SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1998 Commission file number: 33-18888 ORRSTOWN FINANCIAL SERVICES, INC. (Exact name of registrant as specified in its charter) Pennsylvania 23-2530374 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 77 East King Street P. O. Box 250, Shippensburg, Pennsylvania 17257 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (717) 532-6114 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Title of each class Common Stock, No Par Value The Common Stock is not registered on any exchange. 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 As of February 28, 1999, 2,057,799 shares of the registrant's common stock were outstanding. The aggregate market value of such shares held by nonaffiliates on that date was $ 72,022,965. DOCUMENTS INCORPORATED BY REFERENCE Portions of the annual shareholders report for the year ended December 31, 1998 are incorporated by reference into Parts I and II. Portions of the Proxy Statement for 1998 Annual Meeting of Security Holders are incorporated by reference in Part III of this Form 10-K. - -1- Item 1. Business. History and Business Orrstown Financial Services, Inc. (OFS) is a bank holding company registered under the Bank Holding Company Act of 1956, as amended. Orrstown Financial Services, Inc. was organized on November 17, 1987, under the laws of the Commonwealth of Pennsylvania for the purpose of acquiring Orrstown Bank ("Orrstown"), Shippensburg, Pennsylvania, and such other banks and bank related activities as are permitted by law and desirable. On March 8, 1988, Orrstown Financial Services, Inc. acquired 100% ownership of Orrstown, issuing 131,455 shares of Orrstown Financial Services, Inc.'s common stock to the former Orrstown shareholders. Orrstown Financial Services, Inc.'s primary activity consists of owning and supervising its subsidiary, Orrstown Bank, which is engaged in providing banking and bank related services in South Central Pennsylvania, principally Franklin and Cumberland Counties, where its seven branches are located in Shippensburg (2), Carlisle (2), Spring Run, Orrstown, and Chambersburg, Pennsylvania. The day-to-day management of Orrstown Bank is conducted by the subsidiary's officers. Orrstown Financial Services, Inc. derives a majority of its current income from Orrstown. Orrstown Financial Services, Inc. has no employees other than its six officers who are also employees of Orrstown, its subsidiary. On December 31, 1998, Orrstown had 76 full-time and 36 part-time employees. Business of Orrstown Orrstown was organized as a state-chartered bank in 1987 as part of an agreement and plan of merger between Orrstown Financial Services, Inc. and Orrstown Bank, the predecessor of Orrstown, under which Orrstown became a wholly-owned subsidiary of Orrstown Financial Services, Inc. As indicated, Orrstown is the successor to Orrstown Bank which was originally organized in 1919. - -2- Orrstown is engaged in commercial banking and trust business as authorized by the Pennsylvania Banking Code of 1965. This involves accepting demand, time and savings deposits and granting loans. The Bank grants agribusiness, commercial and residential loans to customers in South Central Pennsylvania, principally Franklin and Cumberland Counties. The concentrations of credit by type of loan are set forth on the face of the balance sheet (page 5 of the annual report to shareholders). The Bank maintains a diversified loan portfolio and evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Bank upon the extension of credit, is based on management's credit evaluation of the customer and collateral standards established in the Bank's lending policies and procedures. All secured loans are supported with appraisals of collateral. Business equipment and machinery, inventories, accounts receivable, and farm equipment are considered appropriate security, provided they meet acceptable standards for liquidity and marketability. Loans secured by equipment and/or other nonreal estate collateral normally do not exceed 70% of appraised value or cost, whichever is lower. Loans secured by real estate do not exceed 80% of the appraised value of the property which is the maximum loan to collateral value established in the Bank's lending policy. Loan to collateral values are monitored as part of the loan review, and appraisals are updated as deemed appropriate in the circumstances. Administration and supervision over the lending process is provided by the Bank's Credit Administration Department via loan reviews. The loan review process is continuous, commencing with the approval of a loan. Each new loan is reviewed by the Credit Administration Department for compliance with banking regulations and lending policy requirements for documentation, collateral standards, and approvals. The Credit Administration Department continues to monitor and evaluate loan customers utilizing risk-rating criteria established in the lending policy in order to spot deteriorating trends and detect conditions which might indicate potential problem loans. - -3- Reports of the results of the loan reviews are submitted quarterly to the Directors' Credit Administration Committee for approval and provide the basis for evaluating the adequacy of the allowance for loan losses. Through its trust department, Orrstown renders services as trustee, executor, administrator, guardian, managing agent, custodian, investment advisor and other fiduciary activities authorized by law. As of December 31, 1998, Orrstown had total assets of approximately $ 236 million, total shareholders' equity of approximately $ 21 million and total deposits of approximately $ 184 million. Regulation and Supervision Orrstown Financial Services (OFS) is a bank holding company within the meaning of the Bank Holding Company Act of 1956 (BHC Act), and is registered as such with the Board of Governors of the Federal Reserve System (FRB). OFS is subject to examination by the FRB and is restricted in its acquisitions, certain of which are prohibited and certain of which are subject to approval by the FRB. Under the BHC Act, a bank holding company is, with limited exceptions, prohibited from (i) acquiring direct or indirect ownership or control of more than 5% of the voting shares of any company which is not a bank or (ii) engaging in any activity other than managing or controlling banks. With the prior approval of the FRB, however, a bank holding company may own shares of a company engaged in activities which the FRB determines to be so closely related to banking or managing or controlling banks as to be a proper incident thereto. In addition, federal law imposes certain restrictions on transactions between OFS and its subsidiary, Orrstown Bank. As an affiliate of Orrstown Bank OFS is subject, with certain exceptions, to provisions of federal law imposing limitations on, and requiring collateral for, extensions of credit by Orrstown Bank to its affiliates. - -4- The operations of Orrstown are subject to federal and state statutes applicable to banks chartered under the banking laws of the United States, and to banks whose deposits are insured by the Federal Deposit Insurance Corporation. Bank operations are also subject to regulations of the Pennsylvania Department of Banking, the Federal Reserve Board and the Federal Deposit Insurance Corporation. The primary supervisory authority of Orrstown is the Pennsylvania Department of Banking, who regularly examines such areas as reserves, loans, investments, management practices and other aspects of bank operations. These examinations are designed primarily for the protection of the Bank depositors. Federal and state banking laws and regulations govern, among other things, the scope of a bank's business, the investments a bank may make, the reserves against deposits a bank must maintain, the loans a bank makes and collateral it takes, the maximum interest rates a bank may pay on deposits, the activities of a bank with respect to mergers and consolidations, and the establishment of branches, and management practices and other aspects of banking operations. See Note 14 of the Notes to Financial Statements for a discussion of the limitations on the availability of Orrstown Financial Services' subsidiary's undistributed earnings for the payment of dividends due to such regulation and other reasons. The Financial Institutions Reform, Recovery and Enforcement Act of 1989 (FIRREA) provides that a financial institution insured by the Federal Deposit Insurance Corporation (FDIC) sharing common ownership with a failed institution can be required to indemnify the FDIC for its losses resulting from the insolvency of the failed institution, even if such indemnification causes the affiliated institution also to become insolvent. OFS currently has only one subsidiary and as a result has not been significantly affected by the aforementioned provisions of FIRREA. - -5- Regulatory authorities have issued guidelines that establish risk-based capital and leverage standards. These capital requirements of bank regulators, are discussed on page 21 of the annual report to shareholders under "Capital Adequacy and Regulatory Matters". Failure to meet applicable capital guidelines could subject a bank to a variety of enforcement remedies available to the regulatory authorities. Depending upon circumstances, the regulatory agencies may require an institution to develop a "capital plan" to increase its capital to levels established by the agency. In 1991, the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") was enacted. FDICIA contains provisions limiting activities and business methods of depository institutions. FDICIA requires the primary federal banking regulators to promulgate regulations setting forth standards relating to, among other things, internal controls and audit systems; credit underwriting and loan documentation; interest rate exposure and other off-balance sheet assets and liabilities; and compensation of directors and officers. FDICIA provides for expanded regulation of depository institutions and their affiliates, including parent holding companies, by such institutions' primary federal banking regulator. Each primary federal banking regulator is required to specify, by regulation, capital standards for measuring the capital adequacy of the depository institutions it supervises and, depending upon the extent to which a depository institution does not meet such capital adequacy measures, - -6- the primary federal banking regulator may prohibit such institution from paying dividends or may require such institution to take other steps to become adequately capitalized. The earnings of Orrstown Bank, and therefore the earnings of Orrstown Financial Services, are affected by general economic conditions, management policies, and the legislative and governmental actions of various regulatory authorities including the FRB, the FDIC and the Pennsylvania Department of Banking. In addition, there are numerous governmental requirements and regulations that affect the activities of Orrstown Financial Services. Competition Orrstown's principal market area consists of Franklin County and Cumberland County, Pennsylvania. It services a substantial number of depositors in this market area, with the greatest concentration within a radius of Shippensburg and Carlisle, Pennsylvania. Orrstown, like other depository institutions, has been subjected to competition from less heavily regulated entities such as brokerage firms, money market funds, consumer finance and credit card companies and other commercial banks, many of which are larger than Orrstown Bank. Orrstown Bank is generally competitive with all competing financial institutions in its service area with respect to interest rates paid on time and savings deposits, service charges on deposit accounts and interest rates charged on loans. Item 2. Properties. Orrstown Bank owns buildings in Orrstown, Pennsylvania, Shippensburg, Pennsylvania (3), Carlisle, Pennsylvania, Spring Run, Pennsylvania and Chambersburg, Pennsylvania. Offices of the bank are located in each of these buildings. One of the offices located in Shippensburg is an "Operations Center" which does not operate as a branch, but rather as an accounting office. The bank also - -7- owns properties adjacent to the Orrstown and downtown Shippensburg offices which it intends to hold for future expansion purposes. Item 3. Legal Proceedings. Orrstown Financial Services, Inc. is an occasional party to legal actions arising in the ordinary course of its business. In the opinion of Orrstown Financial Services, Inc.'s management, Orrstown Financial Services, Inc. has adequate legal defenses and/or insurance coverage respecting any and each of these actions and does not believe that they will materially affect Orrstown Financial Services, Inc.'s operations or financial position. Item 4. Submission of Matters to Vote of Security Holders. None Executive Officers of Registrant The following table sets forth selected information about the principal officers of the holding company, each of whom is elected by the Board of Directors and each of whom holds office at the discretion of the Board. Age Held Bank Employee as of Name/Office Held Since Since 3/15/99 Joel R. Zullinger, Chairman of the Board 1991 (1) 50 Jeffrey W. Coy, Vice Chairman of The board 1988 (1) 47 Kenneth R. Shoemaker, President & CEO 1987 1986 51 Bradley S. Everly, Senior Vice President Senior Loan Officer 1997 1997 47 Stephen C. Oldt, Executive Vice President, Chief Operating Officer 1987 1987 56 Philip E. Fague, Vice President, Senior Trust Officer 1990 1988 39 Robert T. Henry, Secretary 1988 (1) 70 Benjamin Stoops, Vice President, Senior Operations Officer 1998 1998 47 (1) Mr. Henry, Mr. Zullinger and Mr. Coy are not employees of the Bank. - -8- Senior Operating Officers of the Bank Held Bank Employee Age Name/Office Held Since Since as of 3/15/99 Kenneth R. Shoemaker, President & Chief Executive Officer 1987 1988 51 Stephen C. Oldt, Executive Vice President & Chief Operating Officer 1987 1987 56 Philip E. Fague, Vice President/ 1990/ Senior Trust Officer 1993 1988 39 Bradley S. Everly, Senior Vice 1997/ President/Senior Loan Officer 1997 1997 47 Benjamin Stoops, Vice President, Senior Operations Officer 1998 1998 47 Part II Item 5. Market for Registrant's Common Stock and Related Security Holder Matters. Orrstown Financial Services, Inc.'s common stock is not traded on a national securities exchange, but is traded inactively through the local and over the counter local markets. At December 31, 1998, the approximate number of shareholders of record was approximately 1,666. The price ranges for Orrstown Financial Services, Inc. common stock set forth below are the approximate bid prices obtained from brokers who make a market in the stock. Market Cash Market Cash Price Dividend Price Dividend Dividend (1) 1998 1997 High Low High Low First Quarter $ 24.00 $ 22.50 $ .115 $ 17.15 $ 16.19 $ .09 Second Quarter 26.00 22.13 .115 20.00 17.15 .095 Third Quarter 30.00 26.00 .12 21.00 20.00 .10 Fourth Quarter 32.00 27.50 .13 22.50 21.00 .155 (1) Note: Cash dividends per share have been restated after giving retroactive recognition to a 2 for 1 stock split effective November 21, 1998 and 5% stock dividend paid May 15, 1997. See Note 14 to the financial statements for restrictions on the payment of dividends. - -9- Item 6. Selected Financial Data. The selected five-year financial data on page 22 of the annual shareholders' report for the year ended December 31, 1998 is incorporated herein by reference. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Management's discussion and analysis of financial condition and results of operations, on pages 17 through 22 of the annual shareholders' report are incorporated herein by reference. Item 8. Financial Statements and Supplementary Data. The financial statements and supplementary data, some of which is required under Guide 3 (statistical disclosures by bank holding companies) are shown on pages 5 through 22 of the annual shareholders report for the year ended December 31, 1998 and are incorporated herein by reference. Additional schedules required in addition to those included in the annual shareholders report are submitted herewith. - -10- ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARY CHANGES IN NET INTEREST INCOME TAX EQUIVALENT YIELDS 1998 Versus 1997 Increase (Decrease) Due to Change in Total Average Average Increase Volume Rate (Decrease) (000 omitted) Interest Income Loans (net of unearned discounts) $ 2,429 ($ 252) $ 2,177 Taxable investment securities 390 ( 80) 310 Nontaxable investment securities 170 ( 17) 153 Other short-term investments 131 ( 17) 114 Total interest income 3,120 ( 366) 2,754 Interest Expense Interest bearing demand 503 156 659 Savings deposits ( 35) ( 16) ( 51) Time deposits 344 32 376 Short-term borrowings 221 ( 29) 192 Long-term borrowings 379 ( 29) 350 Total interest expense 1,412 114 1,526 Net interest income $ 1,228 - -11- 1997 Versus 1996 Increase (Decrease) Due to Change in Total Average Average Increase Volume Rate (Decrease) (000 omitted) Interest Income Loans (net of unearned discounts) $ 1,062 ($ 12) $ 1,050 Taxable investment securities 285 6 291 Nontaxable investment securities 563 ( 57) 506 Other short-term investments ( 229) 9 ( 220) Total interest income 1,681 ( 54) 1,627 Interest Expense Interest bearing demand 245 130 375 Savings deposits ( 41) ( 4) ( 45) Time deposits 207 ( 23) 184 Short-term borrowings 12 0 12 Long-term borrowings 180 ( 23) 157 Total interest expense 603 80 683 Net interest income $ 944 Changes which are attributed in part to volume and in part to rate are allocated in proportion to their relationships to the amounts of changes. ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARY The following table shows the maturities of investment securities at book value as of December 31, 1998, and weighted average yields of such securities. Yields are shown on a tax equivalent basis, assuming a 34% federal income tax rate. After 1 year After 5 years Within but within but within After 1 year 5 years 10 years 10 years Total (000 omitted) Bonds: U. S. Treasury Book value $ 2,511 $ 5,504 $ 1,056 $ 0 $ 9,071 Yield 5.89% 6.41% 6.06% 0% 6.22% U. S. Government agencies Book value 0 0 2,500 0 2,500 Yield 0% 0% 6.63% 0% 6.63% State and municipal Book value 0 1,139 0 16,836 17,975 Yield 0% 9.98% 0% 8.67% 8.74% Total book value $ 2,511 $ 6,643 $ 3,556 $ 16,836 $ 29,546 Yield 5.89% 7.02% 6.46% 8.67% 7.79% Mortgage-backed securities: Total book value $ 17,306 Yield 6.52% Equity Securities: Total book value $ 686 Yield 3.87% Total Investment Securities $ 47,538 Yield 7.27% - -12- ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARY LOAN PORTFOLIO The following table presents the loan portfolio at the end of each of the last five years: 1998 1997 1996 1995 1994 (000 omitted) Commercial, financial and agricultural $ 18,732 $ 10,275 $ 8,401 $ 8,211 $ 6,970 Real estate - Construction 11,182 5,961 4,304 5,706 5,038 Real estate - Mortgage 116,030 97,074 82,687 75,731 68,458 Installment and other personal loans (net of unearned discount) 12,688 15,021 13,534 13,209 10,373 Total loans $ 158,632 $ 128,331 $ 108,926 $ 102,857 $ 90,839 Presented below are the approximate maturities of the loan portfolio (excluding real estate mortgages, installments and credit cards) at December 31, 1998: Under One One to Over Five Year Five Years Years Total (000 omitted) Commercial, financial and agricultural $ 2,968 $ 3,560 $ 12,204 $ 18,732 Real estate - Construction 1,522 1,822 7,838 11,182 Total $ 4,490 $ 5,382 $ 20,042 $ 29,914 The following table presents the approximate amount of fixed rate loans and variable rate loans due as of December 31, 1998: Fixed Rate Variable Loans Rate Loans (000 omitted) Due within one year $ 15,292 $ 68,150 Due after one but within five years 27,666 0 Due after five years 47,524 0 Total $ 90,482 $ 68,150 - -13- ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARY SUMMARY OF LOAN LOSS EXPERIENCE Years Ended December 31 1998 1997 1996 1995 1994 (000 omitted) Average total loans outstanding (net of unearned income) $ 144,013 $ 117,403 $ 105,779 $ 97,662 $ 81,740 Allowance for loan losses, beginning of period $ 1,767 $ 1,620 $ 1,433 $ 1,200 $ 1,125 Additions to provision for loan losses charged to operations 270 215 240 270 71 Loans charged off during the year Commercial 15 1 20 0 0 Personal credit lines 23 32 17 3 1 Installment 46 50 31 48 7 Total charge-off's 84 83 68 51 8 Recoveries of loans previously charged off: Commercial 3 2 3 0 0 Installment 10 12 12 14 12 Personal credit lines 5 1 0 0 0 Total recoveries 18 15 15 14 12 Net loans charged off (recovered) 66 68 53 37 ( 4) Allowance for loan losses, end of period $ 1,971 $ 1,767 $ 1,620 $ 1,433 $ 1,200 Ratio of net loans charged off to average loans outstanding .06% .06% .05% .04% 0.0% The provision is based on an evaluation of the adequacy of the allowance for possible loan losses. The evaluation includes, but is not limited to, review of net loan losses for the year, the present and prospective financial condition of the borrowers and evaluation of current and projected economic conditions. - -14- ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARY LOANS The following table sets forth the outstanding balances of those loans on a nonaccrual status and those on accrual status which are contractually past due as to principal or interest payments for 30 days or more at December 31. 1998 1997 1996 1995 1994 (000 omitted) Nonaccrual loans $ 486 $ 473 $ 14 $ 132 $ 27 Accrual loans: Restructured $ 0 $ 0 $ 0 $ 0 $ 0 30 through 89 days past due 823 2,398 1,976 1,949 1,553 90 days or more past due 284 657 203 417 155 Total accrual loans $ 1,107 $ 3,055 $ 2,179 $ 2,366 $ 1,708 See Note 7 of the notes to consolidated financial statements for details of income recognized and foregone revenue on nonaccrual loans for the past three years, and discussion concerning impaired loans at December 31, 1998. - -15- ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARY The following is an allocation by loan categories of the allowance for loan losses at December 31 for the last five years. In retrospect the specific allocation in any particular category may prove excessive or inadequate and consequently may be reallocated in the future to reflect the then current conditions. Accordingly, the entire allowance is available to absorb losses in any category: Years Ended December 31 1998 1997 Percentage Percentage Allowance of Loans to Allowance of Loans to Amount Total Loans Amount Total Loans (000 omitted) Commercial, financial and agricultural $ 255 9.93% $ 31 8.00% Commercial, real estate secured 416 19.43 354 35.00 Real estate - Construction 0 7.05 0 4.64 Real estate - Mortgage 111 53.77 188 40.64 Installment 34 9.82 12 11.72 Unallocated 1,155 0.00 1,182 0.00 Total $ 1,971 100.00% $ 1,767 100.00% Years Ended December 31 1996 1995 Percentage Percentage Allowance of Loans to Allowance of Loans to Amount Total Loans Amount Total Loans (000 omitted) Commercial, financial and agricultural $ 125 7.71% $ 114 7.98% Commercial - Real estate secured 0 0.00 0 0.0 Real estate - Construction 64 3.95 80 5.55 Real estate - Mortgage 1,229 75.91 1,055 73.63 Installment 202 12.43 184 12.84 Unallocated 0 0.00 0 0.00 Total $ 1,620 100.00% $ 1,433 100.00% - -16- Year Ended December 31 1994 Percentage Allowance of Loans to Amount Total Loans (000 omitted) Commercial, financial and agricultural $ 113 9.42% Commercial - Real estate secured 0 0.00 Real estate - Construction 67 5.58 Real estate - Mortgage 844 70.33 Installment 176 14.67 Unallocated 0 0.00 Total $ 1,200 100.00% ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARY DEPOSITS The average amounts of deposits are summarized below: Years Ended December 31 1998 1997 1996 (000 omitted) Demand deposits $ 20,433 $ 17,665 $ 16,078 Interest bearing demand deposits 55,454 37,535 27,601 Savings deposits 23,394 24,568 26,555 Time deposits 74,488 68,161 63,767 Total deposits $ 173,769 $ 147,929 $ 134,001 The following is a breakdown of maturities of time deposits of $ 100,000 or more as of December 31, 1998: Maturity (000 omitted) Certificates of Deposit Three months or less $ 2,605 Over three months through six months 6,178 Over six months through twelve months 1,241 Over twelve months 200 $ 10,224 RETURN ON EQUITY AND ASSETS (APPLYING DAILY AVERAGE BALANCES) The following table presents a summary of significant earnings and capital ratios: (dollar amounts in thousands) 1998 1997 1996 Average assets $ 212,149 $ 172,366 $ 153,145 Net income $ 3,119 $ 2,606 $ 2,248 Average equity $ 19,523 $ 16,956 $ 15,076 Cash dividends paid $ 986 $ 903 $ 694 Return on assets 1.47% 1.51% 1.47% Return on equity 15.97% 15.37% 14.90% Dividend payout ratio 31.59% 34.65% 30.87% Equity to asset ratio 9.2% 9.84% 9.8% - -17- ORRSTOWN FINANCIAL SERVICES, INC. AND ITS WHOLLY-OWNED SUBSIDIARY CONSOLIDATED SUMMARY OF OPERATIONS Years Ended December 31 1998 1997 1996 1995 1994 (000 omitted) Interest income $ 16,109 $ 13,450 $ 12,018 $ 10,829 $ 8,571 Interest expense 7,348 5,822 5,139 4,542 3,241 Net interest income 8,761 7,628 6,879 6,287 5,330 Provision for loan losses 270 215 240 270 71 Net interest income after provision for loan losses 8,491 7,413 6,639 6,017 5,259 Other income: Trust and brokerage services 818 490 384 297 185 Service charges - Deposits 646 601 477 375 349 Other service charges, collection and exchange, charges, commission fees 667 341 258 218 180 Other operating income (loss) 122 119 121 45 146 Total other income 2,253 1,551 1,240 935 860 Income before operating expense 10,744 8,964 7,879 6,952 6,119 Operating expenses: Salaries and employees benefits 3,491 2,901 2,621 2,326 2,115 Occupancy and equipment expense 859 764 665 559 486 Other operating expenses 2,095 1,719 1,507 1,371 1,363 Total operating expenses 6,445 5,384 4,793 4,256 3,964 Income before income taxes 4,299 3,580 3,086 2,696 2,155 Income tax 1,180 974 838 742 520 Net income applicable to common stock $ 3,119 $ 2,606 $ 2,248 $ 1,954 $ 1,635 Per share data: Earnings per common share $ 1.52 $ 1.27 $ 1.10 $ .95 $ .80 Cash dividend - Common $ .48 $ .44 $ .34 $ .29 $ .25 Weighted average number of common shares 2,051,831 2,050,646 2,051,412 2,052,614 2,052,614 - -18- Item 9. Disagreements on Accounting and Financial Disclosures. Not applicable. - -19- PART III The information required by Items 10, 11, 12 and 13 is incorporated by reference from Orrstown Financial Services, Inc.'s definitive proxy statement for the 1999 Annual Meeting of Shareholders filed pursuant to Regulation 14A. - -20- PART IV Item 14. Exhibits, Financial Statement Schedules and Reports of Form 8-K. (a) (1) - List of Financial Statements The following consolidated financial statements of Orrstown Financial Services, Inc. and its subsidiary, included in the annual report of the registrant to its shareholders for the year ended December 31, 1998, are incorporated by reference in Item 8: Consolidated balance sheets - December 31, 1998 and 1997 Consolidated statements of income - Years ended December 31, 1998, 1997 and 1996 Consolidated statements of stockholders' equity - Years ended December 31, 1998, 1997, and 1996 Consolidated statements of cash flows - Years ended December 31, 1998, 1997, and 1996 Notes to consolidated financial statements - December 31, 1998 (2) List of Financial Statement Schedules Schedule I - Changes in net interest income tax equivalent yields Schedule II - Investment portfolio Schedule III - Loan portfolio - -21- Schedule IV - Summary of loan loss experience Schedule V - Nonaccrual, delinquent and impaired loans Schedule VI - Allocation of allowance for loan losses Schedule VII - Deposits and return on equity and assets Schedule VIII - Consolidated summary of operations All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and therefore have been omitted. (3) Listing of Exhibits Exhibit (3) (i) Articles of incorporation Exhibit (3) (ii) Bylaws Exhibit (4) Instruments defining the rights of security holders including indentures Exhibit (10) Material contracts Exhibit (13) Annual report to security holders Exhibit (21) Subsidiaries of the registrant Exhibit (23) Consent of independent auditors Exhibit (27) Financial data schedule All other exhibits for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and therefore have been omitted. - -22- (b) Reports on Form 8-K filed None. (c) Exhibits (3)(i) Articles of incorporation. Filed herewith. (ii) By-laws. Incorporated by reference to Exhibit 3.2 to the Registrant's Registration Statement on Form S-4, Registration No. 33-18888. (4) Instruments defining the rights of security holders including indentures. The rights of the holders of Registrant's common stock are contained in: (i) Articles of Incorporation of Orrstown Financial Services, Inc., filed herewith. (ii) By-laws of Orrstown Financial Services, Inc., filed as Exhibit 3.2 to the Registrant's Registration Statement on Form S-4 (Registration No. 33-18888). (10) Change in control agreement between Orrstown Financial Services, Inc. and its chief executive officer. Incorporated by reference to Exhibit 99 of the registrant's Form 10-K filed March 17, 1997 for the year ended December 31, 1996. (13) Annual report to security holders - filed herewith - -23- (21) Subsidiaries of the registrant - filed herewith (23.1) Consent of independent auditors filed herewith (27) Financial data schedule - filed herewith (d) Financial statement schedules The following financial statement schedules required under Article 9 Industry Guide 3 have been included on pages 11 to 18 under Item 8 of this report: Schedule I - Changes in net interest income tax equivalent yields. Schedule II - Investment portfolio Schedule III - Loan portfolio Schedule IV - Summary of loan loss experience Schedule V - Nonaccrual delinquent and impaired loans Schedule VI - Allocation of allowance for loan losses Schedule VII - Deposits and return on equity and assets Schedule VIII - Consolidated summary of operations - -24- 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. ORRSTOWN FINANCIAL SERVICES, INC. (Registrant) By /s/ Kenneth R. Shoemaker Kenneth R. Shoemaker, President Dated: March 26, 1999 (Duly authorized officer) By /s/ Robert B. Russell Robert B. Russell, Controller (Principal Accounting Officer) Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. Signature Title Date /s/ Kenneth R. Shoemaker President and March 26 , 1999 Kenneth R. Shoemaker Director /s/ Anthony F. Ceddia Director March 26 , 1999 Dr. Anthony F. Ceddia /s/ Robert T. Henry Secretary and Robert T. Henry Director March 26 , 1999 /s/ Gregory A. Rosenberry Director March 26 , 1999 Gregory A. Rosenberry /s/ Joel R. Zullinger Chairman of the March 26 , 1999 Joel R. Zullinger Board and Director /s/ Jeffrey W. Coy Vice Chairman March 26 , 1999 Jeffrey W. Coy of the Board and Director Director Deceased January Ned R. Fogelsonger 20, 1999 /s/ Denver L. Tuckey________ Director March 26 , 1999 Denver L. Tuckey /s/ Andrea Pugh_____________ Director March 26 , 1999 Andrea Pugh - -25- Exhibit 3(i) COMMONWEALTH OF PENNSYLVANIA DEPARTMENT OF STATE CORPORATION BUREAU The undersigned desiring to incorporate a business corporation under the provisions of the Business Corporation Law of the Commonwealth of Pennsylvania (Act of May 5, 1933, P.L. 364, as amended) does hereby certify: ARTICLES OF INCORPORATION: 1. The name of the Corporation is: Orrstown Financial Services, Inc. 2. The location and post office address of its initial registered office in the Commonwealth of Pennsylvania is: 3580 Orrstown Road Orrstown, Franklin County, Pennsylvania 17244 3. The purpose or purposes for which the Corporation is incorporated are: To have unlimited power to engage in and do any lawful acts concerning any or all lawful business for which corporations may be incorporated under the provisions of the Business Corporation Law of the Commonwealth of Pennsylvania. The Corporation is incorporated under the provisions of the Business Corporation Law of the Commonwealth of Pennsylvania (Act of May 5, 1933, P.L. 364, as amended). 4. The term for which the Corporation is to exist is perpetual. 5. The shareholders of the Corporation shall not have the right to cumulate their shares in voting for the election of directors. 6. (a) The aggregate number of shares which the Corporation shall have authority to issue is: (i) 10,000,000 shares of Common Stock with no par value; and (*) (ii) 500,000 shares of Preferred Stock with a par value of $1.25 per share. (b) The relative rights, preferences and designations of the Preferred stock shall be as follows: The Board of Directors may issue, in one or more series, the shares of Preferred Stock, with full, limited, multiple, fractional or no voting rights, and with such designations, preferences, qualifications, privileges, limitations, restrictions, options, conversion rights or other special or relative rights as shall be fixed from time to time by resolution of the Board of Directors. 7. A. The Board of Directors may, if it deems advisable, recommend or oppose a tender or other offer for the Corporation's securities, whether the offer is in cash or in the securities of a corporation or otherwise. When considering whether to recommend or oppose an offer, the Board of Directors may, but is not legally obligated to, consider any pertinent issue. By way of illustration, but not limitation, the Board of Directors may, but shall not be legally obligated to, consider any or all of the following: (1) whether the offer price is acceptable based on the historical and present operating results or financial condition of the Corporation; (2) whether a more favorable price could be obtained for the Corporation's securities in the future; (3) the impact which an acquisition of the Corporation would have on the employees, depositors and customers of the Corporation and its subsidiaries and the community which they serve; (4) the reputation and business practices of the offeror and its management and affiliates as they would affect the employees, depositors and customers of the Corporation and its subsidiaries and the future value of the Corporation's stock; (5) the value of the securities (if any) which the offeror is offering in exchange for the Corporation's securities, based on an analysis of the worth of the Corporation as compared to the corporation or other entity whose securities are being offered; (6) any antitrust or other legal and regulatory issues that are raised by the offer. - -2- (B) If the Board of Directors determines that an offer should be opposed, it may take any lawful action for that purpose, including, but not limited to, any, or all of the following: advising shareholders not to accept the offer; litigation against the offeror; filing complaints with all governmental and regulatory authorities; acquiring the Corporation's securities; selling or otherwise issuing authorized but unissued securities or treasury stock or granting options, warrants or rights with respect thereto; making defensive acquisitions; and obtaining a more favorable offer from another individual or entity. 8. Any business combination (including a plan of merger or consolidation) or sale or transfer of all or substantially all of the assets of the Corporation with or to a shareholder of the Corporation who, directly or indirectly, has voting control over 10% or more of any class of shares of the Corporation or with or to an entity which, directly or indirectly, is controlled by such a shareholder, shall require the approval by the Board of Directors of the Corporation and approval by shareholders entitled to cast at least three-fourths of the votes which all shareholders are entitled to cast thereon; provided, however, if such business combination or sale or transfer is approved by at least three-fourths of the Directors of the Corporation, then approval by shareholders entitled to cast a majority of the votes which all shareholders are entitled to cast shall be sufficient. 9. If any person (including any individual, corporation, partnership or other entity) directly or indirectly acquires shares of the Corporation entitling the owner to cast at least 10% of the votes which all shareholders would be entitled to cast in the election of Directors of the Corporation, then any business combination (including a plan of merger or consolidation) with such person or an entity directly or indirectly controlled by such person shall require such person to offer to pay the other shareholders of the Corporation at least the highest price paid directly or indirectly by such person for any of the shares then directly or indirectly owned by such person. For purposes of this provision "price" shall mean the sum of any cash and the fair value of any other consideration paid for any of such shares. 10. These Articles of Incorporation may be amended by the affirmative vote of shareholders entitled to cast at least three-fourths of the votes which all shareholders are entitled to cast unless approved by three-fourths of the Directors of the Corporation, in which case approval by shareholders entitled to cast a majority of the votes which all shareholders are entitled to cast shall be sufficient. - -3- 11. Section 910 of the Pennsylvania Business Corporation Law shall not be applicable to the Corporation. 12. The name and post office address of the incorporator and the number and class of shares subscribed by him are: Name Address Number & Class of Share Michael A. Budin, 12th Floor Packard Esq. Bldg. One share of Philadelphia, PA 19102 common stock IN TESTIMONY WHEREOF, the incorporator has signed and sealed these Articles of Incorporation this 12th day of November, 1987. /s/ Michael A. Budin(SEAL) Incorporator Filed this 17th day of November A.D. 1987 Commonwealth of Pennsylvania Department of State /s/ James J. Hagerty Secretary of the Commonwealth (*) Amended May 24, 1989 to eliminate par value as to shares of common stock; amended May 27, 1998 to increase number of authorized shares of common stock from 2,000,000 shares to 10,000,000 shares. - -4- EXHIBIT 21 SUBSIDIARIES OF THE REGISTRANT 1. Orrstown Bank, Orrstown, Pennsylvania; a state-chartered bank organized under the Pennsylvania Banking Code of 1965. Exhibit 23.1 Independent Auditor's Consent Board of Directors and Shareholders Orrstown Financial Services, Inc. We consent to the incorporation by reference in Registration Statements (Form S-4 No. 33-18888 and Form S-3 No. 333-53405) of Orrstown Financial Services, Inc. of our report dated January 29, 1999, appearing in this annual report on Form 10-K of Orrstown Financial Services, Inc. for the year ended December 31, 1998. SMITH ELLIOTT KEARNS & COMPANY, LLC Chambersburg, Pennsylvania March 24, 1999