accounting standards that have been issued or proposed by the
FASB or other standards-setting bodies that do not require adoption
until a future date are not expected to have a material impact on the
consolidated financial statements upon adoption.
(r) Risks and Uncertainties
-----------------------
In the normal course of its business, the Company encounters two
significant types of risk: economic and regulatory. There are three
main components of economic risk: interest rate risk, credit risk,
and market risk. The Company is subject to interest rate risk to the
degree that its interest-bearing liabilities mature or reprice at
different speeds, or on different bases, than its interest-earning
assets. Credit risk is the risk of default on the Company's loan
portfolio that results from borrowers' inability or unwillingness to
make contractually required payments. Market risk reflects changes
in the value of collateral underlying loans receivable, the valuation
of real estate held by the Company, and the valuation of loans held
for sale and mortgage-backed securities available for sale. The
Company is subject to the regulations of various government agencies.
These regulations can and do change significantly from period to
period. The Company also undergoes periodic examinations by the
regulatory agencies, which may subject it to further changes with
respect to asset valuations, amounts of required loss allowances, and
operating restrictions, resulting form the regulators' judgements
based on information available to them at the time of their
examination.
(s) Reclassifications
-----------------
Certain amounts in prior years' consolidated financial statements
have been reclassified to conform to current year classifications.
(2) Branch Sale
-----------
In February 2004, Security Federal Bank sold its Denmark, South Carolina
branch to South Carolina Bank and Trust, N.A. of Orangeburg, South
Carolina. Included in the sale, were approximately $13.6 million in
deposits, $1.9 million in loans, and the branch building, furniture, and
equipment. Security Federal Bank recorded a $1.5 million in gain on sale
of branch, which includes gains on all the items in the previous sentence.
Gain on sale of branch is included in "Other Income" as a separate line
item in the income statement. Security Federal Bank also booked $200,000
as a contingency expense on the sale, which is included in the line item
called "Other Expense" in the "General and Administrative Expenses"
section of the income statement. The Bank has possible contingent
liabilities for three years. Security Federal netted approximately
$820,000 after tax and contingencies on the transaction.
34
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(3) Investment and Mortgage-Backed Securities, Available for Sale
-------------------------------------------------------------
The amortized cost, gross unrealized gains, gross unrealized losses, and
fair values of investment and mortgage-backed securities available for
sale are as follows:
March 31, 2004
-------------------------------------------------------
Gross Gross
Unrealized Unrealized
Amortized Cost Gains Losses Fair value
-------------- ---------- --------- ------------
FHLB Securities $ 14,019,302 $ 260,728 $ - $ 14,280,030
Federal Farm Credit
Securities 2,019,623 22,567 - 2,042,190
FHLMC Bonds 564,643 13,043 - 577,686
Mortgage-Backed
Securities 156,696,460 1,437,219 621,766 157,511,913
------------ ---------- --------- ------------
$173,300,028 $1,733,557 $ 621,766 $174,411,819
============ ========== ========= ============
March 31, 2003
-------------------------------------------------------
Gross Gross
Unrealized Unrealized
Amortized Cost Gains Losses Fair value
-------------- ---------- --------- ------------
FHLB Securities $ 47,062,029 $ 744,865 $ 13,094 $ 47,793,800
Federal Farm Credit
Securities 5,062,776 66,304 - 5,129,080
FHLMC Bonds 804,637 11,114 - 815,751
Mortgage-Backed
Securities 104,892,347 1,637,286 118,002 106,411,631
------------ ---------- --------- ------------
$157,821,789 $2,459,569 $ 131,096 $160,150,262
============ ========== ========= ============
The amortized cost and fair value of investment and mortgage-backed
securities available for sale at March 31, 2004 are shown below by
contractual maturity. Expected maturities will differ from contractual
maturities because borrowers have the right to prepay obligations with or
without call or prepayment penalties.
Amortized Cost Fair value
-------------- ------------
Less Than 1 Year $ 2,000,000 $ 2,064,070
1 - 5 Years 8,578,695 8,739,576
More Than 5 Years 6,024,873 6,096,260
Mortgage-Backed Securities 156,696,460 157,511,913
------------ ------------
$173,300,028 $174,411,819
============ ============
At March 31, 2004, investment and mortgage-backed securities available for
sale of $43.2 million were pledged as collateral for certain deposit
accounts. In addition, the Bank had pledged $57.2 million of investment
and mortgage-backed securities as collateral for FHLB advances and other
borrowings.
The Bank received approximately $2.4 million, $986,000, and $5.1 million
in proceeds from sales of available for sale securities with approximately
$7,700, $4,200, and $29,800 recorded in gross gains and no gross losses in
the years ended March 31, 2004, 2003 and 2002, respectively.
35
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(3) Investment and Mortgage-Backed Securities, Available for Sale, Continued
------------------------------------------------------------------------
The following table shows gross unrealized losses and fair value,
aggregated by investment category, and length of time that individual
available for sale securities have been in a continuous unrealized loss
position, at March 31, 2004.
Less than 12 Months 12 Months or More Total
--------------------- ------------------- ---------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
----------- -------- ---------- ------- ----------- --------
Mortgage-
backed
securities $60,202,930 $602,149 $2,044,437 $19,617 $62,247,367 $621,766
Securities classified as available-for-sale are recorded at fair market
value. Approximately 3.2% of the unrealized losses, or two individual
securities, consisted of securities in a continuous loss position for
twelve months or more. The Company has the ability and intent to hold
these securities until such time as the value recovers or the securities
mature. The Company believes, based in industry analyst reports and
credit ratings, that the deterioration in value is attributable to
changes in market interest rates and is not in the credit quality of the
issuer and therefore, these losses are not considered
other-than-temporary.
(4) Investment and Mortgage-Backed Securities, Held to Maturity
-----------------------------------------------------------
The amortized cost, gross unrealized gains, gross unrealized losses, and
fair values of investment and mortgage-backed securities held to maturity
are as follows:
March 31, 2004
-------------------------------------------------------
Gross Gross
Unrealized Unrealized
Amortized Cost Gains Losses Fair value
-------------- ---------- --------- ------------
FHLB Securities $ 57,943,983 $ 315,901 $ 86,661 $58,173,223
Federal Farm Credit
Securities 13,009,727 132,504 1,881 13,140,350
Mortgage-Backed
Securities 349,797 22,886 - 372,683
----------- -------- -------- -----------
$ 71,303,507 $ 471,291 $ 88,542 $71,686,256
=========== ======== ======== ===========
March 31, 2003
-------------------------------------------------------
Gross Gross
Unrealized Unrealized
Amortized Cost Gains Losses Fair value
-------------- ---------- --------- ------------
FHLB Securities 18,989,813 $ 15,661 $ 14,071 $18,991,403
Federal Farm Credit
Securities 2,005,459 20,481 - 2,025,940
FNMA Securities $ 30,331 11 - 30,342
Mortgage-Backed
Securities 940,930 51,592 - 992,522
----------- -------- -------- -----------
$21,966,533 $ 87,745 $ 14,071 $22,040,207
=========== ======== ======== ===========
36
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(4) Investment and Mortgage-Backed Securities, Held to Maturity, Continued
----------------------------------------------------------------------
The amortized cost and fair value of investment and mortgage-backed
securities held to maturity at March 31, 2004, by contractual maturity,
are shown below. Expected maturities will differ from contractual
maturities due to call features on certain investments.
Amortized Cost Fair value
-------------- ------------
Less Than 1 Year $ - $ -
1 - 5 Years 28,959,255 29,203,490
More Than 5 Years 41,994,455 42,110,083
Mortgage-Backed Securities 349,797 372,683
----------- -----------
$71,303,507 $71,686,256
=========== ===========
At March 31, 2004, investment and mortgage-backed securities held to
maturity of $10.0 million were pledged as collateral for certain deposit
accounts. In addition, the Bank had pledged $33.0 million of investment
and mortgage-backed securities as collateral for FHLB advances and other
borrowings.
The following table shows gross unrealized losses and fair value,
aggregated by investment category, and length of time that individual held
to maturity securities have been in a continuous unrealized loss position,
at March 31, 2004.
Less than 12 Months 12 Months or More Total
--------------------- ------------------- ---------------------
Fair Unrealized Fair Unrealized Fair Unrealized
Value Losses Value Losses Value Losses
----------- -------- ---------- ------- ----------- --------
FHLB $9,935,020 $88,542 $ - $ - $9,935,020 $88,542
No individual securities were in a continuous loss position for twelve
months or more. The Company's held-to-maturity portfolio is recorded at
amortized cost. The Company has the ability and intends to hold these
securities to maturity. The Company believes, based on industry analysis
reports and credit ratings, that the deterioration in value is
attributable to changes in market interest rates and not in credit quality
of the issuer and therefore, these losses are not considered other-than-
temporary.
(5) Loans Receivable, Net
---------------------
Loans receivable, net, at March 31 consisted of the following:
2004 2003
------------ ------------
Residential Real Estate Loans $109,722,301 $ 99,948,293
Consumer Loans 45,641,450 46,594,413
Commercial Business And Real
Estate Loans 121,111,848 106,996,940
Loans Held For Sale 1,703,869 3,670,498
------------ ------------
278,179,468 257,210,144
------------ ------------
Less:
Allowance For Loan Losses 5,763,935 4,911,224
Loans In Process 12,356,346 8,990,687
Deferred Loan Fees 164,527 152,577
------------ ------------
18,284,808 14,054,488
------------ ------------
Total Loans Receivable, Net $259,894,660 $243,155,656
============ ============
37
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(5) Loans Receivable, Net, Continued
--------------------------------
Changes in the allowance for loan losses for the years ended March 31 are
summarized as follows:
2004 2003 2002
---------- ---------- ----------
Balance At Beginning Of Year $4,911,224 $3,689,079 $2,784,117
Provision For Loan Losses 1,200,000 1,800,000 1,525,000
Charge Offs (669,591) (909,494) (817,680)
Recoveries 322,302 331,639 197,642
---------- ---------- ----------
Total Allowance For Loan Losses $5,763,935 $4,911,224 $3,689,079
========== ========== ==========
The following table sets forth the amount of the Company's non-accrual
loans and the status of the related interest income at March 31.
2004 2003
---------- ----------
Non-Accrual Loans $2,044,000 $1,040,000
========== ==========
Interest Income That Would Have Been
Recognized Under Original Terms $ 105,893 $ 44,173
========== ==========
Loans serviced for others at March 31, 2004, 2003, and 2002, were
approximately $0, $646,000, and $671,000, respectively. On January 31,
2001, the Company sold the mortgage loan servicing for others to another
bank. The gain on sale of servicing was $400,000. The Company
sub-serviced the mortgage loans for the buyer of the servicing, until the
transfer date of April 15, 2001.
At March 31, 2004 and 2003, impaired loans amounted to $1.4 and $1.2
million, respectively. Losses on impaired loans are accounted for in the
allowance for loan loss. For the years ended March 31, 2004 and 2003, the
average recorded investment in impaired loans was $1.3 and $1.0 million,
respectively.
The Bank blanket pledges its portfolio of single family mortgage loans to
secure FHLB advances.
38
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(6) Premises and Equipment, Net
---------------------------
Premises and equipment, net, at March 31 are summarized as follows:
2004 2003
----------- ----------
Land $ 426,163 496,163
Buildings And Improvements 7,254,127 5,420,768
Furniture And Equipment 5,874,011 5,295,138
Construction In Progress - 397,080
----------- ----------
13,554,301 11,609,149
Less Accumulated Depreciation (6,991,567) (6,389,202)
----------- ----------
Total Premises And Equipment, Net $ 6,562,734 5,219,947
=========== ==========
The construction in progress at March 31, 2003 was for a new branch
facility in the city of Lexington, South Carolina that was completed and
began operations in August 2003.
Depreciation expense for the years ended March 31, 2004, 2003, and 2002
was approximately $845,000, $825,000, and $959,000, respectively.
The Bank has entered into non-cancelable operating leases related to
buildings and land. At March 31, 2004, future minimum payments under
non-cancelable operating leases with initial or remaining terms of one
year or more are as follows (by fiscal year):
2005 $ 278,193
2006 273,967
2007 252,837
2008 250,737
2009 246,742
Thereafter 1,979,859
----------
$3,282,335
==========
Total rental expense amounted to $278,000, $209,000, and $190,000 for the
years ended March 31, 2004, 2003 and 2002, respectively. Five lease
agreements with monthly expenses of $7,083, $2,472, $2,113, $743, and $700
have renewal options of 45, 10, 10, 40, and 20 years, respectively.
(7) FHLB Stock
----------
Every federally insured savings institution is required to invest in FHLB
stock. No ready market exists for this stock and it has no quoted fair
value. However, because redemption of this stock has historically been at
par, it is carried at cost.
The Bank, as a member of the FHLB of Atlanta, is required to acquire and
hold shares of capital stock in the FHLB of Atlanta in an amount equal to
the greater of: (1) 1.0% of the aggregate outstanding principal amount of
residential mortgage loans, home purchase contracts, and similar
obligations at the beginning of each year; or, (2) 1/20th of its advances
(borrowings) from the FHLB of Atlanta. The Bank is in compliance with
this requirement with an investment in FHLB of Atlanta stock of $4.8
million as of March 31, 2004.
39
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(8) Deposits
--------
Deposits outstanding by type of account are summarized as follows:
At March 31, 2004 At March 31, 2003
------------------------------ -------------------------------
Interest Interest
Weighted Rate Weighted Rate
Rate Range Amount Rate Range
---------- -------- --------- ---------- -------- ---------
Checking
Accounts $ 80,738,298 0.47% 0.00-1.74% $ 82,521,610 0.50% 0.00-1.98%
Money
Market
Accts. 158,587,076 1.97% 1.00-2.03% 102,396,950 2.21% 1.09-2.32%
Passbook
Accounts 17,367,047 0.98% 0.00-1.50% 16,455,391 1.23% 0.00-2.50%
------------ ---- --------- ------------ ---- ---------
Total 256,692,421 1.43% 0.00-2.03% 201,373,951 1.43% 0.00-2.50%
------------ ---- --------- ------------ ---- ---------
Certificate
Accounts:
0.00 -
4.99% 122,599,195 144,633,770
5.00 -
6.99% 10,301,029 12,437,463
7.00 -
8.99% - 28,417
------------ ------------
Total 132,900,224 2.26% 0.90-6.55% 157,099,650 2.92% 1.21-7.02%
------------ ---- --------- ------------ ---- ---------
Total
Deposits $389,592,645 1.71% 0.00-6.55% $358,473,601 2.08% 0.00-7.02%
============ ==== ========= ============ ==== =========
The aggregate amount of short-term certificates of deposit with a minimum
denomination of $100,000 was $47.0 million and $44.4 million at March 31,
2004 and 2003, respectively. The amounts and scheduled maturities of all
certificates of deposit at March 31 are as follows:
March 31,
----------------------------
2004 2003
------------ ------------
Within 1 Year $ 89,632,381 $118,710,363
After 1 Year, Within 2 9,736,807 13,749,850
After 2 Years, Within 3 14,831,103 3,160,787
After 3 Years, Within 4 15,338,730 5,272,712
After 4 Years, Within 5 3,361,203 16,205,938
Thereafter - -
------------ ------------
$132,900,224 $157,099,650
============ ============
40
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(9) Advances From Federal Home Loan Bank (FHLB) And Other Borrowings
----------------------------------------------------------------
Advances from the FHLB at March 31 are summarized by year of maturity and
weighted average interest rate below:
2004 2003
------------------------- -------------------------
Year Ending March 31 Amount Weighted Rate Amount Weighted Rate
----------- ------------- ----------- -------------
2004 $ - - $ 1,700,000 1.48%
2005 13,336,000 4.92% 10,072,000 6.14%
2006 33,000,000 4.09% 23,000,000 4.93%
2007 10,000,000 2.66% - -
2008 10,000,000 2.96% 10,000,000 2.96%
Thereafter 30,000,000 2.96% 5,000,000 3.35%
----------- ---- ----------- ----
$96,336,000 3.59% $49,772,000 4.50%
=========== ==== =========== ====
These advances are secured by a blanket collateral agreement with the FHLB
by pledging the Bank's portfolio of residential first mortgage loans and
approximately $53.7 million of investment securities. Advances are
subject to prepayment penalties.
The following tables show callable FHLB advances as of the dates
indicated. These advances are also included in the above table. All
callable advances are callable at the option of the FHLB. If an advance
is called, the Bank has the option to payoff the advance without penalty,
re-borrow funds on different terms, or convert the advance to a
three-month floating rate advance tied to LIBOR.
As of March 31, 2004
- ----------------------------------------------------------------------------
Borrow Date Maturity Date Amount Int. Rate Type Call Dates
- ----------- ------------- ----------- --------- ---------- ------------
11/10/00 11/10/05 $ 5,000,000 5.85% Multi-Call 5/10/04 and
quarterly
thereafter
09/04/02 09/04/07 5,000,000 2.82% 1 Time Call 09/04/05
11/07/02 11/07/12 5,000,000 3.354% 1 Time Call 11/07/07
03/10/03 03/10/06 5,000,000 1.15% Multi-Call 06/10/04 and
quarterly
thereafter
10/24/03 10/24/08 10,000,000 2.705% Multi-Call 10/24/06 and
quarterly
thereafter
12/10/03 12/10/08 5,000,000 2.16% Multi-Call 12/12/05 and
quarterly
thereafter
02/20/04 02/20/14 5,000,000 3.225% 1 Time Call 02/20/09
As of March 31, 2003
- ----------------------------------------------------------------------------
Borrow Date Maturity Date Amount Int. Rate Type Call Dates
- ----------- ------------- ----------- --------- ---------- ------------
11/10/00 11/10/05 $ 5,000,000 5.85% Multi-Call 5/10/03 and
quarterly
thereafter
09/04/02 09/04/07 5,000,000 2.82% 1 Time Call 09/04/05
11/07/02 11/07/12 5,000,000 3.354% 1 Time Call 11/07/07
03/10/03 03/10/06 5,000,000 1.15% Multi-Call 03/10/04 and
quarterly
thereafter
At March 31, 2004, the Bank had $35.7 million in additional borrowing
capacity at the FHLB.
The Bank had $5.5 million and $4.2 million in other borrowings (non-FHLB
advances) at March 31, 2004 and 2003, respectively. These borrowings
consisted of repurchase agreements with certain commercial demand deposit
customers for sweep accounts. The interest rate paid on these borrowings
floats monthly with the 13 week Treasury bill. At March 31, 2004 and
2003, the interest rate paid on these borrowings was 0.93% and 1.17%,
respectively. The Bank had pledged $36.4 million in investment securities
at March 31, 2004 and $5.1 million at March 31, 2003, respectively, as
collateral for these borrowings.
41
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(10) Income Taxes
------------
Income tax expense is comprised of the following:
For the Years Ended March 31,
----------------------------------
2004 2003 2002
---------- --------- ---------
Current:
Federal $2,948,661 2,380,675 1,799,303
State 356,824 247,582 200,700
---------- --------- ---------
Total Current Tax Expense 3,305,485 2,628,257 2,000,003
---------- --------- ---------
Deferred:
Federal (653,360) (525,982) (348,904)
State (200,482) (161,396) (136,800)
---------- --------- ---------
Total Deferred Tax Expense (853,842) (687,378) (485,704)
---------- --------- ---------
Total Income Tax Expense $2,451,643 1,940,879 1,514,299
========== ========= =========
The Company's income taxes differ from those computed at the statutory
federal income tax rate, as follows:
For the Years Ended March 31,
-----------------------------------
2004 2003 2002
---------- ---------- ----------
Tax At Statutory Income Tax Rate $2,283,034 $1,758,494 $1,368,121
State Tax And Other 168,609 182,385 146,178
---------- ---------- ----------
Total Income Tax Expense $2,451,643 $1,940,879 $1,514,299
========== ========== ==========
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities are
presented below.
At March 31,
2004 2003
---------- ----------
Deferred Tax Assets:
Provision For Loan Losses $2,305,574 $1,964,489
Goodwill Tax Basis Over Financial
Statement Basis 466,440 568,208
Net Fees Deferred For Financial Reporting 190,114 185,108
Other 173,311 86,292
---------- ----------
Total Gross Deferred Tax Assets 3,135,439 2,804,097
---------- ----------
Deferred Tax Liabilities:
Unrealized Gain On Securities Available
For Sale 422,036 883,888
FHLB Stock Basis Over Tax Basis 133,367 133,367
Depreciation 265,318 192,599
Other - 133,367
---------- ----------
Total Gross Deferred Tax Liability 820,721 1,343,221
---------- ----------
Net Deferred Tax Asset $2,314,718 $1,460,876
========== ==========
The balance of the change in the net deferred tax asset results from the
current period deferred tax expense of $853,842. The net deferred tax
asset is included in other assets in the accompanying consolidated balance
sheets.
No valuation allowance for deferred tax assets was required at March 31,
2004 and 2003. The realization of net deferred tax assets may be based on
utilization of carrybacks to prior taxable periods, anticipation of future
taxable income in certain periods, and the utilization of tax planning
strategies. Management has determined that the net deferred tax asset can
be supported based upon these criteria.
42
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(11) Regulatory Matters
------------------
The Bank is subject to various regulatory capital requirements that are
administered by federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory and discretionary actions by
regulators that could have a material adverse effect on the Company.
Under capital adequacy guidelines and the regulatory framework for prompt
corrective action, the Bank must meet specific capital guidelines that
involve quantitative measures of the Bank's assets, liabilities, and
certain off-balance sheet items as calculated under regulatory accounting
practices. The Bank's capital amounts and classifications are also
subject to qualitative judgements by regulators with regard to components,
risk weightings, and other factors.
As of March 31, 2004 and 2003, the Bank was categorized as "well
capitalized" under the regulatory framework for prompt corrective action.
To be categorized as well capitalized, the Bank had to maintain total
risk-based capital, Tier 1 risk-based capital, and Tier 1 leverage ratios
at 10%, 6%, and 5%, respectively. There are no conditions or events that
management believes have changed the Bank's classification.
The Bank's regulatory capital amounts and ratios are as follows as of the
dates indicated:
To Be Well
Capitalized Under
For Prompt Corrective
Capital Action
Actual Adequacy Provisions
------------ ------------- -------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in Thousands)
March 31, 2004
Tier 1 Risk-Based Core Capital
(To Risk Weighted Assets) $32,140 11.8% 10,917 4.0% 16,376 6.0%
Total Risk-Based Capital
(To Risk Weighted Assets) $35,498 13.0% 21,834 8.0% 27,293 10.0%
Tier 1 Leverage (Core) Capital
(To Adjusted Tangible Assets) $32,140 6.1% 21,093 4.0% 26,366 5.0%
Tangible Capital
(To Tangible Assets) $32,140 6.1% 10,546 2.0% 26,366 5.0%
March 31, 2003
Tier 1 Risk-Based Core Capital
(To Risk Weighted Assets) $28,879 11.8% 9,806 4.0% 14,709 6.0%
Total Risk-Based Capital
(To Risk Weighted Assets) $31,791 13.0% 19,612 8.0% 24,515 10.0%
Tier 1 Leverage (Core) Capital
(To Adjusted Tangible Assets) $28,879 6.5% 17,762 4.0% 22,203 5.0%
Tangible Capital
(To Tangible Assets) $28,879 6.5% 8,881 2.0% 22,203 5.0%
The payment of dividends by the Company depends primarily on the ability
of the Bank to pay dividends to the Company. The payment of dividends by
the Bank to the Company is subject to substantial restrictions and would
require prior notice to the Office of Thrift Supervision ("OTS").
43
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(12) Employee Benefit Plans
----------------------
The Company is participating in a multiple employer defined contribution
employee benefit plan covering substantially all employees with six
months or more of service. The Company matches a portion of the
employees' contributions and the plan has a discretionary profit sharing
provision. The total employer contributions were $256,000, $215,000, and
$207,000 for the years ended March 31, 2004, 2003, and 2002,
respectively.
The Company has an Employee Stock Ownership Plan ("ESOP") for the
exclusive benefit of employee participants. The discretionary
contributions for the years ended March 31, 2004, 2003, and 2002 were $0,
$123,000, and $109,000, respectively. The ESOP from time to time borrows
funds from financial institutions to purchase the Company's stock. The
balance of the loan was $337,000 and $445,000 at March 31, 2004 and 2003,
respectively. The Company carries the debt as a liability and a reduction
in equity, although the Company neither endorses nor guarantees the loan.
The loan is repaid by Company contributions to the trustee, who in turn
makes the loan payment to the financial institution. The Company plans to
terminate the ESOP during fiscal 2005 and concentrate contributions to the
defined benefit plan, due to the high costs of administration of the ESOP.
Certain officers of the Company participate in an incentive stock option
plan. Options are granted at exercise prices not less than the fair value
of the Company's common stock on the date of the grant. The following is
a summary of the activity under the Company's incentive stock option plan
for the years ended March 31, 2004, 2003, and 2002.
2004 2003 2002
----------------- ----------------- -----------------
Weighted Weighted Weighted
Avg. Avg. Avg.
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
----------------- ----------------- -----------------
Balance, Beginning of
Year 114,366 $ 15.77 122,334 $ 15.31 123,834 $ 15.24
Options granted 31,000 22.97 6,000 22.39 3,000 20.00
Options exercised 3,467 5.33 3,468 5.33 - -
Options forfeited 11,760 11.12 10,500 17.62 4,500 16.67
------- ------- -------
Balance, March 31 130,139 $ 18.18 114,366 $ 15.77 122,334 $ 15.31
======= ======= =======
At March 31, 2004, the Company had the following options outstanding:
Outstanding Earliest Date
Grant Date Options Option Price Exercisable Expiration Date
- ---------- ----------- ------------ -------------- -----------------
1/07/97 4,639 $ 5.33 1/1/04 to 1/1/06 12/31/04 to 12/31/06
10/19/99 79,500 $16.67 10/1/04 to 10/01/08 9/30/05 to 9/30/09
10/19/99 6,000 $18.33 10/01/03 9/30/04
4/17/01 3,000 $20.00 5/1/06 to 5/1/10 4/30/07 to 4/30/11
1/16/03 6,000 $22.39 1/1/08 to 1/1/12 12/31/12
9/1/03 3,000 $24.00 9/1/08 to 9/1/12 8/31/13
12/1/03 3,000 $23.65 12/1/08 to 12/1/12 11/30/13
1/01/04 12,000 $24.22 1/1/09 to 1/1/13 12/31/13
3/8/04 13,000 $21.43 3/1/09 to 3/1/13 2/28/14
44
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(12) Employee Benefit Plans, Continued
---------------------------------
The options listed on the previous page vest over ten years with the first
vesting earned after five years and 20% vesting earned evenly in years six
through ten except for the 6,000 shares granted on 10/19/99 which fully
vest on 10/1/03. All options, issued prior to January 16, 2003, which
vest must be exercised within one year of vesting, except those granted
during the year ended March 31, 2004 or later, which may be exercised
anytime between the beginning of the sixth year and the end of the tenth
year after the grant date.
There were 17,000 options available for granting at March 31, 2004.
The incentive stock option plan adopted by the Company includes a
provision for tandem stock appreciation rights ("SARs"). Options granted
after March 31, 2002, were not granted in tandem with SAR's, while options
granted before March 31, 2002 were granted in tandem with SAR's. Upon
vesting, these stock appreciation rights are exercisable in lieu of the
stock options granted to the employee. Upon exercise, the employee
chooses the option or SAR feature, and the tandem instrument is cancelled.
The Company accounts for incentive stock options and tandem SARs under
Accounting Principles Board ("APB") Option No. 25, "Accounting for Stock
Issued to Employees". APB No. 25 states that compensation cost for a
combination plan permitting an employee to elect one part should be
measured according to the terms that an employee is mostly likely to elect
based on the facts available each period. Due to the personal income tax
implications of SARs under the Internal Revenue Code, employees have
historically elected to exercise options rather than the SARs.
Accordingly, the Company has elected to measure compensation cost for
stock options as required by APB No. 25, rather than for the SARs.
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option pricing model with the following weighted
average assumptions for grants: Dividend yield of $.08 per share for
options granted during the years ended 2004, 2003 and 2002, expected
volatility of 21.4% for options granted in 2004, 10.7% for options granted
in 2003, and 30% for options granted in 2002, risk-free interest rate of
3.78% to 4.45% for options granted in 2004, 3.35% for options granted in
2003, and 5.9% for options granted in 2002, and expected lives of 6-10
years.
(13) Commitments
-----------
In conjunction with its lending activities, the Bank enters into various
commitments to extend credit and issue letters of credit. Loan
commitments (unfunded loans and unused lines of credit) and letters of
credit are issued to accommodate the financing needs of the Bank's
customers. Loan commitments are agreements by the Bank to lend at a
future date, so long as there are no violations of any conditions
established in the agreement. Letters of credit commit the Bank to make
payments on behalf of customers when certain specified events occur.
Financial instruments where the contract amount represents the Bank's
credit risk include commitments under pre-approved but unused lines of
credit of $39.4 million and $30.9 million, undisbursed loans in process
totaled $12.4 million and $9.0 million, and letters of credit of $562,000
and $728,000 at March 31, 2004 and 2003, respectively. At March 31, 2004
and 2003, the fair value of standby letters of credit was immaterial.
These loan and letter of credit commitments are subject to the same credit
policies and reviews as loans on the balance sheet. Collateral, both the
amount and nature, is obtained based upon management's assessment of the
credit risk. Since many of the extensions of credit are expected to
expire without being drawn, the total commitment amounts do not
necessarily represent future cash requirements. In addition to these loan
commitments noted above, the Bank had unused credit card loan commitments
of $2.5 million and $2.4 million at March 31, 2004 and 2003, respectively.
Outstanding commitments on mortgage loans not yet closed amounted to
$429,000 and $200,000 at March 31, 2004 and 2003, respectively. Such
commitments, which are funded subject to certain limitations, extend over
varying periods of time with the majority being funded within 45 days. At
March 31, 2004 and 2003, the Bank had outstanding commitments to sell
approximately $1.7 and $3.7 million of loans, which encompassed the Bank's
held for sale loans. The Bank also has commitments to sell mortgage loans
not yet closed, on a best efforts basis. Best efforts means the Bank
suffers no penalty if they are unable to deliver the loans to the
potential buyers. The fair value of the Bank's commitment to originate
mortgage loans at committed interest rates and to sell such loans to
permanent investors is insignificant.
45
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(14) Related Party Transactions
--------------------------
At March 31, 2004, the total aggregate indebtedness to the Bank by
executive officers and directors of the Bank and Company, whose individual
indebtedness exceeded $60,000, at any time over the period since April 1,
2002,was $517,000. There was $137,000 in additional loans to executive
officers and directors whose individual indebtedness exceeded $60,000
during fiscal 2004. Repayments on these loans totaled approximately
$103,000. Loans to all employees, officers, and directors of the Company,
in the aggregate constituted approximately 6.51% of the total
shareholders' equity of the Company at March 31, 2004. At March 31, 2004,
deposits from executive officers and directors of the Bank and Company
and their related interest in aggregate approximated $2.4 million.
The Company rents office space from a company in which a director and an
officer of the Company and the Bank have an ownership interest. The Bank
incurred expenses of $30,000, $29,000, and $29,000 for rent for the years
ended March 31, 2004, 2003 and 2002, respectively. Management is of the
opinion that the transactions with respect to office rent are made on
terms that are comparable to those which would be made with unaffiliated
persons.
(15) Security Federal Corporation Condensed Financial Statements (Parent
-------------------------------------------------------------------
Company Only)
------------
The following is condensed financial information of Security Federal
Corporation (Parent Company only). The primary asset is its investment in
the Bank subsidiary and the principal source of income for the Company is
equity in undistributed earnings from the Bank.
Condensed Balance Sheet Data
At March 31,
--------------------------
2004 2003
----------- -----------
Assets:
Cash $ 956,582 $ 146,206
Investment In Security Federal Bank 32,829,876 30,324,359
Income Tax Receivable From Bank 31,538 33,181
----------- -----------
Total Assets $33,817,996 $30,503,746
=========== ===========
Liability And Shareholders' Equity:
Accounts Payable $ 9,109 $ 19,108
Indirect Guarantee of ESOP Debt 336,972 444,685
Shareholders' Equity 33,471,915 30,039,953
----------- -----------
Total Liabilities And Shareholders'
Equity $33,817,996 $30,503,746
=========== ===========
Condensed Statements of Income Data
For the Years Ended March 31,
--------------------------------------
2004 2003 2002
---------- ---------- ----------
Income:
Equity In Earnings Of Security
Federal Bank $4,260,347 $3,232,989 $2,510,729
Miscellaneous Income 10,000 - 406
---------- ---------- ----------
4,270,347 3,232,989 2,511,135
Expenses:
Other Expenses 7,184 1,828 1,549
---------- ---------- ----------
Net Income $4,263,163 $3,231,161 $2,509,586
========== ========== ==========
46
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(15) Security Federal Corporation Condensed Financial Statements (Parent
-------------------------------------------------------------------
Company Only), Continued
------------------------
Condensed Statements of Cash Flow Data
For the Years Ended March 31,
--------------------------------------
2004 2003 2002
---------- ---------- ----------
Operating Activities:
Net Income $ 4,263,163 $ 3,231,161 $ 2,509,586
Adjustments To Reconcile Net Income
To Net Cash Provided By (Used In)
Operating Activities:
Equity In Earnings Of Security
Federal Bank (4,260,347) (3,232,989) (2,510,729)
Equity In Earnings (Loss) Of Real
Estate Partnership - - -
Recovery of Previously Recognized
Loss - - -
(Increase) Decrease In Income Taxes
Receivable And Other Assets 1,644 (1,123) (700)
Decrease In Accounts Payable (10,000) (2,936) -
----------- ----------- -----------
Net Cash Provided By (Used In)
Operating Activities (5,540) (5,887) (1,843)
----------- ----------- -----------
Investing Activities:
Dividend Received From Security
Federal Bank $ 1,000,000 - -
----------- ----------- -----------
Net Cash Provided By Investing
Activities $ 1,000,000 - -
----------- ----------- -----------
Financing Activities:
Exercise of Stock Options 18,479 18,496 -
Purchase of Fractional Shares Due
To Stock Split - (122) -
Dividends Paid (202,563) (151,677) (134,740)
----------- ----------- -----------
Net Cash Provided By (Used In)
Financing Activities (184,084) (133,303) (134,740)
Net Increase (Decrease) In Cash 810,376 (139,190) (136,583)
Cash At Beginning Of Year 146,206 285,396 421,979
----------- ----------- -----------
Cash At End Of Year $ 956,582 $ 146,206 $ 285,396
=========== =========== ===========
(16) Carrying Amounts and Fair Value of Financial Instruments
--------------------------------------------------------
The carrying amounts and fair value of financial instruments are
summarized below:
At March 31,
---------------------------------------------
2004 2003
--------------------- ---------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
-------- ---------- --------- ----------
(In Thousands)
Financial Assets:
Cash And Cash Equivalents $ 6,749 $ 6,749 $ 8,239 $ 8,239
Investment And Mortgage-Back
Securities $244,604 $246,098 $179,788 $182,190
Loans Receivable, Net $259,895 $260,042 $243,156 $250,022
Federal Home Loan Bank Stock $ 4,817 $ 4,817 $ 2,859 $ 2,859
Financial Liabilities:
Deposits:
Checking, Savings, and
Money Market Accounts $256,692 $256,692 $201,374 $201,374
Certificate Accounts $132,900 $117,389 $157,100 $160,818
Advances From Federal Home
Loan Bank $ 96,336 $104,653 $ 49,772 $ 51,792
Other Borrowed Money $ 5,477 $ 5,477 $ 4,193 $ 4,193
47
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(16) Carrying Amounts and Fair Value of Financial Instruments, Continued
-------------------------------------------------------------------
At March 31, 2004, the Bank had $54.9 million of off-balance sheet
financial commitments. These commitments are to originate loans and
unused consumer lines of credit and credit card lines. Because these
obligations are based on current market rates, if funded, the original
principal is considered to be a reasonable estimate of fair value.
Fair value estimates are made at a specific point in time, based on
relevant market data and information about the financial instrument.
These estimates do not reflect any premium or discount that could result
from offering for sale the Bank's entire holdings of a particular
financial instrument. Because no active market exists for a significant
portion of the Bank's financial instruments, fair value estimates are
based on judgments regarding future expected loss experience, current
economic conditions, current interest rates and prepayment trends, risk
characteristics of various financial instruments, and other factors.
These estimates are subjective in nature and involve uncertainties and
matters of significant judgment and therefore cannot be determined with
precision. Changes in any of these assumptions used in calculating fair
value would also significantly affect the estimates.
Fair value estimates are based on existing on- and off-balance sheet
financial instruments without attempting to estimate the value of
anticipated future business and the value of assets and liabilities that
are not considered financial instruments. For example, the Bank has
significant assets and liabilities that are not considered financial
assets or liabilities including deposit franchise values, loan servicing
portfolios, deferred tax liabilities, and premises and equipment. In
addition, the tax ramifications related to the realization of the
unrealized gains and losses can have a significant effect on fair value
estimates and have not been considered in any of these estimates. The
values used are provided from the Office of Thrift Supervison's interest
rate risk model.
The Company has used management's best estimate of fair value on the above
assumptions. Thus, the fair values presented may not be the amounts,
which could be realized, in an immediate sale or settlement of the
instrument. In addition, any income taxes or other expenses that would be
incurred in an actual sale or settlement are not taken into consideration
in the fair value presented.
48
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
Notes To Consolidated Financial Statements
(17) Quarterly Financial Data (Unaudited)
-----------------------------------
Unaudited condensed financial data by quarter for fiscal year 2004 and
2003 is as follows (amounts, except per share data, in thousands):
Quarter ended
-----------------------------------------------------------
2003-2004 June 30, 2003 Sept. 30, 2003 Dec. 31, 2003 Mar. 31, 2004
------------- -------------- ------------- -------------
Interest Income $ 5,614 $ 5,504 $ 5,883 $ 6,010
Interest Expense 2,388 2,298 2,413 2,507
---------- ---------- ---------- ----------
Net Interest
Income 3,226 3,206 3,470 3,503
Provision for Loan
Losses 300 300 300 300
---------- ---------- ---------- ----------
Net Interest Income
after Provision
for Loan Losses 2,926 2,906 3,170 3,203
Non-interest Income 1,200 1,059 796 2,180
Non-interest Expense 2,649 2,577 2,560 2,938
---------- ---------- ---------- ----------
Income before
Income Tax 1,477 1,388 1,406 2,445
Provision for
Income taxes 554 498 503 897
---------- ---------- ---------- ----------
Net Income $ 923 $ 890 $ 903 $ 1,548
========== ========== ========== ==========
Basic Net Income
per Common Share $ 0.37 $ 0.35 $ 0.36 $ 0.62
========== ========== ========== ==========
Diluted Net Income
per Common Share $ 0.36 $ 0.35 $ 0.35 $ 0.60
========== ========== ========== ==========
Basic Weighted
Average Shares
Outstanding 2,510,526 2,512,600 2,513,958 2,516,191
========== ========== ========== ==========
Diluted Weighted
Average Shares
Outstanding 2,558,299 2,568,601 2,561,891 2,554,050
========== ========== ========== ==========
Quarter ended
-----------------------------------------------------------
2002-2003 June 30, 2002 Sept. 30, 2002 Dec. 31, 2002 Mar. 31, 2003
------------- -------------- ------------- -------------
Interest Income $ 6,002 $ 6,001 $ 5,972 $ 5,685
Interest Expense 2,512 2,538 2,547 2,419
---------- ---------- ---------- ----------
Net Interest
Income 3,490 3,463 3,425 3,266
Provision for Loan
Losses 450 450 450 450
---------- ---------- ---------- ----------
Net Interest Income
after Provision
for Loan Losses 3,040 3,013 2,975 2,816
Noninterest Income 799 882 1,108 1,022
Noninterest Expense 2,684 2,579 2,597 2,623
---------- ---------- ---------- ----------
Income before
Income Tax 1,155 1,316 1,486 1,215
Provision for Income
taxes 438 502 559 442
---------- ---------- ---------- ----------
Net Income $ 717 $ 814 $ 927 $ 773
========== ========== ========== ==========
Basic Net Income
per Common Share $ 0.29 $ 0.32 $ 0.37 $ 0.31
========== ========== ========== ==========
Diluted Net Income
per $ 0.28 $ 0.32 $ 0.36 $ 0.30
========== ========== ========== ==========
Basic Weighted
Average Shares
Outstanding 2,507,573 2,509,707 2,509,484 2,508,331
========== ========== ========== ==========
Diluted Weighted
Average Shares
Outstanding 2,564,795 2,565,969 2,559,299 2,555,176
========== ========== ========== ==========
49
SECURITY FEDERAL CORPORATION AND SUBSIDIARIES
SHAREHOLDERS INFORMATION
ANNUAL MEETING
The annual meeting of shareholders will be held at 2:00 p.m., Thursday, July
22, 2004 at the City of Aiken Municipal Conference Center, 215 The Alley,
Aiken, SC.
STOCK LISTING
The Company's stock is traded on the Over-The-Counter-Bulleting Board under
the symbol "SFDL". The stock began trading on the Bulletin Board in October
2003.
PRICE RANGE OF COMMON STOCK
The table below shows the range of high and low bid prices. These prices
represent actual transactions and do not include retail markups, markdowns or
commissions. Market makers include Sterne, Agee, and Leach, Inc., Trident
Securities, Inc., A.G. Edwards and Sons, Inc., Hill, Thompson, and Magid, and
Monroe Securities, Inc.
Quarter Ending High Low
-------------- ------- -------
06-30-02 $ 24.00 $ 21.67
09-30-02 $ 22.99 $ 22.11
12-31-02 $ 22.31 $ 21.33
03-31-03 $ 21.33 $ 20.00
06-30-03 $ 20.98 $ 20.98
09-30-03 $ 24.50 $ 22.25
12-31-03 $ 25.50 $ 23.25
03-31-04 $ 25.40 $ 19.75
The prices in the table above are adjusted for a 3-for-2 stock split which
occurred in the fiscal year ended March 31, 2003.
As of March 31, 2004, the Company had approximately 475 shareholders and
2,533,291 outstanding shares of common stock.
DIVIDENDS
The first quarterly dividend on the stock was paid to shareholders on March
15, 1991. Dividends will be paid upon the determination of the Board of
Directors that such payment is consistent with the long-term interest of the
Company. The factors affecting this determination include the Company's
current and projected earnings, operating results, financial condition,
regulatory restrictions, future growth plans, and other relevant factors. The
Company declared and paid dividends of $0.0133 per share for each of the four
quarters of the fiscal year ended March 31, 2002. In fiscal year ended March
31, 2003, the Company paid cash dividends of $0.0133 for the first three
quarters of the fiscal year. After the 3-for-2 stock split which occurred
during the quarter ended March 31, 2003, the Company paid $0.02 per share cash
dividend for that quarter. The cash dividends are stated on a post split
basis. The Company paid $0.02 per share cash dividends for each of the
quarters during fiscal 2003-2004.
The ability of the Company to pay dividends depends primarily on the ability
of the Bank to pay dividends to the Company. The Bank may not declare or pay
a cash dividend on its stock or repurchase shares of its stock if the offset
thereof would be to cause its regulatory capital to be reduced below the
amount required for the liquidation account or to meet applicable regulatory
capital requirements. Pursuant to the OTS regulations, Tier 1 Associations
(associations that before and after the proposed distribution meet or exceed
their fully phased-in capital requirements) may make capital distributions
during any calendar year equal to 100% of net income for the year-to-date plus
50% of the amount by which the association's total capital exceeds its fully
phased-in capital requirement as measured at the beginning of the capital
year. However, a Tier 1 Association deemed to be in need of more than normal
supervision by the OTS may be downgraded to a Tier 2 or Tier 3 Association as
a result of such a determination. The Bank is also required to give the OTS
30 days notice prior to the declaration of a dividend. Unlike the Bank, there
is no regulatory restriction on the payment of dividends by the Company.
However, it is subject to the requirements of South Carolina. South Carolina
generally prohibits the Company from paying dividends if, after giving effect
to a proposed dividend: (1) the Company would be unable to pay its debts as
they become due in the normal course of business, or (2) the Company's total
assets would be less than its total liabilities plus the sum that would be
needed to satisfy the preferential rights upon dissolution of shareholders
whose preferential rights are superior to those receiving the dividend. The
ability of the Company to pay dividends depends primarily on the ability of
the Bank to pay dividends to the Company.
50
SHAREHOLDER INFORMATION
ANNUAL AND OTHER REPORTS
The Company is required to file an annual report on Form 10-K for its fiscal
year ended March 31, 2004 with the Securities and Exchange Commission. Copies
of Form 10-K, Security Federal Corporation's annual report, and the Company's
quarterly reports may be obtained from and inquiries may be addressed to Mrs.
Ruth L. Vance of Security Federal Corporation.
GENERAL INQUIRIES TRANSFER AGENT SPECIAL COUNSEL
Mrs. Ruth L. Vance Security Federal Breyer & Associates, PC
Security Federal Corporation Suite 785
Corp. 1705 Whiskey Road, S 8180 Greensboro Drive
1705 Whiskey Road, S P.O. Box 810 McLean, VA 22102
P.O. Box 810 Aiken, SC 29802-0810
Aiken, SC 29802-0810
Phone: 803-641-3000
Toll free: 866-581-3000
INDEPENDENT AUDITORS
Elliott Davis, LLC
211 York Street, N.E.
Suite One
P.O. Box 930
Aiken, SC 29802-0930
51
BOARD OF DIRECTORS
T. Clifton Weeks Sen. Thomas L. Moore Harry O. Weeks, Jr.
Chairman President Business Dev. Executive
Security Federal Corporation Boiler Efficiency, Inc. Hutson-Etherredge Co.
Aiken, SC Clearwater, SC Aiken, SC
Dr. Robert E. Alexander Timothy W. Simmons J. Chris Verenes
Chancellor Emeritus President/CEO President
Univ. of SC at Aiken Security Federal Corp. Security Federal Bank
Aiken, SC Aiken, SC Aiken, SC
Hon. William Clyburn G. L. Toole, III
Advisor for Community Attorney-At-Law
Alliances Aiken, SC
WSRC
Aiken, SC
Directors Emeriti:
Walter E. Brooker, Sr.
President, Brooker's Inc.
Denmark, SC
Robert E. Johnson
Corporate Secretary
Attorney-At-Law (Retired)
Aiken, SC
52
BANK ADVISORY BOARDS
NORTH AUGUSTA
P. Richard Borden Rev. G.L. Brightharp Helen H. Butler
Owner Owner Retired Banker
Borden Pest Control G.L. Brightharp & Sons Mortuary North Augusta, SC
North Augusta, SC North Augusta, SC
Sen. Thomas L. Moore John P. Potter
President Director of Finance
Boiler Efficiency, Inc. City of North Augusta
Clearwater, SC North Augusta, SC
WAGENER
M. Judson Busbee Chad G. Ingram Mary T. Lybrand Michael L. Miller
Owner Vice President Retired Banker Anesthesiologist
Busbee Hardware New World Enterprises Wagener, SC Palmetto Health
Wagener, SC Wagener, SC Richland Memorial
Hospital
Columbia, SC
Richard H. Sumpter
Retired Educator
Wagener, SC
MIDLAND VALLEY
Charles A. Hilton Rev. Nathaniel Irvin, Sr. Gloria Busch-Johnson
General Manager Pastor Consultant
Breezy Hill Old Storm Branch Aiken, SC
Water& Sewer Baptist Baptist Church
Graniteville, SC Clearwater, SC
Sen. Thomas L. Moore Glenda K. Napier Carlton B. Shealy
President Co-Owner Owner
Boiler Efficiency, Inc. Napier Funeral Home C. Shealy Realty Builders &
Clearwater, SC Graniteville, SC Developers
North Augusta, SC
WEST COLUMBIA
Eleanor Powell Clark Dr. G. Tripp Jones L. Ed Kirkland, Jr.
Owner/Operator Physician Owner/Agent
B & E Enterprises Inc. SC Oncology Associates L. Ed Kirkland & Co., LLC
dba McDonald's West Columbia, SC Columbia, SC
Columbia, SC
Dianne Light Donald T. Martin Sandra Dooley Parker
Owner Controller, CPA Attorney
Diane's on Devine Nexsen, Pruet, Jacobs Dooley, Dooley, Spence,
& Dipmato's Deli & Pollard, LLP Parker & Hipp, PA
Columbia, SC West Columbia, SC Lexington, SC
L. Todd Sease Sen. Nikki G. Setzler Jan Hook-Stamps
Partner Sr. Partner Owner
Jumper, Carter, Sease Setzler & Scott, PA Southern Anesthesia &
Architects, PA Law Firm Surgical Co.
Columbia, SC West Columbia, SC West Columbia, SC
53
MANAGEMENT TEAM
T. Clifton Weeks Chairman of Security Federal Corporation
Timothy W. Simmons Chairman and Chief Executive Officer
G. L. Toole, III Vice President
Robert E. Johnson Corporate Secretary
J. Chris Verenes President
Roy G. Lindburg Treasurer and Chief Financial Officer
Floyd J. Blackmon Senior Vice President and Chief Operations Officer
Francis M. Thomas, Jr. Senior Vice President - Aiken Area Executive
Marian A. Shapiro Senior Vice President - Midlands Area Executive
Sandra M. Bartlett Vice President - Human Resources
Kathryn Y. Carr Vice President - Special Assets
Carol P. McCleskey Vice President and Branch Coordinator
Harley G. Henkes Internal Auditor and Compliance/Security Officer
Gabriele C. Dukes Vice President - Financial Counseling/Community
Development
Rodney K. Ingle Vice President - Business Development/Commercial Loans
Joseph C. Taylor Vice President - Operations Officer
Audrey Varn Vice President - Trust Administration
Janice S. Hauerwas Vice President - Mortgage Loan Originator
Gregory D. Warfield Vice President - Mortgage Loan Originator
James E. Bristow Vice President - Business Development/Commercial Loans
Lawrence M. Moran Vice President - Business Development/Commercial Loans
Paul T. Rideout Vice President - Business Development/Commercial Loans
Etta A. Petroff Assistant Vice President - Mortgage Loan Production/
Secondary Marketing
Ruth L. Vance Assistant Secretary and Assistant Vice President
Margaret A. Hurt Assistant Treasurer - Accounting
Laura B. Conway Assistant Vice President - Operations
Kathi J. Snipes Assistant Vice President - Financial Counseling
Patricia B. Moseley Assistant Vice President - Loan and Credit Card
Servicing
Ann C. Johnson Assistant Vice President - Purchasing and Facilities
Management
Elsie K. Dicks Assistant Vice President - Credit Administration
Barbara J. Davis Assistant Vice President - Mortgage Loan Underwriter
S. Kevin Price Assistant Vice President - Community Development
Jason S. Redd Assistant Vice President - Trust, Investment &
Insurance
BRANCH LOCATIONS
Whiskey Road, Aiken, SC
Dana S. Hall, Assistant Vice President/Manager
North Augusta, SC
S. Elaine Ivey, Assistant Vice President/Manager
Laurens Street, Aiken, SC
Vicky W. Moseley, Assistant Vice President/Manager
Richland Avenue, Aiken, SC
Nicole W. Simmons, Assistant Vice President/Manager
Wal-Mart, Aiken, SC
Tonya Key, Manager
Graniteville, SC
Kathy S. Williamson, Assistant Vice President/Manager
Langley, SC
Pat W. Guglieri, Assistant Vice President/Manager
Clearwater, SC
Gail W. Dotson, Assistant Vice President/Manager
Wagener, SC
Sharon M. Swift, Assistant Vice President/Manager
West Columbia, SC
Mary B. Clark, Assistant Vice President/Manager
Lexington, SC
Geena B. Copeland, Assistant Vice President/Manager
54
SECURITY FEDERAL TRUST, INC.
offers expert administrative, investment, record-keeping and fiduciary
services.
SECURITY FEDERAL INSURANCE, INC.
offers a complete range of insurance from the best underwriters in the
industry to provide property and casualty, life, disability, group health and
long term care insurance coverage.
SECURITY FEDERAL INVESTMENTS, INC.
offers advice-driven, personalized investment services to help customers
achieve their financial goals.
55
Exhibit 21
Subsidiaries of the Registrant
State of Percentage
Parent Subsidiary Incorporation of Ownership
- ------ ---------- ------------- ------------
Security Federal
Corporation Security Federal Bank United States 100%
Security Federal Security Federal
Bank Insurance South Carolina 100%
Security Federal
Investments South Carolina 100%
Security Federal Trust South Carolina 100%
Security Financial South Carolina 100%
Services Corporation
Exhibit 23
Consent of Elliott Davis, LLC
CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
--------------------------------------------------------
The Board of Directors
Security Federal Corporation
We consent to incorporation by reference in the Registration Statement
No. 33-80008 on Form S-8 of our report dated April 30, 2004, relating to the
consolidated balance sheet of Security Federal Corporation and subsidiaries as
of March 31, 2004 and the related consolidated statements of income,
shareholders' equity and cash flows for the year then ended, which report
appears in the March 31, 2004 annual report on Form 10-K.
/s/Elliott Davis, LLC
Columbia, South Carolina
June 24, 2004
Exhibit 31.1
Certification Required
by Rules 13a-15 and 15d-15 under the Securities Exchange Act of 1934
I, Timothy W. Simmons, certify that:
1. I have reviewed this annual report on Form 10-K of Security Federal
Corporation;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered
by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows
of the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known
to us by others within those entities, particularly during the
period in which this report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about
the effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based on such
evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter (the registrant's fourth
fiscal quarter in the case of an annual report) that has materially
affected, or is reasonably likely to materially affect, the
registrant's internal control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed, based
on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: June 24, 2004
/s/ Timothy W. Simmons
--------------------------------------
Timothy W. Simmons
President and Chief Executive Officer
Exhibit 31.2
Certification Required
by Rules 13a-15 and 15d-15 under the Securities Exchange Act of 1934
I, Roy G. Lindburg, certify that:
1. I have reviewed this annual report on Form 10-K of Security Federal
Corporation;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered
by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows
of the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer(s) and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known
to us by others within those entities, particularly during the
period in which this report is being prepared;
(b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures and presented in this report our conclusions about
the effectiveness of the disclosure controls and procedures, as of
the end of the period covered by this report based on such
evaluation; and
(c) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter (the registrant's fourth
fiscal quarter in the case of an annual report) that has materially
affected, or is reasonably likely to materially affect, the
registrant's internal control over financial reporting; and
5. The registrant's other certifying officer(s) and I have disclosed, based
on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent
functions):
(a) All significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which are
reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: June 24, 2004
/s/ Roy G. Lindburg
--------------------------------------
Roy G. Lindburg
Treasurer and Chief Financial Officer
Exhibit 32
CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER
OF SECURITY FEDERAL CORPORATION
PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
The undersigned hereby certify, pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 and in connection with this Annual Report on Form
10-K, that:
1. the report fully complies with the requirements of Sections 13(a)
and 15(d) of the Securities Exchange Act of 1934, as amended, and
2. the information contained in the report fairly presents, in all
material respects, the company's financial condition and results
of operations.
/s/ Timothy W. Simmons /s/ Roy G. Lindburg
- ------------------------------------- -------------------------------------
Timothy W. Simmons Roy G. Lindburg
President and Chief Executive Officer Treasurer and Chief Financial Officer
Dated: June 24, 2004