UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2005
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ____________________ to ___________________
Commission File Number: 33-96358
KENTUCKY BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
Kentucky 61-0993464
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
P.O. Box 157, Paris, Kentucky 40362-0157
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (859)987-1795
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as
defined in Rule 405 of the Securities Act. Yes No _X_
Indicate by check mark if the registrant is not required to file reports to
Section 13 or Section 15(d) of the Exchange Act. Yes No _X_
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No ___
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ X ]
Indicate by check mark whether the registrant is a large accelerated filer,
an accelerated filer, or a non-accelerated filer. See definition of
"accelerated filer and large accelerated filer" in Rule 12b-2 of the
Exchange Act.
Large accelerated filer _ Accelerated filer _ Non-accelerated filer X
Aggregate market value of voting stock held by non-affiliates as of June 30,
2005 was approximately $66.9 million. For purposes of this calculation, it
is assumed that the Bank's Trust Department, directors, executive officers
and beneficial owners of more than 5% of the registrant's outstanding voting
stock are affiliates.
Number of shares of Common Stock outstanding as of March 28, 2006:
2,672,672.
PART I
Item 1. Business
General
Kentucky Bancshares, Inc. ("Company" or "Kentucky") is a Kentucky
corporation organized in 1981 and a bank and savings and loan holding
company registered under the Bank Holding Company Act of 1956, as amended
("BHCA") and the Home Owners Loan Act of 1933, as amended ("HOLA").
The Company conducts business in the state of Kentucky through one banking
subsidiary, Kentucky Bank. Kentucky Bank is a commercial bank and trust
company organized under the laws of Kentucky. Kentucky Bank has its main
office in Paris (Bourbon County), with additional offices in Paris, North
Middletown (Bourbon County), Winchester (Clark County), Cynthiana (Harrison
County), Nicholasville (Jessamine County), Wilmore (Jessamine County),
Georgetown (Scott County), and Versailles (Woodford County). The deposits
of Kentucky Bank are insured up to prescribed limits by the Bank Insurance
Fund ("BIF") and the Savings Association Insurance Fund ("SAIF"), both of
the Federal Deposit Insurance Corporation ("FDIC"). Kentucky Bank is
engaged in general full-service commercial and consumer banking. Kentucky
Bank makes commercial, agricultural and real estate loans to its commercial
customers, with emphasis on small-to-medium-sized industrial, service and
agricultural businesses. Kentucky Bank makes residential mortgage,
installment and other loans to its individual and other non-commercial
customers. Kentucky Bank also offers its customers the opportunity to
obtain a credit card. Kentucky Bank offers its customers a variety of other
services, including checking, savings, money market accounts, certificates
of deposits, safe deposit facilities and other consumer-oriented financial
services. Kentucky Bank has Internet banking, including bill payment
available to its customers at www.kybank.com. Through its Wealth Management
Department, Kentucky Bank provides brokerage services, annuities, life and
long term care insurance, personal trust and agency services (including
management agency services).
Competition
The Company and its subsidiary face vigorous competition from a number of
sources, including other bank holding companies and commercial banks,
consumer finance companies, thrift institutions, other financial
institutions and financial intermediaries. In addition to commercial banks,
savings and loan associations, savings banks and credit unions actively
compete to provide a wide variety of banking services. Mortgage banking
firms, finance companies, insurance companies, brokerage companies,
financial affiliates of industrial companies and government agencies provide
additional competition for loans and for many other financial services. The
subsidiary also currently competes for interest-bearing funds with a number
of other financial intermediaries, including brokerage firms and mutual
funds, which offer a diverse range of investment alternatives. Some of the
Company's competitors are not subject to the same degree of regulatory
review and restrictions that apply to the Company and its subsidiary bank.
In addition, the Company must compete with much larger financial
institutions that have greater financial resources than the Company.
Supervision and Regulation
As a bank holding company, the Company is subject to the regulation and
supervision of the Federal Reserve Board. The Company's subsidiary is
subject to supervision and regulation by applicable state and federal
banking agencies, including the Federal Reserve Board, the Federal Deposit
Insurance Corporation and the Kentucky Office of Financial Institutions.
The subsidiary is also subject to various requirements and restrictions
under federal and state law, including requirements to maintain reserves
against deposits, restrictions on the types and amounts of loans that may be
granted and the interest that may be charged thereon, and limitations on the
types of investments that may be made and the types of services that may be
offered. In addition to the impact of regulation, the subsidiary is
affected significantly by the actions of the Federal Reserve Board as it
attempts to control the money supply and credit availability in order to
influence the economy.
There are a number of obligations and restrictions imposed on bank holding
companies and their depository institution subsidiaries by federal law and
regulatory policy that are designed to reduce potential loss exposure to the
depositors of such depository institutions and to the FDIC insurance funds
in the event the depository institution becomes in danger of default or is
in default. For example, under a policy of the Federal Reserve Board with
respect to bank holding company operations, a bank holding company is
required to serve as a source of financial strength to its subsidiary
depository institutions and commit resources to support such institutions in
circumstances where it might not do so absent such policy. In addition, the
"cross-guarantee" provisions of federal law require insured depository
institutions under common control to reimburse the FDIC for any loss
suffered or reasonably anticipated as a result of the default of a commonly
controlled insured depository institution or for any assistance provided by
the FDIC to a commonly controlled insured depository institution in danger
of default.
The federal banking agencies have broad powers under current federal law to
take prompt corrective action to resolve problems of insured depository
institutions. The extent of these powers depends upon whether the
institutions in question are "well capitalized", "adequately capitalized",
"undercapitalized", "significantly undercapitalized" or "critically
undercapitalized", as such terms are defined under uniform regulation
defining such capital levels issued by each of the federal banking agencies.
In addition to the laws and regulations discussed above, Kentucky Bank is
also subject to certain consumer laws and regulations that are designed to
protect consumers in transactions with banks. While the list set forth
herein is not exhaustive, these laws and regulations include the Truth in
Lending Act, the Truth in Savings Act, the Electronic Funds Transfer Act,
the Expedited Funds Availability Act, the Equal Credit Opportunity Act, the
Real Estate Settlement Procedures Act, the Fair Housing Act and the Fair and
Accurate Transactions Act, among others. These laws and regulations mandate
certain disclosure requirements and regulate the manner in which financial
institutions must deal with clients when taking deposits or making loans.
These laws also limit Kentucky Bank's ability to share information with
affiliated and unaffiliated entities. The bank must comply with the
applicable provisions of these consumer protection laws and regulations as
part of its ongoing business operations.
There are various legal and regulatory limits on the extent to which the
Company's subsidiary bank may pay dividends or otherwise supply funds to the
Company. In addition, federal and state regulatory agencies also have the
authority to prevent a bank or bank holding company from paying a dividend
or engaging in any other activity that, in the opinion of the agency, would
constitute an unsafe or unsound practice. Dividends paid by the subsidiary
bank have provided substantially all of the Company's operating funds, and
this may reasonably be expected to continue for the foreseeable future.
Employees
At December 31, 2005, the number of full time equivalent employees of the
Company was 172.
Item 1A. Risk Factors
There are factors, many beyond our control, which may significantly change
the results or expectations of the Company. Some of these factors are
described below in the sections titled financial risk, business risk and
operational risk. These risks are not totally independent of each other.
Some factors affect more than one type of risk. These include regulatory,
economic, and competitive environments. As part of the annual audit plan,
our internal risk management department meets with management to assess
these risks throughout the Company. Many risks are further addressed in
other sections of this Form 10-K document.
The exercise of regulatory power may have negative impact on the Company's
results of operations and financial condition. The Company is subject to
extensive regulation, supervision and examination by federal and state
banking authorities. Any change in applicable regulations or federal or
state legislation could have a substantial impact on our operations.
Additional legislation and regulations may be enacted or adopted in the
future that could significantly affect the Company's powers, authority and
operations, which could have a material adverse effect on the financial
condition and results of operations. Further, regulators have significant
discretion and power to prevent or remedy unsafe or unsound practices or
violations of laws by banks and bank holding companies in the performance of
their supervisory and enforcement duties.
Significant decline in general economic conditions, locally and nationally,
will negatively affect the financial results of the Company's banking
operations. The Company's success depends on general economic conditions
both locally and nationally. Most of our customers are in the Central
Kentucky area. Our customers are directly impacted by the local economy, as
well as the national or global economies. Local economic conditions (such
as the effect of the tobacco buyout on the agricultural industry) have an
impact on the demand of customers for loans, the ability of some borrowers
to repay these loans and the value of the collateral securing these loans.
Factors influencing general national economic conditions include the change
in interest rates (particularly mortgage lending rates), oil prices,
inflation, recession and unemployment. As these factors impact the overall
business climate, they can have a significant effect on loan demand. Loan
growth is critical to our profitability.
The Company faces vigorous competition from banks and other financial
institutions. This competition may reduce or limit our margins on banking
services, reduce market share and adversely affect results of operations and
financial condition. A number of these banks and other financial
institutions have substantially greater resources and lending limits, larger
branch systems and a wider array of banking services. Additionally, the
Company encounters competition from both de novo and smaller community banks
entering the markets we are currently in. The Company also competes with
other providers of financial services, such as money market mutual funds,
brokerage firms, consumer finance companies and insurance companies.
Financial Risk
Financial risk components include, but are not limited to, credit risk,
interest rate risk, market risk and liquidity risk. The Company has adopted
various policies to minimize potential adverse effects of interest rate,
market and liquidity risks. However, even with these policies in place, a
change in interest rates could negatively impact the Company's results of
operations or financial position.
Defaults in the repayment of loans may negatively impact our business.
Credit risk is most closely associated with lending activities at financial
institutions. Credit risk is the risk to earnings and capital when a
customer fails to meet the terms of any contract or otherwise fails to
perform as agreed. Credit risk arises from all activities where the Company
is dependent on issuer, borrower, or counterparty performance, not just
traditional lending activities. For example, the investment security
portfolio has inherent credit risk as do counterparties in derivative
contracts. Credit risk encompasses a broad range of financial institution
activities and includes items reflected both on and off the balance sheet.
Management makes various assumptions and judgments about the collectibility
of the Company's loan portfolio, including the creditworthiness of its
borrowers and the value of real estate and other assets serving as
collateral for repayment of many of the loans. In determining the size of
the allowance for loan losses, management considers, among other factors,
the Company's loan loss experience and an evaluation of economic conditions.
If these assumptions prove to be incorrect, the current allowance may not be
sufficient to cover future loan losses and adjustments may be necessary to
allow for different economic conditions or adverse developments in the loan
portfolio. Material additions to the Company's allowance would materially
decrease our net income.
Fluctuations in interest rates may negatively impact our banking business.
Interest rate risk focuses on the impact to earnings and capital arising
from movements in interest rates. Interest rate risk focuses on the value
implications for accrual portfolios (e.g., held-to-maturity and available-
for-sale portfolios) and includes the potential impact to the Company's
accrual earnings as well as the economic perspective of the market value of
portfolio equity. The interest rate risk is comprised of repricing risk,
basis risk, yield curve risk and options risk. Repricing risk represents
the risk associated with the differences in timing of cash flows and rate
changes with the Company's products. Basis risk represents the risk
associated with changing rate relationships among varying yield curves.
Yield curve risk is associated with changing rate relationships over the
maturity structure. Options risk is associated with interest-related
options, which are embedded in our products.
Changes in market factors may negatively affect the value of our investment
assets. Market risk focuses on the impact to earnings and capital arising
from changes in market factors (e.g., interest rates, market liquidity,
volatilities, etc.) that affect the value of traded instruments. Market
risk includes items reflected both on and off the balance sheet. Market
risk focuses primarily on mark-to-market portfolios (e.g., accounts revalued
for financial statement presentation), including trading accounts and
certain derivatives.
Our inability to maintain appropriate levels of liquidity may have a
negative impact on our results of operations and financial condition.
Liquidity risk focuses on the impact to earnings and capital resulting from
the Company's inability to meet its obligations as they become due in the
normal course of business without incurring significant losses. It also
includes the management of unplanned decreases or changes in funding sources
as well as managing changes in market conditions, which could affect the
ability to liquidate assets in the normal course of business without
incurring significant losses. Liquidity risk includes items both on and off
the balance sheet.
Business Risk
Business risk is composed mainly of legal (compliance) risk, strategic risk
and reputation risk.
Our results of operations and financial condition are susceptible to legal
or compliance risks. Legal or compliance risk is the risk to earnings or
capital arising from the impact of unenforceable contracts, lawsuits,
adverse judgments, violations or nonconformance with laws, rules,
regulations, prescribed practices, or ethical standards. The risk also
arises in situations where laws or rules governing certain products or
activities of our customers may be ambiguous or untested. This risk is not
limited to the traditional thinking that legal/compliance risk is only
associated with consumer protection laws. It includes the exposure to
litigation from all aspects of both traditional and nontraditional financial
institution activities.
Incorrect strategic decisions may have a negative impact on our results of
operations and financial condition. Strategic risk is the risk to earnings
and capital arising from adverse business decisions or improper
implementation of those decisions. Strategic risk focuses on more than an
analysis of the written strategic plan. Its focus is on how plans, systems
and implementation affect franchise value. It also incorporates how
management analyzes external factors that affect the Company's strategic
direction.
Adverse publicity may have a negative impact on our business. Reputation
risk is the risk to earnings and capital arising from negative public
opinion. This affects the ability to establish new relationships or
services or to continue servicing existing relationships. Examiners will
assess reputation risk by recognizing the potential effect the public's
opinion could have on the Company's franchise value.
Operational Risk
An inability to process transactions may have a negative impact on our
business. Operational risk is present on a daily basis through the
Company's processing of transactions and is pervasive in all products and
services provided to our customers. It can be defined as the impact to
earnings and capital from problems encountered in processing transactions.
Operational risk is a function of internal controls, operating processes,
management information systems, and employee integrity.
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
The main banking office of Kentucky Bank, which also serves as the principal
office of Kentucky Bancshares, Inc., is located at Fourth and Main Streets,
Paris, Kentucky 40361. In addition, Kentucky Bank serves customer needs at
11 other locations. All locations offer a full range of banking services.
Kentucky Bank owns all of the properties at which it conducts its business.
The Company owns approximately 76,000 square feet of office space.
Note 5 to the Company's consolidated financial statements included in this
report contains additional information relating to amounts invested in
premises and equipment.
Item 3. Legal Proceedings
The Company and its subsidiary are from time to time involved in routine
legal proceedings occurring in the ordinary course of business that, in the
aggregate, management believes will not have a material impact on the
Company's financial condition and results of operation.
Item 4. Submission of Matters to a Vote of Security Holders
Not Applicable.
PART II
Item 5. Market for Common Equity and Related Stockholder Matters
There is no established public trading market for the Company's Common
Stock. The Company's Common Stock is not listed on any national securities
exchange nor is it quoted on the NASDAQ system. However, it is traded on
the OTC Bulletin Board under the symbol "KTYB.OB". Trading in the Common
Stock has been infrequent, with retail brokerage firms making the market.
The following table sets forth the high and low closing sales prices of the
Common Stock from the OTC Bulletin Board and the dividends declared thereon,
for the periods indicated below:
High Low Dividend
2005 Quarter 4 $30.50 $29.25 $.23
Quarter 3 30.50 29.50 .23
Quarter 2 30.50 28.05 .23
Quarter 1 31.00 29.25 .23
2004 Quarter 4 $32.50 $30.50 $.21
Quarter 3 33.00 31.00 .21
Quarter 2 34.00 31.00 .21
Quarter 1 34.77 31.79 .21
Note 16 to the Company's consolidated financial statements included in this
report contains additional information relating to amounts available to be
paid as dividends.
As of December 31, 2005 the Company had 2,666,897 shares of Common Stock
outstanding and approximately 478 holders of record of its Common Stock.
The table below lists issuer purchases of equity securities.
Period (a) Total (b) (c) Total Number (d) Maximum Number
Number of Average of Shares (or Units) (or Approximate Dollar
Shares (or Price Paid Purchased as Part Value) of Shares (or
Units) Per Share of Publicly Units) that May Yet Be
Purchased (or Unit) Announced Plans Purchased Under the
Or Programs Plans of Programs
10/1/05 -
10/31/05 6,400 $30.25 6,400 94,691 shares
11/1/05 -
11/30/05 -0- N/A N/A 94,691 shares
12/1/05 -
12/31/05 -0- N/A N/A 94,691 shares
Total 6,400 6,400 94,691 shares
On October 25, 2000, the Company announced that its Board of Directors
approved a stock repurchase program. The Company is authorized to purchase
up to 100,000 shares of its outstanding common stock. On November 11, 2002,
the Board of Directors approved and authorized the Company's repurchase of
an additional 100,000 shares. Shares will be purchased from time to time in
the open market depending on market prices and other considerations.
Through December 31, 2005, 105,309 shares have been purchased, with the most
recent share repurchase under the Board-approved stock repurchase program
having occurred on October 31, 2005.
Item 6. Selected Financial Data
The following selected financial data should be read in conjunction with
the Company's Consolidated Financial Statements and the accompanying
notes presented elsewhere herein.
At or For the Year Ended December 31
(dollars and shares in thousands, except per share amounts)
2005 2004 2003 2002 2001
<s> <c> <c> <c> <c> <c>
CONDENSED STATEMENT OF INCOME:
Total Interest Income $28,897 $25,846 $22,329 $24,788 $28,046
Total Interest Expense 11,766 9,067 7,875 9,367 13,386
Net Interest Income 17,131 16,779 14,454 15,421 14,660
Provision for Losses 508 840 1,300 1,204 1,068
Net Interest Income After
Provision for Losses 16,623 15,939 13,154 14,217 13,592
Noninterest Income 6,749 6,796 6,707 6,590 5,672
Noninterest Expense 15,474 14,755 14,171 12,433 11,756
Income Before Income
Tax Expense 7,898 7,980 5,690 8,374 7,508
Income Tax Expense 2,078 2,218 1,457 2,471 1,984
Net Income 5,820 5,762 4,233 5,903 5,524
SHARE DATA:
Basic Earnings per Share (EPS) $2.17 $2.09 $1.52 $2.13 $1.98
Diluted EPS 2.16 2.07 1.50 2.10 1.95
Cash Dividends Declared 0.92 0.84 0.76 0.68 0.60
Book Value 17.45 16.77 16.90 15.90 14.13
Average Common Shares-Basic 2,677 2,757 2,781 2,770 2,790
Average Common Shares-Diluted 2,692 2,777 2,827 2,806 2,837
SELECTED BALANCE SHEET DATA:
Loans, including loans held for sale $366,602 $354,294 $316,941 $281,499 $272,129
Investment Securities 160,652 126,767 128,790 89,509 75,608
Total Assets 572,750 528,544 500,852 419,771 397,257
Deposits 431,631 387,955 384,599 322,836 308,915
Securities sold under agreements to
repurchase and other borrowings 16,838 25,593 7,285 5,277 1,602
Federal Home Loan Bank advances 66,749 59,750 53,232 43,937 43,598
Stockholders' Equity 46,546 45,027 46,057 44,092 39,100
PERFORMANCE RATIOS:
(Average Balances)
Return on Assets 1.08% 1.11% 1.00% 1.48% 1.46%
Return on Stockholders' Equity 12.69% 12.57% 9.31% 14.27% 14.60%
Net Interest Margin (1) 3.50% 3.60% 3.79% 4.23% 4.22%
Equity to Assets (annual average) 8.50% 8.82% 10.73% 10.36% 9.99%
SELECTED STATISTICAL DATA:
Dividend Payout Ratio 42.30% 39.97% 50.00% 31.94% 30.28%
Number of Employees (at period end) 172 167 182 173 180
ALLOWANCE COVERAGE RATIOS:
Allowance to Total Loans 1.16% 1.16% 1.19% 1.19% 1.24%
Net Charge-offs as a Percentage of
Average Loans 0.10% 0.15% 0.43% 0.43% 0.39%
(1) Tax equivalent
Item 7. Management's Discussion and Analysis
The following discussion and analysis of financial condition and results
of operations should be read in conjunction with the Consolidated
Financial Statements and accompanying notes included as Exhibit 13.
When necessary, reclassifications have been made to prior years' data
throughout the following discussion and analysis for purposes of
comparability with 2005 data.
Critical Accounting Policies
The accounting and reporting policies of the Company and its
subsidiary are in accordance with accounting principles generally
accepted in the United States and conform to general practices within
the banking industry. Significant accounting policies are listed in
Note 1 in the "Notes to Consolidated Financial Statements". Critical
accounting and reporting policies include accounting for loans and
the allowance for loan losses. Different assumptions in the
application of these policies could result in material changes in the
consolidated financial position or consolidated results of
operations.
Loans are stated at the amount of unpaid principal, reduced by an
allowance for loan losses. Interest on loans is recognized on the
accrual basis, except for those loans on the nonaccrual status.
Interest income received on such loans is accounted for on the cash
basis or cost recovery method. The allowance for loan losses is a
valuation allowance for probable incurred credit losses. Management
estimates the allowance balance required using past loan loss
experience, the nature and volume of the portfolio, information about
specific borrower situations and estimated collateral values, economic
conditions, and other factors. The accounting policies relating to
the allowance for loan losses involve the use of estimates and
require significant judgments to be made by management.
Forward-Looking Statements
This discussion contains forward-looking statements under the Private
Securities Litigation Reform Act of 1995 that involve risks and
uncertainties. Although the Company believes that the assumptions
underlying the forward-looking statements contained herein are
reasonable, any of the assumptions could be inaccurate, and therefore,
there can be no assurance that the forward-looking statements included
herein will prove to be accurate. Factors that could cause actual
results to differ from the results discussed in the forward-looking
statements include, but are not limited to: economic conditions (both
generally and more specifically in the markets, including the tobacco
market, in which the Company and its bank operate); competition for the
Company's customers from other providers of financial and mortgage
services; government legislation, regulation and monetary policy (which
changes from time to time and over which the Company has no control);
changes in interest rates (both generally and more specifically mortgage
interest rates); material unforeseen changes in the liquidity, results
of operations, or financial condition of the Company's customers; and
other risks detailed in the Company's filings with the Securities and
Exchange Commission, all of which are difficult to predict and many of
which are beyond the control of the Company. The Company undertakes no
obligation to republish revised forward-looking statements to reflect
events or circumstances after the date hereof or to reflect the
occurrence of unanticipated events.
Recent Developments
On February 24, 2006, the Company entered into an Agreement and Plan
of Merger whereby Peoples Bancorp of Sandy Hook, Inc will merge with
and into the Company. Pursuant to the Agreement, the Company will
merge with Peoples Bancorp of Sandy Hook, Inc., a privately held $87
million asset bank holding company with offices in Morehead and Sandy
Hook, Kentucky. The consummation of the transaction is subject to
ordinary and customary closing conditions, including regulatory
approval and the approval of Peoples Bancorp stockholders. Pursuant
to the Agreement, in connection with the merger each share of Peoples
Bancorp common stock will be converted into cash and shares of
Kentucky Bancshares common stock. Total consideration for the
transaction will be $14,000,000. Based on the market price of
the Company's common stock on the date of the Agreement,
approximately 190,000 shares of the Company's common stock would be
issued to Peoples Bancorp shareholders; in no event will more than
215,385 shares or less than 164,706 shares be issued in the
transaction.
Overview
Net income for the year ended December 31, 2005 was $5.8 million, or
$2.17 per common share compared to $5.8 million, or $2.09 for 2004 and
$4.2 million, or $1.52 for 2003. Earnings per share assuming dilution
were $2.16, $2.07 and $1.50 for 2005, 2004 and 2003, respectively. For
2005, net income increased $58 thousand, or 1%. Net interest income
increased $352 thousand, the loan loss provision decreased $332
thousand, other income decreased $48 thousand, while total other
expenses increased $719 thousand.
For 2004, net income increased $1.5 million, or 36%. Net interest
income increased $2.3 million, the loan loss provision decreased $460
thousand, other income increased $89 thousand, while other expenses
increased $584 thousand. During 2003, the Company completed a strategic
acquisition to strengthen its business and grow its customer base. In
November 2003, the Company purchased Kentucky First Bancorp, Inc.
(Kentucky First) and its subsidiary, First Federal Savings Bank (First
Federal) of Cynthiana. Lack of loan demand, tightening margins and one
time expenses related to closing the original leased facility in
Georgetown and the merger of Kentucky First adversely affected 2003
earnings.
Return on average equity was 12.7% in 2005 compared to 12.6% in 2004 and
9.3% in 2003. Return on average assets was 1.08% in 2005 compared to
1.11% in 2004 and 1.00% in 2003.
Non-performing loans as a percentage of loans (including held for sale)
were 0.26%, 0.58% and 0.82% as of December 31, 2005, 2004 and 2003,
respectively.
RESULTS OF OPERATIONS
Net Interest Income
Net interest income, the Company's largest source of revenue, on a tax
equivalent basis increased from $15.1 million in 2003 to $17.4 million
in 2004 and to $17.7 million in 2005. The taxable equivalent adjustment
(nontaxable interest income on state and municipal obligations net of
the related non-deductible portion of interest expense) is based on our
Federal income tax rate of 34%.
Average earning assets and interest bearing liabilities both increased
from 2004 to 2005. Average earning assets increased $23 million, or 5%.
Investment securities decreased $7 million primarily due to maturities
and calls of securities. These proceeds were used primarily to fund
loans. Loans increased $23 million as a result of improved loan demand.
Average interest bearing liabilities increased $15 million, or 4% during
this same period. The Company continues to actively pursue quality
loans and fund these primarily with deposits and FHLB advances.
During the second half of 2004 rates started increasing and this pattern
has continued. Bank prime rates increased 125 basis points during 2004
and another 200 basis points in 2005. As a result of this, the tax
equivalent yield on earning assets increased from 5.47% in 2004 to 5.82%
in 2005.
The volume rate analysis for 2005 that follows indicates that $1.4
million of the increase in interest income is attributable to the change
in volume, while the increase in rates contributed to an increase of
$1.7 million in interest income. The rate increase also caused an
increase in the cost of interest bearing liabilities. The average rate
of these liabilities increased from 2.25% in 2004 to 2.82% in 2005.
Based on the volume rate analysis that follows, the change in volume
contributed to an increase of $293 thousand to interest expense, while
the increase in rates was responsible for a $2.4 million increase in
interest expense. As a result, the 2005 net interest income increase is
attributed to increases in volume reduced by the negative impact of
increases in rates, more on the liability side than the asset side.
The volume rate analysis that follows, during 2004, indicates that $4.5
million of the increase in interest income is attributable to the change
in volume, while the lower level of rates contributed to a decrease of
$995 thousand in interest income. This low level of rates also caused a
decrease in the cost of interest bearing liabilities. The average rate
of these liabilities decreased from 2.49% in 2003 to 2.25% in 2004. In
addition, the change in volume contributed to an increase of $2.3
million in interest expense, while the low level of rates was
responsible for a $1.1 million decrease in interest expense. As a
result, the 2004 net interest income increase is primarily attributed to
increases in volume.
Following the 2004 enactment of federal legislation to end the
federal tobacco program and to compensate quota owners and producers,
the Company offered tobacco quota owners and producers upfront, lump-
sum payment buyouts ranging from 75% to 80% of the future stream of
federal buyout payments during 2005. The Company made $11.7 million
in lump-sum payments in January 2006 under successor in interest
contracts. Similar types of buyouts are expected to continue over
the next few years, but on a smaller scale. These buyouts will
generate additional net interest income starting in January 2006.
In spite of the positive impact on net interest income that may result
from the increasing rate environment beginning in 2004 and continuing
into 2006, competitive pressures on interest rates will continue and are
likely to result in only modest increases in net interest margins.
The accompanying analysis of changes in net interest income in the
following table shows the relationships of the volume and rate portions
of these changes in 2005 and 2004. Changes in interest income and
expenses due to both rate and volume are allocated on a pro rata basis.
2005 vs. 2004 2004 vs. 2003
Increase (Decrease) Due to Change in Increase (Decrease) Due to Change in
Volume Rate Net Change Volume Rate Net Change
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INTEREST INCOME
Loans $ 1,455 $ 1,448 $ 2,903 $ 2,942 $ (1,047) $ 1,895
Investment Securities (258) 54 (204) 1,626 24 1,650
Federal Funds Sold and
Securities Purchased under
Agreements to Resell 173 177 350 (61) 27 (34)
Deposits with Banks (9) 11 2 5 1 6
Total Interest Income 1,361 1,690 3,051 4,512 (995) 3,517
INTEREST EXPENSE
Deposits
Demand 54 994 1,048 88 54 142
Savings 8 103 111 38 0 38
Negotiable Certificates of
Deposit and Other
Time Deposits 111 1,145 1,256 776 (501) 275
Securities sold under
agreements to
repurchase and
other borrowings (98) 291 193 780 (147) 633
Federal Home Loan
Bank advances 218 (127) 91 575 (472) 103
Total Interest Expense 293 2,406 2,699 2,257 (1,066) 1,191
Net Interest Income $ 1,068 $ (716) $ 352 $ 2,255 $ 71 $ 2,326
Average Consolidated Balance Sheets and Net Interest Analysis (dollars in thousands)
2005 2004 2003
Average Average Average Average Average Average
Balance Interest Rate Balance Interest Rate Balance Interest Rate
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ASSETS
Interest-Earning Assets
Securities Available for Sale (1)
U.S. Treasury and Federal Agency Securities 92,524 3,366 3.64% 97,486 3,510 3.60% 56,559 1,907 3.37%
State and Municipal obligations 34,888 1,444 4.14% 35,762 1,518 4.24% 32,702 1,431 4.38%
Other Securities 6,085 285 4.68% 7,035 271 3.85% 7,971 311 3.90%
Total Securities Available for Sale 133,497 5,095 3.82% 140,283 5,299 3.78% 97,232 3,649 3.75%
Total Investment Securities 133,497 5,095 3.82% 140,283 5,299 3.78% 97,232 3,649 3.75%
Tax Equivalent Adjustment 614 0.46% 638 0.45% 611 0.63%
Tax Equivalent Total 5,709 4.28% 5,937 4.23% 4,260 4.38%
Federal Funds Sold and Agreements to Repurchase 11,471 417 3.64% 4,620 67 1.45% 9,307 101 1.09%
Interest-Bearing Deposits with Banks 321 12 3.74% 827 10 1.21% 441 4 0.91%
Loans, Net of Deferred Loan Fees (2)
Commercial 31,151 1,958 6.29% 28,874 1,564 5.42% 26,871 1,522 5.66%
Real Estate Mortgage 321,619 20,660 6.42% 299,062 17,989 6.02% 249,924 15,779 6.31%
Installment 8,962 755 8.42% 10,529 917 8.71% 13,707 1,274 9.29%
Total Loans 361,732 23,373 6.46% 338,465 20,470 6.05% 290,502 18,575 6.39%
Total Interest-Earning Assets 507,021 29,511 5.82% 484,195 26,484 5.47% 397,482 22,940 5.77%
Allowance for Loan Losses (4,401) (4,090) (3,324)
Cash and Due From Banks 10,927 10,642 9,252
Premises and Equipment 11,025 11,787 10,840
Other Assets 15,054 17,494 9,713
Total Assets 539,626 520,028 423,963
LIABILITIES
Interest-Bearing Deposits
Negotiable Order of Withdrawal ("NOW")
and Money Market Investment Accounts 103,625 1,832 1.77% 97,267 784 0.81% 86,039 642 0.75%
Savings 29,303 235 0.80% 27,547 124 0.45% 19,213 86 0.45%
Certificates of Deposit and Other Deposits 193,986 6,114 3.15% 189,739 4,858 2.56% 160,651 4,583 2.85%
Total Interest-Bearing Deposits 326,914 8,181 2.50% 314,553 5,766 1.83% 265,903 5,311 2.00%
Securities sold under agreements to
repurchase and other borrowings 26,689 1,098 4.11% 29,664 905 3.05% 5,385 272 5.05%
Federal Home Loan Bank advances 63,918 2,487 3.89% 58,421 2,396 4.10% 45,561 2,293 5.03%
Total Interest-Bearing Liabilities 417,521 11,766 2.82% 402,638 9,067 2.25% 316,849 7,876 2.49%
Noninterest-Bearing Earning Demand Deposits 73,320 68,730 58,263
Other Liabilities 2,929 2,814 3,371
Total Liabilities 493,770 474,182 378,483
STOCKHOLDERS' EQUITY 45,856 45,846 45,480
Total Liabilities and Shareholders' Equity 539,626 520,028 423,963
Average Equity to Average Total Assets 8.50% 8.82% 10.73%
Net Interest Income 17,131 16,779 14,453
Net Interest Income (tax equivalent) (3) 17,745 17,417 15,064
Net Interest Spread (tax equivalent) (3) 3.00% 3.22% 3.28%
Net Interest Margin (tax equivalent) (3) 3.50% 3.60% 3.79%
(1) Averages computed at amortized cost.
(2) Includes loans on a nonaccrual status and loans held for sale.
(3) Tax equivalent difference represents the nontaxable interest income on state and municipal securities net of the
related non-deductible portion of interest expense.
Noninterest Income and Expenses
Noninterest income was $6.7 million in 2005 compared to $6.8 million in
2004 and $6.7 million in 2003. Increased service charges and trust
department income in 2005 have been offset by a reduction in securities
gains in 2005. The increase in 2004 is primarily from an increase in
service charges.
Securities gains were $64 thousand in 2005, $289 thousand in 2004 and
$139 thousand in 2003. The lower gains in 2005 are primarily
attributable to rising interest rates and the related inverse
relationship of interest rates and market values. The gains in 2004
were primarily a result of the Company taking advantage of the inverse
relationship of interest rates and market values, and municipal
securities being called at premiums before their maturities. In
addition, U. S. Treasury securities were sold before maturity to
recognize some gains and extend out the yield curve.
Gains on loans sold were $334 thousand, $376 thousand and $853 thousand
in 2005, 2004 and 2003, respectively. Loans held for sale are generally
sold after closing to the Federal Home Loan Mortgage Corporation.
During 2005, the loan service fee income increased $16 thousand,
compared to an increase of $4 thousand in 2004. Proceeds from the sale
of loans were $19 million, $30 million and $37 million in 2005, 2004 and
2003, respectively. The volume of loan originations is inverse to rate
changes. The increasing rate environment during 2004 and 2005
unfavorably impacted our mortgage loan originations. The volume of loan
originations during 2005 decreased to $18 million from $22 million in
2004.
Other noninterest income excluding security net gains and gain on sale
of mortgage loans was $6.4 million in 2005, $6.1 million in 2004 and
$5.7 million in 2003. Service charge income, and more particularly
overdraft income, is the largest contributor to these numbers.
Overdraft income was $3.4 million in 2005, $3.4 million in 2004 and $3.1
million in 2003. Other income has remained steady with $1.1 million in
2003, $1.2 million in 2004 and $1.1 million in 2005.
Noninterest expense increased $719 thousand in 2005 to $15.5 million,
and increased $584 thousand in 2004 to $14.8 million from $14.2 million
in 2003. The increases in salaries and benefits from $7.4 million in
2003 to $8.1 million in 2004 and to $8.5 million in 2005 are
attributable to normal salary and benefit increases. Bonus compensation
was $124 thousand higher in 2005 compared to 2004 and $108 thousand
higher in 2004 compared to 2003. The 2005 increase is mainly a result
of additional sales incentives, while the 2004 increase is mainly a
result of improved net income. Occupancy expense decreased $61 thousand
in 2004 to $2.2 million and increased $136 thousand, or 10% in 2004 to
$2.2 million. The largest expense, depreciation, increased slightly
from $961 thousand in 2003, to $994 thousand in 2004 and decreased $69
thousand to $925 thousand in 2005. Other noninterest expense decreased
from $4.8 million in 2003 to $4.4 million in 2004 and increased to $4.7
million in 2005. The 2003 total includes $350 thousand in legal and
professional expenses, including merger related legal and consulting
expenses amounted of $230 thousand. The subsequent decrease in 2004 is
mainly from the legal and professional expenses in 2003 related to the
merger. During 2005, marketing increased $95 thousand from $378
thousand to $474 thousand, and other taxes increased $51 thousand.
The following table is a summary of noninterest income and expense for
the three-year period indicated.
For the Year Ended December 31
(in thousands)
2005 2004 2003
NON-INTEREST INCOME
Service Charges $ 4,511 $ 4,358 $ 4,065
Loan Service Fee Income 263 246 242
Trust Department Income 458 299 302
Investment Securities Gains (Losses),net 65 289 139
Gains on Sale of Mortgage Loans 334 376 853
Other 1,118 1,228 1,106
Total Non-interest Income 6,749 6,796 6,707
NON-INTEREST EXPENSE
Salaries and Employee Benefits 8,548 8,053 7,373
Occupancy Expenses 2,194 2,255 2,045
Other 4,732 4,447 4,753
Total Non-interest Expense 15,474 14,755 14,171
Net Non-interest Expense as a
Percentage of Average Assets 1.62% 1.53% 1.76%
Income Taxes
The Company had income tax expense of $2.1 million in 2005 and $2.2
million in 2004 and $1.5 million in 2003. This represents an effective
income tax rate of 26.3% in 2005, 27.8% in 2004 and 25.6% in 2003. The
difference between the effective tax rate and the statutory federal rate
of 34% is primarily due to tax exempt income on certain investment
securities and loans.
Balance Sheet Review
Assets grew from $529 million at December 31, 2004 to $573 million at
December 31, 2005. Loan growth was $13 million in 2005. Deposits grew
$44 million and FHLB borrowings grew $7 million. Assets at year-end
2004 totaled $529 million compared to $501 million in 2003. In 2004,
loan growth was $45 million and deposit growth was $3 million. FHLB
borrowings increased $7 million.
Loans
Total loans (including loans held for sale) were $371 million at
December 31, 2005 compared to $358 million at the end of 2004 and $321
million in 2003. Loan growth continued to improve in 2005. The
increase is mainly attributable to improved loan demand. As of the end
of 2005 and compared to the prior year-end, commercial loans increased
$7.3 million, real estate construction loans decreased $2.4 million,
real estate mortgage loans (including loans held for sale) increased
$6.7 million, agricultural loans increased $1.8 million and installment
loans decreased $108 thousand. As of the end of 2004 and compared to
the prior year-end, commercial loans increased $5.7 million, real estate
construction loans increased $17.9 million, real estate mortgage loans
(including loans held for sale) increased $16.3 million, agricultural
loans increased $882 thousand and installment loans decreased $3.9
million.
As of December 31, 2005, the real estate mortgage portfolio comprised
66% of total loans compared to 67% in 2004. Of this, 1-4 family
residential property represented 65% in 2005 and 67% in 2004.
Agricultural loans comprised 16% in 2005 and 16% in 2004 of the loan
portfolio. Approximately 82% of the agricultural loans are secured by
real estate in 2005 compared to 80% in 2004. The remainder of the
agricultural portfolio is used to purchase livestock, equipment and
other capital improvements and for general operation of the farm.
Generally, a secured interest is obtained in the capital assets,
equipment, livestock or crops. Automobile loans account for 33% in 2005
and 31% in 2004 of the consumer loan portfolio, while the purpose of the
remainder of this portfolio is used by customers for purchasing retail
goods, home improvement or other personal reasons. The commercial loan
portfolio is mainly for capital outlays and business operation.
Collateral is requested depending on the creditworthiness of the
borrower. Unsecured loans are made to individuals or companies mainly
based on the creditworthiness of the customer. Approximately 3% of the
loan portfolio is unsecured. Management is not aware of any significant
concentrations that may cause future material risks, which may result in
significant problems with future income and capital requirements.
The following table represents a summary of the Company's loan portfolio
by category for each of the last five years. There is no concentration
of loans (greater than 5% of the loan portfolio) in any industry. The
Company has no foreign loans or highly leveraged transactions in its
loan portfolio.
Loans Outstanding
At December 31 (in thousands)
2005 2004 2003 2002 2001
Commercial $ 27,302 $ 19,999 $ 14,278 $ 16,803 $ 18,618
Real Estate Construction 29,822 32,256 14,313 15,514 12,302
Real Estate Mortgage 245,326 238,661 222,342 182,958 168,684
Agricultural 59,328 57,497 56,615 52,188 53,640
Installment 8,954 9,062 12,978 17,134 21,952
Other 368 991 289 309 338
Total Loans 371,100 358,466 320,815 284,906 275,534
Less Deferred Loan Fees 188 10 54 12 19
Total Loans, Net of
Deferred Loan Fees 370,912 358,456 320,761 284,894 275,515
Less loans held for sale 0 175 7,759 740 2,343
Less Allowance For Loan Losses 4,310 4,163 3,820 3,395 3,386
Net Loans 366,602 354,118 309,182 280,759 269,786
The following table sets forth the maturity distribution and interest
sensitivity of selected loan categories at December 31, 2005.
Maturities are based upon contractual term. The total loans in this
report represent loans net of deferred loan fees, including loans held
for sale but excluding the allowance for loan losses. In addition,
deferred loan fees on the above schedule is netted with real estate
mortgage loans on the following schedule.
Loan Maturities and Interest Sensitivity
At December 31, 2005 (in thousands)
One Year One Through Over Total
or Less Five Years Five Years Loans
Commercial $ 15,547 $ 9,175 $ 2,580 $ 27,302
Real Estate Construction 21,771 6,425 1,626 29,822
Real Estate Mortgage 28,467 123,726 92,945 245,138
Agricultural 11,970 41,753 5,605 59,328
Installment 3,710 5,035 209 8,954
Other 368 0 0 368
Total Loans, Net of
Deferred Loan Fees 81,833 186,114 102,965 370,912
Fixed Rate Loans 20,885 160,735 33,481 215,101
Floating Rate Loans 60,948 25,379 69,484 155,811
Total Loans, Net of
Deferred Loan Fees 81,833 186,114 102,965 370,912
Mortgage Banking
The Company has been in Mortgage Banking since the early 1980's. The
activity in origination and sale of these loans fluctuates, mainly due
to changes in interest rates. Mortgage loan originations decreased from
$43 million in 2003 to $22 million in 2004, to $18 million in 2005.
Proceeds from the sale of loan were $19 million, $30 million and $37
million for the years 2005, 2004 and 2003, respectively. Mortgage loans
held for sale decreased from $175 thousand at December 31, 2004 to zero
at December 31, 2005. Loans are generally sold when they are made. The
volume of loan originations is inverse to rate changes. The rate
environment in 2004 and 2005 has been rising, and therefore resulting in
decreased loan originations in 2005 and 2004. The effect of these
changes was also reflected on the income statement. As a result, the
gain on sale of mortgage loans was $333 thousand in 2005 compared to
$376 thousand in 2004 and $853 thousand in 2003.
The Bank has sold various loans to the Federal Home Loan Mortgage
Corporation (FHLMC) while retaining the servicing rights. Gains and
losses on loan sales are recorded at the time of the cash sale, which
represents the premium or discount paid by the FHLMC. The Bank receives
a servicing fee from the FHLMC on each loan sold. Servicing rights are
capitalized based on the relative fair value of the rights and the
expected life of the loan and are included in intangible assets on the
balance sheet and expensed in proportion to, and over the period of,
estimated net servicing revenues. Mortgage servicing rights were $802
thousand at December 31, 2005, $876 thousand at December 31, 2004 and
$861 thousand at December 31, 2003. Amortization of mortgage servicing
rights was $253 thousand, $249 thousand and $224 thousand for the years
ended December 31, 2005, 2004 and 2003, respectively. See Note 4 in the
notes to consolidated financial statements included as Exhibit 13 for
additional information.
Deposits
Total deposits increased to $432 million in 2005, up $44 million from
2004. Noninterest bearing deposits decreased $1.9 million, time
deposits of $100 thousand and over increased $2.1 million, and other
interest bearing deposits increased $43.4 million. Public funds totaled
$85 million at the end of 2005 ($84 million was interest bearing), an
increase of $46 million over the end of 2004.
For 2004, total deposits increased $3 million to $388 million.
Noninterest bearing deposits increased $9 million, while time deposits
of $100 thousand and over increased $10 million, and other interest
bearing deposits decreased $15 million. Public funds totaled $39
million at the end of 2004 ($37 million was interest bearing).
The table below provides information on the maturities of time deposits
of $100,000 or more at December 31, 2005:
Maturity of Time Deposits of $100,000 or More
At December 31, 2005
(in thousands)
Maturing 3 Months or Less $14,266
Maturing over 3 Months through 6 Months 17,247
Maturing over 6 Months through 12 Months 19,011
Maturing over 12 Months 11,073
Total $61,597
Borrowings
The Company utilizes both long and short term borrowing. Long term
borrowing at the Bank is mainly from the Federal Home Loan Bank (FHLB).
This borrowing is mainly used to fund longer term, fixed rate mortgages,
as part of a leverage strategy and to assist in asset/liability
management. Advances are either paid monthly or at maturity. FHLB
advances were $66.7 million at December 31, 2004. During 2005, $7.9
million of FHLB borrowing was paid, and advances were made for an
additional $15 million. The 2005 advances were obtained mainly to fund
fixed rate loans, as detailed above. As of December 31, 2004, $59.7
million was borrowed from FHLB, an increase of $6.5 million from 2003.
In 2004, $18.4 million of FHLB advances were paid, and advances were
made for an additional $25 million. During 2004, repurchase agreements
were obtained as part of a $20 million leverage transaction. The
following table depicts relevant information concerning our short term
borrowings.
Short Term Borrowings
As of and for the year ended
December 31 (in thousands)
2005 2004 2003
Federal Funds Purchased:
Balance at Year end $ 1,470 $ 6,383 $ 5,266
Average Balance During the Year 3,001 3,706 249
Maximum Month End Balance 15,919 11,306 5,266
Year end rate 4.25% 2.50% 1.19%
Average annual rate 2.95% 1.52% 1.46%
Repurchase Agreements:
Balance at Year end $14,346 $18,314 $ 1,791
Average Balance During the Year 16,014 18,398 1,691
Maximum Month End Balance 18,072 21,947 2,411
Year end rate 3.18% 2.94% 1.65%
Average annual rate 3.13% 1.90% 1.34%
Other Borrowed Funds:
Balance at Year end $ 1,021 $ 896 $ 228
Average Balance During the Year 457 343 1,048
Maximum Month End Balance 1,021 1,011 1,777
Year end rate 4.00% 1.87% 0.73%
Average annual rate 3.10% 1.51% 7.27%
Contractual Obligations
The Bank has required future payments for a defined benefit retirement
plan, time deposits and long-term debt. See Note 13 to the consolidated
financial statements for further information on the defined benefit
retirement plan. The other required payments under such commitments at
December 31, 2005 are as follows:
Payments due by period (in thousands)
Less More
than 1 1-3 3-5 than 5
Contractual Obligations Total year years years years
FHLB advances $ 66,749 $ 13,183 $20,435 $22,555 $10,576
Subordinated debentures 7,217 - - - 7,217
Time deposits 192,951 149,083 41,719 2,149 -
Asset Quality
With respect to asset quality, management considers three categories of
assets to merit close scrutiny. These categories include: loans that
are currently nonperforming, other real estate, and loans that are
currently performing but which management believes require special
attention.
During periods of economic slowdown, the Company may experience an
increase in nonperforming loans.
The Company discontinues the accrual of interest on loans that become 90
days past due as to principal or interest unless reasons for delinquency
are documented such as the loan being well collateralized and in the
process of collection. A loan remains in a non-accrual status until
factors indicating doubtful collection no longer exist. A loan is
classified as a restructured loan when the interest rate is materially
reduced or the term is extended beyond the original maturity date
because of the inability of the borrower to service the interest
payments at market rates. Other real estate is recorded at the lower of
cost or fair market value less estimated costs to sell. A summary of
the components of nonperforming assets, including several ratios using
period-end data, is shown below.
Nonperforming Assets
At December 31 (dollars in thousands)
2005 2004 2003 2002 2001
Non-accrual Loans $ 774 $1,781 $1,844 $1,573 $ 935
Accruing Loans which are
Contractually past due
90 days or more 206 308 779 789 1,278
Restructured Loans 0 0 0 0 0
Total Nonperforming Loans 980 2,089 2,623 2,362 2,213
Other Real Estate 141 676 375 172 212
Total Nonperforming Assets 1,121 2,765 2,998 2,534 2,425
Total Nonperforming Loans as a
Percentage of Loans (including
loans held for sale) (1) 0.26% 0.58% 0.82% 0.83% 0.80%
Total Nonperforming Assets
as a Percentage of Total Assets 0.20% 0.52% 0.60% 0.60% 0.61%
Allowance to nonperforming assets 3.84 1.51 1.27 1.34 1.40
(1) Net of deferred loan fees
Total nonperforming assets at December 31, 2005 were $1.1 million
compared to $2.8 million at December 31, 2004 and $3.0 million at
December 31, 2003. The decrease from 2004 to 2005 is attributable to
the decrease in various loans being put on non-accrual and less in other
real estate. Total nonperforming loans were $1.0 million, $2.1 million
and $2.6 million at December 31, 2005, 2004 and 2003, respectively. The
non-accrual loan decrease from 2004 to 2005 is mainly attributable to
more concentration on improving loan quality. The amount of lost
interest on our non-accrual loans is immaterial. At December 31, 2005,
loans currently performing but which management believes require special
attention were not significant. The Company continues to follow its
long-standing policy of not engaging in international lending and not
concentrating lending activity in any one industry.
Impaired loans as of December 31, 2005 were $800 thousand compared to
$1.8 million in 2004 and $1.8 million in 2003. These amounts are
included in the total nonperforming and restructured loans presented in
the table above. See Note 4 in the notes to consolidated financial
statements included as Exhibit 13.
A loan is considered impaired when it is probable that all principal and
interest amounts will not be collected according to the loan contract.
The allowance for loan losses on impaired loans is determined using the
present value of estimated future cash flows of the loan, discounted at
the loan's effective interest rate or the fair value of the underlying
collateral. The entire change in present value of expected cash flows
is reported as a provision for loan losses in the same manner in which
impairment initially was recognized or as a reduction in the amount of
provision for loan losses that otherwise would be reported. The total
allowance for loan losses related to these loans was $240 thousand, $416
thousand and $345 thousand on December 31, 2005, 2004 and 2003,
respectively.
Loan Losses
The following table is a summary of the Company's loan loss experience
for each of the past five years.
For the Year Ended December 31 (in thousands)
2005 2004 2003 2002 2001
Balance at Beginning of Year $ 4,163 $ 3,820 $ 3,395 $ 3,386 $ 3,388
Balance of Allowance for Loan
Losses of Acquired Bank
at Acquisition Date 0 0 363 0 0
Amounts Charged-off:
Commercial 146 197 569 536 178
Real Estate Construction 0 0 0 18 0
Real Estate Mortgage 134 110 276 69 171
Agricultural 21 88 24 5 46
Consumer 225 293 529 701 751
Total Charged-off Loans 526 688 1,398 1,329 1,146
Recoveries on Amounts
Previously Charged-off:
Commercial 3 10 11 15 4
Real Estate Mortgage 11 42 1 19 2
Agricultural 16 21 21 10 1
Consumer 135 118 127 90 69
Total Recoveries 165 191 160 134 76
Net Charge-offs 361 497 1,238 1,195 1,070
Provision for Loan Losses 508 840 1,300 1,204 1,068
Balance at End of Year 4,310 4,163 3,820 3,395 3,386
Total Loans (1)
Average 361,732 338,465 290,502 281,105 273,504
At December 31 370,912 358,456 320,761 284,894 275,515
As a Percentage of Average Loans (1):
Net Charge-offs 0.10% 0.15% 0.43% 0.43% 0.39%
Provision for Loan Losses 0.14% 0.25% 0.45% 0.43% 0.39%
Allowance as a Percentage of
Year-end Loans (1) 1.16% 1.16% 1.19% 1.19% 1.23%
Beginning Allowance as a Multiple
of Net Charge-offs 11.5 7.7 2.7 2.8 3.2
Ending Allowance as a Multiple
of Nonperforming Assets 3.84 1.51 1.27 1.34 1.40
(1) Including loans held for sale, net of deferred loan fees
Loans are typically charged-off after being 120 days delinquent.
Limited exceptions for not charging-off a loan would be well documented
and approved by the appropriate responsible party or committee. The
provision for loan losses for 2005 was $508 thousand compared to $840
thousand in 2004 and $1.3 million in 2003. Net charge-offs were $362
thousand in 2005, $497 thousand in 2004 and $1.3 million in 2003. Net
charge-offs to average loans were 0.10%, 0.15% and 0.43% in 2005, 2004
and 2003, respectively. Based on the quality of the loan portfolio, the
loan loss provision decreased $332 thousand from 2004 to 2005 and
decreased $460 thousand from 2003 to 2004. In evaluating the allowance
for loan losses, management considers the composition of the loan
portfolio, the historical loan loss experience, the overall quality of
the loans and an assessment of current economic conditions. The recent
improvement in the economy along with management's emphasis on improving
the lending process resulted in fewer loan losses, lower loan loss
provision and improved loan quality numbers in 2005 and 2004. At
December 31, 2005, the allowance for loan losses was 1.16% of loans
outstanding compared to 1.16% at year-end 2004 and 1.19% in 2003.
Management believes the allowance for loan losses at the end of 2005 is
adequate to cover probable and incurred credit losses within the
portfolio.
The following tables set forth an allocation for the allowance for loan
losses and loans by category and a percentage distribution of the
allowance allocation. In making the allocation, management evaluates
the risk in each category, current economic conditions and charge-off
experience. An allocation for the allowance for loan losses is an
estimate of the portion of the allowance that will be used to cover
future charge-offs in each loan category, but it does not preclude any
portion of the allowance allocated to one type of loan being used to
absorb losses of another loan type.
Allowance for Loan Losses
At December 31 (in thousands)
2005 2004 2003 2002 2001
Dollars Percentage Dollars Percentage Dollars Percentage Dollars Percentage Dollars Percentage
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c> <c>
Commercial $ 507 11.77% $ 350 8.41% $ 262 6.86% $ 820 24.15% $ 291 8.59%
Real Estate Construction 566 13.14% 566 13.60% 266 6.96% 216 6.36% 194 5.73%
Real Estate Mortgage 1,785 41.42% 1,801 43.26% 1,804 47.23% 1,166 34.34% 1,602 47.31%
Agricultural 1,023 23.74% 1,028 24.69% 995 26.05% 698 20.56% 693 20.47%
Consumer 428 9.93% 418 10.04% 493 12.91% 495 14.58% 606 17.90%
Total $ 4,309 100.00% $ 4,163 100.00% $ 3,820 100.00% $ 3,395 100.00% $ 3,386 100.00%
Loans
2005 2004 2003 2002 2001
Dollars Percentage Dollars Percentage Dollars Percentage Dollars Percentage Dollars Percentage
Percentage
<s> <c> <c> <c> <c> <c> <c> <c> <c> <c> <c>
Commercial $ 27,302 7.36% $ 19,999 5.58% $ 14,278 4.45% $ 16,803 5.90% $ 18,618 6.76%
Real Estate Construction 29,822 8.04% 32,256 9.00% 14,313 4.46% 15,514 5.45% 12,302 4.47%
Real Estate Mortgage 245,138 66.09% 238,651 66.58% 222,288 69.30% 182,946 64.22% 168,665 61.22%
Agricultural 59,328 16.00% 57,497 16.04% 56,615 17.65% 52,188 18.32% 53,640 19.47%
Consumer 8,954 2.41% 9,062 2.53% 12,978 4.05% 17,134 6.01% 21,952 7.97%
Other 368 0.10% 991 0.28% 289 0.09% 309 0.11% 338 0.12%
Total, Net (1) $370,912 100.00% $358,456 100.00% $320,761 100.00% $284,894 100.00% $275,515 100.00%
(1) Including loans held for sale, net of deferred loan fees
Off-balance Sheet Arrangements
Some financial instruments, such as loan commitments, credit lines, letters of
credit, and overdraft protection, are issued to meet customer financing needs.
These are agreements to provide credit or to support the credit of others, as
long as conditions established in the contract are met, and usually have
expiration dates. Commitments may expire without being used. Off-balance
sheet risk to credit loss exists up to the face amount of these instruments,
although material losses are not anticipated. The same credit policies are
used to make such commitments as are used for loans, including obtaining
collateral at exercise of the commitment.
Financial instruments with off-balance sheet risk were as follows at year-end:
2005 2004
Unused lines of credit $ 56,354,000 $ 54,785,000
Commitments to make loans 156,000 1,272,000
Letters of credit 183,000 145,000
Unused lines of credit are substantially all at variable rates. Commitments to
make loans are generally made for a period of 60 days or less and are primarily
fixed at current market rates ranging from 5.625% to 6.125% with maturities
ranging from 15 to 30 years and are intended to be sold.
Capital
As displayed by the following table, the Company's Tier I capital (as
defined by the Federal Reserve Board under the Board's risk-based
guidelines) at December 31, 2005 increased $2.9 million to $44.6
million. During 2005, the Company purchased 20,976 shares of its stock
for $629 thousand. These repurchases partially offset the $5.8 million
in net income for 2005. Stockholders' equity, excluding accumulated
other comprehensive income, was $47.5 million at December 31, 2005.
Included in Tier I capital is $7 million of trust preferred securities
issued in August 2003. The disallowed amount of stockholders' equity is
mainly attributable to the goodwill and core deposit intangible,
resulting from the Kentucky First acquisition (see Note 6 in the Notes
to Consolidated Financial Statements for more information on the
goodwill and core deposit intangible assets). The Company's risk-based
capital and leverage ratios, as shown in the following table, exceeded
the levels required to be considered "well capitalized". The leverage
ratio compares Tier I capital to total average assets less disallowed
amounts of goodwill.
At December 31 (dollars in thousands)
2005 2004 Change
Stockholders' Equity (1) $ 47,479 $ 44,703 2,776
Trust Preferred Securities 7,000 7,000 0
Less Disallowed Amount 9,877 10,043 (166)
Tier I Capital 44,602 41,660 2,942
Allowance for Loan Losses 4,385 4,163 222
Other 143 164 (21)
Tier II Capital 4,528 4,327 201
Total Capital 49,130 45,987 3,143
Total Risk Weighted Assets 366,393 348,191 18,202
Ratios:
Tier I Capital to Risk-weighted Assets 12.2% 12.0% 0.2%
Total Capital to Risk-weighted Assets 13.4% 13.2% 0.2%
Leverage 8.0% 8.2% -0.2%
(1) Excluding accumulated other comprehensive income.
The Federal Deposit Insurance Corporation Improvement Act of 1991
("FDICIA") established five capital categories for insured depository
institutions under its Prompt Corrective Action Provisions. The bank
regulatory agencies adopted regulations, which became effective in 1992,
defining these five capital categories for banks they regulate. The
categories vary from "well capitalized" to "critically
undercapitalized". A "well capitalized" bank is defined as one with a
total risk-based capital ratio of 10% or more, a Tier I risk-based
capital ratio of 6% or more, a leverage ratio of 5% or more, and one not
subject to any order, written agreement, capital directive, or prompt
corrective action directive to meet or maintain a specific capital
level. At December 31, 2005, the bank had ratios that exceeded the
minimum requirements established for the "well capitalized" category.
In management's opinion, there are no other known trends, events or
uncertainties that will have or that are reasonably likely to have a
material effect on the Company's liquidity, capital resources or
operations.
Securities and Federal Funds Sold
Securities, classified as available for sale, increased from $126.8
million at December 31, 2004 to $160.7 million at December 31, 2005.
The increase is mainly attributable to a short term increase in
deposits. Federal funds sold totaled $2.7 million at December 31, 2005
and $3.2 million at December 31, 2004.
Per Company policy, fixed rate asset backed securities will not have an
average life exceeding seven years, but final maturity may be longer.
Adjustable rate securities shall adjust within three years per Company
policy. Of the $1.4 million of adjustable asset backed securities held
on December 31, 2005, $303 thousand are repriceable monthly and the
remaining $1.1 million are repriceable annually. Of the $2.3 million of
adjustable asset backed securities held on December 31, 2004, $650
thousand are repriceable monthly and the remaining $1.6 million are
repriceable annually. Unrealized gains (losses) on investment
securities are temporary and change inversely with movements in interest
rates. In addition, some prepayment risk exists on mortgage-backed
securities and prepayments are likely to increase with decreases in
interest rates. The following tables present the investment securities
for each of the past three years and the maturity and yield
characteristics of securities as of December 31, 2005.
Investment Securities at market value
At December 31 (in thousands)
2005 2004 2003
Available for Sale
U.S. treasury $ 2,974 $ 2,984 $ 3,033
U.S. government agencies 67,033 39,031 36,634
States and political subdivisions 37,463 35,160 39,142
Mortgage-backed
Fixed -
GNMA, FNMA, FHLMC Passthroughs 33,566 35,013 29,079
GNMA, FNMA, FHLMC CMO's 17,390 11,335 12,940
Total 50,956 46,348 42,019
Variable -
GNMA, FNMA, FHLMC Passthroughs 1,081 1,623 4,161
GNMA, FNMA, FHLMC CMO's 303 649 1,202
Total 1,384 2,272 5,363
Total mortgage-backed 52,340 48,620 47,382
Other 842 972 2,599
Total 160,652 126,767 128,790
Maturity Distribution of Securities
December 31, 2005 (in thousands)
Over One Over Five Asset
Year Years Backed
One Year Through Through Over Ten & Equity
or Less Five Years Ten Years Years Securities Total
<s> <c> <c> <c> <c> <c> <c>
Available for Sale
U.S. treasury $ 2,974 $ - $ - $ - $ - $ 2,974
U.S. government agencies 24,735 36,753 5,545 0 0 67,033
States and political subdivisions 1,409 4,796 14,317 16,941 0 37,463
Mortgage-backed 0 0 0 0 52,340 52,340
Equity Securities 0 0 0 0 842 842
Other 0 0 0 0
Total 29,118 41,549 19,862 16,941 53,182 160,652
Percent of Total 18.1% 25.9% 12.4% 10.5% 33.1% 100.0%
Weighted Average Yield (1) 3.42% 4.15% 6.08% 6.54% 4.39% 4.59%
(1) Tax Equivalent Yield
Impact of Inflation and Changing Prices
The majority of the Company's assets and liabilities are monetary in
nature. Therefore, the Company differs greatly from most commercial and
industrial companies that have significant investments in nonmonetary
assets and inventories. However, inflation does have an important
impact on the growth of assets in the banking industry and the resulting
need to increase equity capital at higher than normal rates in order to
maintain an appropriate equity to assets ratio. Inflation also affects
other expenses, which tend to rise during periods of inflation.
Other Accounting Issues
FAS 123, Revised, requires companies to record compensation cost for stock
options provided to employees in return for employment service. The cost is
measured at the fair value of the options when granted, and this cost is
expensed over the employment service period, which is normally the vesting
period of the options. This will apply to awards granted or modified in
fiscal years beginning in 2006. Compensation cost will also be recorded for
prior option grants that vest after the date of adoption. The effect on
results of operations will depend on the level of future option grants and the
calculation of the fair value of the options granted at such future date, as
well as the vesting periods provided, and so cannot currently be predicted.
Existing options that will vest after adoption date are expected to result in
additional compensation expense of approximately $48,000 in 2006 and $41,000
in 2007.
Item 7A. Asset/Liability Management, Interest Rate Sensitivity, Market
Risk and Liquidity
Asset/Liability management control is designed to ensure safety and
soundness, maintain liquidity and regulatory capital standards, and
achieve acceptable net interest income. The Company's exposure to
market risk is reviewed on a regular basis by the Asset/Liability
Committee.
Management considers interest rate risk to be the most significant
market risk. Interest rate risk is the potential of economic losses due
to future interest rate changes. These economic losses can be reflected
as a loss of future net interest income and/or a loss of current fair
market values. The objective is to measure the effect on net interest
income and to adjust the balance sheet to minimize the inherent risk
while at the same time maximize income.
Management realizes certain risks are inherent and that the goal is to
identify and minimize the risks. The primary tool used by management is
an interest rate shock simulation model. Certain assumptions, such as
prepayment risks, are included in the model. However, actual
prepayments may differ from those assumptions. In addition, immediate
withdrawal of interest checking and other savings accounts may have an
effect on the results of the model. The Bank has no market risk
sensitive instruments held for trading purposes.
The following table depicts the change in net interest income resulting
from 100 and 300 basis point changes in rates. The projections are
based on balance sheet growth assumptions and repricing opportunities
for new, maturing and adjustable rate amounts. In addition, the
projected percentage changes from level rates are outlined below along
with the Board of Directors approved limits. As of December 31, 2005
the projected net interest income percentages are within the Board of
Directors limits. The projected net interest income report summarizing
the Company's interest rate sensitivity as of December 31, 2005 and
December 31, 2004 is as follows:
Projected Net Interest Income (December 31, 2005)
Level
-300 -100 Rates +100 +300
<s> <c> <c> <c> <c> <c>
Year One (1/06 - 12/06)
Interest Income $27,781 $31,881 $33,928 $35,909 $39,702
Interest Expense 11,679 14,376 15,864 17,352 20,328
Net Interest Income 16,102 17,505 18,064 18,557 19,374
Net interest income dollar change (1,962) (559) 493 1,310
Net interest income percentage change -10.9% -3.1% N/A 2.7% 7.3%
Limitation on % Change >-18.0% >-6.0% N/A >-4.0% >-10.0%
Projected Net Interest Income (December 31, 2004)
Level
-300 -100 Rates +100 +300
<s> <c> <c> <c> <c> <c>
Year One (1/05 - 12/05)
Interest Income $21,816 $25,843 $27,887 $29,798 $33,486
Interest Expense 8,899 9,538 10,762 11,985 14,433
Net Interest Income 12,917 16,305 17,125 17,813 19,053
Net interest income dollar change (4,208) (820) 688 1,928
Net interest income percentage change -24.6% -4.8% N/A 4.0% 11.3%
Limitation on % Change >-10.0% >-4.0% N/A >-4.0% >-10.0%
The numbers in 2005 show less fluctuation when compared to 2004. In
2005, year one reflected a decrease in net interest income of 3.1%
compared to 4.8% projected decrease from 2004 with a 100 basis point
decline. The 300 basis point increase in rates reflected a 7.3%
increase in net interest income in 2005 compared to an 11.3% increase in
2004. The risk is less in 2005 due to the current status of existing
interest rates and their effect on rate sensitive assets and rate
sensitive liabilities. An increase in rates would improve net interest
income.
Management measures the Company's interest rate risk by computing
estimated changes in net interest income in the event of a range of
assumed changes in market interest rates. The Company's exposure to
interest rates is reviewed on a monthly basis by senior management and
quarterly with the Board of Directors. Exposure to interest rate risk
is measured with the use of interest rate sensitivity analysis to
determine the change in net interest income in the event of hypothetical
changes in interest rates, while interest rate sensitivity gap analysis
is used to determine the repricing characteristics of the Company's
assets and liabilities. If estimated changes to net interest income are
not within the limits established by the Board, the Board may direct
management to adjust the Company's asset and liability mix to bring
interest rate risk within Board approved limits.
Liquidity risk is the possibility that the Company may not be able to
meet its cash requirements. Management of liquidity risk includes
maintenance of adequate cash and sources of cash to fund operations and
meet the needs of borrowers, depositors and creditors. Excess liquidity
has a negative impact on earnings resulting from the lower yields on
short-term assets.
In addition to cash and cash equivalents, the securities portfolio
provides an important source of liquidity. Total securities maturing
within one year along with cash and cash equivalents totaled $43.3
million at December 31, 2005. Additionally, securities available-for-
sale with maturities greater than one year totaled $131.6 million at
December 31, 2005. The available for sale securities are available to
meet liquidity needs on a continuing basis.
The Company maintains a relatively stable base of customer deposits and
its steady growth is expected to be adequate to meet its funding
demands. In addition, management believes the majority of its $100,000
or more certificates of deposit are no more volatile than its core
deposits. At December 31, 2005 these balances totaled $61.6 million,
approximately 14% of total deposits.
The Company also relies on FHLB advances for both liquidity and
asset/liability management purposes. These advances are used primarily
to fund long-term fixed rate residential mortgage loans. We have
sufficient collateral to borrow an additional $20 million from the FHLB
at December 31, 2005.
Generally, the Company relies upon net cash inflows from financing
activities, supplemented by net cash inflows from operating activities,
to provide cash used in its investing activities. As is typical of many
financial institutions, significant financing activities include deposit
gathering, and the use of short-term borrowings, such as federal funds
purchased and securities sold under repurchase agreements along with
long-term debt. The Company's primary investing activities include
purchasing investment securities and loan originations. Management
believes there is sufficient cash flow from operations to meet investing
and liquidity needs related to reasonable borrower, depositor and
creditor needs in the present economic environment.
The cash flow statements for the periods presented provide an indication
of the Company's sources and uses of cash as well as an indication of
the ability of the Company to maintain an adequate level of liquidity.
A number of other techniques are used to measure the liquidity position,
including the ratios presented below. These ratios are calculated based
on annual averages for each year.
Liquidity Ratios
December 31
2005 2004 2003
Average Loans (including loans held
for sale)/Average Deposits 90.4% 88.3% 89.6%
Average Securities sold under
agreements to repurchase and other
borrowings/Average Assets 4.9% 5.7% 1.3%
This chart shows that the loan to deposit ratio increased in 2005 and
decreased in 2004. The increase in the ratio in 2005 compared to 2004
is mainly attributable a larger increase in deposits compared to loans.
The increase in the latter ratio in 2004 above is mainly a result of the
leverage transaction entered into in the beginning on 2004. Twenty
million dollars of securities were purchased and were funded by
repurchase agreements.
Item 8. Financial Statements
The consolidated financial statements of the Company together with the
notes thereto and report of independent auditors are contained in the
Company's 2005 Annual Report to Stockholders included as Exhibit 13, and
are incorporated herein by reference. No other portion of the 2005
Annual Report to Stockholders is to be deemed "filed" as part of this
filing.
Item 9. Changes In and Disagreements with Accountants on Accounting and
Financial Disclosure
None
Item 9A. Controls and Procedures
The Company's management, with participation of the Company's Chief
Executive Officer and Chief Financial Officer, has evaluated the
effectiveness of the Company's disclosure controls and procedures as of
December 31, 2005. Based on the evaluation, the Company's Chief
Executive Officer and Chief Financial Officer concluded that the
Company's disclosure controls and procedures were effective as of
December 31, 2005. There was no change in the Company's internal
control over financial reporting during the fourth quarter of 2005 that
has materially affected, or is reasonably likely to materially affect,
such internal control over financial reporting.
Item 9B. Other Information
None
PART III
Item 10. Directors and Executive Officers of the Registrant
Under the Company's Articles of Incorporation, the Board of Directors
consists of three different classes, each to serve, subject to the
provisions of the Articles of Incorporation and Bylaws, for a three year
term and until his successor is duly elected and qualified. The names
of the directors and their terms are set forth below.
Terms expiring in 2006:
Betty J. Long, age 58, is retired President and CEO of First Federal,
Cynthiana. She has been a director of the Company since 2003.
Ted McClain, age 54, is an insurance agent with Hopewell Insurance
Company. He has been a director of Kentucky Bank since 2002 and the
Company since 2003.
Buckner Woodford, age 61, is Chairman of the Board of Kentucky
Bancshares, Inc. and Kentucky Bank. He was President and Chief
Executive Officer of the Company from 1991 to 2004, and President and
Chief Executive Officer of the Kentucky Bank from 1984 to 2004. He has
been a director of Kentucky Bank since 1971 and the Company since
inception.
Terms expiring in 2007:
William Arvin, age 65, is an attorney. He has been a director of
Kentucky Bank and the Company since 1995.
Louis Prichard, age 52, is President and Chief Executive Officer of
Kentucky Bank. He was President and Chief Operating Officer of Kentucky
Bank from 2003 to 2004. He has been a director of Kentucky Bank and the
Company since 2003. Since 1983, he was in banking in Danville and was
the Chairman and Chief Executive Officer of Boyle Bancshares, Inc. and
their banking subsidiary, Farmers Bank for 7 years before joining the
Company in 2003.
Woodford Van Meter, age 52, is an opthalmologist. He has been a
director of Kentucky Bank and the Company since 2004.
Terms expiring in 2008:
Henry Hinkle, age 54, is President of Hinkle Construction Company. He
has been a director of Kentucky Bank and the Company since 1989.
Theodore Kuster, age 62, is a farmer and thoroughbred horse breeder. He
has been a director of Kentucky Bank since 1979 and the Company since
1985.
Robert G. Thompson, age 56, is a farmer and thoroughbred horse breeder.
He has been a director of Kentucky Bank and the Company since 1991.
The Company's other executive officers are Norman J. Fryman, age 56 and
Gregory J. Dawson, age 45. Mr. Fryman is the Vice President of Sales
and Service of Kentucky Bank and has been with the Company since 1977.
Mr. Dawson is the Chief Financial Officer and has been with the Company
since 1985.
The Company has adopted a code of ethics for its Chief Executive Officer
and its Chief Financial Officer. A copy of the code of ethics may be
obtained, without charge, by contacting the CFO.
The Company has named Betty J. Long of the audit committee as its
financial expert and she is independent as that term is used in Item
7(d)(3)(iv) of Schedule 14A under the Securities Exchange Act of 1934.
Item 11. Executive Compensation
The following table sets forth information with respect to the
compensation of the Chairman of the Board (Buckner Woodford), President
and Chief Executive Officer (Louis Prichard), Vice President of Sales
and Service (Norman J. Fryman) and Chief Financial Officer (Gregory J.
Dawson) of the Company (the "Named Executive Officers"). No other
executive officer earned total salary and bonus in excess of $100,000.
Summary Compensation Table
Long Term
Annual Compensation Compensation
Options All Other
Name Salary Bonus Granted Compensation(1)
Buckner Woodford
2005 $ 80,000 $10,500 1,000 $ 7,682
2004 203,000 39,585 1,000 13,653
2003 200,000 24,000 1,000 14,000
Louis Prichard
2005 175,000 30,625 4,000 12,231
2004 140,000 20,475 1,000 9,160
2003 125,000 11,700 3,000 7,605
Norman J. Fryman
2005 113,949 12,306 500 7,971
2004 105,265 17,958 500 6,871
2003 97,057 8,371 500 6,763
Gregory J. Dawson
2005 87,064 13,060 500 6,083
2004 83,000 13,554 400 5,124
2003 73,531 4,044 400 4,983
(1) Represents the Company's matching contribution to the qualified
profit sharing plan that includes a 401(k) provision
The following table contains information regarding the grant of stock
options under the Company's stock option plan to the Named Executive
Officers during the year ended December 31, 2005. In addition, in
accordance with rules of the Securities and Exchange Commission, the
following table sets forth the hypothetical grant date present value
with respect to the referenced options, using the Black-Scholes Option
Pricing Model.
Option Grants in the Last Fiscal Year
% of Total
Options Grant
Shares Granted to Exercise Date
Granted Employees Price Expiration Present
Name (#) in 2005 ($/Sh) Date Value($)
Buckner Woodford 1,000 5.3% $30.50 1/3/15 $ 4,820
Louis Prichard 4,000 21.4 30.50 1/3/15 19,280
Norman J. Fryman 500 2.7 30.50 1/3/15 2,410
Gregory J. Dawson 500 2.7 30.50 1/3/15 2,410
The following table sets forth certain information regarding options
exercised by the Named Executive Officers during calendar year 2005 and
unexercised stock options held by them as of December 31, 2005.
Aggregated Option Exercises in Calendar 2005
and Year-end Stock Option Values
Shares Number of Securities Value of Unexercised
Acquired Value Underlying Unexercised In-the-Money
on Exercise Realized Options at 12/31/05 Options at 12/31/05
Name (#) ($) Exercisable/Unexercisable Exercisable/Unexercisable
<s> <c> <c> <c> <c>
Buckner Woodford n/a n/a 5,400/2,700 $ 40,010/$ 3,745
Louis Prichard n/a n/a 1,400/6,600 4,860/ 7,290
Norman J. Fryman n/a n/a 1,420/1,380 10,186/ 2,004
Gregory J. Dawson 1,000 $16,100 2,700/1,150 28,194/ 1,366
No SAR's exist for the Company.
Compensation of Directors
Each director of the Company is a director of Kentucky Bank, except for
Betty J. Long. Company Directors are paid $400 for each Company and
Kentucky Bank board meeting attended ($400 for one paid absence per
year) and non-employee Company directors are paid $100 for each Kentucky
Bank committee meeting attended. Each Company Director is paid an
annual retainer of $1,500 plus the audit committee chairman is paid an
additional annual retainer of $2,000. Non-employee Directors of
Kentucky Bank are also granted a 10-year option to purchase 100 shares
of the Company's common stock following each year in which Kentucky Bank
has a return on assets of 1 percent or greater. The option's exercise
price is the fair market value per share on the date of grant.
Pension Plan
The following table sets forth the annual benefits which an eligible
employee would receive under the Company's qualified defined benefit
pension plan based on remuneration that is covered under the plan and
years of service with the Company and its subsidiaries.
Years of Service
Remuneration 5 10 15 20 25 30 35
$ 25,000 $ 1,250 $ 2,500 $ 3,750 $ 5,000 $ 6,250 $ 7,500 $ 8,750
50,000 2,500 5,000 7,500 10,000 12,500 15,000 17,500
75,000 3,750 7,500 11,250 15,000 18,750 22,500 26,250
100,000 5,000 10,000 15,000 20,000 25,000 30,000 35,000
125,000 6,250 12,500 18,750 25,000 31,250 37,500 43,750
150,000 7,500 15,000 22,500 30,000 37,500 45,000 52,500
175,000 8,750 17,500 26,250 35,000 43,750 52,500 61,250
200,000 10,000 20,000 30,000 40,000 50,000 60,000 70,000
225,000 11,250 22,500 33,750 45,000 56,250 67,500 78,750
250,000 12,500 25,000 37,500 50,000 62,500 75,000 87,500
In general, a participant's remuneration covered by the Company's
pension plan is his or her average annual cash compensation (W-2
earnings) for the highest 5 years. The years of service are 34 years
for Mr. Woodford, 2 years for Mr. Prichard, 21 years for Mr. Fryman and
20 years for Mr. Dawson. The normal benefit is a life annuity based on
the 1984 Unisex Pension pre-retirement mortality table and a pre-
retirement interest rate of 7%. The benefits are not subject to a
deduction for Social Security or other offset amounts.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Set forth below are the number of shares of the Company's common stock
beneficially owned by each director and executive officer, and all
current directors and executive officers as a group as of December 31,
2005.
Name Shares Beneficially Owned(1)
Number Percentage
William Arvin (2) 30,171 1.1%
Gregory J. Dawson (3) 9,733 *
Norman J. Fryman (4) 2,825 *
Henry Hinkle (5) 30,755 1.1%
Theodore Kuster (6) 18,030 *
Betty J. Long (7) 1,600 *
Ted McClain (8) 1,475 *
Louis Prichard (9) 3,510 *
Robert G. Thompson (10) 6,050 *
Woodford Van Meter (11) 31,400 1.1%
Buckner Woodford (12) 245,791 9.0%
All directors and officers
(11 persons) as a group
(consisting of those
persons named above)(13) 381,340 13.9%
* Less than 1%
1) Beneficial ownership as reported in the above table has been
determined in accordance with Rule 13d-3 under the Exchange Act. Unless
otherwise indicated, beneficial ownership includes both sole or shared
voting and sole or shared investment power.
2) Includes 11,858 shares held in a retirement account, 11,968 shares
held of record by Mr. Arvin's wife, as to which Mr. Arvin disclaims
beneficial ownership, 5,465 shares held jointly with his wife and 750
shares that Mr. Arvin may acquire upon exercise of outstanding stock
options.
3) Includes 2,700 shares that Mr. Dawson may acquire upon exercise of
outstanding stock options.
4) Includes 1,420 shares that Mr. Fryman may acquire upon exercise of
outstanding stock options.
5) Includes 1,000 shares held by his wife and 640 shares held by three
sons, as to which Mr. Hinkle disclaims beneficial ownership. Includes
26,500 shares held of record by Hinkle Contracting Company, as to which
Mr. Hinkle, as president, has shared voting power. Also includes 850
shares that Mr. Hinkle may acquire upon exercise of outstanding stock
options.
6) Includes 6,250 shares held of record by Mr. Kuster's wife, as to
which Mr. Kuster disclaims beneficial ownership. Also includes 5,500
shares held in a retirement account and 450 shares that Mr. Kuster may
acquire upon exercise of outstanding stock options.
7) Includes 1,600 shares held in a retirement account.
8) Includes 300 shares that Mr. McClain may acquire upon exercise of
outstanding stock options.
9) Includes 2,110 shares held jointly with his wife and 1,400 shares
that Mr. Prichard may acquire upon exercise of outstanding stock
options.
10) Includes 200 shares held of record by Mr. Thomprson's wife, as to
which Mr. Thompson disclaims beneficial ownership. Includes 650 shares
that Mr. Thompson may acquire upon exercise of outstanding stock
options.
11) Includes 2,200 shares held of record by Mr. Van Meter's wife, as to
which Mr. Van Meter disclaims beneficial ownership. Includes 100 shares
that Mr. Van Meter may acquire upon exercise of outstanding stock
options.
12) Includes 8,000 shares held by his wife, as to which Mr. Woodford
disclaims beneficial ownership. Also includes 208 shares held in a
retirement account and 5,400 shares that Mr. Woodford may acquire upon
exercise of outstanding stock options.
13) Includes 14,020 shares that may be acquired upon exercise of
outstanding stock options.
The following table sets forth as of December 31, 2005 the only person
known by the Company to own beneficially (as determined in accordance
with the rules and regulations of the Commission) more than 5% of the
outstanding common stock. See note 12 in the preceding table for
further information.
Name and Address Shares Beneficially
of Beneficial Owner Owned Percentage
Buckner Woodford 245,791 9.0%
340 Stoner Avenue
Paris, Kentucky 40361
The following table sets forth as of December 31, 2005 the Company's
common stock authorized for issuance under equity compensation plans.
The Company's shareholders have approved all of the Company's equity
compensation plans.
Number of Securities
Number of Securities remaining available for
To be issued Weighted average future issuance under
Upon exercise of exercise price of equity compensation plans
Outstanding options, outstanding options, (excluding securities
Plan category warrants and rights warrants and rights reflected in column (a)
Equity compensation plans
Approved by security holders:
<s> <c> <c> <c>
Employee Gift Program 0 $ n/a 572
1993 Employee Stock Ownership
Incentive Plan 24,060 17.59 0
1993 Non-Employee Directors
Stock Ownership Plan 6,100 26.26 9,300
1999 Employee Stock Option Plan 46,904 29.16 51,744
2005 Restricted Stock Grant Plan 0 n/a 50,000
Total 77,064 $25.32 111,616
Item 13. Certain Relationships and Related Transactions
Directors and officers of the Company and their associates were
customers of and had transactions with the Company's subsidiary bank in
the ordinary course of business during the year ended December 31, 2005.
Similar transactions may be expected to take place with the Company's
subsidiary bank in the future. Outstanding loans and commitments made
by such subsidiary bank in transactions with the Company's directors and
officers and their associates were made on substantially the same terms,
including interest rates and collateral, as those prevailing at the time
for comparable transactions with other persons and did not involve more
than a normal risk of collectibility or present other unfavorable
features. Certain directors and executive officers were loan customers
of Kentucky Bank and outstanding loans were $4.7 million as of December
31, 2005 and $4.4 million as of December 31, 2004. See Note 4 in the
notes to consolidated financial statements included as Exhibit 13. The
Company purchased various types of insurance with aggregate premiums
amounting to $218 thousand in 2005 from Hopewell Insurance Company.
Director Ted McClain owns 33% of this company and is one of their
insurance agents.
Item 14. Principal Accountant Fees and Services
The Audit Committee has pre-approved that management of the Company may
consult with the primary independent auditor concerning certain additional
services outside of the audit work that was specifically approved in the
engagement letter for those services. Included were services such as:
1. Discussions related to accounting for mergers and acquisitions,
2. Tax return preparation
3. Discussions concerning loan review,
4. Discussions regarding regulatory requirements,
5. Data processing and retirement plan audits, and
6. Profit enhancement and other consulting.
The fees for services provided by the primary independent auditor, Crowe
Chizek for 2005 and for 2004 were as follows:
Audit fees - Fees for the financial statement audit, and the review of the
Company's Form 10-Q's were $92,050 for 2005 and $99,250 for 2004.
Audit related fees - Aggregate fees for all assurance and related services
were $14,600 for 2005 and $12,950 for 2004. These fees were incurred for
audits of benefit plans. The 2005 and 2004 amounts were preapproved by the
audit committee.
Tax fees - Fees related to tax compliance, advice and planning were $14,450
for 2005 and $14,145 for 2004. The 2005 and 2004 amounts were preapproved
by the audit committee.
All other fees - Consulting fees related to acquisitions, profitability and
risk management were $14,400 for 2005 and $16,000 for 2004. The 2005 and
2004 amounts were preapproved by the audit committee.
All services provided by the Corporation's primary independent auditor in
2005 and 2004 were approved by the Audit Committee.
Part IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a) The following exhibits are incorporated by reference herein or made a
part of this Form 10-K:
2.1 Agreement and Plan of Merger with Peoples Bancorp of Sandy
Hook is incorporated by reference to Exhibit 2.1 of the
Registrant's Current Report on Form 8-K dated February 24,
2006 (File No. 33-96358).
3.1 Articles of Incorporation of the Registrant are incorporated by
reference to Exhibit 3.1 of the Registrant's Quarterly Report
on Form 10-Q for the quarterly period ending March 31, 2000
(File No. 33-96358).
3.2 Bylaws of the Registrant are incorporated by reference to
Exhibit 3.1 of the Registrant's Quarterly Report on Form 10-Q
for the quarterly period ending June 30, 2000 (File No.
33-96358).
3.3 Articles of Amendment to Amended and Restated Articles of
Incorporation of the Registrant.
10.1 Kentucky Bancshares, Inc. 1993 Employee Stock Ownership
Incentive Plan is incorporated by reference to Exhibit 10.2 of
the Registrant's Registration Statement on Form S-4 (File No.
33-96358).*
10.2 Kentucky Bancshares, Inc. 1993 Non-Employee Directors Stock
Ownership Incentive Plan is incorporated by reference to
Exhibit 10.3 of the Registrant's Registration Statement on Form
S-4 (File No. 33-96358).*
10.3 Kentucky Bancshares, Inc. 1999 Employee Stock Option Plan is
incorporated by reference to Exhibit 99.1 of the Registrant's
Form 10-K for the fiscal year ended December 31, 1998.*
10.4 Schedule of 2006 Compensation Arrangements for Named Executive
Officers is incorporated by reference to the Registrant's Current
Report on Form 8-K dated December 20, 2005 (File No. 33-96358).*
10.5 Schedule of 2006 Compensation Arrangement for Named Executive
Officer.*
10.6 2005 Restricted Stock Grant Plan, including form of Award
Agreement, as incorporated by reference to Exhibit 10.1 of the
Registrant's Current Report on Form 8-K dated February 15, 2005
(File No. 33-96358).*
11 Computation of earnings per share - See Note 12 in the notes to
consolidated financial statements included as Exhibit 13.
13 Kentucky Bancshares, Inc. 2005 Annual Report and Proxy
Statement, including Financial Statements:
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Comprehensive Income
Consolidated Statements of Changes in Stockholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Report of Independent Auditors
21 Subsidiaries of Registrant
23 Consent of Crowe Chizek and Company LLC
31.1 Certification of Chief Executive Officer pursuant to Rule 13a-
14(a) and Rule 15d-14(a) of the Securities Exchange Act, as
amended.
31.2 Certification of Chief Financial Officer pursuant to Rule 13a-
14(a) and Rule 15d-14(a) of the Securities Exchange Act, as
amended.
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
* Denotes a management contract or compensatory plan or arrangement
of the Registrant required to be filed as an exhibit pursuant to Item
601(10) (iii) of Regulation S-K.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
Kentucky Bancshares, Inc.
By: __/s/Louis Prichard __
Louis Prichard, President and Chief Executive Officer, Director
March 24, 2006
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
__/s/Louis Prichard _______ March 24, 2006
Louis Prichard, President and Chief Executive Officer, Director
__/s/Gregory J. Dawson_______ March 28, 2006
Gregory J. Dawson, Chief Financial and Accounting Officer
__/s/Buckner Woodford________ March 28, 2006
Buckner Woodford, Chairman of the Board, Director
_____________________________ March 28, 2006
William Arvin, Director
__/s/Henry Hinkle_ _ __ ____ March 28, 2006
Henry Hinkle, Director
_____________________________ March 28, 2006
Theodore Kuster, Director
__/s/Betty J. Long___________ March 21, 2006
Betty J. Long, Director
__/s/Ted McClain____________ March 21, 2006
Ted McClain, Director
__/s/Robert G. Thompson______ March 21, 2006
Robert G. Thompson, Director
_____________________________ March 28, 2006
Woodford Van Meter, Director
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO
SECTION 15(d) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED
SECURITIES PURSUANT TO SECTION 12 OF THE ACT.
The Registrant refers to Exhibit 13 to the Form 10-K.
INDEX TO EXHIBITS
Exhibit
Number Description of Document
2.1 Agreement and Plan of Merger with Peoples Bancorp of Sandy
Hook is incorporated by reference to Exhibit 2.1 of the
Registrant's Current Report on Form 8-K dated February 24,
2006 (File No. 33-96358).
3.1 Articles of Incorporation of the Registrant are incorporated
by reference to Exhibit 3.1 of the Registrant's Quarterly
Report on Form 10-Q for the quarterly period ending March
31, 2000 (File No. 33-96358).
3.2 Bylaws of the Registrant are incorporated by reference to
Exhibit 3.1 of the Registrant's Quarterly Report on Form 10-
Q for the quarterly period ending June 30, 2000 (File No.
33-96358).
3.3 Articles of Amendment to Amended and Restated Articles of
Incorporation of the Registrant.
10.1 Kentucky Bancshares, Inc. 1993 Employee Stock Ownership
Incentive Plan is incorporated by reference to Exhibit 10.2
of the Registrant's Registration Statement on Form S-4 (File
No. 33-96358).*
10.2 Kentucky Bancshares, Inc. 1993 Non-Employee Directors Stock
Ownership Incentive Plan is incorporated by reference to
Exhibit 10.3 of the Registrant's Registration Statement on
Form S-4 (File No. 33-96358).*
10.3 Kentucky Bancshares, Inc. 1999 Employee Stock Option Plan is
incorporated by reference to Exhibit 99.1 of the
Registrant's Form 10-K for the fiscal year ended December
31, 1998.*
10.4 Schedule of 2006 Compensation Arrangements for Named Executive
Officers is incorporated by reference to the Registrant's Current
Report on Form 8-K dated December 20, 2005 (File No. 33-96358).*
10.5 Schedule of 2006 Compensation Arrangement for Named Executive
Officer.*
10.6 2005 Restricted Stock Grant Plan, including form of Award
Agreement, as incorporated by reference to Exhibit 10.1 of the
Registrant's Current Report on Form 8-K dated February 15, 2005
(File No. 33-96358).*
11 Computation of earnings per share - See Note 10 in the notes
to consolidated financial statements included as Exhibit 13.
13 Kentucky Bancshares, Inc. 2005 Annual Report and Proxy
Statement, including Financial Statements:
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Comprehensive Income
Consolidated Statements of Changes in Stockholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Report of Independent Auditors
21 Subsidiaries of Registrant
23 Consent of Crowe Chizek and Company LLC
31.1 Certification of Chief Executive Officer pursuant to Rule
13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act,
as amended.
31.2 Certification of Chief Financial Officer pursuant to Rule
13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act,
as amended.
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
* Denotes a management contract or compensatory plan or
arrangement of the Registrant required to be filed as an exhibit
pursuant to Item 601(10) (iii) of Regulation S-K.
6
25
BOURBON BANCSHARES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2000, 1999 and 1998
44
43