1
Exhibit 99(c)
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS OF
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
PAGE NO.
--------
Independent Accountants' Report.................................................... F-2
Consolidated Statements of Financial Condition as of June 30, 1995 and 1994........ F-3
Consolidated Statements of Income for the Years Ended June 30, 1995, 1994, and
1993............................................................................. F-4
Consolidated Statements of Stockholders' Equity for the Years Ended June 30, 1995,
1994 and 1993.................................................................... F-5
Consolidated Statements of Cash Flows for the Years Ended June 30, 1995, 1994 and
1993............................................................................. F-6
Notes to Consolidated Financial Statements......................................... F-8
F-1
2
INDEPENDENT ACCOUNTANTS' REPORT
The Board of Directors
Heritage Federal Bancshares, Inc.
We have audited the accompanying consolidated statements of financial
condition of Heritage Federal Bancshares, Inc. and Subsidiary as of June 30,
1995 and 1994, and the related consolidated statements of income, stockholders'
equity, and cash flows for each of the three years in the period ended June 30,
1995. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion of these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Heritage
Federal Bancshares, Inc. and Subsidiary at June 30, 1995 and 1994, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended June 30, 1995, in conformity with generally
accepted accounting principles.
As discussed in Note 1 to the consolidated financial statements, the
Company changed its methods of accounting for securities and income taxes in
1995 and 1994, respectively.
COOPERS & LYBRAND L.L.P.
Knoxville, Tennessee
August 1, 1995
F-2
3
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
JUNE 30, 1995 AND 1994
1995 1994
------------ ------------
ASSETS
Cash and due from banks......................................... $ 9,285,434 $ 9,610,848
Interest-earning deposits in financial institutions............. 5,592,680 2,295,206
Federal funds sold.............................................. 7,000,000 3,000,000
------------ ------------
Total cash and cash equivalents....................... 21,878,114 14,906,054
Securities available-for-sale................................... 20,213,195 --
Securities held-to-maturity:
U.S. government and agencies and collateralized mortgage
obligations -- approximate market value of $86,258,000..... 86,627,642 --
Mortgage-backed securities -- approximate market value of
$83,012,000................................................ 83,994,659 --
Investment securities -- approximate market value of
$78,754,000................................................... -- 80,796,409
Mortgage-backed securities -- approximate market value of
$88,397,000................................................... -- 92,557,813
Loans receivable, net........................................... 297,533,313 308,699,625
Interest receivable............................................. 3,666,307 3,446,516
Real estate owned, net of allowance for losses of $211,771 and
$262,322 at June 30, 1995 and 1994, respectively.............. -- 531,275
Premises and equipment, net..................................... 6,785,895 6,676,464
Investment in Federal Home Loan Bank stock, at cost............. 4,057,300 3,807,700
Excess of cost over fair value of net assets acquired and other
intangibles, net.............................................. 780,132 1,270,127
Deferred income taxes........................................... 897,514 1,457,138
Other assets.................................................... 1,735,008 1,738,951
------------ ------------
$528,169,079 $515,888,072
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits........................................................ $449,317,977 $450,818,608
Advances from Federal Home Loan Bank............................ 18,121,921 9,587,083
Advances from borrowers for taxes and insurance................. 4,027,987 3,990,598
Accrued expenses and other liabilities.......................... 2,927,221 2,107,869
Employee Stock Ownership Plan obligation........................ -- 880,885
------------ ------------
474,395,106 467,385,043
Commitments and contingencies (Notes 2, 3, 5, 12, 15, 16, 18 and
21)
Stockholders' equity:
Preferred stock of $1.00 par value, authorized 2,000,000
shares; none issued or outstanding......................... -- --
Common stock of $1.00 par value, 8,000,000 shares authorized;
issued and outstanding -- 3,186,158 at June 30, 1995 and
3,172,826 at June 30, 1994 (Note 19)....................... 3,186,158 3,172,826
Additional paid-in capital.................................... 16,509,491 16,108,095
Retained earnings-substantially restricted.................... 35,070,071 30,813,111
Unrealized appreciation on available-for-sale securities, net
of tax of $51,530 in 1995.................................. 84,079 --
Employee Stock Ownership Plan obligation...................... (720,765) (880,885)
Unearned compensation of Management Recognition Plan.......... (355,061) (710,118)
------------ ------------
53,773,973 48,503,029
------------ ------------
$528,169,079 $515,888,072
============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
4
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED JUNE 30, 1995, 1994 AND 1993
1995 1994 1993
----------- ----------- -----------
Interest income:
Loans....................................................... $24,770,777 $25,448,506 $30,220,709
Securities available-for-sale............................... 1,361,695 -- --
Securities held-to-maturity:
U.S. government and agencies and
collateralized mortgage obligations..................... 4,199,355 -- --
Mortgage backed securities................................ 5,034,437 -- --
Investments................................................. -- 5,041,697 5,151,660
Mortgage-backed securities.................................. -- 4,539,140 3,074,851
Other interest-earning assets............................... 612,630 521,327 619,111
----------- ----------- -----------
Total interest income................................ 35,978,894 35,550,670 39,066,331
----------- ----------- -----------
Interest expense:
Deposits.................................................... 16,829,466 15,846,768 18,873,962
Other borrowed money........................................ 968,030 640,513 431,042
----------- ----------- -----------
Total interest expense............................... 17,797,496 16,487,281 19,305,004
----------- ----------- -----------
Net interest income.................................. 18,181,398 19,063,389 19,761,327
Provision for loan losses..................................... 82,247 487,346 595,140
----------- ----------- -----------
Net interest income after provision for loan
losses............................................. 18,099,151 18,576,043 19,166,187
----------- ----------- -----------
Noninterest income:
Loan fees and service charges............................... 1,826,140 1,574,221 1,426,069
Other operating income...................................... 928,831 909,600 684,393
Gain on sale of branches.................................... -- -- 1,000,000
----------- ----------- -----------
Total noninterest income............................. 2,754,971 2,483,821 3,110,462
----------- ----------- -----------
Noninterest expense:
Compensation and benefits................................... 6,198,938 5,306,228 5,713,579
Occupancy and equipment..................................... 1,124,528 1,089,392 1,130,840
Communications and other office expenses.................... 1,510,758 1,371,648 1,543,704
Regulatory and other insurance premiums..................... 1,180,955 1,196,911 1,090,247
Computer processing......................................... 636,232 597,360 570,524
Real estate owned expenses, including provision for loss.... (87,398) 55,744 270,340
Other operating costs....................................... 1,254,716 1,211,057 1,191,916
Amortization of excess of cost over fair value of
net assets acquired....................................... 422,873 525,336 1,301,646
----------- ----------- -----------
Total noninterest expense............................ 12,241,602 11,353,676 12,812,796
----------- ----------- -----------
Income before income tax expense and change in
method of accounting for income taxes....................... 8,612,520 9,706,188 9,463,853
Income tax expense............................................ 3,145,666 3,501,963 3,951,634
----------- ----------- -----------
Net income before change in method of
accounting for income taxes........................ 5,466,854 6,204,225 5,512,219
Cumulative effect of change in method of
accounting for income taxes................................. -- 764,255 --
----------- ----------- -----------
Net income........................................... $ 5,466,854 $ 6,968,480 $ 5,512,219
=========== =========== ===========
Earnings per share:
Net income before change in method of
accounting for income taxes............................... $ 1.58 $ 1.85 $ 1.67
Cumulative effect of change in method of
accounting for income taxes............................... -- .22 --
----------- ----------- -----------
Earnings per share (Note 19)................................ $ 1.58 $ 2.07 $ 1.67
=========== =========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
5
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED JUNE 30, 1995, 1994 AND 1993
NET UNREALIZED
RETAINED DEPRECIATION
COMMON STOCK ADDITIONAL EARNINGS- ON CERTAIN
---------------------- PAID-IN SUBSTANTIALLY MARKETABLE
SHARES AMOUNT CAPITAL RESTRICTED EQUITY SECURITIES
--------- ---------- --------------- ----------- -----------------
Balances at June 30, 1992............................... 1,495,000 $1,495,000 $14,553,290 $20,703,246 $ --
Net income............................................ -- -- -- 5,512,219 --
Proceeds from issuance of common stock................ 42,468 42,468 445,915 -- --
Implementation of Management Recognition Plan,
including issuance of common stock.................. 44,850 44,850 880,181 -- --
Three for two stock split............................. 791,159 791,159 -- (791,159) --
Increases in fair value of shares held by Management
Recognition Plan through award date................. -- -- 140,156 -- --
Amortization of unearned compensation of Management
Recognition Plan.................................... -- -- -- -- --
Reduction of Employee Stock Ownership Plan
obligation.......................................... -- -- -- -- --
--------- ---------- ---------- ---------- -------
Balances at June 30, 1993............................... 2,373,477 2,373,477 16,019,542 25,424,306 --
Net income............................................ -- -- -- 6,968,480 --
Proceeds from issuance of common stock, including
effect of three for two stock split................. 6,143 6,143 88,553 (1,419) --
Cash dividend paid on common stock at $.25 per
share............................................... -- -- -- (785,050) --
Four for three stock split............................ 793,206 793,206 -- (793,206) --
Amortization of unearned compensation of Management
Recognition Plan.................................... -- -- -- -- --
Reduction of Employee Stock Ownership Plan
obligation.......................................... -- -- -- -- --
--------- ---------- ---------- ---------- -------
Balances at June 30, 1994............................... 3,172,826 3,172,826 16,108,095 30,813,111 --
Net income............................................ -- -- -- 5,466,854 --
Adoption of change in accounting for securities, net
of tax.............................................. -- -- -- -- (44,843)
Proceeds from issuance of common stock, including
effect of four for three stock split................ 13,332 13,332 122,226 (1,269) --
Cash dividend paid on common stock at $.38 per
share............................................... -- -- -- (1,208,625) --
Tax benefit from exercise of stock options............ -- -- 67,800 -- --
Tax benefit from Management Recognition Plan.......... -- -- 211,370 -- --
Change in unrealized appreciation, net of tax......... -- -- -- -- 128,922
Amortization of unearned compensation of Management
Recognition Plan.................................... -- -- -- -- --
Reduction of Employee Stock Ownership Plan
obligation.......................................... -- -- -- -- --
--------- ---------- ---------- ---------- -------
Balances at June 30, 1995............................... 3,186,158 $3,186,158 $16,509,491 $35,070,071 $ 84,079
========= ========== ========== ========== =======
EMPLOYEE
STOCK UNEARNED
OWNERSHIP COMPENSATION OF
PLAN MANAGEMENT
OBLIGATION RECOGNITION PLAN TOTAL
----------- ---------------- -----------
Balances at June 30, 1992............................... $(1,173,388) $ -- $35,578,148
Net income............................................ -- -- 5,512,219
Proceeds from issuance of common stock................ -- -- 488,383
Implementation of Management Recognition Plan,
including issuance of common stock.................. -- (925,031) --
Three for two stock split............................. -- -- --
Increases in fair value of shares held by Management
Recognition Plan through award date................. -- (140,156) --
Amortization of unearned compensation of Management
Recognition Plan.................................... -- 154,009 154,009
Reduction of Employee Stock Ownership Plan
obligation.......................................... 120,348 -- 120,348
----------- --------- -----------
Balances at June 30, 1993............................... (1,053,040) (911,178) 41,853,107
Net income............................................ -- -- 6,968,480
Proceeds from issuance of common stock, including
effect of three for two stock split................. -- -- 93,277
Cash dividend paid on common stock at $.25 per
share............................................... -- -- (785,050)
Four for three stock split............................ -- -- --
Amortization of unearned compensation of Management
Recognition Plan.................................... -- 201,060 201,060
Reduction of Employee Stock Ownership Plan
obligation.......................................... 172,155 -- 172,155
----------- --------- -----------
Balances at June 30, 1994............................... (880,885) (710,118) 48,503,029
Net income............................................ -- -- 5,466,854
Adoption of change in accounting for securities, net
of tax.............................................. -- -- (44,843)
Proceeds from issuance of common stock, including
effect of four for three stock split................ -- -- 134,289
Cash dividend paid on common stock at $.38 per
share............................................... -- -- (1,208,625)
Tax benefit from exercise of stock options............ -- -- 67,800
Tax benefit from Management Recognition Plan.......... -- -- 211,370
Change in unrealized appreciation, net of tax......... -- -- 128,922
Amortization of unearned compensation of Management
Recognition Plan.................................... -- 355,057 355,057
Reduction of Employee Stock Ownership Plan
obligation.......................................... 160,120 -- 160,120
----------- --------- -----------
Balances at June 30, 1995............................... $ (720,765) $ (355,061) $53,773,973
=========== ========= ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
6
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JUNE 30, 1995, 1994 AND 1993
1995 1994 1993
------------ ------------ ------------
Cash flows from operating activities:
Net income................................................... $ 5,466,854 $ 6,968,480 $ 5,512,219
Adjustments to reconcile net income to net cash provided by
operating activities:
Cumulative effect of change in method of accounting for
income taxes............................................. -- (764,255) --
Amortization of:
Excess of cost over fair value of net assets acquired.... 422,873 525,336 1,301,646
Discounts and premiums on securities..................... 536,232 952,346 534,952
Deferred loan origination fees........................... (505,384) (381,771) (60,562)
Loan discounts........................................... (753,527) (900,468) (1,056,576)
Provision for loan losses and losses on real estate........ 83,298 560,337 846,965
Gain on sale of branches................................... -- -- (1,000,000)
Recognition of Management Recognition Plan expense......... 355,057 201,060 154,009
Recognition of ESOP expense................................ 160,120 172,155 120,348
Dividends received in stock of Federal Home Loan Bank...... (249,600) (179,900) (156,100)
Deferred income taxes and charge in-lieu of taxes.......... 787,264 16,554 260,000
Depreciation and amortization of premises and equipment.... 534,605 505,748 558,126
Increase in unearned compensation of Management
Recognition Plan......................................... -- -- (925,031)
Decrease (increase) in:
Other assets............................................. 71,065 28,116 4,851
Accrued interest receivable.............................. (219,791) 329,588 265,059
Increase (decrease) in:
Accrued expenses and other liabilities................... 820,568 (496,008) 650,624
------------- ------------- -------------
Total adjustments..................................... 2,042,780 568,838 1,498,311
------------- ------------- -------------
Net cash provided by operating activities............. 7,509,634 7,537,318 7,010,530
------------- ------------- -------------
Cash flows from investing activities:
Net repayments of loans...................................... 12,298,111 19,119,421 30,619,553
Principal receipts on mortgage-backed securities............. 8,289,568 15,847,363 9,069,390
Purchases of available-for-sale securities................... (3,984,063) -- --
Proceeds from maturities of available-for-sale securities.... 6,035,681 -- --
Purchases of securities held-to-maturity..................... (64,990,375) -- --
Proceeds from maturities of securities held-to-maturity...... 36,767,292 -- --
Purchases of mortgage-backed securities...................... -- (48,754,748) (28,186,079)
Purchases of investment securities, certificates of deposit
and term federal funds sold................................ -- (49,295,935) (65,860,242)
Proceeds from maturities of investment securities and
certificates of deposit.................................... -- 57,157,839 44,279,779
Proceeds from sales of foreclosed real estate................ 575,089 91,281 795,102
Purchases of Federal Home Loan Bank stock.................... -- -- (3,400)
Cash and cash equivalents transferred in sale of branches.... -- -- (51,318,038)
Purchases of premises and equipment, net..................... (644,036) (458,083) (501,176)
------------- ------------- -------------
Net cash used by investing activities................. $ (5,652,733) $ (6,292,862) $(61,105,111)
------------- ------------- -------------
(Continued)
F-6
7
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS -- (CONTINUED)
YEARS ENDED JUNE 30, 1995, 1994 AND 1993
1995 1994 1993
------------- ------------- -------------
Cash flows from financing activities:
Net increase (decrease) in deposits.......................... $ (1,500,631) $ (9,174,309) $ 17,878,579
Net increase (decrease) in mortgage escrow funds............. 37,389 (30,602) (358,953)
Lease payments for obligations under capital leases.......... (1,216) (101,100) (100,996)
Repayment of ESOP obligation................................. (880,885) (172,155) (120,348)
Advances (repayments) from the Federal Home Loan Bank........ 8,534,838 (246,605) 9,748,028
Net proceeds from issuance of common stock................... 134,289 93,277 1,413,414
Dividends paid............................................... (1,208,625) (785,050) --
------------- ------------- -------------
Net cash provided (used) by financing activities...... 5,115,159 (10,416,544) 28,459,724
------------- ------------- -------------
Net increase (decrease) in cash and cash
equivalents......................................... 6,972,060 (9,172,088) (25,634,857)
Cash and cash equivalents at beginning of year................. 14,906,054 24,078,142 49,712,999
------------- ------------- -------------
Cash and cash equivalents at end of year....................... $ 21,878,114 $ 14,906,054 $ 24,078,142
============= ============= =============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Payments made during the period for:
Interest................................................... $ 17,666,029 $ 16,503,090 $ 19,262,868
Income taxes............................................... $ 2,389,500 $ 3,289,871 $ 3,967,122
============= ============= =============
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING ACTIVITIES:
Real estate foreclosures and related transfers............... $ 44,865 $ 70,627 $ 172,183
============= ============= =============
The Company sold certain branches during 1993. In conjunction with that
transaction, assets sold, liabilities transferred and gain recognized were as
follows:
Deposits transferred.................................... $54,814,922
Premises and equipment sold, net........................ (2,122,622)
Share loans sold........................................ (550,468)
Accrued interest and other liabilities transferred...... 176,206
Gain on sale............................................ (1,000,000)
-----------
Cash and cash equivalents transferred................... $51,318,038
===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-7
8
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION -- The consolidated financial statements
include the accounts of Heritage Federal Bancshares, Inc. (the Company) and its
wholly-owned subsidiary, Heritage Federal Bank for Savings (the Bank) and the
Bank's wholly-owned subsidiary, Citizens Financial Corporation. All significant
intercompany balances and transactions are eliminated in consolidation.
CASH AND CASH EQUIVALENTS -- For purposes of reporting cash flows, cash and
cash equivalents consist of federal funds sold, cash on hand, and due from
banks. Cash and due from banks includes interest-bearing deposits of $5,592,680
and $2,295,206 at June 30, 1995 and 1994, respectively. Federal funds sold
included in cash equivalents have maturities ranging from one to 14 days. The
Bank maintained cash reserves required by the Federal Reserve Bank amounting to
$3,168,000 and $4,720,000 as of June 30, 1995 and 1994, respectively.
INVESTMENT SECURITIES -- Effective July 1, 1994, the Company adopted the
provisions of Financial Accounting Standards Board ("FASB") Statement of
Financial Accounting Standards No. 115 (SFAS 115), Accounting for Certain
Investments in Debt and Equity Securities. Investments in certain debt and
equity securities are classified as either Held-to-Maturity (reported at
amortized cost), Trading (reported at fair value with unrealized gains and
losses included in earnings), or Available-for-Sale (reported at fair value with
unrealized gains and losses excluded from earnings and reported as a separate
component of shareholders' equity).
Premiums and discounts on debt securities are recognized in interest income
on the level interest yield method over the period to maturity.
Prior to the adoption of SFAS 115, investment securities were those
securities held for investment purposes which management determined they had the
ability and intent to hold to maturity. Investment securities were stated at
cost adjusted for amortization of premiums and accretion of discounts.
Mortgage-backed securities represent participating interests in pools of
long-term first mortgage loans originated and serviced by the issuers of the
securities. These securities, which have been classified as held-to-maturity in
1995, are carried at unpaid principal balances, adjusted for unamortized
premiums and unearned discounts. Premiums and discounts are amortized using the
interest method over the remaining period to contractual maturity, adjusted for
anticipated prepayments.
Gains and losses on the sale of securities are determined using the
specific identification method.
LOANS RECEIVABLE -- Loans receivable are stated at unpaid principal
balances, net of discounts, deferred loan origination fees, and the allowance
for loan losses.
Unearned discounts on mortgage loans purchased are amortized to interest
income using the interest method over the estimated average lives of the loans.
The Company adopted Statement of Financial Accounting Standards (SFAS) No.
114, Accounting by Creditors for Impairment of a Loan, as amended by SFAS No.
118, Accounting by Creditors for Impairment of a Loan-Income Recognition and
Disclosure, on July 1, 1994. Under the new standards, a loan is considered
impaired, based on current information and events, if it is probable that the
Company will be unable to collect the scheduled payments of principal or
interest when due according to the contractual terms of the loan agreement.
Uncollateralized loans are measured for impairment based on the present value of
expected future cash flows discounted at the historical effective interest rate,
while all collateral-dependent loans are measured for impairment based on the
fair value of the collateral. The adoption of SFAS 114 and 118 resulted in no
additional provision for credit losses, at July 1, 1994.
At June 30, 1995, the recorded investment in loans for which impairment has
been recognized in accordance with SFAS 114 totaled $2,111,000, and these loans
had a corresponding valuation allowance of $70,000. The impaired loans at June
30, 1995, were measured for impairment using the fair value of the
F-8
9
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
collateral as all of these loans were collateral dependent. For the year ended
June 30, 1995, the average recorded investment in impairment loans was
approximately $1,943,000. The Company recognized approximately $128,000 of
interest on impaired loans during the portion of the year that they were
impaired.
The Company uses several factors in determining if a loan is impaired under
SFAS No. 114. The internal asset classification procedures include a thorough
review of significant loans and lending relationships and include the
accumulation of related data. This data includes loan payment status, borrowers'
financial data and borrowers' operating factors such as cash flows, operating
income or loss, etc.
The allowance for loan losses is increased by charges against income and
decreased by chargeoffs (net of recoveries). Management's periodic evaluation of
the adequacy of the allowance is based on the Bank's past loan loss experience,
known and inherent risks in the portfolio, adverse situations that may affect
the borrowers' ability to repay, estimated value of any underlying collateral,
and current economic conditions. While management believes that it has
established the allowance in accordance with generally accepted accounting
principles and has taken into account the views of its regulators and the
current economic environment, there can be no assurance that in the future the
Bank's regulators or its economic environment will not require further increases
in the allowance.
The allowance for credit losses is established through charges to earnings
in the form of provision for credit losses. Increases and decreases in the
allowance due to changes in the measurement of the impaired loans are included
in the provision for credit losses. Loans continue to be classified as impaired
unless they are brought fully current and the collection of scheduled interest
and principal is considered probable.
When a loan or portion of a loan is determined to be uncollectible, the
portion deemed uncollectible is charged against the allowance and subsequent
recoveries, if any, are credited to the allowance.
INCOME RECOGNITION ON IMPAIRED AND NONACCRUAL LOANS -- Loans, including
impaired loans, are generally classified as nonaccrual if they are past due as
to maturity or payment of principal or interest for a period of more than 90
days, unless such loans are well-secured and in the process of collection. If a
loan or a portion of a loan is classified as doubtful or is partially charged
off, the loan is generally classified as nonaccrual. Loans that are on a current
payment status or past due less than 90 days may also be classified as
nonaccrual if repayment in full of principal and/or interest is in doubt.
Loans may be returned to accrual status when all principal and interest
amounts contractually due (including arrearages) are reasonably assured of
repayment within an acceptable period of time, and there is a sustained period
of repayment performance (generally a minimum of six months) by the borrower, in
accordance with the contractual terms of interest and principal.
While a loan is classified as nonaccrual and the future collectibility of
the recorded loan balance is doubtful, collections of interest and principal are
generally applied as a reduction to principal outstanding, except in the case of
loans with scheduled amortizations where the payment is generally applied to the
oldest payment due. When the future collectibility of the recorded loan balance
is expected, interest income may be recognized on a cash basis. In the case
where a nonaccrual loan had been partially charged off, recognition of interest
on a cash basis is limited to that which would have been recognized on the
recorded loan balance at the contractual interest rate. Receipts in excess of
that amount are recorded as recoveries to the allowance for loan losses until
prior charge-offs have been fully recovered.
DISCOUNTS ON LOANS ACQUIRED THROUGH MERGERS -- Discounts on loans acquired
through mergers are accreted into income principally on the interest method over
the remaining contractual terms of the respective loans, adjusted for expected
prepayments.
F-9
10
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
LOAN ORIGINATION AND COMMITMENT FEES AND RELATED COSTS -- Loan fees are
accounted for in accordance with Statement of Financial Accounting Standards
(SFAS) No. 91. Loan fees and certain direct loan origination costs are deferred,
and the net fee or cost is recognized in the statement of income using the
interest method over the contractual life of the loans, adjusted for estimated
prepayments based on the Bank's historical prepayment experience. Commitment
fees and costs relating to commitments whose likelihood of exercise is remote
are recognized over the commitment period on a straight-line basis. If the
commitment is subsequently exercised during the commitment period, the remaining
unamortized commitment fee at the time of exercise is recognized over the life
of the loan as an adjustment of yield. The Bank ceases amortization of net
deferred fees on loans which are contractually 90 days or more past due or where
management has determined that such amounts may be uncollectible.
REAL ESTATE OWNED -- Real estate properties acquired through loan
foreclosure or deed in lieu of foreclosure and properties classified as in
substance foreclosures are initially recorded at the lower of the related loan
balance, less any specific allowance for loss, or fair value at the date of
foreclosure. Costs subsequently incurred relating to development and improvement
of property are capitalized, whereas costs relating to holding property are
expensed. In substance foreclosed properties are those properties where the
borrower retains title but has little or no remaining equity in the property
considering its fair value; where repayment can only be expected to come from
the operation or sale of the property; and where the borrower has effectively
abandoned control of the property or it is doubtful that the borrower will be
able to rebuild equity in the property. Property acquired by deed in lieu of
foreclosure results when a borrower voluntarily transfers title to the Bank in
full settlement of the related debt in an attempt to avoid foreclosure.
Valuations are periodically performed by management and an allowance for
losses is established by a charge to operations if the carrying value of a
property exceeds its estimated fair value.
PREMISES AND EQUIPMENT -- Premises and equipment are stated at cost less
accumulated depreciation and amortization. Depreciation is computed using the
straight-line method over the estimated useful lives of the related assets.
Amortization is computed on the straight-line method over the term of the lease
or the life of the assets, whichever is shorter.
EXCESS OF COST OVER FAIR VALUE OF NET ASSETS ACQUIRED AND OTHER
INTANGIBLES -- The Bank is amortizing the excess of cost over fair value of net
assets acquired (goodwill) through business combinations at a constant rate when
applied to the interest-earning assets, through June 1996, which is the
estimated remaining life of the long-term interest-earning assets. During 1993,
$637,000 of goodwill relating to the branches sold was written-off. Other
intangibles amounting to $447,482 and $514,604 at June 30, 1995 and 1994,
respectively, consist of value related to a branch network acquired in 1981,
which is being amortized straight line through 2001; value assigned to the
management in place in the 1981 acquisition, which is being amortized straight
line over the remaining service life of the managers through 2001; and value
assigned to core deposits acquired in 1986, which is being amortized straight
line through 1996.
TRUST ASSETS -- Assets held by the Bank in trust capacities are not
included in the accompanying consolidated statements of financial condition,
because such items are not assets of the Bank.
INCOME TAXES -- Effective July 1, 1993, the Company adopted the provisions
of the Financial Accounting Standards Board Statement No. 109 (Statement 109),
Accounting for Income Taxes, on a prospective basis for the fiscal year ending
June 30, 1994. The adoption of Statement 109 resulted in an increase of the
Company's deferred income tax asset of $764,255. Prior to that date, the Company
followed Statement of Financial Accounting Standards No. 96, Accounting for
Income Taxes (Statement 96). Statements 109 and 96 require the asset and
liability method of accounting for income taxes. Under the asset and liability
method, deferred income taxes are recognized for the tax consequences of
"temporary differences" by applying enacted statutory tax rates applicable to
future years to differences between the financial carrying amounts and the tax
F-10
11
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED)
bases of existing assets and liabilities. The effect on deferred taxes of a
change in tax rates is recognized in income in the period that includes the
enactment date.
2. CONVERSION TO STOCK SAVINGS BANK, FORMATION OF HOLDING COMPANY, SALE OF
COMMON STOCK AND MERGER
On March 30, 1992, the Bank converted from a mutual savings bank to a
capital stock savings bank. The Bank issued all of its outstanding capital stock
to Heritage Federal Bancshares, Inc., a holding company for Heritage Federal
Bank for Savings. Heritage Federal Bancshares, Inc. consummated a public
offering of 2,990,000 shares of common stock (after giving effect to stock
splits) which generated net proceeds of $16,048,290 after conversion costs
totaling $1,144,210. The Bank received 99% of the net proceeds in exchange for
the stock it issued to the holding company.
At the time of conversion, the Bank established a liquidation account in an
amount equal to the Bank's net worth for the benefit of eligible account holders
at the time of conversion. The liquidation account will be reduced annually to
the extent that eligible account holders have reduced their eligible deposits,
and shall cease upon the closing of the accounts, and shall never be increased.
In the event of liquidation of the Bank, such person shall be entitled, after
all payments to creditors, to a distribution from the liquidation account before
any distribution to stockholders.
Federal regulations adopted by the Office of Thrift Supervision (OTS)
impose certain limitations on the payment of dividends and other capital
distributions, including stock repurchases, by the Bank. Based upon current OTS
regulations and its capital structure at June 30, 1995, the Bank may make
capital distributions during a year up to the greater of (i) 100% of its net
earnings to date during the calendar year plus an amount equal to one-half of
the amount by which its total capital-to-assets ratio exceeded its fully
phased-in capital-to-assets ratio at the beginning of the calendar year or (ii)
75% of its net income during the most recent four-quarter period. At June 30,
1995, approximately $19,850,000 was available for payment of dividends from the
Bank to the Company under the above mentioned OTS restrictions. Capital
distributions by the Bank are further subject to 30-day advance written notice
to the OTS.
The Company's charter authorizes 2,000,000 shares of preferred stock of the
Company, of $1.00 par value. The Company's charter expressly vests in the Board
of Directors of the Company the authority to issue the preferred stock in one or
more series and to determine, to the extent permitted by law prior to the
issuance of the preferred stock (or any series of the preferred stock), the
relative rights, limitations, and preferences of the preferred stock or any such
series.
In February 1995, the Company entered into a merger agreement with First
American Corporation (FAC). All of the outstanding shares of the Company stock
will be exchanged for common shares of FAC in a transaction that will be
accounted for as a pooling of interest. The transaction is expected to be
consummated during the Company's second fiscal quarter.
F-11
12
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
3. SECURITIES
At June 30, 1995, securities have been classified in the consolidated
financial statements according to management's intent. The carrying amount of
securities and their approximate market values at June 30, 1995 were as follows:
GROSS GROSS APPROXIMATE
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAINS LOSSES VALUE
------------ ---------- ---------- ------------
Available-for-sale:
U.S. government obligations......... $ 20,077,586 $ 139,223 $ 3,614 $ 20,213,195
============ ========== ========== ============
Held-to-maturity:
U.S. government and agencies........ $ 71,685,619 $ 307,843 $1,068,462 $ 70,925,000
Collateralized mortgage
obligations...................... 14,942,023 484,692 93,715 15,333,000
------------ ---------- ---------- ------------
86,627,642 792,535 1,162,177 86,258,000
------------ ---------- ---------- ------------
Mortgage-backed securities:
GNMA Certificates................... 49,076,676 189,729 623,405 48,643,000
FNMA Certificates................... 12,826,298 14,157 205,455 12,635,000
FHLMC Certificates.................. 22,091,685 71,897 429,582 21,734,000
------------ ---------- ---------- ------------
83,994,659 275,783 1,258,442 83,012,000
------------ ---------- ---------- ------------
$170,622,301 $1,068,318 $2,420,619 $169,270,000
============ ========== ========== ============
Investment securities and mortgage-backed securities at June 30, 1994 were
summarized as follows:
GROSS GROSS APPROXIMATE
BOOK UNREALIZED UNREALIZED MARKET
VALUE GAINS LOSSES VALUE
------------ -------- ---------- ------------
U.S. government and agencies................. $ 75,181,904 $270,072 $2,102,976 $ 73,349,000
Collateralized mortgage obligations.......... 5,614,505 7,370 216,875 5,405,000
------------ -------- ---------- ------------
80,796,409 277,442 2,319,851 78,754,000
------------ -------- ---------- ------------
Mortgage-backed securities:
GNMA Certificates.......................... 52,390,756 10,508 2,866,264 49,535,000
FHLMC Certificates......................... 25,810,401 58,079 823,480 25,045,000
FNMA Certificates.......................... 14,356,656 4,520 544,176 13,817,000
------------ -------- ---------- ------------
92,557,813 73,107 4,233,920 88,397,000
------------ -------- ---------- ------------
$173,354,222 $350,549 $6,553,771 $167,151,000
============ ======== ========== ============
F-12
13
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
3. SECURITIES -- (CONTINUED)
Debt securities at June 30, 1995 will mature on the following schedule:
AVAILABLE-FOR-SALE HELD-TO-MATURITY
------------------------- ---------------------------
APPROXIMATE APPROXIMATE
AMORTIZED MARKET AMORTIZED MARKET
COST VALUE COST VALUE
----------- ----------- ------------ ------------
Due in one year or less................... $ 7,048,291 $ 7,072,000 $ 5,966,753 $ 6,017,000
Due after one year through five years..... 13,029,295 13,141,195 56,275,626 55,467,000
Due after five years through ten years.... -- -- 31,994,678 31,742,000
Due after ten years....................... -- -- 76,385,244 76,044,000
----------- ----------- ------------ ------------
$20,077,586 $20,213,195 $170,622,301 $169,270,000
=========== =========== ============ ============
The amortized cost and approximate market value of mortgage-backed
securities at June 30, 1995, by contractual maturities are shown in the above
table. Expected maturities will differ from contractual maturities because
borrowers may have the right to call or prepay obligations with or without call
or prepayment penalties.
The weighted average interest yield for all securities was approximately
6.35% at June 30, 1995 and 5.69% at June 30, 1994.
Investment securities carried in the consolidated statements of financial
condition at $23,850,000 and $19,760,000 as of June 30, 1995 and 1994,
respectively, were pledged to secure public deposits.
F-13
14
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. LOANS RECEIVABLE
Loans receivable are summarized as follows:
1995 1994
------------ ------------
Loans secured by first mortgages on real estate:
Principal balances:
One to four single family residential.............. $239,624,145 $251,144,767
Construction loans, gross commitment............... 7,044,838 11,219,927
Partially guaranteed by VA or insured by FHA....... 804,254 998,812
Other conventional................................. 32,549,777 32,177,760
Other.............................................. 1,431,052 1,746,064
------------ ------------
281,454,066 297,287,330
Less:
Discounts on loans acquired through mergers........ 1,013,821 1,767,348
Allowance for loan losses.......................... 1,222,676 1,222,676
Undisbursed portion of construction loans.......... 2,436,442 3,732,820
Net deferred loan origination fees................. 871,853 1,192,445
------------ ------------
Total first mortgage loans.................... 275,909,274 289,372,041
------------ ------------
Consumer and other loans:
Principal balances:
Secured by deposits................................ 2,224,023 2,429,921
Education.......................................... 6,216 10,213
Home equity and second mortgage.................... 13,050,389 10,600,812
Credit card........................................ 535,134 595,452
Other consumer and commercial...................... 7,666,405 6,823,118
------------ ------------
23,482,167 20,459,516
Less:
Net deferred loan origination fees (costs)......... 21,894 (39,945)
Allowance for loan losses.......................... 1,103,992 1,055,962
Loans-in-process................................... 732,242 115,915
------------ ------------
Total consumer and other loans................ 21,624,039 19,327,584
------------ ------------
Loans receivable, net......................... $297,533,313 $308,699,625
============ ============
Weighted average contractual yield...................... 8.18% 7.38%
============ ============
Activity in the allowance for loan losses is summarized as follows:
1995 1994 1993
---------- ---------- ----------
Balance at beginning of year................... $2,278,638 $2,387,673 $2,338,314
Provisions charged against income.............. 82,247 487,346 595,140
Chargeoffs, net of recoveries.................. (34,217) (596,381) (545,781)
---------- ---------- ----------
Balance at end of year......................... $2,326,668 $2,278,638 $2,387,673
========== ========== ==========
F-14
15
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
4. LOANS RECEIVABLE -- (CONTINUED)
The following is a summary of the principal balances of loans on nonaccrual
status and loans past due ninety days or more:
1995 1994
-------- --------
Loans contractually past due 90 days or more and/or on
nonaccrual status:
Residential.................................................. $178,000 $271,000
Consumer and commercial...................................... 47,000 194,000
-------- --------
$225,000 $465,000
======== ========
During the years ended June 30, 1995, 1994, and 1993, interest income of
approximately $17,000, $22,000, and $106,000, respectively, was not recorded
related to loans accounted for on a nonaccrual basis.
In the ordinary course of business, the Bank makes loans to directors and
officers and their related interests. Loans to directors and officers and their
related interests are as follows:
Balance at June 30, 1993................................................. $1,640,199
Advances............................................................... 702,860
Repayments............................................................. (346,402)
Separation of officer with loans....................................... (43,363)
----------
Balance at June 30, 1994................................................. 1,953,294
Advances............................................................... 381,926
Repayments............................................................. (545,673)
----------
Balance at June 30, 1995................................................. $1,789,547
==========
The Bank offers an unsecured $100,000 line of credit to each of its seven
non-employee directors. Amounts outstanding against line of credit agreements
with the two directors who have accepted the credit line were $99,878 and
$99,971 at June 30, 1995 and 1994, respectively. The directors may retain their
lines of credit after they leave the board, so long as they continue to meet the
normal credit requirements of the Bank.
5. LOAN SERVICING
Mortgage loans serviced for others are not included in the accompanying
consolidated statements of financial condition. The approximate unpaid principal
balances of these loans were $7,821,000 and $9,905,000 at June 30, 1995 and
1994, respectively.
F-15
16
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. INTEREST RECEIVABLE
Interest receivable is summarized as follows:
1995 1994
---------- ----------
Securities available-for-sale............................... $ 352,072 $ --
Securities held-to-maturity................................. 1,533,030 --
Investment securities....................................... -- 1,255,288
Mortgage-backed securities.................................. -- 488,815
Loans receivable............................................ 1,781,205 1,702,413
---------- ----------
$3,666,307 $3,446,516
========== ==========
7. REAL ESTATE OWNED
Activity in the allowance for losses on real estate owned is summarized as
follows:
1995 1994 1993
-------- -------- ---------
Balance at beginning of year...................... $262,322 $284,947 $ 201,330
Provision charged against income.................. 1,051 72,991 251,825
Chargeoffs........................................ (51,602) (95,616) (168,208)
-------- -------- --------
Balance at end of year............................ $211,771 $262,322 $ 284,947
======== ======== ========
8. PREMISES AND EQUIPMENT
Premises and equipment are summarized as follows:
1995 1994
---------- ----------
Land.......................................................... $1,587,801 $1,540,381
Office buildings and leasehold improvements................... 8,935,532 8,831,100
Furniture, fixtures, and equipment............................ 4,363,695 5,526,720
Automobiles................................................... 105,765 93,017
---------- ----------
14,992,793 15,991,218
Less accumulated depreciation and amortization.............. 8,206,898 9,314,754
---------- ----------
Premises and equipment, net................................. $6,785,895 $6,676,464
========== ==========
F-16
17
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
9. DEPOSITS
Deposits are summarized as follows:
1995 1994
---------------------- ----------------------
AMOUNT % AMOUNT %
------------ ----- ------------ -----
Noninterest-bearing demand deposits.......... $ 10,574,976 2.4% $ 8,395,930 1.9%
Demand and NOW accounts at 2.25%............. 56,407,635 12.5 64,671,094 14.3
SuperNow at 2.50%............................ 7,514,508 1.7 10,916,498 2.4
Money market at 3.31%........................ 17,844,834 4.0 24,135,360 5.4
Passbook savings at 2.75%.................... 68,433,425 15.2 91,440,876 20.3
------------ ----- ------------ -----
160,775,378 35.8 199,559,758 44.3
------------ ----- ------------ -----
Certificates of deposit:
2.00 to 2.50%.............................. 1,016,523 .2 1,466,043 .3
2.51 to 3.00%.............................. 701,623 .2 2,367,612 .5
3.01 to 3.50%.............................. 2,850 .0 85,027,440 18.9
3.51 to 4.00%.............................. 13,693,624 3.0 56,385,354 12.5
4.01 to 4.50%.............................. 53,029,316 11.8 38,661,139 8.6
4.51 to 5.00%.............................. 56,907,063 12.7 27,079,048 6.0
5.01 to 5.50%.............................. 33,348,110 7.4 18,379,993 4.1
5.51 to 6.00%.............................. 34,780,123 7.8 15,273,215 3.4
6.01 to 6.50%.............................. 52,314,919 11.6 1,246,910 .3
6.51 to 7.00%.............................. 39,678,704 8.8 2,320,911 .5
7.01 to 7.50%.............................. 2,376,130 .5 1,123,279 .2
7.51 to 8.00%.............................. 222,920 .1 1,480,020 .3
8.01 to 8.50%.............................. 296,088 .1 286,531 .1
8.51 to 9.00%.............................. 99,110 .0 92,491 .0
9.01 to 9.50%.............................. 75,496 .0 68,864 .0
------------ ----- ------------ -----
288,542,599 64.2 251,258,850 55.7
------------ ----- ------------ -----
$449,317,977 100.0% $450,818,608 100.0%
============ ===== ============ =====
The aggregate amount of jumbo certificates of deposit with a minimum
denomination greater than $100,000 was $17,250,670 and $9,264,566 at June 30,
1995 and 1994, respectively.
At June 30, 1995, scheduled maturities of certificates of deposit are as
follows:
YEAR ENDING JUNE 30
-------------------------------------------------------------
1996.................................................... $221,752,925
1997.................................................... 41,336,160
1998.................................................... 16,498,383
Later................................................... 8,955,131
------------
$288,542,599
============
F-17
18
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
9. DEPOSITS -- (CONTINUED)
Interest expense on deposits for the years ended June 30, 1995, 1994 and
1993 is summarized as follows:
1995 1994 1993
----------- ----------- -----------
Demand, Money Market, NOW, and
SuperNOW.......................... $ 2,338,807 $ 2,361,347 $ 2,517,330
Passbook savings.................... 2,175,733 2,550,798 2,746,998
Time deposits....................... 12,314,926 10,934,623 13,609,634
----------- ----------- -----------
$16,829,466 $15,846,768 $18,873,962
=========== =========== ===========
10. ADVANCES FROM FEDERAL HOME LOAN BANK
Federal Home Loan Bank advances consist of the following:
1995 1994
----------- ----------
Variable rate advance which reprices monthly based on the
one month London Interbank Offering Rate (LIBOR) plus 5
basis points (6.1203% at June 30, 1995), with interest
only due monthly, and principal due on October 14,
2004..................................................... $10,000,000 $ --
8.1% fixed rate advance payable in monthly principal and
interest payments of $865 through February, 2006......... 74,005 78,207
6.0% fixed rate advance payable in monthly principal and
interest payments of $45,830, due through November 1,
2002..................................................... 3,256,279 4,265,337
Variable rate advance which reprices monthly based on the
one month London Interbank Offering Rate (LIBOR) (6.0625%
at June 30, 1995), with interest only due monthly, and
principal due on November 14, 1997....................... 492,000 536,000
5.15% fixed rate advance payable in monthly principal and
interest payments of $53,400, due through October 1,
2003..................................................... 4,299,637 4,707,539
----------- ----------
$18,121,921 $9,587,083
=========== ==========
These advances are collateralized by a blanket pledge of qualifying
mortgage loans totaling $27,279,181 at June 30, 1995.
11. INCOME TAXES
Income tax expense (benefit) is summarized as follows:
1995 1994 1993
---------- ---------- ----------
Current........................................ $2,358,402 $3,485,409 $3,691,634
Deferred....................................... 654,476 (47,280) (268,381)
Charge-in-lieu of taxes........................ 262,227 248,529 528,381
Change in effective tax rate on
temporary differences........................ (129,439) (184,695) --
---------- ---------- ----------
$3,145,666 $3,501,963 $3,951,634
========== ========== ==========
F-18
19
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
11. INCOME TAXES -- (CONTINUED)
Included in the above are state income taxes of $393,037, $457,561, and
$473,310 in 1995, 1994, and 1993, respectively.
The differences between income tax expense and the expected amounts
computed by applying the federal income tax rate to income before income tax
expense are as follows:
1995 1994 1993
AMOUNT % AMOUNT % AMOUNT %
---------- ---- ---------- ---- ---------- ----
Income tax expense
at statutory rate............. $2,928,257 34.0% $3,300,104 34.0% $3,217,710 34.0%
Increases (decreases) in tax
resulting from:
Interest on tax-free
investments................ (25,442) (.3) (23,708) (.2) (34,565) (.4)
Purchase method of accounting
in conjunction with
mergers.................... 143,777 1.7 178,614 1.8 435,221 4.6
Change in effective rate on
temporary differences...... (129,439) (1.5) (184,695) (1.9) -- --
Other, net.................... (30,891) .1 (44,053) (.5) 20,883 .2
State income taxes, net of
Federal benefit............ 259,404 2.5 275,701 2.9 312,385 3.4
---------- ---- ---------- ---- ---------- ----
Actual income tax expense....... $3,145,666 36.5% $3,501,963 36.1% $3,951,634 41.8%
========== ==== ========== ==== ========== ====
Deferred income taxes reflect the impact of temporary differences between
the amount of assets and liabilities for financial reporting purposes and as
measured by tax laws and regulations. The sources of these temporary differences
are as follows:
1995 1994
--------- ----------
Excess of book over tax basis of equipment.................. $(288,614) $ (221,276)
Discounts on loans acquired through mergers................. 385,252 616,765
Allowance for loan losses................................... 450,075 783,880
Federal Home Loan Bank stock................................ (288,221) (177,595)
Deferred loan fees.......................................... (125,159) 187,354
Deferred compensation....................................... 833,322 290,202
Unrealized appreciation on available-for-sale securities.... (51,530) --
Other....................................................... (17,611) (22,192)
-------- ----------
$ 897,514 $1,457,138
======== ==========
The Bank qualifies under provisions of the Internal Revenue Code which
permit it to deduct from income an allowance for bad debts based on
approximately 8% of taxable income before such deduction, or actual chargeoffs.
As of June 30, 1995, the Company has taken aggregate bad debt deductions of
approximately $4,647,000 for income tax purposes under the percentage of taxable
income method for which no provisions for federal income tax have been made in
the financial statements. This amount may be used only for absorbing losses for
tax purposes. It is not related to amounts of losses actually anticipated and
the additions thereto have not been charged against income.
F-19
20
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
12. COMPENSATION AND BENEFITS
PENSION PLAN
Substantially all employees of the Bank and its subsidiary are covered by a
noncontributory defined benefit pension plan. The plan calls for benefits to be
paid to all eligible employees at retirement based primarily upon years of
service with the Bank and compensation paid in the five consecutive years when
earnings were the greatest within the ten year period preceding retirement. Plan
assets consist primarily of fixed income and equity securities and money market
instruments.
The following sets forth the funded status of the plan as of June 30, 1995
and 1994:
1995 1994
---------- ----------
Actuarial present value of benefit obligations:
Vested benefits........................................... $2,112,692 $1,981,368
Nonvested benefits........................................ 57,092 60,645
---------- ----------
Accumulated benefit obligations................... $2,169,784 $2,042,013
========== ==========
Projected benefit obligations............................. $3,167,095 $3,110,004
Fair value of assets held in the plan..................... 2,697,472 2,631,386
---------- ----------
Fair value of plan assets under projected benefit
obligations............................................ (469,623) (478,618)
Net unrecognized loss from past experience
different than assumed................................. 817,537 960,278
Unrecognized prior service cost........................... (119,620) 43,730
Unrecognized net asset as of July 1, 1987................. (253,209) (274,309)
---------- ----------
Prepaid (accrued) pension cost.................... $ (24,915) $ 251,081
========== ==========
The change in projected benefit obligations resulted from additions for
such factors as interest on the beginning balance and current year service cost,
less distributions to participants.
Pension expense for the years ended June 30, 1995, 1994, and 1993, includes
the following components:
1995 1994 1993
-------- --------- ---------
Service cost of the current period............... $128,817 $ 110,807 $ 116,232
Interest cost on the projected benefit
obligations.................................... 230,242 202,372 179,720
Actual return on assets held in the plan......... (192,957) 36,410 (34,726)
Net amortization and deferral.................... (48,877) (307,182) (251,987)
-------- --------- ---------
$117,225 $ 42,407 $ 9,239
======== ========= =========
The weighted average discount rate used to measure the projected benefit
obligations is 8.0%, the assumed rate of increase in future compensation levels
is 5.0%, and the expected long-term rate of return on assets is 9.5%. The Bank
uses the straight-line method of amortization of unrecognized gains and losses.
THRIFT AND PROFIT SHARING PLAN
The Bank has a thrift and profit sharing plan for substantially all
employees who have completed at least one year of service. The plan has been
amended to comply with the regulations of the Tax Equity and Fiscal
Responsibility Act, Code Section 401(k), the Retirement Equity Act of 1984, the
Deficit Reduction Act of 1984, the Tax Reform Act of 1986, and the Revenue
Reconciliation Act of 1993.
F-20
21
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
12. COMPENSATION AND BENEFITS -- (CONTINUED)
Under these regulations, the Bank agrees to match an employee's
contribution equal to 5% of the employee's salary, although the employee may
contribute up to 10%. The expense for this plan for the years ended June 30,
1995, 1994, and 1993 was approximately $154,000, $128,000 and $116,000,
respectively.
13. PARENT COMPANY FINANCIAL INFORMATION
Condensed financial information for Heritage Federal Bancshares, Inc.
(parent company only) as of June 30, 1995 and 1994, was as follows:
CONDENSED BALANCE SHEETS
1995 1994
----------- -----------
ASSETS
Cash...................................................... $ 724,287 $ 1,044,132
Investment in subsidiary.................................. 33,841,080 29,147,192
Other assets.............................................. 56,321 7,796
----------- -----------
Total assets.................................... $34,621,688 $30,199,120
=========== ===========
LIABILITIES
Accounts payable.......................................... $ 105,591 $ 73,082
Employee Stock Ownership Plan obligation.................. -- 880,885
----------- -----------
Total liabilities............................... 105,591 953,967
----------- -----------
STOCKHOLDERS' EQUITY
Common stock.............................................. 3,186,158 3,172,826
Additional paid-in capital................................ 16,509,491 16,108,095
Retained earnings......................................... 15,812,195 11,555,235
Net unrealized appreciation on available-for-sale
securities.............................................. 84,079 --
Employee Stock Ownership Plan obligation.................. (720,765) (880,885)
Unearned compensation of Management Recognition Plan...... (355,061) (710,118)
----------- -----------
Total stockholders' equity...................... 34,516,097 29,245,153
----------- -----------
Total liabilities and stockholders' equity...... $34,621,688 $30,199,120
=========== ===========
F-21
22
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
13. PARENT COMPANY FINANCIAL INFORMATION -- (CONTINUED)
CONDENSED STATEMENTS OF INCOME
1995 1994
---------- ----------
Revenue:
Equity in earnings of subsidiary.......................... $6,043,382 $7,484,815
Loan interest income...................................... 30,837 --
---------- ----------
Total revenue..................................... 6,074,219 7,484,815
---------- ----------
Expenses
Management fees........................................... 572,340 636,442
Legal fees................................................ 237,039 143,167
Other..................................................... 154,339 80,949
---------- ----------
Total expenses.................................... 963,718 860,558
---------- ----------
Income before income taxes........................ 5,110,501 6,624,257
Income tax benefit.......................................... (356,353) (344,223)
---------- ----------
Net income........................................ $5,466,854 $6,968,480
========== ==========
CONDENSED STATEMENTS OF CASH FLOW
Cash flows from operating activities:
Net income.............................................. $ 5,466,854 $ 6,968,480
Adjustments to reconcile net income to net cash provided
by operating activities:
Equity in earnings of subsidiary..................... (6,043,382) (7,484,815)
Increase (decrease) in other liabilities............. 32,507 (77,337)
----------- -----------
Net cash used by operating activities........... (544,021) (593,672)
----------- -----------
Cash flows from investing activities:
Dividends from subsidiary............................... 2,000,000 2,000,000
Advances to ESOP........................................ (720,765) --
Decrease in other assets................................ 19,277 43,246
----------- -----------
Net cash provided by investing activities....... 1,298,512 2,043,246
----------- -----------
Cash flows from financing activities:
Proceeds from issuance of common stock.................. 134,289 93,277
Dividend payments....................................... (1,208,625) (785,050)
----------- -----------
Net cash used by financing activities........... (1,074,336) (691,773)
----------- -----------
Net increase (decrease) in cash........................... (319,845) 757,801
Cash at beginning of year................................. 1,044,132 286,331
----------- -----------
Cash at end of year....................................... $ 724,287 $ 1,044,132
=========== ===========
F-22
23
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
14. CITIZENS FINANCIAL CORPORATION
Summarized financial information of the Bank's wholly-owned service
corporation, Citizens Financial Corporation, is as follows:
BALANCE SHEETS
JUNE 30,
-------------------------
1995 1994
---------- ----------
Assets...................................................... $1,842,612 $1,758,357
========== ==========
Accrued expenses and other liabilities...................... $ 54,175 $ 117,204
Capital stock, paid-in capital and retained earnings........ 1,788,437 1,641,153
---------- ----------
$1,842,612 $1,758,357
========== ==========
STATEMENTS OF EARNINGS
YEARS ENDED JUNE 30,
----------------------------------
1995 1994 1993
-------- -------- --------
Income............................................. $301,775 $310,776 $181,202
Expenses........................................... 154,491 155,956 100,573
-------- -------- --------
Net earnings............................. $147,284 $154,820 $ 80,629
======== ======== ========
15. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK AND SIGNIFICANT GROUP
CONCENTRATION OF CREDIT-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 and
to reduce its own exposure to fluctuations in interest rates. These financial
instruments include commitments to extend credit and standby letters of credit.
These instruments involve, to varying degrees, elements of credit and interest
rate risk in excess of the amounts recognized in the statements of financial
condition. The contract or notional amounts of these instruments reflect the
extent of involvement the Bank has 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
standby letters of credit is represented by the contractual notional amount of
those instruments. The Bank uses the same credit policies in making these
commitments and conditional obligations as it does for on-balance-sheet
instruments.
Outstanding lines of credit balances were $1,682,944 and $1,685,212 at June
30, 1995 and 1994, respectively. Commitments to originate or purchase loans were
approximately $1,733,000 and $5,195,000 at June 30, 1995 and 1994, respectively.
The commitments exclude approved, but unused, home equity lines of credit of
$3,492,558 and $3,523,810 in 1995 and 1994, respectively. The commitments to
originate or purchase loans at June 30, 1995, were composed of variable rate
loans of $1,204,000 and fixed rate loans of $529,000. The fixed rate loans had
interest rates ranging from 6.5% to 9.25%.
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 credit
worthiness on a case-by-case basis. The amount of collateral obtained if
F-23
24
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
15. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK AND SIGNIFICANT GROUP
CONCENTRATION OF CREDIT RISK -- (CONTINUED)
deemed necessary by the Bank upon extension of credit is based on management's
credit evaluation of the borrower. Collateral held varies but may include trade
accounts receivable; property, plant, and equipment; and income-producing
commercial properties.
Standby letters of credit are conditional commitments issued by the Bank to
guarantee the performance of a customer to a third party. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loan facilities to customers. At June 30, 1995, the unused amount
of letters of credit issued totaled $212,602.
Most of the Bank's business activity is with customers located within the
state of Tennessee. A majority of the loans are collateralized by residential or
commercial real estate or other personal property. The loans are expected to be
repaid from cash flow or proceeds from the sale of selected assets of the
borrowers. The Bank grants residential, consumer, and commercial loans to
customers throughout the eastern portion of the state of Tennessee.
16. EMPLOYEE STOCK OWNERSHIP PLAN OBLIGATION
In conjunction with converting to a stock ownership form, the Company and
the Bank established an Employee Stock Ownership Plan (ESOP), under which the
Bank makes annual contributions to a trust for the benefit of eligible
employees. To be eligible, an employee must be 21 years of age and have
completed at least one year of service. The contributions may be in the form of
cash, other property, or common shares of the Company. The amount of the annual
contribution is at the discretion of the Board of Directors of the Bank.
Initially, the ESOP acquired 209,300 shares of the Company's common stock
financed by $1,203,475 in borrowings by the ESOP. The Board of Directors intends
to contribute to the Plan an amount equal to the required principal and interest
payments related to the ESOP loan.
During 1995, the ESOP refinanced its notes payable with borrowings from the
Company. The new loan, which has essentially the same terms as the prior
borrowing, is payable in quarterly principal payments of $30,087 plus interest
at the lender's base rate through March 30, 2002. At June 30, 1995, the loan
bore interest at 9.00%. The plan is noncontributory and there is no past service
liability. The principal balance of the ESOP loan was $720,765 at June 30, 1995
and $880,885 at June 30, 1994. The Company is using the dividends paid on
unallocated shares held by the ESOP to reduce the outstanding debt. The
financial statements for the years ended June 30, 1995, 1994 and 1993 include
compensation expense of $91,241, $120,348 and $120,348 and interest expense of
$37,592, $63,613 and $74,407, respectively, related to the ESOP.
The ESOP debt agreement contains certain affirmative financial covenants
related to the Bank's operations and financial position. The Bank is in
compliance with all such covenants.
In prior years, the Company had guaranteed the repayment of the ESOP debt
to the outside lender and, accordingly, recorded the debt on its balance sheet
with a corresponding contra-equity account.
F-24
25
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
16. EMPLOYEE STOCK OWNERSHIP PLAN OBLIGATION -- (CONTINUED)
Future minimum principal payments due to the Company related to the
Employee Stock Ownership Plan obligation are as follows:
YEAR ENDED JUNE 30,
----------------------------------------------------------------
1996....................................................... $120,348
1997....................................................... 120,348
1998....................................................... 120,348
1999....................................................... 120,348
2000....................................................... 120,348
Thereafter................................................. 119,025
--------
$720,765
========
17. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
The following is a summary of quarterly results of operations for the years
ended June 30, 1995 and 1994:
FIRST SECOND THIRD FOURTH
---------- ---------- ---------- ----------
1995:
Interest income......................... $8,640,565 $8,959,429 $9,074,420 $9,304,480
Interest expense........................ 4,049,674 4,338,990 4,468,926 4,939,906
---------- ---------- ---------- ----------
Net interest income..................... 4,590,891 4,620,439 4,605,494 4,364,574
Provision for loan losses............... 20,591 2,501 30,920 28,235
---------- ---------- ---------- ----------
Net interest income after provision for
loan losses.......................... 4,570,300 4,617,938 4,574,574 4,336,339
---------- ---------- ---------- ----------
Other income............................ 719,009 682,585 701,777 651,600
General and administrative expenses..... 3,112,009 3,143,617 3,104,945 2,881,031
---------- ---------- ---------- ----------
Income before income taxes.............. 2,177,300 2,156,906 2,171,406 2,106,908
Income tax expense...................... 769,853 689,759 798,920 887,134
---------- ---------- ---------- ----------
Net income.............................. $1,407,447 $1,467,147 $1,372,486 $1,219,774
========== ========== ========== ==========
Net income per share.................... $ 0.41 $ 0.43 $ 0.39 $ 0.35
========== ========== ========== ==========
1994:
Interest income......................... $9,181,104 $8,986,173 $8,679,829 $8,703,564
Interest expense........................ 4,309,713 4,198,871 3,997,124 3,981,573
---------- ---------- ---------- ----------
Net interest income..................... 4,871,391 4,787,302 4,682,705 4,721,991
Provision for loan losses............... 216,652 212,519 45,295 12,880
---------- ---------- ---------- ----------
Net interest income after provision for
loan losses.......................... 4,654,739 4,574,783 4,637,410 4,709,111
---------- ---------- ---------- ----------
Other income............................ 556,673 586,449 702,434 638,265
General and administrative expenses..... 3,049,639 3,021,942 2,415,619 2,866,476
---------- ---------- ---------- ----------
Income before income taxes.............. 2,161,773 2,139,290 2,924,225 2,480,900
Income tax expense...................... 863,870 828,453 969,150 840,490
---------- ---------- ---------- ----------
Net income before accounting change..... 1,297,903 1,310,837 1,955,075 1,640,410
Accounting change....................... 764,255 -- -- --
---------- ---------- ---------- ----------
Net income after accounting change...... $2,062,158 $1,310,837 $1,955,075 $1,640,410
========== ========== ========== ==========
Net income per share.................... $ 0.61 $ 0.39 $ 0.58 $ 0.49
========== ========== ========== ==========
F-25
26
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
18. STOCK OPTION AND AWARD PLANS
1992 STOCK OPTION PLAN
The Company has adopted a stock option plan for the benefit of employees of
the Bank and nonemployee directors of the Company. The number of shares of
common stock authorized and awarded under the 1992 stock option plan was
299,000, equal to 10% of the total number of shares issued in the Company's
public offering. The option exercise price of $5.75 per share is equal to 100%
of the fair market value of the common stock on the date of grant. The option
term is ten years. Options issued to employees of the Bank in connection with
the conversion became exercisable over a three year period ending in March 1995.
Options issued to nonemployee directors of the Company are immediately
exercisable. During 1993, a former director exercised options for 14,950 shares
at an exercise price of $5.75 per share. During 1994, 2,728 options were
exercised at an exercise price of $5.75 per share. During 1995, 8,377 options
were exercised at an exercise price of $5.75 per share.
MANAGEMENT RECOGNITION PLAN (MRP)
The Bank issued 89,700 shares of common stock to a MRP Trust created during
1993. All of these shares, with a market value of $1,065,187 on the date of
award, have been awarded to certain executive officers as restricted stock which
will vest over the three year period ending March 1996. Compensation expense in
the amount of $355,057, $201,060 and $154,009 was recognized during 1995, 1994
and 1993, respectively, related to these awards. The plan contains provisions
providing for forfeiture of unvested shares in the event of termination, and
vesting in the event of death, disability, retirement or a change in control.
The shares issued to the MRP Trust have been recorded as outstanding
shares, and the unvested portion has been recorded as unearned compensation
through a contra-equity account.
INCENTIVE COMPENSATION PLANS
The Company has established an incentive compensation plan for certain
officers. The plan provides for annual cash bonuses, restricted stock awards and
stock options based upon base annual compensation and certain operating results.
For the year ended June 30, 1995, compensation in the aggregate amount of
$510,228 was recorded, including awards of 3,348 shares of common stock which
will vest over three years and options on 14,350 shares of common stock
exercisable at $13.00 related to discounted option plans. In 1994, the
compensation recorded under these plans aggregated $442,464, including awards of
5,073 shares of common stock which will vest over three years and 30,735 options
on shares of common stock exercisable at $8.72 related to discounted option
plans. In 1993, the compensation recorded under these plans aggregated $404,463
including awards of 5,672 shares of common stock. In addition, in 1995, 1994 and
1993 participants were granted stock options for 6,696 shares exercisable at
$26.00 per share, 10,149 shares exercisable at $17.44 per share, and 11,352
shares exercisable at $14.25 per share, respectively.
The Company has established an incentive compensation plan for nonemployee
directors. This unfunded plan provides benefits in the form of performance stock
options for shares of common stock. The number of shares received, exercisable
at 50% of the fair market value on the date of the grant, is determined based on
the amount of director fees deferred during the year by each director. Director
compensation recorded for 1995 related to this plan amounted to $177,250,
representing 13,635 shares at an exercise price of $13.00 per share. Director
compensation recorded for 1994 related to this plan amounted to $134,650,
representing 15,446 shares at an exercise price of $8.72 per share.
In 1994, the Company adopted a new Director Option Plan that was approved
by the shareholders at the Annual Meeting in October. The plan provides for
automatic grants to each director of options to purchase 4,000 shares of common
stock annually at the fair market value on the date of the grant. At June 30,
1995, no
F-26
27
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
18. STOCK OPTION AND AWARD PLANS -- (CONTINUED)
options had been exercised and 28,000 options are exercisable at $20.25 per
share and 28,000 options are exercisable at $15.19 per share.
19. EARNINGS PER SHARE
On July 20, 1994, Heritage Federal Bancshares, Inc. declared a four for
three stock split for all shares outstanding as of August 5, 1994, to be paid on
August 26, 1994, to be effected as a stock dividend. On August 18, 1993,
Heritage Federal Bancshares, Inc. declared a three for two stock split for all
shares outstanding as of September 8, 1993 to be effected as a stock dividend.
This stock split was paid September 30, 1993. All references to the outstanding
number of shares and earnings per share amounts have been restated to reflect
the splits.
Stock options are regarded as common stock equivalents. Common stock
equivalents are computed using the treasury stock method.
Following are weighted average shares outstanding for computation of
earnings per share for 1995, 1994, and 1993 after adjusting for stock splits:
1995 1994 1993
--------- --------- ---------
Shares issued and outstanding..................... 3,179,737 3,171,216 3,099,422
Common stock equivalents computed by the treasury
stock method-options............................ 284,079 200,856 209,633
--------- --------- ---------
3,463,816 3,372,072 3,309,055
========= ========= =========
20. FAIR VALUES OF FINANCIAL INSTRUMENTS
Financial Accounting Standards Board Statement No. 107 (Statement 107)
requires disclosures of the estimated fair value of an entity's financial
instrument assets and liabilities. For the Company, as for most financial
institutions, the great bulk of its assets and liabilities are considered
financial instruments as defined in Statement 107. However, many of such
instruments lack an available trading market, as characterized by a willing
buyer and seller engaging in an exchange transaction. Also, it is the Company's
general practice and intent to hold its financial instruments to maturity and
not to engage in trading or sales activities. Therefore, the Company used
estimations and present value calculations to prepare this disclosure.
Changes in the assumptions or methodologies used to estimate fair values
may materially affect the estimated amounts. Also, management is concerned that
there may not be reasonable comparability between institutions due to the wide
range of permitted assumptions and methodologies in the absence of active
markets. This lack of uniformity gives rise to a high degree of subjectivity in
estimating financial instrument fair values.
Fair values have been estimated using data which management considered the
best available, and estimation methodologies deemed suitable for the pertinent
category of financial instrument. The estimation methodologies and resulting
fair values, and recorded carrying amounts at June 30, 1995 and 1994, were as
follows:
Cash and cash equivalents are by definition short-term and do not
present any unanticipated credit issues. Therefore, the carrying amount is
a reasonable estimate of fair value. The estimated fair values of
securities are provided in Note 3 to the financial statements. These are
based on quoted market prices, when available. If a quoted market price is
not available, fair value is estimated using quoted market prices for
similar securities.
F-27
28
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
20. FAIR VALUES OF FINANCIAL INSTRUMENTS -- (CONTINUED)
The fair value of the net loan portfolio has been estimated using
present value cash flow discounted at an interest rate adjusted for
servicing costs and giving consideration to estimated prepayment risk and
credit loss factors.
1995 1994
----------------------------- -----------------------------
ESTIMATED CARRYING ESTIMATED CARRYING
FAIR VALUE AMOUNT FAIR VALUE AMOUNT
------------ ------------ ------------ ------------
1-4 family mortgages...... $247,984,000 $247,238,858 $259,692,000 $261,813,285
Consumer.................. 23,226,000 23,482,167 20,214,000 20,459,516
Non-Residential........... 33,969,000 34,215,208 33,906,000 35,474,045
------------ ------------ ------------ ------------
$305,179,000 $304,936,233 $313,812,000 $317,746,846
============ ============ ============ ============
Fair value of deposit liabilities with no stated maturities has been
estimated to equal the carrying amount (the amount payable on demand), totaling
$160,775,378 and $199,559,758 in 1995 and 1994, respectively. Under Statement
107, the fair value of deposits with no stated maturity is equal to the amount
payable on demand. Therefore, the fair value estimates for these products do not
reflect the benefits that the Bank receives from the low-cost, long-term funding
they provide. These benefits are significant. There is no material difference
between the carrying amount of deposit liabilities with stated maturities and
their estimated fair value since the majority of the liabilities mature within
one year.
The fair value of certificates of deposits and advances from the Federal
Home Loan Bank is estimated by discounting the future cash flows using the
current rates offered for similar deposits and advances with the same remaining
maturities. The carrying value and estimated fair values of certificates of
deposit and Federal Home Loan Bank advances at June 30, 1995 and 1994 are as
follows:
1995 1994
------------ ------------
Certificates of deposits:
Carrying amount....................................... $288,542,599 $251,258,850
Estimated fair value.................................. $290,144,000 $252,205,000
Advances from Federal Home Loan Bank:
Carrying amount....................................... $ 18,121,921 $ 9,587,083
Estimated fair value.................................. $ 17,852,000 $ 8,992,000
In 1994, there was no material difference between the carrying amount and
estimated fair value of the obligation to the Employee Stock Ownership Plan
because it bore interest at a variable rate equivalent to a current market rate.
There is no material difference between the carrying amount and estimated
fair value of off-balance sheet items totaling $3,415,944 in 1995 and $6,880,212
in 1994, which are primarily comprised of unfunded loan commitments which are
generally priced at market at the time of funding.
The Company's remaining assets and liabilities are not considered financial
instruments.
21. FINANCIAL INSTITUTIONS REFORM, RECOVERY, AND ENFORCEMENT ACT
The Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA),
which was signed into law in 1989, imposed stringent capital requirements upon
savings institutions. In addition, FIRREA included provisions for changes in the
federal regulatory structure for savings institutions including a new deposit
insurance system, increased deposit premiums and restricted investment
activities with respect to noninvest-
F-28
29
HERITAGE FEDERAL BANCSHARES, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
21. FINANCIAL INSTITUTIONS REFORM, RECOVERY, AND ENFORCEMENT
ACT -- (CONTINUED)
ment grade corporate debt and certain other investments. FIRREA also increased
the required ratio of housing-related assets in order to qualify as a qualified
thrift lender under federal regulations.
The Bank must satisfy three capital standards, as set by the Office of
Thrift Supervision ("the OTS"). These standards include a ratio of core capital
to adjusted total assets of 3.0%, a tangible capital standard expressed as 1.5%
of total adjusted assets, and a combination of core and "supplementary" capital
equal to 8.0% of risk-weighted assets. The OTS recently finalized regulations
that add an interest rate risk component to capital requirements under certain
circumstances. The Bank does not expect that this regulation will require it to
reduce its capital materially for purposes of determining compliance with its
risk-based capital requirement. In addition, the OTS has recently adopted
regulations that impose certain restrictions on savings associations that have a
total risk-based capital ratio that is less than 8.0%, a ratio of Tier 1 capital
(or core capital) to risk-weighted assets of less than 4.0%, or a ratio of Tier
1 capital to adjusted total assets of less than 4.0% (or 3.0% if the institution
receives the highest rating under the OTS examination rating system).
F-29