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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 [NO FEE REQUIRED]
For the fiscal year ended September 30, 1998
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- or -
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from _____________________ to ________________________
Commission Number: 0-26570
HARRODSBURG FIRST FINANCIAL BANCORP, INC.
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(Exact name of Registrant as specified in its Charter)
Delaware 61-1284899
- --------------------------------------------- -------------------
(State or other jurisdiction of incorporation (I.R.S. Employer
or organization) Identification No.)
104 South Chiles Street, Harrodsburg, Kentucky 40330-1620
- ---------------------------------------------- ----------
(Address of principal executive offices) Zip Code
Registrant's telephone number, including area code: (606) 734-5452
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Securities registered pursuant to Section 12(b) of the Act: None
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Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.10 per share
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(Title of Class)
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
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Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K (ss.229.405 of this chapter) 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]
The aggregate market value of the voting stock held by non-affiliates
of the Registrant, based on the average bid and ask price of the Registrant's
Common Stock as quoted on the National Association of Securities Dealers, Inc.,
Automated Quotations System on December 8, 1998, was $26.4 million (1,696,154
shares at $14.00 per share).
As of December 8, 1998 there were issued and outstanding 1,882,918
shares of the Registrant's Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
1. Portions of the Annual Report to Stockholders for the Fiscal Year Ended
September 30, 1998. (Parts I, II and IV)
2. Portions of the Proxy Statement for the 1998 Annual Meeting of Stockholders.
(Part III)
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INDEX
PART I Page
Item 1. Business............................................................................................ 1
Item 2. Properties...........................................................................................22
Item 3. Legal Proceedings....................................................................................22
Item 4. Submission of Matters to a Vote of Security Holders..................................................22
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters................................23
Item 6. Selected Financial Data..............................................................................23
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations................................................................................23
Item 7A. Quantitative and Qualitative Disclosures
About Market Risk....................................................................................23
Item 8. Financial Statements and Supplementary Data..........................................................23
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure.......................................................................................... 23
PART III
Item 10. Directors and Executive Officers of the Registrant.................................................. 23
Item 11. Executive Compensation.............................................................................. 24
Item 12. Security Ownership of Certain Beneficial Owners and Management...................................... 24
Item 13. Certain Relationships and Related Transactions.......................................................24
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K..................................... 24
PART I
Item 1. Business
General
Harrodsburg First Financial Bancorp, Inc. (the "Company") is a Delaware
corporation organized in June 1995 at the direction of First Federal Savings
Bank of Harrodsburg (the "Bank" or "First Federal") to acquire all of the
capital stock that the Bank issued upon its conversion from the mutual to stock
form of ownership. On September 29, 1995, the Bank completed its conversion and
became a wholly owned subsidiary of the Company.
The Company is a unitary savings and loan holding company which, under
existing laws, generally is not restricted in the types of business activities
in which it may engage provided that the Bank retains a specified amount of its
assets in housing-related investments.
First Federal is a federally chartered stock savings bank headquartered
in Harrodsburg, Kentucky. The Bank attracts deposits from the general public and
uses such deposits primarily to originate loans secured by first mortgages on
one- to four-family residences located in its market area. Such loans totaled
$68.8 million, or 77.47%, of the Bank's total loan portfolio at September 30,
1998. The Bank originates and retains adjustable-rate loans as well as, to a
lesser extent, fixed-rate loans for its mortgage loan portfolio. The Bank has
not sold mortgage loans into the secondary market during the past five years. In
addition, the Bank originates multi-family, commercial and agricultural real
estate loans, which represented $10.7 million or 12.08%, of the total loan
portfolio at September 30, 1998. These loans were primarily secured by apartment
buildings, office buildings, churches, farms and other properties. The Bank also
offers construction loans which represented $5.2 million or 5.90% of the total
loan portfolio at September 30, 1998. These loans are primarily secured by
residential properties and become permanent loans of the Bank upon completion of
the construction. The Bank offers consumer loans, which totaled $4.0 million, or
4.55% of the total loan portfolio at September 30, 1998. These loans consist
primarily of home equity loans secured by second mortgages, loans secured by
savings deposits, and personal loans which are either secured or unsecured.
In addition to interest-earning deposits with the Federal Home Loan
Bank ("FHLB") of Cincinnati, the Bank maintains an investment securities
portfolio consisting of FHLB stock and Federal Home Loan Mortgage Corporation
("FHLMC") capital stock, Government agency-backed bonds, municipal bonds and
mortgage-backed securities. See Note 2 of the Notes to Consolidated Financial
Statements.
The principal sources of funds for the Bank's lending activities are
deposits, and the amortization, repayment, and maturity of loans and investment
securities. Principal sources of income are interest on loans, interest-earning
deposits and to a lesser extent investment securities. The Bank's principal
expense is interest paid on deposits.
Market Area
The Bank's primary market area consists of Mercer and Anderson
Counties, Kentucky. This area is primarily rural with a large amount of
agri-business. The primary lending concentration is in the
1
Bank's market area, an area mainly comprised of the cities of Harrodsburg and
Lawrenceburg which have populations of approximately 8,118 and 6,655,
respectively. Historically, the economy in the Bank's market area has been
dependent on agriculture, agriculture related industries and manufacturing.
Tourism is the second largest industry in Mercer County, next to agriculture.
The largest employers in the market area are Hitachi Automotive, Trim Masters,
Corning, Inc. and Bay West Paper.
Economic growth in the Bank's market area remains dependent upon the
local economy. In addition, the deposit and loan activity of the Bank is
significantly affected by economic conditions in its market area.
Competition
The Bank is one of nine financial institutions serving its immediate
market area. The competition for deposit products comes from six commercial
banks in the Bank's market area, and two credit unions. Deposit competition also
includes a number of insurance products sold by local agents and investment
products such as mutual funds and other securities sold by local and regional
brokers. Loan competition comes from commercial banks in the Bank's market area,
credit unions, and mortgage bankers who serve the area and varies depending upon
market conditions.
First Federal has traditionally maintained a competitive position in
mortgage loan originations and market share throughout its service area by
virtue of its local presence and its involvement in the community. The Bank
believes that it has been able to effectively market its loans and other
financial products and services when compared to other local-based institutions
and its superior customer service when compared to other institutions and
mortgage bankers based outside of the Bank's market area.
Lending Activities
General. The Bank's loan portfolio predominantly consists of mortgage
loans secured by single family residences. First Federal also makes commercial
real estate, multi-family real estate, agricultural, residential construction
and consumer loans.
2
Analysis of Loan Portfolio. The following table sets forth information
concerning the composition of the Bank's loan portfolio in dollar amounts and in
percentages of the total loan portfolio (before deductions for loans in process,
deferred loan origination fees and costs and allowance for loan losses) as of
the dates indicated.
At September 30,
----------------------------------------------------
1998 1997
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Amount Percent Amount Percent
------ ------- ------ -------
Type of Loans:
(Dollars in Thousands)
Real Estate:
One-to four-family residential.................. $68,814 77.47 $67,084 80.15%
Multi-family.................................... 3,500 3.94 3,449 4.12
Agricultural.................................... 3,860 4.35 2,997 3.58
Commercial...................................... 3,370 3.79 3,036 3.62
Construction.................................... 5,241 5.90 3,536 4.22
Consumer:
Savings account................................. 555 .62 482 .58
Home equity..................................... 1,831 2.06 1,495 1.79
Other(1)........................................ 1,661 1.87 1,617 1.94
------- ------ ------- ------
Total loans receivable...................... 88,832 100.00% 83,696 100.00%
====== ======
Less:
Loans in process................................ 2,925 1,890
Deferred loan origination fees
and costs, net................................. 300 237
Allowance for loan losses....................... 335 308
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Loans receivable, net............................. $85,272 $81,261
======= =======
- ----------------------
(1) Includes home improvement and personal loans.
The Bank primarily originates loans for retention in its portfolio and
has not purchased or sold loans during the past two years.
3
Loan Maturity Tables
The following table sets forth the maturity of the Bank's loan
portfolio at September 30, 1998. The table does not include prepayments or
scheduled principal repayments. Prepayments and scheduled principal repayments
on loans totaled $31.9 million, $18.9 million and $15.9 million, for the three
years ended September 30, 1998, 1997 and 1996, respectively. Adjustable-rate
mortgage loans are shown as maturing based on contractual maturities.
Multi-Family,
Agricultural
1-4 Family and
Residential Commercial Construction Consumer Total
----------- ------------- ------------ -------- -----
(In Thousands)
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Non-performing.................. 358 27 104 489
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Amounts Due:
----------------------------------------------------------------------------------------------
Within 3 months............... 9 1,979 1,988
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3 months to 1 year............ 35 4 67 106
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Total due within one year..... 44 4 2,046 2,094
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After 1 year:
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1 to 3 years.................. 422 22 12 456
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3 to 5 years.................. 1,403 63 302 1,768
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5 to 10 years................. 8,821 728 582 10,131
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10 to 20 years................ 31,208 6,556 2,276 1,001 41,041
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Over 20 years................. 26,558 3,330 2,965 ------ 32,853
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Total due after one year........ 68,412 10,699 5,241 1,897 86,249
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Total amount due................ 68,814 10,730 5,241 4,047 88,832
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Less:
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Allowance for loan losses 335
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Loans in process................ 2,925
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Deferred loan fees.............. 300
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Loans receivable, net....... 85,272
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The following table sets forth the dollar amount of all loans due after
September 30, 1999, which have pre-determined (or fixed) interest rates and
which have floating or adjustable interest rates.
Floating or
Fixed Rates Adjustable Rates Total
----------- ---------------- -----
(In Thousands)
------------------------------------------------------------------
One- to four-family residential...................... 12,907 55,505 68,412
------------------------------------------------------------------
Multi-family, agriculture and commercial............. 592 10,107 10,699
------------------------------------------------------------------
Construction......................................... 1,206 4,035 5,241
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Consumer............................................. 426 1,471 1,897
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Total................................................ 15,131 71,118 86,249
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4
One- to Four-Family Residential Loans. The Bank's primary lending
activity consists of the origination of one- to four-family residential mortgage
loans secured by property located in the Bank's primary market area. The Bank
generally originates one- to four-family residential mortgage loans without
private mortgage insurance in amounts up to 85% of the lesser of the appraised
value or selling price of the mortgaged property. Loans in excess of 85% of the
value of the mortgaged property typically require private mortgage insurance in
the amount of 25% to 30% of the loan amount.
First Federal offers three types of residential ARM's, all of which use
the index value of the National Monthly Median Cost of Funds Ratio to
SAIF-Insured Institutions plus a set margin added to it. The interest rates on
these loans have an initial adjustment period of between one and five years, and
generally adjust annually thereafter, with a maximum adjustment of 2% per year
and a maximum increase of 5% over the life of the loan. The index margin on a
non owner-occupied one- to four-family property loan is 1% higher than on an
owner-occupied property loan. The Bank's adjustable-rate one-to four-family
mortgage loans are for terms of up to 30 years, amortized on a monthly basis,
with principal and interest due each month. Residential real estate loans often
remain outstanding for significantly shorter periods than their contractual
terms. Borrowers may refinance or prepay loans at their option without penalty.
First Federal originates, to a limited extent, 10 year, 15 year, 20 and 30 year
term fixed-rate mortgages on one- to four-family, owner-occupied homes with loan
to value ratios of 85% or less. First Federal originated $4.7 million in
fixed-rate one- to four-family mortgage loans with a maximum term of 30 years or
less during the year ended September 30, 1998. All such loans are being held as
long term investments and none are being held for sale.
Loan originations are generally obtained from existing and walk-in
customers, members of the local community, and referrals from realtors,
depositors and borrowers within the Bank's lending area. Mortgage loans
originated and held by the Bank in its portfolio generally include due-on-sale
clauses which provide the Bank with the contractual right to deem the loan
immediately due and payable in the event that the borrower transfers ownership
of the property without the Bank's consent. At September 30, 1998, $68.8
million, or 77.47%, of the total loan portfolio consisted of one- to four-family
residential loans of which $55.8 million were adjustable-rate loans and $13.0
million were fixed-rate loans.
The retention of adjustable-rate loans in the Bank's portfolio helps
reduce the Bank's exposure to increases in prevailing market interest rates.
However, there are unquantifiable credit risks resulting from potential
increases in costs to borrowers in the event of upward repricing of
adjustable-rate loans. It is possible that during periods of rising interest
rates, the risk of default on adjustable-rate loans may increase due to
increases in interest costs to borrowers. Further, adjustable-rate loans which
provide for initial rates of interest below the fully indexed rates may be
subject to increased risk of delinquency or default as the higher, fully indexed
rate of interest subsequently replaces the lower, initial rate. Further,
although adjustable-rate loans allow the Bank to increase the sensitivity of its
interest-earning assets to changes in interest rates, the extent of this
interest sensitivity is limited by the initial fixed rate period before the
first adjustment, the periodic and lifetime interest rate adjustment limitations
and the ability of borrowers to convert the loans to fixed rates. Accordingly,
there can be no assurance that yields on the Bank's adjustable-rate loans will
fully adjust to compensate for increases in the Bank's cost of funds. Finally,
adjustable-rate loans increase the Bank's exposure to decreases in prevailing
market interest rates, although the Bank's cost of funds tend to offset this
effect.
Construction Loans. First Federal engages in construction lending
involving loans to qualified borrowers for construction of one- to four-family
dwellings, multi-family residential units, commercial buildings and churches,
with the intent of such loans converting to permanent financing upon completion
of construction. As of September 30, 1998, the Bank's loan portfolio included
$5.2 million of loans secured by properties under construction, all of which
were construction/permanent loans structured to
5
become permanent loans upon the completion of construction and none of which was
an interim construction loan structured to be repaid in full upon completion of
construction. All construction loans are secured by a first lien on the property
under construction. Loan proceeds are disbursed in increments as construction
progresses and as inspections warrant. Construction/permanent loans generally
have adjustable or fixed interest rates and are underwritten in accordance with
the same terms and requirements as the Bank's permanent mortgages, except the
loans generally provide for disbursement in stages during a construction period
of up to twelve months, during which the borrower is not required to make
monthly payments. If construction improvements are not completed at the end of
six months, accrued interest must be paid to date. Accrued interest must be paid
at completion of construction to the first day of the following month, and
monthly payments start the first day of the following month after the loan is
converted to permanent financing. Borrowers must satisfy all credit requirements
which would apply to the Bank's permanent mortgage loan financing for the
subject property and must execute a construction loan agreement with the Bank.
Construction financing generally is considered to involve a higher
degree of risk of loss than long term financing on improved, occupied real
estate. Risk of loss on a construction loan is dependent largely upon the
accuracy of the initial estimate of the property's value at completion of
construction or development and the estimated cost (including interest) of
construction. During the construction phase, a number of factors could result in
delays and cost overruns. If the estimate of construction cost proves to be
inaccurate, the Bank may be required to advance funds beyond the amount
originally committed to permit completion of the development. The Bank has
sought to minimize this risk by requiring precise construction cost estimates,
specifications, and drawing plans from qualified borrowers in the Bank's market
area.
Multi-Family and Commercial Real Estate Loans. In order to serve its
community and enhance yields on its assets, the Bank originates loans secured by
commercial real estate and multi-family properties. The multi-family and
commercial real estate loans originated by the Bank have generally been made to
individuals, small businesses and partnerships. They have primarily been secured
by first mortgages on apartment buildings, office buildings, churches and other
properties. The Bank benefits from originating such loans due to higher
adjustable interest rates. Adjustable-rate loans for this type of lending have a
margin that is 1% higher than the margin added to single family owner-occupied
property loan. First Federal's multi-family residential and commercial real
estate loans are adjustable-rate loans with terms of 25 years or less, with
loan-to-value ratios not exceeding 80%. As of September 30, 1998, loans on
multi-family residential and commercial real estate properties constituted
approximately $6.9 million, or 7.73% of the Bank's total loan portfolio.
Multi-family and commercial real estate lending entails significant
additional risks as compared to one- to four-family residential lending. For
example, such loans typically involve large loans to single borrowers or related
borrowers, the payment experience on such loans is typically dependent on the
successful operation of the project, and these risks can be significantly
affected by the supply and demand conditions in the market for commercial
property and multi-family residential units.
Loans secured by commercial real estate generally involve a greater
degree of risk than residential mortgage loans and carry larger loan balances.
This increased credit risk is a result of several factors, including the
concentration of principal in a limited number of loans and borrowers, the
effects of general economic conditions on income producing properties, and the
increased difficulty of evaluating and monitoring these types of loans.
Furthermore, the repayment of loans secured by commercial real estate is
typically dependent upon the successful operation of the related real estate
project. If the cash flow from the project is reduced, the borrower's ability to
repay the loan may be impaired. To minimize these risks, First Federal generally
limits loans of this type to its market area and to borrowers with which it
6
has substantial experience or who are otherwise well known to the Bank. The
Bank's underwriting procedures require verification of the borrower's credit
history, income, financial statements, banking relationships, credit references,
and income projections for the property. It is the Bank's current practice to
obtain personal guarantees from all principals obtaining this type of loan. For
the small total dollar amount of loans secured by church real estate that are
originated by the Bank, repayment is dependent upon the continuing financial
support of the church's members. The Bank also obtains appraisals on each
property. All appraisals on commercial and multi-family real estate are reviewed
by the Bank's management.
Agricultural Loans. First Federal engages in lending on improved farm
land with no dwelling, building lots and building acreage sites. The Bank
benefits from originating such loans due to higher origination fees and
adjustable interest rates. These properties must have good road access. The loan
to value ratio for this type of loan is 75% or less with a maximum loan term of
15 years. An adjustable-rate loan for this type of lending has a margin that is
1% higher than the margin added to one- to four-family owner-occupied property
loans.
First Federal also engages in loans for improved farm land with
dwelling. The loan to value ratio for this type of loan is 80% or less with a
maximum term of 25 years. These loans can be set up with payment of interest
collected semi-annually and principal yearly as well as monthly principal and
interest payments. As of September 30, 1998, agricultural farm loans constituted
approximately $3.9 million, or 4.35% of the Bank's total loan portfolio.
Consumer Lending. These loans totaled $4.0 million, or 4.55%, of the
total loan portfolio at September 30, 1998. First Federal does not emphasize
consumer lending although it does originate such loans on a regular basis. The
Bank originates consumer loans on either a secured or unsecured basis. These
loans generally require a pre-existing relationship with the Bank. The Bank
generally makes certificate of deposit loans for terms of up to six months in
amounts up to the face amount of the certificate. The interest rate charged on
these loans is 1% higher than the rate paid on the certificate, and interest is
billed on a quarterly basis. These loans are payable on demand and the account
must be assigned to the Bank as collateral for the loan.
Federal regulations permit federally chartered thrift institutions to
make secured and unsecured consumer loans up to 35% of an institution's assets.
In addition, a federal thrift has lending authority above the 35% category for
certain consumer loans, property improvement loans, and loans secured by savings
accounts. The Bank originates consumer loans in order to provide a wide range of
financial services to its customers and because the shorter terms and normally
higher interest rates on such loans help maintain a profitable spread between
its average loan yield and its cost of funds.
Consumer loans generally involve more risk than first mortgage loans.
Repossessed collateral for a defaulted loan may not provide an adequate source
of repayment of the outstanding loan balance as a result of damage, loss or
depreciation, and the remaining deficiency often does not warrant further
substantial collection efforts against the borrower. In addition, loan
collections are dependent on the borrower's continuing financial stability, and
thus are more likely to be adversely affected by job loss, divorce, illness or
personal bankruptcy. Further, the application of various federal and state laws,
including federal and state bankruptcy and insolvency laws, may limit the amount
which can be recovered. These loans may also give rise to claims and defenses by
a borrower against the Bank and the seller of the underlying collateral. In
underwriting consumer loans, the Bank considers the borrower's credit history,
an analysis of the borrower's income, expenses and ability to repay the loan and
the value of the collateral. At September 30, 1998, the Bank had $104,000 of
consumer loans delinquent more than 90 days.
7
The largest consumer loan made by the Bank consists of a $900,000
unsecured line of credit made on October 28, 1997. As of September 30, 1998, the
outstanding balance on this line of credit was $300,000.
Loan Approval Authority and Underwriting. President Hood and Vice
President Asbury have the authority to approve mortgage loans for amounts up to
$175,000 with ratification by the board. Loans in excess of $175,000 must be
approved by the board. Loans are approved after determining they meet the Bank's
lending and underwriting standards.
For all loans originated by the Bank, upon receipt of a completed loan
application from a prospective borrower, a credit report is generally ordered,
income and certain other information is verified and, if necessary, additional
financial information is requested. An appraisal of the real estate intended to
be used as security for the proposed loan is obtained. All appraisals are
reviewed by officers of the Bank designated by the Board of Directors. An
independent appraiser designated and approved by the Board of Directors of the
Bank is utilized for all real estate mortgage loans. For construction/permanent
loans, the funds advanced during the construction phase are held in a
loan-in-process account and disbursed based upon various stages of completion in
accordance with the results of inspection reports that are based upon physical
inspection of the construction by an independent contractor hired by the Bank or
in some cases by a loan officer. For real estate loans the Bank will require
either title insurance or a title opinion. Borrowers must also obtain fire and
casualty, hazard or flood insurance (for loans on property located in a flood
zone, flood insurance is required) prior to the closing of the loan.
Loan Commitments. The Bank issues written commitments to prospective
borrowers on all approved real estate loans. Generally, the commitment requires
acceptance within 20 days of the date of issuance. At September 30, 1998, the
Bank had $7.0 million of commitments to cover originations, undisbursed funds
for loans-in-process, and unused lines of credit. The Bank believes that most of
the Bank's commitments will be funded. Generally, the percentage of commitments
that expire without being funded is less than 1%.
Loans-to-One Borrower. Savings associations are subject to the same
limits as those applicable to national banks, which under current regulations
limit loans-to-one borrower in an amount equal to: (i) 15% of unimpaired capital
and unimpaired surplus, calculated as the sum of the Bank's core and
supplementary capital included in total capital, plus the balance of the general
valuation allowances for loan and lease losses not included in supplementary
capital, plus investments in subsidiaries that are not included in calculating
core capital, or (ii) $500,000, whichever is higher. The Bank's maximum
loan-to-one borrower limit was approximately $3.8 million at September 30, 1998.
At September 30, 1998, the Bank's largest amount of loans to one
borrower consisted of several residential real estate loans in the amount of
$2.5 million which were secured by a first mortgage on single family dwellings
located in Nicholasville and Versailles, Kentucky.
The next four largest lending relationships at September 30, 1998
consisted of $1.2 million in loans secured by single family dwellings, duplexes
and 18 townhouse units all located in Harrodsburg, Lawrenceburg, and Danville,
Kentucky; $910,000 in a single loan secured by a warehouse in Harrodsburg,
Kentucky; $751,000 in loans secured by a first mortgage on single family
dwellings located in Nicholasville, Kentucky; and $706,000 in loans secured by
15 commercial rental units located in Nicholasville, Kentucky. (See
"--Multi-Family and Commercial Real Estate Loans.")
8
Non-Performing and Problem Assets
Loan Delinquencies. The Bank monitors delinquencies on all types of
loans closely. If such loans later become delinquent, the Bank contacts and
works with the borrower to resolve the delinquency before initiating foreclosure
proceedings. The Bank's collection procedures provide that when a mortgage loan
is 10 days past due, a notice of nonpayment is sent. Delinquent notices are sent
if the loan becomes delinquent for more than 30 days. If payment is still
delinquent after 60 days, the customer will receive a letter and/or telephone
call and may receive a visit from a representative of the Bank. If the
delinquency continues, similar subsequent efforts are made to eliminate the
delinquency. If the loan continues in a delinquent status for 90 days past due
and no repayment plan is in effect, management will generally initiate legal
proceedings.
Loans are reviewed on a monthly basis by management and are generally
placed on a non-accrual status when the loan becomes more than 90 days
delinquent and, in the opinion of management, the collection of additional
interest is doubtful. Interest accrued and unpaid at the time a loan is placed
on non-accrual status is charged against interest income. Subsequent interest
payments, if any, are either applied to the outstanding principal balance or
recorded as interest income, depending on the assessment of the ultimate
collectibility of the loan. At September 30, 1998, no loans were classified in a
non-accrual status.
Non-Performing Assets. The following table sets forth information
regarding non-accrual loans, real estate owned and certain other repossessed
assets and loans. As of the dates indicated, the Bank had no loans categorized
as troubled debt restructuring within the meaning of SFAS 15.
At September 30,
----------------------
1998 1997
---- ----
(In Thousands)
Loans accounted for on a non-accrual basis:
-----------------------------
Total.......................................... $ $
-----------------------------
Accruing loans which are contractually past
due 90 days or more:
-----------------------------
Mortgage loans:
-----------------------------
Construction loans...........................
-----------------------------
Permanent loans secured by 1 to 4 family
dwelling units............................. 358 387
-----------------------------
All other mortgage loans..................... 27
-----------------------------
Non-mortgage loans:
-----------------------------
Commercial...................................
-----------------------------
Consumer..................................... 104 133
-----------------------------
Total.......................................... 489 520
-----------------------------
Total non-accrual and accrual loan............. 489 520
-----------------------------
Real estate owned.............................. -- --
-----------------------------
Total non-performing assets.................... 489 520
-----------------------------
Total non-performing loans to net loans........ .57 .64
-----------------------------
Total non-performing loans to total assets..... .44 .47
-----------------------------
Total non-performing assets to total assets.... .44 .47
-----------------------------
9
There was no interest income that would have been recorded on loans
accounted for on a non-accrual basis under the original terms of such loans for
the year ended September 30, 1998, because there were no loans accounted for on
a non-accrual basis for this period.
Classified Assets. OTS regulations provide for a classification system
for problem assets of insured institutions which covers all problem assets.
Under this classification system, problem assets of insured institutions are
classified as "substandard," "doubtful," or "loss." An asset is considered
substandard if it is inadequately protected by the current net worth and paying
capacity of the obligor or of the collateral pledged, if any. Substandard assets
include those characterized by the "distinct possibility" that the insured
institution will sustain "some loss" if the deficiencies are not corrected.
Assets classified as doubtful have all of the weaknesses inherent in those
classified substandard, with the added characteristic that the weaknesses
present make "collection or liquidation in full," on the basis of currently
existing facts, conditions, and values, "highly questionable and improbable."
Assets classified as loss are those considered "uncollectible" and of such
little value that their continuance as assets without the establishment of a
specific loss reserve is not warranted. Assets may be designated "special
mention" because of potential weakness that do not currently warrant
classification in one of the aforementioned categories.
When an insured institution classifies problem assets as either
substandard or doubtful, it may establish general allowances for loan losses in
an amount deemed prudent by management. General allowances represent loss
allowances which have been established to recognize the inherent risk associated
with lending activities, but which, unlike specific allowances, have not been
allocated to particular problem assets. When an insured institution classifies
problem assets as loss, it is required either to establish a specific allowance
for losses equal to 100% of that portion of the asset so classified or to charge
off such amount. An institution's determination as to the classification of its
assets and the amount of its valuation allowances is subject to review by the
OTS, which may order the establishment of additional general or specific loss
allowances. A portion of general loss allowances established to cover possible
losses related to assets classified as substandard or doubtful may be included
in determining an institution's regulatory capital, while specific valuation
allowances for loan losses generally do not qualify as regulatory capital.
At September 30, 1998, the Bank had loans designated special mention
which aggregated $7,000 and classified assets consisting of loans classified as
substandard which aggregated $258,000, none classified as doubtful, and none
classified as loss. The Bank had delinquent loans of 60 days or more of $382,000
(which were all residential mortgage loans) and an allowance for loan losses of
$335,000 which is classified as a general valuation allowance.
Foreclosed Real Estate. Real estate acquired by the Bank as a result of
foreclosure or by deed in lieu of foreclosure is classified as real estate owned
until it is sold. When property is acquired it is recorded at fair value at the
date of foreclosure less estimated costs of disposition.
Allowance for Loan Losses. It is management's policy to provide for
losses on loans in its loan portfolio. A provision for loan losses is charged to
operations based on management's evaluation of the losses that may be incurred
in the Bank's loan portfolio. Such evaluation, which includes a review of all
loans of which full collectibility of interest and principal may not be
reasonably assured, considers the Bank's past loan loss experience, known and
inherent risks in the portfolio, adverse situations that may affect the
borrower's ability to repay, estimated value of any underlying collateral,
current economic conditions, and the relationship of the allowance for loan
losses to outstanding loans.
10
In June 1993, the Financial Accounting Standards Board (FASB) issued
SFAS No. 114 "Accounting by Creditors for Impairment of a Loan." This
promulgation, which was amended by SFAS No. 118 as to certain income recognition
and disclosure provisions, became effective as to the Company in fiscal 1996.
The new accounting standards require that impaired loans be measured based upon
the present value of expected future cash flows discounted at the loan's
effective interest rate, or as an alternative, at the loan's observable market
price or fair value of the collateral. The Bank's current procedures for
evaluating impaired loans result in carrying such loans at the lower of cost or
fair value. See Note 1 of Notes to Consolidated Financial Statements.
The amount of provisions for loan losses recorded in future periods may
be significantly greater or lesser than the provisions taken in the past. The
allowance for loan losses, as a ratio of total loans was .38% at September 30,
1998.
Management will continue to review the entire loan portfolio to
determine the extent, if any, to which further additional loss provisions may be
deemed necessary. There can be no assurance that the allowance for loan losses
will be adequate to cover losses which may in fact be realized in the future and
that additional provisions for losses will not be required.
Allocation of Allowance for Loan Losses. The following table sets forth
the allocation of the Bank's allowance for loan losses by loan category and the
percent of loans in each category to total loans receivable at the dates
indicated. Except as set forth below, the portion of the loan loss allowance
allocated to each loan category does not represent the total available for
future losses that may occur within the loan category because the total loan
loss allowance is a valuation reserve applicable to the entire loan portfolio.
At September 30,
------------------------------------------
1998 1997
------------------- --------------------
Percent of Percent of
Loans to Loans to
Amount Total Loans Amount Total Loans
------ ----------- ------ -----------
At end of period allocated (Dollars in Thousands)
to:
Real estate mortgage:
One- to four-family residential. $259 77.47% $188 61.54%
Multi-family................... 13 3.94 10 2.92
Agricultural.................... 15 4.35 8 2.65
Commercial...................... 13 3.79 9 2.65
Residential construction........ 20 5.90 10 3.25
Consumer(1)....................... 15 4.55 83 26.99
---- ------ ---- ------
Total allowance for loan
losses...................... $335 100.00% $308 100.00%
==== ====== ==== ======
- -----------------------
(1) In 1997, includes $73,000 specific reserve attributable to a particular loan
and not available for other loan losses.
11
Analysis of the Allowance for Loan Losses. The following table sets
forth information with respect to the Bank's allowance for loan losses at the
dates and for the periods indicated:
At or For the Year
Ended September 30,
---------------------
1998 1997
---- ----
(Dollars in Thousands)
Total loans outstanding................................. $88,832 $83,696
======= =======
Average loans outstanding............................... $83,637 $79,642
======= =======
Allowance balances (at beginning of
period)............................................... $ 308 $ 297
Provision (credit):
Residential........................................... 97 --
Consumer.............................................. 11
Net Charge-offs (recoveries):
Residential........................................... (3) --
Consumer.............................................. 73 --
------- -------
Allowance balance (at end of period).................... $ 335 $ 308
======= =======
Allowance for loan losses as a percent
of total loans outstanding............................ .38% .37%
Net loans charged off as a percent of
average loans outstanding............................. .08% --%
Investment Activities
First Federal is required under federal regulations to maintain a
minimum amount of liquid assets which may be invested in specified short-term
securities and certain other investments. See "--Regulation -- Regulation of the
Bank -- Federal Home Loan Bank System". The Bank has maintained a liquidity
portfolio in excess of regulatory requirements. Liquidity levels may be
increased or decreased depending upon the yields on investment alternatives and
upon management's judgment as to the attractiveness of the yields then available
in relation to other opportunities and its expectation of future yield levels,
as well as management's projections as to the short term demand for funds to be
used in the Bank's loan origination and other activities. At September 30, 1998,
First Federal had an investment portfolio which included interest-earning
deposits of $7.3 million, and investment securities of $15.0 million, consisting
of FHLB stock, Government agency-backed bonds, municipal bonds and FHLMC capital
stock. The Bank is permitted to invest in various securities, including U.S.
Treasury securities, U.S. government agency obligations, mortgage-backed and
related securities, and municipal bonds, as permitted by the OTS regulations.
The Bank classifies its investment securities as held-to-maturity or
available-for-sale in accordance with SFAS No. 115. The fair value of the
investment portfolio at September 30, 1998, was $15.1 million, and the carrying
value of the investment portfolio includes a net unrealized gain at that date of
approximately $2.5 million, after deduction of $1.3 in deferred income tax
expense.
Investment Portfolio. The following table sets forth the carrying value
of the Bank's investment securities portfolio, short term investments and FHLB
stock, at the dates indicated. At September 30, 1998, the market value of the
Bank's investment securities portfolio was $15.1 million.
12
At September 30,
---------------------
1998 1997
---- ----
(In Thousands)
Investment Securities available for
sale:
FHLMC securities............................. $ 3,825 $ 2,717
------- -------
Total...................................... 3,825 2,717
------- -------
Investment securities held to
maturity:
FHLB Stock and bonds ...................... 11,089 10,997
-------
Mortgaged-backed securities................ 52 67
------- -------
Total....................................... 11,141 11,064
------- -------
Total investment securities................ 14,966 13,781
Interest-earning deposits (1)................ 7,334 12,481
------- -------
Total investments......................... $22,300 $26,262
======= =======
- --------------------
(1) Includes interest-earning overnight deposits and term deposits with FHLB.
13
Investment Portfolio Maturities. The following table sets forth certain
information regarding the carrying values, weighted average yields and
maturities of the Bank's investment securities portfolio.
As of September 30, 1998
--------------------------------------------------------------------------------------------------------
More Than One to More Than Five
One Year or Less Five Years to Ten Years More than Ten Years Total Investment Securities
----------------- ----------------- ---------------- ------------------- ---------------------------
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Average Market
Value Yield Value Yield Value Yield Value Yield Value Yield Value
------- ------- -------- ------- -------- ------- -------- ------- -------- ------- ------
(Dollars in Thousands)
Investments securities
available for sale:
---------------------------------------------------------------------------------------------------------
FHLMC Securities.......... $3,825 1.08% $ -- --% $ -- --% $ -- --% $ 3,825 1.08% $ 3,825
---------------------------------------------------------------------------------------------------------
Investment securities
held to maturity:
---------------------------------------------------------------------------------------------------------
Bonds - U.S. Government
and Federal agencies.... 8,498 6.27 999 6.10 9,497 6.25 9,573
---------------------------------------------------------------------------------------------------------
GNMA PC................... 52 7.14 52 7.14 53
---------------------------------------------------------------------------------------------------------
FHLB Stock................ 1,379 7.18 1,379 7.18 1,379
---------------------------------------------------------------------------------------------------------
Bonds - Municipal......... 40 4.15 173 4.95 213 4.80 222
---------------------------------------------------------------------------------------------------------
Total................... 8,538 6.26 1,224 5.98 1,379 7.18 11,141 6.34 11,227
---------------------------------------------------------------------------------------------------------
Total investment
securities.............. 3,825 1.08 8,538 6.26 1,224 5.98 1,379 7.18 14,966 5.00 15,052
---------------------------------------------------------------------------------------------------------
14
Sources of Funds
General. Deposits are the major external source of the Bank's funds for
lending and other investment purposes. First Federal derives funds from
amortization and prepayment of loans and, to a much lesser extent, maturities of
investment securities, borrowings, and operations. Scheduled loan principal
repayments are a relatively stable source of funds, while deposit inflows and
outflows and loan prepayments are significantly influenced by general interest
rates and market conditions. Although First Federal had no FHLB advances at
September 30, 1998, such advances may also be a source of funds for the Bank in
the future.
Deposits. Consumer and commercial deposits are attracted principally
from within the Bank's primary market area through the offering of a broad
selection of deposit instruments including passbook, NOW, non-interest earning
accounts, money market deposit and certificates of deposit ranging in term from
three months to five years. The Bank also offers IRA accounts. Deposit account
terms vary according to the minimum balance required, the time period the funds
must remain on deposit, and the interest rate, among other factors.
The interest rates paid by the Bank on deposits are set weekly at the
direction of senior management. The Bank determines the interest rate to offer
the public on new and maturing accounts by reviewing the current U.S. Treasury
rate for the term and the market interest rates offered by competitors.
Passbook, money market and NOW accounts constituted $16.3 million, or
20.62%, of the Bank's deposit portfolio at September 30, 1998. Certificates of
deposit constituted $62.7 million or 79.38% of the deposit portfolio of which
$5.0 million or 6.29% of the deposit portfolio were certificates of deposit with
balances of $100,000 or more. As of September 30, 1998, the Bank had no brokered
deposits.
15
Deposit Portfolio. Deposits in the Bank as of September 30, 1998, were
represented by various types of savings programs described below.
Minimum Balance as of Percentage of
Interest Balance September 30, of Total
Category Term Rate(1) Amount 1998(2) Deposits
- -------- ---- ------- ------ --------- ---------
--------------------------------------------
Now Accounts None 2.02% $ 250 $ 6,527 8.26%
--------------------------------------------
Regular Savings None 2.79 10 7,402 9.37
--------------------------------------------
Money Market None 2.40 2,500 2,364 2.99
Accounts(3)(4)
--------------------------------------------
--------------------------------------------
Certificates of Deposit:
--------------------------------------------
--------------------------------------------
3-month Money Market 91 days 5.10 500 1,410 1.78
--------------------------------------------
6-month Money Market 182 days 5.46 500 7,720 9.77
--------------------------------------------
Fixed Term, Fixed Rate 7 month 5.10 2,500 2,329 2.95
--------------------------------------------
Fixed Term, Fixed Rate 12 month 6.50 * 84 .11
--------------------------------------------
Fixed Term, Fixed Rate 12 month 5.72 500 14,864 18.82
--------------------------------------------
Fixed Term, Fixed Rate 18 month 5.82 500 6,473 8.19
--------------------------------------------
IRA 18 month 6.14 25 9,818 12.43
--------------------------------------------
Fixed Term, Fixed Rate 30 month 6.75 * 12 .02
--------------------------------------------
Fixed Term, Fixed Rate 30 month 5.93 500 8,550 10.82
--------------------------------------------
Fixed Term, Fixed Rate 30 month 5.30 * 69 .09
--------------------------------------------
Fixed Term, Fixed Rate 42 month 6.14 500 5,472 6.93
--------------------------------------------
Fixed Term, Fixed Rate 48 month 7.50 * 55 .07
--------------------------------------------
Fixed Term, Fixed Rate 60 month 6.24 500 5,713 7.23
--------------------------------------------
Fixed Term, Fixed Rate 72 month 7.75 * 22 .03
--------------------------------------------
Fixed Term, Fixed Rate 96 month 8.00 * 111 .14
--------------------------------------------
Total $78,995 100.00%
--------------------------------------------
- ---------------
(1) Represents weighted average interest rates.
(2) In thousands.
(3) If average daily balance of $2,500 maintained, interest rate was 2.75%
(4) If average daily balance drops below $2,500, interest rate was 2.00%
* This type of certificate was no longer offered at September 30, 1998.
Jumbo Certificates of Deposit. The following table indicates the amount
of the Bank's certificates of deposit of $100,000 or more by time remaining
until maturity as of September 30, 1998.
Certificates
of Deposit
Maturity Period (In Thousands)
- ---------------
Three months or less......................................... $1,074
More than three through six months........................... 1,003
More than six through twelve months.......................... 1,121
Over twelve months........................................... 1,773
------
Total..................................................... $4,971
======
16
The following table sets forth the average balances and interest rates
based on month-end balances for interest-bearing demand deposits and time
deposits as of the dates indicated.
Year Ended September 30,
----------------------------------------------
1998 1997
-------------------- --------------------
Average Average Average Average
Balance Rate Balance Rate
(Dollars in Thousands)
Deposit Category:
Demand Accounts(1)............. $ 8,918 2.24% $ 8,936 2.21%
Passbook Accounts.............. 7,590 2.79 7,897 2.75
Certificates................... 61,917 5.63 61,001 5.61
------- ---- ------- ----
$78,425 4.97% $77,834 4.93%
======= ==== ======= ====
- ------------------
(1) Includes non-interest bearing accounts, which represent less than 10% of
total deposits.
Borrowings. Deposits are the primary source of funds of the Bank's
lending and investment activities and for its general business purposes. The
Bank may obtain advances from the FHLB of Cincinnati to supplement its supply of
lendable funds. Advances from the FHLB of Cincinnati are typically secured by a
pledge of the Bank's stock in the FHLB of Cincinnati and a portion of the Bank's
first mortgage loans and certain other assets. The Bank, if the need arises, may
also access the Federal Reserve Bank discount window to supplement its supply of
lendable funds and to meet deposit withdrawal requirements. At September 30,
1998, the Bank had no borrowings.
Subsidiary Activity
First Federal is permitted to invest up to 2% of its assets in the
capital stock of, or provide secured or unsecured loans to, subsidiary
corporations, with an additional investment of 1% of assets when such additional
investment is utilized primarily for community development purposes. Under such
limitations, as of September 30, 1998, First Federal was authorized to invest up
to approximately $2.2 million in the stock of, or provide loans to, service
corporations (based upon the 2% limitation). The Bank has one wholly owned
subsidiary, Harrodsburg Savings and Loan Service Corporation (the "Service
Corporation"). The sole purpose of the Service Corporation is to purchase and
hold the required amount of stock of Savings and Loan Data Corp., now Intrieve,
pursuant to the Bank's agreement with Intrieve for data processing services.
Incorporated in Kentucky in 1978, the Service Corporation has not conducted any
other business and has been inactive since its acquisition of the stock. The
Bank's investment in its subsidiary totaled $15,000 at September 30, 1998.
Personnel
As of September 30, 1998, the Bank had 15 full-time and no part-time
employees. None of the Bank's employees are represented by a collective
bargaining group. The Bank believes that its relationship with its employees is
good.
17
Regulation
Set forth below is a brief description of certain laws which relate to
the regulation of the Company and the Bank. The description does not purport to
be complete and is qualified in its entirety by reference to applicable laws and
regulations.
Company Regulation
General. The Company is a unitary savings and loan holding company
subject to regulatory oversight by the OTS. As such, the Company is required to
register and file reports with the OTS and is subject to regulation and
examination by the OTS. In addition, the OTS will have enforcement authority
over the Company and its non-savings association subsidiaries, should such
subsidiaries be formed, which also permits the OTS to restrict or prohibit
activities that are determined to be a serious risk to the subsidiary savings
association. This regulation and oversight is intended primarily for the
protection of the depositors of the Bank and not for the benefit of stockholders
of the Company. The Company is also required to file certain reports with, and
otherwise comply with, the rules and regulations of the OTS and the Securities
and Exchange Commission ("SEC").
QTL Test. As a unitary savings and loan holding company, the Company
generally will not be subject to activity restrictions, provided the Bank
satisfies the QTL test. If the Company acquires control of another savings
association as a separate subsidiary, it would become a multiple savings and
loan holding company, and the activities of the Company and any of its
subsidiaries (other than the Bank or any other SAIF-insured savings association)
would become subject to restrictions applicable to bank holding companies unless
such other associations each also qualify as a QTL or were acquired in a
supervised acquisition.
Federal Securities Law. The Company's Common Stock is registered with
the SEC under the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). The Company is subject to the information, proxy solicitation, insider
trading restrictions and other requirements under the Exchange Act.
Bank Regulation
General. As a federally chartered, SAIF-insured savings bank, First
Federal is subject to regulation and examination by the OTS and the FDIC.
Lending activities and other investments must comply with various federal
statutory and regulatory requirements. The Bank is also subject to certain
reserve requirements promulgated by the Federal Reserve Board.
The OTS, in conjunction with the FDIC, regularly examines the Bank and
prepares reports for the consideration of the Bank's Board of Directors on any
deficiencies that they find in the Bank's operations. The Bank's relationship
with its depositors and borrowers is also regulated to a great extent by federal
law, especially in such matters as the ownership of savings accounts and the
form and content of the Bank's mortgage documents.
First Federal must file reports with the OTS and the FDIC concerning
its activities and financial condition, in addition to obtaining regulatory
approvals prior to entering into certain transactions such as mergers with or
acquisitions of other savings institutions. This regulation and supervision
establishes a comprehensive framework of activities in which an institution can
engage and is intended primarily for
18
the protection of the Savings Association Insurance Fund ("SAIF") and
depositors. The regulatory structure also gives the regulatory authorities
extensive discretion in connection with their supervisory and enforcement
activities and examination policies, including policies with respect to the
classification of assets and the establishment of adequate loan loss reserves
for regulatory purposes. Any change in such regulations, whether by the OTS, the
FDIC or the United States Congress could have a material adverse impact on the
Company and the Bank and their operations.
Insurance of Deposit Accounts. The Bank's deposit accounts are insured
by the SAIF to a maximum of $100,000 for each insured member (as defined by law
and regulation). The FDIC has the authority, should it initiate proceedings to
terminate an institution's deposit insurance, to suspend the insurance of any
such institution without tangible capital. However, if a savings association has
positive capital when it includes qualifying intangible assets, the FDIC cannot
suspend deposit insurance unless capital declines materially, the institution
fails to enter into and remain in compliance with an approved capital plan, or
the institution is operating in an unsafe or unsound manner.
Regardless of an institution's capital level, insurance of deposits may
be terminated by the FDIC upon a finding that the institution has engaged in
unsafe or unsound practices, is in an unsafe or unsound condition to continue
operations or has violated any applicable law, regulation, rule, order or
condition imposed by the FDIC or the institution's primary regulator. The
management of the Bank is unaware of any practice, condition or violation that
might lead to termination of its deposit insurance.
Regulatory Capital Requirements. OTS capital regulations require
savings institutions to meet two capital standards: (1) a leverage ratio (core
capital) equal to at least 4% of total adjusted assets and (2) a risk-based
capital requirement equal to 8.0% of total risk-weighted assets.
Core capital is defined as common stockholders' equity (including
retained earnings), noncumulative perpetual preferred stock and minority
interests in the equity accounts of consolidated subsidiaries, and qualifying
supervisory goodwill, less nonqualifying intangible assets.
The OTS leverage ratio regulation establishes a core capital ratio of
at least 4% for those savings associations in the strongest financial and
managerial condition based on the "CAMELS" rating system currently in use by the
OTS. Those savings associations receiving a CAMELS rating of "1", the best
possible rating on a scale of 1 to 5, will be required to maintain a ratio of
core capital to adjusted total assets of 4%. All other savings associations will
be required to maintain minimum core capital of at least 4% of total adjusted
assets, with a maximum core capital ratio requirement of 5%. In determining the
required minimum core capital ratio, the OTS would assess the quality of risk
management and the level of risk in each savings association on a case-by-case
basis. The OTS has not indicated the standards it will use in establishing the
appropriate core capital requirement for savings associations not rated "1"
under the CAMELS rating system.
The risk-based capital standard for savings institutions requires the
maintenance of total risk-based capital (which is defined as core capital plus
supplementary capital) of 8.0% of risk-weighted assets. The components of
supplementary capital include, among other items, cumulative perpetual preferred
stock, perpetual subordinated debt, mandatory convertible subordinated debt,
intermediate-term preferred stock and the portion of the allowance for loan
losses not designated for specific loan losses. The portion of the allowance for
loan and lease losses includable in supplementary capital is limited to a
maximum of 1.25% of risk-weighted assets. Overall, supplementary capital is
limited to 100% of core capital. A savings association must calculate its
risk-weighted assets by multiplying each asset and off-balance sheet item by
various risk factors as determined by the OTS, which range from 0% for cash to
100% for delinquent loans, property acquired through foreclosure, commercial
loans and other assets.
19
As of September 30, 1998, the Bank had core and risk-based capital of
$24.9 million and $25.2 million, respectively, which amounts significantly
exceed all applicable fully phased-in regulatory capital requirements of the
OTS.
OTS regulations set forth the methodology for calculating an IRR
component which is added to the risk-based capital requirements for OTS
regulated thrift institutions. Generally, savings associations with a greater
than "normal" level of interest rate exposure will be subject to a deduction
from total capital for purposes of calculating their risk-based capital
requirement. Specifically, interest rate exposure will be measured as the
decline in net portfolio value due to a 200 basis point change in market
interest rates. The IRR component to be deducted from total capital is equal to
one-half the difference between an institution's measured exposure and the
"normal" level of exposure which is defined as two percent of the estimated
economic value of its assets. Institutions, such as the Bank, with less than
$300 million in assets and a risk-based capital ratio in excess of 12% are
exempt from deducting the IRR component.
In addition, pursuant to the Federal Deposit Insurance Corporation
Improvement Act of 1991 ("FDICIA"), the OTS must revise the risk-based capital
regulations to include a credit risk component and a nontraditional activities
component, the purpose of which will be to increase the minimum capital
requirements for savings associations with higher credit risks.
Dividend and Other Capital Distribution Limitations. OTS regulations
impose limitations upon all capital distributions by savings institutions, such
as cash dividends, payments to repurchase or otherwise acquire its shares,
payments to shareholders of another institution in a cash-out merger, and other
distributions charged against capital. The rule establishes three tiers of
institutions, based primarily on an institution's capital level. OTS regulations
require the Bank to give the OTS 30 days advance notice of any proposed
declaration of dividends to the Company, and the OTS has the authority under its
supervisory powers to prohibit the payment of dividends to the Company. In
addition, the Bank may not declare or pay a cash dividend on its capital stock
if the effect thereof would be to reduce the regulatory capital of the Bank
below the amount required for the liquidation account established pursuant to
the Bank's conversion. Finally, under the FDICIA, a savings association is
prohibited from making a capital distribution if, after making the distribution,
the savings association would be undercapitalized (not meet any one of its
minimum regulatory capital requirements).
Qualified Thrift Lender Test. The Home Owners' Loan Act, as amended
("HOLA"), requires savings institutions to meet a QTL test. If the Bank
maintains an appropriate level of Qualified Thrift Investments ("QTIs")
(primarily residential mortgages and related investments, including certain
mortgage-related securities) and otherwise qualifies as a QTL, it will continue
to enjoy full borrowing privileges from the FHLB of Cincinnati. The required
percentage of QTIs is 65% of portfolio assets (defined as all assets minus
intangible assets, property used by the institution in conducting its business
and liquid assets equal to 10% of total assets). Certain assets are subject to a
percentage limitation of 20% of portfolio assets. In addition, savings
associations may include shares of stock of the FHLBs, Federal National Mortgage
Association ("FNMA"), and FHLMC as qualifying QTIs. Compliance with the QTL test
is determined on a monthly basis in nine out of every 12 months. As of September
30, 1998, the Bank was in compliance with its QTL requirement with 91.98% of its
assets invested in QTIs.
A savings association that does not meet a QTL test must either convert
to a bank charter or comply with the following restrictions on its operations:
(i) the savings association may not engage in any new activity or make any new
investment, directly or indirectly, unless such activity or investment is
permissible for a national bank; (ii) the branching powers of the savings
association shall be restricted to those of a national bank; (iii) the savings
association shall not be eligible to obtain any advances from its FHLB; and (iv)
payment of dividends by the savings association shall be subject to the rules
regarding
20
payment of dividends by a national bank. Upon the expiration of three years from
the date the savings association ceases to be a QTL, it must cease any activity
and not retain any investment not permissible for a national bank and
immediately repay any outstanding FHLB advances (subject to safety and soundness
considerations).
Transactions With Affiliates. Generally, restrictions on transactions
with affiliates require that transactions between a savings association or its
subsidiaries and its affiliates be on terms as favorable to the Bank as
comparable transactions with non-affiliates. In addition, certain of these
transactions are restricted to an aggregate percentage of the Bank's capital and
collateral in specified amounts must usually be provided by affiliates to
receive loans from the Bank. Affiliates of the Bank include the Company and any
company which would be under common control with the Bank. In addition, a
savings association may not lend to any affiliate engaged in activities not
permissible for a bank holding company or acquire the securities of any
affiliate which is not a subsidiary. The OTS has the discretion to treat
subsidiaries of savings associations as affiliates on a case-by-case basis.
The Bank's authority to extend credit to its officers, directors, and
10% stockholders as well as to entities that such persons control is currently
governed by Sections 22(g) and 22(h) of the Federal Reserve Act and Regulation O
promulgated by the Federal Reserve Board. Among other things, these regulations
require such loans to be made on terms substantially similar to those offered to
unaffiliated individuals, place limits on the amount of loans the Bank may make
to such persons based, in part, on the Bank's capital position, and require
certain approval procedures to be followed. OTS regulations, with minor
variation, apply Regulation O to savings associations.
Liquidity Requirements. All savings associations are required to
maintain an average daily balance of liquid assets equal to a certain percentage
of the sum of its average daily balance of net withdrawable deposit accounts and
borrowings payable in one year or less. The liquidity requirement may vary from
time to time (between 4% and 10%) depending upon economic conditions and savings
flows of all savings associations. As of September 30, 1998, the Bank's
liquidity ratio was 27.34%.
Federal Home Loan Bank System. The Bank is a member of the FHLB of
Cincinnati, which is one of 12 regional FHLBs that administer the home financing
credit function of savings associations. Each FHLB serves as a reserve or
central bank for its members within its assigned region. It is funded primarily
from proceeds derived from the sale of consolidated obligations of the FHLB
System. It makes loans to members (i.e., advances) in accordance with policies
and procedures established by the Board of Directors of the FHLB. As of
September 30, 1998, the Bank had no funds borrowed from the FHLB of Cincinnati
to fund operations; however, there can be no assurances that borrowings will not
be made in the future.
As a member, the Bank is required to purchase and maintain stock in the
FHLB of Cincinnati in an amount equal to at least 1% of its aggregate unpaid
residential mortgage loans, home purchase contracts, or similar obligations at
the beginning of each year. As of September 30, 1998, the Bank had $1.4 million
in FHLB stock, which was in compliance with this requirement.
The FHLBs are required to provide funds for the resolution of troubled
savings associations and to contribute to affordable housing programs through
direct loans or interest subsidies on advances targeted for community investment
and low- and moderate-income housing projects. These contributions have
adversely affected the level of FHLB dividends paid and could continue to do so
in the future. For the fiscal year ended September 30, 1998, dividends paid by
the FHLB of Cincinnati to the Bank totaled $95,579.
21
Federal Reserve System. The Federal Reserve Board requires all
depository institutions to maintain non-interest bearing reserves at specified
levels against their transaction accounts (primarily checking, NOW, and Super
NOW checking accounts) and non-personal time deposits. The balances maintained
to meet the reserve requirements imposed by the Federal Reserve Board may be
used to satisfy the liquidity requirements that are imposed by the OTS. As of
September 30, 1998, the Bank was in compliance with its Federal Reserve Board
minimum reserve requirements.
Savings associations have authority to borrow from the Federal Reserve
Bank "discount window," but Federal Reserve policy generally requires savings
associations to exhaust all OTS sources before borrowing from the Federal
Reserve System. The Bank had no such borrowings at September 30, 1998.
Item 2. Properties
The Bank operates from its main office and one full service branch
office. The Bank's total investment in offices, office property and equipment is
$1.7 million with a net book value of $852,000 at September 30, 1998. The
following table sets forth information regarding the Bank's properties:
Original
Leased Date Net Book Value at
Location or Owned Acquired September 30, 1998
- -------- -------- -------- ------------------
MAIN OFFICE:
104 South Chiles Street Owned 1964 $518,000
Harrodsburg, Kentucky 40330
BRANCH OFFICE: Owned 1973 $ 94,000
216 South Main Street
Lawrenceburg,Kentucky
FUTURE BRANCH OFFICE (lot): Owned 1998 $240,000
1015 Cross Road Drive
Lawrenceburg, Kentucky
Item 3. Legal Proceedings
The Bank, from time to time, is a party to ordinary routine litigation,
which arises in the normal course of business, such as claims to enforce liens,
condemnation proceedings on properties in which the Bank holds security
interests, claims involving the making and servicing of real property loans, and
other issues incident to the business of the Bank. There were no material
lawsuits pending or known to be contemplated against the Bank or the Company at
September 30, 1998.
Item 4. Submission of Matters to a Vote of Security Holders
None.
22
PART II
Item 5. Market for Common Equity and Related Stockholder Matters
Information relating to the market for Registrant's common equity and
related stockholder matters appears under "Market and Dividend Information" in
the Registrant's 1998 Annual Report to Stockholders on the inside cover page,
and is incorporated herein by reference.
Item 6. Selected Financial Data
The above-captioned information appears under "Selected Financial and
Other Data" in the Registrants' 1998 Annual Report to Stockholders on pages 2
and 3 is incorporated by reference herein.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The above-captioned information appears under "Management's Discussion
and Analysis of Financial Condition and Results of Operations" in the
Registrant's 1998 Annual Report to Stockholders on pages 4 through 6 and is
incorporated herein by reference.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The above-captioned information appears under "Asset/Liability
Management" in the Registrant's 1998 Annual Report to Stockholders on pages 4
through 6 and is incorporated herein by reference.
Item 8. Financial Statements and Supplementary Data
The Consolidated Financial Statements of the Company and its
subsidiaries, together with the report thereon by Miller, Mayer, Sullivan &
Stevens LLP appears in the Registrant's 1998 Annual Report to Stockholders on
pages 17 through 41 and are incorporated herein by reference.
Item 9. Changes In and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
PART III
Item 10. Directors and Executive Officers of the Registrant
The information contained under the section captioned "Proposal I --
Election of Directors" at pages 3 to 12 of the Registrant's definitive proxy
statement for the Registrant's Annual Meeting of Stockholders to be held on
January 25, 1999 (the "Proxy Statement"), which was filed with the Commission on
December 22, 1998 and incorporated herein by reference. See also "Item 1.
Business -- Personnel" included herein.
23
Item 11. Executive Compensation
The information relating to executive compensation is incorporated
herein by reference to the Registrant's Proxy Statement at pages 6 through 9.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information relating to security ownership of certain beneficial
owners and management is incorporated herein by reference to the Registrant's
Proxy Statement at pages 2 and 3.
Item 13. Certain Relationships and Related Transactions
The information relating to certain relationships and related
transactions is incorporated herein by reference to the Registrant's Proxy
Statement at pages 11 and 12.
PART IV
Item 14. Exhibits and Reports on Form 8-K
(a) The following documents are filed as a part of this report:
(1) Financial Statements of the Company are incorporated by reference
to the following indicated pages of the 1998 Annual Report to Stockholders.
PAGE
Independent Auditors' Report......................................................................... 17
Consolidated Balance Sheets as of September 30, 1998 and 1997........................................ 18
Consolidated Statements of Income For the Years Ended September 30, 1998, 1997
and 1996 ......................................................................................... 19
Consolidated Statement of Stockholders' Equity
for the Years Ended September 30, 1998, 1997 and 1996............................................. 20
Consolidated Statements of Cash Flows for the Years Ended September 30, 1998,
1997 and 1996...................................................................................... 21
Notes to Consolidated Financial Statements........................................................... 23 - 41
The remaining information appearing in the Annual Report to
Stockholders is not deemed to be filed as part of this report, except as
expressly provided herein.
(2) All schedules are omitted because they are not required or
applicable, or the required information is shown in the consolidated financial
statements or the notes thereto.
24
(3) Exhibits
(a) The following exhibits are filed as part of this report.
3.1 Certificate of Incorporation of Harrodsburg First Financial
Bancorp, Inc.*
3.2 Bylaws of Harrodsburg First Financial Bancorp, Inc.*
10.1 1996 Stock Option Plan**
10.2 Restricted Stock Plan and Trust Agreement**
13.0 1998 Annual Report to Stockholders
21.0 Subsidiary Information
27.0 Financial Data Schedules
(b) Reports on Form 8-K.
None.
- ------------------
* Incorporated herein by reference into this document from the Exhibits to Form
S-1, Registration Statement, initially filed on June 14, 1995, Registration
No. 33-93458.
** Incorporated herein by reference into this document from the Exhibits to the
Form 10-K filed on December 29, 1997.
25
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.
HARRODSBURG FIRST FINANCIAL BANCORP, INC.
Dated: December 28, 1998 By: /s/ Jack D. Hood
-------------------------------------
Jack D. Hood
President, Chief Executive
Officer and Director
Pursuant to the requirement 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.
By: /s/ Jack D. Hood By: /s/ Wickliffe T. Asbury, Sr.
-------------------------- ------------------------------------
Jack D. Hood Wickliffe T. Asbury, Sr.
President, Chief Executive Vice President and Director
Officer and Director
Date: December 28, 1998 Date: December 28, 1998
By: /s/ Elwood Burgin By: /s/ Teresa W. Noel
-------------------------- ------------------------------------
Elwood Burgin Teresa W. Noel
Director Treasurer and Chief Financial Officer
Date: December 28, 1998 Date: December 28, 1998
By: /s/ Thomas Les Letton By: /s/ Jack L. Coleman, Jr.
-------------------------- ------------------------------------
Thomas Les Letton Jack L. Coleman, Jr.
Director Director
Date: December 28, 1998 Date: December 28, 1998
By: /s/ W. Dudley Shryock, CPA
--------------------------
W. Dudley Shryock
Director
Date: December 28, 1998