As filed with the Securities and Exchange Commission on March 18, 1997
Registration No. 333-_______
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
------------------------
FORM SB-2
REGISTRATION STATEMENT
UNDER THE SECURITIES ACT OF 1933
SFB Bancorp, Inc.
(Exact name of Small Business Issuer as specified in charter)
Tennessee 6035 Requested
- ---------------------------- ----------------- -------------------
(State or other jurisdiction (Primary SIC No.) (I.R.S. Employer
of incorporation or Identification No.)
organization)
632 East Elk Avenue, Elizabethton, Tennessee 37643-3378
(423) 543-3518
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(Address, including zip code, and telephone number, including area code, of
principal executive offices and principal place of business)
Mr. Peter W. Hampton
President
SFB Bancorp, Inc.
632 East Elk Avenue, Elizabethton, Tennessee 37643-3378
(423) 543-3518
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(Name, address and telephone number of agent for service)
Please send copies of all communications to:
Charles E. Sloane, Esq.
Gregory J. Rubis, Esq.
Felicia C. Battista, Esq.
MALIZIA, SPIDI, SLOANE & FISCH, P.C.
1301 K Street, N.W., Suite 700 East, Washington, D.C. 20005
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon
as practicable after this registration statement becomes effective.
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier registration statement for the same
offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule 434,
please check the following box. [ ]
CALCULATION OF REGISTRATION FEE
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Title of Dollar Proposed Proposed Amount
Each Class of Amount Maximum Maximum Aggregate of
Securities to be Offering Price Offering Registration
To Be Registered Registered Per Unit Price(1) Fee
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Common Stock,
$.10 Par Value $7,670,000 $10.00 $7,670,000 $2,324.24
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(1) Estimated solely for purposes of calculating the registration fee.
The registrant hereby amends this registration statement on such date or dates
as may be necessary to delay its effective date until the registrant shall file
a further amendment which specifically states that this registration statement
shall thereafter become effective in accordance with Section 8(a) of the
Securities Act of 1933 or until the registration statement shall become
effective on such date as the Commission, acting pursuant to said Section 8(a),
may determine.
PROSPECTUS
Up to 767,000 Shares of Common Stock
SFB BANCORP, INC.
632 East Elk Avenue
Elizabethton, Tennessee 37643
(423) 543-3518
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Security Federal Savings Bank is converting from the mutual form to the
stock form of organization. As part of the conversion, Security Federal Savings
Bank will become a wholly owned subsidiary of SFB Bancorp, Inc. The common stock
of SFB Bancorp, Inc. is being offered to the public in accordance with a Plan of
Conversion. The members of Security Federal Savings Bank must approve the Plan
of Conversion and the conversion must be approved by the Office of Thrift
Supervision. The offering will not go forward, if Security Federal Savings Bank
does not receive these approvals and SFB Bancorp, Inc. does not sell at least
the minimum number of shares.
================================================================================
TERMS OF OFFERING
An independent appraiser has estimated the market value of the converted
Security Federal Savings Bank to be between $4,930,000 to $6,760,000, which
establishes the number of shares to be offered. Up to an additional 15% above
the maximum number of shares may be offered. Based on these estimates, we are
making the following offering of shares of common stock:
o Price Per Share: $10
o Number of Shares
Minimum/Maximum: 493,000 to 767,000
o Underwriting Commissions and Expenses
Minimum/Maximum: $385,000 to $400,000
o Net Proceeds to Bancorp
Minimum/Maximum: $4,545,000 to $7,270,000
Please refer to Risk Factors beginning on page 1 of this document.
These securities are not deposits or accounts and are not insured or guaranteed
by the Federal Deposit Insurance Corporation or any government agency.
Neither the Securities and Exchange Commission, the Office of Thrift
Supervision, or any other state securities regulators have approved the sale of
these securities or determined this prospectus is accurate or complete. Any
representation to the contrary is a criminal offense.
TRIDENT SECURITIES, INC.
Selling Agent
, 1997
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TABLE OF CONTENTS
Page
----
Questions and Answers About the Stock Offering.................... (i)
Summary........................................................... (iii)
Selected Financial and Other Data................................. (v)
Risk Factors...................................................... 1
Proposed Purchases by Directors and Officers...................... 3
Use of Proceeds................................................... 4
Dividends......................................................... 4
Market for the Common Stock....................................... 5
Capitalization.................................................... 6
Pro Forma Data.................................................... 7
Historical and Pro Forma Capital Compliance....................... 11
Consolidated Statements of Income of Security
Federal Savings Bank............................................ 12
Management's Discussion and Analysis of
Financial Condition and Results of Operations................... 13
Business of the SFB Bancorp, Inc.................................. 21
Business of Security Federal Savings Bank......................... 22
Regulation........................................................ 40
Taxation.......................................................... 44
Management of the SFB Bancorp, Inc................................ 46
Management of Security Federal Savings Bank....................... 46
The Conversion.................................................... 52
Restrictions on Acquisitions of SFB Bancorp, Inc.................. 65
Description of Capital Stock...................................... 68
Legal and Tax Matters............................................. 70
Experts........................................................... 70
Change in Auditor................................................. 70
Registration Requirements......................................... 70
Additional Information............................................ 71
Index to Consolidated Financial Statements of
Security Federal Savings Bank................................... 72
Glossary.......................................................... A-1
This document contains forward-looking statements which involve risks and
uncertainties. SFB Bancorp, Inc.'s actual results may differ significantly from
the results discussed in the forward-looking statements. Factors that might
cause such a difference include, but are not limited to, those discussed in
"Risk Factors" beginning on page 1 of this document.
Please see the Glossary beginning on page A-1 for the meaning of
capitalized terms that are not defined in this document.
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QUESTIONS AND ANSWERS ABOUT THE STOCK OFFERING
Q: How will I benefit from the Offering?
A: The offering means that you will have the chance to become a stockholder
of our newly formed holding company, SFB Bancorp, Inc. which will allow
you to share in our future as a federal stock savings bank. The stock
offering will increase our capital and funds for lending and investment
activities, which will give us greater flexibility to diversify operations
and expand into other geographic markets. As a stock savings institution
operating through a holding company structure, we will have the ability to
plan and develop long-term growth and improve our future access to the
capital markets. See page 21.
Q: How do I purchase the stock?
A: You must complete and return the Stock Order Form to us together with your
payment, on or before ___________, 1997. See pages 58 to 60.
Q: How much stock may I purchase?
A: The minimum purchase is 25 shares. The maximum purchase is 15,000 shares.
In certain instances, your purchase might be grouped together with
purchases by other persons and in that event the aggregate purchases may
not exceed 25,000 shares. We may decrease or increase the maximum purchase
limitation without notifying you. In the event that the offering is
oversubscribed, shares will be allocated based upon a formula. See pages
60 to 63.
Q: What happens if there is an oversubscription?
A: You might not receive any or all of the shares you want to purchase. If
there is an oversubscription, the stock will be offered on a priority
basis to the following persons:
o Persons who had a deposit account with us on December 31, 1995. Any
remaining shares will be offered to:
o Tax Qualified Employee Plans, including the employee stock ownership
plan of Security Federal Savings Bank. Any remaining shares will be
offered to:
o Persons who had a deposit account with us on March 31, 1997. Any
remaining shares will be offered to:
o Depositors and certain borrowers of ours, as of ___________, 1997.
If the above persons do not subscribe for all of the shares, the remaining
shares will be offered to certain members of the general public with preference
given to people who live in Carter County, Tennessee.
See pages 55 to 58.
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(i)
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Q: As a depositor or borrower member of Security Federal Savings Bank, what
will happen if I do not purchase any stock?
A: You presently have voting rights while we are in the mutual form; however,
once we convert to the stock form you will lose your voting rights unless
you purchase stock. Your deposit account, certificate accounts and any
loans you may have with us will be not be affected. See pages 53 to 55.
Q: Who Can Help Answer Any Other Questions I May Have About The Stock
Offering?
A: You should read this entire document. In addition, you should contact:
Stock Information Center
SFB Bancorp, Inc.
632 East Elk Avenue
Elizabethton, Tennessee
(423) 543-3518
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(ii)
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SUMMARY
This summary highlights selected information from this document and may
not contain all the information that is important to you. To understand the
stock offering fully, you should read carefully this entire document, including
the consolidated financial statements and the notes to the consolidated
financial statements of Security Federal Savings Bank. References is this
document to "we", "us", "our" refer to Security Federal Savings Bank. In certain
instances where appropriate, "us" or "our" refers collectively to SFB Bancorp,
Inc. and Security Federal Savings Bank. References in this document to "Bancorp"
refers to SFB Bancorp, Inc.
The Companies
SFB Bancorp, Inc.
632 East Elk Avenue
Elizabethton, Tennessee 37643-3378
(423) 543-3518
SFB Bancorp, Inc. is not an operating company and has not engaged in any
significant business to date. It was formed in March 1997, as a Tennessee
corporation to be the holding company for Security Federal Savings Bank. The
holding company structure will provide greater flexibility in terms of
operations, expansion and diversification. Please see page 21.
Security Federal Savings Bank
632 East Elk Avenue
Elizabethton, Tennessee 37643-3378
(423) 543-3518
We are a community and customer oriented federal mutual savings bank. We
were chartered to profitably provide financial services to individuals, families
and small business. Historically, we have emphasized residential mortgage
lending, primarily originating one- to four-family mortgage loans. At December
31, 1996, we had total assets of $46.6 million, deposits of $40.8 million, and
total equity of $4.7 million. After the completion of the conversion, we will
change our name to "Security Federal Bank." Please see pages 22-39.
The Stock Offering
Between 493,000 and 667,000 shares of common stock are being offered at
$10 per share. If certain events happen, the offering may be increased to
767,000 shares without further notice to you.
Stock Purchases
The shares of common stock will be offered on the basis of priorities. The
shares will be offered first in a Subscription Offering and any remaining shares
will be offered in a Community Offering and a syndicated Community Offering. See
pages 55 to 58.
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(iii)
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The Offering Range and Determination of the Price Per Share
The offering range is based on an independent appraisal of the pro forma
market value of the common stock by Feldman Financial Advisors, Inc., an
appraisal firm experienced in appraisals of savings institutions. Feldman
Financial Advisors, Inc. has estimated that in its opinion, as of March 14, 1997
the aggregate pro forma market value of the common stock ranged between $4.9
million and $6.7 million (with a mid-point of $5.8 million). The appraisal was
based in part upon our financial condition and operations and the effect of the
additional capital raised by the sale of common stock in this offering. The
$10.00 price per share was determined by our board of directors and is the price
most commonly used in stock offerings involving conversions of mutual savings
institutions. See pages 62 to 63.
Termination of the Offering
The Subscription Offering will terminate at ______ p.m., Eastern Time, on
____________ ___, 1997. The Community Offering, if any, may terminate at any
time without notice but no later than ______________ ___, 1997, without approval
by the OTS.
Benefits to Management from the Offering
Our full-time employees will participate in the offering through purchases
of stock by our employee stock ownership plan, which is a form of retirement
plan. We also intend to implement a restricted stock plan and a stock option
plan following completion of the Conversion, which will benefit Mr. Hampton and
other officers and directors. However, the restricted stock plan and stock
option plan may not be adopted until after the Conversion and are subject to
stockholder approval and compliance with OTS regulations. See pages 48 to 51.
Use of the Proceeds Raised from the Sale of Common Stock
SFB Bancorp, Inc. will use approximately 50% of the net proceeds from the
stock offerings to purchase the common stock to be issued by us in the
Conversion and to make a loan to our employee stock ownership plan to fund its
purchase of stock in the Conversion. The balance of the funds will be retained
as SFB Bancorp, Inc.'s initial capitalization. See page 4.
Dividends
SFB Bancorp, Inc. expects initially to pay semi-annual cash dividends on
the common stock at a rate of 3% per annum commencing after December 31, 1997.
See page 4.
Market for the Common Stock
Since the size of the offering is relatively small, it is unlikely that an
active and liquid trading market for the trading market will develop and be
maintained. Persons purchasing shares may not be able to sell their shares
promptly or at a price equal to or above $10.00. See page 5.
Risks in Owning SFB Bancorp, Inc.'s Common Stock
Before you decide to purchase stock in the offering, you should read the
Risk Factor section on pages 1-2 of this document.
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(iv)
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SELECTED FINANCIAL AND OTHER DATA
We are providing the following summary financial information about us for
your benefit. This information is derived from our audited financial statements
for each of the fiscal years shown below. The following information is only a
summary and you should read it in conjunction with our consolidated (including
consolidated data from operations of our subsidiary) financial statements and
notes beginning on page F-1.
Selected Financial Data
At December 31,
----------------------------
1995 1996
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(Dollars in Thousands)
Total assets................ $ 45,482 $ 46,579
Loans receivable, net....... 32,782 36,808
Mortgage-backed securities . 7,299 5,768
Investment securities....... 1,414 1,312
Deposits.................... 40,637 40,765
Total equity................ 4,426 4,676
Other Data:
Number of:
Real estate loans outstanding 893 954
Deposit accounts............ 3,550 3,535
Full service offices........ 2 2
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(v)
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Summary of Operations
For the Years Ended
December 31,
-------------------
1995 1996
---- ----
(In Thousands)
Interest income........... $3,401 $3,474
Interest expense.......... 1,981 1,977
----- -----
Net interest income....... 1,420 1,497
Provision for loan losses. 30 30
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Net interest income after
provision for loan losses 1,390 1,467
Non interest income....... 152 156
Non interest expense (1).. 957 1,204
------ -----
Income before income taxes 585 419
Income tax expense........ 221 157
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Net income................ $ 364 $ 262
====== ======
(1) Includes a non-recurring expense of $264,000 for the year ended December
31, 1996 for a one- time deposit premium to recapitalize the SAIF.
Key Operating Ratios
At and For the Years
Ended
December 31,
------------
1995 1996
---- ----
Performance Ratios:
Return on average assets (net income divided by
average total assets)........................ 0.81% 0.57%
Return on average equity (net income divided by
average equity).............................. 8.58% 5.67%
Ratio of average equity to average total assets
(average equity divided by average total
assets)...................................... 9.46% 10.08%
Equity to assets at period end................. 9.73% 10.04%
Net interest rate spread....................... 2.87% 2.92%
Net interest margin............................ 3.26% 3.36%
Average interest-earning assets to average
interest-bearing liabilities................. 108.56% 109.84%
Non-interest expenses to total assets.......... 2.10% 2.58%
Non-interest expenses to average total assets.. 2.13% 2.62%
Asset Quality Ratios:
Non-performing loans to total assets........... 0.46% 0.67%
Non-performing assets to total assets.......... 0.46% 0.80%
Non-performing loans to total loans............ 0.62% 0.81%
Allowance for loan losses to total loans at
the end of period............................ 0.83% 0.80%
Allowance for loan losses to non-performing
loans........................................ 134.78% 97.75%
Net interest income after provision for loan
losses, to total non-interest expenses....... 148.38% 124.34%
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(vi)
RISK FACTORS
In addition to the other information in this document, you should consider
carefully the following risk factors in evaluating an investment in our common
stock.
Lack of Active Market for Common Stock
Due to the small size of the offering, it is highly unlikely that an
active trading market will develop and be maintained. Stockholders may not be
able to sell shares promptly or at a price equal to or above the price paid for
the shares. The common stock may not be appropriate as a short-term investment.
See "Market For The Common Stock."
Decreased Return on Equity and Increased Expenses Immediately After Conversion
Return on equity (net income divided by average equity) is a ratio used by
many investors to compare the performance of a savings institution to its peers.
As a result of the Conversion, our expenses will increase because of the costs
associated with our employee stock ownership plan, restricted stock ownership
plan, and the costs of being a public company. Because of these increased
expenses, our return on equity may decrease as compared to our performance in
previous years. A lower return on equity could affect the trading price of our
shares.
Potential Impact of Changes in Interest Rates and the Current Interest Rate
Environment
Our ability to make a profit, like that of most financial institutions, is
substantially dependent on our net interest income, which is the difference
between the interest income we earn on our interest-earning assets (such as
mortgage loans) and the interest expense we pay on our interest-bearing
liabilities (such as deposits). Substantially all of our mortgage loans are
originated with terms of 15 years, while deposit accounts have significantly
shorter terms to maturity. Because our interest-earning assets have longer
effective maturities than our interest-bearing liabilities, the yield on our
interest-earning assets generally will adjust more slowly to changes in interest
rates than the cost of our interest-bearing liabilities. As a result, our net
interest income will be adversely affected by material and prolonged increases
in interest rates. In addition, rising interest rates may adversely affect our
earnings because there might be a lack of customer demand for loans. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Asset/Liability Management."
Changes in interest rates also can affect the average life of loans and
mortgage-backed securities. Historically lower interest rates in recent periods
have resulted in increased prepayments of loans and mortgage-backed securities,
as borrowers refinanced their mortgages in order to reduce their borrowing cost.
Under these circumstances, we are subject to reinvestment risk to the extent
that we are not able to reinvest such prepayments at rates which are comparable
to the rates on the prepaid loans or securities.
Dependence on President and Possible New Management
Our successful operations depend to a considerable degree on our
President, Peter W. Hampton, who is 77 years of age. The loss of Mr. Hampton's
services could adversely affect us. While the board of directors is seeking to
attract and retain additional management either as a successor or supplement to
Mr. Hampton, there is no assurance that such individuals will be attracted or
retained. If such individuals are retained, their participation in our
management could result in changes to our operating strategy which could affect
our profitability. See "Management of Security Federal Savings Bank."
1
Intent to Remain Independent
We have operated as an independent community oriented savings association
since 1963. It is our intention to continue to operate as an independent
community oriented savings association following the Conversion. Accordingly, an
investment in our common stock would not be a prudent investment for someone who
is anticipating a quick sale by us. See "Business of SFB Bancorp, Inc."
Charter, Bylaw and Statutory Provisions That Could Discourage Hostile
Acquisitions of Control
Provisions in Bancorp' charter and bylaws, the general corporation law of
the state of Tennessee, and certain federal regulations may make it difficult
and expensive to pursue a tender offer, change in control or takeover attempt
which we oppose. See "Restrictions on Acquisitions of SFB Bancorp, Inc."
Possible Voting Control by Directors and Officers
The proposed purchases of the common stock by our directors, officers and
employee stock ownership plan, as well as the potential acquisition of the
common stock through the stock option plan and restricted stock plan, could make
it difficult to obtain majority support for stockholder proposals which are
opposed by us. Moreover, the voting of those shares could enable us to block the
approval of transactions requiring the approval of 80% of the stockholders under
the Bancorp's charter. See "Management of Security Federal Savings Bank --
Executive Compensation," "Description of Capital Stock," and "Restrictions on
Acquisitions of SFB Bancorp, Inc."
Possible Dilutive Effect of RSP and Stock Options
After the completion of the Conversion, upon stockholder approval, we will
issue stock to our officers and directors through a restricted stock plan and
stock option plan. If the shares for the restricted stock plan and stock are
issued from our authorized but unissued stock, your ownership percentage could
be diluted by up to approximately 13%. See "Pro Forma Data" and "Management of
Security Federal Savings Bank, -- Proposed Future Stock Benefit Plans, --
Restricted Stock Plan."
Financial Institution Regulation and Future of the Thrift Industry
We are subject to extensive regulation, supervision , and examination by
the OTS and FDIC. A bill has been introduced to the House Banking Committee that
would consolidate the OTS with the Office of the Comptroller of the Currency
("OCC"). If this regulation is approved we could be forced to become a state or
national commercial bank. If we become a commercial bank, our investment
authority and the ability of Bancorp to engage in diversified activities may be
limited, which could affect our profitability. See "Regulation."
2
PROPOSED PURCHASES BY DIRECTORS AND OFFICERS
The following table sets forth the approximate purchases of common stock
by each director and executive officer and their "associates" in the Conversion.
All shares will be purchased for investment purposes and not for purposes of
resale. The table, assumes that 580,000 shares (the midpoint of the EVR) of the
common stock will be sold at $10.00 per share and that sufficient shares will be
available to satisfy subscriptions in all categories.
Aggregate
Total Price of Percent
Shares Shares of Shares
Name Position Purchased(1) Purchased(1) Purchased(1)
---- -------- ------------ ------------ ------------
Estill L. Caudill, Jr. Director 200 $ 2,000 .03%
Julian T. Caudill Director 5,000 50,000 .86
John R. Crockett, Jr. Director 100 1,000 .02
Peter W. Hampton President and
Director 15,000 150,000 2.59
Peter W. Hampton, Jr. Vice Chairman and
Director 10,000 100,000 1.72
Donald W. Tetrick Chairman and
Director 10,000 100,000 1.72
------ ------- ----
40,300 $403,000 6.95%
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(1) Does not include shares purchased by the ESOP.
3
USE OF PROCEEDS
Bancorp will use 50% of the net proceeds from the offering to purchase all
of the capital stock we will issue in connection with the Conversion. A portion
of the net proceeds to be retained by Bancorp will be loaned to our employee
stock plan to fund its purchase of 8% of the shares sold in the Conversion. On a
short-term basis, the balance of the net proceeds retained by Bancorp initially
will be invested in short-term investments. Although there are no current plans,
the net proceeds subsequently may be used to fund acquisitions of other
financial services institutions or to diversify into non-banking activities. The
net proceeds may also serve as a source of funds for the payment of dividends to
stockholders or for the repurchase of the shares. A portion of the net proceeds
may also be used to fund the purchase of 4% of the shares for a restricted stock
plan (the RSP) which is anticipated to be adopted following the Conversion. See
"Pro Forma Data."
The funds we received from the sale of our capital stock to Bancorp will
be added to our general funds and be used for general corporate purposes
including: (i) investment in mortgages and other loans, (ii) U.S. Government and
federal agency securities, (iii) mortgage-backed securities, (iv) funding loan
commitments or (v) repaying FHLB advances. The funds added to our capital will
further strengthen our capital position. We may use a portion of the funds for
establishment of a branch office. We are currently in the initial stages of
exploring possible site locations.
The net proceeds may vary because the total expenses of the Conversion may
be more or less than those estimated. The net proceeds will also vary if the
number of shares to be issued in the Conversion is adjusted to reflect a change
in our estimated pro forma market value with us. Payments for shares made
through withdrawals from existing deposit accounts with us will not result in
the receipt of new funds for investment by us but will result in a reduction of
our liabilities and interest expense as funds are transferred from
interest-bearing certificates or accounts.
DIVIDENDS
Upon Conversion, Bancorp's board of directors will have the authority to
declare dividends on the shares, subject to statutory and regulatory
requirements. Bancorp expects initially to pay semi-annual cash dividends on the
shares at a rate of 3% per annum ($0.30 per share per annum based on the $10.00
per share offering price) commencing after December 31, 1997. However,
declarations of dividends by the board of directors will depend upon a number of
factors, including: (i) the amount of the net proceeds retained by Bancorp in
the Conversion, (ii) investment opportunities available, (iii) capital
requirements, (iv) regulatory limitations, (v) results of operations and
financial condition, (vi) tax considerations, and (vii) general economic
conditions. Upon review of such considerations, the board may authorize future
dividends if it deems such payment appropriate and in compliance with applicable
law and regulation. No assurance can be given, however, that the payment of
dividends, once commenced, will continue. In addition, from time to time in an
effort to manage capital at a reasonable level, the board may determine that it
is prudent to pay special cash dividends. Special cash dividends may be paid in
addition to, or in lieu of, regular cash dividends. There can be no assurance
that special dividends will be paid, or, if paid, will continue to be paid. See
"Historical and Pro Forma Capital Compliance," "The Conversion -- Effects of
Conversion to Stock Form on Savers and Borrowers of Security Federal Savings
Bank -- Liquidation Account" and "Regulation -- Dividend and Other Capital
Distribution Limitations."
Bancorp is not subject to OTS regulatory restrictions on the payment of
dividends to its stockholders although the source of such dividends, in part,
will be, dependent upon the receipt of dividends from us. Bancorp is subject,
however, to the requirements of Tennessee law, which generally
4
limit the payment of dividends to amounts that will not affect the ability of
Bancorp, after the dividend has been distributed, to pay its debts in the
ordinary course of business.
In addition to the foregoing, the portion of our earnings which have been
appropriated for bad debt reserves and deducted for federal income tax purposes
cannot be used by us to pay cash dividends to Bancorp without the payment of
federal income taxes by us at the then current income tax rate on the amount
deemed distributed, which would include the amount of any federal income taxes
attributable to the distribution. See "Taxation -- Federal Taxation" and Note 10
to the Consolidated Financial Statements. Bancorp does not contemplate any
distribution by us that would result in a recapture of our bad debt reserve or
otherwise create federal tax liabilities.
MARKET FOR THE COMMON STOCK
As a newly organized company, Bancorp has never issued capital stock, and
consequently there is no established market for the common stock. Following the
completion of the offering, it is anticipated that the common stock will be
traded on the Nasdaq SmallCap Market under the symbol "_______." One of the
conditions for quotation on the Nasdaq SmallCap Market is that at least two
market makers make or agree to make, a market in the common stock. Making a
market may include the solicitation of potential buyers and sellers in order to
match buy and sell orders. Trident Securities will make a market in the common
stock. Bancorp expects that before the Conversion is completed it will obtain a
commitment from another market maker. However, Trident Securities or any other
market maker will not be subject to any continuing obligation to continue such
efforts in the future. There is no assurance that there will be two market
makers. If the common stock cannot be listed on the Nasdaq SmallCap Market, it
is expected to be quoted and traded on the OTS "Electronic Bulletin Board" or
the National Quotation Bureau, Inc., "Pink Sheets."
The development of an active trading market depends on the existence of
wiling buyers and sellers. Due to the small size of the offering, it is highly
unlikely that an active trading market will develop and be maintained. You could
have difficulty disposing of your shares and you should not view the shares as a
short-term investment. Stockholders may not be able to sell shares promptly or
at a price equal to or above the price paid for the shares.
5
CAPITALIZATION
The following table presents, as of December 31, 1996, our historical
capitalization and the consolidated capitalization of Bancorp after giving
effect to the Conversion and the other assumptions set forth below and under
"Pro Forma Data," based upon the sale of shares at the minimum, midpoint,
maximum, and 15% above the maximum of the EVR at a price of $10.00 per share:
Pro Forma Consolidated Capitalization
Based on the Sale of
-----------------------------------------------
Historical 493,000 580,000 667,000 767,000
Capitalization Shares at Shares at Shares at Shares At
at December 31, $10.00 $10.00 $10.00 $10.00
1996 Per Share Per Share Per Share Per Share
---- --------- --------- --------- ---------
(In Thousands)
Deposits(1) ..................................... $ 40,765 $40,765 $40,765 $40,765 $40,765
Other Borrowings................................. 800 800 800 800 800
------ ------ ------ ------ ------
Total deposits and other borrowing............. $ 41,565 $41,565 $41,565 $41,565 $41,565
======= ====== ====== ====== ======
Stockholders' Equity:
Preferred Stock, $.10 par value per share,
1,000,000 shares authorized; none to be
issued........................................ $ -- $ -- $ -- $ -- $ --
Common Stock, $.10 par value, 4,000,000
shares authorized; total shares to be
issued as reflected........................... -- 49 58 67 77
Additional paid in capital....................... -- 4,496 5,342 6,203 7,193
Total equity(4)................................ 4,676 4,676 4,676 4,676 4,676
Less:
Common stock acquired by ESOP.................. -- (394) (464) (534) (614)
Common stock acquired by RSP................... -- (197) (232) (267) (307)
----- ------ ------ ------ ------
Total stockholders' equity....................... $4,676 $8,630 $9,380 $10,145 $11,025
===== ===== ===== ====== ======
- ---------------------
(1) Excludes accrued interest payable on deposits. Withdrawals from savings
accounts for the purchase of stock have not been reflected in these
adjustments. Any withdrawals will reduce pro forma capitalization by the
amount of such withdrawals.
(2) Does not reflect the increase in the number of shares of common stock
after the Conversion in the event of implementation of the Option Plan or
RSP. See "Management of Security Federal Savings Bank - Proposed Future
Stock Benefit Plans - Stock Option Plan" and "- Restricted Stock Plan."
(3) Assumes that 8% and 4% of the shares issued in the Conversion will be
purchased by the ESOP and RSP, respectively. No shares will be purchased
by the RSP in the Conversion. It is assumed on a pro forma basis that the
RSP will be adopted by the board of directors, approved by stockholders of
the Company, and reviewed by the OTS. It is assumed that the RSP will
purchase common stock in the open market within one year of the Conversion
in order to give an indication of its effect on capitalization. The pro
forma presentation does not show the impact of: (a) results of operations
after the Conversion, (b) changing market prices of shares of common stock
after the Conversion, or (c) a smaller than 4% purchase by the RSP.
Assumes that the funds used to acquire the ESOP shares will be borrowed
from the Company for a ten year term at the prime rate as published in The
Wall Street Journal. For an estimate of the impact of the ESOP on
earnings, see "Pro Forma Data." The Bank intends to make contributions to
the ESOP sufficient to service and ultimately retire its debt. The amount
to be acquired by the ESOP and RSP is reflected as a reduction of
stockholders' equity. The issuance of authorized but unissued shares for
the RSP in an amount equal to 4% of the outstanding shares of common stock
will have the effect of diluting existing stockholders' interests by 3.9%.
There can be no assurance that stockholder approval of the RSP will be
obtained. See "Management of Security Federal Savings Bank - Proposed
Future Stock Benefit Plans - Restricted Stock Plan."
(4) The equity of the Bank will be substantially restricted after the
Conversion. See "Dividends," "Regulation - Dividends and Other Capital
Distribution Limitations," "The Conversion - Effects of Conversion to
Stock Form on Depositors and Borrowers of Security Federal Savings Bank -
Liquidation Account" and Note 17 to the Consolidated Financial Statements.
6
PRO FORMA DATA
The actual net proceeds from the sale of the common stock cannot be
determined until the Conversion is completed. However, net proceeds are
currently estimated to be between $4.5 million and $7.3 million at the minimum
and maximum, as adjusted, of the EVR, based upon the following assumptions: (i)
8% of the shares will be sold to the ESOP and 40,300 shares will be sold to
officers, directors, and members of their immediate families; (ii) Trident will
have received sales fees of $92,000; (iii) no shares will be sold in a
Syndicated Community Offering by selected dealers; (iv) other Conversion
expenses, excluding the sales fees paid to Trident, will be $308,000; and (v) 4%
of the shares will be sold to the RSP. Because management of the Savings Bank
presently intends to adopt the RSP within the first year following the
Conversion, a purchase by the RSP in the Conversion has been included with the
pro forma data to give an indication of the effect of a 4% purchase by the RSP,
at a $10.00 per share purchase price in the market, even though the RSP does not
currently exist and is prohibited by OTS regulation from purchasing shares in
the Conversion. The pro forma presentation does not show the effect of: (a)
results of operations after the Conversion, (b) changing market prices of the
shares after the Conversion or (c) less than a 4% purchase by the RSP.
The following table sets forth, our historical net earnings and
stockholders' equity prior to the Conversion and the pro forma consolidated net
earnings and stockholders' equity of Bancorp following the Conversion. Unaudited
pro forma consolidated net earnings and stockholders' equity have been
calculated for the fiscal year ended December 31, 1996 as if the common stock to
be issued in the Conversion had been sold at January 1, 1996, and the estimated
net proceeds had been invested at 5.20% for the fiscal year ended December 31,
1996, which was approximately equal to the one-year U.S. Treasury bill rate
during November 30, 1996. The one-year U.S. Treasury bill rate, rather than an
arithmetic average of the average yield on interest-earning assets and average
rate paid on deposits, has been used to estimate income on net proceeds because
it is believed that the one-year U.S. Treasury bill rate is a more accurate
estimate of the rate that would be obtained on an investment of net proceeds
from the offering. In calculating pro forma income, an effective state and
federal income tax rate of 38.00% has been assumed for the respective periods,
resulting in an after tax yield of 3.22% for the fiscal year ended December 31,
1996. Withdrawals from deposit accounts for the purchase of shares are not
reflected in the pro forma adjustments. The computations are based upon the
assumptions that 493,000 shares (minimum of EVR) shares, 580,000 (midpoint of
EVR), 667,000 shares (maximum of EVR) or 767,000 shares (maximum, as adjusted,
of the EVR) are sold at a price of $10.00 per share. As discussed under "Use of
Proceeds," Bancorp expects to retain 50% of the net Conversion proceeds, part of
which will be loaned to the ESOP to fund its purchase of 8% of shares issued in
the Conversion. It is assumed that the yield on the net proceeds of the
Conversion retained by Bancorp will be the same as the yield on the net proceeds
of the Conversion transferred to us. Historical and pro forma per share amounts
have been calculated by dividing historical and pro forma amounts by the
indicated number of shares. Per share amounts have been computed as if the
shares had been outstanding at the beginning of the periods or at the dates
shown, but without any adjustment of per share historical or pro forma
stockholders' equity to reflect the earnings on the estimated net proceeds.
The stockholders' equity information is not intended to represent the fair
market value of the shares, or the current value of our assets or liabilities,
or the amounts, if any, that would be available for distribution to stockholders
in the event of liquidation. For additional information regarding the
liquidation account, see "The Conversion -- Certain Effects of the Conversion to
Stock Form on Savers and Borrowers of Security Federal Savings Bank --
Liquidation Account" and Note 17 to the Consolidated Financial Statements. The
pro forma income derived from the assumptions set forth above should not be
considered indicative of the actual results of our operations for any period.
Such pro forma data may be materially affected by a change in the price per
share or
7
number of shares to be issued in the Conversion and by other factors. For
information regarding investment of the proceeds see "Use of Proceeds" and "The
Conversion -- Stock Pricing" and "-- Number of Shares to be Issued in the
Conversion."
At or For the Year Ended December 31, 1996
---------------------------------------------------------------
493,000 580,000 667,000 767,000
Shares at Shares at Shares at Shares at
$10.00 $10.00 $10.00 $10.00
per share per share per share per share
--------- --------- --------- ---------
(Dollars in Thousands, except per share amounts)
Gross proceeds................................ $4,930 $5,800 $ 6,670 $7,670
Less estimated offering expenses.............. (385) (400) (400) (400)
------ ----- ----- -----
Estimated net proceeds...................... 4,545 5,400 6,270 7,270
Less: ESOP funded by the Company........ (394) (464) (534) (614)
RSP funded by the Company......... (197) (232) (267) (307)
------ ----- ----- -----
Estimated investable net proceeds:.......... $ 3,954 $4,704 $5,469 $6,349
====== ===== ===== =====
Net income:
Historical net income....................... $ 262 $ 262 $ 262 $ 262
Pro forma earnings on investable net proceeds 127 151 176 204
Pro forma ESOP adjustment(1)................ (24) (29) (33) (38)
Pro forma RSP adjustment(2)................. (24) (29) (33) (38)
---- ------ ------ ----
.Total........................................ $ 341 $ 355 $ 372 $ 390
==== ====== ====== ====
Net income per share:
Historical net income per share............. $ 0.57 $ 0.49 $ 0.42 $ 0.37
Pro forma earnings on net proceeds.......... 0.28 0.28 0.28 0.29
Pro forma ESOP adjustment(1)................ (0.05) (0.05) (0.05) (0.05)
Pro forma RSP adjustment(2)................. (0.05) (0.05) (0.05) (0.05)
----- ------ ----- -----
.Total........................................ $ 0.75 $ 0.67 $ 0.60 $ 0.56
===== ====== ====== =====
Stockholders' equity:(3)
Historical.................................. $4,676 $ 4,676 $ 4,676 $ 4,676
Estimated net proceeds(2)................... 4,545 5,400 6,270 7,270
Less: Common stock acquired by ESOP(1).. (394) (464) (534) (614)
. Common stock acquired by RSP(2).......... (197) (232) (267) (307)
----- ------ ------ ------
.Total........................................ $8,630 $ 9,380 $10,145 $11,025
===== ====== ====== ======
Stockholders' equity per share:(3)
Historical.................................. $ 9.48 $ 8.06 $ 7.01 $ 6.10
Estimated net proceeds(2)................... 9.22 9.31 9.40 9.48
Less: common stock acquired by ESOP(1).. (0.80) (0.80) (0.80) (0.80)
. common stock acquired by RSP(2).......... (0.40) (0.40) (0.40) (0.40)
------ ------ ------ ------
.Total........................................ $ 17.50 $ 16.17 $ 15.21 $ 14.38
====== ====== ====== ======
Offering price as a percentage of pro forma
stockholders'equity per share(4)............ 57.14% 61.84% 65.75% 69.64%
====== ====== ====== ======
Ratio of offering price to pro forma earnings
per share(4)................................ 13.33x 14.93x 16.67x 17.86x
====== ======= ======= =======
- ----------------------
Footnotes follow table
8
- --------------------
(1) Assumes 8% of the shares sold in the Conversion are purchased by the ESOP,
and that the funds used to purchase such shares are borrowed from Bancorp.
The approximate amount expected to be borrowed by the ESOP is not
reflected as a liability but is reflected as a reduction of capital. We
intend to make annual contributions to the ESOP over a ten year period in
an amount at least equal to the principal and interest requirement of the
debt. The pro forma net income assumes: (i) that 493,000, 580,000,
667,000, and 767,000 shares at the minimum, mid-point, maximum and
maximum, as adjusted of the EVR, were committed to be released during the
year ended December 31, 1996 at an average fair value of $10.00 per share
in accordance with Statement of Position ("SOP") 93-6 of the American
Institute of Certified Public Accountants ("AICPA"); (ii) the effective
tax rate was 38% for such period; and (iii) only the ESOP shares committed
to be released were considered outstanding for purposes of the per share
net earnings. The pro forma stockholders' equity per share calculation
assumes all ESOP shares were outstanding, regardless of whether such
shares would have been released. Because Bancorp will be providing the
ESOP loan, only principal payments on the ESOP loan are reflected as
employee compensation and benefits expense. As a result, to the extent the
value of the shares appreciates over time, compensation expense related to
the ESOP will increase. For purposes of the preceding tables, it was
assumed that a ratable portion of the ESOP shares purchased in the
Conversion were committed to be released during the period ended December
31, 1996. See Note 5 below. If it is assumed that all of the ESOP shares
were included in the calculation of earnings per share for the period
ended at December 31, 1996, earnings per share would have been $.69, $.61,
$.56 and $.51 at December 31, 1996, respectively, based on the sale of
shares at the minimum, midpoint, maximum and the maximum, as adjusted, of
the EVR. See "Management Security Federal Savings Bank - Other Benefits -
Employee Stock Ownership Plan."
(2) Assumes issuance to the RSP of 19,720, 23,200, 26,680, and 30,680 shares
at the minimum, mid-point, maximum, and maximum, as adjusted of the EVR.
The assumption in the pro forma calculation is that (i) shares were
purchased by Bancorp following the Conversion, (ii) the purchase price for
the shares purchased by the RSP was equal to the purchase price of $10 per
share and (iii) 20% of the amount contributed was an amortized expense
during such period. Such amount does not reflect possible increases or
decreases in the value of such stock relative to the Purchase Price. As we
accrue compensation expense to reflect the five year vesting period of
such shares pursuant to the RSP, the charge against capital will be
reduced accordingly. Implementation of the RSP within one year of
Conversion would require regulatory and stockholder approval at a meeting
of our stockholders to be held no earlier than six months after the
Conversion. For purposes of this table, it is assumed that the RSP will be
adopted by the board of directors, reviewed by the OTS, and approved by
the stockholders, and that the RSP will purchase the shares in the open
market within the year following the Conversion. If the shares to be
purchased by the RSP are assumed at January 1, 1996, to be newly issued
shares purchased from Bancorp by the RSP at the Purchase Price, at the
minimum, midpoint, maximum and maximum, as adjusted, of the EVR, pro forma
stockholders' equity per share would have been $16.83, $15.55, $14.62, and
$13.82 at December 31, 1996, respectively, and pro forma earnings per
share would have been $.71, $.63, $.58, and $.53 for the year ended
December 31, 1996, respectively. As a result of the RSP, stockholders'
interests will be diluted by approximately 3.9%. See "Management of
Security Federal Savings Bank - Proposed Future Stock Benefit Plans -
Restricted Stock Plan."
9
(3) Assumes that following the consummation of the Conversion, Bancorp will
adopt the Option Plan, which if implemented within one year of Conversion
would be subject to regulatory review and board of director and
stockholder approval, and that such plan would be considered and voted
upon at a meeting of Bancorp stockholders to be held no earlier than six
months after the Conversion. Under the Option Plan, employees and
directors could be granted options to purchase an aggregate amount of
shares equal to 10% of the shares issued in the Conversion at an exercise
price equal to the market price of the shares on the date of grant. In the
event the shares issued under the Option Plan were awarded, the interests
of existing stockholders would be diluted. At the minimum, midpoint,
maximum and the maximum, as adjusted, of the EVR, if all shares under the
Option Plan were newly issued at the beginning of the respective periods
and the exercise price for the option shares were equal to the Purchase
Price, the number of outstanding shares would increase to 542,300,
638,000, 733,700, and 843,700, respectively, pro forma stockholders'
equity per share would have been $16.82, $15.61, $14.74, and $13.98 at
December 31, 1996, respectively, and pro forma earnings per share would
have been $.67, $.60, $.54, and $.49 at December 31, 1996, respectively.
(4) Consolidated stockholders' equity represents the excess of the carrying
value of the assets of the over its liabilities. The calculations are
based upon the number of shares issued in the Conversion, without giving
effect to SOP 93-6. The amounts shown do not reflect the federal income
tax consequences of the potential restoration to income of the tax bad
debt reserves for income tax purposes, which would be required in the
event of liquidation. The amounts shown also do not reflect the amounts
required to be distributed in the event of liquidation to eligible
depositors from the liquidation account which will be established upon the
consummation of the Conversion. Pro forma stockholders' equity information
is not intended to represent the fair market value of the shares, the
current value of our assets or liabilities or the amounts, if any, that
would be available for distribution to stockholders in the event of
liquidation. Such pro forma data may be materially affected by a change in
the number of shares to be sold in the Conversion and by other factors.
(5) Pro forma net income per share calculations include the number of shares
assumed to be sold in the Conversion and, in accordance with SOP 93-6,
exclude ESOP shares which would not have been released during the period.
Accordingly, 35,496, 41,760, 48,024, and 55,224 shares have been
subtracted from the shares assumed to be sold at the minimum, mid-point,
maximum, and maximum, as adjusted, of the EVR, respectively, and 3,944,
4,640, 5,336, and 6,136 shares are assumed to be outstanding at the
minimum, mid-point, maximum, and maximum, as adjusted of the EVR. See Note
1 above.
10
HISTORICAL AND PRO FORMA CAPITAL COMPLIANCE
The following table presents our historical and pro forma capital
position relative to its capital requirements as of December 31, 1996. For a
discussion of the assumptions underlying the pro forma capital calculations
presented below, see "Use of Proceeds," "Capitalization" and "Pro Forma Data."
The definitions of the terms used in the table are those provided in the capital
regulations issued by the OTS. For a discussion of the capital standards
applicable to us, see "Regulation -- Regulatory Capital Requirements."
Pro Forma(1)
-------------------------------------------------------------------------------
$4,930,000 $5,800,000 $6,670,000 $7,670,000
Historical Minimum Midpoint Maximum Maximum, as adjusted
------------------- ------------------- ------------------- ------------------- -------------------
Percent Percent Percent Percent Percent
Amount of Assets(2) Amount of Assets(2) Amount of Assets(2) Amount of Assets(2) Amount of Assets(2)
------ ------------ ------ ------------ ------ ------------ ------ ------------ ------ ------------
(Dollars in Thousands)
GAAP Capital.................... $4,676 10.04% $6,357 13.07% $6,680 13.62% $7,010 14.18% $7,390 14.81%
===== ===== ===== ===== ===== ===== ===== ===== ===== =====
Tangible Capital................ $4,784 10.25% $6,465 13.26% $6,788 13.81% $7,118 14.36% $7,498 14.99%
Tangible Capital Requirement.... 700 1.50 731 1.50 737 1.50 743 1.50 750 1.50
----- ----- ----- ------ ----- ----- ----- ------ ----- -----
Excess.......................... $4,084 8.75% $5,734 11.76% $6,051 12.31% $6,375 12.86% $6,748 13.49%
===== ==== ===== ===== ===== ===== ===== ===== ===== =====
Core Capital.................... $4,784 10.25% $6,465 13.26% $6,788 13.81% $7,118 14.36% $7,498 14.99%
Core Capital Requirement(3)..... 1,401 3.00 1,463 3.00 $1,475 3.00% 1,487 3.00% 1,500 3.00%
------ ----- ----- ----- ------ ------- ------- ------- ------- -------
Excess.......................... $3,383 7.25% $5,002 10.26% $5,313 10.81% $5,631 11.36% $5,998 11.99%
===== ==== ===== ===== ===== ===== ===== ====== ===== =====
Total Risk-Based Capital(4)..... $5,084 20.19% $6,765 26.43% $7,088 27.61% $7,418 28.81% $7,798 30.17%
Risk-Based Capital Requirement.. 2,014 8.00 2,047 8.00 2,054 8.00 2,060 8.00 2,067 8.00
----- ----- ----- ----- ----- ----- ----- ----- ----- -----
Excess.......................... $3,070 12.19% $4,718 18.43% $5,034 19.61% $ 5,358 20.81% $5,731 22.17%
===== ===== ===== ===== ===== ===== ====== ===== ===== =====
- -----------------
(1) Institutions must value available for sale debt securities at amortized
cost, rather than at fair value, for purposes of calculating regulatory
capital. Institutions are still required to comply with SFAS No. 115 for
financial reporting purposes. The pro forma data has been adjusted to
reflect reductions in capital that would result from an assumed 8%
purchase by the ESOP and 4% purchase by the RSP as of December 31, 1996.
It is assumed that Bancorp will retain 50% of net conversion proceeds. See
"Use of Proceeds."
(2) GAAP, adjusted, or risk-weighted assets as appropriate.
(3) The unrealized loss on securities available for sale of $108,000 has been
added to GAAP Capital to arrive at Tangible and Core Capital.
(4) Proposed regulations of the OTS could increase the core capital
requirement to a ratio between 4% and 5%, based upon an association's
regulatory examination rating. See "Regulation - Regulatory Capital
Requirements." Risk-Based Capital includes Tangible Capital plus $300,000
of the Bank's allowance for loan losses. Risk-weighted assets as of
December 31, 1996 totaled approximately $25.2 million. Net proceeds
available for investment by us are assumed to be invested in interest
earning assets that have a 20% risk-weighting.
11
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY
Consolidated Statements of Income
(in thousands)
Years Ended December 31,
----------------------------------
1995 1996
---- ----
Interest income:
Loans $ 2,782 $ 2,940
Mortgage-backed securities 441 379
Investments 95 90
Interest earning deposits 83 65
-------- --------
Total interest income 3,401 3,474
-------- --------
Interest expense:
Deposits 1,968 1,975
Federal Home Loan Bank advances 13 2
-------- --------
Total interest expense 1,981 1,977
-------- --------
Net interest income 1,420 1,497
Provision for loan losses 30 30
-------- --------
Net interest income after provision
for loan losses 1,390 1,467
-------- --------
Noninterest income:
Loan fees and service charges 139 145
Security losses - (2)
Other 13 13
-------- --------
Total noninterest income 152 156
-------- --------
Noninterest expenses:
Compensation 456 448
Employee benefits 99 59
Net occupancy expense 72 73
Deposit insurance premiums 91 357
Data processing 63 72
Other 176 195
-------- --------
Total noninterest expenses 957 1,204
-------- --------
Income before income taxes 585 419
Income tax expense 221 157
-------- --------
Net income $ 364 $ 262
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
12
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Management's discussion and analysis of financial condition and results of
operations is intended to assist you in understanding our financial condition
and results of operations. The information in this section should also be read
with our Consolidated Financial Statements and Notes to the Consolidated
Financial Statements elsewhere in this document.
Bancorp has recently been formed and accordingly, has no results of
operations. The following discussion relates only to our financial condition and
results of operations and our wholly owned subsidiary.
Our results of operations depend primarily on net interest income, which
is determined by (i) the difference between rates of interest we earn on our
interest-earning assets and the rates we pay on interest-bearing liabilities
(interest rate spread), and (ii) the relative amounts of interest -earning
assets and interest-bearing liabilities. Our results of operations are also
affected by non-interest income, including, primarily, income from customer
deposit account service charges, loan servicing fee income, gains and losses
from the sale of investments and mortgage-backed securities and non-interest
expense, including, primarily, compensation and employee benefits, federal
deposit insurance premiums, office occupancy costs, and data processing cost.
Our results of operations also are affected significantly by general and
economic and competitive conditions, particularly changes in market interest
rates, government policies and actions of regulatory authorities, which events
are beyond our control.
Asset/Liability Management
We seek to reduce our exposure to changes in interest rates by limiting
the maturity of fixed rate loans held in portfolio to no more than 15 years and
by maintaining an appropriate level of liquid assets. Our assets and liabilities
may be analyzed by examining the extent to which our assets and liabilities are
interest rate sensitive and by monitoring the expected effects of interest rate
changes on our net portfolio value.
An asset or liability is interest rate sensitive within a specific time
period, if it will mature or reprice within that time period. If our assets
mature or reprice more quickly or to a greater extent than our liabilities, our
net portfolio value and net interest income would tend to increase during
periods of rising interest rates but decrease during periods of falling interest
rates. Conversely, if our assets mature or reprice more slowly or to a lesser
extent than our liabilities, our net portfolio value and net interest income
would tend to decrease during periods of rising interest rates but increase
during periods of falling interest rates. Our policy has been to mitigate the
interest rate risk inherent in the historical savings institution business of
originating long-term loans funded by short-term deposits by pursuing certain
strategies designed to decrease the vulnerability of our earnings to material
and prolonged changes in interest rates.
Because of the lack of customer demand for adjustable rate loans in our
market area, we primarily originate fixed rate real estate loans with maturities
of no more than 15 years. To manage the interest rate risk of this type of loan
portfolio, we maintain an appropriate level of liquid assets. Maintaining an
appropriate level of liquid assets tends to reduce potential net income because
liquid assets usually provide a lower yield than longer term (i.e., less liquid)
assets. At December 31, 1996, the average weighted term to maturity of our
mortgage loan portfolio was slightly less than 12 years.
13
Net Portfolio Value
In recent years, we have measured our interest rate sensitivity by
computing the "gap" between the assets and liabilities which were expected to
mature or reprice within certain time periods, based on assumptions regarding
loan prepayment and deposit decay rates formerly provided by the OTS. However,
the OTS now requires the computation of amounts by which the net present value
of an institution's cash flow from assets, liabilities and off balance sheet
items (the institution's net portfolio value or "NPV") would change in the event
of a range of assumed changes in market interest rates. These computations
estimate the effect on an institution's NPV from instantaneous and permanent 1%
to 4% increases and decreases in market interest rates. Our board of directors
has adopted an interest rate risk policy which establishes maximum decreases in
our estimated NPV of 25%, 45%, 65% and 85% in the event of 1%, 2%, 3% and 4%
increases and decreases in market interest rates, respectively. At December 31,
1996, based on information provided by the OTS, it was estimated that our NPV
would decrease 17%, 34%, 52% and 68% and increase 29%, 22%, 19% and 13% in the
event of 1%, 2%, 3%, and 4% increases and decreases in market rates,
respectively. These calculations indicate that our net portfolio value could be
adversely affected by increases in interest rates but could be favorably
affected by decreases in interest rates. Changes in interest rates also may
affect our net interest income, while increases in rates expected to decrease
income and decreases in rates expected to increase income, our interest-bearing
liabilities would be expected to mature or reprice more quickly than our
interest-earning assets. In addition, we would be deemed to have more than a
normal level of interest rate risk under applicable regulatory capital
requirements.
While we cannot predict future interest rates or their effects on our NPV
or net interest income, we do not expect current interest rates to have a
material adverse effect on our NPV or net interest income in the future.
Computations of prospective effects of hypothetical interest rate changes are
based on numerous assumptions, including relative levels of market interest
rates, prepayments and deposit run- offs and should not be relied upon as
indicative of actual results. Certain shortcomings are inherent in such
computations. Although certain assets and liabilities may have similar maturity
or periods of repricing they may react at different times and in different
degrees to changes in the market interest rates. The interest rates on certain
types of assets and liabilities may fluctuate in advance of changes in market
interest rates, while rates on other types of assets and liabilities may lag
behind changes in market interest rates. Certain assets, such as adjustable rate
mortgages, generally have features which restrict changes in interest rates on a
short term basis and over the life of the asset. In the event of a change in
interest rates, prepayments and early withdrawal levels could deviate
significantly from those assumed in making calculations set forth above.
Additionally, an increased credit risk may result as the ability of many
borrowers to service their debt may decrease in the event of an interest rate
increase.
The board of directors is responsible for reviewing our asset and
liability policies. The board of directors meets quarterly to review interest
rate risk and trends, as well as liquidity and capital ratios and requirements.
Management is responsible for administering the policies and determinations of
the board of directors with respect to our asset and liability goals and
strategies. Management expects that our asset and liability policies and
strategies will continue as described above so long as competitive and
regulatory conditions in the financial institution industry and market interest
rates continue as they have in recent years.
14
Financial Condition
Total consolidated assets increased by $1.1 million or 2.4% from $45.5
million at December 31, 1995 to $46.6 million at December 31, 1996. Total
liabilities increased $847,000 or 2.1% at December 31, 1996 as compared to
December 31, 1995. The increase in assets for the period was primarily
attributable to the growth in our loan portfolio of $4.0 million which was the
result of increased loan demand generally due to economic growth in our primary
and secondary market areas. Loan growth was funded mainly from cash and
interest-earning deposits of approximately $876,000, net maturities and
repayments on investment and mortgage-backed securities of approximately $1.7
million and Federal Home Loan Bank advances of $800,000.
Results Of Operations for the Years Ending December 31, 1995 and 1996
Net Income. Net income decreased $102,000 or 28.0% from $364,000 for 1995
to $262,000 for 1996. The decrease was primarily the result of the recognition
of the one-time SAIF special insurance assessment in the amount of $164,000
(after taxes) which was partially offset by an increase in net interest income
of $77,000. Excluding the SAIF special assessment, net income would have
increased $62,000 or 17% from 1995.
Net Interest Income. Net interest income is the most significant component
of our income from operations. Net interest income is the difference between
interest we receive on our interest-earning assets (primarily loans, investment
and mortgage-backed securities) and interest we pay on our interest-bearing
liabilities (primarily deposits and borrowed funds). Net interest income depends
on the volume of and rates earned on interest-earning assets and the volume of
and rates paid on interest-bearing liabilities.
The following table sets forth a summary of average balances of assets and
liabilities with corresponding interest income and interest expense as well as
average yield and cost information. Average balances are derived from monthly
balances, however, we do not believe the use of month-end balances has caused
any material difference in the information presented. There have been no tax
equivalent adjustments made to the yields.
15
For the Years Ended December 31,
---------------------------------------------------------------
1995 1996
----------------------------- --------------------------------
Average Average Average Average
Balance Interest Yield/Cost Balance Interest Yield/Cost
------- -------- ---------- ------- -------- ----------
Interest-earning assets: (Dollars in Thousands)
Loans receivable(1)..................... $32,388 $2,782 8.59% $34,997 $2,940 8.40%
Investment securities .................. 1,419 71 5.00 1,353 64 4.73
Interest-earning deposits............... 1,729 83 4.80 1,267 65 5.13
Federal Home Loan Bank stock............ 355 24 6.76 380 26 6.84
Mortgage-backed securities.............. 7,627 441 5.78 6,558 379 5.78
------ ----- ----- ------
Total interest-earning assets............. 43,518 3,401 7.81 44,555 3,474 7.80
----- -----
Non-interest-earning assets............... 1,336 1,327
------ ------
Total assets $44,854 $45,882
====== ======
Interest-bearing liabilities:
Interest-bearing demand deposits........ $ 8,842 248 2.80 $ 9,136 232 2.54
Certificates of deposit................. 31,085 1,720 5.53 31,391 1,743 5.55
Short-term borrowings................... 158 13 8.23 36 2 5.56
------ ----- ----- -----
Total interest-bearing liabilities........ 40,085 1,981 4.94 40,563 1,977 4.88
----- -----
Non-interest bearing liabilities.......... 527 695
------ ------
Total Liabilities......................... 40,612 41,258
------ ------
Total equity.............................. 4,242 4,624
------ -----
Total liabilities and retained earnings... $44,854 $45,882
====== ======
Net interest income....................... $1,420 $1,497
===== =====
Interest rate spread (2).................. 2.87% 2.92%
Net yield on interest-earning assets (3).. 3.26% 3.36%
Ratio of average interest earning assets
average interest-bearing liabilities...... 108.56% 109.84%
- ---------------------------------
(1) Average balances include non-accrual loans.
(2) Interest rate spread represents the difference between the average yield
on interest-earning assets and the average cost of interest-bearing
liabilities.
(3) Net yield on interest-earning assets represents net interest income as a
percentage of average interest-earning assets.
16
The table below sets forth information regarding changes in our interest
income and interest expense for the periods indicated. For each category of our
interest-earning assets and interest-bearing liabilities, information is
provided on changes attributable to (i) changes in volume (changes in volume
multiplied by old rate); (ii) changes in rate (changes in rate multiplied by old
volume); (iii) changes in rate-volume (changes in rate multiplied by the change
in volume). Increases and decreases due to both rate and volume, which cannot be
segregated, have been allocated proportionately to the change due to volume and
change due to rate.
Year Ended December 31,
-------------------------------------------------------------------------
1995 vs. 1994 1996 vs. 1995
----------------------------------- -----------------------------------
Increase (Decrease) Increase (Decrease)
Due to Due to
----------------------------------- -----------------------------------
Rate/ Rate/
Volume Rate Volume Net Volume Rate Volume Net
------ ---- ------ --- ------ ---- ------ ---
(Dollars in Thousands)
Interest income:
Loans receivable................. $ 80 $(110) $ (4) $ (34) $224 $ (62) $ (4) $ 158
Mortgage-backed securities....... (67) 34 (4) (37) (62) - - (62)
Investment securities............ (7) 2 (1) (6) (2) (3) - (5)
Other interest-earning assets.... 100 (55) (30) 65 (22) 6 (2) (18)
--- ---- --- --- ----- ----- ---- ----
Total interest-earning assets... $106 $ (79) $(39) $ (12) $138 $ (59) $ (6) $ 73
=== ==== === === ==== ==== ==== ====
Interest expense:
Savings accounts................. $ 7 $ 441 $ 4 $ 452 $ 30 $ (24) $ 1 $ 7
Other liabilities................ (8) 15 (8) (1) (8) (4) 1 (11)
--- ---- --- --- ---- ----- ---- ----
Total interest-bearing
liabilities.................. $ (1) $ 456 $ (4) $ 451 $ 22 $ (28) $ 2 $ (4)
=== ==== === === ==== ==== ==== ====
Net change in interest income..... $107 $(535) $(35) $(463) $116 $ (31) $ (8) $ 77
=== ==== === ==== ==== ==== ==== ====
Our net interest income increased $77,000 or 5.4% to $1.5 million in 1996
compared to $1.4 million in 1995. The increase was due primarily to the growth
of average interest-earning assets from $43.5 million in 1995 to $44.6 million
in 1996. In addition, our interest rate spread increased from 2.87% in 1995 to
2.92% in 1996 and our net interest margin increased from 3.26% in 1995 to 3.36%
for 1996.
The increase in our average interest-earning assets of $1.0 million
reflects an increase of $2.6 million in average loans, a decrease of $1.0
million in average mortgage-backed securities and a decrease of $462,000 in
average interest-earning deposits.
Our interest rate spread and net interest margin increased in 1996
compared to 1995. This was due to the decrease in the yield on average
interest-earning assets from 7.82% in 1995 to 7.80% in 1996 exceeding the
decrease in the interest cost of average interest bearing liabilities from 4.94%
in 1995 to 4.87% in 1996.
The yield on our average interest-earning assets decreased in 1996 due to
a decline in the yield on loans and investment securities. As general market
rates of interest were relatively stable during 1995
17
and 1996, the decline in the yield on our loans in 1996 reflected the impact of
competition for new loan originations. The decline in yield on our investment
securities reflected the investment of the proceeds received from the maturities
of those securities at lower interest rates.
The decrease in the cost of our average interest-bearing liabilities was
due primarily to decreases in the cost of interest-bearing demand deposits from
2.80% in 1995 to 2.54% in 1996 and short-term borrowings from 8.33% in 1995 to
5.56% in 1996 offset partially by an increase in the cost of certificates of
deposit from 5.53% in 1995 to 5.55% in 1996 and an increase in the average
balance of $306,000. The lower cost of demand deposits reflects our reduction of
deposit rates to match the decrease in interest rates during 1996 and the
decrease in cost of borrowings reflects the reduction in average advances from
the Federal Home Loan Bank and the decrease in interest rates.
Provision for Loan Losses. Our provision for loan losses for both 1995 and
1996 was $30,000. Historically, we have emphasized our loss experience over
other factors in establishing the provision for loan losses. We review the
allowance for loan losses in relation to: (i) the composition of our loan
portfolio, (ii) observations of the general economic climate and (iii) loan loss
expectations. Our ratio of the allowance for loan losses to non-performing loans
was 134.8% at December 31, 1995 and 97.7% at December 31, 1996. Our allowance as
a percentage of total loans outstanding at December 31, 1995 and 1996 was .83%
and .80%, respectively.
Non-Interest Income. Our non-interest income increased approximately
$4,000 in 1996 as compared to 1995. Loan fees and service charges on customers'
accounts increased by approximately $6,000 which was offset by a $2,000 loss
incurred on the sale of mortgage-backed securities.
Non-Interest Expense. Our non-interest expense increased by $247,000 or
25.8% from $957,000 for 1995 to $1.2 million for 1996. The increase was
primarily attributable to the one-time special SAIF assessment of $264,000.
Pursuant to the Economic Growth and Paperwork Reduction Act of 1996 (the "Act"),
the FDIC imposed a special assessment on SAIF members to capitalize the SAIF at
the designated reserve level of 1.25% as of October 1, 1996. Based on our
deposits as of March 31, 1995, the date for measuring the amount of the special
assessment pursuant to the Act, our special assessment was $264,000. Due to the
recapitalization of the SAIF, we expect lower premiums for deposit insurance in
future periods. See "Regulation - Savings Institution - Federal Deposit
Insurance Corporation."
Pursuant to the Act, we will pay, in addition to our normal deposit
insurance premium as a member of the SAIF, an annual amount equal to
approximately 6.4 basis points of outstanding SAIF deposits toward the
retirement of the Financing Corporation Bonds ("Fico Bonds") issued in the
1980's to assist in the recovery of the savings and loan industry. Members of
the Bank Insurance Fund ("BIF"), by contrast, will pay, in addition to their
normal deposit insurance premium, approximately 1.3 basis points. Beginning no
later than January 1, 2000, the rate paid to retire the Fico Bonds will be equal
for members of the BIF and the SAIF. The Act also provides for the merging of
the BIF and the SAIF by January 1, 1999 provided there are no financial
institutions still chartered as savings associations at that time. Should the
insurance funds be merged before January 1, 2000, the rate paid by all members
of this new fund to retire the Fico Bonds would be equal. See also "Regulation -
Savings Institution Regulation- Insurance of Deposit Accounts."
In addition, our employee benefits decreased by $40,000 in 1996 compared
to 1995. We changed group insurance carriers which reduced this expense by
approximately $18,000. Retirement plan expense decreased $17,000 due to
available plan forfeitures which could be used to fund a portion of our
contribution in 1996.
18
Income Tax Expense. Our income tax expense for 1996 was $157,000 compared
to $221,000 for 1995. The $64,000 decrease was the result of pre-tax income
decreasing by $166,000.
Liquidity and Capital Resources
We are required to maintain minimum levels of liquid assets as defined by
OTS regulations. This requirement, which varies from time to time depending upon
economic conditions and deposit flows, is based upon a percentage of our
deposits and short term borrowings. The required ratio currently is 5.0% and our
liquidity ratio average was 9.52% and 5.08% at December 31, 1995 and 1996,
respectively. The decrease in our average liquidity rate at December 31, 1996
was the result of the one-time SAIF assessment and the increase in loan growth.
It is our belief that upon completion of the Conversion our liquidity ratio will
increase.
Our primary sources of funds are deposits, repayment of loans and
mortgage-backed securities, maturities of investments and interest-bearing
deposits, funds provided from operations and advances from the FHLB of
Cincinnati. While scheduled repayments of loans and mortgage-backed securities
and maturities of investment securities are predicable sources of funds, deposit
flows and loan prepayments are greatly influenced by the general level of
interest rates, economic conditions and competition. We use our liquidity
resources principally to fund existing and future loan commitments, to fund
maturing certificates of deposit and demand deposit withdrawals, to invest in
other interest-earning assets, to maintain liquidity, and to meet operating
expenses.
Net cash provided by our operating activities for the year ended December
31, 1996 was $338,000 as compared to $559,000 for the year ended December 31,
1995.
Net cash used in our investing activities for the year ended December 31,
1996 totalled $2.6 million, an increase of $3.0 million from December 31, 1995.
The increase was primarily attributable to our use of $3.0 million in cash to
fund the increase in loan originations of $3.5 million.
Net cash provided by our financing activities for 1996 totalled $899,000.
This is a result of a net increase in deposits of $128,000, an increase in net
advances from the FHLB of $800,000 offset by a decrease in advance payments by
borrowers of $29,000. Approximately $500,000 of net advances from the FHLB were
used to fund the loan growth.
Net cash provided by our financing activities for 1995 totalled $653,000.
This was the result of a net increase in deposits of $1.3 million, an increase
in advance payments by borrowers of $17,000 offset by repayments of FHLB
advances of $700,000.
Liquidity may be adversely affected by unexpected deposit outflows,
excessive interest rates paid by competitors, adverse publicity relating to the
savings and loan industry, and similar matters. Further, the disparity in Fico
Bond interest payments as described herein could result in us losing deposits to
BIF members that have lower costs of funds and therefore are able to pay higher
rates of interest on deposits. Management monitors projected liquidity needs and
determines the level desirable, based in part on our commitments to make loans
and management's assessment of our ability to generate funds.
We are subject to federal regulations that impose certain minimum capital
requirements. For a discussion on such capital levels, see "Historical and Pro
Forma Capital Compliance" and "Regulation Regulatory Capital Requirements."
19
Impact of Inflation and Changing Prices
Our consolidated financial statements and the accompanying notes presented
elsewhere in this document, have been prepared in accordance with generally
accepted accounting principles, which require the measurement of financial
position and operating results in terms of historical dollars without
considering the change in the relative purchasing power of money over time and
due to inflation. The impact of inflation is reflected in the increased cost of
our operations. As a result, interest rates have a greater impact on our
performance than do the effects of general levels of inflation. Interest rates
do not necessarily move in the same direction or to the same extent as the
prices of goods and services.
Recent Accounting Pronouncements
FASB Statement on Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed of. In March 1995, the Financial Accounting
Standards Board ("FASB") issued Statement of Financial Accounting Standard
("SFAS") No. 121, which became effective for fiscal years beginning after
December 15, 1995. This Statement requires that long-lived assets and certain
identifiable intangibles to be held and used by an entity be reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable. Recoverability is evaluated
based upon the estimated future cash flows expected to result from the use of
the asset and its eventual disposition. If expected cash flows are less than the
carrying amount of the asset, an impairment loss is recognized. Additionally,
this Statement requires that long-lived assets and certain identifiable
intangibles to be disposed of be reported at the lower of carrying amount or
fair value less cost to sell. The adoption of SFAS No. 121 had no material
effect on our financial condition or results of operation.
FASB Statement on Accounting for Stock-Based Compensation. In October
1995, the FASB issued SFAS No. 123. SFAS No. 123 defines a "fair value based
method" of accounting for an employee stock option whereby compensation cost is
measured at the grant date based on the value of the award and is recognized
over the service period. FASB has encouraged all entities to adopt the fair
value based method, however, it will allow entities to continue the use of the
"intrinsic value based method" prescribed by Accounting Principles Board ("APB")
Opinion No. 25. Under the intrinsic value based method, compensation cost is the
excess of the market price of the stock at the grant date over the amount an
employee must pay to acquire the stock. However, most stock option plans have no
intrinsic value at the grant date and, as such, no compensation cost is
recognized under APB Opinion No. 25. Entities electing to continue use of the
accounting treatment of APB Opinion No. 25 must make certain pro forma
disclosures as if the fair value based method had been applied. The accounting
requirements of SFAS No. 123 are effective for transactions entered into in
fiscal years beginning after December 15, 1995. Pro forma disclosures must
include the effects of all awards granted in fiscal years beginnings after
December 15, 1994. We will continue to use the "intrinsic value based method" as
prescribed by APB Opinion No. 25. Accordingly, we do not believe the impact of
adopting SFAS' No. 123 will be material to our financial statements.
FASB Statement on Accounting for Transfers and Servicing of Financial
Assets and Extinguishment of Liabilities. In June 1996, FASB issued SFAS No.
125, which will be effective, on a prospective basis, for fiscal years beginning
after December 31, 1996. SFAS No. 125 provides accounting and reporting
standards for transfers and servicing of financial assets and extinguishment of
liabilities based on consistent application of a financial-components approach
that focuses on control. SFAS No. 125 extends the "available for sale" and
"trading" approach of SFAS No. 115 to non-security financial assets that can be
contractually prepaid or otherwise settled in such a way that the holder of the
asset would not recover
20
substantially all of its recorded investment. In addition, SFAS No. 125 amends
SFAS No. 115 to prevent a security from being classified as held to maturity if
the security can be prepaid or settled in such a manner that the holder of the
security would not recover substantially all of its recorded investment. The
extension of the SFAS No. 115 approach to certain non-security financial assets
and the amendment to SFAS No. 115 are effective for financial assets held on or
acquired after January 1, 1997. The FASB has proposed to defer the effective
date of SFAS No. 125 until January 1, 1998 for certain transactions including
repurchase agreements, dollar-roll, securities lending and similar transactions.
We have not yet determined the effect, if any, SFAS No. 125 will have on our
financial statements.
In November 1993, the American Institute of Certified Public Accountants
("AICPA") issued SOP 93-6 Employers' Accounting for Employee Stock Ownership
Plan. SOP 93-6 addresses accounting for shares of stock issued to employees by
an employee stock ownership plan. SOP 93-6 requires that the employer record
compensation expense in an amount equal to the fair value of shares committed to
be released from the ESOP to employees. SOP 93-6 is effective for fiscal years
beginning after December 15, 1993 and relates to shares purchased by an ESOP
after December 31, 1992. If the common stock appreciates over time, SOP 93-6
will increase compensation expense relative to the ESOP, as compared with prior
guidance that required recognition of compensation expense based on the cost of
the shares acquired by the ESOP. The amount of any such increase, however,
cannot be determined at this time because the expense will be based on the fair
value of the shares committed to be released to employees, which amount is not
determinable. See "Pro Forma Data."
BUSINESS OF SFB BANCORP, INC.
Bancorp is not an operating company and has not engaged in any significant
business to date. It was formed in March 1997, as a Tennessee Corporation to be
the holding company for Security Federal Savings Bank. The holding company
structure and retention of proceeds will facilitate: (i) diversification into
non-banking activities, (ii) acquisitions of other financial institutions, such
as savings institutions, (iii) expansion within existing and into new market
areas and (iv) stock repurchases without adverse tax consequences. There are no
present plans regarding diversification, acquisitions or expansion.
We have operated as an independent community oriented savings association
since 1963. It is our intention to continue to operate as an independent
community oriented savings association following the Conversion.
Since Bancorp will own only one savings association, it generally will not
be restricted in the types of business activities in which it may engage;
provided, that we retain a specified amount of our assets in housing-related
investments. Bancorp initially will not conduct any active business and does not
intend to employ any persons other than officers but will utilize our support
staff from time to time.
The office of the Bancorp is located at 632 East Elk Avenue, Elizabethton,
Tennessee. The telephone number is (423) 543-3518.
21
BUSINESS OF SECURITY FEDERAL SAVINGS BANK
The principal sources of funds for our activities are deposits, payments
on loans and borrowings from the FHLB of Cincinnati. Our deposits totaled $40.8
million at December 31, 1996. Funds are used principally for the origination of
loans secured by first mortgages on one- to four-family residences which are
located in our market area. Such loans totalled $29.7 million, or 77.67%, of our
total loans receivable portfolio at December 31, 1996. Our principal source of
revenue is interest received on loans and our principal expense is interest paid
on deposits.
Market Area
Our primary market area consists of Carter County, and our secondary
market area consists of the adjacent counties of Johnson, Unicoi, Washington and
Sullivan, Tennessee. Elizabethton is considered to be part of the greater
Tri-Cities (Kingsport, Johnson City, Bristol), Tennessee area. The Tri-Cities'
area economy is based on a mixture of agriculture (primarily tobacco, small
grains and cattle) and manufacturing (primarily chemical, textiles, metal
products and small industries), as well as a variety of service, wholesale and
retail businesses and governmental agencies. Eastman Chemical which is based in
Kingsport, is the state of Tennessee's largest employer.
Carter County has not experienced significant growth in recent years;
however, the adjacent counties of Johnson, Unicoi, Washington, and Sullivan,
have experienced significant growth and have expanding economies.
Economic growth in our market area remains dependent upon the local
economy. In addition, our deposit and loan activity is significantly affected by
economic conditions in our market area. Based on our primary market area's
semi-rural location and stable demographics, we expect our market area to be
relatively stable in the future. We will look to the adjacent counties for
economic progress and opportunities.
Lending Activities
Most of our loans are mortgage loans which are secured by one- to
four-family residences. We also make consumer, land acquisition, residential
construction, commercial real estate and commercial business loans.
At December 31, 1996, the loans totalled $38.2 million of which $29.7
million were mortgage loans secured by one-to four-family residences. Loans
originated by us primarily have rates of interest which are fixed for the term
of the loan ("fixed rate"). To a much lesser extent, we originate loans with
rates of interest which may adjust from period to period during the term of the
loan ("adjustable rate").
To date, we neither purchased nor sold loans.
22
The following table sets forth information concerning the types of loans
held by us.
At December 31,
--------------------------------------------
1995 1996
------------------- -------------------
Amount Percent Amount Percent
------ ------- ------ -------
(Dollars in Thousands)
Type of Loans:
Real Estate Loans:
One- to four- family ................ $26,396 78.53% $29,653 77.67%
Construction......................... 724 2.15 1,125 2.95
Commercial........................... 1,173 3.49 1,288 3.37
Multi-family residential............. 780 2.32 912 2.39
Land................................. 1,534 4.56 1,732 4.54
Commercial business loans.............. 660 1.96 558 1.46
Consumer Loans:
Automobile loans..................... 1,455 4.33 1,949 5.11
Other................................ 477 1.43 524 1.37
Share loans.......................... 414 1.23 435 1.14
------- ------- ------- -------
Total loans...................... 33,613 100.00% 38,176 100.00%
====== ======
Less:
Loans in process..................... 447 942
Deferred loan origination fees....... 105 122
Allowance of loan losses ............ 279 304
------- -------
Total loans, net.................. $32,782 $36,808
====== ======
23
The following table sets forth the estimated maturity of our loan
portfolio at December 31, 1996. The table does not include the effects of
possible prepayments or scheduled repayments. All mortgage loans are shown as
maturing based on the date of the last payment required by the loan agreement.
Real Estate Loans
----------------------------------------------------------------
Commercial
One- to four- Business
Family Multi-family and
Residential Construction Commercial Residential Land Consumer Total
----------- ------------ ---------- ----------- ---- -------- -----
(In Thousands)
Amounts due:
Within 1 year........... $ 24 $ 303 $ 17 $ - $ 704 $1,138 $2,186
Over 1 to 2 years....... 51 - - - 141 316 508
Over 2 to 3 years....... 169 - - - 163 579 911
Over 3 to 5 years....... 809 - 9 - 490 1,383 2,691
Over 5 to 10 years...... 4,521 135 663 832 234 50 6,435
Over 10 to 20 years..... 22,842 687 599 80 - - 24,208
Over 20 years........... 1,237 - - - - - 1,237
------ ------- ------- -------- ------- ------- -------
Total amount due........ $29,653 $1,125 $1,288 $ 912 $1,732 $3,466 $38,176
====== ===== ===== ======= ===== ===== ======
The following table sets forth the dollar amount of all loans which final
payment is not due until after December 31, 1997. The table also shows the
amount of loans which have fixed rates of interest and those which have
adjustable rates of interest.
Fixed Rates Adjustable Rates Total
----------- ---------------- -----
(In Thousands)
Real Estate Loans:
One- to four-family
residential.......... $26,895 $2,734 $29,629
Construction........... 822 - 822
Commercial real estate. 984 287 1,271
Multi-family residential 796 116 912
Land loans............. 915 113 1,028
Commercial business and
consumer............... 2,304 24 2,328
------ ------ ------
Total.................. $32,716 $3,274 $35,990
====== ===== ======
24
The following table contains information concerning changes in the amount
of mortgage loans held by us.
For the Years Ended
December 31,
-------------------
1995 1996
---- ----
(In Thousands)
Total mortgage loans receivable at beginning
of period.................................. $30,187 $30,607
Mortgage loans originated:
One- to four-family residential............ 3,643 4,683
Construction............................... 764 1,984
Commercial................................. 149 293
Multi-family............................... 166 116
Land....................................... 489 705
------- -------
Total mortgage loans originated.............. 5,211 7,781
------- -------
Mortgage loan principal repayments........... (4,791) (3,618)
Other........................................ - (60)
-------- -------
Net loan activity............................ 420 4,103
------- -------
Total mortgage loans receivable at end of
period.................................... $30,607 $34,710
====== ======
One- to Four-Family Residential Loans. Our primary lending activity
consists of the origination of one- to four-family residential mortgage loans
secured by property located in our primary market area. We generally originate
one- to four-family residential mortgage loans in amounts up to 95% of the
lesser of the appraised value or purchase price, with private mortgage insurance
required on loans with a loan-to-value ratio in excess of 90%. The maximum
loan-to-value ratio on mortgage loans secured by nonowner occupied properties
generally is limited to 80%. We primarily originate and retain fixed rate
balloon loans having terms of up to 15 years, with principal and interest
payments calculated using up to a 30-year amortization period.
We also offer adjustable-rate mortgage ("ARM") loans. The interest rate on
ARM loans is based on an index plus a stated margin. We may offer low initial
interest rates ("teaser rates") on ARM loans but we require that the borrower
qualify for the ARM loan at the fully indexed rate (the index rate plus the
margin). ARM loans provide for periodic interest rate adjustments upward or
downward of up to 2% per year . The interest rate may not increase more than 5%
over the life of the loan and may not decrease below the original interest rate.
ARM loans typically reprice every year and provide for terms of up to 30 years
with most loans having terms of between 15 and 30 years. ARM loans are offered
to all applicants; however, consumer preference in our market area for ARM loans
has been weak.
ARM loans decrease the risk associated with changes in interest rates by
periodically repricing, but involve other risks because as interest rates
increase, the underlying payments by the borrower increase, thus increasing the
potential for default by the borrower. At the same time, the marketability of
the underlying collateral may be adversely affected by higher interest rates.
Upward adjustment of
25
the contractual interest rate is also limited by the maximum periodic and
lifetime interest rate adjustment permitted by the loan documents, and,
therefore is potentially limited in effectiveness during periods of rapidly
rising interest rates. At December 31, 1996, less than 10% of our one- to
four-family residential loans we hold had adjustable rates of interest.
Mortgage loans originated and held by us generally include due-on-sale
clauses. This gives us the right to deem the loan immediately due and payable in
the event the borrower transfers ownership of the property securing the mortgage
loan without our consent.
Residential Construction Loans. We make residential construction loans on
one- to four-family residential property to the individuals who will be the
owners and occupants upon completion of construction. These loans are made on a
long term basis and are classified as construction/permanent loans. Usually no
principal payments are required during the first six to eight months. After that
time, the payments are set at an amount that will pay off the amount of the loan
over the term of the loan. The maximum loan to value ratio is 95%. Because
residential construction loans are not rewritten if permanent financing is
obtained from us, these loans are made on terms similar to those of our single
family residential loans and may be paid off over terms of up to 30 years, with
payments in full due within 15 years.
We also originate speculative loans to residential builders who have
established business relationships with us. These speculative loans typically
are made for a term of twelve months and may not require principal payments
during the term of the loan. In underwriting such loans, we consider the number
of units that the builder has on a speculative bid basis that remain unsold. Our
experience has been that most speculative loans are repaid well within the
twelve month period. Speculative loans are generally originated with a loan to
value ratio that does not exceed 80%.
Construction lending is generally considered to involve a higher degree of
credit risk than long-term financing of residential properties. Our risk of loss
on a construction loan is dependent largely upon the accuracy of the initial
estimate of the property's value at completion of construction and the estimated
cost of construction. If the estimate of construction cost and the marketability
of the property upon completion of the project prove to be inaccurate, we may be
compelled to advance additional funds to complete the construction. Furthermore,
if the final value of the completed property is less than the estimated amount,
the value of the property might not be sufficient to assure the repayment of the
loan. For speculative loans we originate to builders, the ability of the builder
to sell completed dwelling units will depend, among other things, on demand,
pricing and availability of comparable properties, and general economic
conditions.
Commercial and Multi-Family Loans. Our commercial real estate loans are
secured by churches, office buildings, and other commercial properties.
Multi-family loans are secured by apartment and condominium buildings. These
loans generally have not exceeded $250,000 or had terms greater than 10 years.
Commercial and multi-family real estate lending entails significant
additional risks compared to residential property lending. These loans typically
involve large loan balances to single borrowers or groups of related borrowers.
The repayment of these loans typically is dependent on the successful operation
of the real estate project securing the loan. These risks can be significantly
affected by supply and demand conditions in the market for office and retail
space and may also be subject to adverse conditions in the economy. To minimize
these risks, we generally limit this type of lending to our market area and to
borrowers who are otherwise well known to us.
26
Commercial Business Loans. We offer commercial business loans to benefit
from the higher fees and interest rates and the shorter term to maturity. Our
commercial business loans consist of equipment, lines of credit and other
business purpose loans, which generally are secured by either the underlying
properties or by the personal guarantees of the borrower.
Unlike residential mortgage loans, which generally are made on the basis
of the borrower's ability to make repayment from his or her employment and other
income and which are secured by real property whose value tends to be more
easily ascertainable, commercial business loans typically are made on the basis
of the borrower's ability to make repayment from the cash flow of the borrower's
business. As a result, the availability of funds for the repayment of commercial
business loans may be substantially dependent on the success of the business
itself and the general economic environment.
Consumer Loans. We offer consumer loans in order to provide a wider range
of financial services to our customers. Consumer loans totalled $2.9 million, or
7.62% of our total loans at December 31, 1996. Our consumer loans consist of
home equity, automobile, farm, mobile home, and demand loans secured by savings
deposit accounts.
Consumer loans may entail greater risk than residential mortgage loans,
particularly in the case of consumer loans that are unsecured or secured by
assets that depreciate rapidly. Repossessed collateral for a defaulted consumer
loan may not be sufficient for repayment of the outstanding loan, and the
remaining deficiency may not be collectible.
Loan Approval Authority and Underwriting. Mr. Hampton, our President, has
unlimited loan authority. The loan committee ratifies all 15 year fixed rate
residential mortgage loans of $25,000 or more and all consumer loans. Commercial
real estate loans and commercial business loans generally are approved in
advance by the loan committee.
Upon receipt of a completed loan application from a prospective borrower,
a credit report is ordered. Income and certain other information is verified. If
necessary, additional financial information may be requested. An appraisal or
statement of the value of the real estate intended to be used as security for
the proposed loan is obtained. Appraisals are processed by Director Crockett and
Mr. McCutcheon, an outside fee appraiser. During 1996, appraisal fees of
approximately $15,000 were paid to Director Crockett by us.
Construction/permanent loans are made on individual properties. Funds
advanced during the construction phase are held in a loans-in-process account
and disbursed at various stages of completion, following physical inspection of
the construction by a loan officer or appraiser.
Either title insurance or a title opinion is generally required on all
real estate loans. Borrowers also must obtain fire and casualty insurance. Flood
insurance is also required on loans secured by property which is located in a
flood zone.
Loan Commitments. Verbal commitments are given to prospective borrowers on
all approved real estate loans. Generally, the commitment requires acceptance
within 30 days of the date of issuance. At December 31, 1996, commitments to
cover originations of mortgage loans and consumer loans were $765,000 and
$400,000, respectively, and undisbursed funds for loans-in-process were
$942,000. We believe that virtually all of our commitments will be funded.
27
Loans to One Borrower. The maximum amount of loans which we may make to
any one borrower may not exceed the greater of $500,000 or 15% of our unimpaired
capital and unimpaired surplus. We may lend an additional 10% of our unimpaired
capital and unimpaired surplus if the loan is fully secured by readily
marketable collateral. Our maximum loan-to-one borrower limit was approximately
$700,000 at December 31, 1996. At December 31, 1996, the aggregate loans
outstanding to our three largest borrowers, in excess of $250,000, were
approximately $433,000, $429,000 and $354,000, respectively. As of that date,
these loans were secured loans and each of these loans were performing loans and
within our lending limits.
Nonperforming and Problem Assets
Loan Delinquencies. When a mortgage loan becomes 30 days past due, a
notice of nonpayment is sent to the borrower. If, after 60 days, payment is
still delinquent, the borrower will receive a letter and/or telephone call from
us and may receive a visit from one of our representatives. If the loan
continues in a delinquent status for 90 days past due and no repayment plan is
in effect, a notice of right to cure default is sent to the borrower giving 30
additional days to bring the loan current before foreclosure is commenced. Our
loan committee meets regularly to determine when foreclosure proceedings should
be initiated. The customer will be notified when foreclosure is commenced. At
December 31, 1996, our loans past due between 60 and 89 days totalled $555,000.
Loans are reviewed on a monthly basis and are generally placed on a
non-accrual status when the loan becomes more than 90 days delinquent or when,
in our opinion, the collection of additional interest is doubtful. Interest
accrued and unpaid at the time a loan is placed on nonaccrual status is charged
against interest income. Subsequent interest payments, if any, are either
applied to the outstanding principal balance or recorded as interest income,
depending on the assessment of the ultimate collectibility of the loan.
28
Nonperforming Assets. The following table sets forth information regarding
nonaccrual loans and real estate owned. As of the dates indicated, we had no
loans categorized as troubled debt restructurings within the meaning of SFAS 15.
At December 31,
------------------
1995 1996
---- ----
(Dollars in Thousands)
Loans accounted for on a nonaccrual basis:
Real estate loans:
One- to four-family residential........ $197 $235
Commercial............................. - 60
Consumer................................. 10 16
---- ----
Total nonaccrual loans............... 207 311
Accruing loans which are contractually
past due 90 days or more............... - -
----- -----
Total nonperforming loans............ 207 311
Real estate owned........................ - 60
---- ----
Total nonperforming assets............... $207 $371
=== ===
Nonaccrual and 90 days past due as a
percentage of net loans................ 0.63% 0.84%
Nonaccrual and 90 days past due as a
percentage of total assets............. 0.46% 0.67%
Total nonperforming assets as a
percentage of total assets............. 0.46% 0.80%
Interest income that would have been recorded on loans accounted for on a
nonaccrual basis under the original terms of such loans was immaterial for the
years ended December 31, 1995 and December 31, 1996, respectively.
Classified Assets. OTS regulations provide for a classification system for
problem assets of savings associations which covers all problem assets. Under
this classification system, problem assets of savings associations such as ours
are classified as "substandard," "doubtful," or "loss." An asset is considered
substandard if it is inadequately protected by the current net worth and paying
capacity of the borrower or of the collateral pledged, if any. Substandard
assets include those characterized by the "distinct possibility" that the
savings association will sustain "some loss" if the deficiencies are not
corrected. Assets classified as doubtful have all of the weaknesses inherent in
those classified substandard, with the added characteristic that the weaknesses
present make "collection or liquidation in full," on the basis of currently
existing facts, conditions, and values, "highly questionable and improbable."
Assets classified as loss are those considered "uncollectible" and of such
little value that their continuance as assets without the establishment of a
specific loss reserve is not warranted. Assets may be designated "special
mention" because of potential weakness that do not currently warrant
classification in one of the aforementioned categories.
29
When a savings association classifies problem assets as either substandard
or doubtful, it may establish general allowances for loan losses in an amount
deemed prudent by management. General allowances represent loss allowances which
have been established to recognize the inherent risk associated with lending
activities, but which, unlike specific allowances, have not been allocated to
particular problem assets. When a savings association classifies problem assets
as loss, it is required either to establish a specific allowance for losses
equal to 100% of that portion of the asset so classified or to charge off such
amount. A savings association's determination as to the classification of its
assets and the amount of its valuation allowances is subject to review by the
OTS, which may order the establishment of additional general or specific loss
allowances. A portion of general loss allowances established to cover possible
losses related to assets classified as substandard or doubtful may be included
in determining a savings association's regulatory capital. Specific valuation
allowances for loan losses generally do not qualify as regulatory capital.
At December 31, 1996, no assets were classified as doubtful or loss but
loans were classified as substandard and special mention in amounts equal to
$349,000 and $11,000, respectively.
Foreclosed Real Estate. Real estate acquired by us as a result of
foreclosure is recorded as "real estate owned" until such time as it is sold.
When real estate owned is acquired, it is recorded at the lower of the unpaid
principal balance of the related loan or its fair value less disposal costs. Any
write-down of real estate owned is charged to operations. At December 31, 1996,
real estate owned was $60,000.
Allowances for Loan Losses. Our policy is to provide for losses on
unidentified loans in our loan portfolio. A provision for loan losses is charged
to operations based on management's evaluation of the potential losses that may
be incurred in our loan portfolio. The evaluation, including a review of all
loans on which full collectibility of interest and principal may not be
reasonably assured, considers: (i) our past loan loss experience, (ii) known and
inherent risks in our portfolio, (iii) adverse situations that may affect the
borrower's ability to repay, (iv) the estimated value of any underlying
collateral, and (v) current economic conditions.
We will continue to monitor our allowance for loan losses and make future
additions to the allowance as economic conditions dictate. Although we maintain
our allowance for loan losses at a level that we consider adequate for the
inherent risk of loss in our loan portfolio, future losses could exceed
estimated amounts and additional provisions for loan losses could be required.
In addition, our determination as to the amount of its allowance for loan losses
is subject to review by the OTS, as part of its examination process. After a
review of the information available, the OTS might require the establishment of
an additional allowance.
The following table illustrates the allocation of the allowance for loan
losses for each category of loan. The allocation of the allowance to each
category is not necessarily indicative of future loss in any particular category
and does not restrict our use of the allowance to absorb losses in other loan
categories.
30
At December 31,
-----------------------------------------------------
1995 1996
------------------------- --------------------------
Percent of Percent of
Loans in Each Loans in Each
Category to Category to
Amount Total Loans Amount Total Loans
------ ----------- ------ -----------
(Dollars in Thousands)
Real estate loans:
One- to four-family residential $134 78.53% $144 77.67%
Construction.................. 15 2.15 20 2.95
Commercial.................... 40 3.49 45 3.37
Multi-family residential...... 15 2.32 20 2.39
Land.......................... 25 4.56 25 4.54
Commercial business and consumer 50 8.95 50 9.08
----- ------ --- ------
Total allowance for loan losses $279 100.00% $304 100.00%
=== ====== === ======
The following table sets forth information with respect to our allowance
for loan losses at the dates and for the periods indicated:
At December 31,
--------------------
1995 1996
------- -------
(Dollars in Thousands)
Total loans outstanding................... $33,614 $38,176
====== ======
Average loans outstanding................. $33,178 $36,437
====== ======
Allowance at beginning of period.......... $250 $279
Provision................................. 30 30
Recoveries................................ - -
Charge-offs............................... (1) (5)
--- ---
Allowance at end of period................ $279 $304
=== ===
Allowance for loan losses as a percent of
total loans outstanding................. 0.83% 0.80%
Net loans charged off as percent of
average loans outstanding............... - -
Ratio of allowance to nonperforming loans. 134.8 97.7
31
Investment Activities
Investment Securities. We are required under federal regulations to
maintain a minimum amount of liquid assets which may be invested in specified
short term securities and certain other investments. See "Regulation - Federal
Home Loan Bank System" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Liquidity and Capital Resources." The
level of liquid assets varies depending upon several factors, including: (i) the
yields on investment alternatives, (ii) our judgment as to the attractiveness of
the yields then available in relation to other opportunities, (iii) expectation
of future yield levels, and (iv) our projections as to the short term demand for
funds to be used in loan origination and other activities. We classify our
investment securities as "available for sale" or "held to maturity" in
accordance with SFAS No. 115. At December 31, 1996, our investment portfolio
policy allowed investments in instruments such as: (i) U.S. Treasury
obligations, (ii) U.S. federal agency or federally sponsored agency obligations,
(iii) local municipal obligations, (iv) mortgage-backed securities, (v) banker's
acceptances, (vi) certificates of deposit, (vii) federal funds, including FHLB
overnight and term deposits (up to six months), and (viii) investment grade
corporate bonds, commercial paper and mortgage derivative products. See
"--Mortgage-backed Securities." The board of directors may authorize additional
investments.
Our investment securities "available for sale" and "held to maturity"
portfolios at December 31, 1996 did not contain securities of any issuer with an
aggregate book value in excess of 10% of our equity, excluding those issued by
the United States Government or its agencies.
Mortgage-backed Securities. To supplement lending activities, we have
invested in residential mortgage-backed securities. Mortgage-backed securities
can serve as collateral for borrowings and, through repayments, as a source of
liquidity. Mortgage-backed securities represent a participation interest in a
pool of single-family or other type of mortgages. Principal and interest
payments are passed from the mortgage originators, through intermediaries
(generally quasi-governmental agencies) that pool and repackage the
participation interests in the form of securities, to investors such as us. The
quasi-governmental agencies guarantee the payment of principal and interest to
investors and include FHLMC, Government National Mortgage Association ("GNMA"),
and FNMA.
Our mortgage-backed securities portfolio was classified as "available for
sale" at December 31, 1996. Each security was issued by GNMA, FHLMC or FNMA.
Expected maturities will differ from contractual maturities due to scheduled
repayments and because borrowers may have the right to call or prepay
obligations with or without prepayment penalties.
Mortgage-backed securities typically are issued with stated principal
amounts. The securities are backed by pools of mortgages that have loans with
interest rates that are within a set range and have varying maturities. The
underlying pool of mortgages can be composed of either fixed-rate or
adjustable-rate mortgage loans. Mortgage-backed securities are generally
referred to as mortgage participation certificates or pass-through certificates.
The interest rate risk characteristics of the underlying pool of mortgages
(i.e., fixed-rate or adjustable-rate) and the prepayment risk, are passed on to
the certificate holder. The life of a mortgage-backed pass-through security is
equal to the life of the underlying mortgages. Mortgage-backed securities issued
by FHLMC and GNMA make up a majority of the pass-through certificates market.
32
Real Estate Mortgage Investment Conduits ("REMIC's") are typically issued
by a special purpose entity, which may be organized in a variety of legal forms,
such as a trust, a corporation or a partnership. The entity aggregates pools of
pass-through securities or mortgage loans, which are used to collateralize the
mortgage related securities. Once combined, the cash flows can be divided into
"tranches" or "classes" of individual securities, thereby creating more
predictable average lives for each security than the underlying pass-through
pools of mortgage loans. Accordingly, under this security structure, all
principal paydowns from the various mortgage pools or mortgage loans are
allocated to a mortgage-related securities' class or classes structured to have
priority until it has been paid off. These securities generally have fixed
interest rates, and as a result, changes in interest rates generally would
affect the market value and possibly the prepayment rates of such securities.
The characterization of a mortgage-related security as a REMIC relates solely to
the tax treatment of the mortgage related security under the Internal Revenue
Code.
Securities Portfolio. The following table sets forth the carrying (i.e.,
amortized cost) value of our investment securities and mortgage-backed
securities, at the dates indicated. At December 31, 1996, the market value of
our investment securities, held to maturity, was $604,000. The market value of
our investment securities and mortgage-backed securities, available for sale,
were $597,000 and $5.8 million, respectively. At December 31, 1996, the
portfolios of the investment securities available for sale and mortgage-backed
securities available for sale contained net unrealized losses of $2,000 and
$173,000, respectively.
At December 31,
----------------------
1995 1996
---- ----
(Dollars in Thousands)
Investment Securities:
U.S. government and agency securities
available for sale...................... $ 751 $ 599
U.S. government securities................ 378 398
Political subdivision notes............... 289 317
----- -----
Total investment securities.......... 1,418 1,314
----- -----
Mortgage-backed securities:
GNMA.................................... 954 812
FHLMC................................... 3,067 2,300
FNMA.................................... 3,430 2,829
----- -----
Total mortgage-backed securities..... 7,451 5,941
----- -----
Total................................ $8,869 $7,255
===== =====
33
The following table sets forth information regarding the scheduled
maturities, carrying values, approximate fair values, and weighted average
yields for our investment securities portfolio at December 31, 1996 by
contractual maturity. The following table does not take into consideration the
effects of scheduled repayments or the effects of possible prepayments.
At December 31, 1996
-------------------------------------------------------------------------------------------------------------
Less than 1 to Over 5 to Over 10 Total
1 year 5 years 10 years years Securities
----------------- ------------------ ------------------ ----------------- -------------------------
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Market
Value Yield Value Yield Value Yield Value Yield Value Yield Value
----- ----- ----- ----- ----- ----- ----- ----- ----- ----- -----
(Dollars in Thousands)
U.S. Government
securities.... $ - -% $ 349 5.39% $ - -% $398 5.15% $ 747 5.22% $ 643
U.S. Agency
securities.... - - 250 6.39 - - - - 250 6.39 250
Political
subdivision
notes......... 127 6.75 34 6.63 156 6.03 - - 317 6.39 317
--- ---- ----- ---- ----- ---- ---- ------ ----- ---- -----
Total........... $127 6.75% $ 633 5.85% $ 156 6.03% $398 5.15% $1,314 5.72% $1,210
=== ==== ===== ==== ===== ==== === ==== ===== ==== =====
NOTE: Yields on tax exempt obligations have been computed on a tax equivalent
basis.
34
Sources of Funds
Deposits are our major external source of funds for lending and other
investment purposes. Funds are also derived from the receipt of payments on
loans and prepayment of loans and, to a much lesser extent, maturities of
investment securities and mortgage-backed securities, borrowings and operations.
Scheduled loan principal repayments are a relatively stable source of funds,
while deposit inflows and outflows and loan prepayments are significantly
influenced by general interest rates and market conditions.
Deposits. Consumer and commercial deposits are attracted principally from
within our primary market area through the offering of a selection of deposit
instruments including regular savings accounts, money market accounts, and term
certificate accounts. IRA accounts are also offered. Deposit account terms vary
according to the minimum balance required, the time period the funds must remain
on deposit, and the interest rate.
The interest rates paid by us on deposits are set weekly at the direction
of our senior management. Interest rates are determined based on our liquidity
requirements, interest rates paid by our competitors, and our growth goals and
applicable regulatory restrictions and requirements.
Passbook savings, money market and NOW accounts constituted $9.1 million,
or 22.35%, of our deposit portfolio at December 31, 1996. Certificates of
deposit constituted $31.7 million or 77.65% of the deposit portfolio of which
$7.6 million or 18.55% of the deposit portfolio were certificates of deposit
with balances of $100,000 or more. The majority of these certificates represent
a mix of deposits from long-standing customers and public monies. Such deposits
are offered at negotiated rates and provide us with a stable source of funds. As
of December 31, 1996, we had no brokered deposits.
35
At December 31, 1996, our deposits were represented by the various types
of savings programs described below.
Minimum Balance as of Percentage of
Category Term Interest Rate Balance Amount December 31, 1996 total Deposits
- -------- ---- ------------- -------------- -------------- -----------------
(In Thousands)
Now Accounts............ None 2.00% $ 100 $ 2,904 7.12%
Super Now............... None 2.26% 100 83 0.20%
Passbook savings........ None 3.00% 10 4,456 10.93%
Christmas club.......... None 3.75% 10 46 0.11%
Money market accounts... None 2.50% 2,500 1,622 3.98%
Certificates of Deposit:
Fixed Term, Fixed Rate 91 day 4.25% 500 215 0.53%
Fixed Term, Fixed Rate 182 day 5.18% 500 5,054 12.40%
Fixed Term, Fixed Rate 1 year 5.50% 500 7,968 19.55%
Fixed Term, Fixed Rate 18 months 5.50% 500 1,074 2.63%
Fixed Term, Fixed Rate 2 year 5.75% 500 521 1.28%
Fixed Term, Fixed Rate 30 months 5.83% 500 1,868 4.58%
Fixed Term, Fixed Rate 4 year 5.83% 500 326 0.80%
Fixed Term, Fixed Rate No longer offered 7.25% 500 300 0.74%
Fixed Term, Fixed Rate IRA 18 months 5.50% 10 3,325 8.16%
Fixed Term, Fixed Rate IRA 30 months 5.83% 10 348 0.85%
Negotiable 5.82% less than 100,000 3,094 7.59%
Negotiable 5.78% 100,000 7,561 18.55%
------ -----
Total $40,765 100.00%
====== ======
The following table sets forth our time deposits classified by interest
rate at the dates indicated.
As of December 31,
-------------------
1995 1996
---- ----
(In Thousands)
Interest Rate
2.00-4.00%...................... $ 138 $ 53
4.01-6.00%...................... 20,745 29,128
6.01-8.00%...................... 10,472 2,473
8.01 and over................... 16 -
------- --------
$31,371 $31,654
======= =======
36
The following table sets forth the amount and maturities of our time
deposits at December 31, 1996.
Amount Due
-------------------------------------------------------------
After
December 31, December 31, December 31, December 31,
Interest Rate 1997 1998 1999 2000 Total
- ------------- ------ ------ ------ ------ -------
(In Thousands)
2.01-4.00%... $ 53 $ - $ - $ - $ 53
4.01-6.00%... 23,764 4,565 640 159 29,128
6.01-8.00%... 2,034 221 214 4 2,473
8.01 and over - - - - -
------- ------ ---- ---- -------
Total $25,851 $4,786 $854 $163 $31,654
====== ===== === === ======
The following table sets forth our savings activity for the periods
indicated:
Year Ended December 31,
-----------------------
1995 1996
---- ----
(In Thousands)
Beginning balance.............. $39,301 $40,637
------ ------
Net increase (decrease) before
interest credited............ (21) (1,338)
Interest credited.............. 1,357 1,466
----- -----
Net increase (decrease) in
savings deposits ........... 1,336 128
----- ------
Ending balance................. $40,637 $40,765
====== ======
The following table indicates the amount of our certificates of deposit of
$100,000 or more by time remaining until maturity as of December 31, 1996.
Certificates
Maturity Period of Deposit
- --------------- ----------
(In Thousands)
Within three months.................. $1,206
Three through six months............. 2,224
Six through twelve months............ 3,235
Over twelve months................... 896
------
$7,561
======
37
Borrowings. Advances (borrowing) may be obtained from the FHLB of Cincinnati to
supplement our supply of lendable funds. Advances from the FHLB of Cincinnati
are typically secured by a pledge of our stock in the FHLB of Cincinnati, a
portion of our first mortgage loans and other assets. Each FHLB credit program
has its own interest rate, which may be fixed or adjustable, and range of
maturities. We may borrow up to $2.3 million from the FHLB of Cincinnati. If the
need arises, we may also access the Federal Reserve Bank discount window to
supplement its supply of lendable funds and to meet deposit withdrawal
requirements. At December 31, 1996, borrowings from the FHLB of Cincinnati
totaled $800,000 and consisted of a 90 day cash management advance with a 90 day
term and a variable interest rate (5.85% at December 31, 1996) that adjusted
daily. Since that date, a substantial portion of the borrowings had been repaid
without incurring a prepayment penalty.
Competition
Competition for deposits comes from other insured financial institutions
such as commercial banks, thrift institutions, credit unions, finance companies,
and multi-state regional banks in our market areas. Competition for funds also
includes a number of insurance products sold by local agents and investment
products such as mutual funds and other securities sold by local and regional
brokers. Loan competition varies depending upon market conditions and comes from
commercial banks, thrift institutions, credit unions and mortgage bankers, many
of whom have far greater resources than we have. There are two credit unions,
one thrift institution, three commercial banks and five finance companies in our
market area.
We have been able to maintain our position in mortgage loan originations,
market share, and deposit accounts throughout our market areas by virtue of our
local presence, competitive pricing, and referrals from existing customers. We
are smaller in asset size compared to the many financial institutions serving
our market areas. The deposit base of our market areas is sought by many of
these financial institutions.
Subsidiary Activity
We are permitted to invest up to 2% of our assets in the capital stock of
or loans to subsidiary corporations. Additional investment of 1% of assets is
permitted when such additional investment is utilized primarily for community
development purposes. At December 31, 1996, we had one subsidiary, SFS, Inc.
("SFS"). SFS was formed in 1978 to hold stock in our outside data processing
servicer. Our investment in our subsidiary totalled $16,000 at December 31,
1996. As of December 31, 1996, SFS had not conducted any operations other than
to hold the stock of that servicer.
38
Properties
We operate from our main office and one branch office. Our total
investment in office property and equipment was $1,550,000 with a net book value
of $533,000 at December 31, 1996.
Net Book Value
Of Real Property
or Leasehold
Year Leased Improvements
Location Leased or Owned or Acquired and Equipment
- -------- --------------- ----------- -------------
MAIN OFFICE:
632 East Elk Avenue Owned 1980 $354,402
Elizabethton, Tennessee
37643
BRANCH OFFICE:
510 Wallace Avenue Owned 1989 $179,109
Elizabethton, Tennessee
37643
In addition we own property at the intersection of Riverside Drive and
Hattie Avenue, Elizabethton, Tennessee which consists of a single-family
dwelling that we rent for $400 per month and a paved parking area for our
customers and employees. At December 31, 1996, the net book value of the
property was $5,000.
Personnel
At December 31, 1996 we had 18 full-time and two part-time employees. None
of our employees are represented by a collective bargaining group. We believe
that our relationship with our employees is good.
Legal Proceedings
We are, from time to time, a party to legal proceedings arising in the
ordinary course of our business, including legal proceedings to enforce our
rights against borrowers. We are not currently a party to any legal proceedings
which are expected to have a material adverse effect on our financial
statements.
39
REGULATION
Set forth below is a brief description of certain laws which relate to us.
The description does not purport to be complete and is qualified in its entirety
by references to applicable laws and regulation.
Holding Company Regulation
General. Bancorp will be required to register and file reports with the
OTS and will be subject to regulation and examination by the OTS. In addition,
the OTS will have enforcement authority over Bancorp and any non-savings
institution subsidiaries. This will permit the OTS to restrict or prohibit
activities that it determines to be a serious risk to us. This regulation and is
intended primarily for the protection of our depositors and not for the benefit
of you, as stockholders of Bancorp.
QTL Test. Since Bancorp will only own one savings institution, it will be
able to diversify its operations into activities not related to banking, but
only so long as we satisfy the QTL test. If Bancorp controls more than one
savings institution, it would lose the ability to diversify its operations into
non-banking related activities, unless such other savings institutions each also
qualify as a QTL or were acquired in a supervised acquisition. See "- Qualified
Thrift Lender Test."
Restrictions on Acquisitions. Bancorp must obtain approval from the OTS
before acquiring control of any other SAIF-insured savings institution. No
person may acquire control of a federally insured savings institution without
providing at least 60 days written notice to the OTS and giving the OTS an
opportunity to disapprove the proposed acquisition.
Savings Institution Regulation
General. As a federally chartered, SAIF-insured savings institution, we
are subject to extensive regulation by the OTS and the FDIC. Our lending
activities and other investments must comply with various federal and state
statutory and regulatory requirements. We are also subject to certain reserve
requirements promulgated by the Board of Governors of the Federal Reserve System
("Federal Reserve System").
The OTS, in conjunction with the FDIC, regularly examines us and prepares
reports for the consideration of our board of directors on any deficiencies that
the OTS finds in our operations. Our relationship with our depositors and
borrowers is also regulated to a great extent by federal and state law,
especially in such matters as the ownership of savings accounts and the form and
content of our mortgage documents.
We must file reports with the OTS and the FDIC concerning our activities
and financial condition, in addition to obtaining regulatory approvals prior to
entering into certain transactions such as mergers with or acquisitions of other
financial institutions. This regulation and supervision establishes a
comprehensive framework of activities in which an institution can engage and is
intended primarily for the protection of the SAIF and depositors. The regulatory
structure also gives the regulatory authorities extensive discretion in
connection with their supervisory and enforcement activities and examination
policies, including policies with respect to the classification of assets and
the establishment of adequate loan loss reserves for regulatory purposes. Any
change in such regulations, whether by the OTS, the FDIC or the United States
Congress could have a material adverse impact on our respective operations.
Insurance of Deposit Accounts. The FDIC is authorized to establish
separate annual assessment rates for deposit insurance for members of the BIF
and the SAIF. The FDIC may increase assessment rates for either fund if
necessary to restore the fund's ratio of reserves to insured deposits to its
target level within a reasonable time and may decrease such assessment rates if
such target level has been met.
40
The FDIC has established a risk-based assessment system for both SAIF and BIF
members. Under this system, assessments are set within a range, based on the
risk the institution poses to its deposit insurance fund. This risk level is
determined based on the institution's capital level and the FDIC's level of
supervisory concern about the institution.
Because a significant portion of the assessments paid into the SAIF by
savings institutions were used to pay the cost of prior thrift failures, the
reserves of the SAIF were below the level required by law. The BIF had, however,
met its required reserve level during the third calendar quarter of 1995. As a
result, deposit insurance premiums for deposits insured by the BIF were
substantially less than premiums for deposits such as ours which are insured by
the SAIF. Legislation to capitalize the SAIF and to eliminate the significant
premium disparity between the BIF and the SAIF became effective September 30,
1996. The recapitalization plan provided for a special assessment equal to $.657
per $100 of SAIF deposits held at March 31, 1995, in order to increase SAIF
reserves to the level required by law. Certain BIF institutions holding
SAIF-insured deposits were required to pay a lower special assessment. Based on
its deposits at March 31, 1995, on November 27, 1996, we paid a pre-tax special
assessment of $264,000.
The recapitalization plan also provides that the cost of prior thrift
failures which were funded through the issuance of the Fico Bonds will be shared
by members of both the SAIF and the BIF. This will increase BIF assessments for
healthy banks to approximately $.013 per $100 of deposits in 1997. SAIF
assessments for healthy savings institutions in 1997 will be approximately $.064
per $100 in deposits and may be reduced but not below the level set for healthy
BIF institutions.
The FDIC has lowered the rates on assessments paid to the SAIF and widened
the spread of those rates. The FDIC's action established a base assessment
schedule for the SAIF with rates ranging from 4 to 31 basis points, and an
adjusted assessment schedule that reduces these rates by 4 basis points. As a
result, the effective SAIF rates range from 0 to 27 basis points as of October
1, 1996. In addition, the FDIC's final rule prescribed a special interim
schedule of rates ranging from 18 to 27 basis points for SAIF-member savings
institutions for the last quarter of calendar 1996, to reflect the assessments
paid to the Financing Corp. (Fico Bonds). Finally, the FDIC's action established
a procedure for making limited adjustments to the base assessment rates by
rulemaking without notice and comment, for both the SAIF and the BIF.
The recapitalization plan also provides for the merger of the SAIF and BIF
effective January 1, 1999, assuming there are no savings institutions under
federal law. Under separate proposed legislation, Congress is considering the
elimination of the federal thrift charter and the separate federal regulation of
thrifts. As a result, we might have to convert to a different financial
institution charter and be regulated under federal law as a bank, including
being subject to the more restrictive activity limitations imposed on national
banks. We cannot predict the impact of our conversion to, or regulation as, a
bank until the legislation requiring such change is enacted.
Regulatory Capital Requirements. OTS capital regulations require savings
institutions to meet three capital standards: (1) tangible capital equal to 1.5%
of total adjusted assets, (2) core capital equal to at least 3% of total
adjusted assets, and (3) risk-based capital equal to 8% of total risk-weighted
assets. Our capital ratios are set forth under "Historical and Pro Forma Capital
Compliance."
Tangible capital is defined as core capital less all intangible assets
(including supervisory goodwill), less certain mortgage servicing rights and
less certain investments. Core capital is defined as common stockholders' equity
(including retained earnings), noncumulative perpetual preferred stock and
minority interests in the equity accounts of consolidated subsidiaries, certain
nonwithdrawable accounts and pledged deposits of mutual savings associations and
qualifying supervisory goodwill, less nonqualifying intangible assets, certain
mortgage servicing rights and certain investments.
41
The risk-based capital standard for savings institutions requires the
maintenance of total risk-based capital (which is defined as core capital plus
supplementary capital) of 8% of risk-weighted assets. The components of
supplementary capital include, among other items, cumulative perpetual preferred
stock, perpetual subordinated debt, mandatory convertible subordinated debt,
intermediate-term preferred stock, and the portion of the allowance for loan
losses not designated for specific loan losses. The portion of the allowance for
loan and lease losses includable in supplementary capital is limited to a
maximum of 1.25% of risk-weighted assets. Overall, supplementary capital is
limited to 100% of core capital. A savings association must calculate its
risk-weighted assets by multiplying each asset and off-balance sheet item by
various risk factors as determined by the OTS, which range from 0% for cash to
100% for delinquent loans, property acquired through foreclosure, commercial
loans, and other assets.
The OTS has adopted a rule requiring a deduction from capital for
institutions with certain levels of interest rate risk. This rule is not yet in
effect.
Dividend and Other Capital Distribution Limitations. OTS regulations
require us to give the OTS 30 days advance notice of any proposed declaration of
dividends to Bancorp, and the OTS has the authority under its supervisory powers
to prohibit the payment of dividends by us to Bancorp. In addition, we may not
declare or pay a cash dividend on its capital stock if the effect would be to
reduce our regulatory capital below the amount required for the liquidation
account to be established at the time of the Conversion. See "The Conversion -
Effects of Conversion to Stock Form on Depositors and Borrowers of Security
Federal Savings Bank -Liquidation Account."
OTS regulations impose limitations upon all capital distributions by
savings institutions, such as cash dividends, payments to repurchase or
otherwise acquire its shares, payments to stockholders of another institution in
a cash-out merger, and other distributions charged against capital. The rule
establishes three tiers of institutions based primarily on an institution's
capital level. An institution that exceeds all fully phased-in capital
requirements before and after a proposed capital distribution ("Tier 1
institution") and has not been advised by the OTS that it is in need of more
than the normal supervision can, after prior notice but without the approval of
the OTS, make capital distributions during a calendar year equal to the greater
of (i) 100% of its net income to date during the calendar year plus the amount
that would reduce by one-half its "surplus capital ratio" (the excess capital
over its fully phased-in capital requirements) at the beginning of the calendar
year, or (ii) 75% of its net income over the most recent four quarter period.
Any additional capital distributions require prior regulatory notice. As of
December 31, 1996, we qualified as a Tier 1 institution.
In the event our capital falls below our fully phased-in requirement or
the OTS notifies us that we are in need of more than normal supervision, we
would become a Tier 2 or Tier 3 institution and as a result, our ability to make
capital distributions could be restricted. Tier 2 institutions, which are
institutions that before and after the proposed distribution meet their current
minimum capital requirements, may only make capital distributions of up to 75%
of net income over the most recent four quarter period. Tier 3 institutions,
which are institutions that do not meet current minimum capital requirements and
propose to make any capital distribution, and Tier 2 institutions that propose
to make a capital distribution in excess of the noted safe harbor level, must
obtain OTS approval prior to making such distribution. In addition, the OTS
could prohibit a proposed capital distribution by any institution, which would
otherwise be permitted by the regulation, if the OTS determines that such
distribution would constitute an unsafe or unsound practice. The OTS has
proposed rules relaxing certain approval and notice requirements for
well-capitalized institutions.
A savings institution is prohibited from making a capital distribution if,
after making the distribution, the savings institution would be undercapitalized
(i.e., not meet any one of its minimum regulatory capital requirements).
Further, a savings institution cannot distribute regulatory capital that is
needed for its liquidation account.
42
Qualified Thrift Lender Test. Savings institutions must meet a qualified
thrift lender ("QTL") test. If we maintain an appropriate level of qualified
thrift investments ("QTIs") (primarily residential mortgages and related
investments, including certain mortgage-related securities) and otherwise
qualified as a QTL, we will continue to enjoy full borrowing privileges from the
FHLB of Cincinnati. The required percentage of QTIs is 65% of portfolio assets
(defined as all assets minus intangible assets, property used by the institution
in conducting its business and liquid assets equal to 10% of total assets).
Certain assets are subject to a percentage limitation of 20% of portfolio
assets. In addition, savings institution may include shares of stock of the
FHLBs, FNMA, and FHLMC as QTIs. Compliance with the QTL test is determined on a
monthly basis in nine out of every 12 months. As of December 31, 1996, we never
were in compliance with its QTL requirement with approximately 86.1% of our
assets invested in QTIs.
Transactions With Affiliates. Generally, restrictions on transactions with
affiliates require that transactions between a savings institution or its
subsidiaries and its affiliates be on terms as favorable to the savings
institution as comparable transactions with non-affiliates. In addition, certain
of these transactions are restricted to an aggregate percentage of savings
institution's capital and collateral in specified amounts must usually be
provided by affiliates in order to receive loans from the savings institution.
Our affiliates include Bancorp and any company which would be under common
control with us. In addition, a savings institution may not extend credit to any
affiliate engaged in activities not permissible for a bank holding company or
acquire the securities of any affiliate that is not a subsidiary. The OTS has
the discretion to treat subsidiaries of savings institution as affiliates on a
case-by-case basis.
Liquidity Requirements. All savings institutions are required to maintain
an average daily balance of liquid assets equal to a certain percentage of the
sum of its average daily balance of net withdrawable deposit accounts and
borrowings payable in one year or less. The liquidity requirement may vary from
time to time (between 4% and 10%) depending upon economic conditions and savings
flows of all savings institutions. At December 31, 1996, our required liquid
asset ratio was 5.0% and our actual ratio was 5.08%. Monetary penalties may be
imposed upon associations for violations of liquidity requirements.
Federal Home Loan Savings Bank System. We are a member of the FHLB of
Cincinnati, which is one of 12 regional FHLBs. Each FHLB serves as a reserve or
central bank for its members within its assigned region. It is funded primarily
from funds deposited by savings institutions and proceeds derived from the sale
of consolidated obligations of the FHLB System. It makes loans to members (i.e.,
advances) in accordance with policies and procedures established by the board of
directors of the FHLB.
As a member, we are required to purchase and maintain stock in the FHLB of
Cincinnati in an amount equal to at least 1% of our aggregate unpaid residential
mortgage loans, home purchase contracts or similar obligations at the beginning
of each year. At December 31, 1996, we had $394,000 in FHLB stock, at cost,
which was in compliance with this requirement. The FHLB imposes various
limitations on advances such as limiting the amount of certain types of real
estate related collateral to 30% of a member's capital and limiting total
advances to a member.
The FHLBs are required to provide funds for the resolution of troubled
savings institutions and to contribute to affordable housing programs through
direct loans or interest subsidies on advances targeted for community investment
and low- and moderate-income housing projects. These contributions have
adversely affected the level of FHLB dividends paid and could continue to do so
in the future. For the fiscal year ended December 31, 1996, dividends paid by
the FHLB of Cincinnati to us totalled $26,000.
43
Federal Reserve System. The Federal Reserve System requires all depository
institutions to maintain non-interest bearing reserves at specified levels
against their transaction accounts (primarily checking, NOW and Super NOW
checking accounts) and non-personal time deposits. The balances maintained to
meet the reserve requirements imposed by the Federal Reserve System may be used
to satisfy the liquidity requirements that are imposed by the OTS. At December
31, 1996, our reserve met the minimum level required by the Federal Reserve
System.
Savings institutions have authority to borrow from the Federal Reserve
System "discount window," but Federal Reserve System policy generally requires
savings institutions to exhaust all other sources before borrowing from the
Federal Reserve System. We had no borrowings from the Federal Reserve System at
December 31, 1996.
TAXATION
Federal Taxation
We are subject to the provisions of the Internal Revenue Code of 1986, as
amended (the "Code"), in the same general manner as other corporations. However,
prior to August 1996, savings institutions such as us, which met certain
definitional tests and other conditions prescribed by the Code could benefit
from certain favorable provisions regarding their deductions from taxable income
for annual additions to their bad debt reserve. The amount of the bad debt
deduction that a qualifying savings institution could claim with respect to
additions to its reserve for bad debts was subject to certain limitations. We
reviewed the most favorable way to calculate the deduction attributable to an
addition to our bad debt reserve on an annual basis.
In August 1996, the Code was revised to equalize the taxation of thrifts
and banks. Thrifts, such as us, no longer have a choice between the percentage
of taxable income method and the experience method in determining additions to
bad debt reserves. Thrifts with $500 million of assets or less may still use the
experience method, which is generally available to small banks currently. Larger
thrifts must use the specific charge off method regarding bad debts. Any reserve
amounts added after 1987 will be taxed over a six year period beginning in 1996;
however, bad debt reserves set aside through 1987 are generally not taxed. A
savings institution may delay recapturing into income its post-1987 bad debt
reserves for an additional two years if it meets a residential-lending test.
This law is not expected to have a material impact on us. At December 31, 1996,
we had $246,000 of post 1987 bad-debt reserves.
Under the percentage of taxable income method, the bad debt deduction
attributable to "qualifying real property loans" could not exceed the greater of
(i) the amount deductible under the experience method, or (ii) the amount which,
when added to the bad debt deduction for non-qualifying loans, equaled the
amount by which 12% of the sum of the total deposits and the advance payments by
borrowers for taxes and insurance at the end of the taxable year exceeded the
sum of the surplus, undivided profits and reserves at the beginning of the
taxable year. The amount of the bad debt deduction attributable to qualifying
real property loans computed using the percentage of taxable income method was
permitted only to the extent that the institution's reserve for losses on
qualifying real property loans at the close of the taxable year did not exceed
6% of such loans outstanding at such time.
Under the experience method, the bad debt deduction may be based on (i) a
six-year moving average of actual losses on qualifying and non-qualifying loans,
or (ii) a fill-up to the institution's base year reserve amount, which is the
tax bad debt reserve determined as of December 31, 1987.
The percentage of specially computed taxable income that was used to
compute a savings institution's bad debt reserve deduction under the percentage
of taxable income method (the "percentage
44
bad debt deduction") was 8%. The percentage of taxable income bad debt deduction
thus computed was reduced by the amount permitted as a deduction for
non-qualifying loans under the experience method. The availability of the
percentage of taxable income method permitted qualifying savings institutions to
be taxed at a lower effective federal income tax rate than that applicable to
corporations generally (approximately 31.3% assuming the maximum percentage bad
debt deduction).
If a savings institution's qualifying assets (generally, loans secured by
residential real estate or deposits, educational loans, cash and certain
government obligations) constitute less than 60% of its total assets, the
institution may not deduct any addition to a bad debt reserve and generally must
include existing reserves in income over a four year period, which is
immediately accruable for financial reporting purposes. As of December 31, 1996,
at least 60% of our assets were qualifying assets as defined in the Code. No
assurance can be given that we will meet the 60% test for subsequent taxable
years.
Earnings appropriated to our bad debt reserve and claimed as a tax
deduction including our supplemental reserves for losses will not be available
for the payment of cash dividends or for distribution to you, our stockholders
(including distributions made on dissolution or liquidation), unless we include
the amount in income, along with the amount deemed necessary to pay the
resulting federal income tax. As of December 31, 1996, we had $825,000 of
accumulated earnings, representing our base year tax reserve, for which federal
income taxes have not been provided. If such amount is used for any purpose
other than bad debt losses, including a dividend distribution or a distribution
in liquidation, it will be subject to federal income tax at the then current
rate.
Generally, for taxable years beginning after 1986, the Code also requires
most corporations, including savings institutions, to utilize the accrual method
of accounting for tax purposes. Further, for taxable years ending after 1986,
the Code disallows 100% of a savings institution's interest expense deemed
allocated to certain tax-exempt obligations acquired after August 7, 1986.
Interest expense allocable to (i) tax-exempt obligations acquired after August
7, 1986 which are not subject to this rule, and (ii) tax-exempt obligations
issued after 1982 but before August 8, 1986, are subject to the rule which
applied prior to the Code disallowing the deductibility of 20% of the interest
expense.
The Code imposes a tax ("AMT") on alternative minimum taxable income
("AMTI") at a rate of 20%. AMTI is increased by certain preference items,
including the excess of the tax bad debt reserve deduction using the percentage
of taxable income method over the deduction that would have been allowable under
the experience method. Only 90% of AMTI can be offset by net operating loss
carryovers of which we currently have none. AMTI is also adjusted by determining
the tax treatment of certain items in a manner that negates the deferral of
income resulting from the regular tax treatment of those items. Thus, our AMTI
is increased by an amount equal to 75% of the amount by which our adjusted
current earnings exceeds our AMTI (determined without regard to this adjustment
and prior to reduction for net operating losses). In addition, for taxable years
beginning after December 31, 1986 and before January 1, 1996, an environmental
tax of 0.12% of the excess of AMTI (with certain modifications) over $2 million
is imposed on corporations, including us, whether or not an AMT is paid. Under
pending legislation, the AMT rate would be reduced to zero for taxable years
beginning after December 31, 1994, but this rate reduction would be suspended
for taxable years beginning in 1995 and 1996 and the suspended amounts would be
refunded as tax credits in subsequent years.
45
Bancorp may exclude from its income 100% of dividends received from us as
a member of the same affiliated group of corporations. A 70% dividends received
deduction generally applies with respect to dividends received from corporations
that are not members of such affiliated group, except that an 80% dividends
received deduction applies if Bancorp owns more than 20% of the stock of a
corporation paying a dividend. The above exclusion amounts, with the exception
of the affiliated group figure, were reduced in years in which we availed
ourself of the percentage of taxable income bad debt deduction method.
Our federal income tax return has not been audited by the IRS.
State Taxation
The state of Tennessee imposes an excise tax on savings institutions at
the rate of 6% of net taxable income, which is computed based on federal taxable
income subject to certain adjustments. The state of Tennessee also imposes
franchise and privilege taxes on savings institutions which have not been a
material expense for us.
MANAGEMENT OF SFB BANCORP, INC.
Our board of directors consist of the same individuals who serve as
directors of our subsidiary, Security Federal Savings Bank. Our charter and
bylaws require that directors be divided into three classes, as nearly equal in
number as possible. Each class of directors to serve for a three-year period,
with approximately one-third of the directors elected each year. Our officers
will be elected annually by our board and serve at the board's discretion. See
"Management of Security Federal Savings Bank."
MANAGEMENT OF SECURITY FEDERAL SAVINGS BANK
Directors and Executive Officers
Our board of directors is composed of six members each of whom serves for
a term of three years. Our proposed stock charter and bylaws require that
directors be divided into three classes, as nearly equal in number as possible.
Each class of directors to serve for a three-year period, with approximately
one-third of the directors elected each year. Our officers are elected annually
by our board and serve at the board's discretion.
46
The following table sets forth information with respect to our directors
and executive officers, all of whom will continue to serve in the same
capacities after the Conversion. We have no other executive officers.
Age at Current
December Director Term
31, 1996 Position Since Expires
-------- -------- ------- -------
Directors
Donald W. Tetrick 79 Chairman of the Board and 1963 1999
Director
Peter W. Hampton 77 President and Director 1963 1998
Peter W. Hampton, Jr. 46 Vice Chairman of the 1994 1999
Board and Director
John R. Crockett, Jr. 76 Secretary, Treasurer and 1963 1997
Director
Julian T. Caudill 78 Director 1963 1997
Estill L. Caudill, Jr. 80 Director 1963 1998
The business experience for the past five years of each of the directors
and executive officers is as follows:
Donald W. Tetrick has been a member of the board of directors and Chairman
of the Board since 1963. Mr. Tetrick is the secretary of the Elizabethton
Kiwanis Club, the Carter County Chamber of Commerce and a member of the board of
directors of First United Methodist Church. Mr. Tetrick is also a retired
funeral home director.
Peter W. Hampton has been the President and a member of the board of
directors since 1963. Mr. Hampton is a member of the Elizabethton/Carter County
Economic Development Commission and the Carter County Chamber of Commerce. Mr.
Hampton is the father of Peter W. Hampton, Jr.
Peter W. Hampton, Jr. has been a member of the board of directors since
1994 and has served as Vice Chairman of the Board since December, 1996. Mr.
Hampton is senior partner in the law firm of Hampton & Street, and has been
employed as our General Counsel since 1994. Mr. Hampton is the son of Peter W.
Hampton.
John R. Crockett, Jr. has been a member of the our board of directors and
the secretary and treasurer since 1963. Mr. Crockett is a retired realtor.
Julian T. Caudill has been a member of the board of directors since 1963.
Mr. Caudill is a retired pharmacist. Mr. Caudill is a member of the Elizabethton
Rotary Club and the American Cancer Society. He is the brother of Estill L.
Caudill, Jr.
Estill L. Caudill, Jr. has been a member of the board of directors since
1963. Mr. Caudill is a retired physician. Mr. Caudill is the brother of Julian
T. Caudill.
Meetings and Committees of the Board of Directors
The board of directors conducts its business through meetings of the board
and through activities of its committees. During the year ended December 31,
1996, the board of directors held 12 regular meetings and one special meeting.
No director attended fewer than 75% of the total meetings of the board of
directors and committees on which such director served during the year ended
December 31, 1996.
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All of the directors are members of the executive/loan committee. The
executive/loan committee is principally responsible for (i) insuring that our
lending policies are implemented and observed, (ii) approving certain loan
applications, and (iii) approving other operational and administrative matters.
The executive/loan committee met 51 times during the fiscal year ended December
31, 1996.
Director Compensation
Each of the directors is paid a monthly fee of $600. Additionally, each
director is also a member of the Executive/Loan Committee and receives a fee of
$35 per meeting attended. Total aggregate fees paid to the current directors for
the year ended December 31, 1996 were $45,940.
Executive Compensation
Summary Compensation Table. The following table sets forth the cash and
non-cash compensation awarded to or earned by our chief executive officer at
December 31, 1996. No other employee earned in excess of $100,000 for the year
ended December 31, 1996.
Annual Compensation
------------------------------------
Other Annual All Other
Compensation Compensation
Name and Principal Position Salary Bonus (1) (2)
- --------------------------- ------ ----- ----- ----
Peter W. Hampton, President $73,614 $24,500 $9,280 $9,811
- --------------------
(1) Consists of director and committee fees of $7,750 and $1,530 of health,
life and disability insurance premiums paid on behalf of the executive.
(2) Consists of payments made on behalf of the executive for our Savings Plan.
Employment Agreement. We have entered into an employment agreement with
our President, Peter W. Hampton. Mr. Hampton's base salary under the employment
agreement is $73,614. The employment agreement has a term of three years. The
agreement is terminable by us for "just cause" as defined in the agreement. If
we terminate Mr. Hampton without just cause, Mr. Hampton will be entitled to a
continuation of his salary from the date of termination through the remaining
term of the agreement. The employment agreement contains a provision stating
that in the event of the termination of employment in connection with any change
in control of us, Mr. Hampton will be paid a lump sum amount equal to 2.99 times
his five year average annual taxable cash compensation. If such payments had
been made under the agreement as of December 31, 1996, such payments would have
equaled approximately $265,000. The aggregate payments that would have been made
to Mr. Hampton would be an expense to us, thereby reducing our net income and
our capital by that amount. The agreement may be renewed annually by our board
of directors upon a determination of satisfactory performance within the board's
sole discretion. If Mr. Hampton shall become disabled during the term of the
agreement, he shall continue to receive payment of 100% of the base salary for a
period of 12 months and 60% of such base salary for the remaining term of such
agreement. Such payments shall be reduced by any other benefit payments made
under other disability programs in effect for our employees.
Employee Stock Ownership Plan. We have established an employee stock
ownership plan, the ESOP, for the exclusive benefit of participating employee of
ours, to be implemented upon the completion of the Conversion. Participating
employees are employees who have completed one year of service with us or our
subsidiary and have attained the age of 21. An application for a letter of
determination as to
48
the tax-qualified status of the ESOP will be submitted to the IRS. Although no
assurances can be given, we expect that the ESOP will receive a favorable letter
of determination from the IRS.
The ESOP is to be funded by contributions made by us in cash or common
stock. Benefits may be paid either in shares of the common stock or in cash. In
accordance with the Plan, the ESOP may borrow funds with which to acquire up to
8% of the common stock to be issued in the Conversion. The ESOP intends to
borrow funds from Bancorp. The loan is expected to be for a term of ten years at
an annual interest rate equal to the prime rate as published in The Wall Street
Journal. Presently it is anticipated that the ESOP will purchase up to 8% of the
common stock to be issued in the offering (i.e., $464,000, based on the midpoint
of the EVR). The loan will be secured by the shares purchased and earnings of
ESOP assets. Shares purchased with such loan proceeds will be held in a suspense
account for allocation among participants as the loan is repaid. We anticipate
contributing approximately $46,400 annually (based on a $464,000 purchase) to
the ESOP to meet principal obligations under the ESOP loan, as proposed. It is
anticipated that all such contributions shall be tax-deductible. This loan is
expected to be fully repaid in approximately 10 years.
Shares sold above the maximum of the EVR (i.e., more than 667,000 shares)
may be sold to the ESOP before satisfying remaining unfilled orders of Eligible
Account Holders to fill the ESOP's subscription or the ESOP may purchase some or
all of the shares covered by its subscription after the Conversion in the open
market.
Contributions to the ESOP and shares released from the suspense account
will be allocated among participants on the basis of total compensation,
excluding bonuses. All participants must be employed at least 1,000 hours in a
plan year, or have terminated employment following death, disability or
retirement, in order to receive an allocation. Participant benefits become
vested in plan payments as follows: after 1 year of service - 10%, 2 years -
20%, 3 years - 30%, 4 years - 40%, 5 years - 60%, 6 years - 80% and 7 years
- -100%. Employment prior to the adoption of the ESOP shall be credited for the
purposes of vesting. Vesting will be accelerated upon retirement, death,
disability, change in control of Bancorp, or termination of the ESOP.
Forfeitures will be reallocated to participants on the same basis as other
contributions in the plan year. Benefits may be payable in the form of a lump
sum upon retirement, death, disability or separation from service. Our
contributions to the ESOP are discretionary and may cause a reduction in other
forms of compensation. Therefore, benefits payable under the ESOP cannot be
estimated.
The board of directors has appointed non-employee directors to the ESOP
Committee to administer the ESOP and to serve as the initial ESOP Trustees. The
board of directors or the ESOP Committee may instruct the ESOP Trustees
regarding investments of funds contributed to the ESOP. The ESOP Trustees must
vote all allocated shares held in the ESOP in accordance with the instructions
of the participating employees. Unallocated shares and allocated shares for
which no timely direction is received will be voted by the ESOP Trustees as
directed by the board of directors or the ESOP Committee, subject to the
Trustees' fiduciary duties.
Savings Plan. We sponsor a tax-qualified defined contribution savings and
retirement plan ("Savings Plan") for the benefit of our employees. Employees
become eligible to participate under the Savings Plan after reaching age 21 and
completing one year of service. We intend to amend the Savings Plan to permit
participants to voluntary direct the investment of plan assets for the purchase
of the common stock in the Conversion. Such directed investments will be
includable in the participants individual purchase limitations in the
Conversion.
49
Benefits are payable upon termination of employment, retirement, death,
disability, or plan termination. Normal retirement age under the Savings Plan is
age 65. It is intended that the Savings Plan operate in compliance with the
provisions of the Employee Retirement Income Security Act of 1974, as amended
("ERISA"), and the requirements of Section 401(a) of the Code.
Costs associated with the Savings Plan were $46,000 and $29,000 for the
fiscal years ended December 31, 1995 and 1996. Future Bank contributions to the
Savings Plan may be reduced as a result of the implementation of the ESOP.
Proposed Future Stock Benefit Plans
Stock Option Plan. The boards of directors intend to adopt a stock option
plan (the Option Plan) following the Conversion, subject to approval by you and
Bancorp's stockholders, at a stockholders meeting to be held no sooner than six
months after the Conversion. The Option Plan would be in compliance with the OTS
regulations in effect. See "-- Restrictions on Benefit Plans." If the Option
Plan is implemented within one year after the Conversion, in accordance with OTS
regulations, a number of shares equal to 10% of the aggregate shares of common
stock to be issued in the offering (i.e., 58,000 shares based upon the sale of
580,000 shares at the midpoint of the EVR) would be reserved for issuance by
Bancorp upon exercise of stock options to be granted to officers, directors and
employees of us from time to time under the Option Plan. The purpose of the
Option Plan would be to provide additional performance and retention incentives
to certain officers, directors and employees by facilitating their purchase of a
stock interest in Bancorp. The Option Plan, which would become effective upon
stockholder approval of such Plan, would provide for a term of 10 years, after
which no awards could be made, unless earlier terminated by the board of
directors pursuant to the Option Plan. The options would vest over a five year
period (i.e., 20% per year), beginning one year after the date of grant of the
option. Options would be granted based upon several factors, including
seniority, job duties and responsibilities, job performance, our financial
performance and a comparison of awards given by other savings institutions
converting from mutual to stock form.
Bancorp would receive no monetary consideration for the granting of stock
options under the Option Plan. It would receive the option price for each share
issued to optionees upon the exercise of such options. Shares issued as a result
of the exercise of options will be either authorized but unissued shares or
shares purchased in the open market by Bancorp. However, no purchases in the
open market will be made that would violate applicable regulations restricting
purchases by Bancorp. The exercise of options and payment for the shares
received would contribute to the equity of Bancorp.
If the Option Plan is implemented more than one year after the Conversion,
the Option Plan will comply with such OTS regulations and policies that are
applicable at such time.
Restricted Stock Plan. The board of directors intends to adopt the RSP
within one year of the Conversion, the objective of which is to enable us to
retain personnel and directors of experience and ability in key positions of
responsibility. Bancorp expects to hold a stockholders' meeting no sooner than
six months after the Conversion in order for stockholders to vote to approve the
RSP. If within one year after the Conversion, in accordance with applicable OTS
regulations, the shares granted under the RSP will be in the form of restricted
stock vesting over a five year period (i.e., 20% per year) beginning one year
after the date of grant of the award. Compensation expense in the amount of the
fair market value of the common stock granted will be recognized pro rata over
the years during which the shares are payable. Until they have vested, such
shares may not be sold, pledged or otherwise disposed of and are required to be
held in escrow. Any shares not so allocated would be voted by the RSP Trustees.
The RSP will be implemented in accordance with applicable OTS regulations. See
"-- Restrictions on Stock Benefit Plans." Awards would be granted based upon a
number of factors, including seniority, job duties and responsibilities, job
performance, our performance and a comparison of awards given by other
50
institutions converting from mutual to stock form. The RSP would be managed by a
committee of non-employee directors (the "RSP Trustees"). The RSP Trustees would
have the responsibility to invest all funds contributed by us to the trust
created for the RSP (the "RSP Trust").
We will contribute sufficient funds to the RSP so that the RSP Trust can
purchase, in the aggregate, up to 4% of the amount of common stock that is sold
in the Conversion. The shares purchased by the RSP would be authorized but
unissued shares or would be purchased in the open market. In the event the
market price of the common stock is greater than $10.00 per share, our
contribution of funds will be increased. Likewise, in the event the market price
is lower than $10.00 per share, our contribution will be decreased. In
recognition of their prior and expected services to us and Bancorp, as the case
may be, the officers, other employees and directors responsible for
implementation of the policies adopted by the board of directors and our
profitable operation will, without cost to them, be awarded stock under the RSP.
Based upon the sale of 580,000 shares of common stock in the offering at the
midpoint of the EVR, the RSP Trust is expected to purchase up to 23,200 shares
of common stock.
If the RSP is implemented more than one year after the Conversion, the RSP
will comply with such OTS regulations and policies that are applicable at such
time.
Restrictions on Stock Benefit Plans. OTS regulations provide that in the
event we implement stock option or management and/or employee stock benefit
plans are implemented within one year from the date of Conversion, such plans
must comply with the following restrictions: (1) the plans must be fully
disclosed in the prospectus, (2) for stock option plans, the total number of
shares for which options may be granted may not exceed 10% of the shares issued
in the Conversion, (3) for restricted stock plans, the shares may not exceed 3%
of the shares issued in the Conversion (4% for institutions with 10% or greater
tangible capital), (4) the aggregate amount of stock purchased by the ESOP in
the Conversion may not exceed 10% (8% for well-capitalized institutions
utilizing a 4% restricted stock plan), (5) no individual employee may receive
more than 25% of the available awards under the Option Plan or the RSP, (6)
directors who are not employees may not receive more than 5% individually or 30%
in the aggregate of the awards under any plan, (7) all plans must be approved by
a majority of the total votes eligible to be cast at any duly called meeting of
the Company's stockholders held no earlier than six months following the
Conversion, (8) for stock option plans, the exercise price must be at least
equal to the market price of the stock at the time of grant, (9) for restricted
stock plans, no stock issued in a conversion may be used to fund the plan, (10)
neither stock option awards nor restricted stock awards may vest earlier than
20% as of one year after the date of stockholder approval and 20% per year
thereafter, and vesting may be accelerated only in the case of disability or
death (or if not inconsistent with applicable OTS regulations in effect at such
time, in the event of a change in control), (11) the proxy material must clearly
state that the OTS in no way endorses or approves of the plans, and (12) prior
to implementing the plans, all plans must be submitted to the Regional Director
of the OTS within five days after stockholder approval with a certification that
the plans approved by the stockholders are the same plans that were filed with
and disclosed in the proxy materials relating to the meeting at which
stockholder approval was received.
Certain Related Transactions
Peter W. Hampton, Jr., is a partner of the law firm of Hampton & Street in
Elizabethton, Tennessee. We have retained the services of Mr. Hampton's firm,
and the firm performs certain legal work for us. Fees paid to the law firm by
borrowers of ours for services performed on our behalf, were $65,000 during 1996
and such fees were less than $60,000 during 1995.
51
THE CONVERSION
Our board of directors and the OTS have approved the Plan subject to the
Plan's approval by our members at the Special Meeting of Members, and subject to
the satisfaction of certain other conditions imposed by the OTS in its approval.
OTS approval, however, does not constitute a recommendation or endorsement of
the Plan by the OTS.
General
On January 15, 1997, our board of directors adopted a Plan of Conversion,
pursuant to which we will convert from a federally chartered mutual savings bank
to a federally chartered stock savings bank and become a wholly owned subsidiary
of Bancorp. The Conversion will include adoption of the proposed Federal Stock
Charter and Bylaws which will authorize the issuance of capital stock by us.
Under the Plan, our capital stock is being sold to Bancorp and the common stock
of Bancorp is being offered to the public. The Conversion will be accounted for
at historical cost in a manner similar to a pooling of interests.
The OTS has approved Bancorp's application to become a savings and loan
holding company and to acquire all of our common stock to be issued in the
Conversion. Pursuant to such OTS approval, Bancorp plans to retain 50% of the
net proceeds from the sale of its common stock and to use the remaining 50% to
purchase all of the common stock we will issue in the Conversion.
The common stock is first being offered in a Subscription Offering to
holders of subscription rights. To the extent shares of common stock remain
available after the Subscription Offering, shares of common stock may be offered
in a Community Offering. The Community Offering, if any, may commence anytime
subsequent to the commencement of the Subscription Offering. Shares not
subscribed for in the Subscription and Community Offerings may be offered for
sale by Bancorp in a Syndicated Community Offering. We have the right, in our
sole discretion, to accept or reject, in whole or in part, any orders to
purchase shares of the common stock received in the Community and Syndicated
Community Offering. See "-- Community Offering" and "-- Syndicated Community
Offering."
Shares of common stock in an amount equal to our pro forma market value as
a stock savings institution must be sold in order for the Conversion to become
effective. The Community Offering must be completed within 45 days after the
last day of the Subscription Offering period unless such period is extended by
us with the approval of the OTS. The Plan provides that the Conversion must be
completed within 24 months after the date of the approval of the Plan by our
members.
In the event that we are unable to complete the sale of common stock and
effect the Conversion within 45 days after the end of the Subscription Offering,
we may request an extension of the period by the OTS. No assurance can be given
that the extension would be granted if requested. Due to the volatile nature of
market conditions, no assurances can be given that our valuation would not
substantially change during any such extension. If the EVR of the common stock
must be amended, no assurance can be given that such amended EVR would be
approved by the OTS. Therefore, it is possible that if the Conversion cannot be
completed within the requisite period, we may not be permitted to complete the
Conversion. A substantial delay caused by an extension of the period may also
significantly increase the expense of the Conversion. No sales of the common
stock may be completed in the offering unless the Plan is approved by our
members.
The completion of the offering is subject to market conditions and other
factors beyond our control. No assurance can be given as to the length of time
following approval of the Plan at the meeting of our members that will be
required to complete the Community Offering or other sale of the common stock to
be offered in the Conversion. If delays are experienced, significant changes may
occur in our
52
estimated pro forma market value upon Conversion together with corresponding
changes in the offering price and the net proceeds to be realized by us from the
sale of the common stock. In the event the Conversion is terminated, we would be
required to charge all Conversion expenses against current income and any funds
collected by us in the offering would be promptly returned to each potential
investor, plus interest at the prescribed rate.
Effects of Conversion to Stock Form on Depositors and Borrowers of Security
Federal Savings Bank
Voting Rights. Currently in our mutual form, our depositor and borrower
members have voting rights and may vote for the election of directors. Following
the Conversion, depositors and borrower members will cease to have voting
rights.
Savings Accounts and Loans. The balances, terms and FDIC insurance
coverage of savings accounts will not be affected by the Conversion.
Furthermore, the amounts and terms of loans and obligations of the borrowers
under their individual contractual arrangements with us will not be affected by
the Conversion.
Tax Effects. We have received an opinion from our counsel, Malizia, Spidi,
Sloane & Fisch, P.C. on the federal tax consequences of the Conversion. The
opinion has been filed as an exhibit to the registration statement on which this
prospectus is a part. The opinion provides, in part, that: (i) the Conversion
will qualify as a reorganization under Section 368(a)(1)(F) of the Code, and no
gain or loss will be recognized by us in either our mutual form or our stock
form, or by Bancorp, by reason of the proposed Conversion; (ii) no gain or loss
will be recognized by us upon the receipt of money from Bancorp for our stock,
and no gain or loss will be recognized by Bancorp upon the receipt of money for
the common stock; (iii) our assets in either our mutual or our stock form will
have the same basis before and after the Conversion; (iv) the holding period of
our assets will include the period during which the assets were held by us in
our mutual form prior to conversion; (v) no gain or loss will be recognized by
the Eligible Account Holders, Supplemental Eligible Account Holders, and Other
Members upon the issuance to them of withdrawable savings accounts in us in the
stock form in the same dollar amount as their savings accounts in us in the
mutual form plus an interest in the liquidation account of us in the stock form
in exchange for their savings accounts in us in the mutual form; (vi) provided
that the amount to be paid for the common stock pursuant to the subscription
rights is equal to the fair market value of such common stock, no gain or loss
will be recognized by Eligible Account Holders, Supplemental Eligible Account
Holders, and Other Members under the Plan upon the distribution to them of
nontransferable subscription rights to purchase shares of the common stock;
(vii) the basis of each account holder's savings accounts in us after the
Conversion will be the same as the basis of his savings accounts in us prior to
the Conversion, decreased by the fair market value of the nontransferable
subscription rights received and increased by the amount, if any, of gain
recognized on the exchange; (viii) the basis of each account holder's interest
in the liquidation account will be zero; (ix) the holding period of the common
stock acquired through the exercise of subscription rights shall begin on the
date on which the subscription rights are exercised; (x) we will succeed to and
take into account the earnings and profits or deficit in earnings and profits of
us, in our mutual form, as of the date of Conversion; (xi) immediately after
Conversion, we will succeed to the bad debt reserve accounts of the Savings Bank
in its mutual form, and the bad debt reserves will have the same character in
our hands after Conversion as if no distribution or transfer had occurred; and
(xii) the creation of the liquidation account will have no effect on our taxable
income, deductions or addition to reserve for bad debts either in our mutual or
stock form.
The opinion from Malizia, Spidi, Sloane & Fisch, P.C. is based in part on
the assumption that the exercise price of the subscription rights to purchase
common stock will be approximately equal to the fair market value of that stock
at the time of the completion of the proposed Conversion. With respect to the
subscription rights, we have received an opinion of Feldman which, based on
certain assumptions, concludes that the subscription rights to be received by
Eligible Account Holders and other eligible
53
subscribers do not have any economic value at the time of distribution or at the
time the subscription rights are exercised, whether or not a public offering
takes place. Such opinion is based on the fact that such rights are: (i)
acquired by the recipients without payment therefor, (ii) non-transferable,
(iii) of short duration, and (iv) afford the recipients the right only to
purchase common stock at a price equal to its estimated fair market value, which
will be the same price at which shares of common stock for which no subscription
right is received in the Subscription Offering will be offered in the Community
Offering. If the subscription rights granted to Eligible Account Holders or
other eligible subscribers are deemed to have an ascertainable value, receipt of
such rights would be taxable only to those Eligible Account Holders or other
eligible subscribers who exercise the subscription rights in an amount equal to
such value (either as a capital gain or ordinary income), and we could recognize
gain on such distribution.
We are also subject to Tennessee income taxes and has received an opinion
from Crisp Hughes & Co., L.L.P. that the Conversion will be treated for
Tennessee state tax purposes similar to the Conversion's treatment for federal
tax purposes.
Unlike a private letter ruling, the opinions of Malizia, Spidi, Sloane &
Fisch, P.C., Feldman and Crisp Hughes & Co., L.L.P. have no binding effect or
official status, and no assurance can be given that the conclusions reached in
any of those opinions would be sustained by a court if contested by the IRS or
the Tennessee tax authorities. Eligible Account Holders, Supplemental Eligible
Account Holders, and Other Members are encouraged to consult with their own tax
advisers as to the tax consequences in the event the subscription rights are
deemed to have an ascertainable value.
Liquidation Account. In the unlikely event of our complete liquidation in
our present mutual form, each depositor is entitled to equal distribution of any
of our assets, pro rata to the value of his accounts, remaining after payment of
claims of all creditors (including the claims of all depositors to the
withdrawal value of their accounts). Each depositor's pro rata share of such
remaining assets would be in the same proportion as the value of his deposit
accounts was to the total value of all deposit accounts in us at the time of
liquidation.
Upon a complete liquidation after the Conversion, each depositor would
have a claim, as a creditor, of the same general priority as the claims of all
other general creditors of ours. Therefore, except as described below, a
depositor's claim would be solely in the amount of the balance in his deposit
account plus accrued interest. A depositor would not have an interest in the
residual value of our assets above that amount, if any.
The Plan provides for the establishment, upon the completion of the
Conversion, of a special "liquidation account" for the benefit of Eligible
Account Holders and Supplemental Eligible Account Holders in an amount equal to
$4,676,000. Each Eligible Account Holder and Supplemental Eligible Account
Holder, if he continues to maintain his deposit account with us, would be
entitled on a complete liquidation of us after Conversion, to an interest in the
liquidation account prior to any payment to stockholders. Each Eligible Account
Holder would have an initial interest in such liquidation account for each
deposit account held in us on the qualifying date, December 31, 1995. Each
Supplemental Eligible Account Holder would have a similar interest as of the
qualifying date, March 31, 1997. The interest as to each deposit account would
be in the same proportion of the total liquidation account as the balance of the
deposit account on the qualifying dates was to the aggregate balance in all the
deposit accounts of Eligible Account Holders and Supplemental Eligible Account
Holders on such qualifying dates. However, if the amount in the deposit account
on any annual closing date of ours (December 31) is less than the amount in such
account on the respective qualifying dates, then the interest in this special
liquidation account would be reduced from time to time by an amount
proportionate to any such reduction, and the interest would cease to exist if
such deposit account were closed. The interest in the special liquidation
account will never be increased despite any increase in the related deposit
account after the respective qualifying dates.
54
No merger, consolidation, purchase of bulk assets with assumptions of
savings accounts and other liabilities, or similar transactions with another
insured institution in which transaction we in our converted form are not the
surviving institution shall be considered a complete liquidation. In such
transactions, the liquidation account shall be assumed by the surviving
institution.
Subscription Rights and the Subscription Offering
In accordance with OTS regulations, non-transferable subscription rights
to purchase shares of the common stock have been granted to all persons and
entities entitled to purchase the common stock in the Subscription Offering
under the Plan. The amount of the common stock which these parties may purchase
will be determined, in part, by the total amount of common stock to be issued
and by the availability of the common stock for purchase under the categories
set forth in the Plan. If the Community Offering, as described below, extends
beyond 45 days following the completion of the Subscription Offering,
subscribers will be resolicited. Subscription priorities have been established
for the allocation of stock to the extent that the common stock is available
after satisfaction of all subscriptions of all persons having prior rights and
subject to the maximum and minimum purchase limitations set forth in the Plan
and as described below under "-- Limitations on Purchases of Shares." The
following priorities have been established:
Eligible Account Holders. Each Eligible Account Holder (which collectively
encompasses all names on a joint account) will receive non-transferable
subscription rights on a priority basis to purchase that number of shares of
common stock which is equal to the greater of 15,000 shares ($150,000), or 15
times the product (rounded down to the next whole number) obtained by
multiplying the total number of shares of common stock to be issued by a
fraction of which the numerator is the amount of the qualifying deposit of the
Eligible Account Holder and the denominator is the total amount of qualifying
deposits of all Eligible Account Holders. If such allocation results in an
oversubscription, shares of common stock shall be allocated among subscribing
Eligible Account Holders so as to permit each such account holder, to the extent
possible, to purchase the lesser of 100 shares of common stock or the total
amount of his subscription. Any shares of common stock not so allocated shall be
allocated among the subscribing Eligible Account Holders on an equitable basis,
related to the amounts of their respective qualifying deposits as compared to
the total qualifying deposits of all subscribing Eligible Account Holders.
Subscription rights received by officers and directors in this category based on
their increased deposits in us in the one-year period preceding December 31,
1995, are subordinated to the subscription rights of other Eligible Account
Holders. See "-- Limitations on Purchases and Transfer of Shares."
Tax-Qualified Employee Benefit Plans. Our tax-qualified employee benefit
plans ("Employee Plans") have been granted subscription rights to purchase up to
8% of the total shares issued in the Conversion. The ESOP is an Employee Plan.
The right of Employee Plans to subscribe for the common stock is
subordinate to the right of the Eligible Account Holders to subscribe for the
common stock. However, in the event the offering result in the issuance of
shares above the maximum of the EVR (i.e., more than 667,000 shares), the
Employee Plans have a priority right to fill their subscription (the ESOP, the
only Employee Plan, currently intends to purchase up to 8% of the common stock
issued in the Conversion). The Employee Plans may, however, determine to
purchase some or all of the shares covered by their subscriptions after the
Conversion in the open market or, if approved by the OTS, out of authorized but
unissued shares in the event of an oversubscription.
55
Supplemental Eligible Account Holders. Each Supplemental Eligible Account
Holder (which collectively encompasses all names on a joint account) who is not
an Eligible Account Holder will receive non-transferable subscription rights to
purchase that number of shares of Conversion Stock which is equal to the greater
of 15,000 shares ($150,000), or 15 times the product (rounded down to the next
whole number) obtained by multiplying the total number of shares of common stock
to be issued by a fraction of which the numerator is the amount of the
qualifying deposit of the Supplemental Eligible Account Holder and the
denominator is the total amount of qualifying deposits of all Supplemental
Eligible Account Holders. If the allocation made in this paragraph results in an
oversubscription, shares of common stock shall be allocated among subscribing
Supplemental Eligible Account Holders so as to permit each such account holder,
to the extent possible, to purchase the lesser of 100 shares of common stock or
the total amount of his subscription. Any shares of common stock not so
allocated shall be allocated among the subscribing Supplemental Eligible Account
Holders on an equitable basis, related to the amounts of their respective
qualifying deposits as compared to the total qualifying deposits of all
subscribing Supplemental Eligible Account Holders. See "-- Limitation on
Purchases and Transfer of Shares."
The right of Supplemental Eligible Account Holders to subscribe for the
common stock is subordinate to the rights of the Eligible Account Holders and
Employee Plans to subscribe for the common stock.
Other Members. Other Members who are not Eligible Account Holders or
Supplemental Eligible Account Holders, will receive non-transferable
subscription rights to purchase up to 15,000 shares ($150,000) to the extent
such stock is available following subscriptions by Eligible Account Holders,
Employee Plans, and Supplemental Eligible Account Holders. See "-- Limitation on
Purchases and Transfer of Shares."
Members in Non-Qualified States. We will make reasonable efforts to comply
with the securities laws of all states in the United States in which persons
entitled to subscribe for the common stock pursuant to the Plan reside. However,
no person will be offered or allowed to purchase any common stock under the Plan
if he resides in a foreign country or in a state with respect to which any of
the following apply: (i) a small number of persons otherwise eligible to
subscribe for shares under the Plan reside in that state or foreign country;
(ii) the granting of subscription rights or offer or sale of shares of common
stock to those persons would require either us, or our employees to register,
under the securities laws of that state or foreign country, as a broker or
dealer or to register or otherwise qualify our securities for sale in that state
or foreign country; or (iii) such registration or qualification would be
impracticable for reasons of cost or otherwise. No payments will be made in lieu
of the granting of subscription rights to any person.
Restrictions on Transfer of Subscription Rights and Shares. Persons are
prohibited from transferring or entering into any agreement or understanding to
transfer the legal or beneficial ownership of their subscription rights.
Subscription rights may be exercised only by the person to whom they are granted
and only for his account. Each person subscribing for shares will be required to
certify that he is purchasing shares solely for his own account and has not
entered into an agreement or understanding regarding the sale or transfer of
those shares. The regulations also prohibit any person from offering or making
an announcement of an offer or intent to make an offer to purchase subscription
rights or shares of common stock prior to the completion of the Conversion.
56
We will pursue any and all legal and equitable remedies in the event we
become aware of the transfer of subscription rights and will not honor orders
known by us to involve the transfer of subscription rights.
Expiration Date. The Subscription Offering will expire at __________ p.m.,
Eastern Time, on __________ ____, 199____, (Expiration Date). Subscription
rights will become void if not exercised prior to the Expiration Date.
Community Offering
To the extent that shares remain available for purchase after filling all
orders received in the Subscription Offering, we may offer shares of common
stock to certain members of the general public residing in Tennessee and certain
other states with a preference to natural persons residing in Carter County,
Tennessee under such terms and conditions as may be established by the board of
directors. In the Community Offering, no person may purchase more than 15,000
shares of common stock and no person, together with associates of and persons
acting in concert with such persons, may purchase more than 25,000 shares.
The Community Offering once commenced, may expire at any time without
notice but no later than __________ p.m., Eastern Time, on __________ ____, 1997
unless extended with the permission of the OTS. Purchases of shares in the
Community Offering is subject to the right of us in our sole discretion, to
accept or reject such purchases in whole or in part either at the time and
receipt of an order, or as soon as practicable following the completion of the
Community Offering.
In the event Community Offering orders are not filled, funds received by
us will be promptly refunded with interest at our passbook rate. In the event an
insufficient number of shares are available to fill all orders in the Community
Offering, the available shares will be allocated on an equitable basis
determined by the board of directors, provided however that a preference will be
given to natural persons residing in Carter County, Tennessee. If regulatory
approval is received to extend the Community Offering beyond 45 days following
the completion of the Subscription Offering, subscribers will be resolicited.
The shares sold in the Community Offering will be sold at the Purchase Price.
Syndicated Community Offering
As part of the Community Offering, the Plan provides that, if necessary,
shares of common stock not purchased in the Subscription and Community Offerings
may be offered for sale to the general public in a Syndicated Community Offering
through a syndicate of selected dealers to be formed and managed by Trident. The
Syndicated Community Offering, if any, will be conducted to achieve a wide
distribution of common stock subject to our right to reject orders in whole or
in part in their sole discretion in the Syndicated Community Offering. Neither
Trident nor any registered broker-dealer shall have any obligation to take or
purchase any shares of the common stock in the Syndicated Community Offering.
Stock sold in the Syndicated Community Offering will be sold at the
Purchase Price. See "-- Stock Pricing."
No individual purchaser in the Syndicated Community Offering may purchase
more than 15,000 shares of common stock and no individual purchaser together
with any associate or group of persons acting in concert may purchase more than
25,000 shares of common stock. Bancorp is directly responsible for the payment
of selling commissions to other NASD firms and licensed brokers
57
participating in the Syndicated Community Offering. Other firms may participate
under a selected dealers arrangement. Selected dealers typically receive a fee
of up to 5% of the amount of stock sold by the selected dealer in the Syndicated
Community Offering, and Trident's management fee will be unchanged by the amount
of stock sold, if any, by Selected Dealers. See "The Conversion -- Marketing
Arrangements."
The Syndicated Community Offering will terminate no more than 45 days
following the Expiration Date, unless extended by Bancorp with the approval of
the OTS and subscribers are resolicited.
Ordering and Receiving Common Stock
Use of Order Forms. Rights to subscribe may only be exercised by
completion of an Order Form. Persons ordering common stock in the Subscription
Offering must deliver by mail or in person a properly completed and executed
original Order Form to us prior to the Expiration Date. Order Forms must be
accompanied by full payment for all shares ordered or authorization. See
"--Payment for Shares." Subscription rights under the Plan will expire on the
Expiration Date, whether or not we have been able to locate each person entitled
to subscription rights. Once submitted, subscription orders cannot be revoked
without our consent unless the Conversion is not completed within 45 days of the
Expiration Date.
Persons and entities not purchasing the common stock in the Subscription
Offering may, subject to availability, purchase the common stock in the
Community Offering by returning to us a completed and properly executed Order
Form along with full payment for the shares ordered.
In the event an Order Form (i) is not delivered and is returned to us by
the United States Postal Service or we are unable to locate the addressee, (ii)
is not received or is received after the Expiration Date, (iii) is defectively
completed or executed, or (iv) is not accompanied by full payment for the shares
subscribed for (including instances where a savings account or certificate
balance from which withdrawal is authorized is insufficient to fund the amount
of such required payment), the subscription rights for the person to whom such
rights have been granted will lapse as though that person failed to return the
completed Order Form within the time period specified. We may, but will not be
required to, waive any irregularity on any Order Form or require the submission
of corrected Order Forms or the remittance of full payment for subscribed shares
by such date as we specify. The waiver of an irregularity on an Order Form in no
way obligates us to waive any other irregularity on that or any other Order
Form. Waivers will be considered on a case by case basis. Photocopies of Order
Forms, payments from private third parties, or electronic transfers of funds
will not be accepted. Our interpretation of the terms and conditions of the Plan
and of the acceptability of the Order Forms will be final.
To ensure that each purchaser receives a Prospectus at least 48 hours
before the Expiration Date in accordance with Rule 15c2-8 of the Exchange Act,
no Prospectus will be mailed any later than five days prior to such date or hand
delivered any later than two days prior to such date. Execution of the Order
Form will confirm receipt or delivery in accordance with Rule 15c2-8. Order
Forms will only be distributed with a Prospectus.
Payment for Shares. Payment for shares of common stock may be made (i) in
cash, if delivered in person, (ii) by check or money order, or (iii) by
authorization of withdrawal from savings accounts (including certificates of
deposit) maintained with us or (iv) by IRA held by us. Appropriate means by
which such withdrawals may be authorized are provided in the Order Form. Once
such a withdrawal has been authorized, none of the designated withdrawal amount
may be used by the subscriber for any
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purpose other than to purchase the common stock. Payments authorized to be made
through withdrawal from savings accounts, all sums authorized for withdrawal
will continue to earn interest at the contract rate until the Conversion has
been completed or terminated. Interest penalties for early withdrawal applicable
to certificate accounts will not apply to withdrawals authorized for the
purchase of shares; however, if a partial withdrawal results in a certificate
account with a balance less than the applicable minimum balance requirement, the
certificate evidencing the remaining balance will earn interest at the passbook
savings account rate subsequent to the withdrawal. Payments made in cash or by
check or money order, will be placed in a segregated savings account and
interest will be paid by us at our passbook savings account rate from the date
payment is received until the Conversion is completed or terminated. An executed
Order Form, once received by us, may not be modified, amended, or rescinded
without our consent, unless the Conversion is not completed within 45 days after
the conclusion of the Subscription Offering, in which event subscribers may be
given an opportunity to increase, decrease, or rescind their subscription. In
the event that the Conversion is not consummated, all funds submitted pursuant
to the offering will be promptly refunded with interest.
Owners of self-directed IRAs may use the assets of such IRAs to purchase
shares of common stock in the offering, provided that such IRAs are not
maintained on deposit with us. Persons with IRAs maintained with us must have
their accounts transferred to an unaffiliated institution or broker to purchase
shares of common stock in the offering. Instructions on how to transfer
self-directed IRAs maintained with us can be obtained from the Stock Information
Center.
Trident may enter into agreements with broker-dealers (Selected Dealers)
to assist in the sale of the shares in the Syndicated Community Offering. See
also "-- Plan of Distribution" and "-- Marketing Arrangements." No orders may be
placed or filled by or for a Selected Dealer during the Subscription Offering.
After the close of the Subscription Offering, Trident will instruct Selected
Dealers as to the number of shares to be allocated to each Selected Dealer. Only
after the close of the Subscription Offering and upon allocation of shares to
Selected Dealers may Selected Dealers take orders from their customers. During
the Subscription and Community Offerings, Selected Dealers may only solicit
indications of interest from their customers to place orders with Bancorp as of
a certain date ("Order Date") for the purchase of shares of common stock. When
and if Trident and we believe that sufficient orders have not been received in
the Subscription and the Community Offerings to consummate the Conversion,
Trident will request, as of the Order Date, Selected Dealers to submit orders to
purchase shares for which they have previously received indications of interest
from their customers. Selected Dealers will send confirmations of the orders to
their customers on the next business day after the Order Date. Selected Dealers
will debit the accounts of their customers on the "Settlement Date". The
Settlement Date will be three business days after the Order Date. Customers who
authorize Selected Dealers to debit their brokerage accounts are required to
have the funds for payment in their account by the Settlement Date. On the
Settlement Date, Selected Dealers will remit funds to the account established by
us for each Selected Dealer. Each customer's funds so forwarded to us along with
all other accounts held in the same title, will be insured by the FDIC up to
$100,000. After payment has been received by us from Selected Dealers, funds
will earn interest at our passbook savings account rate until the consummation
of the Conversion. Funds will be promptly returned, with interest, in the event
the Conversion is not consummated as described above.
However, Selected Dealers who do not hold or receive funds for customers
or carry accounts of, or for, customers will (1) instruct their customers who
wish to subscribe in the offering to make their checks payable to us and (2)
will transmit customer checks directly to us by noon of the next business day
after receipt by such Selected Dealer.
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Owners of self-directed IRAs may use the assets of such IRAs to purchase
shares of common stock in the offering, provided that such IRAs are not
maintained on deposit with us. Persons with IRAs maintained with us must have
their accounts transferred to an unaffiliated institution or broker to purchase
shares of common stock in the offering. Instructions on how to transfer
self-directed IRAs maintained with us can be obtained from the Stock Information
Center.
The ESOP may subscribe for shares by submitting its Order Form along with
evidence of a loan commitment from a financial institution or Bancorp for the
purchase of the shares during the Subscription Offering and by making payment
for shares on the date of completion of the Conversion.
Federal regulations prohibit us from lending funds or extending credit to
any person to purchase the common stock in the Conversion.
Delivery of Stock Certificates. Certificates representing common stock
issued in the Conversion will be mailed to the person(s) at the address noted on
the Order Form, as soon as practicable following consummation of the Conversion.
Any certificates returned as undeliverable will be held until properly claimed
or otherwise disposed. Persons ordering common stock might not be able to sell
their shares until they receive their stock certificates.
Limitations on Purchases and Transfer of Shares
The Plan provides for certain additional limitations to be placed upon the
purchase of the common stock in the Conversion. The minimum purchase is 25
shares and the maximum purchase for any person or persons ordering through a
single account is than 15,000 shares of common stock. No person, together with
any associate, or group of persons acting in concert may purchase more than
25,000 shares of common stock except for the Employee Plans which may purchase
up to 8% of the shares sold. The OTS regulations governing the Conversion
provide that officers and directors and their associates may not purchase, in
the aggregate, more than 35% of the shares of the common stock issued pursuant
to the Conversion.
Depending on market conditions and the results of the offering, the board
of directors may increase or decrease any of the purchase limitations without
the approval of our members and without resoliciting subscribers. If the maximum
purchase limitation is increased, persons who ordered the maximum amount will be
given the first opportunity to increase their orders. In doing so the preference
categories in the offerings will be followed.
In the event of an increase in the total number of shares offered in the
Conversion due to an increase in the EVR of up to 15% (the "Adjusted Maximum"),
the additional shares will be allocated in the following order of priority: (i)
to fill the Employee Plans' subscription of up to 8% of the Adjusted Maximum
number of shares (the ESOP currently intends to subscribe for 8%); (ii) in the
event that there is an oversubscription by Eligible Account Holders, to fill
unfulfilled subscriptions of Eligible Account Holders exclusive of the Adjusted
Maximum; (iii) in the event that there is an oversubscription by Supplemental
Eligible Account Holders, to fill unfulfilled subscriptions to Supplemental
Eligible Account Holders exclusive of the Adjusted Maximum; (iv) in the event
that there is an oversubscription by Other Members, to fill unfulfilled
subscriptions of Other Members exclusive of the Adjusted Maximum; and (v) to
fill unfulfilled subscriptions in the Community Offering to the extent possible,
exclusive of the Adjusted Maximum.
The term "associate" of a person means (i) any corporation or organization
(other than us or a majority-owned subsidiary of ours) of which such person is
an officer or partner or is, directly or
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indirectly, the beneficial owner of 10% or more of any class of equity
securities, (ii) any trust or other estate in which such person has a
substantial beneficial interest or as to which such person serves as director or
in a similar fiduciary capacity (excluding tax-qualified employee stock benefit
plans), and (iii) any relative or spouse of such person or any relative of such
spouse, who has the same home as such person or who is a director or officer of
us, or any of our subsidiaries. For example, a corporation of which a person
serves as an officer would be an associate of that person, and therefore all
shares purchased by that corporation would be included with the number of shares
which that person individually could purchase under the above limitations.
The term "officer" may include our Chairman of the Board, President,
Senior Vice Presidents, Vice Presidents in charge of principal business
functions, Secretary and Treasurer and any other person performing similar
functions. All references herein to an officer shall have the same meaning as
used for an officer in the Plan.
The term "residing," as used in relation to the preference afforded
natural persons in Carter County, Tennessee, means any natural person who
occupies a dwelling within Carter County, has an intention to remain within
Carter County (manifested by establishing a physical, on-going, non-transitory
presence within Carter County), and continues to reside in Carter County at the
time of the offering. We may utilize deposit or loan records or such other
evidence provided to it to make the determination whether a person is residing
in Carter County. Such determination shall be in our sole discretion.
To order shares of common stock in the Conversion, persons must certify
that their purchase does not conflict with the purchase limitations. In the
event that the purchase limitations are violated by any person (including any
associate or group of persons affiliated or otherwise acting in concert with
such persons), we will have the right to purchase from that person at $10.00 per
share all shares acquired by that person in excess of that purchase limitations.
If the excess shares have been sold by that person, we may recover the profit
from the sale of the shares by that person. We may assign our right either to
purchase the excess shares or to recover the profits from their sale.
Common stock purchased pursuant to the Conversion will be freely
transferable, except for shares purchased by our directors and officers. For
certain restrictions on the common stock purchased by directors and officers,
see " -- Restrictions on Sales and Purchases of Common Stock by Directors and
Officers." In addition, under guidelines of the NASD, members of the NASD and
their associates are subject to certain restrictions on the transfer of
securities purchased in accordance with subscription rights and to certain
reporting requirements upon purchase of such securities.
Plan of Distribution
Materials for the offering have been distributed to eligible subscribers
by mail. Additional copies will be available at our main office. Our officers
may be available to answer questions about the Conversion. Responses to
questions about us will be limited to the information contained in this
document. Officers will not be authorized to render investment advice. All
subscribers for the shares to be offered will be instructed to send payment
directly to us. The funds will be held in a segregated special escrow account
and not released until the closing of the Conversion or its termination.
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Marketing Arrangements
Trident has been engaged as our financial advisor and sales agent in
connection with the offering. Trident has agreed to use its best efforts to
assist us in the sale of the shares in the offering. As compensation, Trident
will receive a commission equal to 1.85% of the aggregate dollar amount of
capital stock sold to investors who reside in Carter County, Tennessee, a
commission equal to 1.50% on sales to investors residing in contiguous Tennessee
counties, a commission equal to 1.15% on sales to investors residing in other
Tennessee counties and a commission equal to 0.95% on sales to investors
residing outside the state of Tennessee, except no commissions shall be payable
on shares purchased by officers, directors, employees or their associates or
employee benefit plans, and commissions shall be capped at the midpoint of the
Estimated Valuation Range ($5,800,000). If shares of common stock are offered
for sale in a Syndicated Community Offering, Trident will organize and manage
the syndicate of selected broker-dealers for no additional fee. The commission
to be paid to any such selected broker-dealers will be at the discretion of the
management of Bancorp and is not expected to exceed 5%. Fees paid to Trident and
to any other broker-dealer may be deemed to be underwriting fees and Trident and
such broker-dealers may be deemed to be underwriters. Trident will also be
reimbursed up to $31,000 for legal fees and reasonable out-of-pocket expenses.
We have agreed to indemnify Trident for reasonable costs and expenses in
connection with certain claims or liabilities which might be asserted against
Trident. This indemnification covers the investigation, preparation of defense
and defense of any action, proceeding or claim relating to misrepresentation or
breach of warranty of the written agreement among Trident and us or the omission
or alleged omission of a material fact required to be stated or necessary in the
prospectus or other documents.
The common stock will be offered principally by the distribution of this
document and through activities conducted at a Stock Information Center located
at our main office. The Stock Information Center is expected to operate during
our normal business hours throughout the offering. A registered representative
employed by Trident will be working at, and supervising the operation of, the
Stock Information Center. Trident will assist us for responding to questions
regarding the Conversion and the offering and processing Order Forms. Our
personnel will be present in the Stock Information Center to assist Trident with
clerical matters and to answer questions related solely to our business.
Stock Pricing
Feldman, an independent economic consulting and appraisal firm, which is
experienced in the evaluation and appraisal of business entities, including
savings institutions involved in the conversion process, to prepare an appraisal
of our estimated pro forma market value. Feldman will receive a fee of $12,500
for preparing the appraisal and its assistance in connection with the
preparation of a business plan and will be reimbursed up to $2,500 for
reasonable out-of-pocket expenses. We have agreed to indemnify Feldman under
certain circumstances against liabilities and expenses arising out of or based
on any misstatement or untrue statement of a material fact contained in the
information supplied by us to Feldman.
The appraisal was prepared by Feldman in reliance upon the information
contained herein, including the financial statements. The appraisal contains an
analysis of a number of factors including, but not limited to, our financial
condition and operating trends, the competitive environment within which we
operate, operating trends of certain savings institutions and savings and loan
holding companies, relevant economic conditions, both nationally and in the
state of Tennessee which affect the operations
62
of savings institutions, and stock market values of certain savings
institutions. In addition, Feldman has advised us that it has considered and
will consider the effect of the additional capital raised by the sale of the
shares on our estimated aggregate pro forma market value.
On the basis of the above, Feldman has determined, in its opinion, that as
of March 14, 1997 our estimated aggregate pro forma market value was $5,800,000.
OTS regulations require, however, that the appraiser establish a range of value
for the stock to allow for fluctuations in the aggregate value of the stock due
to changing market conditions and other factors. Accordingly, Feldman has
established a range of value from $4,930,000, to $6,670,000 for the offering
(the Estimated Valuation Range or EVR). The Estimated Valuation Range will be
updated prior to consummation of the Conversion.
The board of directors has reviewed the independent appraisal, including
the stated methodology of the independent appraiser and the assumptions used in
the preparation of the independent appraisal. The board of directors is relying
upon the expertise, experience and independence of the appraiser and is not
qualified to determine the appropriateness of the assumptions.
In order for stock sales to take place Feldman must confirm to the OTS
that, to the best of Feldman's knowledge and judgment, nothing of a material
nature has occurred which would cause Feldman to conclude that the Purchase
Price on an aggregate basis was incompatible with Feldman estimate of our pro
forma market value of us in converted form at the time of the sale. If, however,
facts do not justify such a statement, an amended Estimated Valuation Range may
be established.
The appraisal is not a recommendation of any kind as to the advisability
of purchasing these shares. In preparing the appraisal, Feldman has relied upon
and assumed the accuracy and completeness of financial and statistical
information provided by us. Feldman did not independently verify the financial
statements and other information provided by us, nor did Feldman value
independently our assets and liabilities. The appraisal considers us only as a
going concern and should not be considered as the liquidation value. Moreover,
because the appraisal is based upon estimates and projections of a number of
matters which are subject to change, the market price of the common stock could
decline below $10.00
Change in Number of Shares to be Issued in the Conversion
Depending on market and financial conditions at the time of the completion
of the Subscription and Community Offerings, we may significantly increase or
decrease the number of shares to be issued in the Conversion. In the event of an
increase in the valuation, we may increase the total number of shares to be
issued in the Conversion. An increase in the total number of shares to be issued
in the Conversion would decrease a subscriber's percentage ownership interest
and the pro forma net worth (book value) per share and increase the pro forma
net income and net worth (book value) on an aggregate basis. In the event of a
material reduction in the valuation, we may decrease the number of shares to be
issued to reflect the reduced valuation. A decrease in the number of shares to
be issued in the Conversion would increase a subscriber's percentage ownership
interest and the pro forma net worth (book value) per share and decrease pro
forma net income and net worth on an aggregate basis.
Persons ordering shares will not be permitted to modify or cancel their
orders unless the change in the number of shares to be issued in the Conversion
results in an offering which is either less than $4,930,000 or more than
$7,670,000. Any adjustments to the EVR as a result of changes in market and
financial conditions would be subject to OTS review.
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Restrictions on Repurchase of Stock
Generally, during the first year following the Conversion, Bancorp may not
repurchase its shares and during the second and third years following the
Conversion, Bancorp may repurchase five percent of the outstanding shares
provided they are purchased in open-market transactions. Repurchases must not
cause us to become undercapitalized and at least 10 days prior notice of the
repurchase must be provided to the OTS. The OTS may disapprove a repurchase
program upon a determination that (1) the repurchase program would adversely
affect our financial condition, (2) the information submitted is insufficient
upon which to base a conclusion as to whether the financial condition would be
adversely affected, or (3) a valid business purpose was not demonstrated.
However, the OTS may grant special permission to repurchase shares after six
months following the Conversion and to repurchase more than five percent during
each of the second and third years. In addition, SEC rules also govern the
method, time, price, and number of shares of common stock that may be
repurchased by Bancorp and affiliated purchasers. If, in the future, the rules
and regulations regarding the repurchase of stock are liberalized, Bancorp may
utilize the rules and regulations then in effect.
Restrictions on Sales and Purchases of Common Stock by Directors and Officers
Shares purchased by directors and officers of Bancorp may not be sold for
one year following completion of the Conversion. An exception to this rule is a
disposition of shares in the event of the death of the director or officer or in
any exchange of the shares in connection with a merger or acquisition of
Bancorp. Any shares issued to directors and officers as a stock dividend, stock
split, or otherwise with respect to restricted stock shall be subject to the
same restrictions.
For three years following the Conversion, directors and officers may
purchase shares only through a registered broker or dealer. Exceptions are
available only if the OTS has approved the purchase or the purchase is an arm's
length transaction and involves more than one percent of the outstanding shares.
Interpretation and Amendment of the Plan
We have the authority to interpret, amend and terminate the Plan. Our
interpretations are final. Amendments to the Plan after the receipt of member
approval will not need further member approval unless required by the OTS. We
may terminate the Plan at any time prior to consummation of the Conversion.
Conditions and Termination
Completion of the Conversion requires (i) the approval of the Plan by the
affirmative vote of not less than a majority of the total number of votes
eligible to be cast by our members; and (ii) the sale of all shares within 24
months following approval of the Plan by members. If these conditions are not
satisfied, the Plan will be terminated and we will continue our business in the
mutual form of organization. We may terminate the Plan at any time prior to the
meeting of members to vote on the Plan or at any time thereafter with the
approval of the OTS.
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Other
All statements made in this document are hereby qualified by the contents
of the Plan of Conversion, the material terms of which are set forth herein. The
Plan of Conversion is attached to the Proxy Statement and is filed as an exhibit
to this document. Copies of the Plan are available from us and we should be
consulted for further information. Adoption of the Plan by our members
authorizes us to amend or terminate the Plan.
RESTRICTIONS ON ACQUISITIONS OF SFB BANCORP, INC.
While the board of directors is not aware of any effort that might be made
to obtain control of Bancorp after Conversion, the board of directors believes
that it is appropriate to include certain provisions as part of Bancorp' charter
to protect the interests of Bancorp and its stockholders from hostile takeovers
("anti-takeover") which the board of directors might conclude are not in the
best interests of us or our stockholders. These provisions may have the effect
of discouraging a future takeover attempt which is not approved by the board of
directors but which individual stockholders may deem to be in their best
interests or in which stockholders may receive a substantial premium for their
shares over the current market prices. As a result, stockholders who might
desire to participate in such a transaction may not have an opportunity to do
so. Such provisions will also render the removal of the current board of
directors or management of Bancorp more difficult.
The following discussion is a general summary of the material provisions
of the charter, bylaws, and certain other regulatory provisions of Bancorp,
which may be deemed to have such an "anti-takeover" effect. The description of
these provisions is necessarily general and reference should be made in each
case to the charter and bylaws of Bancorp which are incorporated herein by
reference. See "Available Information" as to how to obtain a copy of these
documents.
Provisions of Bancorp Charter and Bylaws
Limitations on Voting Rights. The charter of Bancorp provides that in no
event shall any record owner of any outstanding common stock which is
beneficially owned, directly or indirectly, by a person who beneficially owns in
excess of 10% of the then outstanding shares of common stock (the "Limit") be
entitled or permitted to any vote in respect of the shares held in excess of the
Limit. In addition, for a period of five years from the completion of our
Conversion, no person may directly or indirectly offer to acquire or acquire the
beneficial ownership of more than 10% of any class of an equity security of
Bancorp. After five years from the date of the Conversion, a beneficial holder
submitting a proxy or proxies totalling more than 10% of the then outstanding
shares of common stock will be able to vote in the following manner: the number
of votes which may be cast by such a beneficial owner shall be a number equal to
the total number of votes that a single record owner of all common stock owned
by such person would be entitled to cast, multiplied by a fraction, the
numerator of which is the number of shares of such class or series which are
both beneficially owned and owned of record by such beneficial owner and the
denominator of which is the total number of shares of common stock beneficially
owned by such beneficial owner. The impact of these provisions on the submission
of a proxy on behalf of a beneficial holder of more than 10% of the common stock
is (1) to disregard for voting purposes and require divestiture of the amount of
stock held in excess of 10% (if within five years of the Conversion more than
10% of the common stock is beneficially owned by a person) and (2) limit the
vote on common stock held by the beneficial owner to 10% or possibly reduce the
amount that may be voted below the 10% level (if more than 10% of the common
stock is beneficially owned by a person more than five years after the
Conversion). Unless the grantor of a revocable proxy is an affiliate or an
associate of such a 10% holder or there is an arrangement, agreement or
understanding with such a 10% holder, these provisions
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would not restrict the ability of such a 10% holder of revocable proxies to
exercise revocable proxies for which the 10% holder is neither a beneficial nor
record owner. A person is a beneficial owner of a security if he has the power
to vote or direct the voting of all or part of the voting rights of the
security, or has the power to dispose of or direct the disposition of the
security. The charter of Bancorp further provide that this provision limiting
voting rights may only be amended upon the vote of 80% of the outstanding shares
of voting stock.
Election of Directors. Certain provisions of Bancorp's charter and bylaws
will impede changes in majority control of the board of directors. Bancorp's
charter provides that the board of directors of Bancorp will be divided into
three classes, with directors in each class elected for three-year staggered
terms. Thus, it would take two annual elections to replace a majority of
Bancorp's board. Bancorp's charter provides that the size of the board of
directors may be increased or decreased only if two-thirds of the directors then
in office concur in such action. The charter also provides that any vacancy
occurring in the board of directors, including a vacancy created by an increase
in the number of directors, shall be filled for the remainder of the unexpired
term by a majority vote of the directors then in office. Finally, the charter
and the bylaws impose certain notice and information requirements in connection
with the nomination by stockholders of candidates for election to the board of
directors or the proposal by stockholders of business to be acted upon at an
annual meeting of stockholders.
The charter provides that a director may only be removed for cause by the
affirmative vote of at least 80% of the shares of Bancorp entitled to vote
generally in an election of directors cast at a meeting of stockholders called
for that purpose.
Restrictions on Call of Special Meetings. The charter of Bancorp provides
that a special meeting of stockholders may be called only pursuant to a
resolution adopted by a majority of the board of directors, or a Committee of
the board or other person so empowered by the bylaws. The charter also provides
that any action required or permitted to be taken by the stockholders of Bancorp
may be taken only at an annual or special meeting and prohibits stockholder
action by written consent in lieu of a meeting.
Absence of Cumulative Voting. Bancorp's charter provides that stockholders
may not cumulate their votes in the election of directors.
Authorized Shares. The charter authorizes the issuance of 4,000,000 shares
of common stock and 1,000,000 shares of preferred stock. The shares of common
stock and preferred stock were authorized in an amount greater than that to be
issued in the Conversion to provide Bancorp board of directors with as much
flexibility as possible to effect, among other transactions, financings,
acquisitions, stock dividends, stock splits and the exercise of stock options.
However, these additional authorized shares may also be used by the board of
directors consistent with its fiduciary duty to deter future attempts to gain
control of Bancorp. The board of directors also has sole authority to determine
the terms of any one or more series of Preferred Stock, including voting rights,
conversion rates, and liquidation preferences. As a result of the ability to fix
voting rights for a series of Preferred Stock, the board has the power, to the
extent consistent with its fiduciary duty, to issue a series of Preferred Stock
to persons friendly to management in order to attempt to block a post-tender
offer merger or other transaction by which a third party seeks control, and
thereby assist management to retain its position. Bancorp's board currently has
no plans for the issuance of additional shares, other than the issuance of
additional shares upon exercise of stock options.
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Procedures for Certain Business Combinations. The Charter requires the
affirmative vote of at least 80% of the outstanding shares of Bancorp entitled
to vote in the election of director in order for Bancorp to engage in or enter
into certain "Business Combinations," as defined therein, with any Principal
Shareholder (as defined below) or any affiliates of the Principal Shareholder,
unless the proposed transaction has been approved in advance by Bancorp's board
of directors, excluding those who were not directors prior to the time the
Principal Shareholder became the Principal Shareholder. The term "Principal
Shareholder" is defined to include any person and the affiliates and associates
of the person (other than Bancorp or its subsidiary) who beneficially owns,
directly or indirectly, 10% or more of the outstanding shares of voting stock of
Bancorp. Any amendment to this provision requires the affirmative vote of at
least 80% of the shares of Bancorp entitled to vote generally in an election of
directors.
Amendment to Charter and Bylaws. Amendments to Bancorp's charter must be
approved by Bancorp's board of directors and also by a majority of the
outstanding shares of Bancorp's voting stock, provided, however, that approval
by at least 80% of the outstanding voting stock is generally required for
certain provisions (i.e., provisions relating to restrictions on the acquisition
and voting of greater than 10% of the common stock; number, classification,
election and removal of directors; amendment of Bylaws; call of special
stockholder meetings; director liability; certain business combinations; power
of indemnification; and amendments to provisions relating to the foregoing in
the Charter).
The bylaws may be amended by a majority vote of the board of directors or
the affirmative vote of the holders of at least 80% of the outstanding shares of
Bancorp entitled to vote in the election of Directors cast at a meeting called
for that purpose.
Benefit Plans. In addition to the provisions of Bancorp's charter and
bylaws described above, certain benefit plans of ours adopted in connection with
the Conversion contain provisions which also may discourage hostile takeover
attempts which the boards of directors might conclude are not in the best
interests for us or our stockholders. For a description of the benefit plans and
the provisions of such plans relating to changes in control, see "Management of
Security Federal Savings Bank - Certain Benefit Plans and Agreements."
Regulatory Restrictions. A federal regulation prohibits any person prior
to the completion of a conversion from transferring, or entering into any
agreement or understanding to transfer, the legal or beneficial ownership of the
subscription rights issued under a plan of conversion or the stock to be issued
upon their exercise. This regulation also prohibits any person prior to the
completion of a conversion from offering, or making an announcement of an offer
or intent to make an offer, to purchase such subscription rights or stock. For
three years following conversion, OTS regulations prohibit any person, without
the prior approval of the OTS, from acquiring or making an offer to acquire more
than 10% of the stock of any converted savings institution if such person is, or
after consummation of such acquisition would be, the beneficial owner of more
than 10% of such stock. In the event that any person, directly or indirectly,
violates this regulation, the securities beneficially owned by such person in
excess of 10% shall not be counted as shares entitled to vote and shall not be
voted by any person or counted as voting shares in connection with any matter
submitted to a vote of stockholders.
Federal law provides that no company, "directly or indirectly or acting in
concert with one or more persons, or through one or more subsidiaries, or
through one or more transactions," may acquire "control" of a savings
association at any time without the prior approval of the OTS. In addition, any
company that acquires such control becomes a "savings and loan holding company"
subject to registration, examination and regulation as a savings and loan
holding company. Control in this context means ownership of, control of, or
holding proxies representing more than 25% of the voting shares of
67
a savings association or the power to control in any manner the election of a
majority of the directors of such institution.
Federal law also provides that no "person," acting directly or indirectly
or through or in concert with one or more other persons, may acquire control of
a savings association unless at least 60 days prior written notice has been
given to the OTS and the OTS has not objected to the proposed acquisition.
Control is defined for this purpose as the power, directly or indirectly, to
direct the management or policies of a savings association or to vote more than
25% of any class of voting securities of a savings association. Under federal
law (as well as the regulations referred to below) the term "savings
association" includes state-chartered and federally chartered SAIF-insured
institutions, federally chartered savings and loans and savings banks whose
accounts are insured by the FDIC and holding companies thereof.
Federal regulations require that, prior to obtaining control of an insured
institution, a person, other than a company, must give 60 days notice to the OTS
and have received no OTS objection to such acquisition of control, and a company
must apply for and receive OTS approval of the acquisition. Control, involves a
25% voting stock test, control in any manner of the election of a majority of
the institution's directors, or a determination by the OTS that the acquiror has
the power to direct, or directly or indirectly to exercise a controlling
influence over, the management or policies of the institution. Acquisition of
more than 10% of an institution's voting stock, if the acquiror also is subject
to any one of either "control factors," constitutes a rebuttable determination
of control under the regulations. The determination of control may be rebutted
by submission to the OTS, prior to the acquisition of stock or the occurrence of
any other circumstances giving rise to such determination, of a statement
setting forth facts and circumstances which would support a finding that no
control relationship will exist and containing certain undertakings. The
regulations provide that persons or companies which acquire beneficial ownership
exceeding 10% or more of any class of a savings association's stock after the
effective date of the regulations must file with the OTS a certification that
the holder is not in control of such institution, is not subject to a rebuttable
determination of control and will take no action which would result in a
determination or rebuttable determination of control without prior notice to or
approval of the OTS, as applicable.
DESCRIPTION OF CAPITAL STOCK
Bancorp is authorized to issue 4,000,000 shares of the common stock, $0.10
par value per share, and 1,000,000 shares of serial preferred stock, $.10 par
value per share. Bancorp currently expects to issue up to 767,000 shares of
common stock in the Conversion. Bancorp does not intend to issue any shares of
serial preferred stock in the Conversion, nor are there any present plans to
issue such preferred stock following the Conversion. The aggregate par value of
the issued shares will constitute the capital account of Bancorp. The balance of
the purchase price will be recorded for accounting purposes as additional
paid-in capital. See "Capitalization." The capital stock of Bancorp will
represent nonwithdrawable capital and will not be insured by us, the FDIC, or
any other government agency.
Common Stock
Voting Rights. Each share of the common stock will have the same relative
rights and will be identical in all respects with every other share of the
common stock. The holders of the common stock will possess exclusive voting
rights in Bancorp, except to the extent that shares of serial preferred stock
issued in the future may have voting rights, if any. Each holder of the common
stock will be entitled to only one vote for each share held of record on all
matters submitted to a vote of holders of the common stock and will not be
permitted to cumulate their votes in the election of Bancorp's directors.
68
Liquidation. In the unlikely event of the complete liquidation or
dissolution of Bancorp, the holders of the common stock will be entitled to
receive all assets of Bancorp available for distribution in cash or in kind,
after payment or provision for payment of (i) all debts and liabilities of
Bancorp (including all deposits with us and accrued interest thereon); (ii) any
accrued dividend claims; (iii) liquidation preferences of any serial preferred
stock which may be issued in the future; and (iv) any interests in the
liquidation account established upon the Conversion for the benefit of Eligible
Account Holders and Supplemental Eligible Account Holders who continue to have
their deposits with us.
Restrictions on Acquisition of the Common Stock. See "Certain Restrictions
on Acquisition of Bancorp" for a discussion of the limitations on acquisition of
shares of the common stock.
Other Characteristics. Holders of the common stock will not have
preemptive rights with respect to any additional shares of the common stock
which may be issued. Therefore, the board of directors may sell shares of
capital stock of Bancorp without first offering such shares to existing
stockholders of Bancorp. The common stock is not subject to call for redemption,
and the outstanding shares of common stock when issued and upon receipt by
Bancorp of the full purchase price therefor will be fully paid and
non-assessable.
Issuance of Additional Shares. Except in the Subscription and Community
Offerings and possibly pursuant to the RSP or Option Plan, the Bancorp has no
present plans, proposals, arrangements or understandings to issue additional
authorized shares of the common stock. In the future, the authorized but
unissued and unreserved shares of the common stock will be available for general
corporate purposes, including, but not limited to, possible issuance: (i) as
stock dividends; (ii) in connection with mergers or acquisitions; (iii) under a
cash dividend reinvestment or stock purchase plan; (iv) in a public or private
offering; or (v) under employee benefit plans. See "Risk Factors -- Possible
Dilutive Effect of RSP and Stock Options and Effect of Purchases by the RSP and
ESOP" and "Pro Forma Data." Normally no stockholder approval would be required
for the issuance of these shares, except as described herein or as otherwise
required to approve a transaction in which additional authorized shares of the
common stock are to be issued.
For additional information, see "Dividends," "Regulation" and "Taxation"
with respect to restrictions on the payment of cash dividends; "-- Restrictions
on Transferability by Directors and Officers" relating to certain restrictions
on the transferability of shares purchased by directors and officers; and
"Certain Restrictions on Acquisition of Bancorp" for information regarding
restrictions on acquiring common stock of Bancorp.
Serial Preferred Stock
None of the 1,000,000 authorized shares of serial preferred stock of
Bancorp will be issued in the Conversion. After the Conversion is completed, the
board of directors of Bancorp will be authorized to issue serial preferred stock
and to fix and state voting powers, designations, preferences or other special
rights of such shares and the qualifications, limitations and restrictions
thereof, subject to regulatory approval but without stockholder approval. If and
when issued, the serial preferred stock is likely to rank prior to the common
stock as to dividend rights, liquidation preferences, or both, and may have full
or limited voting rights. The board of directors, without stockholder approval,
can issue serial preferred stock with voting and conversion rights which could
adversely affect the voting power of the holders of the common stock. The board
of directors has no present intention to issue any of the serial preferred
stock.
69
LEGAL AND TAX MATTERS
The legality of the common stock has been passed upon for us by Malizia,
Spidi, Sloane & Fisch, P.C., Washington, D.C. Certain legal matters for Trident
will be passed upon by Housley, Kantarian & Bronstein, P.C. The federal income
tax consequences of the Conversion have been passed upon for us by Malizia,
Spidi, Sloane & Fisch, P.C., Washington, D.C. The Tennessee income tax
consequences of the Conversion have been passed upon for us by Crisp Hughes &
Co., L.L.P.
EXPERTS
The consolidated financial statements of the Security Federal Savings
Bank as of and for the years ended December 31, 1995 and 1996 appearing in this
document have been audited by Crisp Hughes & Co., L.L.P., independent certified
public accountants, as set forth in their report which appears elsewhere in this
document, and is included in reliance upon such report given upon the authority
of such firm as experts in accounting and auditing.
Feldman has consented to the publication herein of a summary of its
letters to Security Federal Savings Bank setting forth its opinion as to the
estimated pro forma market value of us in the converted form and its opinion
setting forth the value of subscription rights and to the use of its name and
statements with respect to it appearing in this document.
CHANGE IN AUDITOR
On November 20, 1996, Lawson and Frizzell, CPA's, the independent auditor
for us, advised us that it did not wish to continue as independent auditor
following the Conversion. The report of Lawson and Frizzell, CPA's for the
fiscal years ended December 31, 1994 and 1995 contained no adverse opinion or
disclaimer of opinion and was not qualified or modified as to uncertainty, audit
scope or accounting principles. During the fiscal years ended December 31, 1994
and 1995 and during the period from January 1, 1995 to December 5, 1996, there
were no disagreements between us and Lawson and Frizzell, CPA's concerning
accounting principles or practices, financial statement disclosure, or auditing
scope or procedure. On December 5, 1996, the audit proposal of Crisp Hughes &
Co., L.L.P. for the 1996 audit year was accepted; approval of the selection of a
new auditor was obtained at a meeting of our board of directors held on December
5, 1996. Crisp Hughes & Co., L.L.P. reaudited the fiscal 1995 financial
statements in order to be identified as the auditor of record in the Conversion.
REGISTRATION REQUIREMENTS
The common stock of Bancorp will be registered pursuant to Section 12(g)
of the Exchange Act prior to completion of the Conversion. Bancorp will be
subject to the information, proxy solicitation, insider trading restrictions,
tender offer rules, periodic reporting and other requirements of the SEC under
the Exchange Act. Bancorp may not deregister the common stock under the Exchange
Act for a period of at least three years following the Conversion.
70
ADDITIONAL INFORMATION
Bancorp and Security Federal Savings Bank are not currently subject to the
informational requirements of the Securities Exchange Act of 1934, as amended
(the "Exchange Act").
Bancorp has filed with the SEC a Form SB-2 under the Securities Act of
1933, as amended, with respect to the common stock offered in this document. As
permitted by the rules and regulations of the SEC, this document does not
contain all the information set forth in the registration statement. Such
information can be examined without charge at the public reference facilities of
the SEC located at 450 Fifth Street, N.W., Washington, D.C. 20549, and copies of
such material can be obtained from the SEC at prescribed rates. The SEC also
maintains an internet address ("Web site") that contains reports, proxy and
information statements and other information regarding registrants, including
the Company, that file electronically with the SEC. The address for this Web
site is "http://www.sec.gov." The statements contained in this document as to
the contents of any contract or other document filed as an exhibit to the Form
SB-2 are, of necessity, brief descriptions and are not necessarily complete;
each such statement is qualified by reference to such contract or document.
Security Federal Savings Bank has filed an Application for Conversion with
the OTS with respect to the Conversion. Pursuant to the rules and regulations of
the OTS, this document omits certain information contained in that Application.
The Application may be examined at the principal office of the OTS, 1700 G
Street, N.W., Washington, D.C. 20552 and at the Central Regional Office of the
OTS, 111 East Wacker Drive, Suite 800, Chicago, Illinois 60601-4360 without
charge.
A copy of the Charter and the Bylaws of Bancorp are available without
charge from Security Federal Savings Bank.
71
SECURITY FEDERAL SAVINGS BANK
and Subsidiary
Index to Consolidated Financial Statements
Page(s)
Independent Auditors' Reports .......................................... F-1
Consolidated Balance Sheets as of
December 31, 1995 and 1996............................................ F-2
Consolidated Statements of Income for the Years
Ended December 31, 1995 and 1996...................................... 12
Consolidated Statements of Equity for the
Years Ended December 31, 1995 and 1996................................ F-3
Consolidated Statements of Cash Flows for the
Years Ended December 31, 1995 and 1996................................ F-4
Notes to Consolidated Financial Statements.............................. F-6
All schedules are omitted because the required information is either not
applicable or is included in the consolidated financial statements or related
notes.
Separate financial statements for Bancorp have not been included since it will
not engage in material transactions until after the Conversion. Bancorp, which
has been inactive to date, has no significant assets, liabilities, revenues,
expenses or contingent liabilities.
72
CRISP
CH
HUGHES
--& CO., L.L.P.--
CERTIFIED PUBLIC ACCOUNTANTS AND CONSULTANTS
Independent Auditors' Report
To the Board of Directors
Security Federal Savings Bank
and Subsidiary
We have audited the accompanying consolidated balance sheets of Security Federal
Savings Bank (the "Bank") and Subsidiary as of December 31, 1995 and 1996, and
the related consolidated statements of income, equity, and cash flows for the
years then ended. These consolidated financial statements are the responsibility
of the Bank's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of the Bank as of
December 31, 1995 and 1996, and the results of their operations and their cash
flows for the years then ended, in conformity with generally accepted accounting
principles.
/s/Crisp Hughes & Co., L.L.P.
Asheville, North Carolina
January 27, 1997
F-1
32 Orange Street - P.O. Box 3049 - Asheville, North Carolina 28802
(704) 254-2254 - FAX (704) 254-6859
Other Offices: Boone, Burnsville, Sylva, NC and Greenville, SC
Member of: The American Institute of Certified Public Accountants,
The Continental Association of CPA Firms, Inc.
The Intercontinental Accounting Associates and
The North and South Carolina Associates of CPAs
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY
Consolidated Balance Sheets
(in thousands)
December 31,
----------------------------------
Assets 1995 1996
------ ---- ----
Cash and due from banks $ 439 $ 396
Interest-earning deposits 2,290 1,018
Investment securities:
Held to maturity (market value of $604
in 1995 and $613 in 1996) 667 715
Available for sale (amortized cost of $751
in 1995 and $599 in 1996) 747 597
Loans receivable, net 32,782 36,808
Mortgage-backed securities:
Available for sale (amortized cost of $7,451 in 1995
and $5,941 in 1996) 7,299 5,768
Premises and equipment, net 553 533
Real estate - 60
Federal Home Loan Bank stock 368 394
Interest receivable 214 257
Other 123 33
-------- --------
Total assets $ 45,482 $ 46,579
======== ========
Liabilities and Equity
----------------------
Deposits $ 40,637 $ 40,765
Federal Home Loan Bank advances - 800
Advance payments by borrowers for taxes and insurance 231 202
Accrued expenses and other liabilities 168 122
Income taxes payable:
Current 5 13
Deferred 15 1
-------- --------
Total liabilities 41,056 41,903
-------- --------
Equity:
Retained income, substantially restricted 4,522 4,784
Unrealized losses on securities available for sale,
net of income taxes (96) (108)
-------- --------
Total equity 4,426 4,676
-------- --------
Total liabilities and equity $ 45,482 $ 46,579
======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
F-2
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY
Consolidated Statements of Equity
(in thousands)
Net Unrealized
Gains (Losses)
on Securities
Retained Available
Income for Sale Total
------ -------- -----
Balance at December 31, 1994 $ 4,158 $ (138) $ 4,020
Net income 364 - 364
Net unrealized gains on securities
available for sale, net of income
tax of $26 - 42 42
------- ------ -------
Balance at December 31, 1995 4,522 (96) 4,426
Net income 262 - 262
Net unrealized losses on securities
available for sale, net of income
tax benefit of $8 - (12) (12)
------- ------ -------
Balance at December 31, 1996 $ 4,784 $ (108) $ 4,676
======= ====== =======
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY
Consolidated Statements of Cash Flows
(in thousands)
Years Ended December 31,
----------------------------------
1995 1996
Operating activities:
Net income $ 364 $ 262
Adjustments to reconcile net income to net
cash provided (used) by operating activities:
Depreciation 61 54
Provision for loan losses 30 30
Deferred income taxes (benefit) 18 (6)
Net increase in deferred loan fees 5 16
Accretion of discounts on investment securities, net (17) (20)
Amortization of premiums on mortgage-backed securities 22 17
FHLB stock dividends (24) (26)
Losses on mortgage-backed securities sold - 2
Decrease (increase) in interest receivable 2 (43)
Decrease in other assets 45 90
Increase (decrease) in accrued expenses and other
liabilities 21 (46)
Increase in current income taxes 32 8
-------------- --------------
Net cash provided by operating activities 559 338
-------------- --------------
Investing activities:
Maturities of investment securities held to maturity 128 128
Purchase of investment securities held to maturity (100) (156)
Purchase of investment securities available for sale - (598)
Maturities of investment securities available for sale 350 750
Purchase of mortgage-backed securities available for
sale (90) -
Principal payments on mortgage-backed securities
available for sale 873 1,118
Proceeds from sale of mortgage-backed securities
available for sale - 372
Net increase in loans (615) (4,132)
Purchase of equipment (16) (34)
-------------- --------------
Net cash provided (used) in investing activities 530 (2,552)
-------------- --------------
F-4
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY
Consolidated Statements of Cash Flows, Continued
(in thousands)
Years Ended December 31,
----------------------------------
1995 1996
Financing activities:
Net increase in deposits $ 1,336 $ 128
Increase (decrease) in advance payments by borrowers
for taxes and insurance 17 (29)
Proceeds from FHLB advances - 1,100
Repayment of FHLB advances (700) (300)
-------------- --------------
Net cash provided by financing activities 653 899
-------------- --------------
Increase (decrease) in cash and
cash equivalents 1,742 (1,315)
Cash and cash equivalents at beginning of year 987 2,729
-------------- --------------
Cash and cash equivalents at end of year $ 2,729 $ 1,414
============== ==============
Supplemental disclosures of cash flow information:
Cash paid during the year for:
Interest on deposits and other borrowings $ 1,952 $ 2,005
Income taxes 265 112
-------------- --------------
Noncash investing and financing activities:
Real estate acquired in satisfaction of
mortgage loans $ - $ 60
Unrealized gains (losses) on securities available
for sale, net of income tax (benefit) of $26
and $(8), respectively 42 (12)
Mortgage-backed securities held to maturity
transferred to available for sale, at amortized cost $ 4,576 $ -
============== ==============
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY
Notes to Consolidated Financial Statements
December 31, 1995 and 1996
(Tabular amounts in thousands)
1. Summary of Significant Accounting Policies
------------------------------------------
The accounting and reporting policies of Security Federal Savings Bank (the
"Bank") and its subsidiary conform, in all material respects, to generally
accepted accounting principles and to general practices within the savings
and loan industry. The following summarize the more significant of these
policies and practices.
Nature of Operations - Security Federal Savings Bank, is a
federally-chartered, mutually owned savings bank. The Bank's principal line
of business is originating residential and nonresidential first mortgage
loans. The Bank's principal market is Carter County and parts of East
Tennessee. The loans are primarily with individuals; however, some
corporate borrowers have loans at the Bank.
Estimates - The preparation of consolidated 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 consolidated financial statements and the
reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
Principles of Consolidation - The consolidated financial statements include
the accounts of the Bank and its wholly-owned subsidiary, SFS, Inc.
Intercompany balances and transactions have been eliminated. SFS, Inc. is
currently inactive and its impact on the consolidated financial statements
is insignificant.
Loans Receivable - Loans receivable are carried at their unpaid principal
balance less, where applicable, net deferred loan fees and allowances for
losses. Additions to the allowances for losses are based on management's
evaluation of the loan portfolio under current economic conditions and such
other factors which, in management's judgment, deserve recognition in
estimating losses. Interest accrual is discontinued when a loan becomes 90
days delinquent unless, in management's opinion, the loan is well secured
and in process of collection. Interest income on impaired loans is
recognized on a cash basis.
Loan Fees - Loan fees result from the origination of loans. Such fees and
certain direct incremental costs related to origination of such loans are
deferred ("net deferred loan fees") and reflected as a reduction of the
carrying value of loans. The net deferred loan fees (or costs) are
F-6
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
amortized using the interest method over the contractual lives of the
loans. Unamortized net deferred loan fees on loans sold prior to maturity
are credited to income at the time of sale.
Investment Securities and Mortgage-Backed Securities - Investment
securities held to maturity are stated at amortized cost since the Bank has
both the ability and positive intent to hold such securities to maturity.
Premiums and discounts on the investment securities are amortized or
accreted into income over the contractual terms of the securities using a
level yield interest method. Gains and losses on the sale of these
securities are calculated based on the specific identification method.
Investment securities and mortgage-backed securities available for sale are
carried at fair value. The Bank has identified their holdings in certain
debt securities and all mortgage-backed securities as available for sale.
The unrealized holding gains or losses on securities available for sale are
excluded from income and reported, net of related income tax effects, as a
separate component of equity until realized. Gains or losses on sales of
securities available for sale are based on the specific identification
method.
Real Estate - Real estate properties acquired through loan foreclosure are
initially recorded at fair value at the date of foreclosure. Subsequent to
foreclosure, real estate is recorded at the lower of initial fair value or
existing fair value less estimated costs to sell (net realizable value).
Real estate property held for investment is carried at the lower of cost,
including cost of property improvements incurred subsequent to acquisition
less depreciation, or net realizable value. Costs relating to development
and improvement of properties are capitalized, whereas costs relating to
the holding of property are expensed.
Valuations are periodically performed by management, and an allowance for
losses is established by a charge to income if the carrying value of a
property exceeds its estimated net realizable value.
Premises and Equipment - Land is carried at cost. Office properties and
equipment are carried at cost less accumulated depreciation. Depreciation
is computed on straight-line method over the estimated useful lives of the
assets ranging from 5 to 39 years. The cost of maintenance and repairs is
charged to expense as incurred while expenditures which materially increase
property lives are capitalized.
F-7
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
Federal Home Loan Bank Stock - Investment in stock of a Federal Home Loan
Bank is required by law of every federally insured savings and loan or
savings bank. The investment is carried at cost. No ready market exists for
the stock, and it has no quoted market value.
Income Taxes - The Bank and its subsidiary follow the practice of filing
consolidated income tax returns. Income taxes are allocated to the Bank as
though separate returns are being filed.
The Bank utilizes the liability method of computing income taxes in
accordance with Statement of Financial Accounting Standard No. 109,
"Accounting for Income Taxes" (SFAS 109). Under the liability method,
deferred tax liabilities and assets are established for future tax return
effects of temporary differences between the stated value of assets and
liabilities for financial reporting purposes and their tax basis adjusted
for tax rate changes. The focus is on accruing the appropriate balance
sheet deferred tax amount, with the statement of income effect being the
result of changes in balance sheet amounts from period to period. Current
income tax expense is provided based upon the actual tax liability incurred
for tax return purposes.
Cash Flow Information - As presented in the consolidated statements of cash
flows, cash and cash equivalents include cash on hand and interest-earning
deposits in other banks. The Bank considers all highly liquid instruments
with original maturities of three months or less to be cash equivalents.
Impact of New Accounting Pronouncement - In June, 1996, the FASB issued
SFAS No. 125, Accounting for the Transfer and servicing of Financial Assets
and Extinguishment of Liabilities ("SFAS 125"). SFAS 125 supersedes SFAS
122, Accounting for Mortgage Servicing Rights. SFAS 125 provides accounting
and reporting standards for transfers and serving of financial assets and
the extinguishment of liabilities based on consistent application of a
financial components approach, after a transfer of financial assets, an
entity recognizes all financial and servicing assets it controls and
liabilities it has incurred and derecognizes financial assets it no longer
controls and liabilities that have been extinguished. SFAS 125 is effective
for transfers and servicing of financial assets and extinguishment of
liabilities occurring after December 31, 1996, and is to be applied
prospectively. Earlier or retroactive application is not permitted.
Management of the Bank will determine the effect on the Bank's financial
position and results of operations for future transactions that are covered
by this accounting standard.
F-8
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
2. Investment Securities
---------------------
The carrying values and estimated market values of investment securities
are summarized as follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---- ----- ------ -----
Securities to be held to
maturity:
December 31, 1995:
U.S. government security $ 378 $ - $ 63 $ 315
Municipal securities 289 - - 289
----------- -------- ----------- -----------
$ 667 $ - $ 63 $ 604
=========== ======== =========== ===========
December 31, 1996:
U.S. government security $ 398 $ - $ 102 $ 296
Municipal securities 317 - - $ 317
----------- -------- ----------- -----------
$ 715 $ - $ 102 $ 613
=========== ======== =========== ===========
Securities available for sale:
December 31, 1995:
U.S. government and
agency securities $ 751 $ - $ 4 $ 747
=========== ======== =========== ===========
December 31, 1996:
U.S. government and
agency securities $ 599 $ - $ 2 $ 597
=========== ======== =========== ===========
The amortized cost and estimated market values of debt securities by
contractual maturity are as follows:
Amortized Estimated
Cost Market Value
-------------------------- ---------------------------
1995 1996 1995 1996
---- ---- ---- ----
Securities to be held to
maturity:
Due in one year $ 127 $ 127 $ 127 $ 127
Due after one year through
five years 162 190 162 190
Due after ten years 378 398 315 296
----------- ----------- ----------- -----------
$ 667 $ 715 $ 604 $ 613
=========== =========== =========== ===========
Securities available for sale:
Due in one year $ 751 - $ 747 -
Due after one year through
five years - 599 - 597
----------- ----------- ----------- -----------
$ 751 $ 599 $ 747 $ 597
=========== =========== =========== ===========
The Bank had investment securities with an amortized cost of approximately
$1,129,000 and $997,000 pledged against deposits at December 31, 1995 and
1996.
F-9
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
The Bank had no sales of investment securities to be held to maturity or
available for sale for the years ended December 31, 1995 and 1996.
The net unrealized losses on investment securities available for sale, net
of taxes, at December 31, 1995 and 1996, $2,600 and $1,100, respectively,
are reported as a separate component of equity.
3. Loans Receivable
----------------
Loans receivable are summarized as follows:
December 31,
-------------------------------
1995 1996
---- ----
Real estate first mortgage loans:
One-to-four-family $ 26,396 $ 29,653
Construction 724 1,125
Commercial real estate 1,173 1,288
Multi-family residential 780 912
Land 1,534 1,732
-------------- --------------
Total real estate loans 30,607 34,710
-------------- --------------
Consumer and commercial loans:
Commercial business 660 558
Auto loans 1,455 1,949
Share loans 414 435
Other 477 524
-------------- --------------
Total consumer and commercial loans 3,006 3,466
-------------- --------------
Total loans 33,613 38,176
-------------- --------------
Less:
Undisbursed portion of loans in process 447 942
Net deferred loan fees 105 122
Allowance for loan losses 279 304
831 1,368
-------------- --------------
$ 32,782 $ 36,808
============== ==============
F-10
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
The Bank's primary lending area for the origination of mortgage loans
includes Carter County and East Tennessee. The Bank limits uninsured loans
to 85% of the appraised value of the property securing the loan. Generally,
the Bank allows loans covered by private mortgage insurance up to 95% of
the appraised value of the property securing the loan.
The general policy is to limit loans on commercial real estate to 80% of
the lesser of appraised value or construction cost of the property securing
the loan.
The Bank's policy requires that consumer and other installment loans be
supported primarily by the borrower's ability to repay the loan and
secondarily by the value of the collateral securing the loan, if any.
Management of the Bank believes that its allowances for losses on its loan
portfolio are adequate. However, the estimates used by management in
determining the adequacy of such allowances are susceptible to significant
changes due primarily to changes in economic and market conditions. In
addition, various regulatory agencies periodically review the Bank's
allowance for losses as an integral part of their examination processes.
Such agencies may require the Bank to recognize additions to the allowances
based on their judgments of information available to them at the time of
their examinations.
In accordance with SFAS No. 114, "Accounting by Creditors for Impairment of
a Loan", no loans in non-homogenous groups were determined to be impaired
for the year ended or as of December 31, 1996. Commercial real estate,
multi-family residential and land loans are included in the non-homogenous
group.
First mortgage loans which are contractually past due ninety days or more
total approximately $197,000 at December 31, 1995 and $295,000 at December
31, 1996. The amount the Bank will ultimately realize from these loans
could differ materially from their carrying value because of unanticipated
future developments affecting the underlying collateral or the borrower's
ability to repay the loans. If collection efforts are unsuccessful, these
loans will be subject to foreclosure proceedings in the ordinary course of
business. Management believes that the Bank has adequate collateral on
these loans and that the Bank will not incur material losses in the event
of foreclosure.
At December 31, 1996, the Bank had loans pledged against public deposits of
approximately $1,454,000.
F-11
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
The changes in the allowance for loan losses are summarized as follows:
Years Ended December 31,
------------------------
1995 1996
---- ----
Beginning balance $ 250 $ 279
Provision charged to income 30 30
Recoveries and charge-offs, net (1) (5)
----- -----
Ending balance $ 279 $ 304
===== =====
4. Mortgage-Backed Securities
--------------------------
Mortgage-backed securities are summarized as follows:
Gross Gross Estimated
Amortized Unrealized Unrealized Market
Cost Gains Losses Value
---- ----- ------ -----
Securities available for sale:
December 31, 1995:
GNMA $ 954 $ 4 $ 5 $ 953
FHLMC 105 2 - 107
FHLMC REMIC's 2,962 - 68 2,894
FNMA 812 4 13 803
FNMA REMIC's 2,618 - 76 2,542
------- ---- ----- -------
$ 7,451 $ 10 $ 162 $ 7,299
======= ==== ===== =======
December 31, 1996:
GNMA $ 812 $ 4 $ 6 $ 810
FHLMC 78 3 - 81
FHLMC REMIC's 2,222 - 79 2,143
FNMA 717 3 19 701
FNMA REMIC's 2,112 - 79 2,033
------- ---- ----- -------
$ 5,941 $ 10 $ 183 $ 5,768
======= ==== ===== =======
Although mortgage-backed securities are initially issued with a stated
maturity date, the underlying mortgage collateral may be prepaid by the
mortgagee and, therefore, such securities may not reach their maturity
date.
F-12
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
The Bank had mortgage-backed securities with an amortized cost of
approximately $3,310,000 and $2,480,000, pledged against deposits and FHLB
advances at December 31, 1995 and 1996, respectively.
For the year ended December 31, 1996, proceeds from sales of
mortgage-backed securities were $372,000, with realized losses of $2,000.
Their were no sales of mortgage-backed securities for the year ended
December 31, 1995.
The net unrealized losses at December 31, 1995 and 1996, $152,000 and
$173,000, net of related tax benefits of $57,500 and $66,100, respectively,
are reported as a separate component of equity.
In December 1995, the Bank transferred mortgage-backed securities held to
maturity with an amortized cost of approximately $4,576,000 and market
value of approximately $4,476,000 to the available for sale category. The
transfer was a result of the FASB allowing a one-time transfer of an
entity's investment portfolio without penalty.
5. Real Estate
-----------
Real estate is summarized as follows:
December 31,
-------------------------
1995 1996
---- ----
Real estate acquired in settlement of loans $ - $ 60
======= ====
6. Premises and Equipment
----------------------
Premises and equipment are summarized as follows:
December 31,
-------------------------
1995 1996
---- ----
Land and improvements $ 202 $ 202
Buildings 782 790
Vehicles 17 17
Furniture, fixtures and equipment 516 541
------- -------
1,517 1,550
Less accumulated depreciation (964) (1,017)
------- -------
$ 553 $ 533
======= =======
F-13
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
7. Interest Receivable
-------------------
Interest receivable consists of the following:
December 31,
--------------------------
1995 1996
---- ----
Loans receivable $ 171 $ 220
Investments 11 10
Mortgage-backed securities 37 33
----- -----
219 263
Less allowance for uncollectible interest (5) (6)
----- -----
$ 214 $ 257
===== =====
8. Deposits
--------
Deposit account balances are summarized as follows:
Weighted Average
Interest Rates
-----------------------
December 31, December 31,
---------------------------- -----------------------
1995 1996 1995 1996
---- ---- ---- ----
Noninterest bearing
accounts $ 283 $ 793 - % - %
NOW accounts 3,079 2,194 2.02% 1.99%
Money Market accounts 1,423 1,622 3.02% 3.03%
Passbook accounts 4,481 4,502 3.05% 3.04%
Certificates of deposit 31,371 31,654 5.82% 5.55%
-------- -------- ---- ----
$ 40,637 $ 40,765 5.09% 4.87%
======== ======== ==== ====
Contractual maturities of certificate accounts are summarized as follows:
December 31,
------------------------
1995 1996
---- ----
12 months or less $ 26,702 $ 25,851
After 1 but within 3 years 4,459 4,786
After 3 years 210 1,017
-------- --------
$ 31,371 $ 31,654
======== ========
The Bank had deposit accounts in amounts of $100,000 or more of
approximately $10.5 million and $10.1 million at December 31, 1995 and
1996, respectively.
F-14
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
Interest expense on deposits consisted of the following:
December 31,
-----------------------
1995 1996
---- ----
NOW, money market, and passbook accounts $ 248 $ 232
Certificate accounts 1,725 1,747
------- -------
1,973 1,979
Less: penalties for early withdrawal (5) (4)
------- -------
Total interest on deposits $ 1,968 $ 1,975
======= =======
9. Federal Home Loan Bank Advances
-------------------------------
Advances from the Federal Home Loan Bank (FHLB) are summarized as follows:
December 31,
-------------------------
Contractual Maturity 1995 1996
-------------------- ---- ----
Within one year:
Variable rate $ - $ 800
========== =====
Weighted average rate - % 5.85%
========== =====
The Bank pledges as collateral for these borrowings its FHLB stock and
selected qualifying mortgage loans (as defined) under an agreement with the
FHLB. Loans pledged at December 31, 1996, were approximately $1.3 million.
The Bank has total credit availability with the FHLB of up to $2.3 million.
10. Income Taxes
------------
Income tax expense(benefit) is summarized as follows:
Years Ended December 31,
------------------------------------------------------------------------- --
1995 1996
------------------------------------ ------------------------------------
Federal State Total Federal State Total
Current $ 174 $ 29 $ 203 $ 136 $ 27 $ 163
Deferred 11 7 18 (5) (1) (6)
--------- --------- --------- --------- --------- ---------
Total $ 185 $ 36 $ 221 $ 131 $ 26 $ 157
========= ========= ========= ========= ========= =========
The differences between actual income tax expense and the amount computed
by applying the federal statutory income tax rate of 34% to income before
income taxes are reconciled as follows:
F-15
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
Years Ended December 31,
---------------------------------
1995 1996
---- ----
Computed income tax expense $ 199 $ 142
Increase (decrease) resulting from:
State income tax, net of federal benefit 24 17
Other (2) (2)
----- -----
Actual income tax expense $ 221 $ 157
===== =====
The components of net deferred tax liabilities are as follows:
December 31,
---------------------------------
1995 1996
---- ----
Deferred tax liabilities:
Section 481(a) adjustment--bad debts $ - $ 137
Bad debt reserves 32 -
Excess tax depreciation 15 14
FHLB stock dividends 22 32
Purchased discounts on mortgage-backed securities 8 8
---- ---
77 191
---- ---
Deferred tax assets:
Bad debt reserves - 115
Accrued sick leave 3 5
Unrealized losses on securities available for sale 59 67
Other - 3
Valuation allowance - -
---- ---
62 190
---- ---
Net deferred tax liability $ 15 $ 1
==== ===
The Bank's annual addition to its reserve for bad debts allowed under the
Internal Revenue Code may differ significantly from the bad debt experience
used for financial statement purposes. Such bad debt deductions for income
tax purposes are included in taxable income of later years only if the bad
debt reserves are used for purposes other than to absorb bad debt losses.
Since the Bank does not intend to use the reserve for purposes other than
to absorb losses, no deferred income taxes have been provided on the amount
of bad debt reserves for tax purposes that arose in tax years beginning
before December 31, 1987, in accordance with SFAS No. 109. Therefore,
F-16
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
retained income at December 31, 1995 and 1996, includes approximately
$825,000, representing such bad debt deductions for which no deferred
income taxes have been provided.
With the repeal of the reserve method of accounting for thrift bad debt
reserves for tax year beginning after December 31, 1995, the Bank will have
to recapture into taxable income its post-1987 excess reserves over a
six-year period. The Bank currently meets a recapture provision which
allows it to delay the start of the recapture period due to loan
origination volume. The amount of the post-1987 excess is approximately
$246,000. Since the tax effect of this excess had been previously recorded
as deferred income taxes, the Bank will have no impact on its results of
operations when the excess reserves are recaptured.
11. Pension Plan
------------
The Bank has a non-contributory defined contribution pension plan covering
all eligible employees. Under the plan agreement, prior service is not
considered. Total pension expense was $46,000 and $29,000 for the years
ended December 31, 1995 and 1996, respectively.
12. Commitments
-----------
The Bank had outstanding commitments to originate mortgage and consumer
loans of approximately $765,000 and $400,000 at December 31, 1995 and 1996,
respectively. The commitments to originate mortgage loans at December 31,
1995, were composed of fixed rate loans that had interest rates ranging
from 7.25% to 8.50% and terms ranging from 8 to 15 years. The commitments
to originate mortgage loans at December 31, 1996, were composed of fixed
rate loans of $230,000. The fixed rate loans had interest rates ranging
from 7.625% to 8.00% and terms ranging from 1 to 15 years. The remaining
loan commitments at December 31, 1996 were for consumer and commercial
loans totaling $170,000 with variable rates.
13. Regulatory Matters
------------------
The Bank is subject to various regulatory capital requirements administered
by the Office of Thrift Supervision (OTS). 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 Bank's financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective
action, the Bank must meet specific capital guidelines that involve
quantitative measures of the Bank's assets, liabilities, and certain
off-balance sheet items as calculated under regulatory accounting
practices. The Bank's capital amounts and 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 Bank to maintain minimum amounts and ratios (set forth in the
table below) of tangible and core capital (as
F-17
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
defined in the regulations) to adjusted total assets (as defined), and of
risk-based capital (as defined) to risk-weighted assets (as defined).
Management believes, as of December 31, 1996, that the Bank meets all
capital adequacy requirements to which it is subject.
As of December 31, 1996, the most recent notification from the OTS
categorized the Bank as well capitalized under the regulatory framework for
prompt corrective action. To be categorized as well capitalized the Bank
must maintain minimum total tangible, core, and risk-based ratios as set
forth in the table. There are no conditions or events since that
notification that management believes have changed the institution's
category.
The Bank's actual capital amounts and ratios are also presented in the
table (in thousands). Nothing was deducted from capital for interest-rate
risk.
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
--------------------- --------------------- ---------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Greater Than) (Greater Than)
As of December 31, 1995
Tangible Capital (to
adjusted total assets) $ 4,522 9.9% $ 684 1.5% $ 2,279 5%
Core Capital (to
adjusted total assets) $ 4,522 9.9% $ 1,368 3.0% $ 2,279 5%
Risk-Based (to risk-
weighted assets) $ 4,801 21.0% $ 1,825 8.0% $ 2,281 10%
As of December 31, 1996
Tangible Capital (to
adjusted total assets) $ 4,784 10.2% $ 701 1.5% $ 2,338 5%
Core Capital (to
adjusted total assets) $ 4,784 10.2% $ 1,402 3.0% $ 2,338 5%
Risk-Based (to risk-
weighted assets) $ 5,088 20.2% $ 2,014 8.0% $ 2,518 10%
14. Financial Instruments with Off-Balance-Sheet Risk
-------------------------------------------------
The Bank 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 lines
of credit. Those instruments involve, to varying degrees, elements of
credit and interest-rate risk in excess of the amount recognized in the
statement of financial position. The contract or notional amounts of those
instruments reflect the extent of the Bank's involvement in particular
classes of financial instruments.
The Bank's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit
and lines of credit is represented by the contractual notional amount of
those instruments. The Bank uses the same credit policies in making
commitments and conditional obligations as it does for on-balance-sheet
instruments.
F-18
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
Financial instruments, the contract amounts of which represent credit risk
for lines and letters of credit, the balances outstanding and amounts
available for use at December 31, 1996, were approximately as follows:
Financial Balance Available
Instruments Outstanding For Use
----------- ----------- -------
Consumer and other lines $ 1,000,000 $ 553,000 $ 447,000
Letters of credit 47,000 - 47,000
----------- --------- ---------
$ 1,047,000 $ 553,000 $ 494,000
=========== ========= =========
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 Bank evaluates
each customer's creditworthiness. The amount of collateral obtained, if it
is deemed necessary by the Bank upon extension of credit, is based on
management's credit evaluation of the counterparty. Collateral may include
first and second mortgages; property, plant, and equipment; accounts
receivable; deposit accounts; and income-producing commercial properties.
The Bank does not anticipate any losses as a result of these transactions.
15. Employment and Change of Control Agreement
------------------------------------------
The Bank entered into an employment agreement with a key officer in 1996.
The employment agreement provides for three-year terms. Commencing on the
first anniversary date and continuing each anniversary date thereafter, the
board of directors may extend the agreement for an additional year so that
the remaining term shall be three years, unless written notice of
termination of the agreement is given by the executive officer. The
agreement provides for severance payments and other benefits in the event
of involuntary termination of employment in connection with any change in
control of the Bank. A severance payment will also be provided on a similar
basis in connection with voluntary termination of employment where,
subsequent to a change in control, the officer is assigned duties
inconsistent with their position, duties, responsibilities and status
immediately prior to such change in control. The severance payment will
equal 2.99 times the executive officer's base amount of annual compensation
as defined under the Internal Revenue Code. The payment of amounts under
the agreement may be paid within 30 days of such termination, discounted at
an agreed upon rate, or in equal installments over thirty-six months. The
Bank has not accrued any benefits under this postemployment agreement.
F-19
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
16. Financial Instruments
---------------------
The approximate stated and estimated fair value of financial instruments
are summarized below (in thousands of dollars):
December 31
-----------------------------------------------------
1995 1996
------------------------ -------------------------
Stated Estimated Stated Estimated
Amount Fair Value Amount Fair Value
------ ---------- ------ ----------
Financial assets:
Cash $ 2,729 $ 2,729 $ 1,414 $ 1,414
Investment securities 667 604 715 613
Loans receivable, net 32,782 33,881 36,808 39,042
Federal Home Loan Bank stock 368 368 394 394
Other assets 214 214 257 257
---------- ---------- ---------- ----------
$ 36,760 $ 37,796 $ 39,588 $ 41,720
========== ========== ========== ==========
Financial liabilities:
Deposits:
Demand accounts $ 9,266 $ 9,266 $ 9,111 $ 9,111
Certificate accounts 31,371 31,450 31,654 31,761
Advances from Federal
Home Loan Bank - - 800 800
Other liabilities 314 314 256 256
---------- ---------- ---------- ----------
$ 40,951 $ 41,030 $ 41,821 $ 41,928
========== ========== ========== ==========
The Bank had off-balance sheet financial commitments, which include
approximately $894,000 million of commitments to originate and fund loans
and unused consumer lines of credit and letters of credit. Since these
commitments are based on current market rates, the commitment amount is
considered to be a reasonable estimate of fair market value.
Statement of Financial Accounting Standards No. 107, "Disclosures about
Fair Value of Financial Instruments" (SFAS 107), requires disclosure of
fair value information about financial instruments, whether or not
recognized in the balance sheet, for which it is practicable to estimate
that value. The following methods and assumptions were used by the Bank in
estimating its fair value disclosures for financial instruments:
Cash - The carrying amount of such instruments is deemed to be a reasonable
estimate of fair value.
Investments - Fair values for investment securities are based on quoted
market prices.
F-20
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
Loans - Fair values for loans held for investment are estimated by
segregating the portfolio by type of loan and discounting scheduled cash
flows using interest rates currently being offered for loans with similar
terms, reduced by an estimate of credit losses inherent in the portfolio. A
prepayment assumption is used as an estimate of the portion of loans that
will be repaid prior to their scheduled maturity.
Federal Home Loan Bank Stock - No ready market exists for this stock and it
has no quoted market value. However, redemption of this stock has
historically been at par value. Accordingly, the carrying amount is deemed
to be a reasonable estimate of fair value.
Deposits - The fair values disclosed for demand deposits are, as required
by SFAS 107, equal to the amounts payable on demand at the reporting date
(i.e., their stated amounts). The fair value of certificates of deposit are
estimated by discounting the amounts payable at the certificate rates using
the rates currently offered for deposits of similar remaining maturities.
Advances from the FHLB - The estimated fair value of advances from the FHLB
is based on discounting amounts payable at contractual rates using current
market rates for advances with similar maturities.
Other Assets and Other Liabilities - Other assets represent accrued
interest receivable; other liabilities represent advances from borrowers
for taxes and insurance and accrued interest payable. Since these financial
instruments will typically be received or paid within three months, the
carrying amounts of such instruments are deemed to be a reasonable estimate
of fair value.
Fair value estimates are made at a specific point of 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 the Bank's entire holdings of a particular financial
instrument. Because no active market exists for a significant portion of
the Bank's financial instruments, fair value estimates are based on
judgments regarding future expected loss experience, current economic
conditions, current interest rates and prepayment trends, risk
characteristics of various financial instruments, and other factors. These
estimates are subjective in nature and involve uncertainties and matters of
significant judgment and therefore cannot be determined with precision.
Changes in any of these assumptions used in calculating fair value also
would affect significantly the estimates. Further, the fair value estimates
were calculated as of December 31, 1995 and 1996. Changes in market
interest rates and prepayment assumptions could change significantly the
estimated fair value.
Fair value estimates are based on existing on and off-balance sheet
financial instruments without attempting to estimate the value of
anticipated future business and the value of assets and liabilities that
are not considered financial instruments. For example, the Bank has
significant assets and liabilities that are not considered financial assets
or liabilities including deposit franchise value, loan servicing portfolio,
real estate, deferred tax liabilities, and premises and equipment. In
addition, the
F-21
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
tax ramifications related to the realization of the unrealized gains and
losses can have a significant effect on fair value estimates and have not
been considered in any of these estimates.
17. Plan of Conversion
------------------
On January 15, 1997, the Bank's Board of Directors formally approved a plan
("Plan") to convert from a federally-chartered mutual savings bank to a
federally-chartered stock savings bank subject to approval by the Bank's
members as of a still-to-be determined future voting record date. The Plan,
which includes formation of a holding company, is subject to approval by
the Office of Thrift Supervision (OTS) and includes the filing of a
registration statement with the Securities and Exchange Commission. As of
December 31, 1996, the Bank had incurred conversion costs of approximately
$10,000. If the conversion is ultimately successful, actual conversion
costs will be accounted for as a reduction in gross proceeds. If the
conversion is unsuccessful, the conversion costs will be expensed.
The Plan calls for the common stock of the Bank to be purchased by the
holding company and for the common stock of the holding company to be
offered to various parties in a subscription offering at a price based on
an independent appraisal. It is anticipated that any shares not purchased
in the subscription offering will be offered in a direct community
offering, and then any remaining shares offered to the general public in a
solicited offering.
The stockholders of the holding company will be asked to approve a proposed
stock option plan and a proposed restricted stock plan at a meeting of the
stockholders after the conversion. Shares issued to directors and employees
under these plans may be from authorized but unissued shares of common
stock or they may be purchased in the open market. In the event that
options or shares are issued under these plans, such issuances will be
included in the earnings per share calculation; thus, the interests of
existing stockholders would be diluted.
The Bank may not declare or pay a cash dividend if the effect thereof would
cause its net worth to be reduced below either the amounts required for the
liquidation account discussed below or the regulatory capital requirements
imposed by federal regulations.
At the time of conversion, the Bank will establish a liquidation account,
which will be a memorandum account that does not appear on the balance
sheet, in an amount equal to its retained income as reflected in the latest
consolidated balance sheet used in the final conversion prospectus. The
liquidation account will be maintained for the benefit of eligible account
holders who continue to maintain their deposit accounts in the Bank after
conversion. In the event of a complete liquidation of the Bank (and only in
such an event), eligible depositors who continue to maintain accounts shall
be entitled to receive a distribution from the liquidation account before
any liquidation may be made with respect to common stock.
F-22
SECURITY FEDERAL SAVINGS BANK
AND SUBSIDIARY Notes to Consolidated Financial Statements, Continued
- --------------------------------------------------------------------------------
18. Deposit Insurance Assessment
----------------------------
The Bank incurred an expense for the year ended December 31, 1996 for the
one-time special assessment levied by the omnibus appropriation bill to
recapitalize the SAIF insurance fund. The special assessment for deposit
insurance premiums was approximately $264,000, with an after tax impact of
approximately $164,000. Effective January 1, 1997, the Bank began paying
reduced premium assessments in accordance with the new SAIF assessment
rates.
F-23
- --------------------------------------------------------------------------------
GLOSSARY
BIF Bank Insurance Fund of the FDIC
Community Offering Offering for sale to certain members of the
general public of any shares of common stock not
subscribed for in the Subscription Offering, including
the possible offering of common stock in a Syndicated
Community Offering
Conversion Simultaneous conversion of Security Federal to stock
form, the issuance of the Savings Bank's outstanding
common stock to Bancorp and Bancorp's offer and sale of
common stock
Eligible Account Deposit account holders of the Savings Bank with
Holders account balances of at least $50 as of the close of
business on December 31, 1995
Employee Plans Tax-qualified employee benefit plans of the Savings Bank
ERISA Employee Retirement Income Security of 1974, as amended
ESOP Employee Stock Ownership Plan
EVR or Estimated Estimated pro forma market value of the common stock
Valuation Range ranging from $4,930,000 to $6,760,000
Exchange Act Securities Exchange Act of 1934, as amended
Expiration Date ________ p.m., Eastern Time, on __________ ____, 199____
FASB Financial Accounting Standards Board
FDIC Federal Deposit Insurance Corporation
Feldman Feldman Financial Advisors, Inc.
FHLB Federal Home Loan Bank
FHLMC Federal Home Loan Mortgage Corporation
FNMA Federal National Mortgage Association
IRA Individual retirement account or arrangement
IRS Internal Revenue Service
NASD National Association of Securities Dealers, Inc.
Nasdaq National Association of Securities Dealers Automated
Quotation System
NOW account Negotiable order of withdrawal account
NPV Net portfolio value
Offering Subscription, Community and Syndicated Community
Offerings, collectively
- --------------------------------------------------------------------------------
A-1
GLOSSARY
Option Plan Stock Option Plan to be adopted within one year of the
Conversion
Order Form Form for ordering stock accompanied by a certification
concerning certain matters
Other Members Savings account holders and certain borrowers
(borrowers whose loans were outstanding on January 17,
1990) who are entitled to vote at the Special Meeting due
to the existence of a savings account or a borrowing,
respectively, on the Voting Record Date for the Special
Meeting
OTC Bulletin Board An electronic stock data system operated by Nasdaq
OTS Office of Thrift Supervision
Pink Sheets Trademark name for the pink paper upon which stock data
is published by the National Quotation Bureau
Plan of Conversion Plan of Security Federal to convert from a federally
chartered mutual savings association to a federally
chartered stock savings association and the issuance
of all of Security Federal's outstanding capital stock to
Bancorp and the issuance of Bancorp's stock to the
public
Purchase Price $10.00 per share price of the common stock
QTI Qualified thrift investment
QTL Qualified thrift lender
RSP Restricted stock plan to be adopted within one year of
the Conversion
SAIF Savings Association Insurance Fund of the FDIC
SEC Securities and Exchange Commission
Securities Act Securities Act of 1933, as amended
SFAS Statement of Financial Accounting Standards adopted by
FASB
Special Meeting Special Meeting of members of the Savings Bank called for
the purpose of approving the Plan
Subscription Offering Offering of non-transferable rights to subscribe
for the common stock, in order of priority, to Eligible
Account Holders, tax-qualified employee plans,
Supplemental Eligible Account Holders and Other Members
Supplemental Eligible Depositors, who are not Eligible Account Holders of the
Account Holders Savings Bank, with account balances of at least $50 on
March 31, 1997
- --------------------------------------------------------------------------------
A-2
- --------------------------------------------------------------------------------
GLOSSARY
Syndicated Community Offering of shares of common stock remaining after the
Offering Subscription Offering and undertaken prior to the end
and as part of the Community Offering, and which may, at
the discretion of the Holding Company, be made to the
general public on a best efforts basis by a selling
group of broker-dealers
Title of Opinion The estimate of the property value without a formal
document analysis by an appraiser or officer of the
Savings Bank. The appraisal is based upon visual
inspection and market knowledge of the property.
Voting Record Date The close of business on __________ ____,
1997, the date for determining members entitled to vote
at the Special Meeting.
- --------------------------------------------------------------------------------
A-3
No dealer, salesman or other person has been authorized to give any information
or to make any representations not contained in this document in connection with
the offering made hereby, and, if given or made, such information or
representations must not be relied upon as having been authorized by Security
Federal Savings Bank, or Trident Securities. This document does not constitute
an offer to sell, or the solicitation of an offer to buy, any of the securities
offered hereby to any person in any jurisdiction in which such offer or
solicitation would be unlawful. Neither the delivery of this document by
Security Federal Savings Bank, SFB Bancorp, Inc. or Trident Securities nor any
sale made hereunder shall in any circumstances create an implication that there
has been no change in the affairs of Security Federal Savings Bank or SFB
Bancorp, Inc. since any of the dates as of which information is furnished herein
or since the date hereof.
SFB Bancorp, Inc.
Up to 767,000 Shares
(Anticipated Maximum)
Common Stock
------------------
PROSPECTUS
------------------
TRIDENT SECURITIES, INC.
Selling Agent
Dated __________ ____, 1997
THESE SECURITIES ARE NOT DEPOSITS OR ACCOUNTS
AND ARE NOT FEDERALLY INSURED OR GUARANTEED.
Until the later of __________ ____, 1997, or 25 days after commencement of
the offering of common stock, all dealers that buy, sell or trade these
securities, whether or not participating in this distribution, may be required
to deliver a prospectus. This is in addition to the obligation of dealers to
deliver a prospectus when acting as underwriters and with respect to their
unsold allotments or subscriptions.
PART II: INFORMATION NOT REQUIRED IN PROSPECTUS
Item 24. Indemnification of Officers and Directors.
Sections 48-18-502 through 48-18-507 of the Tennessee Business Corporation
Act sets forth circumstances under which directors, officers, employees and
agents may be insured or indemnified against liability which they may incur in
their capacities as such.
The Charter of SFB Bancorp, Inc. (the "Charter") attached as Exhibit 3(i)
hereto, requires indemnification of directors, officers and employees to the
fullest extent permitted by Tennessee law.
SFB Bancorp, Inc. ("Bancorp") may purchase and maintain insurance on
behalf of any person who is or was a director, officer, employee, or agent of
Bancorp or is or was serving at the request of Bancorp as a director, officer,
employee or agent of another corporation, partnership, joint venture, trust or
other enterprise against any liability asserted against him and incurred by him
in any such capacity or arising out of his status as such, whether or not
Bancorp would have the power to indemnify him against such liability under the
provisions of the Charter.
Item 25. Other Expenses of Issuance and Distribution
* Special counsel and local counsel legal fees...... $80,000
* Printing.......................................... 60,000
* Postage and mailing............................... 18,000
* Appraisal/Business Plan........................... 12,500
* Accounting fees................................... 40,000
* Data processing/Conversion agent.................. 5,000
* SEC Registration Fee.............................. 2,400
* OTS Filing Fees................................... 8,400
* Nasdaq Small Cap Market listing fees.............. 6,100
* NASD Fairness Filing.............................. 1,600
* Blue Sky legal and filing fees.................... 12,000
* Underwriting fees and commissions................. 92,000
* Underwriter's expenses, including legal fees...... 30,000
* Stock Certificates................................ 3,000
* Transfer Agent.................................... 5,000
* Miscellaneous expenses............................ 24,000
--------
* TOTAL............................................. $ 400,000
========
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* Estimated.
Item 26. Recent Sales of Unregistered Securities.
Not Applicable
Item 27. Exhibits:
The exhibits filed as part of this Registration Statement are as
follows:
1.1 Form of Sales Agency Agreement with Trident Securities, Inc.
2 Plan of Conversion of Security Federal Savings Bank
3(i) Charter of SFB Bancorp, Inc.
3(ii) Bylaws of SFB Bancorp, Inc.*
4 Specimen Stock Certificate of SFB Bancorp, Inc.
5.1 Opinion of Malizia, Spidi, Sloane & Fisch, P.C. regarding legality of securities registered
5.2 Opinion of Feldman Financial Advisors, Inc. as to the value of subscription rights
8.1 Federal Tax Opinion of Malizia, Spidi, Sloane & Fisch, P.C.
8.2 State Tax Opinion of Crisp, Hughes & Co., L.L.P.
10 Employment Agreement with Peter Hampton
23.1 Consent of Malizia, Spidi, Sloane & Fisch, P.C. (contained in its opinions filed as Exhibits 5.1
and 8.1)
23.2 Consent of Crisp, Hughes & Co., L.L.P.
24 Power of Attorney (reference is made to the signature page)
27 Financial Data Schedule**
99.1 Stock Order Form
99.2 Appraisal Report of Feldman Financial Advisors, Inc.*
99.3 Marketing Materials
--------------------
* To be filed by amendment
** Electronic filing only
Item 28. Undertakings
The undersigned registrant hereby undertakes:
(1) To file, during any period in which it offers or sells securities, a
post-effective amendment to this registration statement to:
(i) Include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933 ("Securities Act");
(ii) Reflect in the prospectus any facts or events which
individually or together, represent a fundamental change in the information in
the registration statement. Notwithstanding the foregoing, any increase or
decrease in volume of securities offered (if the total dollar value of
securities offered would not exceed that which was registered) and any deviation
from the low or high end of the estimated maximum offering range may be
reflected in the form of prospectus filed with the Commission pursuant to Rule
424(b) if, in the aggregate, the changes in volume and
price represent no more than a 20 percent change in the maximum offering price
set forth in the "Calculation of Registration Fee" table in the effective
registration statement.
(iii) Include any additional or changed material information on the
plan of distribution.
(2) For determining liability under the Securities Act, treat each
post-effective amendment as a new registration statement of the securities
offered, and the offering of the securities at that time to be the initial bona
fide offering.
(3) File a post-effective amendment to remove from registration any of
the securities that remain unsold at the end of the offering.
(4) The undersigned registrant hereby undertakes to provide to the
underwriter at the closing specified in the underwriting agreement, certificates
in such denominations and registered in such names as required by the
underwriter to permit prompt delivery to each purchaser.
(5) Insofar as indemnification for liabilities arising under the
Securities Act may be permitted to directors, officers and controlling persons
of the small business issuer pursuant to the foregoing provisions, or otherwise,
the small business issuer has been advised that in the opinion of the Securities
and Exchange Commission such indemnification is against public policy as
expressed in the Securities Act, and is therefore, unenforceable. In the event
that a claim for indemnification against such liabilities (other than the
payment by the small business issuer of expenses incurred or paid by a director,
officer or controlling person of the small business issuer in the successful
defense of any action, suit or proceeding) is asserted by such director, officer
or controlling person in connection with the securities being registered, the
small business issuer will, unless in the opinion of its counsel the matter has
been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
SIGNATURES
In accordance with the requirements of the Securities Act of 1933, the
registrant certifies that it has reasonable grounds to believe that it meets all
of the requirements for filing on Form SB-2 and authorized this registration
statement to be signed on its behalf by the undersigned, in Elizabethton,
Tennessee, on March 18, 1997.
SFB BANCORP, INC.
By: /s/Peter W. Hampton
--------------------------------------
Peter W. Hampton
President and Director
(Duly Authorized Representative)
We the undersigned directors and officers of SFB Bancorp, Inc. do hereby
severally constitute and appoint Peter W. Hampton our true and lawful attorney
and agent, to do any and all things and acts in our names in the capacities
indicated below and to execute all instruments for us and in our names in the
capacities indicated below which said Peter W. Hampton may deem necessary or
advisable to enable SFB Bancorp, Inc. to comply with the Securities Act of 1933,
as amended, and any rules, regulations and requirements of the Securities and
Exchange Commission, in connection with the registration statement on Form SB-2
relating to the offering of SFB Bancorp, Inc.'s common stock, including
specifically but not limited to, power and authority to sign for us or any of
us, in our names in the capacities indicated below, the registration statement
and any and all amendments (including post-effective amendments) thereto; and we
hereby ratify and confirm all that Peter W. Hampton shall do or cause to be done
by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, this
registration statement has been signed below by the following persons in the
capacities indicated as of March 18, 1997.
/s/Donald W. Tetrick /s/Peter W. Hampton
- --------------------------------------- ----------------------------------------------
Donald W. Tetrick Peter W. Hampton
Chairman of the Board and Director President and Director
(Principal Executive and Financial Officer)
/s/Peter W. Hampton, Jr. /s/John R. Crockett, Jr.
- --------------------------------------- ----------------------------------------------
Peter W. Hampton, Jr. John R. Crockett, Jr.
Vice Chairman of the Board and Director Secretary, Treasurer and Director
/s/Julian T. Caudill, Jr. /s/Estill L. Caudill, Jr.
- --------------------------------------- ----------------------------------------------
Julian T. Caudill, Jr. Estill L. Caudill, Jr.
Director Director
/s/Bobby Hyatt
- ---------------------------------------
Bobby Hyatt
Assistant Vice President
(Principal Accounting Officer)