Mission Statement NORTH COUNTRY FINANCIAL CORPORATION NORTH COUNTRY BANK AND TRUST NORTH COUNTRY FINANCIAL GROUP NORTH COUNTRY CAPITAL TRUST FIRST RURAL RELENDING COMPANY NCB REAL ESTATE COMPANY FIRST MANISTIQUE AGENCY MISSION STATEMENT NORTH COUNTRY BANK AND TRUST OR PRECEDENT HAS BEEN AN INDEPENDENT BANK SINCE 1934. OUR MISSION IS TO SERVE OUR TRADING AREA WITH QUALITY FINANCIAL SERVICES AND PRODUCTS. TO PROVIDE FOR PROFITABILITY WHICH WILL ENHANCE THE LIFESTYLES OF OUR CUSTOMERS, SHAREHOLDERS AND EMPLOYEES. TO CONTINUE TO GROW, AND MAINTAIN EXCELLENCE AND PROVIDE OUR TRADING AREA WITH INNOVATIVE BANKING SERVICES. AS AN INDEPENDENT COMMUNITY BANK, WE WILL STRIVE TO FOSTER ECONOMIC VITALITY AND CIVIC WELL BEING IN THE COMMUNITIES WE SERVE. IT IS OUR BELIEF THAT A STRONG COMMUNITY IS A PREREQUISITE TO A STRONG BANK. BASED ON OUR BELIEF THAT AS A "COMMUNITY" BANK WE BEST SERVE OUR SHAREHOLDERS, CUSTOMERS AND COMMUNITIES, IT IS OUR INTENTION TO MAINTAIN THE INDEPENDENCE OF NORTH COUNTRY BANK AND TRUST. Table of Contents Table of Contents To Our Shareholders 1 Comparative Highlights 2 Five Year Comparisons 3 Independent Auditor's Report 5 Consolidated Balance Sheets 7 Consolidated Statements of Income 8 Consolidated Statements of Changes in Shareholders' Equity 9 Consolidated Statements of Cash Flows 10 Notes to Consolidated Financial Statements 12 Selected Financial Data 32 Summary Quarterly Financial Information 33 Market Information 34 Management's Discussion and Analysis of Financial Condition and Results of Operations 35 Officers and Directors 47 To Our Shareholders Dear Shareholder: At North County Financial Corporation we are proud of our growth over the past twenty-five years. We have accomplished our goals of increasing our assets, deposits, shareholders' equity, book value per share, net income, and dividends paid to our shareholders each and every year during that time period. While continuing to build our customer base in Michigan's Upper Peninsula, our growth plans also include expanding our presence in lower Michigan. During 1999, we opened offices in Traverse City and Petoskey and purchased banking offices in Mancelona and Kaleva. These four offices compliment the Gaylord office opened in 1998. To further the growth, we are in the process of opening an office in Cadillac and a second office in Traverse City along with purchasing banking offices in Alanson and Glen Arbor. In addition to the new banking offices in lower Michigan, the Board of Directors has approved the move of the Corporation's headquarters to 3530 North Country Drive, Traverse City, Michigan. This is an exciting move for the Corporation as it will enhance the development of the lower Michigan market and will provide additional outlets for both our traditional and nontraditional banking products. Looking forward, we are taking steps to increase the liquidity of North Country Financial Corporation stock. To this end, the Corporation anticipates that, by April 18, 2000, its stock will be listed on The NASDAQ National Market System under the symbol "NCFC". We have historically seen a large demand for the Corporation's stock due to our performance record and our desire to be a leader in the financial industry. Going on NASDAQ will increase our exposure in the national market. Our stock will be closely watched by brokers, and our financial results will be compared on a more public basis with other regional banking institutions. With this national exposure, North Country Financial Corporation stock may experience a degree of short-term volatility. On behalf of the Board of Directors, we express our appreciation to you, our shareholders, for your continued confidence. We ask for your ongoing support as we enter the new millennium and embrace the many challenges that await the financial industry. Respectfully, /s/ Ronald G. Ford /s/ Michael C. Henricksen /s/ Thomas G. King ---------------------- --------------------------- ------------------ Ronald G. Ford Michael C. Henricksen Thomas G. King Chairman, President and C.E.O. Vice Chairman Vice Chairman Comparative Highlights BALANCE SHEET STATISTICS 1999 1998 % Change Assets $568,441,837 $471,380,858 20.59% Net Loans 459,758,248 405,608,135 13.35 Deposits 462,998,148 404,961,333 14.33 Shareholders' Equity 40,819,511 39,469,365 3.42 Shares of Stock Outstanding 7,000,176 7,130,760 (1.83) Book Value per Share 5.83 5.54 5.23 OPERATING STATISTICS Total Income $46,087,211 $41,148,862 12.00% Total Expense 37,996,162 35,617,742 6.68 Income before Income Taxes 8,091,049 5,531,120 46.28 Net Income 6,355,549 4,561,190 39.34 Basic Earnings Per Share 0.90 0.65 38.46 Diluted Earnings Per Share 0.89 0.64 39.06 DIVIDEND SUMMARY (Cash Dividend paid per Common Share) Quarter Ending March 31 .04 .04 June 30 .04 .04 September 30 .05 .04 December 31 .05 .05 The above summary should be read in connection with the related consolidated financial statements and notes included elsewhere in this report. BUSINESS OF THE CORPORATION North Country Financial Corporation is a registered bank holding company formed under the Bank Holding Company Act of 1956, as amended. The principal assets of the Corporation are its ownership of all of the outstanding capital stock of North Country Bank and Trust, North Country Financial Group, North Country Capital Trust, First Rural Relending Company, and First Manistique Agency. North Country Bank and Trust, headquartered in Manistique, Michigan, provides a full range of commercial and retail banking services to customers in Michigan. North Country Bank and Trust owns the outstanding stock of NCB Real Estate Company which owns several properties used by the Bank. North Country Financial Group provides tax-exempt lease/purchase financing to municipalities. North Country Capital Trust was formed solely for the issuance of trust preferred securities. First Rural Relending Company is a nonprofit lending corporation. First Manistique Agency is engaged in the selling of insurance. FORM 10-K A copy of the Annual Report to the Securities and Exchange Commission on Form 10-K is available without charge by writing Sherry Littlejohn, North Country Financial Corporation, 3530 North Country Drive, Traverse City, Michigan 49684. MARKET SUMMARY The common stock of North Country Financial Corporation has been traded in private sales since October 1976. The Corporation has approximately 2,055 shareholders of record, as of January 31, 2000. Five Year Comparisons ASSETS [bar graph] Total assets on a consolidated basis increased by 20.59% in 1999 to $568,441,837. Total assets have increased over $285,650,000 since the end of 1995, an increase of 101% in four years. [bar graph] SECURITIES Our portfolio of securities increased during 1999 to $43,342,807. This increase is based on our strategy to invest excess funds into higher earning assets created by our increased funding sources until we are able to redeploy such funds into high quality, higher yielding loan products. [bar graph] LOANS Total net loans increased 13.35% to $459,758,248 in 1999. Loan demand is strong and our primary lending objective continues to be one of selecting the highest quality credits. Total loan losses have remained at an acceptable level, and we continue to maintain a loan loss allowance above regulatory guidelines. The allowance for loan losses totaled $6,863,367 at the end of 1999, an increase of over $751,000 over 1998. We expect strong loan demand to continue, with the majority being commercial and business loans, which represent 71% of the loan portfolio. [bar graph] DEPOSITS Total deposits increased by 14.33% to $462,998,148. In 1999, we paid our depositors interest of more than $18,280,000 which goes back into our regional economy. [bar graph] SHAREHOLDERS' EQUITY During 1999, $1,350,146 was added to shareholders' equity, increasing total equity by 3.42%. In addition, cash dividends of $0.18 per share were paid to our shareholders, an increase of 5.88% over 1998. Book value per share increased to $5.83 compared to $5.54 at the end of 1998. [bar graph] NET INCOME Net income for 1999 was $6,355,549. Basic earnings per share I increased to $0.90 in 1999 from $0.65 in 1998, a 38.46% increase. Independent Auditor's Report INDEPENDENT AUDITOR'S REPORT TO THE SHAREHOLDERS OF NORTH COUNTRY FINANCIAL CORPORATION TRAVERSE CITY, MICHIGAN Independent Auditor's Report INDEPENDENT AUDITOR'S REPORT Board of Directors and Shareholders North Country Financial Corporation Traverse City, Michigan We have audited the accompanying consolidated balance sheets of North Country Financial Corporation and Subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of income, changes in shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of North Country Financial Corporation and Subsidiaries at December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999, in conformity with generally accepted accounting principles. /s/ Wipfli Ullrich Bertelson LLP ---------------------------------- Wipfli Ullrich Bertelson LLP January 28, 2000 Appleton, Wisconsin Consolidated Balance Sheets NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES December 31, 1999 and 1998 1999 1998 ASSETS Cash and due from banks $26,159,675 $16,592,703 Federal funds sold -0- 6,047,743 Cash and cash equivalents 26,159,675 22,640,446 Interest-bearing deposits in other financial institutions 679,096 -0- Securities available for sale 43,342,807 8,676,204 Total loans 466,621,615 411,720,469 Allowance for loan losses (6,863,367) (6,112,334) Net loans 459,758,248 405,608,135 Premises and equipment 19,117,811 17,938,058 Other assets 19,384,200 16,518,015 TOTAL ASSETS $568,441,837 $471,380,858 LIABILITIES AND SHAREHOLDERS' EQUITY Liabilities: Non-interest-bearing deposits $ 43,606,378 $ 42,076,502 Interest-bearing deposits 419,391,770 362,884,831 Total deposits 462,998,148 404,961,333 Borrowings 46,878,036 23,270,161 Other liabilities 5,296,142 3,679,999 Total liabilities 515,172,326 431,911,493 Guaranteed preferred beneficial interests in the Corporation's subordinated debentures 12,450,000 -0- Shareholders' equity: Preferred stock - No par value: Authorized 500,000 shares, no shares outstanding Common stock - No par value: Authorized - 18,000,000 shares Issued and outstanding - 7,000,176 and 7,130,760 shares at December 31, 1999 and 1998, respectively 16,418,081 19,436,025 Retained earnings 25,057,935 19,989,247 Accumulated other comprehensive income (deficit) (656,505) 44,093 Total shareholders' equity 40,819,511 39,469,365 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $568,441,837 $471,380,858 See accompanying notes to consolidated financial statements. Consolidated Statements of Income NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES Years Ended December 31, 1999, 1998 and 1997 1999 1998 1997 Interest income: Interest and fees on loans $40,457,210 $37,283,850 $34,525,569 Interest on securities: Taxable 1,437,755 685,870 1,030,414 Tax-exempt 232,262 31,252 35,044 Other interest income 421,879 496,987 373,010 Total interest income 42,549,106 38,497,959 35,964,037 Interest expense: Deposits 18,281,860 16,530,463 14,633,670 Borrowings 1,651,276 1,284,766 1,264,385 Subordinated debentures 668,979 -0- -0- Total interest expense 20,602,115 17,815,229 15,898,055 Net interest income 21,946,991 20,682,730 20,065,982 Provision for loan losses 1,456,544 1,199,725 1,398,201 Net interest income after provision for loan losses 20,490,447 19,483,005 18,667,781 Other income: Service fees 1,965,249 1,478,376 1,220,028 Net security gains (losses) -0- 44,504 (60,163) Other operating income 1,572,856 1,128,023 478,351 Total other income 3,538,105 2,650,903 1,638,216 Other expenses: Salaries and employee benefits 6,361,885 6,567,566 5,898,110 Occupancy expense 2,613,218 2,426,418 2,212,311 Forms and supplies 393,068 391,093 498,635 Amortization of acquisition intangibles 698,752 789,663 719,071 Legal and consulting fees 457,593 553,078 448,324 Data processing 1,369,647 1,566,382 853,841 Telephone 689,571 656,354 304,760 Courier costs 270,416 546,473 162,117 Other 3,083,353 3,105,761 3,699,752 Total other expenses 15,937,503 16,602,788 14,796,921 Income before provision for income taxes 8,091,049 5,531,120 5,509,076 Provision for income taxes 1,735,500 969,930 1,403,417 Net income $ 6,355,549 $ 4,561,190 $ 4,105,659 Earnings per share: Basic $ 0.90 $ 0.65 $ 0.58 Diluted $ 0.89 $ 0.64 $ 0.57 See accompanying notes to consolidated financial statements. Consolidated Statements of Changes in Shareholders' Equity NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES Years Ended December 31, 1999, 1998 and 1997 Accumulated Shares of Other Common Common Retained Comprehensive Stock Stock Earnings Income (Deficit) Total Balance, January 1, 1997 7,091,202 $18,879,454 $13,755,636 $(249,528) $32,385,562 Net income 4,105,659 4,105,659 Other comprehensive income: Net unrealized gain on securities available for sale 246,294 246,294 Total comprehensive income 4,351,953 Cash dividends ($.16 per share) (1,182,014) (1,182,014) Issuance of common stock 104,439 1,868,178 1,868,178 Retirement of common stock (57,171) (831,606) (831,606) Balance, December 31, 1997 7,138,470 19,916,026 16,679,281 (3,234) 36,592,073 Net income 4,561,190 4,561,190 Other comprehensive income: Net unrealized gain on securities available for sale 47,327 47,327 Total comprehensive income 4,608,517 Cash dividends ($.17 per share) (1,251,224) (1,251,224) Issuance of common stock 87,667 1,316,638 1,316,638 Retirement of common stock (95,377) (1,796,639) (1,796,639) Balance, December 31, 1998 7,130,760 19,436,025 19,989,247 44,093 39,469,365 Net income 6,355,549 6,355,549 Other comprehensive deficit: Net unrealized loss on securities available for sale (700,598) (700,598) Total comprehensive income 5,654,951 Cash dividends ($.18 per share) (1,286,861) (1,286,861) Issuance of common stock 22,407 480,036 480,036 Retirement of common stock (152,991) (3,497,980) (3,497,980) Balance, December 31, 1999 7,000,176 $16,418,081 $25,057,935 $(656,505) $40,819,511 See accompanying notes to consolidated financial statements. Consolidated Statements of Cash Flows NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES Years Ended December 31, 1999, 1998 and 1997 1999 1998 1997 Increase (decrease) in cash and cash equivalents: Cash flows from operating activities: Net income $6,355,549 $4,561,190 $4,105,659 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 1,456,544 1,199,725 1,398,201 Provision for depreciation and net amortization 2,246,864 2,073,285 1,988,487 Proceeds from loan sales 15,173,116 21,525,436 6,803,965 Loans originated for sale (15,145,844) (21,415,349) (6,745,114) (Gains) losses on sales of: Loans held for sale (27,272) (110,087) (58,851) Securities -0- (44,504) 60,163 Premises, equipment and other real estate (381,559) (102,787) 27,624 Branches (430,224) -0- -0- Change in other assets (502,598) 1,513,718 706,386 Change in other liabilities 1,610,092 185,184 (163,100) Total adjustments 3,999,119 4,824,621 4,017,761 Net cash provided by operating activities 10,354,668 9,385,811 8,123,420 Cash flows from investing activities: Net (increase) decrease in interest- bearing deposits in other financial institutions (679,096) -0- 534,622 Payment for purchases of securities available for sale (38,875,142) (7,530,434) (2,957,781) Proceeds from sale of securities available for sale -0- 3,820,310 10,151,363 Proceeds from maturities of securities available for sale 3,130,897 2,329,647 2,173,899 Net increase in loans (57,168,064) (40,349,652) (38,423,930) Proceeds from sale of premises, equipment, and other real estate 1,230,560 1,364,248 434,693 Capital expenditures (2,601,597) (2,526,058) (3,496,436) Net cash paid for branch sales (10,001,320) -0- -0- Net cash provided from acquisitions 15,503,748 -0- 32,054 Net cash used in investment activities (89,460,014) (42,891,939) (31,551,516) Consolidated Statements of Cash Flows (Continued) NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES Years Ended December 31, 1999, 1998 and 1997 1999 1998 1997 Cash flows from financing activities: Net increase in deposits $51,439,723 $44,412,648 $27,169,826 Net increase (decrease) in short-term borrowings -0- (1,195,000) (3,805,000) Proceeds from borrowings 36,000,000 10,500,000 7,842,577 Principal payments on borrowings (12,392,125) (6,858,017) (8,655,178) Net proceeds from issuance of guaranteed preferred beneficial interests in the Corporation's subordinated debentures 11,881,782 -0- -0- Proceeds from issuance of common stock 480,036 1,191,638 1,868,178 Retirement of common stock (3,497,980) (1,796,639) (831,606) Dividends paid (1,286,861) (1,251,224) (1,182,014) Net cash provided by financing activities 82,624,575 45,003,406 22,406,783 Net increase (decrease) in cash and cash equivalents 3,519,229 11,497,278 (1,021,313) Cash and cash equivalents at beginning 22,640,446 11,143,168 12,164,481 Cash and cash equivalents at end $26,159,675 $22,640,446 $11,143,168 Supplemental cash flow information: Cash paid during the year for: Interest $20,359,154 $18,077,148 $15,561,189 Income taxes 540,307 1,241,050 1,955,760 Noncash investing and financing activities: Transfer of foreclosures from loans to other real estate 1,561,407 460,795 356,856 Assets and liabilities acquired in acquisitions: Premises and equipment 285,927 -0- 969,437 Acquisition intangibles 1,680,132 -0- 2,099,287 Loans - Net -0- -0- 19,954,774 Securities -0- -0- 4,488,326 Other assets 33 -0- 134,863 Deposits (17,462,948) -0- (27,440,283) Other liabilities (6,892) -0- (238,458) Assets and liabilities divested in branch sales: Premises and equipment (65,296) -0- -0- Acquisition intangibles (369,857) -0- -0- Deposits 10,865,856 -0- -0- Other liabilities 841 -0- -0- See accompanying notes to consolidated financial statements. NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accounting policies of North Country Financial Corporation (the "Corporation") and Subsidiaries conform to generally accepted accounting principles and prevailing practices within the banking industry. Significant accounting policies are summarized below. Principles of Consolidation The consolidated financial statements include the accounts of the Corporation and its wholly owned subsidiaries, North Country Bank and Trust (the "Bank"), North Country Financial Group, North Country Capital Trust, and other minor subsidiaries, after elimination of intercompany transactions and accounts. Nature of Operations The Corporation's and the Bank's revenues and assets are derived primarily from the banking industry. The Bank's primary market area is Michigan. The Bank provides to its customers commercial, real estate, agricultural, and consumer loans, as well as a variety of traditional deposit products. A significant portion of the Bank's commercial loan portfolio consists of leases to commercial and governmental entities which are secured by various types of equipment. These leases are dispersed geographically throughout the country. While the Corporation's chief decision makers monitor the revenue streams of the various Corporation products and services, operations are managed and financial performance is evaluated on a Corporation-wide basis. Accordingly, all of the Corporation's banking operations are considered by management to be aggregated in one reportable operating segment. Use of Estimates in the Preparation of Financial Statements The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the period. Actual results could differ from those estimates. Cash and Cash Equivalents For purposes of reporting cash flows, cash and cash equivalents include cash on hand, non-interest-bearing deposits in correspondent banks, and federal funds sold. Generally, federal funds are purchased and sold for one-day periods. Securities The Corporation's securities are classified and accounted for as securities available for sale. These securities are stated at fair value. Premiums and discounts are recognized in interest income using the interest method over the period to maturity. Unrealized holding gains and losses, net of tax, on securities available for sale are reported as accumulated other comprehensive income within shareholders' equity until realized. Gains and losses on the sale of securities are determined using the specific-identification method. Loans Held for Sale Loans held for sale represent originations of fixed- rate, first mortgage loans recorded at cost. The loans are sold at fair value shortly after origination based on an agreement with an outside mortgage company. NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Interest Income and Fees on Loans Interest on loans is accrued and credited to income based on the principal amount outstanding. The accrual of interest on loans is discontinued when, in the opinion of management, there is an indication that the borrower may be unable to meet payments as they become due. Upon such discontinuance, all unpaid accrued interest is reversed. Loan-origination fees are credited to income when received. Allowance for Loan Losses The allowance for loan losses includes specific allowances related to commercial loans which have been judged to be impaired. A loan is impaired when, based on current information, it is probable that the Corporation will not collect all amounts due in accordance with the contractual terms of the loan agreement. These specific allowances are based on discounted cash flows of expected future payments using the loan's initial effective interest rate or the fair value of the collateral if the loan is collateral dependent. The Corporation continues to maintain a general allowance for loan losses for loans not considered impaired. The allowance for loan losses is maintained at a level which management believes is adequate to provide for possible loan losses. Management periodically evaluates the adequacy of the allowance using the Corporation's past loan loss experience, known and inherent risks in the portfolio, composition of the portfolio, current economic conditions, and other factors. The allowance does not include the affects of expected losses related to future events or future changes in economic conditions. This evaluation is inherently subjective since it requires material estimates that may be susceptible to significant change. Loans are charged against the allowance for loan losses when management believes the collectibility of the principal is unlikely. In addition, various regulatory agencies periodically review the allowance for loan losses. These agencies may require additions to the allowance for loan losses based on their judgments of collectibility. In management's opinion, the allowance for loan losses is adequate to cover probable losses relating to specifically identified loans, as well as probable losses inherent in the balance of the loan portfolio as of the balance sheet date. Other Real Estate Other real estate is carried at the lower of cost or fair value, less estimated sales costs. Premises and Equipment Premises and equipment are stated at cost. Maintenance and repair costs are charged to expense as incurred. Gains or losses on disposition of premises and equipment are reflected in income. Depreciation is computed on the straight-line method and is based on the estimated useful lives of the assets. Acquisition Intangibles The Corporation's intangible assets include the value of ongoing customer relationships (core deposits) and the excess of cost over the fair value of net assets acquired (goodwill) arising from the purchase of a financial institution and the acquisition of certain assets and the assumption of certain liabilities of other financial institutions. Core deposit intangibles are amortized over a 10-year period and goodwill is amortized over periods ranging from 15 to 25 years. NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Advertising Costs Advertising costs are expensed as incurred. Earnings Per Common Share Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period. Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock options and deferred stock compensation agreements. Earnings and dividends per share are restated for all stock splits through the date of issue of the financial statements. Comprehensive Income Comprehensive income consists of net income and other comprehensive income (deficit). Other comprehensive income (deficit) includes unrealized gains and losses on securities available for sale, net of tax, which are recognized as a separate component of equity, accumulated other comprehensive income (deficit). Income Taxes Deferred income taxes have been provided under the liability method. Deferred tax assets and liabilities are determined based upon the difference between the financial statement and tax bases of assets and liabilities as measured by the enacted tax rates which will be in effect when these differences are expected to reverse. Deferred tax expense (benefit) is the result of changes in the deferred tax asset and liability. Off-Balance-Sheet Financial Instruments In the ordinary course of business, the Corporation has entered into off-balance-sheet financial instruments consisting of commitments to extend credit, commitments under credit card arrangements, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the consolidated financial statements when they become payable. Future Accounting Change In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities." This statement establishes accounting and reporting standards for derivative instruments and for hedging activities. This statement requires an entity to recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation. As amended by SFAS No. 137, the statement is effective for fiscal years beginning after June 15, 2000. Management, at this time, cannot determine the effect adoption of this statement may have on the consolidated financial statements of the Corporation as the accounting for derivatives is dependent on the amount and nature of derivatives in place at the time of adoption. Reclassifications Certain amounts in the 1998 and 1997 consolidated financial statements have been reclassified to conform to the 1999 presentation. NOTE 2 - ACQUISITIONS AND DIVESTURES In February 1997, the Corporation acquired 100% of the outstanding stock of U.P. Financial, Inc. in exchange for cash with an acquisition cost of approximately $4.3 million. The Corporation acquired assets totaling approximately $29.8 million, with resulting acquisition intangibles of $2.1 million. In May 1999, the Corporation acquired branches in Kaleva and Mancelona, Michigan from Huntington National Bank. The Corporation assumed approximately $17.5 million in deposits, and acquired approximately $286,000 in premises and equipment, with resulting acquisition intangibles of $1.7 million. The acquisitions have been accounted for under the purchase method of accounting. Accordingly, the assets, liabilities, and results of operations are included in the Corporation's consolidated financial statements as of and subsequent to the respective acquisition dates. Note 7 provides information regarding acquisition intangibles. In addition to the acquisitions noted above, the Corporation sold two of its branch offices in July of 1999 located in Rudyard and Cedarville in Michigan's Upper Peninsula. Deposits of approximately $11 million were sold in this transaction at a premium of approximately $800,000. After consideration for unamortized intangible assets related to such branches, the transaction resulted in a net gain on sale of approximately $430,000. Additional information regarding assets and liabilities acquired or divested in these transactions is presented on the consolidated statements of cash flows. NOTE 3 - RESTRICTIONS ON CASH AND CASH EQUIVALENTS Cash and cash equivalents in the amount of $6,722,000 and $6,643,000 were restricted at December 31, 1999 and 1998, to meet the reserve requirements of the Federal Reserve System. NOTE 4 -SECURITIES AVAILABLE FOR SALE The amortized cost and estimated fair value of securities available for sale as of December 31 are as follows: 1999 Gross Gross Amortized Unrealized Unrealized Estimated Cost Gains Losses Fair Value U.S. Treasury securities and obligations of U.S. government agencies $ 9,863,055 $ -0- $ 471,585 $ 9,391,470 Obligations of states and political subdivisions 16,355,544 408,248 553,552 16,210,240 Corporate securities 3,049,302 -0- 41,008 3,008,294 Mortgage-related securities 15,069,611 -0- 336,808 14,732,803 Total securities available for sale $44,337,512 $ 408,248 $ 1,402,953 $43,342,807 NOTE 4 -SECURITIES AVAILABLE FOR SALE (Continued) 1998 Gross Gross Amortized Unrealized Unrealized Estimated Cost Gains Losses Fair Value U.S. Treasury securities and obligations of U.S. government agencies $ 3,503,441 $ 10,925 $ 933 $ 3,513,433 Obligations of states and political subdivisions 999,922 20,968 -0- 1,020,890 Corporate securities 1,253,162 36,548 -0- 1,289,710 Mortgage-related securities 2,852,872 -0- 701 2,852,171 Total securities available for sale $ 8,609,397 $ 68,441 $ 1,634 $ 8,676,204 Following is a summary of the proceeds from sales of securities available for sale, as well as gross gains and losses for the years ended December 31: 1999 1998 1997 Proceeds from sale of securities $ -0- $3,820,310 $10,151,363 Gross gains on sales -0- 65,255 -0- Gross losses on sales -0- 20,751 60,163 The amortized cost and estimated fair value of securities available for sale at December 31, 1999, by contractual maturity, are shown below. Contractual maturities may differ from expected maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Amortized Estimated Cost Fair Value Due in one year or less $ 225,922 $ 226,314 Due after one year through five years 2,054,644 2,041,784 Due after five years through ten years 10,205,000 10,429,466 Due after ten years 16,782,335 15,912,440 29,267,901 28,610,004 Mortgage-related securities 15,069,611 14,732,803 Total $44,337,512 $43,342,807 The amortized cost and estimated fair value of securities pledged to secure public deposits, treasury deposits, and repurchase agreements was $1,300,000 and $1,237,544, respectively, as of December 31, 1999. NOTE 5 - LOANS The composition of loans at December 31 follows: 1999 1998 Commercial, financial, and agricultural $258,592,253 $219,026,672 Commercial and governmental leases 70,689,452 60,194,795 1-4 family residential real estate 107,750,757 97,415,442 Consumer 17,050,573 23,159,913 Construction 12,538,580 11,923,647 Total loans $466,621,615 $411,720,469 An analysis of the allowance for loan losses for the years ended December 31 follows: 1999 1998 1997 Balance, January 1 $6,112,334 $5,599,546 $4,590,938 Allowance from acquisition -0- -0- 299,295 Provision for loan losses 1,456,544 1,199,725 1,398,201 Recoveries on loans 102,141 118,408 112,712 Loans charged off (807,652) (805,345) (801,600) Balance, December 31 $6,863,367 $6,112,334 $5,599,546 Information regarding impaired loans follows: As of December 31: 1999 1998 1997 Investment in impaired loans $5,603,505 $6,072,978 $6,933,060 Impaired loans on non-accrual -0- 1,401,216 1,246,890 Amount of the allowance allocated 704,141 873,014 923,014 For the years ended December 31: 1999 1998 1997 Average investment in impaired loans $6,128,430 $6,155,323 $6,709,911 Interest income recognized during impairment 298,314 316,103 211,553 Interest income that would have been recognized on an accrual basis 369,468 667,599 223,510 Cash-basis interest income recognized 298,930 301,840 212,699 The subsidiary bank in the ordinary course of banking business grants loans to the Corporation's executive officers and directors including their families and firms in which they are principal owners. Activity in such loans during 1999 is summarized below. Substantially all loans to executive officers and directors were made on the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with others and did not involve more than the normal risk of collectibility or present other unfavorable features. Loans outstanding, January 1, 1999 $12,403,916 New loans 10,450,034 Repayment (7,125,125) Loans outstanding, December 31, 1999 $15,728,825 NOTE 6 - PREMISES AND EQUIPMENT Details of premises and equipment at December 31 follow: 1999 1998 Land $ 2,895,841 $ 2,804,480 Buildings and improvements 15,053,633 13,663,039 Furniture, fixtures, and equipment 10,327,021 9,224,753 Totals 28,276,495 25,692,272 Less - Accumulated depreciation and amortization 9,158,684 7,754,214 Net book value $19,117,811 $17,938,058 Depreciation and amortization of premises and equipment charged to operating expenses amounted to $1,522,512 in 1999, $1,381,015 in 1998 and $1,222,939 in 1997. NOTE 7 - ACQUISITION INTANGIBLES Included in other assets are intangible assets acquired through acquisitions. Acquisition intangibles consist of the following as of December 31 (net of amortization): 1999 1998 Goodwill $3,668,383 $3,571,067 Core deposit intangible 2,933,773 2,338,354 Total acquisition intangibles $6,602,156 $5,909,421 NOTE 8- DEPOSITS The distribution of deposits at December 31 is as follows: 1999 1998 Non-interest-bearing demand deposits $ 43,606,378 $ 42,076,502 Savings, money market, and interest-bearing demand deposits 267,026,981 213,791,523 Time deposits 152,364,789 149,093,308 Total deposits $462,998,148 $404,961,333 Time deposits of $100,000 or more were $35,309,624 and $25,619,255 at December 31, 1999 and 1998, respectively. Interest expense on time deposits of $100,000 or more was $1,357,153, $1,543,612 and $1,606,273 for the years ended December 31, 1999, 1998 and 1997, respectively. NOTE 8- DEPOSITS (CONTINUED) Maturities of time deposits outstanding at December 31, 1999, are as follows: 2000 $103,794,332 2001 3,516,900 2002 24,413,852 2003 16,283,994 2004 3,269,348 Thereafter 1,086,363 $152,364,789 NOTE 9 - BORROWINGS Borrowings consist of the following at December 31: 1999 1998 Federal Home Loan Bank: Fixed-rate advance at 6.01%, maturing June 19, 2000 $10,000,000 $ -0- Fixed-rate advance at 6.07%, maturing August 9, 2000 7,000,000 -0- Fixed-rate advance at 7.37%, maturing April 15, 2004 136,104 159,731 Fixed-rate advance at 7.59%, maturing May 17, 2004 240,177 281,657 Fixed-rate advance at 6.35%, maturing July 7, 2004 1,000,000 -0- Fixed-rate advance at 6.50%, maturing October 17, 2005 2,268,156 2,535,401 Fixed-rate advance at 7.06%, maturing May 15, 2006 4,422,253 4,630,742 Adjustable-rate advance, maturing May 20, 1999, 5.20% at December 31, 1998 -0- 3,000,000 Adjustable-rate advance, maturing June 23, 2008, 5.49% at December 31, 1999 and 1998 10,000,000 10,000,000 Adjustable-rate advance, maturing October 21, 2009, 5.66% at December 31, 1999 10,000,000 -0- 45,066,690 20,607,531 Farmers Home Administration: $2,000,000 fixed-rate note payable to Farmers Home Administration, maturing August 24, 2024, interest payable at 1% 1,811,346 1,874,857 Other borrowings: Unsecured variable rate notes payable to South Range State Bank's former stockholders, maturing in three equal annual installments beginning February 1, 1997, 5.04% at December 31, 1998 -0- 787,773 Total borrowings $46,878,036 $23,270,161 NOTE 9 - BORROWINGS (CONTINUED) Maturities of borrowings outstanding at December 31, 1999, are as follows: 2000 $17,642,792 2001 686,079 2002 734,547 2003 788,567 2004 1,986,607 Thereafter 25,039,444 $46,878,036 The Federal Home Loan Bank borrowings are collateralized by the following: a blanket collateral agreement on the Bank's residential mortgage loans; U.S. Government and agency securities with an amortized cost and estimated fair value of $22,124,000 and $22,933,000, respectively, at December 31, 1999; and by Federal Home Loan Bank stock owned by the Bank totaling $3,034,300, included in other assets, at December 31, 1999. Prepayment of the advances is subject to the provisions and conditions of the credit policy of the Federal Home Loan Bank of Indianapolis in effect as of December 31, 1999. The Farmers Home Administration borrowing is collateralized by loans totaling $1,594,426, originated and held by the Corporation's wholly owned subsidiary, First Rural Relending, and guaranteed by the Corporation. NOTE 10 - INCOME TAXES The components of the federal income tax provision for the years ended December 31 follow: 1999 1998 1997 Current tax expense $1,852,739 $1,239,912 $1,726,124 Deferred tax credit (117,239) (269,982) (322,707) Total provision for income taxes $1,735,500 $ 969,930 $1,403,417 Included in the total provision for income taxes are expenses (credits) of $0, $15,131 and $(20,455) for the years ended December 31, 1999, 1998 and 1997, respectively, related to security transactions. Deferred income taxes are provided for the temporary differences between the financial reporting and tax bases of the Corporation's assets and liabilities. The major components of net deferred tax assets at December 31 are as follows: 1999 1998 Deferred tax assets: Allowance for loan losses $2,070,487 $1,844,183 Deferred compensation 413,109 366,290 Unrealized loss on securities available for sale 338,200 -0- Total deferred tax assets 2,821,796 2,210,473 Deferred tax liabilities: Depreciation (1,044,915) (777,689) Intangibles (195,814) (285,986) Unrealized gain on securities available for sale -0- (22,714) Other (22,162) (43,332) Total deferred tax liabilities (1,262,891) (1,129,721) Net deferred tax asset $1,558,905 $1,080,752 NOTE 10 - INCOME TAXES (CONTINUED) A summary of the source of differences between income taxes at the federal statutory rate and the provision for income taxes for the years ended December 31 follows: 1999 1998 1997 Tax expense at statutory rate $2,750,957 $1,880,581 $1,873,086 Increase (decrease) in taxes resulting from: Tax-exempt interest (1,121,434) (1,127,726) (603,836) Other 105,977 217,075 134,167 Provision for income taxes $1,735,500 $969,930 $1,403,417 NOTE 11 - RETIREMENT PLAN The Corporation has established a 401(k) profit-sharing plan. Employees who have completed three months of service and attained the age of 18 are eligible to participate in the plan. Eligible employees can elect to have a portion, not to exceed 15%, of their annual compensation paid into the plan. In addition, the Corporation may make discretionary contributions into the plan. Retirement plan contributions charged to operations totaled $158,570, $200,267 and $105,267 for 1999, 1998 and 1997, respectively. NOTE 12 - DEFERRED COMPENSATION PLANS As an incentive to retain key members of management and directors, the Corporation has two deferred compensation plans. Benefits under one of the plans is based on the number of years the key members have served the Corporation. A liability is recorded on a present value basis and discounted using current market rates. The liability may change depending upon changes in long-term interest rates. The liability at December 31, 1999 and 1998, for vested benefits under this plan, was $1,135,769 and $1,098,267, respectively. The Corporation maintains life insurance policies on the plan participants. Death benefits received from the life insurance policies will be used to offset the obligations under the plan. The cash surrender value of these policies was $940,476 and $899,087 at December 31, 1999 and 1998, respectively. The Corporation sponsors a deferred stock compensation plan for directors. Directors are allowed to defer their director's fees under the plan. The deferred compensation is computed as stock equivalents as the compensation is earned. Directors receive the deferred compensation in the form of common stock upon retirement. The liability relating to this plan was $325,050 and $219,100 at December 31, 1999 and 1998, respectively. Deferred compensation expense for the plans was $248,146, $316,041 and $175,000 for 1999, 1998 and 1997, respectively. NOTE 13 - GUARANTEED PREFERRED BENEFICIAL INTERESTS IN THE CORPORATION'S SUBORDINATED DEBENTURES In May 1999, the Corporation formed a Delaware business trust, North Country Capital Trust (the "Trust"). All of the common securities of this special purpose trust are owned by the Corporation. The Trust exists solely to issue capital securities. For financial reporting purposes, the Trust is reported as a subsidiary and is consolidated into the financial statements of the Corporation. The capital securities are presented as a separate line item on the consolidated balance sheet as guaranteed preferred beneficial interests in the Corporation's subordinated debentures (trust preferred securities). The Trust has issued trust preferred securities and invested the net proceeds in subordinated debentures issued to the Trust by the Corporation. The subordinated debentures are the sole asset of the Trust. The Corportion, through guarantees and agreements, has fully and unconditionally guaranteed all of the Trust's obligations under the trust preferred securities. NOTE 13 - GUARANTEED PREFERRED BENEFICIAL INTERESTS IN THE CORPORATION'S SUBORDINATED DEBENTURES (CONTINUED) The Federal Reserve Bank has accorded the trust preferred securities Tier I capital status. The ability to apply Tier I capital treatment, as well as to deduct the expense of the subordinated debentures for income tax purposes, provided the Corporation with a cost-effective way to raise regulatory capital. The trust preferred securities are not included as a component of total shareholders' equity on the consolidated balance sheet. The trust preferred securities carry a distribution floating rate of the three month LIBOR plus 2.5% and have a stated maturity date of May 14, 2029. The securities are redeemable at par after May 14, 2009. Distributions on the trust preferred securities are payable quarterly on February 14, May 14, August 14 and November 14. NOTE 14 - SHAREHOLDERS' EQUITY Earnings per share are based upon the weighted average number of shares outstanding. The following shows the computation of basic and diluted earnings per share for the years ended December 31: Weighted Average Number of Earnings Per Net Income Shares Share 1999 Earnings per share - Basic $6,355,549 7,031,203 $ 0.90 Effect of stock options - Net 67,972 Effect of deferred stock compensation 21,886 Earnings per share - Diluted $6,355,549 7,121,061 $ 0.89 1998 Earnings per share - Basic $4,561,190 7,038,909 $ 0.65 Effect of stock options - Net 64,693 Effect of deferred stock compensation 16,614 Earnings per share - Diluted $4,561,190 7,120,216 $ 0.64 1997 Earnings per share - Basic $4,105,659 7,131,354 $ 0.58 Effect of stock options - Net 11,700 Effect of deferred stock compensation 12,723 Earnings per share - Diluted $4,105,659 7,155,777 $ 0.57 Effective August 25, 1998, the Board of Directors of the Corporation approved a three-for-one stock split. All references to the number of shares of common stock in the consolidated financial statements and footnotes thereto have been restated for the stock split. NOTE 14 - SHAREHOLDERS' EQUITY (CONTINUED) The Corporation is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory-and possibly additional discretionary-actions by regulators that, if undertaken, could have a direct material effect on the Corporation's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation must meet specific capital guidelines that involve quantitative measures of the Corporation's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Corporation's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital to risk- weighted assets and of Tier I capital to average assets. Management believes, as of December 31, 1999, the Corporation meets all capital adequacy requirements to which it is subject. As of December 31, 1999, the most recent notification from the Federal Deposit Insurance Corporation categorized the subsidiary bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the subsidiary bank's category. The Corporation's actual and required capital amounts and ratios as of December 31 are as follows: To Be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions Amount Ratio Amount Ratio Amount Ratio 1999 Total capital (to risk- weighted assets): Consolidated $51,666,000 13.0% $31,732,000 8.0% N/A North Country Bank & Trust $50,053,000 12.7% $31,609,000 8.0% $39,511,000 10.0% Tier I capital (to risk- weighted assets): Consolidated $46,684,000 11.8% $15,866,000 4.0% N/A North Country Bank & Trust $45,090,000 11.4% $15,804,000 4.0% $23,707,000 6.0% Tier I capital (to average assets): Consolidated $46,684,000 8.4% $22,120,000 4.0% N/A North Country Bank & Trust $45,090,000 8.2% $22,066,000 4.0% $27,583,000 5.0% NOTE 14 - SHAREHOLDERS' EQUITY (CONTINUED) 1998 Total capital (to risk- weighted assets): Consolidated $37,881,000 10.7% $28,397,000 8.0% N/A North Country Bank & Trust $37,083,000 10.9% $27,160,000 8.0% $33,950,000 10.0% Tier I capital (to risk- weighted assets): Consolidated $33,423,000 9.4% $14,199,000 4.0% N/A North Country Bank & Trust $32,816,000 9.7% $13,580,000 4.0% $20,370,000 6.0% Tier I capital (to average assets): Consolidated $33,423,000 7.2% $18,532,000 4.0% N/A North Country Bank & Trust $32,816,000 7.2% $18,360,000 4.0% $22,950,000 5.0% The Bank is restricted by banking regulations from making dividend distributions above prescribed amounts. At December 31, 1999, the Bank could have paid $14,811,000 of additional dividends to the Corporation without prior regulatory approval. NOTE 15 - STOCK OPTION PLANS The Corporation sponsors two stock option plans, one for officers and employees and one for nonemployee directors. A total of 600,000 shares were made available for grant under these plans. Options under these plans are granted at the discretion of a committee of the Corporation's Board of Directors. Options to purchase shares of the Corporation's stock are granted at a price equal to the market price of the stock at the date of grant. The committee, within guidelines of no less than six months and no greater than ten years, as established under the plans, determines the vesting of the options when they are granted. The fair value of each option granted is estimated on the grant date using the Black-Scholes methodology. The following assumptions were made in estimating fair value for options granted for the years ended December 31: 1999 1998 1997 Dividend yield 0.90% 1.00% 1.25% Risk-free interest rate 5.50% 4.72% 5.14% Weighted average expected life (years) 7.0 7.0 7.0 Expected volatility 16.46% 10.04% 11.45% The weighted average fair value of options granted as of their grant date, using the assumptions shown above, was computed at $0.94 per share for options granted in 1999, $0.39 per share for options granted in 1998 and $0.37 per share for options granted in 1997. NOTE 15 - STOCK OPTION PLANS (CONTINUED) No compensation cost has been recognized for the plans. Had compensation cost been determined on the basis of fair value, net income and earnings per share would have been reduced for the years ended December 31, as follows: 1999 1998 1997 Net income: As reported $6,355,549 $4,561,190 $4,105,659 Pro forma $6,288,107 $4,550,149 $4,100,889 Earnings per share - Basic: As reported $ 0.90 $ 0.65 $ 0.58 Pro forma $ 0.89 $ 0.64 $ 0.57 Earnings per share - Diluted: As reported $ 0.89 $ 0.64 $ 0.57 Pro forma $ 0.88 $ 0.64 $ 0.57 Following is a summary of stock option transactions for the years ended December 31: Number of Shares 1999 1998 1997 Outstanding at beginning of year 331,895 198,759 75,600 Granted during the year 244,400 163,200 153,309 Exercised during the year (at prices ranging from $3.67 to $15.00 per share) (3,150) (30,064) (30,150) Outstanding at end of year 573,145 331,895 198,759 Weighted average exercise price per share at end of year $ 18.34 $ 16.97 $ 12.51 Available for grant at end of year 39,073 283,473 446,673 Options granted during 1999 were granted at a price of $20.00. Options granted in 1998 were granted at a price of $19.00 and $20.33. Options granted in 1997 were granted at a price of $15.00. Under these plans, options expire ten years after the date of grant. NOTE 15 - STOCK OPTION PLANS (CONTINUED) Following is a summary of the options outstanding at December 31, 1999: Outstanding Options Exercisable Options Weighted Average Weighted Weighted Remaining Average Average Exercise Contractual Exercise Exercise Price Range Number Life-Years Price Number Price $4.17 to $15.00 165,545 7.2 $ 13.86 76,748 $ 12.54 $19.00 to $20.33 407,600 9.0 19.47 163,200 20.22 573,145 8.5 $ 17.85 239,948 $ 17.76 NOTE 16 - OTHER COMPREHENSIVE INCOME (DEFICIT) Other comprehensive income (deficit) components and related taxes were as follows: 1999 1998 1997 Unrealized holding gains (losses) on available for sale securities $(1,061,512) $ 116,212 $ 313,010 Less reclassification adjustments for gains (losses) later recognized in income -0- 44,504 (60,163) Net unrealized gains (losses) (1,061,512) 71,708 373,173 Tax effect (360,914) 24,381 126,879 Other comprehensive income (deficit) $(700,598) $ 47,327 $246,294 NOTE 17 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK Financial Instruments With Off-Balance-Sheet Risk The Corporation is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheets. The Corporation's exposure to credit loss, in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit, is represented by the contractual amount of those instruments. The Corporation uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. These commitments at December 31 are as follows: 1999 1998 Commitments to extend credit $130,446,000 $128,059,000 Standby letters of credit 14,425,000 14,869,000 Credit card commitments 5,334,000 2,782,000 $150,205,000 $145,710,000 NOTE 17 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK (CONTINUED) Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Corporation evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Corporation upon extension of credit, is based on management's credit evaluation of the party. Collateral held varies but may include accounts receivable; inventory; property, plant, and equipment; and income-producing commercial properties. Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The commitments are structured to allow for 100% collateralization on all standby letters of credit. Credit card commitments are commitments on credit cards issued by the Corporation's subsidiary and serviced by other companies. These commitments are unsecured. Contingencies In the normal course of business, the Corporation is involved in various legal proceedings. In the opinion of management, any liability resulting from such proceedings would not have a material adverse effect on the consolidated financial statements. Concentration of Credit Risk The Corporation's subsidiary bank grants residential, commercial, agricultural, and consumer loans throughout Michigan. Due to the diversity of locations, the ability of debtors to honor their contracts is not tied to any particular economic sector. NOTE 18 - FAIR VALUE OF FINANCIAL INSTRUMENTS Fair value estimates, methods, and assumptions are set forth below for the Corporation's financial instruments: Cash and cash equivalents - The carrying values approximate the fair values for these assets. Securities - Fair values are based on quoted market prices where available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. Loans - Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial, residential mortgage, and other consumer. The fair value of loans is calculated by discounting scheduled cash flows using discount rates reflecting the credit and interest rate risk inherent in the loan. The methodology in determining fair value of nonaccrual loans is to average them into the blended interest rate at 0% interest. This has the effect of decreasing the carrying amount below the risk-free rate amount and therefore discounts the estimated fair value. Impaired loans are measured at the estimated fair value of the expected future cash flows at the loan's effective interest rate or the fair value of the collateral for loans which are collateral dependent. Therefore, the carrying values of impaired loans approximate the estimated fair values for these assets. Deposit liabilities - The fair value of deposits with no stated maturity, such as non-interest-bearing demand deposits and savings, is equal to the amount payable on demand at the reporting date. The fair value of certificates of deposit is based on the discounted value of contractual cash flows applying interest rates currently being offered on similar certificates. NOTE 18 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) Borrowings - Rates currently available for debt with similar terms and remaining maturities are used to estimate the fair value of existing debt. The fair value of borrowed funds due on demand is the amount payable at the reporting date. Guaranteed preferred beneficial interests in the Corporation's subordinated debentures - The carrying value is considered to estimate fair value as this financial instrument reprices frequently and fully. Off-balance-sheet instruments - The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements, the current interest rates, and the present creditworthiness of the counterparties. Since this amount is immaterial, no amounts for fair value are presented. The following table presents information for financial instruments at December 31: 1999 1998 Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value (In Thousands) Financial assets: Cash and cash equivalents $ 26,160 $ 26,160 $ 22,640 $ 22,640 Interest-bearing deposits 679 679 -0- -0- Securities available for sale 43,343 43,343 8,676 8,676 Net loans 459,758 461,511 405,608 414,609 Total financial assets $ 529,940 $ 531,693 $ 436,924 $ 445,925 Financial liabilities: Deposits $ 462,998 $ 462,634 $ 404,961 $ 406,334 Borrowings 46,878 45,729 23,270 22,380 Guaranteed preferred beneficial interests in the Corporation's subordinated debentures 12,450 12,450 -0- -0- Total financial liabilities $ 522,326 $ 520,813 $ 428,231 $ 428,714 Limitations - Fair value estimates are made at a specific point in time based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Corporation's entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Corporation's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could 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. Significant assets and liabilities that are not considered financial assets or liabilities include premises and equipment, other assets, and other liabilities. 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 the estimates. NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS BALANCE SHEETS December 31, 1999 and 1998 ASSETS 1999 1998 Cash and cash equivalents $ 889,001 $ 999,979 Investment in subsidiaries 51,648,625 38,802,583 Other assets 1,311,966 1,057,482 TOTAL ASSETS $53,849,592 $40,860,044 LIABILITIES AND SHAREHOLDERS' EQUITY Liabilities: Accrued expenses $ 194,081 $ 602,906 Borrowings -0- 787,773 Total liabilities 194,081 1,390,679 Subordinated debentures 12,836,000 -0- Total shareholders' equity 40,819,511 39,469,365 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $53,849,592 $40,860,044 NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED) STATEMENTS OF INCOME Years Ended December 31, 1999, 1998, and 1997 1999 1998 1997 Income: Dividends received from subsidiaries $3,150,000 $3,250,000 $4,377,878 Net security losses -0- -0- (41,888) Other 23,798 31,809 9,317 Total income 3,173,798 3,281,809 4,345,307 Expenses: Salaries and benefits 81,557 142,329 270,038 Interest 760,182 95,272 123,191 Other 364,366 595,284 398,325 Total expenses 1,206,105 832,885 791,554 Income before credit for income taxes and equity in undistributed net income of subsidiaries 1,967,193 2,448,924 3,553,753 Credit for income taxes (402,000) (146,632) (258,964) Income before equity in undistributed net income of subsidiaries 2,369,693 2,595,556 3,812,717 Equity in undistributed net income of subsidiaries 3,985,856 1,965,634 292,942 Net income $6,355,549 $4,561,190 $4,105,659 NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED) STATEMENTS OF CASH FLOWS Years Ended December 31, 1999, 1998, and 1997 1999 1998 1997 Increase (decrease) in cash and cash equivalents: Cash flows from operating activities: Net income $6,355,549 $4,561,190 $4,105,659 Adjustments to reconcile net income to net cash provided by operating activities: Loss on sale of equity securities -0- -0- 41,888 (Gain) loss on sale of premise and equipment 3,528 (31,600) -0- Provision for depreciation and amortization 9,470 4,872 -0- Equity in undistributed net income of subsidiaries (3,985,856) (1,965,634) (292,942) Change in other assets (267,482) (111,636) (487,485) Change in accrued expenses (408,825) 38,241 402,536 Total adjustments (4,649,165) (2,065,757) (336,003) Net cash provided by operating activities 1,706,384 2,495,433 3,769,656 Cash flows from investing activities: Investment in subsidiaries (9,560,784) -0- (4,052,914) Payment for purchase of securities available for sale -0- (110,922) -0- Proceeds from sales of securities available for sale -0- 10,000 317,300 Proceeds from sale of premise and equipment -0- 100,000 -0- Capital expenditures -0- (3,528) -0- Net cash used in investing activities (9,560,784) (4,450)(3,735,614) Cash flows from financing activities: Proceeds from borrowings 15,836,000 -0- -0- Principal payments on borrowings (3,787,773) (787,539) (787,539) Proceeds from issuance of common stock 480,036 1,191,638 1,868,178 Retirement of common stock (3,497,980) (1,796,639) (831,606) Dividends paid (1,286,861) (1,251,224)(1,182,014) Net cash provided by (used in) financing activities 7,743,422 (2,643,764) (932,981) Net decrease in cash and cash equivalents (110,978) (152,781) (898,939) Cash and cash equivalents at beginning 999,979 1,152,760 2,051,699 Cash and cash equivalents at end $ 889,001 $ 999,979 $1,152,760 NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES SELECTED FINANCIAL DATA (Unaudited) Year ended December 31, 1999 1998 1997 1996 1995 (Dollars in thousands, except per share amounts) Selected Financial Condition Data: Total assets $568,442 $471,381 $421,434 $367,160 $282,791 Loans 466,622 411,720 372,519 314,886 221,507 Securities 43,343 8,676 10,103 15,191 27,055 Deposits 462,998 404,961 360,549 305,939 244,407 Borrowings 46,878 23,270 19,628 20,441 10,088 Total equity 40,820 39,469 36,592 32,386 25,007 Selected Operations Data: Interest income $ 42,549 $ 38,498 $ 35,964 $ 28,724 $ 22,100 Interest expense (20,602) (17,815) (15,898) (12,674) (9,561) Net interest income 21,947 20,683 20,066 16,050 12,539 Provision for loan losses (1,457) (1,200) (1,398) (2,424) (771) Other income 3,538 2,651 1,638 1,360 1,354 Other expenses (15,937) (16,603) (14,797) (11,609) (9,368) Income before income taxes 8,091 5,531 5,509 3,377 3,754 Provision for income taxes (1,735) (970) (1,403) (543) (1,084) Net income $ 6,356 $ 4,561 $ 4,106 $ 2,834 $ 2,670 Per Share Data: * Net income - Basic $ 0.90 $ 0.65 $ 0.58 $ 0.43 $ 0.42 Net income - Diluted 0.89 0.64 0.57 0.43 0.42 Cash dividends 0.18 0.17 0.16 0.14 0.14 Book value 5.83 5.54 5.13 4.57 3.96 Financial Ratios: Return on average equity 15.83% 11.18% 11.29% 9.15% 11.65% Return on average assets 1.22% 0.98% 1.00% 0.82% 1.00% Dividend payout ratio 20.25% 27.43% 28.79% 32.11% 31.97% Average equity to average assets 7.70% 8.75% 8.85% 8.99% 8.57% * Adjusted for 3 for 1 stock splits on April 29, 1996 and August 25, 1998 NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES SUMMARY QUARTERLY FINANCIAL INFORMATION (Unaudited) Three months ended, March 31 June 30 September 30 December 31 (Dollars in thousands, except per share amounts) 1999 Selected Operations Data: Interest income $ 9,732 $10,187 $10,791 $11,839 Interest expense (4,622) (4,917) (5,283) (5,780) Net interest income 5,110 5,270 5,508 6,059 Provision for loan losses (213) (213) (213) (818) Other income 615 649 1,223 1,051 Other expenses (3,436) (4,167) (4,291) (4,043) Income before income taxes 2,076 1,539 2,227 2,249 Provision for income taxes (535) (232) (500) (468) Net income $ 1,541 $ 1,307 $ 1,727 $ 1,781 Per Share Data: Net income - Basic $ 0.22 $ 0.19 $ 0.25 $ 0.24 Net income - Diluted 0.22 0.19 0.25 0.23 1998 Selected Operations Data: Interest income $ 9,183 $ 9,815 $ 9,667 $ 9,833 Interest expense (4,253) (4,413) (4,547) (4,602) Net interest income 4,930 5,402 5,120 5,231 Provision for loan losses (250) (425) (450) (75) Other income 542 716 662 731 Other expenses (3,658) (3,996) (3,731) (5,218) Income before income taxes 1,564 1,697 1,601 669 Provision for income taxes (414) (380) (453) 277 Net income $ 1,150 $ 1,317 $ 1,148 $ 946 Per Share Data: * Net income - Basic $ 0.16 $ 0.18 $ 0.16 $ 0.15 Net income - Diluted 0.16 0.18 0.16 0.14 * Adjusted for 3 for 1 stock split on August 25, 1998 NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES MARKET INFORMATION (Unaudited) Historically, there has been no active market for the Corporation's common stock and no published information with respect to its market price. There have been occasional direct sales by shareholders of which the Corporation's common stock has sold at a premium to book value. The price was reported to management in most of these transactions, but management has no way of confirming the prices which were reported. The following table sets forth the range of high and low sales prices of the Corporation's common stock during 1999 and 1998 based on information made available to management. Although management is not aware of any transactions at higher or lower prices, there may have been transactions at prices outside of the ranges listed. Three months ended, March 31 June 30 September 30 December 31 1999 High $25.00 $25.00 $20.00 $20.00 Low 23.00 19.50 19.00 17.00 1998 * High $19.00 $20.67 $22.00 $23.00 Low 16.34 19.00 20.67 22.00 * Adjusted for 3 for 1 stock split on August 25, 1998 Management's Discussion and Analysis of Financial Condition and Results of Operations NORTH COUNTRY FINANCIAL CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS HIGHLIGHTS For North Country Financial Corporation ("the Corporation"), 1999 was a year of record growth and profitability. The Corporation grew total assets by 21% and net income by 39% over the prior year. Growth remains an important element of the Corporation's strategy, and management believes that the continued success and profitability of the Corporation depends on continuing to attract credit-worthy, and profitable assets both internally and through market expansion. To enhance its ability to grow, the Corporation formed a Delaware business trust, North Country Capital Trust, in 1999 solely to issue capital securities, which are accorded Tier I capital treatment for regulatory purposes. The Corporation also formed North Country Financial Group, in Denver, Colorado, to further enhance its ability to attract high performing lease assets. In addition, the Corporation continued its market expansion into lower Michigan through the opening of two new branches in Traverse City and Petoskey and the purchase of two branches in Kaleva and Mancelona. At December 31, 1999, the Corporation had total assets of $568.4 million, an increase of $97 million from December 31, 1998. During 1999, outstanding loan balances increased 13% or $55 million to $467 million. Of the total increase in loans, $43 million, or 78%, came from an increase in the commercial loan portfolio. In addition, the Corporation's security portfolio increased $35 million to $43.3 million over the prior year. The increase coincides with the Corporation's strategy to invest funds from increased deposits and borrowings into securities with similar contractual maturities. The growth in 1999 continues the trend which has developed over the past several years. From 1995 through 1999, assets grew by a total of $286 million or 101%. During the same period, loan and lease assets grew $245 million, or 111%. Growth will continue to be an important element of the Corporation's strategy, and selective bank and branch acquisitions will continue to occur as opportunities arise. The Corporation's banking offices are located in Michigan, a state which covers a large geographic area and has a low population density. Because of the nature of this market area, the cost of operating the Corporation's banking network is higher than the average for banking companies the same size as the Corporation. In order to improve operating efficiency, management centralized the key departments of the Corporation's sales and service environment which allows the branches to focus on customer service and cross selling of bank products and services. Earnings have continued to increase over the past several years. Net income was $6.4 million, $4.6 million, and $4.1 million for 1999, 1998 and 1997, respectively. Return on average shareholders' equity was 15.83%, 11.18% and 11.29%, for 1999, 1998 and 1997, respectively. Basic and diluted earnings per share have continued to increase during this three-year period. Basic earnings per share were $0.90 in 1999, $0.65 in 1998 and $0.58 in 1997, an increase of 38.5% from 1998 to 1999 and 12.1% from 1997 to 1998. This increase in earnings per share is a result of significant growth in earnings with a slight decrease in outstanding stock as a result of the Corporation's stock repurchases. The increase in earnings for 1999 is largely the result of increased net interest income, increased non-interest income and improved efficiency in operations. Management's Discussion and Analysis of Financial Condition and Results of Operations FINANCIAL CONDITION Loans Loans represented 82.09% of total assets at the end of 1999, compared to 87.34% at the end of 1998. The loan to deposit ratio remained relatively stable, decreasing slightly from 101.67% at December 31, 1998 to 100.78% at December 31, 1999. Loans provide the most attractive earning asset yield available to the Corporation and management believes that the trained personnel and controls are in place to successfully manage a growing loan portfolio. Accordingly, management intends to continue to maintain loans at the highest possible level within the constraints of adequate liquidity. Following is a summary of the Corporation's loan balances at December 31 (in thousands): Percent 1999 1998 Change Commercial real estate $ 79,000 $ 82,207 (3.90) Commercial, financial, and agricultural 179,592 136,820 31.26 Leases: Commercial 22,541 20,097 12.16 Governmental 48,148 40,098 20.08 1 - 4 family residential real estate 107,751 97,415 10.61 Consumer 17,051 23,160 (26.38) Construction 12,539 11,923 5.17 Total $466,622 $411,720 13.33% The Corporation has four major categories of lending activities. Three categories, commercial, residential real estate, and consumer, are generally with customers in Michigan. The fourth major lending line, commercial and governmental leasing, takes place on a nationwide basis. As shown in the table above, the majority of the current year loan growth occurred in the commercial loans and the leasing categories. Management believes these categories will continue to grow in the future, with the level of consumer lending continuing to decrease. For the year, commercial loans increased by $42.77 million or by 31.26%. The overall commercial loan growth is largely due to the efforts of the relationship bankers and their ability to penetrate growth markets such as Marquette, Sault Ste. Marie, and more recently, commercial centers in lower Michigan. The most prominent type of financing, at $70.10 million or 27.11% of the commercial loan portfolio, continues to focus on hospitality and tourism related industries. The remainder of the commercial loan portfolio is diversified in such categories as gaming, petroleum, forestry, and farming. In addition to traditional commercial lending, the Corporation finances commercial and governmental leases throughout the country. As illustrated in the table above, a majority of the leasing activity is to governmental units, including Native American organizations. The Corporation has developed expertise and contacts in the leasing business which provide it with opportunities to purchase credit-worthy leases at attractive yields. Management closely reviews the credit quality of each proposed lease before entering into a financing agreement. Such reviews may include visits to major equipment vendors which produce the equipment to be leased or to the lease customers, including governmental organizations. The lease agreements are strictly financing; while the Corporation has access to the underlying equipment as collateral, there is no interest in the residual value of the equipment. Management continues to aggressively pursue leases, and the Corporation will look to enhance its lease portfolio through its newly formed subsidiary, North Country Financial Group, in Denver, Colorado. This new corporation is engaged in the business of public finance, and intends to focus primarily on providing tax-exempt lease/purchase financing to municipalities located throughout the United States. Management's Discussion and Analysis of Financial Condition and Results of Operations Real estate lending on 1-4 family residences comprises the second largest portion of the loan portfolio. This past year, real estate loans grew by 10.61% or by $10.34 million to $107.75 million. Approximately 90% of these loans are adjustable rate products that have an annual interest adjustment. These loans typically have a maximum adjustment of two percentage points annually and five percentage points over the life of the loan. The Corporation continues to utilize its mortgage banking operation to sell longer-term, fixed rate products; however, with the rising interest rate environment, activity in this area declined in 1999. Loans originated and sold to the secondary market totaled $15.15 million in 1999 compared to $21.42 million in 1998. Consumer lending represents a small percentage of the Corporation's loan portfolio. At December 31, 1999, consumer loans totaled $17.05 million, or 3.65% of the total portfolio. Consumer loans continue to decrease both in dollars and in percentage in relation to the overall loan portfolio. This decrease is intentional as consumer lending is a highly competitive, and traditionally a higher cost, area of lending. The Corporation will continue to originate consumer loans; however, this is not seen as a high priority lending area at the current time. At the end of 1999, the allowance for loan losses represents 1.47% of total loans or $6.86 million. The allowance is maintained by management at a level considered adequate to cover losses that are currently anticipated based on past loss experience, general economic conditions, information about specific borrower situations including their financial position and collateral values, and other factors and estimates which are subject to change over time. In management's opinion, the allowance for loan losses is adequate to cover probable losses related to specifically identified loans, as well as probable losses inherent in the balance of the loan portfolio. The Corporation's success in maintaining credit quality is demonstrated in the following table (dollars in thousands): 1999 1998 1997 Allowance to total loans at end of year 1.47% 1.48% 1.50% Net charge-offs during the year $ 706 $ 687 $ 689 Net charge-offs to average outstanding loans 0.16% 0.17% 0.20% Net charge-offs to beginning allowance balance 11.55% 12.28% 15.01% Nonaccrual loans at end of year 95 2,174 1,956 Loans 90 days or more delinquent at end of year (excluding nonaccrual loans) $2,452 $1,238 $ 698 Management analyzes the allowance for loan losses in detail on a monthly basis to ensure that losses inherent in the portfolio are properly recognized. In addition to the input of lending officers, management uses an external loan review consultant to examine a sample of commercial real estate, lease, and commercial loan relationships. The recommendations from these sources, along with the federal and state banking regulators, are considered in analyzing the adequacy of the allowance for loan losses. Management's Discussion and Analysis of Financial Condition and Results of Operations Securities During 1999, the security portfolio became a more important component of the Corporation's strategy to diversify its asset base. Securities increased $34.66 million in 1999, from $8.68 million to $43.34 million. Funds made available from increased deposits and additional borrowings have been invested into securities with similar contractual maturities. The security portfolio includes strong diversity among U.S. Treasury and agency securities, obligations of states and political subdivisions, corporate securities and mortgage-related securities. The carrying value of the Corporation's securities is as follows at December 31 (dollars in thousands): 1999 1998 U.S. Treasury securities and obligations of U.S. government agencies $ 9,392 $ 3,513 Obligations of states and political subdivisions 16,210 1,021 Corporate securities 3,008 1,290 Mortgage-related securities 14,733 2,852 Total securities $ 43,343 $ 8,676 The Corporation's policy is to purchase securities of high credit quality, consistent with its asset/liability management strategies. The mortgage- related securities have maturities ranging up to 30 years, while the remaining securities have maturities ranging primarily from one to 15 years. The Corporation classifies all securities as available for sale, in order to maintain adequate liquidity and to maximize its ability to react to changing market conditions. Deposits Deposit growth has been, and continues to be a key element of the Corporation's expansion strategy. Total deposits at December 31, 1999, were $463.00 million compared to $404.96 million at the end of 1998. The growth of $58.04 million during 1999 included a net increase of $6.60 million related to branch acquisition and divesture activity. The majority of the growth, $51.44 million, was internally generated by the Corporation throughout its branch network. The most significant impact on the growth of deposits continues to come from the savings, money market and interest-bearing demand deposit category. This increase is directly attributable to the Corporation's "Preferred Checking" account, which as of December 31, 1999, paid interest at a rate of 5.25% on balances over $10,000. The Preferred Checking account product was introduced in 1998 and, as of December 31, 1999, accounts for $149 million of the Corporation's total deposit base. Deposits over $100,000, totaling $35.31 million and $25.62 million at December 31, 1999 and 1998, respectively, consist primarily of stable, governmental balances, and balances from retail customers. There were no brokered deposits at December 31, 1999. The Corporation continues to offer its premium-based certificate of deposit program. Customers can elect to receive one of several products in place of cash interest payments on term certificates. The Corporation offers firearms, golf clubs, diamond jewelry, and grandfather clocks under these programs. The most successful and long-standing of the programs is the firearm program, which is offered to sports enthusiasts nationally. Under this program, the Corporation records the cost of the product given as a discount from the face amount of the certificate of deposit and recognizes interest expense on the effective interest method over the life of the certificate. Total certificates of deposits outstanding under this program were approximately $1.48 million and $1.63 million at December 31, 1999 and 1998, respectively. Another nontraditional source of deposits is the Corporation's CANSAVE program. CANSAVE accounts are savings accounts denominated in Canadian dollars. These accounts are offered in the Sault Ste. Marie banking offices and had total balances of $5.6 million in U.S. dollars at December 31, 1999. CANSAVE accounts are available only to Canadian citizens who are attracted to the accounts due to the generally low interest rates paid by domestic Canadian banks. Management's Discussion and Analysis of Financial Condition and Results of Operations Borrowings As previously mentioned, the Corporation's branch network is a relatively high cost network in comparison to peer banking companies. Accordingly, the Corporation continues to utilize alternative funding sources to provide funds for investing and lending activities. Borrowings increased during 1999 from $23.27 million to $46.88 million. At December 31, 1999, $45.07 million of the borrowings were from the Federal Home Loan Bank of Indianapolis with both fixed and variable interest rates and stated maturities ranging through 2009. The increase in borrowings during the year was in accordance with the Corporation's asset/liability management strategies to match borrowings with assets of similar terms. From time-to-time, alternative sources of funding can be obtained at interest rates which are competitive with, or lower than, retail deposit rates and with inconsequential administrative costs. Management anticipates that borrowings will continue to be a significant part of the overall funding mix of the Corporation. Shareholders' Equity See the discussion under "CAPITAL" below. RESULTS OF OPERATIONS Summary Earnings continued to increase in 1999 through a combination of increased net interest income and noninterest income and improved efficiency in operations. Net income was $6.36 million, $4.56 million, and $4.11 million for 1999, 1998, and 1997, respectively. Net income for 1999 was 39.34% greater than in 1998, while assets grew by 20.59% over the same period. Basic earnings per share were $0.90 in 1999, $0.65 in 1998 and $0.58 in 1997, an increase of 38.5% from 1998 to 1999 and 12.1% from 1997 to 1998. This increase in earnings per share is a result of significant growth in earnings with continued decreases in outstanding common stock as a result of the Corporation's stock repurchases. Net interest income is the primary source of earnings growth, increasing to $21.95 million in 1999, from $20.68 million and $20.07 million in 1998 and 1997, respectively. The majority of the increase is attributable to the increase in volume in the lending and securities areas. Noninterest income continues to provide a strong secondary source of revenue for the Corporation, increasing to $3.54 million in 1999, from $2.65 million in 1998 and $1.64 million in 1997. Service fee income from demand and savings products continues to grow at a rapid pace, outpacing asset growth. Gains recognized on the sale of the Rudyard and Cedarville offices and on the sale of premises and equipment contributed to the strong growth in noninterest income in 1999. Income from noninterest sources will be an important component of the Corporation's future earnings as the expectation is net interest margin will continue to tighten due to competitive pressures. In addition to strong increases in net interest income and noninterest income, management's strategy to improve the efficiency in operations had a direct impact on the earnings growth for 1999. Noninterest expense decreased in 1999 to $15.94 million from $16.60 million in 1998, as compared to $14.80 million in 1997. Noninterest expense decreased 4.01% while total assets increased 20.59% for 1999. Management is proud of the progress made on efficiency in 1999, and will continue to manage noninterest expense in an effort to maintain strong earnings growth for the Corporation. Net Interest Income Net interest income is a function of the difference, or margin, between the average yield earned on interest- earning assets and the average rate paid on interest- bearing obligations. The net interest margin is affected by economic and competitive factors that influence rates, loan demand, and deposit flows. The Corporation's net interest margin has declined during 1999, from 5.36% to 5.13%. Management's Discussion and Analysis of Financial Condition and Results of Operations Net interest income increased $1.28 million on a tax equivalent basis for 1999 as compared to 1998, and $1.50 million on a tax equivalent basis for 1998 as compared to 1997. The volume increases in both loans and securities had the largest impact on interest income during 1999. The loan volume increases were largely a result of growth in the higher yielding commercial loan and lease areas. This coupled with an increase in interest rates during the last half of 1999 had a favorable impact on interest income during the year. Management expects the higher yielding loan and lease assets will continue to grow as the Corporation expands its presence in the commercial centers within its market area. Total interest expense was $20.60 million in 1999, compared to $17.82 million and $15.90 million in 1998 and 1997, respectively. The increase in interest expense during 1999 was largely the result of increases in the rates and volume of savings deposits and borrowings, offset by a decrease in the rates and volume of time deposits. The popularity of the Preferred Checking account continues to provide the Corporation an increasing source of funding. For 1999, interest expense on deposits represented 88.74% of total interest expense. The remaining 11.26% relates to the Corporation's alternative sources of funding, namely borrowings and the trust preferred securities. Management monitors the rates paid on deposit products and evaluates alternative funding sources on a regular basis in an effort to control interest expense. The following table presents the amount of interest income from average interest-earning assets and the yields earned on those assets, as well as the interest expense on average interest-bearing obligations and the rates paid on those obligations. All average balances are daily average balances. Years ended December 31, 1999 1998 1997 Average Interest Average Interest Average Interest Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Balance Paid Rate Balance Paid Rate Balance Paid Rate (Dollars in Thousands) Interest-earning assets: Loans receivable1,2,3 $434,723 $ 42,288 9.73% $403,563 $ 39,206 9.71% $352,079 $ 35,567 10.10% Taxable securities 16,040 1,195 7.45 4,543 436 9.60 14,801 1,030 6.96 Nontaxable securities2 4,201 352 8.38 1,000 47 4.70 900 53 5.89 Other interest -earning assets 11,310 665 5.88 12,810 747 5.83 7,009 373 5.32 Total interest- earning assets 466,274 44,500 9.54 421,916 40,436 9.58 374,789 37,023 9.88 Interest-bearing obligations: Savings deposits 265,868 11,045 4.15 209,864 7,271 3.46 156,167 5,593 3.58 Time deposits 131,545 7,237 5.50 150,685 9,259 6.14 159,244 9,040 5.68 Borrowings 29,748 1,651 5.55 22,247 1,285 5.78 21,604 1,265 5.86 Subordinated debentures 7,781 669 8.60 0 0 0.00 0 0 0.00 Total interest- bearing obligations 434,942 20,602 4.76 382,796 17,815 4.65 337,015 15,898 4.72 Net interest income $ 23,898 $ 22,621 $ 21,125 Net interest rate spread 4.78% 4.93% 5.16% Net earning assets $ 31,332 $ 39,120 $ 37,774 Net yield on average interest- earning assets 5.13% 5.36% 5.64% Average interest- earning assets to average interest-bearing obligations 1.07X 1.10X 1.11X 1 For purposes of these computations, non-accruing loans are included in the daily average loan amounts outstanding. 2 The amount of interest income on nontaxable securities and loans has been adjusted to a tax equivalent basis. 3 Interest income on loans includes loan fees. Management's Discussion and Analysis of Financial Condition and 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 obligations. It distinguishes between changes related to higher or lower outstanding balances and changes due to the levels and changes in interest rates. For each category of interest-earning assets and interest-bearing obligations, information is provided for changes attributable to (i) changes in volume (i.e. changes in volume multiplied by old rate) and (ii) changes in rate (i.e. changes in rate multiplied by old volume). 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. Years ended December 31, 1999 vs. 1998 1998 vs. 1997 Increase Increase (Decrease) Total (Decrease) Total Due to Increase Due to Increase Volume Rate (Decrease) Volume Rate (Decrease) (Dollars in Thousands) Interest-earning assets: Loans receivable $3,031 $ 51 3,082 $5,043 $(1,404) 3,639 Taxable securities 877 (118) 759 (889) 295 (594) Nontaxable securities 245 60 305 5 (11) (6) Other interest-earning assets (88) 6 (82) 335 39 374 Total interest-earning assets $4,065 $ (1) 4,064 $4,593 $(1,180) 3,413 Interest-bearing obligations: Savings deposits $2,162 1,612 3,774 $1,866 $ (188) 1,678 Time deposits (1,109) (913) (2,022) (502) 721 219 Borrowings 327 39 366 37 (17) 20 Subordinated debentures 669 0 669 0 0 0 Total interest-bearing obligations $2,049 $ 738 2,787 $1,401 $ 516 1,917 Net interest income $1,277 $1,496 Provision for Loan Losses The Corporation maintains the allowance for loan losses at a level considered adequate to cover losses inherent in the loan portfolio. The Corporation records a provision for loan losses necessary to maintain the allowance at an adequate level after considering factors such as loan charge-offs and recoveries, changes in the loan portfolio composition, loan growth, and other economic factors as more fully described in Note 1 to the accompanying financial statements. The increase in the provision for loan losses to $1.46 million in 1999 is a direct result of the strong loan growth during 1999. Net charge-offs remained stable and the quality of the loan portfolio continued to improve, as nonperforming and impaired loans decreased in 1999 as compared to 1998. The allowance for loan losses as a percentage of total loans remained stable at 1.47% at December 31, 1999 compared to 1.48% at December 31, 1998 and 1.50% at December 31, 1997. Noninterest Income Noninterest income was $3.54 million, $2.65 million, and $1.64 million in 1999, 1998, and 1997, respectively. The principal source of noninterest income is service charges on deposit accounts. These fees increased 32.93% in 1999 to $1.97 million from $1.48 million in 1998. 1998 fees represent an increase of 21.17% over the $1.22 million generated in 1997. The increased fees relate to increases in the Corporation's deposit accounts and revisions made to the fee structure throughout the past several years. In addition to service charges on deposit accounts, 1999 included a net gain of approximately $430,000 on the sale of the Rudyard and Cedarville offices and a gain of approximately $496,000 on the sale of land near the Corporation's Traverse City office. Management's Discussion and Analysis of Financial Condition and Results of Operations Noninterest Expense Noninterest expense was $15.94 million, $16.60 million, and $14.80 million in 1999, 1998, and 1997, respectively. The decrease in 1999 is a result of an ongoing internal restructuring process. Management not only reduced total full-time equivalents by more than 50 over the past three years but also centralized three key departments of the Corporation's sales and service environment: the credit department, the operations department and the call center. The results are a focused and effective team built to serve the customer's needs and more cost-effective operations. The restructuring has effectively reduced total operating expenses of the Corporation in comparison to asset growth. While annual increases in noninterest expense are expected, a primary objective of management is to hold the rate of increase below future asset growth. For 1999, noninterest expense actually decreased 4.01% while total assets increased 20.59%. For 1998, noninterest expense increased 12.20% over the previous year while total assets increased 11.85% during that same time period. The overall decrease in 1999 as compared to 1998 includes decreases in salaries and employee benefits of $206,000 or 3.13%, data processing of $197,000 or 12.56%, professional fees of $95,000 or 17.26%, and courier costs of $276,000 or 50.52%. In addition, amortization of intangible assets from acquisitions decreased by approximately $91,000 primarily from the discontinuation of amortization of previously capitalized intangibles related to the Rudyard branch sale in 1999. The above decreases were offset by an increase in occupancy expense of $187,000. The overall increase in 1998 as compared to 1997 was primarily the result of increases in salaries and employee benefits of $669,000 or 11.35%, data processing of $713,000 or 83.45%, occupancy of $214,000 or 9.68%, professional fees of $105,000 or 23.37%, and telephone of $352,000 or 115.37%. The above increases were offset primarily by a decrease in other expense of $594,000. Federal Income Taxes The provision for income taxes is 21.45% of income before income tax in 1999, compared to 17.54% in 1998 and 25.47% in 1997. The difference between these rates and the federal corporate income tax rate of 34% is primarily due to tax-exempt interest earned on securities and loans. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest Rate Risk The Corporation's primary market risk exposure is interest rate risk which management actively manages. The Corporation has no market risk sensitive instruments held for trading purposes. In the relatively low interest rate environment which has been in place the last several years, borrowers have generally tried to extend the maturities and repricing periods on their loans and place deposits in demand, or very short-term accounts. Management has taken various actions to offset the imbalance which those tendencies would otherwise create. In general, management tries to write commercial and real estate loans at variable rates or, when forced to offer fixed rates due to competitive pressures, write fixed rate loans for relatively short terms. Conversely, management has attempted to offer deposit products designed to steer depositors to longer periods. Beyond general efforts to shorten loan pricing periods and extend deposit maturities, management can manage interest rate risk by the maturity periods of securities purchased, selling securities available for sale, and borrowing funds with targeted maturity periods, among other strategies. Also, the rate of interest rate changes can impact the actions taken since the speed of change affects borrowers and depositors differently. Management's Discussion and Analysis of Financial Condition and Results of Operations Exposure to interest rate risk is reviewed on a regular basis by the Corporation's Executive Committee. Interest rate risk is the potential of economic losses due to future interest rate changes. These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market values. The objective is to measure the effect on net interest income and to adjust the balance sheet to minimize the inherent risk and at the same time maximize income. Management realizes certain risks are inherent and that the goal is to identify and minimize the risks. Tools used by management include the maturity/repricing GAP analysis and a simulation model. Presented below is the Corporation's maturity/repricing GAP table at December 31, 1999. GAP Table (In Thousands) 1 - 90 91 - 365 1 - 5 Over 5 Days Days Years Years Total Interest-earning assets Deposits in other financial institutions $ 679 $ 679 Securities 168 $ 80 $ 2,042 $ 41,053 43,343 Loans 211,166 98,579 85,602 71,275 466,622 Total interest-earning assets 212,013 98,659 87,644 112,328 510,644 Interest-bearing obligations Savings, NOW, and money market accounts 267,027 267,027 Certificates of deposit 38,472 65,323 47,484 1,086 152,365 Borrowings 20,000 17,643 4,196 5,039 46,878 Subordinated debentures 12,450 12,450 Total interest-bearing obligations 337,949 82,966 51,680 6,125 478,720 GAP $(125,936) $ 15,693 $ 35,964 $106,203 $ 31,924 Cumulative GAP $(125,936) $(110,243) $(74,279) $ 31,924 $ 31,924 At December 31, 1999, the Corporation had a cumulative liability GAP position of $110.24 million within the one-year timeframe. This suggests that if market interest rates decline in the next twelve months, the Corporation has the potential to earn more net interest income. Conversely, if market interest rates increase in the next twelve months, the above GAP position suggests the Corporation's net interest income would decline due to interest-bearing obligations maturing/repricing prior to interest-earning assets. A limitation of the traditional GAP analysis is that it does not consider the timing or magnitude of noncontractual repricing or expected prepayments. In addition, the GAP analysis treats savings, NOW and money market accounts as maturing within 90 days, while experience suggests that these categories of deposits are actually comparatively resistant to rate sensitivity. Considering the limitations of the maturity/repricing GAP analysis, and based on the results of other interest rate risk management tools used by the Corporation, such as the simulation model, management believes the Corporation is properly positioned against significant changes in interest rates without significantly altering operating results. Management's Discussion and Analysis of Financial Condition and Results of Operations Foreign Exchange Risk In addition to managing interest rate risk, management also actively manages risk associated with foreign exchange. The Corporation provides foreign exchange services, makes loans to, and accepts deposits from, Canadian customers primarily at its banking offices in Sault Ste. Marie. To protect against foreign exchange risk, the Corporation monitors the volume of Canadian deposits it takes in and then invests these Canadian funds in Canadian commercial loans and securities. As of December 31, 1999, the Corporation had excess Canadian assets of approximately $2.42 million (or $1.64 million in U.S. dollars). Management feels the exposure to short-term foreign exchange risk is minimal and at an acceptable level for the Corporation. Off-Balance-Sheet Risk Derivative financial instruments include futures, forwards, interest rate swaps, option contracts and other financial instruments with similar characteristics. The Corporation currently does not enter into futures, forwards, swaps or options. However, the Corporation is party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit and standby letters of credit and involve to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates and may require collateral from the borrower if deemed necessary by the Corporation. Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party up to a stipulated amount and with specified terms and conditions. Commitments to extend credit and standby letters of credit are not recorded as an asset or liability by the Corporation until the instrument is exercised. LIQUIDITY The Corporation's primary sources of funds include principal payments on securities and loans, sales of securities available for sale, sales of loans held for sale, deposits from customers, borrowings from the Federal Home Loan Bank and other sources, and the issuance of common stock. While scheduled repayments of securities and loans are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. In an attempt to minimize the effects of such fluctuation in funding sources, management has increased its borrowings from the Federal Home Loan Bank. In addition, the Corporation has ready access to significant sources of liquidity on an almost immediate basis through arrangements with the Federal Home Loan Bank and other financial institutions. Management anticipates no difficulty in maintaining liquidity at the levels necessary to conduct the Corporation's day-to-day business activities. CAPITAL It is the policy of the Corporation to maintain capital at a level consistent with both safe and sound operations and proper leverage to generate an appropriate return on shareholders' equity. Capital formation has been key to the Corporation's growth. During 1999, 1998 and 1997, the Corporation raised $0.48 million, $1.32 million and $1.87 million, respectively, in capital through the issuance of common stock related to the exercise of stock options and the dividend reinvestment program. Net income exceeded cash dividends by $5.07 million in 1999, $3.31 million in 1998 and $2.92 million in 1997. These increases in capital were offset by the retirement of common stock of $3.50 million in 1999, $1.80 million in 1998 and $0.83 million in 1997. The Corporation will continue to repurchase common stock from time-to-time when management believes such repurchases will enhance the return to its common shareholders. Overall, shareholders' equity increased by $1.35 million in 1999 and by $2.88 million in 1998. During 1999, the Corporation formed a Delaware business trust, North Country Capital Trust, solely to issue capital, or trust preferred securities. Through this entity, $12.45 million of trust preferred securities were issued in 1999; the net proceeds were invested in subordinated debentures issued to the trust by the Corporation. The Federal Reserve Bank has accorded the trust preferred securities Tier I capital treatment for regulatory purposes. The ability to apply Tier I capital treatment has positioned the Corporation for future growth without diluting the common shareholder base. Should additional capital be required to take advantage of expansion opportunities, management believes the significant demand for the Corporation's common stock could provide for additional capital to the extent that such capital cannot be internally generated. Management's Discussion and Analysis of Financial Condition and Results of Operations As a banking company, the Corporation is required to maintain certain levels of capital under government regulation. There are several measurements of regulatory capital and the Corporation is required to meet minimum requirements under each measurement. The Federal banking regulators have also established capital classifications beyond the minimum requirements in order to risk-rate deposit insurance premiums and to provide trigger points for prompt corrective action in the event an institution becomes financially troubled. Regulatory capital is not the same as shareholders' equity reported in the accompanying financial statements. Certain assets cannot be considered assets for regulatory purposes. The Corporation's acquisition intangibles are examples of such assets. Presented below is a summary of the Corporation's consolidated capital position in comparison to regulatory requirements: Tier I Tier I Total Capital to Capital to Capital to Average Risk Weighted Risk Weighted Assets Assets Assets Regulatory minimum for capital adequacy purposes 4.0% 4.0% 8.0% The Corporation: December 31, 1999 8.4% 11.8% 13.0% December 31, 1998 7.2% 9.4% 10.7% ISSUED BUT NOT YET ADOPTED ACCOUNTING POLICIES See Note 1 to the accompanying financial statements for a discussion of accounting pronouncements issued by the Financial Accounting Standards Board which the Corporation is not required to implement until periods subsequent to December 31, 1999. IMPACT OF INFLATION AND CHANGING PRICES The accompanying financial statements have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and results of operations in historical dollars without considering the change in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of the Corporation's operations. Nearly all the assets and liabilities of the Corporation are financial, unlike industrial or commercial companies. As a result, the Corporation's performance is directly impacted by changes in interest rates, which are indirectly influenced by inflationary expectations. The Corporation's ability to match the interest sensitivity of its financial assets to the interest sensitivity of its financial liabilities tends to minimize the effect of changes in interest rates on the Corporation's performance. Changes in interest rates do not necessarily move to the same extent as changes in the price of goods and services. NEW DEVELOPMENTS As mentioned in the Letter to the Shareholders, the Corporation will be engaging in the following exciting new developments in the coming year: * To increase the liquidity for North Country Financial Corporation stock, effective April 18, 2000, it is anticipated the Corporation will be listed on The NASDAQ Market System under the symbol "NCFC." * The Board of Directors approved, in December 1999, the moving of the corporate headquarters to Traverse City, Michigan. Management anticipates this will enhance the ability of the Corporation to expand its development in lower Michigan which in turn is expected to increase the value of the Corporation's common stock. * In February 2000, the Corporation entered into an agreement with Old Kent Bank to purchase banking offices in Alanson and Glen Arbor. In addition to acquiring these two offices, the Corporation is in the process of establishing new offices in Cadillac and Traverse City. These transactions, which are subject to regulatory approval, are expected to be completed in the second quarter of 2000. Management's Discussion and Analysis of Financial Condition and Results of Operations YEAR 2000 COMPLIANCE Year 2000 was the term used to describe the fact that many existing computer programs used only two digits to identify a year in a date field. These programs were designed and developed without considering the impact of the change in the century. If not corrected, many computer applications could have failed or created erroneous results by or at the year 2000. The term also refers to devices with imbedded technology that are time sensitive and may fail to recognize year 2000 correctly. This issue affected virtually all companies and organizations. Since January 1997, the Corporation has reported the status of its actions and plans for the transition to the year 2000. The Corporation is pleased to report that the transition to year 2000, as of the present time, was successful and that there have been no material adverse consequences during the transition to its systems or customers. The Corporation has spent approximately $1 million on year 2000 compliance. Replacement equipment and software were capitalized or expensed in accordance with the Corporation's normal accounting policies. The effect of writing off the net book value of equipment and software that was not year 2000 compliant is included in the above estimate. Year 2000 related costs incurred in 2000 are estimated to be insignificant. Officers and Directors NORTH COUNTRY FINANCIAL CORPORATION Ronald G. Ford, Chairman and Chief Executive Officer Michael C. Henricksen, Vice Chairman Thomas G. King, Vice Chairman Sherry L. Littlejohn, President, Chief Operating Officer and Treasurer Paulette M. Demers, Secretary NORTH COUNTRY FINANCIAL CORPORATION BOARD OF DIRECTORS PAUL W. ARSENAULT President, Concepts Consulting, Inc. BERNARD A. BOUSCHOR Tribal Chairman, Sault Tribe of Chippewa Indians C. RONALD DUFINA Balsam Shop, Inc., Ramas, Inc., HRD, Inc., Island Leasing, Inc., Mackinac Island Hospitality, Inc. RONALD G. FORD Chairman and Chief Executive Officer, North Country Financial Corporation, North Country Bank and Trust, North Country Capital Trust, First Manistique Agency, NCB Real Estate Company, First Rural Relending Corporation STANLEY J. GEROU II Owner, Days Inn & Comfort Inn (Munising), Gerou Excavating MICHAEL C. HENRICKSEN Owner, Satellite Services WESLEY W. HOFFMAN President, Wesley W. Hoffman and Associates, P.C. THOMAS G. KING President, Top of Lake Investment Company JOHN D. LINDROTH President, Superior State Agency, Inc. SHERRY L. LITTLEJOHN President and Chief Operating Officer, North Country Bank and Trust JOHN P. MILLER Retired, Peoples Store Co., Inc. Officers and Directors NORTH COUNTRY BANK AND TRUST Chairman and Chief Executive Officer - Ronald G. Ford, Chairman and Chief Executive Officer, North Country Financial Corporation, North Country Bank and Trust, North Country Capital Trust, First Manistique Agency, NCB Real Estate Company First Rural Relending Corporation Vice Chairman - John D. Lindroth, President, Superior State Agency, Inc. Vice Chairman - Sherry L. Littlejohn, President and Chief Operating Officer, North Country Bank and Trust Vice Chairman - John P. Miller, Retired, Peoples Store Co., Inc. Paul W. Arsenault, Owner, Concepts Consulting Dennis Bittner, Owner, Bittner Engineering Bernard A. Bouscher, Tribal Chairman, Sault Tribe of Chippewa Indians C. Ronald Dufina, Owner, Balsam Shop, Inc., Ramas, Inc., HRD, Inc., Island Leasing, Inc., Mackinac Island Hospitality, Inc. Stanley J. Gerou II, Owner, Days Inn & Comfort Inn (Munising), Gerou Excavating Michael C. Henricksen, Owner, Satellite Services Wesley W. Hoffman, President, Wesley W. Hoffman and Associates, P.C. Kathy Hyland, Owner, Floor Covering Brokers G. David Jukuri, Owner, Century 21 Agency Thomas G. King, President, Top of Lake Investment Company Steve Madigan, Owner, Madigan-Pingatore Insurance Services Richard A. Paidl, Manager, Stephenson Marketing Association Spencer Shunk, Owner, Shunk Furniture Glen Tolksdorf, Owner, Tolksdorf Realty NORTH COUNTRY FINANCIAL GROUP Ronald G. Ford, Chairman Michael Hark, President and Chief Executive Officer Paul Hinkson, Vice President and Secretary NORTH COUNTRY CAPITAL TRUST Ronald G. Ford, Administrative Trustee Sherry L. Littlejohn, Administrative Trustee Paul Hinkson, Administrative Trustee FIRST RURAL RELENDING COMPANY Ronald G. Ford, President Sherry L. Littlejohn, Executive Vice President Paulette M. Demers, Secretary/Treasurer NCB REAL ESTATE COMPANY Ronald G. Ford, President Sherry L. Littlejohn, Executive Vice President Paulette M. Demers, Secretary/Treasurer FIRST MANISTIQUE AGENCY Ronald G. Ford, President Sherry L. Littlejohn, Executive Vice President Paulette M. Demers, Secretary/Treasurer Officers and Directors COMMUNITY BANK BOARD DIRECTORS Escanaba/Marquette/Iron Mountain Rich Rossway Dave Johnson Michele Butler Matt Surrell Steve Pelto Brian Steinhoff Lloyd Houle Heidi Johnson Lyle Berro Kevin Romitti Kerry Sorensen Larry Seratti Copper Country Robert Nara Lawrence Julio Glen Tolksdorf Delano Harma John Hawley Steve Vairo Traverse City Paul Reszka Tom Taylor Kent Rozycki Michael Witkop Michael Niedzielski Daune Weiss Phil Potvin Fred Salisbury Sr. FINANCIAL AFFILIATES North Country Bank and Trust Sherry L. Littlejohn, President and Chief Operating Officer 906-341-8401 or 1-800-236-2219 SHAREHOLDER INFORMATION For information or to assist with questions, please contact Shirley Young at 906-341-8401 or 1-800-236-2219 DIVIDEND REINVESTMENT PLAN Shareholders may acquire additional shares of North Country Financial Corporation stock free of service charges. For information, please contact Shirley Young 906-341-8401 or 1-800-236-2219 STOCK TRANSFER AGENT For questions regarding transfer of stock, please contact Shirley Young at 906-341-8401 or 1-800-236-2219 or Registrar & Transfer Company at 1-800-866-1340 EXECUTIVE OFFICES 3530 North Country Drive Traverse City, Michigan 49684 231-929-5600 WORLD WIDE WEB SITE http://www.ncbt.com