1 Exhibit 13 PORTIONS OF 2000 REPORT TO SHAREHOLDERS SELECTED CONSOLIDATED FINANCIAL HIGHLIGHTS At September 30, ----------------------------------------------------------------------- 2000 1999 1998 1997 1996 ---- ---- ---- ---- ---- (Dollars in Thousands, Except Per Share Data) SELECTED FINANCIAL CONDITION AND OTHER DATA: TOTAL AMOUNT OF: Assets $111,523 $113,421 $117,800 $104,006 $108,098 Cash and Amounts Due from Banks 605 937 631 612 549 Interest-Bearing Deposits in Banks 4,385 2,504 5,629 6,215 2,498 Investment Securities Held to Maturity 14,842 16,999 18,980 13,069 13,995 Investment Securities Available-for-Sale - - 4,091 1,003 1,002 Mortgage-backed Securities Held to 16,637 19,968 22,352 17,862 18,751 Maturity Loans Receivable, Net 70,682 69,089 62,161 61,578 67,741 FHLB Stock, at Cost 1,559 1,451 1,354 1,260 1,174 Deposits 75,462 81,654 79,484 90,195 94,657 Short-Term Borrowings 6,000 1,000 - - - Shareholders' Equity 29,111 30,179 37,718 13,090 12,537 Number of Offices (1) 5 5 5 5 5 Year Ended September 30, ----------------------------------------------------------------------- 2000 1999 1998 1997 1996 ---- ---- ---- ---- ---- SUMMARY OF EARNINGS: Interest Income 3,830 3,667 4,191 4,451 4,578 ------ ------ ------- ------- ------ Interest Expense Net Interest Income 4,311 4,713 4,084 3,545 3,620 Provision for Losses on Loans - 8 74 113 8 ------ ------ ------- ------- ------ Net Interest Income After Provision for Losses on Loans 4,311 4,705 4,010 3,432 3,612 Non-Interest Income 121 117 111 88 96 Non-Interest Expense 3,417 3,324 2,997 2,667 3,120(2) ------ ------ ------- ------- ------ Income Before Federal Income Tax Expense 1,015 1,498 1,124 853 588 Federal Income Tax Expense 345 509 380 300 200 ------ ------ ------- ------- ------ Net Income $ 670 $ 989 $ 744 $ 553 $ 388 ====== ====== ======= ======= ====== Net Income Per Share $ 0.27 $ 0.40 $ 0.22 N/A N/A ====== ====== ======= ======= ====== Dividends Declared Per Share $ 0.28 $ 3.28 $ 0.07 N/A N/A ====== ====== ======= ======= ====== At or for the Year Ended September 30, --------------------------------------------------------------------------- SELECTED FINANCIAL RATIOS: 2000 1999 1998 1997 1996 ---- ---- ---- ---- ---- Performance Ratios: Return on Average Assets (3) .59% .84% 0.66% 0.53% 0.36% Return on Average Equity (4) 2.17 2.81 3.61 4.30 3.10 Interest Rate Spread (5) 2.71 3.00 2.92 2.97 2.94 Net Interest Margin (6) 3.93 4.30 3.71 3.46 3.41 Non-Interest Expense to Average Total 3.02 2.83 2.65 2.53 2.87 Assets Capital Ratios: Average Equity to Average Assets 27.25 30.00 18.25 12.22 11.50 Equity to Assets at End of Period 26.10 26.56 32.02 12.59 11.60 Asset Quality Ratios and Other Data: Nonperforming Loans to Total Net Loans at End of Period 0.17 0.11 0.28 0.98 0.26 Nonperforming Assets to Total Assets at End of Period 0.10 0.07 0.15 0.58 0.16 Allowance for Losses on Loans to Total Net Loans at End of Period 0.42 0.43 0.48 0.49 0.28 Allowance for Losses on Loans to Nonperforming Loans at End of Period 256.41 394.74 173.41 49.92 106.78 Net Charge-Offs to Average Loans - 0.01 0.12 - 0.01 - ------------------- (footnotes on next page) 1 2 (1) All offices are full-service except that loan applications are accepted only at the main office. (2) Includes a non-recurring pre-tax expense of $592,000 for a special one-time deposit insurance assessment. (3) Net income divided by average total assets. (4) Net income divided by average total equity. (5) Average yield on interest-earning assets less average cost of interest-bearing liabilities. (6) Net interest income as a percentage of average interest-earning assets. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL Management's discussion and analysis of financial condition and results of operations is intended to assist in understanding the financial condition and results of operations of the Company. The information contained in this section should be read in conjunction with the Consolidated Financial Statements and the accompanying Notes to the Consolidated Financial Statements and the other sections contained in this Annual Report. The Company's results of operations depend primarily on its net interest income, which is the difference between interest income on interest-earning assets and interest expense on interest-bearing liabilities. The Company's results of operations also are affected by the provision for loan losses, resulting from management's assessment of the adequacy of the allowance for loan losses; the level of its other income; the level of its other expenses; and income tax expense. In addition to the historical information contained herein, the following discussion contains forward-looking statements that involve risks and uncertainties. Economic circumstances, the Company's operations and actual results could differ significantly from those discussed in the forward-looking statements. Some of the factors that could cause or contribute to such differences are discussed herein but also include changes in the economy and market interest rates generally and in the Company's market area. The forward-looking statements contained herein include, but are not limited to, those with respect to the following matters: 1. Management's determination of the amount of and adequacy of the allowance for loan losses; 2. The effect of changes in interest rates; 3. Management's opinion as to the effects of recent accounting pronouncements on the Company's consolidated financial statements; and 4. Management's belief that a significant portion of maturing deposits will remain with the Savings Bank and that the Savings Bank will continue to have sufficient funds to meet its current commitments. 2 3 ASSET AND LIABILITY MANAGEMENT Columbia Federal, like other financial institutions, is subject to interest rate risk to the extent that its interest-earning assets reprice differently than its interest-bearing liabilities. The Savings Bank has sought to reduce its exposure of its earnings to changes in market interest rates by managing asset and liability maturities and interest rates through the origination of adjustable-rate mortgage loans ("ARMS"), the purchase of adjustable-rate mortgage-backed securities and the offering of more competitive rates on longer term deposits. Also, the Savings Bank has purchased shorter term and available-for-sale investments as an additional way to reduce its exposure to changes in market rates. If the Savings Bank's assets mature or reprice more quickly or to a greater extent than its liabilities, the Savings Bank's 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. If the Savings Bank's assets mature or reprice more slowly or to a lesser extent than its liabilities, the Savings Bank's 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. As a result of the Savings Bank's efforts, as of September 30, 2000, $8.1 million, or 13.3%, of the Savings Bank's portfolio of one-to-four family residential mortgage loans consisted of ARMs, and $5.4 million, or 32.9%, of the Savings Bank's portfolio of mortgage-backed securities have adjustable rates. With respect to liabilities, the Savings Bank prices deposit accounts based upon competitive factors. Pursuant to this policy, the Savings Bank has generally neither engaged in sporadic increases or decreases in interest rates paid nor offered the highest rates available in its deposit market except upon specific occasions to control deposit flow or when market conditions have created opportunities to attract longer-term deposits. In addition, the Savings Bank does not pursue an aggressive growth strategy which would force the Savings Bank to focus exclusively on competitors' rates rather than affordability. This policy has assisted the Savings Bank in controlling its cost of funds. MARKET RISK MANAGEMENT Market risk is the risk of loss arising from adverse changes in the fair value of financial instruments due to interest rate risk, exchange rate risk, equity price risk and commodity price risk. The Savings Bank does not maintain a trading account for any class of financial instrument, and is not currently subject to foreign currency exchange rate risk, equity price risk or commodity price risk. The Savings Bank's market risk is composed primarily of interest rate risk. The Savings Bank uses Net Portfolio Value ("NPV") as set forth in regulations of the Office of Thrift Supervision (the "OTS") for reviewing the interest rate sensitivity position of the Savings Bank and establishing policies to monitor and limit exposure to interest rate risk. Generally, NPV is the discounted present value of the difference between incoming cash flows on interest-earning and other assets and outgoing cash flows on interest-bearing and other liabilities. The application of the methodology attempts to quantify interest rate risk as the change in the NPV which would result from a theoretical 200 basis point (1 basis point equals .01%) change in market interest rates. Both a 200 basis point increase in market interest rates and a 200 basis point decrease in market interest rates are considered. Utilizing this measurement concept, at September 30, 2000, there would have been a decrease in the Savings Bank's NPV of approximately 17% of the present value of its assets, assuming a 200 basis point increase in interest rates. Under OTS regulation, if the NPV 3 4 would decrease more than 2% of the present value of the institution's assets with either an increase or a decrease in market rates, the institution must deduct 50% of the amount of the decrease in excess of such 2% in the calculation of the institution's risk-based capital. Presented below, as of September 30, 2000, is an analysis of Columbia Federal's interest rate risk as measured by changes in NPV for instantaneous and substantial parallel shifts of 100 basis points in market interest rates. The table also contains the policy limits set by the Board of Directors of Columbia Federal as the minimum NPV ratio that the Board of Directors deems advisable in the event of various changes in interest rates. Such limits have been established with consideration of the dollar impact of various rate changes and Columbia Federal's strong capital position. As illustrated in the table, Columbia Federal's NPV is more sensitive to rising rates than declining rates. Such difference in sensitivity occurs principally because, as rates rise, borrowers do not prepay fixed-rate loans as quickly as they do when interest rates decline. As a result, in a rising interest rate environment, the amount of interest Columbia Federal would receive on its loans would increase relatively slowly as loans are slowly prepaid and new loans at higher rates are made. Moreover, the interest Columbia Federal would pay on its deposits would increase rapidly because Columbia Federal's deposits generally have shorter periods to repricing. The following table uses OTS assumptions. Change in Board Limits $ Change Change Interest Rates NPV Minimum in NPV % Change NPV In (basis points) $ Amount NPV Ratio (In Thousands) in NPV Ratio % -------------- -------- --------- -------------- ------------- ----- - (Dollars in Thousands) +300 $22,610 12% $-7,511 -25% 22% -5% +200 25,112 13% -5,008 -17% 23% -4% +100 27,661 14% -2,459 -8% 25% -2% - 30,120 - - - 27% - -100 32,060 14% 1,939 +6% 28% 1% -200 33,267 13% 3,147 +10% 28% 1% -300 34,477 12% 4,357 +14% 29% 2% The NPV is reviewed by the Savings Bank's Board of Directors. The primary goal of the asset/liability management function is to maximize net interest income within the interest rate risk limits set by the Board. Interest rate risk is monitored on a quarterly basis through Board of Directors' meetings. CHANGES IN FINANCIAL CONDITION FROM SEPTEMBER 30, 1999 TO SEPTEMBER 30, 2000 GENERAL. CFKY's consolidated assets totaled $111.5 million at September 30, 2000, a decrease of $1.9 million, or 1.7%, from $113.4 million at September 30, 1999. The decrease resulted primarily from a decrease of $5.5 million in investment and mortgage-backed securities partially offset by a $1.6 million increase in net loans receivable and a $1.5 million increase in cash and cash equivalents. A $6.2 million decrease in the Bank's deposits was partially offset by a $5.0 million increase in short-term borrowings. 4 5 LIQUID ASSETS AND INVESTMENTS. Liquid assets (cash and cash equivalents) totaled $5.0 million at September 30, 2000, an increase of $1.6 million, or 47%, from the total at September 30, 1999. Investment securities held to maturity decreased from $17.0 million to $14.8 million, due to maturities of investments that were not reinvested. LOANS RECEIVABLE. Net loans receivable equaled $70.7 million at September 30, 2000, compared to $69.1 million at September 30, 1999, a 2.3% increase mainly attributable to one- to four- family mortgage loans being originated more rapidly than these loans were being repaid. ALLOWANCE FOR LOSSES ON LOANS. Columbia Federal's allowance for loan losses totaled $300,000 at September 30, 2000 and September 30, 1999. The allowance represented .42% of total net loans at September 30, 2000 and .43% at September 30, 1999. As of September 30, 2000, there were $117,000 in nonperforming loans, which was .17% of net loans. As of September 30, 1999, there were $76,000 in nonperforming loans, which was .11% of net loans. Although management believes that its allowance for loan losses at September 30, 2000, was adequate based upon the available facts and circumstances, there can be no assurances that additions to such allowance will not be necessary in future periods, which could adversely affect CFKY's results of operations. DEPOSITS AND SHORT-TERM BORROWINGS. Total deposits decreased by $6.2 million, to $75.5 million, at September 30, 2000, from $81.7 million at September 30, 1999. This decrease was mainly offset by a $5.0 million increase in short-term borrowings from $1.0 million to $6.0 million. At September 30, 2000, certificates of deposit that will mature within one year accounted for 40.8% of Columbia Federal's deposit liabilities. CAPITAL. Columbia Federal is required by applicable law and regulation to meet certain minimum capital standards. Such capital standards include a tangible capital requirement of 1.5%, a core capital requirement of, generally, 4%, and a risk-based capital requirement of 8%. As reflected in Note 19 of the financial statements, Columbia Federal's capital ratios at September 30, 2000, were a tangible capital ratio of 25.4%, a core capital ratio of 25.4% and a risk-based capital ratio of 57.8%. 5 6 AVERAGE BALANCES, NET INTEREST INCOME AND YIELDS EARNED AND RATES The following average balance sheet table sets forth for the periods indicated information on the Company regarding: (i) the total dollar amounts of interest income on interest-earning assets and the resulting average yields; (ii) the total dollar amounts of interest expense on interest-bearing liabilities and the resulting average costs; (iii) net interest income; (iv) interest rate spread; (v) net interest-earning assets (interest-bearing liabilities); (vi) the net yield earned on interest-earning assets; and (vii) the ratio of average interest-earning assets to average interest-bearing liabilities. Information is based on average monthly balances during the periods presented. Year Ended September 30, ---------------------------------------------------------------------------- 2000 1999 --------------------------------------- ------------------------------------ Average Average Average Average Balance Interest Yield/Rate Balance Interest Yield/Rate ------- -------- ---------- ------- -------- ---------- (Dollars in Thousands) Interest-earning assets: Total loans, net (1) $70,756 $5,780 8.17% $66,549 $5,553 8.34% Mortgage-backed securities 18,401 1,151 6.26% 20,736 1,318 6.83% Investment securities 17,418 1,050 6.03% 21,545 1,471 6.36% Other interest-earning assets 3,142 160 5.09% 5,554 243 4.38% ------- ------ ----- ------- ------ ----- Total interest-earning assets 109,717 8,141 7.42% 114,374 8,585 7.51% ------- ------ ----- ------- ------ ----- Noninterest-earning assets 3,344 2,954 ------- ------- Total assets 113,061 117,328 ------- ------- Interest-bearing liabilities: NOW accounts 4,940 114 2.31% 4,526 105 2.32% Money market accounts 7,366 249 3.38% 9,388 273 2.91% Passbook savings accounts 12,364 345 2.79% 12,828 359 2.80% Certificates of deposits 51,072 2,770 5.42% 54,519 2,927 5.37% FHLB borrowings 5,545 352 6.35% 48 3 6.25% ------- ------ ----- ------- ------ ----- Total interest-bearing liabilities 81,287 3,830 4.71% 81,309 3,667 4.51% ------- ------ ----- ------- ------ ----- Noninterest-bearing liabilities 961 816 ------- ------- Total liabilities 82,248 82,125 ------- ------- Stockholders' equity 30,813 35,203 ------- ------- Total liabilities and equity 113,061 117,328 ------- ------- Net interest income/interest rate $4,311 2.71% $4,918 3.00% spread ====== ==== ====== ==== Net interest margin (2) 3.93% 4.30% ==== ==== Ratio of average interest-earning assets to average interest-bearing 134.97% 140.67% liabilities ====== ====== Year Ended September 30, ------------------------------------ 1998 ----------------------------------- Average Average Balance Interest Yield/Rate ------- -------- ---------- (Dollars in Thousands) Interest-earning assets: Total loans, net (1) $62,388 $5,392 8.64% Mortgage-backed securities 18,870 1,263 6.69% Investment securities 18,419 1,108 6.02% Other interest-earning assets 10,504 512 4.87% ------- ------ ----- Total interest-earning assets 110,181 8,275 7.51% ------- ------ ----- Noninterest-earning assets 2,778 ------- Total assets 112,959 ------- Interest-bearing liabilities: NOW accounts 4,265 100 2.34% Money market accounts 16,740 403 2.41% Passbook savings accounts 13,325 391 2.93% Certificates of deposits 56,911 3,297 5.79% FHLB borrowings - - -% ------- ------ ----- Total interest-bearing liabilities 91,241 4,191 4.59% ------- ------ ----- Noninterest-bearing liabilities 1,103 ------- Total liabilities 92,344 ------- Stockholders' equity 20,615 ------- Total liabilities and equity 112,959 ------- Net interest income/interest rate $4,084 2.92% spread ====== ==== Net interest margin (2) 3.71% ==== Ratio of average interest-earning assets to average interest-bearing 120.76% liabilities ====== (1) Total loans, net, include nonaccruing loans. (2) Net interest margin is net interest income divided by interest-earning assets. 6 7 RATE/VOLUME ANALYSIS The following table describes the extent to which changes in interest rates and changes in volume of interest-related assets and liabilities have affected the Savings Bank's interest income and expense during the periods indicated. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (i) changes in volume (change in volume multiplied by prior year rate), (ii) changes in rate (change in rate multiplied by prior year volume), and (iii) total change in rate and volume. The combined effect of changes in both rate and volume has been allocated proportionately to the change due to rate and the change due to volume. Year Ended September 30, ------------------------------------------------------------------------------- 2000 vs. 1999 1999 vs. 1998 ------------------------ ------------------------------------------------------ Increase Increase (Decrease) Due to (Decrease) Due to ----------------- ----------------- Total Total Increases Increase Rate Volume (Decrease) Rate Volume (Decrease) ---- ------ ---------- ---- ------ ---------- (In Thousands) Interest income attributable to: Interest-bearing deposits $ 22 $(105) $(83) $(27) $(242) $(269) Investment securities (139) (282) (421) 175 188 363 Mortgage-backed securities (18) (149) (167) 9 46 55 Loans receivable (111) 338 227 (199) 360 161 ---- ---- ---- ----- ----- ----- Total interest income (246) (198) (444) (42) 352 310 ---- ---- ---- ----- ----- ----- Interest expense attributable to: NOW accounts (1) 10 9 (1) 6 5 Money market accounts 35 (59) (24) 47 (177) (130) Passbook savings accounts (1) (13) (14) (17) (15) (32) Certificates of deposit 28 (185) (157) (231) (139) (370) FHLB advances 5 344 349 - 3 3 ---- ---- ---- ----- ----- ----- Total interest expense 66 97 163 (202) (322) (524) ---- ---- ---- ----- ----- ----- Increase (decrease) in net interest income $(312) $(295) $(607) $ 160 $ 674 $ 834 ====== ====== ====== ====== ======= ======= 7 8 COMPARISON OF RESULTS OF OPERATIONS FOR THE YEARS ENDED SEPTEMBER 30, 2000 AND 1999 GENERAL. The Company recorded net income of $670,000 for the year ended September 30, 2000, compared to $989,000 for the year ended September 30, 1999. The decrease resulted primarily from a decrease in net interest income of $402,000 and an increase in salaries and benefits of $228,000, offset by decreases in various other non-interest expense of $135,000 and a decrease in income taxes of $164,000. NET INTEREST INCOME. Interest income decreased $239,000 for the year ended September 30, 2000, compared to the year ended September 30, 1999. This was a result of a decrease in average interest-earning assets of $4.7 million resulting from a special $3 per share capital distribution to shareholders totaling $8.0 million paid in June 1999. Interest expense for the year ended September 30, 2000 was $3.8 million, an increase of $163,000 or 4.4%. The increase in interest expense was a result of an increase in the cost of funds from 4.51% for the year ended September 30, 1999 to 4.71% for the year ended September 30, 2000. The Company's net interest rate spread was 2.71% for the year ended September 30, 2000, compared to 3.00% for the year ended September 30, 1999. PROVISION FOR LOAN LOSSES. For the year ended September 30, 2000, there was no provision for loan losses; there was a provision of $8,000 for the year ended September 30, 1999. In determining reasonably estimable losses on loans, management considers loss experience, the nature of the portfolio, credit concentrations, an analysis of specific loans in the assessment of general trends in relevant real estate markets and current and prospective economic conditions, including property values, employment rates, interest rates and other conditions that affect a borrower's ability to comply with repayment terms. Based upon these considerations, management decided the allowance for loan losses should be $300,000 at September 30, 2000, the same balance at September 30, 1999. The Savings Bank had no-charge offs in fiscal 2000. In addition, various regulatory agencies, as an integral part of their examination process, periodically review the Savings Bank's allowance for losses on loans. Such agencies may require the Savings Bank to provide additions to the allowance based upon judgements different from those of management. Although management uses the best information available, future adjustments to the allowance may be necessary due to economic, operating, regulatory and other conditions that may be beyond the Savings Bank's control. There can be no assurance that the amount of past or future provisions for losses on loans or the balance of the allowance for losses on loans account will be adequate to absorb actual losses on loans in the future. NON-INTEREST INCOME AND NON-INTEREST EXPENSE. Non-interest income increased $4,000, or 3.4%, to $121,000 for the year ended September 30, 2000, compared to $117,000 for the same period in 1999. This increase was primarily due to an increase in fee income. Non-interest expense increased $93,000 or 2.80%, to $3.4 million. The primary reason for this increase was an increase in salaries and employee benefits of $228,000, partially offset by a $62,000 decrease in advertising and a $29,000 decrease in occupancy expenses. The increase in salaries and employee benefits was primarily the result of costs associated with the ESOP and the RRP. 8 9 COMPARISON OF RESULTS OF OPERATIONS FOR THE YEARS ENDED SEPTEMBER 30, 1999 AND 1998 GENERAL. The Company recorded net income of $989,000 for the year ended September 30, 1999, compared to $744,000 for the year ended September 30, 1998. The increase resulted primarily from an increase in net interest income of $629,000, a decrease in provision for loan losses of $66,000 and an increase of $6,000 in non-interest income. Such changes were partially offset by a $327,000 increase in non-interest expenses and a $129,000 increase in federal income tax expense. NET INTEREST INCOME. Interest income increased $105,000 for the year ended September 30, 1999, compared to the year ended September 30, 1998. This was a result of a $4.2 million increase in average interest-earning assets from $110.2 million for the year ended September 20, 1998 to $114.4 million for the year ended September 30, 1999. Interest expense for the year ended September 30, 1999 was $3.7 million, a decrease of $524,000 or 12.5%. The decrease in interest expense was a result of a decrease of $9.9 million in the average balance of interest-bearing liabilities and a decrease in the cost of funds from 4.59% for the year ended September 30, 1998 to 4.51% for the year ended September 30, 1999. The Company's net interest rate spread was 3.00% for the year ended September 30, 1999, compared to 2.92% for the year ended September 30, 1998. PROVISION FOR LOAN LOSSES. For the year ended September 30, 1999, the provision for loan losses was $8,000, a decrease of $66,000, or 82.9%, compared to the year ended September 30, 1998. There can be no assurance that the amount of past or future provisions for losses on loans or the balance of the allowance for losses on loans account will be adequate to absorb actual losses on loans in the future. NON-INTEREST INCOME AND NON-INTEREST EXPENSE. Non-interest income increased $6,000, or 5.4%, to $117,000 for the year ended September 30, 1999, compared to $111,000 for the same period in 1998. This increase was primarily due to an increase in fee income. Non-interest expense increased $327,000 or 10.91%, to $3.3 million. The primary reasons for this increase were an increase in salaries and employee benefits of $181,000, an increase in property and license tax of $21,000, an increase in advertising expense of $14,000 and an increase in other expenses of $124,000. These increases were primarily the result of costs associated with the ESOP and costs associated with the operation of a public company. These increases were partially offset by a $26,000 decrease in office expenses and a $6,000 decrease in federal deposit insurance premiums as a result of the recapitalization of the Savings Association Insurance Fund. 9 10 LIQUIDITY AND CAPITAL RESOURCES The Savings Bank's liquidity, represented by cash and cash equivalents, is a product of its operating, investing and financing activities. The Savings Bank's primary sources of funds are deposits, borrowings, amortization, prepayments and maturities of outstanding loans, sales of loans, maturities of investment securities and other short-term investments and funds provided from operations. While scheduled loan amortization and maturing investment securities and short-term investments are relatively predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. The Savings Bank manages the pricing of its deposits to maintain a steady deposit balance. In addition, the Savings Bank invests excess funds in overnight deposits and other short-term interest-earning assets which provide liquidity to meet lending requirements. The Savings Bank has generally been able to generate enough cash through the retail deposit market, its traditional funding source, to offset the cash utilized in investing activities. As an additional source of funds, the Savings Bank may borrow from the FHLB of Cincinnati. At September 30, 2000 and 1999, the Savings Bank had $6 million and $1 million, respectively, in outstanding advances from the FHLB of Cincinnati. Liquidity management is both a daily and long-term function of business management. Excess liquidity is generally invested in short-term investments such as overnight deposits. On a longer-term basis, the Savings Bank maintains a strategy of investing in various lending products. The Savings Bank uses its sources of funds primarily to meet its ongoing commitments, to pay maturing savings certificates and savings withdrawals and fund loan commitments. At September 30, 2000, the total approved loan commitments outstanding, excluding construction loans, amounted to $527,000. At the same date, the unadvanced portion of construction loans approximated $1.8 million. There were no investment securities scheduled to mature within one year or less. Certificates of deposit scheduled to mature in one year or less at September 30, 2000 totaled $30.8 million. The Savings Bank did not have any mortgage-backed securities scheduled to mature in one year or less at September 30, 2000. Management believes that a significant portion of maturing deposits will remain with the Savings Bank. The Savings Bank anticipates that it will continue to have sufficient funds to meet its current commitments. The Savings Bank is required by the OTS to maintain average daily balances of liquid assets (as defined) in an amount equal to 4% of net withdrawable deposits and borrowings payable in one year or less to assure its ability to meet demand for withdrawals and repayment of short-term borrowings. The liquidity requirements may vary from time to time at the direction of the OTS depending upon economic conditions and deposit flows. The Savings Bank generally maintains a liquidity ratio of at least 8% of its net withdrawable deposits and borrowings payable in one year or less. The Savings Bank's liquidity for September 2000 was approximately $18.5 million or 22.4%. Federally insured savings institutions are required to satisfy three different OTS capital requirements. Under these standards, savings institutions must maintain "tangible" capital equal to at least 1.5% of adjusted total assets, "core" capital generally equal to at least 4% of adjusted total assets, except for savings institutions with the highest examination rating and acceptable levels of risk, and "total" capital (a combination of core and "supplementary" capital) equal to at least 8% of "risk-weighted" assets. For purposes of the regulation, core capital is defined as common stockholders' equity (including retained earnings), noncumulative perpetual preferred stock and related surplus, minority interests in the equity accounts of fully consolidated subsidiaries, certain nonwithdrawable accounts and pledged deposits and qualifying supervisory goodwill. Tangible capital is core capital less all intangible assets, with a limited exception for purchased mortgage servicing rights. Risk-based capital is defined as core capital plus certain additional items of capital, which in the case of the Savings Bank, includes a general valuation allowance for losses on loans of $300,000 at September 30, 2000. 10 11 Under the "prompt corrective action" regulations of OTS, a savings bank that has not received the highest possible examination rating may become subject to corrective action if its core capital is less than 4% of its adjusted total assets. The Savings Bank substantially exceeded each of the above-described regulatory capital requirements at September 30, 2000. See Note 19 of the Notes to the Financial Statements. IMPACT OF INFLATION AND CHANGING PRICES The consolidated financial statements of the Company and related notes presented herein 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 changes in the relative purchasing power of money over time due to inflation. Unlike most industrial companies, substantially all of the assets and liabilities of a financial institution are monetary in nature. As a result, interest rates have a more significant impact on a financial institution's performance than the effects of general levels of inflation. RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." This Statement establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. SFAS No. 133 is effective for fiscal years beginning after June 15, 1999. Management has adopted SFAS No. 133, and it has not had a material impact on the disclosures or accounting principles of the Company. In October, 1998, the FASB issued SFAS No. 134, "Accounting for Mortgage-Backed Securities Retained after the Securitization of Mortgage Loans Held for Sale by a Mortgage Banking Enterprise." Statement No. 134 requires entities conducting certain mortgage banking activities to classify mortgage-backed securities retained after a securitization as trading securities. This pronouncement had no material effects on the disclosures or accounting principles of the Company. 11 12 RECENT LEGISLATION On November 12, 1999, the Gramm-Leach-Bliley Act (the "GLB Act") was enacted into law. The GLB Act makes sweeping changes in the financial services in which various types of financial institutions may engage. The Glass-Steagall Act, which had generally prevented banks from affiliating with securities and insurance firms, was repealed. A new "financial holding company," which owns only well capitalized and well managed depository institutions, will be permitted to engage in a variety of financial activities, including insurance and securities underwriting and agency activities. The GLB Act permits unitary savings and loan holding companies in existence on May 4, 1999, including the Company, to continue to engage in all activities in which they were permitted to engage prior to the enactment of the Act. Such activities are essentially unlimited, provided that the thrift subsidiary remains a qualified thrift lender. Any thrift holding company formed after May 4, 1999, will be subject to the same restrictions as a multiple thrift holding company. In addition, a unitary thrift holding company in existence on May 4, 1999, may be sold only to a financial holding company engaged in activities permissible for multiple savings and loan holding companies. The GLB Act is not expected to have a material effect on the activities in which the Company and the Savings Bank currently engage, except to the extent that competition with other types of financial institutions may increase as they engage in activities not permitted prior to enactment of the GLB Act. 12 13 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY FORT MITCHELL, KENTUCKY CONSOLIDATED FINANCIAL STATEMENTS AND INDEPENDENT AUDITORS' REPORT SEPTEMBER 30, 2000, 1999 AND 1998 PAGE Independent Auditors' Report 14 Consolidated Financial Statements Consolidated Statements of Financial Condition 15 Consolidated Statements of Income 16 Consolidated Statements of Shareholders' Equity 17 Consolidated Statements of Cash Flows 18 Notes to the Consolidated Financial Statements 19-41 13 14 VONLEHMAN & COMPANY INC. - -------------------------------------------------------------------------------- CERTIFIED PUBLIC ACCOUNTANTS AND BUSINESS ADVISORS INDEPENDENT AUDITORS' REPORT ---------------------------- Board of Directors Columbia Financial of Kentucky, Inc. and Subsidiary Fort Mitchell, Kentucky We have audited the accompanying consolidated statements of financial condition of Columbia Financial of Kentucky, Inc. and Subsidiary as of September 30, 2000 and 1999 and the related consolidated statements of income, shareholders' equity, and cash flows for each of the years ended September 30, 2000, 1999 and 1998. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of Columbia Financial of Kentucky, Inc. and Subsidiary at September 30, 2000 and 1999, and the consolidated results of their operations and their cash flows for each of the years ended September 30, 2000, 1999 and 1998 in conformity with generally accepted accounting principles. VONLEHMAN & COMPANY INC. Fort Mitchell, Kentucky October 27, 2000 14 15 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY FORT MITCHELL, KENTUCKY CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION SEPTEMBER 30, ------------------------ 2000 1999 --------- --------- (Dollars in Thousands) ASSETS Cash and due from Banks $ 605 $ 937 Interest Bearing Deposits in Other Banks 4,385 2,504 --------- --------- Total Cash and Cash Equivalents 4,990 3,441 Investment Securities Held to Maturity, At Cost (Market Value of of $14,512 and $16,664 at September 30, 2000 and 1999, Respectively) 14,842 16,999 Mortgage-Backed Securities Held to Maturity, At Cost (Market Value of $16,360 and $19,610 at September 30, 2000 and 1999, Respectively) 16,637 19,968 Loans Receivable, Net 70,682 69,089 Interest Receivable 836 867 Premises and Equipment, Net 1,500 1,534 Federal Home Loan Bank Stock, At Cost 1,559 1,451 Federal Income Tax - Refund Receivable 409 11 Other Assets 59 61 --------- --------- TOTAL ASSETS $ 111,514 $ 113,421 ========= ========= LIABILITIES AND SHAREHOLDERS' EQUITY LIABILITIES Deposits $ 75,462 $ 81,654 Short-Term Borrowings 6,000 1,000 Advances from Borrowers for Taxes and Insurance 405 381 Deferred Federal Income Tax Liability 250 45 Other Liabilities 286 162 --------- --------- TOTAL LIABILITIES 82,403 83,242 --------- --------- EQUITY Preferred Stock (1,000,000 Shares, No Par Value, Authorized, No Shares Issued or Outstanding) - - Common Stock (6,000,000 Shares, No Par Value, Authorized 2,625,950 in 2000 and 2,650,950 in 1999, Issued and Outstanding) - - Additional Paid in Capital 18,266 18,194 Retained Earnings-Substantially Restricted 13,817 13,890 Treasury Stock (45,500 Shares in 2000 and 20,500 Shares in 1999, at Cost) (489) (262) Unearned ESOP Shares (1,360) (1,643) Shares Acquired by RRP Trust (1,123) - --------- --------- TOTAL EQUITY 29,111 30,179 --------- --------- TOTAL LIABILITIES AND EQUITY $ 111,514 $ 113,421 ========= ========= See auditors' report and accompanying notes. 15 16 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY FORT MITCHELL, KENTUCKY CONSOLIDATED STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT SHARE DATA) YEARS ENDED SEPTEMBER 30, --------------------------------------------------- 2000 1999 1998 ------------ ----------- ------------ INTEREST INCOME Loans $ 5,780 $ 5,553 $ 5,392 Mortgage-Backed Securities 1,151 1,318 1,263 Investments 1,050 1,266 1,108 Interest-Bearing Deposits 160 243 512 ------------ ----------- ------------ Total Interest Income 8,141 8,380 8,275 ------------ ----------- ------------ INTEREST EXPENSE Deposits 3,478 3,665 4,191 FHLB Advances 352 2 - ------------ ----------- ------------ Total Interest Expense 3,830 3,667 4,191 ------------ ----------- ------------ NET INTEREST INCOME 4,311 4,713 4,084 PROVISION FOR LOSSES ON LOANS - 8 74 ------------ ----------- ------------ Net Interest Income After Provision for Losses on Loans 4,311 4,705 4,010 ------------ ----------- ------------ NON-INTEREST INCOME 121 117 111 ------------ ----------- ------------ NON-INTEREST EXPENSE Salaries and Employee Benefits 2,330 2,102 1,921 Occupancy Expense of Premises 270 268 244 Federal Deposit Insurance Premiums 25 54 60 Data Processing Services 120 109 114 Advertising 71 133 119 Property and License Taxes 102 119 98 Office Expenses 138 140 166 Other 361 399 275 ------------ ----------- ------------ Total Non-Interest Expense 3,417 3,324 2,997 ------------ ----------- ------------ Income Before Federal Income Tax 1,015 1,498 1,124 Expense FEDERAL INCOME TAX EXPENSE 345 509 380 ------------ ----------- ------------ NET INCOME $ 670 $ 989 $ 744 ============ =========== ============ BASIC EARNINGS PER COMMON SHARE $ 0.27 $ 0.40 $ 0.22 ============ =========== ============ DILUTED EARNINGS PER COMMON SHARE $ 0.27 $ 0.40 $ 0.22 ============ =========== ============ See auditors' report and accompanying notes. 16 17 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY FORT MITCHELL, KENTUCKY CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (IN THOUSANDS) ADDITIONAL SHARES SHARES PAID-IN RETAINED TREASURY ACQUIRED ACQUIRED CAPITAL EARNINGS STOCK BY ESOP BY RRP -------------- ------------ ------------ ------------- ------------ BALANCE AT SEPTEMBER 30, 1997 $ - $ 13,090 $ - $ - $ - NET INCOME - 744 - - - DISPOSAL OF AFS SECURITIES - - - - - PROCEEDS FROM PUBLIC OFFERING 25,930 - - (2,137) - ESOP COMMON SHARES RELEASED FOR ALLOCATION 63 - - 200 - DIVIDENDS DECLARED 15 (187) - - - -------------- ------------ ------------ ------------- ------------ BALANCE AT SEPTEMBER 30, 1998 26,008 13,647 - (1,937) - NET INCOME - 989 - - - RETURN OF CAPITAL DISTRIBUTION (7,983) - 30 - - ESOP COMMON SHARES RELEASED FOR ALLOCATION 110 - - 294 - DIVIDENDS DECLARED 59 (746) - - - TREASURY SHARES PURCHASED - - (292) - - -------------- ------------ ------------ ------------- ------------ BALANCE AT SEPTEMBER 30, 1999 18,194 13,890 (262) (1,643) - NET INCOME - 670 - - - ESOP COMMON SHARES RELEASED FOR ALLOCATION 72 - - 283 - RRP SHARES RELEASED FOR ALLOCATION - - - - (1,123) DIVIDENDS DECLARED - (743) - - - TREASURY SHARES PURCHASED - - (227) - - -------------- ------------ ------------ ------------- ------------ BALANCE AT SEPTEMBER 30, 2000 $ 18,266 $ 13,817 $ (489) $ (1,360) $ (1,123) ============== ============ ============ ============= ============ UNREALIZED GAINS TOTAL ON AFS SHAREHOLDERS' SECURITIES EQUITY -------------- ------------------- BALANCE AT SEPTEMBER 30, 1997 $ 1 $ 13,091 NET INCOME - 744 DISPOSAL OF AFS SECURITIES (1) (1) PROCEEDS FROM PUBLIC OFFERING - 23,793 ESOP COMMON SHARES RELEASED FOR ALLOCATION - 263 DIVIDENDS DECLARED - (172) -------------- ------------------- BALANCE AT SEPTEMBER 30, 1998 - 37,718 NET INCOME - 989 RETURN OF CAPITAL DISTRIBUTION - (7,953) ESOP COMMON SHARES RELEASED FOR ALLOCATION - 404 DIVIDENDS DECLARED - (687) TREASURY SHARES PURCHASED - (292) -------------- ------------------- BALANCE AT SEPTEMBER 30, 1999 - 30,179 NET INCOME - 670 ESOP COMMON SHARES RELEASED FOR ALLOCATION - 355 RRP SHARES RELEASED FOR ALLOCATION - (1,123) DIVIDENDS DECLARED - (743) TREASURY SHARES PURCHASED - (227) -------------- ------------------- BALANCE AT SEPTEMBER 30, 2000 $ - $ 29,111 ============== =================== See auditors' report and accompanying notes. 17 18 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY FORT MITCHELL, KENTUCKY STATEMENTS OF CASH FLOWS (IN THOUSANDS) YEARS ENDED SEPTEMBER 30, -------------------------------------------------------- 2000 1999 1998 -------------- -------------- -------------- CASH FLOWS FROM OPERATING ACTIVITIES Net Income $ 670 $ 989 $ 744 Reconciliation of Net Income with Cash Flows from Operations Depreciation 110 108 102 Provision for Losses on Loans - 8 74 Shares Released to ESOP 355 404 263 FHLB Stock Dividends (108) (97) (94) Deferred Federal Income Tax 205 (127) 10 Gain on Sale of REO - - (2) Changes In Interest Receivable 31 24 (179) Other Assets 2 14 1 Federal Income Tax Receivable / Liability (398) (3) 18 Other Liabilities 124 81 (20) -------------- -------------- -------------- NET CASH PROVIDED BY OPERATING ACTIVITIES 991 1,401 917 -------------- -------------- -------------- CASH FLOWS FROM INVESTING ACTIVITIES Investment Securities Held to Maturity Purchased - (8,569) (20,502) Matured 2,157 14,641 11,503 Mortgage-Backed Securities Held to Maturity Purchased - (3,090) (9,103) Principal Collected 3,331 5,474 4,613 Loan Originations and Repayments, Net (1,593) (7,074) (737) Proceeds from Sale of Real Estate Owned - 138 81 Purchases of Property and Equipment (76) (16) (132) -------------- -------------- -------------- NET CASH PROVIDED (USED) BY INVESTING ACTIVITIES 3,819 1,504 (14,277) -------------- -------------- -------------- CASH FLOWS FROM FINANCING ACTIVITIES Advances on Short-Term Borrowings 6,000 1,000 - Repayment on Short-Term Borrowings (1,000) - - Advances from Borrowers for Taxes and Insurance 24 38 (117) Changes in Deposits (6,192) 2,170 (10,711) Capital Distributions Paid (743) (8,670) (172) Net Proceeds from Issuance of Common Shares - - 23,793 Treasury Shares Acquired (227) (262) - Shares Acquired by RRP (1,123) - - -------------- -------------- -------------- NET CASH (USED) PROVIDED BY FINANCING ACTIVITIES (3,261) (5,724) 12,793 -------------- -------------- -------------- CHANGE IN CASH AND CASH EQUIVALENTS 1,549 (2,819) (567) BEGINNING BALANCE, CASH AND CASH EQUIVALENTS 3,441 6,260 6,827 -------------- -------------- -------------- ENDING BALANCE, CASH AND CASH EQUIVALENTS $ 4,990 $ 3,441 $ 6,260 ============== ============== ============== See auditors report and accompany notes. 18 19 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY FORT MITCHELL, KENTUCKY NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 - ACCOUNTING POLICIES Columbia Financial of Kentucky, Inc. (the Company) provides financial services to individuals and corporate customers, and is subject to competition from other financial institutions. The Company is also subject to the regulations of certain Federal agencies and undergoes periodic examinations by those regulatory authorities. The Company is a holding company whose activities are primarily limited to holding the stock of Columbia Federal Savings Bank (the Bank). The Bank conducts a general banking business in Northern Kentucky, which consists of attracting deposits from the general public and primarily applying those funds to the origination of loans for residential, consumer and nonresidential purposes. The Bank's profitability is significantly dependent on net interest income, which is the difference between interest income generated from interest-earning assets (i.e., loans and investments) and the interest expense paid on interest-bearing liabilities (i.e., customer deposits and borrowed funds). Net interest income is affected by the relative amount of interest-earning assets and interest-bearing liabilities and the interest received or paid on these balances. The level of interest rates paid or received by the Bank can be significantly influenced by a number of environmental factors, such as governmental monetary policy, that are outside management's control. BASIS OF PRESENTATION The consolidated financial statements include the accounts of Columbia Financial of Kentucky, Inc. and its subsidiary, Columbia Federal Savings Bank. All material intercompany balances and transactions have been eliminated in consolidation. USE OF ESTIMATES The consolidated financial statements have been prepared in conformity with generally accepted accounting principles. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the statement of financial condition and revenues and expenses for the year. Actual results could differ significantly from those estimates. Material estimates that are particularly susceptible to significant change relate to the determination of the allowance for losses on loans and the valuation of real estate acquired in connection with foreclosures or in satisfaction of loans. In connection with the determination of the allowances for losses on loans and foreclosed real estate, management obtains appraisals for significant properties. Substantial portions of the Banks' loans are secured by real estate in local markets. In addition, foreclosed real estate is located in this same market. Accordingly, the ultimate collectibility of a substantial portion of the Banks' loan portfolio and the recovery of a substantial portion of the carrying amount of foreclosed real estate are susceptible to changes in local market conditions. 19 20 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 1 - ACCOUNTING POLICIES (CONTINUED) While management uses available information to recognize losses on loans and foreclosed real estate, future additions to the allowances may be necessary based on changes in local economic conditions. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Bank's allowances for losses on loans and foreclosed real estate. Such agencies may require the Bank to recognize additions to the allowances based on their judgments about information available to them at the time of their examination. INVESTMENT SECURITIES The Company's investments in securities are classified in three categories and accounted for as follows: TRADING SECURITIES Government bonds held principally for resale in the near term and mortgaged-backed securities held for sale in conjunction with the Company's mortgage banking activities are classified as trading securities and recorded at their fair market values. Unrealized gains and losses on trading securities are included in other income. The Company currently has no investments in this category. SECURITIES HELD TO MATURITY Bonds, notes and debentures that the Company has the positive intent and ability to hold until maturity are reported at cost, adjusted for amortization of premiums and accretion of discounts which are recognized in interest income using the interest method over the period to maturity. SECURITIES AVAILABLE-FOR-SALE Securities available-for-sale consist of bonds, notes, debentures, and certain equity securities not classified as trading securities or as securities to be held to maturity. Unrealized holding gains and losses, net of tax, on securities available-for-sale are reported as a net amount in a separate component of equity until realized. The Company currently has no investments in this category. Gains and losses on the sale of securities available-for-sale are determined using the specific-identification method. FEDERAL HOME LOAN BANK STOCK The Bank, as a member of the Federal Home Loan Bank System, is required to maintain an investment in capital stock of the FHLB of Cincinnati. The stock is recorded at cost, which represents anticipated redemption value. MORTGAGE-BACKED SECURITIES These assets are carried at cost, adjusted for amortization of premiums and accretion of discounts on purchases. They are not adjusted to the lower of cost or market because management has the intention and ability to hold these assets until maturity. Premiums and discounts, if any, are amortized to income using the interest method over the life of the securities. 20 21 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 1 - ACCOUNTING POLICIES (CONTINUED) FINANCIAL INSTRUMENTS WITH OFF BALANCE SHEET RISK The Company does not participate in interest-rate exchange agreements, hedging or other similar financial instruments. LOANS RECEIVABLE Loans receivable are stated at unpaid principal balances less the allowance for loan losses, loans in process and deferred loan origination fees. Loan origination and commitment fees, as well as certain direct origination costs, are deferred and amortized as a yield adjustment over the contractual lives of the related loans using the interest method. Amortization of deferred loan fees is discontinued when a loan is placed on a nonaccrual status. The allowance for loan losses is maintained at a level which, in management's judgment, is adequate to absorb losses inherent in the loan portfolio. The amount of the allowance is based on management's evaluation of the collectibility of the loan portfolio, including the nature of the portfolio, credit concentrations, trends in historical loss experience, specific impaired loans, and economic conditions. The allowance is increased by a provision for loan losses, which is charged to expense, and reduced by charge-offs, net of recoveries. Changes in the allowance relating to impaired loans are charged or credited to the provision for loan losses. A loan is defined under SFAS No. 114 as impaired when, based on current information and events, it is probable that a creditor will be unable to collect all amounts due according to the contractual terms of the loan agreement. In applying the provisions of SFAS No. 114, the Company considers its investment in one-to-four family residential loans and consumer installment loans to be homogeneous and, therefore, excluded from separate identification for evaluation of impairment. With respect to the Company investment in impaired nonresidential and multifamily residential real estate loans, such loans are generally collateral dependent and, as a result, are carried as a practical expedient at the lower of cost or fair value. Collateral dependent loans which are more than ninety days delinquent are considered to constitute more than a minimum delay in repayment and are evaluated for impairment under SFAS No. 114 at that time. At September 30, 2000 and 1999, the Company had no loans that would be defined as impaired under SFAS No. 114. PROVISION FOR LOSSES ON LOANS Provision for losses on loans includes charges to reduce the recorded balances of mortgage loans receivable, uncollected interest and real estate to their estimated net realizable value or fair value, as applicable. Such provisions are based on management's estimate of net realizable value or fair value of the collateral, as applicable, considering the current and currently anticipated future operating or sales conditions, thereby causing these estimates to be particularly susceptible to changes that could result in a material adjustment to results of operations in the near term. Recovery of the carrying value of such loans and real estate is dependent to a great extent on economic, operating and other conditions that may be beyond the Company's control. It is the opinion of management, however, that adequate provision has been made for losses on loans and real estate. 21 22 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 1 - ACCOUNTING POLICIES (CONTINUED) PREMISES AND EQUIPMENT The cost of premises and equipment is depreciated over the estimated useful lives of the related assets. Depreciation is computed on the straight-line and accelerated methods. Maintenance and repairs are charged to operations when incurred. Significant betterments and renewals are capitalized. When premises and equipment are sold or otherwise disposed of, the asset account and related accumulated depreciation account are relieved, and any gain or loss is included in operations. The useful lives of premises and equipment for purposes of computing depreciation are: Office Properties 5-40 Years Equipment 5-10 Years REAL ESTATE OWNED Real estate acquired in settlement of loans is carried at the lower of cost or fair value at the date of acquisition. Costs include the uncollected loan balance as well as other out-of-pocket costs of acquiring the property. FEDERAL INCOME TAXES The Company accounts for federal income taxes in accordance with established financial accounting and reporting standards. A deferred tax liability or deferred tax asset is computed by applying the current statutory tax rates to net taxable or deductible differences between the tax basis of an asset or liability and its reported amount in the consolidated financial statements that will result in taxable or deductible amounts in future periods. Deferred tax assets are recorded only to the extent that the amount of net deductible temporary differences or carryforward attributes may be utilized against current period earnings, carried back against prior years earnings, offset against taxable temporary differences reversing in future periods or utilized to the extent of management's estimate of future taxable income. A valuation allowance is provided for deferred tax assets to the extent that the value of net deductible temporary differences and carryforward attributes exceeds management's estimates of taxes payable on future taxable income. Deferred tax liabilities are provided on the total amount of net temporary differences taxable in the future. STOCK BENEFIT PLANS In conjunction with its offering of common shares, the Company implemented the Columbia Financial of Kentucky, Inc. Employee Stock Ownership Plan (ESOP). The ESOP provides retirement benefits for substantially all full-time employees who have completed one year of service. The Company accounts for the ESOP compensation expense using the fair value of ESOP shares allocated to participants during a fiscal year. 22 23 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 1 - ACCOUNTING POLICIES (CONTINUED) ADVERTISING Advertising costs are expensed as incurred. NOTE 2 - CASH FLOWS INFORMATION For purposes of the cash flows statement, cash and cash equivalents includes cash on hand and in demand and time accounts. Cash paid for interest and income taxes was as follows: 2000 1999 1998 ------ ------ ------ (In Thousands) Interest $3,830 $3,667 $4,191 ====== ====== ====== Income Taxes $ 557 $ 633 $ 352 ====== ====== ====== The Company had non-cash investing or financing activities as follows: Real Estate at Cost Acquired Through Foreclosure of Mortgage Loans $ - $ 138 $ 153 ====== ====== ====== FHLB Stock Dividends Received $ 108 $ 97 $ 94 ====== ====== ====== NOTE 3 - INVESTMENT SECURITIES Investment securities as of September 30, 2000 and 1999 consisted of the following: Amortized Unrealized Unrealized Market Cost Gains Losses Value --------- ---------- ---------- ------ 2000 (In Thousands) ---- U.S. Government and Federal Agency Obligations Held to Maturity $14,842 $ 42 $(372) $14,512 ======= ==== ====== ======= 1999 ---- U.S. Government and Federal Agency Obligations Held to Maturity $16,999 $ 4 $(339) $16,664 ======= ==== ====== ======= The following is a summary of maturities of securities held-to-maturity as of September 30, 2000: Amortized Estimated Amounts maturing in: Cost Market Value --------- ------------ (In Thousands) One year or less $ - $ - After one year through five years 13,992 13,620 After five through ten years 850 892 ------- ------- Totals $14,842 $14,512 ======= ======= 23 24 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 3 - INVESTMENT SECURITIES (CONTINUED) The following is a summary of interest earned on investments: 2000 1999 1998 ------ ------ ------ (In Thousands) U.S. Government and Agency Securities $ 942 $1,133 $ 946 Corporate Notes - 35 68 Dividends on FHLB Stock 108 98 94 ------ ------ ------ $1,050 $1,266 $1,108 ====== ====== ====== NOTE 4 - MORTGAGE-BACKED SECURITIES The balances in mortgage-backed securities as of September 30, 2000 and 1999 were comprised of: Amortized Unrealized Unrealized Market Cost Gains Losses Value --------- ---------- ---------- ------ 2000 (In Thousands) ---- Government National Mortgage Association $ 3,953 $ 35 $ (55) $ 3,933 Federal National Mortgage Association 9,874 1 (193) 9,682 Federal Home Loan Mortgage Corporation 2,810 3 (68) 2,745 ------- ---- ------ ------- Totals $16,637 $ 39 $(316) $16,360 ======= ==== ===== ======= 1999 (In Thousands) ---- Government National Mortgage Association $ 4,452 $ 57 $ (57) $ 4,452 Federal National Mortgage Association 11,925 24 (301) 11,648 Federal Home Loan Mortgage Corporation 3,591 27 (108) 3,510 ------- ---- ----- ------- Totals $19,968 $108 $(466) $19,610 ======= ==== ===== ======= The following is a summary of maturities of mortgaged-backed securities held to maturity as of September 30, 2000: Amounts maturing in: Cost Market Value ---- ------------ (In Thousands) After one year through five years $ 1,581 $ 1,539 After five years through ten years 2,662 2,613 After ten years 12,394 12,208 ------- ------- Totals $16,637 $16,360 ======= ======= 24 25 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 5 - LOANS RECEIVABLE AND ALLOWANCE FOR LOSSES ON LOANS The balances in loans receivable as of September 30, 2000 and 1999 were comprised of: 2000 1999 ------- ------- (In Thousands) Mortgage Loans: One-to Four-Family Residential $60,994 $58,675 Other 12,330 14,603 Loans on Deposits 187 38 ------- ------- 73,511 73,316 Less: Net Deferred Loan Origination Fees (711) (753) Loans in Process (1,818) (3,174) Allowance for Losses on Loans (300) (300) ------- ------- Loans Receivable, Net $70,682 $69,089 ======= ======= A summary of activity in the allowance for loan losses for September 30, 2000, 1999 and 1998 is as follows: 2000 1999 1998 ---- ---- ---- (In Thousands) Balance at Beginning of the Year $300 $300 $300 Additions to Allowance - 8 74 Charge Offs During the Year - (8) (74) ---- ---- ---- Balance at End of the Year $300 $300 $300 ==== ==== ==== The Bank had no loans on non-accrual status as of September 30, 2000 and 1999. NOTE 6 - LOAN COMMITMENTS As of September 30, 2000, the Bank had fixed- and adjustable-rate loan commitments as follows: FIXED ADJUSTABLE TOTAL ----- ---------- ----- (In Thousands) First Mortgage Loans on One- to Four-Family Residential Property $252 $275 $ 527 ==== ==== ===== Weighted Average Interest Rates 9.66% 7.64% 8.60% ==== ==== ===== 25 26 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 7 - ACCRUED INTEREST RECEIVABLE Accrued interest at September 30, 2000 and 1999 consisted of the following: 2000 1999 ------- ------- (In Thousands) Loans $ 477 $ 458 Mortgage-Backed Securities 107 127 Investments and Other 252 282 ------- ------- Totals $ 836 $ 867 ======= ======= NOTE 8 - PREMISES AND EQUIPMENT Premises and equipment as of September 30, 2000 and 1999 was comprised of: Land $ 347 $ 347 Buildings and Improvements 1,992 1,984 Furniture and Equipment 611 620 ------- ------- 2,950 2,951 Accumulated Depreciation (1,450) (1,417) ------- ------- Premises and Equipment, Net $ 1,500 $ 1,534 ======= ======= NOTE 9 - DEPOSITS A breakdown of deposits by interest rates and types as of September 30, 2000 and 1999 follows: 2000 1999 ---- ---- Balances by Interest Rate Amount Percent Amount Percent ------------------------- ------ ------- ------ ------- (In Thousands) Passbooks (2000 - 2.75%, 1999 -2.75%) $11,900 15.77% $13,082 16.02% Money Market Deposit Accounts (2000 - 2.50%, 1999 - 2.50%) 7,759 10.28 9,638 11.81 Now Accounts (2000 - 2.00%, 1999 - 2.00%) 4,730 6.27 5,187 6.35 Christmas Club (Non-Interest Bearing) 64 .09 60 .07 Certificates of Deposit: 3.00% - 4.00% 40 .05 42 .05 4.01% - 5.00% 4,343 5.76 30,781 37.70 5.01% - 6.00% 18,997 25.17 17,454 21.37 6.01% - 7.00% 27,173 36.01 5,410 6.63 7.01% - 8.00% 456 .60 - - ------- ------ ------- ------ Totals $75,462 100.00% $81,654 100.00% ======= ====== ======= ====== For NOW accounts and money market accounts, bonus interest rates are paid on balances over $2,500 of .25%. 26 27 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 9 - DEPOSITS (CONTINUED) The scheduled maturities of certificate accounts are as follows: Years Ended September 30, --------------------------------------------------------------------- 2001 2002 2003 2004 Total ------- ------- ------ ---- ------- (In Thousands) 3.00% and under $ - $ 40 $ - $ - $ 40 4.01%-4.50% - - - - - 4.51%-5.00% 3,411 932 - - 4,343 5.01%-5.50% 2,269 2,599 2,290 340 7,498 5.51%-6.00% 7,894 2,500 983 122 11,499 6.01%-6.50% 16,642 5,646 436 293 23,017 6.51%-7.00% 596 3,560 - - 4,156 7.01%-7.50% - 456 - - 456 ------- ------- ------ ---- ------- Totals $30,812 $15,733 $3,709 $755 $51,009 ======= ======= ====== ==== ======= The total of deposit accounts with a balance of $100,000 or more was approximately $5,884,000 and $7,913,000 at September 30, 2000 and 1999, respectively. Deposits in excess of $100,000 are not totally insured. Savings deposit customers are primarily Northern Kentucky area individuals and businesses. Interest expense on deposits is summarized as follows: Years Ended September 30, ------------------------------------------ 2000 1999 1998 ------ ------ ------ (In Thousands) Passbook Savings Accounts $ 345 $ 359 $ 392 Money Market Deposit Accounts 249 274 403 Certificates of Deposit 2,770 2,927 3,296 Now Accounts 114 105 100 ------ ------ ------ Interest Expense on Deposits $3,478 $3,665 $4,191 ====== ====== ====== NOTE 10 - FEDERAL HOME LOAN BANK (FHLB) ADVANCES At September 30, 2000 and 1999, the Bank had outstanding FHLB advances of $6,000,000 and $1,000,000, respectively. FHLB advances which were 90-day advances totaled $4,000,000 and carried an adjustable interest rate at September 30, 2000 of 6.9%. FHLB advances which were 180-day advances, due January 22, 2001, totaled $2,000,000 and carried a fixed interest rate of 6.89%. The advances were collateralized by the Bank's first mortgage loans. 27 28 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 11 - RETIREMENT PLANS The Bank maintains a 401(k) retirement plan for the benefit of all its employees. Employees can contribute up to fifteen percent (15%) of their compensation to the plan. The Bank matches one-half of the employees' contributions up to a maximum employer match of three percent (3%) of compensation. By its nature, the plan is fully funded. The Bank participates in a non-contributory multi-employer defined benefit retirement plan covering substantially all employees. Eligibility for this plan includes one year of service, age 21 and working 1,000 hours. Due to the nature of this multi-employer plan, separate accumulated benefit and net assets available for benefits is unavailable for the Bank's portion. NOTE 12 - EMPLOYEE STOCK OWNERSHIP PLAN The Company has established an ESOP for its employees. As part of the Conversion, the ESOP borrowed funds from the Company. The loan was equal to 100% of the aggregate purchase price of the Company's shares acquired by the ESOP. The loan to the ESOP is being repaid principally from the Bank's contributions to the ESOP over a period of eleven years, and the collateral for the loan is the common shares purchased by the ESOP. The interest rate for the ESOP loan is a fixed rate of 9.5%. The Company may, in any plan year, make additional discretionary contributions for the benefit of the plan participants in either cash or shares, which may be acquired through the purchase of outstanding shares in the market or from individual shareholders, upon the original issuance of additional shares by the Company or upon the sale of treasury shares by the Company. Such purchases, if made, would be funded through dividends or other capital distributions paid by the Company on shares held by the ESOP. The timing, amount and manner of future contributions to the ESOP will be affected by various factors, including prevailing regulatory policies, the requirements of applicable laws and regulations and market conditions. Shares purchased by the ESOP with the proceeds of the loan are held in a suspense account and released on a pro rata basis as debt service payments are made. Discretionary contributions to the ESOP and shares released from the suspense account are allocated among participants on the basis of compensation. Participants are 100% vested in their right to receive their account balances within the ESOP. Accounting principles require that any third party borrowing by the ESOP be reflected as a liability on the Company's consolidated statements of financial condition. Since the ESOP borrowed from the Company, such obligation is not treated as a liability, but is excluded from stockholders' equity. If the ESOP purchases newly issued shares from the Company, total shareholders' equity would neither increase nor decrease, but per share shareholders' equity and per share net earnings would decrease as the newly issued shares are allocated to the ESOP participants. The ESOP is subject to the requirements of the Employee Retirement Income Security Act of 1974, as amended (ERISA), and the regulations of the IRS and the Department of Labor thereunder. 28 29 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 12 - EMPLOYEE STOCK OWNERSHIP PLAN (CONTINUED) The fair value of the 169,333 and 204,519 unearned ESOP shares at September 30, 2000 and 1999 was approximately $1,439,000 and $2,710,000, respectively. Shares committed to be released during 2000 and 1999 were 35,186 and 36,573, respectively. Shares allocated during 2000 and 1999 were 35,186 and 36,573, respectively. Employee and employer contributions to the 401(k) plan, retirement plan expense and ESOP expense were as follows: Years Ended September 30, ---------------------------------- 2000 1999 1998 ---- ---- ---- (In Thousands) 401(k) Plan Employee Contributions $ 69 $ 66 $ 68 Employer Contributions 34 33 31 Multi-Employer Defined Benefit Retirement Plan 84 81 87 ESOP 377 403 263 NOTE 13 - RETAINED EARNINGS Through 1996, the Bank was allowed a special bad debt deduction for federal income tax purposes limited to a certain percentage of otherwise taxable income. This deduction was subject to certain limitations based on aggregate loans and savings account balances. If the amounts that qualify for this deduction are later used for purposes other than for bad debt losses, they will be subject to federal income tax at the then current corporate rate. Retained earnings include approximately $3.1 million for which federal income tax has not been provided. 29 30 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 14 - INCOME TAXES Deferred income taxes arise from temporary differences resulting from income and expense items reported for financial accounting and tax purposes in different periods. The principal source of temporary differences are depreciation methods, allowance for loan losses, different methods of recognizing income on loan closing fees, accrued expense, and nontaxable stock dividends. The net deferred tax asset (liability) includes the following components: 2000 1999 ---- ---- (In Thousands) Deferred Tax Assets Net Operating Loss (Company) $ - $ 164 Accrued RRP 14 20 Allowance for Loan Losses 102 102 ----- ----- Total Deferred Tax Asset 116 286 ----- ----- Deferred Tax Liabilities Book Value of Federal Home Loan Bank Stock Over Tax Basis 291 250 Special Tax Bad Debt Deduction 42 58 Depreciation 33 23 ----- ----- Total Deferred Tax Liabilities 366 331 ----- ----- Net Deferred Asset (Liability) $(250) $ (45) ===== ===== No valuation allowance has been provided for deferred tax assets because management expects to be able to benefit from these temporary deductible differences. A reconciliation of income tax expense at the statutory rate (34% for all periods) to income tax expense at the Company's effective rate is as follows: 2000 1999 1998 ---- ---- ---- (In Thousands) Computed Tax at the Expected Statutory Rate $345 $509 $382 Nondeductible Expenses 1 - 1 Other Differences (1) - (3) ---- ---- ---- $345 $509 $380 ==== ==== ==== Effective Rate 34% 34% 34% ==== ==== ==== 30 31 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 14 - INCOME TAXES (CONTINUED) The components of income tax expense at September 30 are summarized as follows: 2000 1999 1998 ---- ---- ---- (In Thousands) Current Tax Expense $140 $636 $370 Deferred Tax (Benefit) Expense 205 (127) 10 ---- ---- ---- Income Tax Expense $345 $509 $380 ==== ==== ==== NOTE 15 - STOCK COMPENSATION PLANS On July 15, 1999, the shareholders approved a Recognition and Retention Plan ("RRP") and the Company awarded 106,438 common shares to various employees. These awards vest ratably over a five-year period commencing in July 2000. A provision of $200,000 and $53,000 was charged to expense during the years ended September 30, 2000 and 1999, respectively. Also, on July 15, 1999, the shareholders approved a Stock Option and Incentive Plan (the "Plan") providing for 266,095 shares of the Company to be reserved for issuance upon the exercise of options at the fair value at the date of the grant. Options have been granted for 252,600 shares to members of the board, executive officers and certain employees at the fair value of $11.00 per share. As of September 30, 2000, none of the stock options granted have been exercised. SFAS No. 123 "Accounting for Stock-Based Compensation" contains a fair-value based method for valuing stock-based compensation that entities may use, which measures compensation cost at the grant date based on the fair value of the award. Compensation is then recognized over the service period, which is usually the vesting period. Alternatively, SFAS No. 123 permits entities to continue to account for stock options and similar equity instruments under Accounting Principles Board ("APB") Opinion No. 25. "Accounting for Stock Issued to Employees". Entities that continue to account for stock options using APB Opinion No. 25 are required to make pro forma disclosures of net earnings and earnings per share, as if the fair-value based method of accounting defined in SFAS No. 123 had been applied. The Company utilized APB Opinion No. 25 and related interpretations in accounting for its stock option plan. Accordingly, no compensation cost has been recognized for the plan. Had compensation cost for the company's stock option plan been determined based on the fair value at the grant dates for awards under the plan consistent with the accounting method utilized in SFAS No. 123, the Corporation's net earnings and earnings per share for 1999 would have been reduced to the pro forma amounts indicated below: 1999 -------------------------------- As Reported Pro Forma ----------- --------- (In Thousands except share data) Net Income $ 989 $ 741 ===== ===== Earnings Per Share Basic $0.40 $0.30 ===== ===== Diluted $0.40 $0.30 ===== ===== 31 32 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 15 - STOCK COMPENSATION PLANS (CONTINUED) The fair value of each option grant is estimated on the date of grant based on the following assumptions: dividend yield of 2.00%, expected volatility of 10%, a risk-free interest rate of 5.5% and expected lives of ten years. NOTE 16 - RELATED PARTY TRANSACTIONS The Bank has mortgage loans outstanding with various officers, directors, employees and their relatives. The activity on these loans is shown below: 2000 1999 ---- ---- (In Thousands) Balance at Beginning of Year $1,330 $1,078 New Loans Made 450 396 Payment of Principal (241) (144) ------ ------ Balance at End of Year $1,539 $1,330 ====== ====== The Bank has a policy that loans are granted to officers and employees on their primary residence at interest rates that are discounted by 1% from the Bank's normal lending rate. The rate is only in effect while the person is affiliated with the Bank. Also, this policy allows officers and employees to finance investment property at rates and costs available to the general public. All of these loans require board approval and will be repaid with regular monthly payments in the ordinary course of business. The Bank had deposits from various officers and directors totaling approximately $1,325,000 and $1,317,000 as of September 30, 2000 and 1999, respectively. NOTE 17 - INTEREST RATE RISK The Bank is engaged principally in providing first mortgage loans to individuals on residential properties. At September 30, 2000, the Bank's assets consisted of significant amounts of mortgages that earned interest at fixed interest rates. Those assets were funded primarily with short-term liabilities that have interest rates that vary with market rates over time. 32 33 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 17 - INTEREST RATE RISK (CONTINUED) At September 30, 2000, the Bank had interest-earning loans (including mortgage-backed securities) and interest-bearing deposits as follows: Effective Interest Maximum Amount Rate Terms/Duration ------ --------- -------------- (In millions, except percents) INTEREST-EARNING LOANS Fixed Mortgages and MBS's $75.1 7.88% 30 Years Adjustable Mortgages and MBS's $15.0 7.31% 30 Years INTEREST-BEARING LIABILITIES Deposit Accounts $75.5 4.59% 5 Years Short-Term Borrowings $ 6.0 6.35% 1 Year NOTE 18 - RECONCILIATION OF NET INCOME AND RETAINED EARNINGS A reconciliation of net income and retained earnings per these audited financial statements with reports filed with the Office of Thrift Supervision (OTS) as of September 30, 2000, 1999 and 1998 is as follows: Years Ended September 30, ------------------------------------------- 2000 1999 1998 ---- ---- ---- (In Thousands) Net Income Per OTS Report $ 500 $ 878 $ 540 Net Income from Holding Company (Adjusted for Consolidating Items) 170 111 204 Net Income Per Statements ------- ------- ------- of Income $ 670 $ 989 $ 744 ======= ======= ======= Retained Earnings Per OTS Report $15,624 $14,508 $13,630 Net Retained Earnings of Holding Company (Adjusted for Con- solidating Items) (1,807) (618) 17 ------- ------- ------- Retained Earnings Per Balance Sheets $13,817 $13,890 $13,647 ======= ======= ======= 33 34 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 19 - REGULATORY CAPITAL REQUIREMENTS Regulations require that the Bank meet certain minimum capital standards. Additional regulations provide that the OTS may require corrective action when a savings association's capital ratios fall below certain levels. The tangible capital requirement requires savings associations to maintain "tangible capital" of not less then 1.5% of the association's adjusted total assets. Tangible capital is defined in the OTS regulations as core capital minus intangible assets. "Core capital" is comprised of common shareholders' equity (including retained earnings), noncumulative preferred stock and related surplus, minority interests in consolidated subsidiaries, certain nonwithdrawable accounts and pledged deposits of mutual associations. OTS regulations require savings associations to maintain core capital of at least 4% of the association's total assets, except for those associations with the highest examination rating and acceptable levels of risk. OTS regulations require that savings associations maintain "risk-based capital" in an amount not less than 8% of "risk-weighted assets." Risk-based capital is defined as adjusted core capital plus certain additional items of capital, which in the case of the Bank includes a general loan loss allowance of $300,000 at September 30, 2000. The regulatory requirements and the Bank's actual capital at September 30, 2000 and 1999, are set forth below: TO BE WELL MINIMUM REQUIRED CAPITALIZED UNDER FOR CAPITAL PROMPT CORRECTIVE ACTUAL ADEQUACY PURPOSES ACTION PROVISIONS ------------------- --------------------- ------------------- AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO ------ ----- ------ ----- ------ ----- As of September 30, 2000 Total Risk-Based Capital $28,665 57.8% $3,966 8.0% $4,957 10.0% (to Risk-Weighted Assets) Tier 1 Capital 28,365 57.2 N/A N/A 2,974 6.0 (to Risk-Weighted Assets) Tier 1 Capital 28,365 25.4 4,466 4.0 5,583 5.0 (to Total Assets) Tangible Capital 28,365 25.4 1,675 1.5 n/a n/a (to Total Assets) As of September 30, 1999 Total Risk-Based Capital 27,549 55.4 3,981 8.0 4,976 10.0 (to Risk-Weighted Assets) Tier 1 Capital 27,249 54.8 N/A N/A 2,986 6.0 (to Risk-Weighted Assets) Tier 1 Capital 27,249 23.9 4,560 4.0 5,699 5.0 (to Total Assets) Tangible Capital 27,249 23.9 1,710 1.5 n/a n/a (to Total Assets) 34 35 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 19 - REGULATORY CAPITAL REQUIREMENTS (CONTINUED) The Bank's management believes that, under the current regulations, the Bank will continue to meet its minimum capital requirements in the foreseeable future. However, events beyond the control of the Bank, such as increased interest rates or a downturn in the economy in areas where the Bank has most of its loans, could adversely affect future earnings and, consequently, the ability of the Bank to meet its future minimum capital requirements. Under the "prompt corrective action" regulations of the OTS, a savings bank that has not received the highest possible examination rating may become subject to corrective action if its core capital is less than 4% of its adjusted total assets. NOTE 20 - FAIR VALUES OF FINANCIAL INSTRUMENTS SFAS No. 107, "Disclosures About Fair Value of Financial Instruments", requires disclosure of fair value information about financial instruments, whether or not recognized in the statement of financial condition. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instruments. SFAS No. 107 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Bank. The following methods and assumptions were used by the Bank in estimating its fair value disclosures for financial instruments: Cash and Cash Equivalents: The carrying amounts reported in the statement of financial condition for cash and cash equivalents approximate those assets' fair values. Investment Securities and Mortgage-Backed Securities: Fair values for these securities are based on quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments. Loans: For variable-rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying amounts. The fair values for other loans (for example, fixed rate commercial real estate and rental property mortgage loans and commercial and industrial loans) are estimated using discounted cash flow analysis, based on interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. Loan fair value estimates include judgments regarding future expected loss experience and risk characteristics. The carrying amount of accrued interest receivable approximates its fair value. 35 36 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 20 - FAIR VALUES OF FINANCIAL INSTRUMENTS (CONTINUED) Deposits: The fair values disclosed for demand deposits (for example, interest-bearing checking accounts and passbook accounts) are, by definition, equal to amounts payable on demand at the reporting date (that is, their carrying amounts). The fair values for certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated contractual maturities on such time deposits. The carrying amount of accrued interest payable approximates fair value. The estimated fair values of the Bank's financial instruments are as follows: SEPTEMBER 30, 2000 ------------------------ AMOUNT VALUE ------- ------- (In Thousands) Financial Assets: Cash and Cash Equivalents $ 4,990 $ 4,990 Investment Securities 14,842 14,512 Mortgage-backed Securities 16,637 16,360 Loans, Net 70,682 70,542 Financial Liabilities: Deposits 75,462 74,993 FHLB Advances 6,000 6,000 The carrying amounts in the preceding table are included in the statement of financial condition under the applicable captions. NOTE 21 - DEPOSIT INSURANCE Deposits of the Bank are currently insured by the Savings Association Insurance Fund ("SAIF"). Both the SAIF and the Bank Insurance Fund ("BIF"), the deposit insurance fund that covers most commercial bank deposits, are statutorily required to be recapitalized to a ratio of 1.25% of insured reserve deposits. NOTE 22 - EARNINGS PER SHARE The basic earnings per share amounts for the years ended September 30, 2000 and 1999 are based upon the average outstanding shares of the Company reduced by the unreleased shares of the ESOP. The basic average number of shares outstanding was approximately 2,448,000 and 2,458,000 for the years ended September 30, 2000 and 1999, respectively. The diluted earnings per share amounts are based upon the basic shares outstanding, because options on 252,600 shares were not taken into account because of their anti-dilutive effects. 36 37 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 23 - CORPORATE REORGANIZATION On October 9, 1997, the Board of Directors of Columbia Federal unanimously adopted a Plan of Conversion to convert Columbia Federal from a federal mutual savings bank to a federal stock savings bank with the concurrent formation of a newly formed holding company. The Company incorporated under the laws of the State of Ohio. The Conversion was accomplished through the adoption of a Federal Stock Charter and Federal Stock Bylaws and the sale of the Company's common shares in an amount equal to the proforma market value of the Bank after giving effect to the Conversion. A subscription offering of the shares of the Company to the Bank's members and to the ESOP was conducted. The Conversion was completed on April 15, 1998, and resulted in the issuance of 2,671,450 common shares of the Company, which, after consideration of offering expenses totaling approximately $775,000 and shares purchased by the ESOP for $2.1 million, resulted in net proceeds of $23.8 million. At the time of the Conversion, the Bank established a liquidation account in an amount equal to its regulatory capital as of September 30, 1997. The liquidation account will be maintained for the benefit of eligible depositors who continue to maintain their accounts at the Bank. The liquidation account will be reduced annually to the extent eligible depositors have reduced their qualifying deposits. Subsequent increases in deposits will not restore an eligible account holder's interest in the liquidation account. In the event of complete liquidation, and only in such event, each eligible depositor will be entitled to receive a distribution from the liquidation account in an amount proportionate to the current adjusted qualifying balances for accounts then held. The Bank may not pay dividends that would reduce shareholders' equity below the required liquidation account balance. Under OTS regulations, limitations have been imposed on all "capital distributions", including cash dividends by savings institutions. The regulation establishes a three-tiered system of restrictions, with the greatest flexibility afforded to thrifts that are both well-capitalized and given favorable qualitative examination ratings by the OTS. 37 38 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 24 - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The following table summarizes the Company's quarterly results for the years ended September 30, 2000 and 1999. Three Months Ended ------------------------------------------------------------ December 31, March 31, June 30, September 30, 1999 2000 2000 2000 ------ ------ ------ ------ Total Interest Income $2,047 $2,028 $2,023 $2,043 Total Interest Expense 899 928 987 1,015 ------ ------ ------ ------ Net Interest Income 1,148 1,100 1,036 1,028 Provision for Losses on Loans - - - - Other Income 48 24 23 25 General, Administrative and Other Expense 912 898 779 828 ------ ------ ------ ------ Earnings Before Income Taxes 284 226 280 225 Federal Income Taxes 96 77 95 77 ------ ------ ------ ------ Net Earnings $ 188 $ 149 $ 185 $ 148 ====== ====== ====== ====== Earnings Per Share: Basic $ .08 $ .06 $ .07 $ .06 ====== ====== ====== ====== Diluted $ .08 $ .06 $ .07 $ .06 ====== ====== ====== ====== December 31, March 31, June 30, September 30, 1998 1999 1999 1999 ------ ------ ------ ------ Total Interest Income $2,132 $2,126 $2,085 $2,037 Total Interest Expense 935 929 911 892 ------ ------ ------ ------ Net Interest Income 1,197 1,197 1,174 1,145 Provision for Losses on Loans - - - 8 Other Income 31 27 27 32 General, Administrative and Other Expense 800 128 140 96 ------ ------ ------ ------ Earnings Before Income Taxes 428 376 411 283 Federal Income Taxes 145 128 140 96 ------ Net Earnings $ 283 $ 248 $ 271 $ 187 ====== ====== ====== ====== Earnings Per Share: Basic $ .11 $ .10 $ .11 $ .08 ====== ====== ====== ====== Diluted $ .11 $ .10 $ .11 $ .08 ====== ====== ====== ====== 38 39 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 25 - CONDENSED FINANCIAL STATEMENTS OF COLUMBIA FINANCIAL OF KENTUCKY, INC. The following condensed financial statements summarize the consolidated financial position of Columbia Financial of Kentucky, Inc., as of September 30, 2000 and 1999 and the results of operations and cash flows for the years ended September 30, 2000 and 1999. COLUMBIA FINANCIAL OF KENTUCKY, INC. STATEMENT OF FINANCIAL CONDITION (IN THOUSANDS) September 30, ------------------------- 2000 1999 ---- ---- ASSETS ASSETS Cash and Cash Equivalents $ 366 $ 2,796 Investment in Columbia Federal Savings Bank 28,365 27,249 Other Assets 3 2 Due from Columbia Federal Savings Bank 404 - Deferred Tax Asset 14 184 ------- ------- TOTAL ASSETS $29,152 $30,231 ======= ======= LIABILITIES AND SHAREHOLDERS' EQUITY LIABILITIES Accrued RRP Expenses $ 41 $ 53 ------- ------- SHAREHOLDERS' EQUITY Common Shares and Additional Paid-In Capital 32,129 31,862 Treasury Shares (489) (262) Retained (Deficit) Earnings (46) 221 Unearned ESOP (1,360) (1,643) Unearned RRP (1,123) - ------- ------- TOTAL SHAREHOLDERS' EQUITY 29,111 30,178 ------- ------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $29,152 $30,231 ======= ======= 39 40 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 25 - CONDENSED FINANCIAL STATEMENTS OF COLUMBIA FINANCIAL OF KENTUCKY, INC. (CONTINUED) COLUMBIA FINANCIAL OF KENTUCKY, INC. STATEMENT OF INCOME (IN THOUSANDS) Years Ended September 30, ------------------------- 2000 1999 ---- ---- REVENUE Interest Income $ 197 $ 423 Equity in Earnings of Columbia Federal Savings Bank 1,116 878 ------ ------ Total Revenue 1,313 1,301 GENERAL AND ADMINISTRATIVE EXPENSES 725 644 ------ ------ Net Income Before Income Taxes 588 657 Federal Income Tax (Expense) Benefit (113) 138 ------ ------ NET INCOME $ 475 $ 795 ====== ====== 40 41 COLUMBIA FINANCIAL OF KENTUCKY, INC. AND SUBSIDIARY - -------------------------------------------------------------------------------- NOTE 25 - CONDENSED FINANCIAL STATEMENTS OF COLUMBIA FINANCIAL OF KENTUCKY, INC. (CONTINUED) COLUMBIA FINANCIAL OF KENTUCKY, INC. STATEMENT OF CASH FLOWS (IN THOUSANDS) Years Ended September 30, ------------------------- 2000 1999 ---- ---- CASH FLOWS FROM OPERATING ACTIVITIES Net Income $ 475 $ 795 Reconciliation of Net Income with Cash Flows from Operations: Undistributed Earnings of Columbia Federal Savings Bank (1,116) (879) Deferred Federal Income Tax 170 (138) Shares Released to ESOP 355 403 Changes In Accrued Interest Receivable - 15 Other Assets (1) 2 Accrued RRP Expenses (12) 53 ------- -------- NET CASH (USED) PROVIDED BY OPERATING ACTIVITIES (129) 251 ------- -------- CASH FLOWS FROM INVESTING ACTIVITIES Proceeds from Repayment of Loan to ESOP 196 194 Proceeds from Investment Securities - 1,091 Increase in Advances to Subsidiary (404) - ------- -------- NET CASH (USED) PROVIDED BY INVESTING ACTIVITIES (208) 1,285 ------- -------- CASH FLOWS FROM FINANCING ACTIVITIES Treasury Shares Purchased (227) (262) RRP Shares Purchased (1,123) - Capital Distributions Paid (743) (8,670) ------- -------- NET CASH USED BY FINANCING ACTIVITIES (2,093) (8,932) ------- -------- CHANGES IN CASH AND CASH EQUIVALENTS (2,430) (7,396) CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 2,796 10,192 ------- -------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 366 $ 2,796 ======= ======== 41