ITEM 1. BUSINESS
THE COMPANY
Greene County Bancshares, Inc. (the "Company") is a Tennessee corporation that serves as the bank holding company and sole stockholder for Greene County Bank ("GCB") and Premier Bank of East Tennessee ("Premier Bank"), both of which are Tennessee-chartered commercial banks. GCB and Premier Bank are referred to herein as the "Banks." The Company also wholly-owned American Fidelity Bank, which was merged into GCB during 1996.
The Company's assets consist primarily of its investment in the Banks, liquid investments and fixed assets. Its primary activities are conducted through the Banks. At December 31, 1996, the Company's consolidated total assets were $478.0 million, its consolidated net loans were $381.3 million, its total deposits were $408.7 million and its total stockholders' equity were $45.7 million.
The principal executive offices of the Company are located at 100 North Main, Greeneville, Tennessee 37743 and its telephone number is (423) 639-5111.
GREENE COUNTY BANK
GCB is a Tennessee-chartered commercial bank established in 1890 and which has its principal executive offices located in Greeneville, Tennessee. The principal business of GCB consists of attracting deposits from the general public and investing those funds, together with funds generated from operations and from principal and interest payments on loans, primarily in commercial loans, commercial real estate loans, consumer loans and single-family mortgage loans. GCB also provides trust, collection and other banking services, including separate finance, mortgage and acceptance corporations. At December 31, 1996, Greene County Bank had seven full service banking offices located in Greene County, Tennessee; three full service banking offices located in Washington County, Tennessee; two full service banking offices located in Blount County, Tennessee, two full service banking offices located in Hamblen County, Tennessee, and full service banking offices located in Sullivan County, Knox County and Hawkins County, Tennessee.
GCB also conducts separate businesses through three wholly-owned subsidiaries. Through its wholly-owned subsidiary, Superior Financial Services, Inc., GCB also operates six consumer finance company offices located in Greene, Hamblen, Blount, Washington, Sullivan and McMinn Counties, Tennessee. Through its wholly-owned subsidiary, Superior Mortgage Company, GCB operates a mortgage banking operation through its sole office in Knox County, Tennessee and through its representatives located throughout the Company's branch system. In December 1996, the Company created a new subsidiary, GCB Acceptance Corporation, as a wholly-owned subsidiary of GCB, to make car loans beginning in 1997 to consumers with less than perfect credit history (also known as sub-prime lending). Each of these subsidiaries are continuing to develop but do not yet contribute in any significant manner to the operating results of the Company.
PREMIER BANK OF EAST TENNESSEE
Premier Bank is a Tennessee-chartered commercial bank established in 1911 as the Bank of Niota and which has its principal executive offices in Niota, Tennessee. The primary business of Premier Bank consists of attracting deposits from its primary market area and investing those deposits, together with funds generated from operations, in consumer, single-family mortgage and small business loans. Premier Bank conducts its business from a main office located in Niota, Tennessee which operates under the trade name "Bank of Niota" and a second office in Athens, Tennessee which operates under the trade name "Bank of Athens."
Premier Bank was acquired upon the acquisition of its parent company, Premier Bancshares, Inc. ("Premier"), by the Company on January 1, 1996. At that time, Premier had assets of approximately $24.2 million, deposits of approximately $22.0 million and stockholders' equity of approximately $1.7 million. The purchase price of Premier was $3,140,000, consisting of cash of $708,582 and the Company's promissory notes to the sellers in the aggregate principal amount of $2,431,418, plus $230,000 for non-compete agreements with the sellers. The transaction was accounted for as a purchase. On March 29, 1996, Premier was merged with and into the Company, with the Company as the survivor, and Premier Bank became a wholly-owned subsidiary of the Company.
Deposits of the Banks are insured by the Bank Insurance Fund ("BIF") of the Federal Deposit Insurance Corporation ("FDIC") to a maximum of $100,000 for each insured depositor. The Banks are subject to supervision and regulation by the Tennessee Department of Financial Institutions (the "Banking Department") and the FDIC. See "Regulation, Supervision and Governmental Policy."
LENDING ACTIVITIES
General. The loan portfolio of the Company is comprised of mortgage ------- installment loans, commercial loans, real estate loans and consumer loans. Such loans are originated within the Company's market area of east Tennessee and are generally secured by residential or commercial real estate or business or personal property located in the east Tennessee counties of Greene, Washington, Hamblen, Sullivan, Hawkins, Blount, Knox and McMinn Counties, Tennessee.
Loan Composition. The following table sets forth the composition of the ---------------- Company's loans for the periods indicated.
Loan Maturities. The following table reflects at December 31, 1996 the dollar --------------- amount of loans maturing or subject to rate adjustment based on their contractual terms to maturity. Loans with fixed rates are reflected based upon the contractual repayment schedule while loans with variable interest rates are reflected based upon the contractual repayment schedule up to the contractual rate adjustment date. Demand loans, loans having no stated schedule of repayments and loans having no stated maturity are reported as due within three months.
The following table sets forth the dollar amount of the loans maturing subsequent to the year ending December 31, 1997 between those with predetermined interest rates and those with floating or adjustable interest rates.
Commercial Loans. The Company's principal lending activities include the ---------------- origination of commercial loans in the Company's primary lending area. Commercial loans are made for a variety of business purposes, including working capital, inventory and equipment and capital expansion. At December 31, 1996, commercial loans outstanding totaled $97.3 million, or 25.5% of the Company's total net loan portfolio. The terms for commercial loans are generally one to seven years. Commercial loan applications must be supported by current financial information on the borrower and, where appropriate, by adequate collateral. Commercial loans are generally underwritten by addressing cash flow (debt service coverage), primary and secondary sources of repayment, financial strength of any guarantor, liquidity, leverage, management experience, ownership structure, economic conditions and industry-specific trends and collateral. The loan to value ratio depends on the type of collateral. Generally speaking, accounts receivable are financed at 60% of accounts receivable less than 90 days past due. If other collateral is taken to support the loan, the loan to value of accounts receivable may approach 85%. Inventory financing will range between 10% and 25% depending on the borrower and nature of inventory. The Company requires a first lien position for such loans. These types of loans are generally considered to be a higher credit risk than other loans originated by the Company.
Commercial Real Estate Loans. The Company originates commercial loans, ---------------------------- generally to existing business customers, secured by real estate located in the Company's market area. At December 31, 1996, commercial real estate loans totaled $98.0 million, or 25.7% of the Company's total net loan portfolio. The terms of such loans are generally for ten to twenty years and are priced based in part upon the New York prime rate, as reported in The
Wall Street Journal. Commercial real estate loans are generally underwritten by addressing cash flow (debt service coverage), primary and secondary source of repayment, financial strength of any guarantor, strength of the tenant (if any), liquidity, leverage, management experience, ownership structure, economic conditions and industry specific trends and collateral. Generally, the Company will loan up to 80% of the value of improved property, 65% of the value of raw land and 75% of the value of undeveloped land. A first lien on the property and assignment of lease is required if the collateral is rental property, with second lien positions considered on a case by case basis.
Mortgage Installment Loans. The Company also originates one-to-four family, -------------------------- owner-occupied residential mortgage loans secured by property located in the Company's primary market area. The majority of the Company's residential mortgage loans consists of loans secured by owner-occupied, single-family residences. At December 31, 1996, the Company had $108.9 million, or 28.6% of its total net loan portfolio, in mortgage installment loans. The Company also originates, to a limited extent, installment real estate loans for other types of real estate acquisitions. Mortgage installment and installment real estate loans generally have a loan to value ratio of 85%. These loans are underwritten by giving consideration to the ability to pay, stability of employment or source of income, credit history and loan to value ratio.
Installment Consumer Loans. At December 31, 1996, the Company's installment -------------------------- consumer loan portfolio totaled $71.4 million, or 18.7% of the Company's total net loan portfolio. The Company's consumer loan portfolio is comprised of unsecured personal notes and loans secured by durable goods. Although personal loans tend to have a higher risk of default than other loans, management believes that its loan loss experience with its personal loan portfolio is within allowable limits. However, the performance of such loans will be affected by the local and regional economy as well as the rates of personal bankruptcies, job loss, divorce and other individual-specific characteristics.
Non-accrual, Past Due, Restructured and Potential Problem Loans. The Company --------------------------------------------------------------- classifies its problem loans into four categories: non-accrual loans, past-due loans, restructured loans, and potential problem loans.
When management determines that a loan no longer meets the criteria for performing loans and that collection of interest appears doubtful, the loan is placed on non-accrual status. All loans which are 90 days past due are considered non-accrual, unless they are adequately secured and there is reasonable assurance of full collection of principal and interest. Management closely monitors all loans which are contractually 90 days past due, restructured or on non-accrual status. Non-accrual loans which are 120 days past due without assurance of repayment are charged off.
The following table sets forth information with respect to the Company's non-performing assets at the dates indicated. At these dates, the Company did not have any restructured loans within the meaning of Statement of Financial Accounting Standards No. 15.
If non-accrual loans at December 31, 1996 had been current according to their original terms and had been outstanding throughout 1996, or since origination if originated during the year, interest income on these loans would have been $169,000. Interest actually recognized on these loans during 1996 was not significant.
At December 31, 1996, the Company had approximately $5.1 million in loans which are not currently classified as non-accrual, 90 days past due or restructured and where known information about possible credit problems of borrowers caused management to have serious concerns as to the ability of the borrowers to comply with present loan repayment terms. Such loans were classified as substandard by the Company and comprised various commercial and commercial real estate loans, including a $1.9 million commercial real estate loan secured by a motel and a $1.2 million group of commercial and commercial real estate loans to a single borrower secured by commercial real estate and equipment. For further information, see Note 1 of Notes to Consolidated Financial Statements.
Allowance for Loan Losses. The allowance for loan losses is maintained at a ------------------------- level which, in management's opinion, is adequate to absorb all potential losses on loans then present in the loan portfolio. The amount of the allowance is affected by: (1) loan charge-offs, which decrease the allowance; (2) recoveries on loans previously charged-off, which increase the allowance; and (3) the provision of possible loan losses charged to income, which increase the allowance. In determining the provision for possible loan losses, it is necessary for management to monitor fluctuations in the allowance resulting from actual charge-offs and recoveries, and to periodically review the size and composition of the loan portfolio in light of current and anticipated economic conditions in an effort to evaluate portfolio risks. If actual losses exceed the amount of the allowance for loan losses, earnings of the Company could be adversely affected. The amount of the provision is based on management's judgment of those risks and therefore the allowance represents general, rather than specific, reserves.
The following is a summary of activity in the allowance for loan losses for the periods indicated:
The following table presents an allocation of the Company's allowance for loan losses at the dates indicated and the percentage of loans represented by each category to total loans:
INVESTMENT ACTIVITIES
General. The Company maintains a portfolio of investments to provide liquidity ------- and an additional source of income.
Securities by Category. The following table sets forth the amount of ---------------------- securities by major categories held by the Company at December 31, 1996, 1995 and 1994.
For information regarding the amortized cost of securities at December 31, 1996, 1995 and 1994, see Note 3 of Notes to Consolidated Financial Statements.
Maturity Distributions of Securities. The following table sets forth the ------------------------------------ distributions of maturities of securities at amortized cost as of December 31, 1996.
Expected maturities may differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. For information regarding the amortized cost
and approximate market value of securities at December 31, 1996, by contractual maturity, see Note 3 of Notes to Consolidated Financial Statements.
DEPOSITS
Deposits are the primary source of funds for the Company. Such deposits consist of checking accounts, regular savings deposits, NOW accounts, Money Market Accounts, market rate Certificates of Deposit. Deposits are attracted from individuals, partnerships and corporations in the Company's market area. In addition, the Company obtains deposits from state and local entities and, to a lesser extent, U.S. Government and other depository institutions. The Company does not accept brokered deposits.
The following table sets forth the average balances and average interest rates based on daily balances for deposits for the periods indicated.
The following table indicates the amount of the Company's certificates of deposit and other time deposits of $100,000 or more by time remaining until maturity as of December 31, 1996.
COMPETITION
In order to compete effectively, the Company relies substantially on local commercial activity; personal contacts by its directors, officers, other employees and shareholders; personalized services; and its reputation in the communities it serves.
According to recent data as of June 30, 1996 supplied by the Tennessee Bankers Association, GCB ranked as the largest financial institution in its market area, which includes Greene, Hamblen, Washington and Blount Counties and portions of Cocke, Hawkins, Jefferson and Knox Counties. In Greene County, there are seven commercial banks, operating 22 branches and holding an aggregate of approximately $580 million in deposits as of December 31, 1996. Through Premier Bank, the Company also competes with five commercial banks and one savings bank in McMinn County, Tennessee.
Under the federal Bank Holding Company Act of 1956 (the "Holding Company Act"), as amended by the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the "Riegle-Neal Act"), Tennessee banks and their holding companies may be acquired by out-of-state banks or their holding companies, and Tennessee banks and their holding companies may acquire out-of-state banks without regard to whether the transaction is prohibited by the laws of any state. In addition, the Riegle-Neal Act authorizes the federal banking agencies, effective June 1, 1997, to approve interstate merger transactions without regard to whether such transactions are prohibited by the law of any state, unless the home state of one of the banks opts out of the Riegle-Neal Act by adopting a law that applies equally to all out-of-state banks and expressly prohibits merger transactions involving out-of-state banks. The effect of the Riegle-Neal Act may be to increase competition within the State of Tennessee among banking institutions located in Tennessee and from banking companies located anywhere in the country.
EMPLOYEES
As of December 31, 1996, the Company employed 233 persons. None of the Company's employees are presently represented by a union or covered under a collective bargaining agreement. Management of the Company considers relations with employees to be good.
REGULATION, SUPERVISION AND GOVERNMENTAL POLICY
The following is a brief summary of certain statutes, rules and regulations affecting the Company and the Banks. A number of other statutes and regulations have an impact on their operations. The following summary of applicable statutes and regulations does not purport to be complete and is qualified in its entirety by reference to such statutes and regulations.
Bank Holding Company Regulation. The Company is registered as a bank holding ------------------------------- company under the Holding Company Act and, as such, subject to supervision, regulation and examination by the FRB.
Acquisitions and Mergers. Under the Holding Company Act, a bank holding company must obtain the prior approval of the FRB before (i) acquiring direct or indirect ownership or control of any voting shares of any bank or bank holding company if, after such acquisition, the bank holding company would directly or indirectly own or control more than 5% of such shares; (2) acquiring all or substantially all of the assets of another bank or bank holding company; or (3) merging or consolidating with another bank holding company. Also, any company must obtain approval of the FRB prior to acquiring control of the Company or the Banks. For purposes of the Holding Company Act, "control" is defined as ownership of more than 25% of any class of voting securities of the Company or the Banks, the ability to control the election of a majority of the directors, or the exercise of a controlling influence over management or policies of the Company or the Banks.
The Holding Company Act, as amended by the Riegle-Neal Act, generally permits the FRB to approve interstate bank acquisitions by bank holding companies without regard to any prohibitions of state law. See "Competition".
The Change in Bank Control Act and the related regulations of the FRB require any person or persons acting in concert (except for companies required to make application under the Holding Company Act), to file a written notice with the FRB before such person or persons may acquire control of the Company or the Banks. The Change in Bank Control Act defines "control" as the power, directly or indirectly, to vote 25% or more of any voting securities or to direct the management or policies of a bank holding company or an insured bank. The Company is not aware of any such notice having been filed with the FRB during 1996.
The Holding Company Act also prohibits, with certain exceptions, a bank holding company from acquiring direct or indirect ownership or control of more than 5% of the voting shares of a company that is not a
bank or a bank holding company, or from engaging directly or indirectly in activities other than those of banking, managing or controlling banks, or providing services for its subsidiaries.
Capital Requirements. The Company is also subject to FRB guidelines that require bank holding companies to maintain specified minimum ratios of capital to total assets and capital to risk-weighted assets. See "--Capital Requirements."
Dividends. The FRB has the power to prohibit dividends by bank holding companies if their actions constitute unsafe or unsound practices. The FRB has issued a policy statement expressing its view that a bank holding company should pay cash dividends only to the extent that the company's net income for the past year is sufficient to cover both the cash dividends and a rate of earning retention that is consistent with the company's capital needs, asset quality, and overall financial condition. The Company does not believe this policy statement will limit the Company's activity to maintain its dividend payment rate.
Support of Banking Subsidiaries. Under FRB policy, the Company is expected to act as a source of financial strength to its banking subsidiaries and, where required, to commit resources to support each of such subsidiaries. This support may be required at times when, absent such FRB policy, the Company may not be inclined to provide it. Moreover, if one of its banking subsidiaries should become undercapitalized, under FDICIA the Company would be required to guarantee the subsidiary bank's compliance with its capital plan in order for such plan to be accepted by the federal regulatory authority.
Under the "cross guarantee" provisions of the Federal Deposit Insurance Act (the "FDI Act"), any FDIC-insured subsidiary of the Company may be held liable for any loss incurred by, or reasonably expected to be incurred by, the FDIC in connection with (i) the "default" of any other commonly controlled FDIC-insured subsidiary or (ii) any assistance provided by the FDIC to any commonly controlled FDIC-insured subsidiary "in danger of default." "Default" is defined generally as the appointment of a conservator or receiver and "in danger of default" is defined generally as the existence of certain conditions indicating that a default is likely to occur in the absence of regulatory assistance.
Because it is a bank holding company, any capital loans made by the Company to its banking subsidiaries are subordinate in right of payment to deposits and to certain other indebtedness of such subsidiary bank. In the event of a bank holding company's bankruptcy, any commitment by the bank holding company to a federal bank regulatory agency to maintain the capital of a banking subsidiary will be assumed by the bankruptcy trustee and entitled to a priority of payment over certain other creditors of the bank holding company, including the holders of its subordinated debt.
Transactions with Affiliates. Provisions of the Federal Reserve Act impose restrictions on the type, quantity and quality of transactions between "affiliates" (as defined below) of an insured bank and the insured bank (including a bank holding company and its nonbank subsidiaries). The purpose of these restrictions is to prevent misuse of the resources of the insured institution by its uninsured affiliates. An exception to most of these restrictions is provided for transactions between two insured banks that are within the same holding company where the holding company owns 80% or more of each of these banks (the "sister bank" exception). The restrictions also do not apply to transactions between an insured bank to its wholly-owned subsidiaries. These restrictions include limitations on the purchase and sale of assets and extensions of credit by the insured bank to its holding company or its nonbank subsidiaries. An insured bank and its subsidiaries are limited in engaging in "covered transactions" with their nonbank or nonsavings-bank affiliates to the following amounts: (i) in the case of any one such affiliate, the aggregate amount of covered transactions of the insured bank and its subsidiaries may not exceed 10% of the capital stock and surplus of the insured bank and (ii) in the case of all affiliates, the aggregate amount of covered transactions of the insured bank and its aggregate amount of covered transactions of the insured bank and its subsidiaries may not exceed 20% of the capital stock and surplus of the bank. "Covered
transactions" are defined by statute to include loans or other extensions of credit as well as purchases of securities issued by an affiliate, purchases of assets (unless otherwise exempted by the Federal Reserve Board), the acceptance of securities issued by the affiliate as collateral for a loan and the issuance of a guarantee, acceptance or letter of credit issued on behalf of an affiliate. Further, provisions of the Holding Company Act prohibit a bank holding company and its subsidiaries from engaging in certain tie-in arrangements in connection with any extension of credit, lease or sale of property or furnishing of services. As used herein, "affiliate" means generally any company that controls the insured bank, a company which is under common control with the insured bank and a subsidiary of the insured bank.
Bank Regulation. As a Tennessee banking institution, each of the Banks is --------------- subject to regulation, supervision and regular examination by the Banking Department. The deposits of each Bank are insured by the FDIC to the maximum extent provided by law (a maximum of $100,000 for each insured depositor). Tennessee and federal banking laws and regulations control, among other things, required reserves, investments, loans, mergers and consolidations, issuance of securities, payment of dividends, and establishment of branches and other aspects of the Banks' operations. Supervision, regulation and examination of the Company and the Banks by the bank regulatory agencies are intended primarily for the protection of depositors rather than for holders of the Common Stock of the Company.
Extensions of Credit. Under joint regulations of the federal banking agencies, including the FDIC, banks must adopt and maintain written policies that establish appropriate limits and standards for extensions of credit that are secured by liens or interests in real estate or are made for the purpose of financing permanent improvements to real estate. These policies must establish loan portfolio diversification standards, prudent underwriting standards, including loan-to-value limits, that are clear and measurable, loan administration procedures and documentation, approval and reporting requirements. A bank's real estate lending policy must reflect consideration of the Interagency Guidelines for Real Estate Lending Policies (the "Interagency Guidelines") that have been adopted by the federal bank regulators. The Interagency Guidelines, among other things, call upon depository institutions to establish internal loan-to-value limits for real estate loans that are not in excess of the loan-to-value limits specified in the Guidelines for the various types of real estate loans. The Interagency Guidelines state that it may be appropriate in individual cases to originate or purchase loans with loan-to-value ratios in excess of the supervisory loan-to-value limits. The aggregate amount of loans in excess of the supervisory loan-to-value limits, however, should not exceed 100% of total capital and the total of such loans secured by commercial, agricultural, multifamily and other non-one-to-four family residential properties should not exceed 30% of total capital.
Federal Deposit Insurance. Each of the Banks is subject to FDIC deposit insurance assessments. The FDIC has established a risk-based deposit insurance assessment system for insured depository institutions, under which insured institutions are assigned assessment risk classifications based upon capital levels and supervisory evaluations. Under these regulations, the FDIC set the 1996 insurance assessment rates for BIF-insured banks such as the Banks from $2,000 per year for the highest rated institutions to 0.27% of insured deposits for the lowest rated institutions.
On September 30, 1996, President Clinton signed into law the Deposit Insurance Funds Act of 1996 (the "1996 Act"), which, among other things, (i) recapitalized the Savings Association Insurance Fund ("SAIF") by imposing a special one-time assessment on SAIF-insured institutions, (ii) from January 1, 1997 through December 31, 1999, requires BIF member banks to pay one-fifth of the assessment rate imposed upon savings institutions to cover the annual payments on the bonds issued by the Financing Corporation ("FICO") and (iii) from January 1, 2000 until the date the FICO bonds are retired, will require BIF members and SAIF members to pay FICO assessments on a pro rata basis. In accordance with the 1996 Act's requirements, the FDIC has set the 1997 FICO assessment rate for BIF member banks at .013% of insured deposits. The annual insurance assessment rates
payable by BIF member banks for the first half of 1997, however, remain fixed at 0% to 0.27%, depending on an individual bank's risk classification.
Safety and Soundness Standards. The Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA") required the federal bank regulatory agencies to prescribe, by regulation, non-capital safety and soundness standards for all insured depository institutions and depository institution holding companies. The FDIC and the other federal banking agencies have adopted guidelines prescribing safety and soundness standards pursuant to FDICIA. The safety and soundness guidelines establish general standards relating to internal controls and information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, and compensation, fees and benefits. Among other things, the guidelines require banks to maintain appropriate systems and practices to identify and manage risks and exposures identified in the guidelines. In addition, the FDIC and the other federal banking agencies have proposed guidelines for asset quality and earnings standards as required by FDICIA. Under the proposed standards, a bank would be required to maintain systems, commensurate with its size and the nature and scope of its operations, to identify problem assets and prevent deterioration in those assets as well as to evaluate and monitor earnings and ensure that earnings are sufficient to maintain adequate capital and reserves.
Capital Requirements. The FRB has established guidelines with respect to the -------------------- maintenance of appropriate levels of capital by registered bank holding companies, and the FDIC has established similar guidelines for state-chartered banks that are not members of the FRB. The regulations of the FRB and FDIC impose two sets of capital adequacy requirements: minimum leverage rules, which require the maintenance of a specified minimum ratio of capital to total assets, and risk-based capital rules, which require the maintenance of specified minimum ratios of capital to "risk-weighted" assets. At December 31, 1996, the Company and each of the Banks satisfied the minimum required regulatory capital requirements. See Note 14 of Notes to Consolidated Financial Statements.
Under FDICIA, the federal banking agencies were required to revise their risk-based capital standards to ensure that such standards take adequate account of interest rate risk, concentration of credit risk and the risks of nontraditional activities. The FDIC and the other banking agencies have amended the risk-based capital standards to take account of a bank's concentration of credit risk, the risk of nontraditional activities, and a bank's exposure to declines in the economic value of its capital resulting from changes in interest rates. The revised capital guidelines do not, however, codify a measurement framework for assessing the level of a bank's interest rate exposure. On June 26, 1996, the FDIC and the other banking agencies adopted a joint policy statement requiring that banks adopt comprehensive policies and procedures for managing interest rate risk and setting forth general standards for such internal policies. Unlike an earlier proposal by the federal banking agencies, the joint policy statement does not contain a standardized measure of or explicit capital charge for interest rate risk. The Company does not believe that this new policy statement will have a material effect on the Company's operations or financial results.
The FDIC has issued final regulations that classify insured depository institutions by capital levels and provide that the applicable agency will take various prompt corrective actions to resolve the problems of any institution that fails to satisfy the capital standards. Under such regulations, a "well-capitalized" bank is one that is not subject to any regulatory order or directive to meet any specific capital level and that has or exceeds the following capital levels: a total risk-based capital ratio of 10%, a Tier 1 risk-based capital ratio of 6%, and a leverage ratio of 5%. As of December 31, 1996, each of the Banks was "well-capitalized" as defined by the regulations. See Note 14 of Notes to Consolidated Financial Statements for further information.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth information regarding the executive officers of the Company.
R. STAN PUCKETT currently serves as President and Chief Executive Officer of the Company and has held that position since 1990. He has served as President and Chief Executive Officer of GCB since February 1989. He is a graduate of Bristol University with a degree in business administration. He served as President of First American National Bank of Johnson City, Tennessee from December 1987 to February 1989 and as its Vice President from June 1986 to December 1987. He was Assistant Vice President of First Union National Bank in Asheville, North Carolina from September 1983 to June 1986 and served as commercial loan officer of Signet Bank in Bristol, Virginia from September 1977 to June 1983.
DAVIS STROUD is currently Executive Vice President of the Company and GCB. Mr. Stroud joined GCB in 1952 and became its Senior Vice President and Cashier in 1973. He became Executive Vice President and Secretary of the Company and GCB in 1988 and has also served as a director of the Company and GCB since December 1989. Mr. Stroud is a member of First Christian Church and Greeneville Masonic Lodge No. 3, and he also serves as Treasurer of Greene County Foundation.
WILLIAM F. RICHMOND joined the Company in February 1996 and currently serves as Senior Vice President and Chief Financial Officer of the Company and GCB. Prior to joining the Company, Mr. Richmond served, subsequent to the acquisition of Heritage Federal Bancshares, Inc. ("Heritage") by First American Corporation, as transition coordinator for various financial matters from November 1995 through January 1996. Heritage was the parent of Heritage Federal Bank for Savings located in Kingsport, Tennessee. He served as Senior Vice President and Chief Financial Officer for Heritage from June 1991 through October 1995 and as controller from April 1985 through May 1991. He has been active in community activities in the Tri-Cities, Tennessee area, having served on the Board of Directors of Boys and Girls Club, Inc. and as President of the Tri-Cities Estate Planning Council. He has served in various capacities with the United Way of Greater Kingsport and is a Paul Harris Fellow in Rotary International. He is licensed as a Certified Public Accountant in Virginia and Tennessee and is also a Certified Financial Planner.
ITEM 2.

ITEM 2. PROPERTIES
The Company's principal executive offices are located at 100 North Main Street, Greeneville, Tennessee in facilities owned by GCB. At December 31, 1996, the Company maintained a main office in Greeneville, Tennessee and 17 branches (including a loan production office) in counties in east Tennessee for the operation of GCB, of which eight are in leased operating premises.
ITEM 3.

ITEM 3. LEGAL PROCEEDINGS
From time to time, the Company and its subsidiaries are parties to various legal proceedings incident to its business. At December 31, 1996, there were no legal proceedings which management anticipates would have a material adverse effect on the Company.
ITEM 4.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted during the fourth quarter of the fiscal year covered by this report to a vote of security holders of the Company through a solicitation of proxies or otherwise.
PART II
ITEM 5.

ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The information contained under the section captioned "Market and Dividend Information" in the Company's 1996 Annual Report to Shareholders (the "Annual Report") filed as Exhibit 13 hereto is incorporated herein by reference.
ITEM 6.

ITEM 6. SELECTED FINANCIAL DATA
The information contained in the table captioned "Selected Financial Highlights" on page 1 in the Company's Annual Report is incorporated herein by reference.
ITEM 7.

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information contained in the section captioned "Management's Discussion and Analysis of Financial Condition and Results of Operations" on pages 2 through 11 in the Company's Annual Report is incorporated herein by reference.
ITEM 8.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The consolidated financial statements beginning on page 12 in the Annual Report are incorporated herein by reference.
ITEM 9.

ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
For information concerning the Board of Directors of the Company, the information contained under the section captioned "Election of Directors" in the Company's definitive proxy statement for the Company's 1997 Annual Meeting of Shareholders (the "Proxy Statement") is incorporated herein by reference.
Information regarding executive officers of the Company is contained in the section captioned "Executive Officers of the Registrant" under Part I hereof and is incorporated herein by reference.
Information regarding delinquent Form 3, 4 or 5 filers is incorporated herein by reference to the section entitled "Beneficial Ownership Reports" in the Proxy Statement.
ITEM 11.

ITEM 11. EXECUTIVE COMPENSATION
The information contained under the section captioned "Election of Directors--Executive Compensation and Other Benefits" in the Proxy Statement is incorporated herein by reference.
ITEM 12.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
(a) Security Ownership Of Certain Beneficial Owners
Information required by this item is incorporated herein by reference to the section captioned "Security Ownership of Certain Beneficial Owners and Management" in the Proxy Statement.
(b) Security Ownership of Management
Information required by this item is incorporated herein by reference to the sections captioned "Security Ownership of Certain Beneficial Owners and Management" and "Election of Directors" in the Proxy Statement.
(c) Changes in Control
Management of the Company knows of no arrangements, including any pledge by any person of securities of the Company, the operation of which may at a subsequent date result in a change in control of the registrant.
ITEM 13.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated herein by reference to the section captioned "Election of Directors" in the Proxy Statement.
PART IV
ITEM 14.

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a)(1) The following consolidated financial statements of the Company included in the Annual Report are incorporated herein by reference from Item 8 of this Report. The remaining information appearing in the Annual Report to Shareholders is not deemed to be filed as part of this Report, except as expressly provided herein.
1. Report of Independent Auditors.
2. Consolidated Balance Sheets--December 31, 1996 and 1995.
3. Consolidated Statements of Income for the Years Ended December 31, 1996, 1995 and 1994.
4. Consolidated Statements of Changes in Shareholders' Equity for the Years Ended December 31, 1996, 1995 and 1994.
5. Consolidated Statements of Cash Flows for the Years Ended December 31, 1996, 1995 and 1994.
6. Notes to Consolidated Financial Statements.
(a)(2) All schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission are not required under the related instructions or are inapplicable and therefore have been omitted.
(a)(3) The following exhibits either are filed as part of this Report or are incorporated herein by reference:
Exhibit No. 3. Articles of Incorporation and Bylaws ------------------------------------
(i) Restated Articles of Incorporation.
(ii) Bylaws--incorporated herein by reference to the Company's Registration Statement on Form S-14 (File No. 2-96273).
Exhibit No. 10. Employment Agreements ---------------------
(i) Employment agreement between the Company and R. Stan Puckett--incorporated herein by reference to the Company's Annual Report on Form 10-K for the year ended December 31, 1995.
(ii) Employment agreement between the Company and Davis Stroud--incorporated herein by reference to the Company's Registration Statement on Form S-14 (File No. 2-96273).
Exhibit No. 13. Annual Report to Shareholders -----------------------------
Except for those portions of the Annual Report to Shareholders for the year ended December 31, 1996, which are expressly incorporated herein by reference, such Annual Report is furnished for the information of the Commission and is not to be deemed "filed" as part of this Report.
Exhibit No. 21. Subsidiaries of the Registrant ------------------------------
A list of subsidiaries of the Registrant is included as an exhibit to this Report.
Exhibit No. 23. Consent of Coopers & Lybrand L.L.P.
Exhibit No. 27. Financial Data Schedule (SEC USE ONLY)
(b) Reports on Form 8-K. No Reports on Form 8-K were filed by the Company -------------------- during the last quarter of the fiscal year covered by this report.
(c) Exhibits. The exhibits required by Item 601 of Regulation S-K are either --------- filed as part of this Annual Report on Form 10-K or incorporated herein by reference.
(d) Financial Statements and Financial Statement Schedules Excluded From -------------------------------------------------------------------- Annual Report. There are no financial statements and financial statement -------------- schedules which were excluded from the Annual Report pursuant to Rule 14a-3(b)(1) which are required to be included herein.
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 behalf by the undersigned, thereunto duly authorized.
GREENE COUNTY BANCSHARES, INC.
Date: March 27, 1997 By: /s/ R. Stan Puckett ----------------------------------- R. Stan Puckett Director, President and Chief Executive Officer
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 indicated and on the dates indicated.
SIGNATURE AND TITLE: DATE:
/s/ R. Stan Puckett March 27, 1997 - --------------------------------- R. Stan Puckett Director, President and Chief Executive Officer (Principal Executive Officer)
/s/ William F. Richmond March 27, 1997 - --------------------------------- William F. Richmond Senior Vice President and Chief Financial Officer (Principal Financial and Accounting Officer)
/s/ Harrison Lamons March 27, 1997 - --------------------------------- Harrison Lamons Chairman of the Board
/s/ Helen L. Horner March 27, 1997 - --------------------------------- Helen Horner Director
/s/ J.W. Douthat March 27, 1997 - --------------------------------- J.W. Douthat Director
/s/ Phil M. Bachman, Jr. March 27, 1997 - --------------------------------- Phil M. Bachman, Jr. Director
/s/ Terry Leonard March 27, 1997 - --------------------------------- Terry Leonard Director
/s/ Ralph T. Brown March 27, 1997 - --------------------------------- Ralph T. Brown Director
/s/ J.A. Emory March 27, 1997 - --------------------------------- James A. Emory Director
/s/ Patrick Norris March 27, 1997 - --------------------------------- Patrick Norris Director
/s/ Jerald K. Jaynes March 27, 1997 - --------------------------------- Jerald K. Jaynes Director
/s/ Charles S. Brooks March 27, 1997 - --------------------------------- Charles S. Brooks Director
/s/ Davis Stroud March 27, 1997 - --------------------------------- Davis Stroud Director
March 27, 1997 - --------------------------------- W.T. Daniels Director


ITEM 1. BUSINESS General
Environmental Elements Corporation (the "Company") designs and supplies proprietary, large-scale, custom-engineered air pollution control systems which enable customers to operate their facilities in compliance with regulatory standards limiting particulate and gaseous emissions. The Company's business strategy is to provide a broad array of proprietary state-of-the-art technologies to traditionally intensive users of air pollution control systems, including two primary customer groups -- electric utilities and private power generators and pulp and paper producers-- in addition to municipal solid waste facilities and other industrial customers.
The Company has historically concentrated on systems that reduce particulate emissions from combustion exhaust streams, specifically electrostatic precipitators and fabric filter systems (also known as baghouses). For each of these product lines, the Company has developed proprietary designs for durable, cost-effective systems. The Company has developed, acquired distribution rights for, or licensed from others, dry and semi-dry scrubbers for use in gaseous emissions control.
The Company enters into contracts for original equipment systems, major rehabilitation and rebuilding services, and ongoing maintenance and repair services. The Company offers a range of systems and technologies to address the air pollution control needs of customers in its selected markets. While the Company, in certain instances, may provide a combination of its systems as an integrated pollution control solution, its customers typically purchase individual systems which, in certain instances, may operate in conjunction with other systems supplied by others. The Company's contracts with its customers generally require it to design and supply an air pollution control device which removes specified amounts of gaseous or particulate matter from combustion exhaust gases. The Company is generally contractually responsible to its customers for all phases of the design, fabrication, start-up and testing and (if included in the scope of the Company's contract) field construction of its systems. The Company's successful completion of its contractual obligations is generally determined by a performance test or tests of the Company's systems which are generally conducted by a customer-selected independent testing agency which verifies that the system is removing gaseous or particulate emissions in amounts required by the contract. In connection with the expansion of the Company's technological offerings and a shift in the Company's mix of business, additional measures of performance may be afforded or required. Such measures may include availability or reliability guarantees and guarantees with respect to the consumption of power, reagent, water or other components of variable operating costs.
The Company does not manufacture or fabricate its systems and generally does not engage in field construction activities utilizing its own employees, other than field supervisory personnel. In fiscal 1996, the Company elected to discontinue its manufacturing and certain direct hire construction activities previously conducted by its aftermarket subsidiary, Environmental Elements Services Corporation. In fiscal 1996, the Company relocated the aftermarket business to the Company's Baltimore headquarters, and now conducts such business directly.
The Company performs process engineering for its systems, including but not limited to, the determination of the size, geometry and mechanical, electrical and structural characteristics of the device needed to meet its contractual obligations for gaseous or particulate removal, and performs the detail design of and develops specifications for all structural, electrical, mechanical, piping, and
chemical components necessary to make the system. The Company purchases various components consisting of both off-the-shelf items and items made to its design and specifications by vendors; enters into subcontracts for field construction (if included in the scope of the Company's contract), which it supervises; and manages all technical and commercial aspects of the performance of its contracts, including the start-up of its systems.
In general, the Company's original equipment contracts vary in length from 12 to 36 months and require performance of a particular project within a specified time frame. Almost all of the Company's contracts are undertaken on a fixed price basis. Fixed price contracts require the Company to bear certain risks of cost overruns, and from time to time the Company experiences a loss in connection with a contract. In fiscal 1993, the Company incurred a significant cost overrun in connection with the execution of its first flue gas conditioning contract, a product no longer offered by the Company.
The Company and its predecessor have been engaged in the air pollution control business since 1946.
Product Lines and Services
The Company supplies electrostatic precipitators primarily to power generation and pulp and paper customers. An electrostatic precipitator removes particulate matter from combustion exhaust streams. The particulate in the gases is electrically charged as it passes positively charged high-voltage electrodes and is then attracted to oppositely charged collecting plates. The collected material is periodically removed from the plates by rapping or vibration. The Company's precipitators include computerized power control systems which allow the precipitators to respond automatically to changing operating conditions. The Company's installed base of electrostatic precipitators is one of the largest in North America.
The Company supplies a wide range of fabric filter systems to control and recover dust and other particulates in a variety of utility and industrial applications for power-generation, pulp and paper, incineration, and other industrial customers.
The Company offers state-of-the-art semi-dry scrubbing systems for the reduction of acid gases such as sulfur oxides and hydrogen chloride emissions. A semi-dry scrubbing system removes objectionable gaseous pollutants and certain heavy metals from exhaust emissions by causing a chemical reaction, typically using lime as a reagent, which transforms the pollutants into a readily disposable particulate. The Company offers its semi-dry scrubbers primarily for municipal solid waste incineration facilities.
The Company offers a fluidized bed flue gas de-sulfurization dry reactor, (known as a circulating dry scrubber or "CDS"(registration symbol)) which has special application to both the power generation and municipal solid waste incineration acid rain retrofit markets. During fiscal 1994, the Company booked its first two CDS(registration symbol) systems and in late fiscal 1995 and early fiscal 1996, the Company successfully started up the first of these systems. The CDS(registration symbol) technology is licensed from Lurgi GmbH.
The Company supplies original equipment systems, the majority of which are replacements of aged existing air pollution control systems. In addition, because of the extreme conditions under which air pollution control systems operate, maintenance, repair, and rebuilding of these systems is an ongoing requirement and creates additional demand for the Company's services and products. The Company engages in complete and partial rehabilitation and rebuilding of air pollution control systems, often involving design and installation work, and also provides ongoing maintenance services and spare parts on a routine or emergency-response basis. Such services may include the
provision of rebuild project materials, construction services, and field engineering services including inspection, testing, rebuild supervision, and equipment performance evaluation services.
Through fiscal 1994, the Company marketed proprietary continuous emissions monitoring systems ("CEMS"). The Company did not derive the anticipated level of revenues from this product line. As a result, the Company sold certain CEMS assets, including its distribution rights to its proprietary system and certain open customer contracts. In fiscal 1991, the Company licensed certain additional precipitator and flue gas conditioning techniques from Lurgi GmbH which it returned to Lurgi in fiscal 1995 due to lack of market demand.
Industry Demand Factors
The market for air pollution control systems and technologies is directly dependent upon governmental regulation and enforcement of air quality standards. During the past two decades, federal, state, and municipal governments have recognized that contamination of the air poses significant threats to public health and safety, and, in response, have enacted legislation designed to reduce or eliminate a variety of air pollutants. The Company believes that governmental regulation of air pollution and its sources will continue to increase and that it is well positioned to assist customers in its targeted markets to solve their air pollution control problems.
Given the existence of stringent domestic air emissions standards, domestic demand for the Company's systems and technologies generally arises from the following principle sources: need for replacement, rehabilitation and rebuilding of air pollution control systems on aging electric utilities and on pulp and paper manufacturing facilities; construction of new electricity-generating facilities, particularly those operated under cogeneration and "private power" arrangements; continued expansion of pulp and paper manufacturing capacity; and construction of new municipal solid waste incineration facilities. Demand from any one of these sources may vary significantly from year to year depending on economic, regulatory, and other factors including industry cycles.
Emerging international demand for the Company's products is driven primarily by a combination of electric generation and other infrastructure improvement and the passage or enforcement of existing regulations limiting gaseous and particulate emissions in developing countries.
Markets Served
The Company has historically followed a strategy of limiting its business to systems and technologies for air pollution control and focusing within that business on selected markets in which the Company believes it can build upon its reputation for expertise and reliability. The Company's current targeted markets are electric utilities and private power generators, pulp and paper producers, developers of municipal solid waste incineration facilities, and certain other process industries throughout the United States, Canada, and selected areas of central Europe, Asia and the Pacific Rim. In its 1995 fiscal year, the Company received two contract awards for precipitators in Poland and a contract award for baghouses and spray dryers in the United Kingdom. In its 1996 fiscal year, the Company received no contracts for work outside North America.
Currently, the Company offers a select line of systems and technologies to meet the various needs of electric utilities and other electric power generators for control of air emissions at new and existing facilities. The Company's principal product sold to the electric-generating market is its Rigitrode(registration symbol) electrostatic precipitator, which combines the reliability traditionally associated with European heavy-duty, bottom-rapped designs and the cost efficiency associated with top-rapped American models. (In a top-rapped precipitator, the force used to dislodge dust from the collection plate is
applied to the top of the plate.) The Company is bidding, and will continue to bid, a number of large contract opportunities in the utility market.
The Company also offers to the utility industry a range of fabric filter systems to control particulate emissions. In some recent years, the Company has been particularly successful in marketing its fabric filter systems to private power projects which either co-generate electricity and thermal energy or generate electricity alone for sale to utilities and in fiscal 1994 sold to a public utility and in fiscal 1995 started-up a pulse jet fabric filter system . In addition, in response to anticipated substantial demand for solutions to the requirements of acid rain legislation, the Company, under license from Lurgi GmbH, has introduced a state-of-the-art CDS(registration symbol) system for the control of sulfur oxide emissions. The Company also offers a proprietary semi-dry scrubbing system using rotary atomizer technology which the Company believes offers the advantages of lighter weight, ease of maintenance, and economy of operation that are particularly significant to smaller electricity-generating facilities.
The Company has installed over 500 electrostatic precipitators at pulp and paper plants in the United States and Canada. The Company attributes its success in this market to the competitive advantages of its Rigitrode(registration symbol) precipitator and to its reputation for reliability and service. The Company has established long-standing relationships, in many cases covering more than 25 years, with leading firms in the industry.
Municipal solid waste and private waste-to-energy facilities, as well as hazardous waste incineration plants, must comply with stringent federal and state environmental standards. Existing regulations require new solid waste incineration facilities to control both sulfur oxides and hydrogen chloride emissions. Such systems generally include an acid gas scrubbing tower and a modular baghouse for collection of particulates. While the Company saw little activity in this market during the last three fiscal years, the Company has completed projects with developers of both municipal solid waste and hazardous waste incinerators, and booked one project in fiscal 1993, two projects in fiscal 1995, and one project in fiscal 1996. The Company has identified the incineration market as one which will provide an opportunity to market its semi-dry scrubbing systems in the future.
In addition to serving the principal markets described above, the Company sells its systems to customers in petroleum refining and certain materials processing industries, including mining, metals conversion, cement production, and steel manufacturing. The Company's sales in these markets consist primarily of wet scrubbers and electrostatic precipitators. The Company believes that it is competitive in these other markets.
Bookings and Backlog Information
The information required by this item is contained under the caption "Bookings and Backlog" in "Management's Discussion and Analysis" in the Company's 1996 Annual Report to Shareholders.
Research and Development
The Company has an ongoing program for development and commercialization of new air pollution control technologies and enhancement of existing technologies. The Company spent approximately $347,000, $512,000, and $323,000 on product development during fiscal 1996, 1995, and 1994, respectively. The Company has recently advanced its research and development operations beyond its historical product development activities to funded research programs.
Patents
The Company owns or has the rights to a number of patents, patent applications, and other proprietary technologies which are important to various aspects of its business. These patents are not, however, considered material to the conduct of the Company's business as a whole. The Company believes that its ability to compete in the air pollution control industry depends primarily on its engineering and technological expertise, rather than on patent protection.
Sales and Marketing
The Company's sales and marketing efforts are organized along market lines - - -- power industry, industrial, and aftermarket. The Company has integrated field service resources of the original equipment and aftermarket divisions into regional sales representation for each of its markets, allowing it to build long-term customer relationships. The sales efforts are technical in nature and involve its sales and marketing professionals, supported by the Company's senior technical and management professionals. A significant portion of the Company's sales are made through architectural and engineering firms, which play an important role in the preparation of specifications for air pollution control systems. The Company's sales and marketing group consists of industry and regional sales managers and sales representatives.
Although the Company seeks to obtain repeat business from its customers, it does not depend on any single customer to maintain its level of activity from year to year. One customer accounted for 21% of the Company's sales in fiscal 1996; another customer accounted for 10% of the Company's sales in fiscal year 1995, and two customers accounted for 12% and 11% of the Company's sales in fiscal year 1994. At fiscal year end 1996, however, approximately 33% of the Company's accounts and retainages receivable were due from companies within the pulp and paper industry and approximately 19% were due from companies within the power generation industry.
All of the Company's foreign sales were generated from the U.S. Export sales were less than 10% of consolidated sales in fiscal years 1996, 1995 and 1994. In order to take advantage of certain overseas market opportunities, the Company has established licensing agreements with companies in Brazil and the Peoples Republic of China under which the Company is entitled to royalties based upon sales in the licensed territory. These agreements do not currently represent a material source of income. In addition to the license, the Company has established, with its Chinese licensee, a production joint venture in China which will produce certain precipitator components for use by the Company and its licensee.
Suppliers and Subcontractors
Like other companies in its industry, the Company relies on outside suppliers, manufacturers and fabricators to supply parts and components in accordance with the Company's specifications. In addition, in cases in which the Company's scope of work includes installation of equipment, the Company selects and supervises subcontractors for this work. To date, the Company has not experienced difficulties either in obtaining fabricated components incorporated in its systems or in obtaining qualified subcontractors. It has been the Company's recent experience, however, that in times of recession or other industry downturns, the Company is more likely to be faced with subcontractor performance problems and construction claims asserted by certain of its subcontractors. In response, the Company is required to more aggressively manage its construction activities and contracts, and, in some cases, be subject to unanticipated costs.
The Company's vendor sources for various components, materials and parts used in its systems, including control switches, electrical components, and other components, include a substantial number of firms. The Company does not depend on any one of these vendors to a material extent, and in any event the Company believes that alternative vendors would be available if needed. With respect to fabricators, the Company has satisfactory relationships with fabricators throughout the United States and Canada. Similarly, with respect to installation subcontractors, the Company has satisfactory relations with firms throughout the United States and Canada. Based on the number of vendors, fabricators, and subcontractors and the availability of alternative sources, the Company does not believe that the loss of its relationship with any one firm would have a material adverse effect on its business.
The Company operates under an agreement with Teco Industries of Maryland, Inc., an equipment manufacturer, pursuant to which the manufacturer meets the Company's domestic requirements for production of certain internal components of electrostatic precipitators (i.e., electrodes and collecting plates) at pre-determined prices and terms. The agreement expires on June 30, 1997. The loss of this supplier, or the supplier's inability to perform, could subject the Company to a temporary delay and possible cost increases. The Company does not believe, however, that such loss would have a material adverse effect on the Company because the Company has at least one other adequate source for these components. The Company has established relationships with one or more international sources for such components in connection with international marketing expansion.
Competition
The Company faces substantial competition in each of its principal markets. Some of the Company's competitors are larger and have greater financial and other resources than the Company. The Company competes primarily on the basis of its engineering and technological expertise and quality of equipment and service provided. The Company believes that the cost of entry into most of its markets, its experience and reputation for reliability and service, and its knowledge of the plants and operations of its customers are principal factors that enhance its ability to compete effectively for rehabilitation and rebuild contracts as well as new installations. Additionally, the Company believes that the successful performance of its installed systems is a key factor in dealing with its customers, which typically prefer to make significant purchases from a company with a solid performance history.
Virtually all contracts for the Company's systems and technologies are obtained through competitive bidding. Customers typically purchase these systems and technologies after a thorough evaluation of price, service, experience, and quality. Although price is an important factor and may in some cases be the governing factor, it is not always determinative, and contracts are often awarded on the basis of life cycle costs and/or product reliability.
Regulation
Significant environmental laws have been enacted in response to public concern about the environment. These laws and the implementing regulations affect nearly every industrial activity. The need to comply with these laws creates demand for the Company's services. The principal federal legislation that has created a substantial and growing demand for the Company's systems and technologies and therefore has the most significant effect on the company's business is the Clean Air Act of 1970, as amended (the "Clean Air Act"). This legislation requires compliance with ambient air quality standards and empowers the Environmental Protection Agency ("EPA") to establish and enforce limits on the emission of various pollutants from specific types of facilities. The states have
primary responsibility for implementing these standards and, in some cases, have adopted standards more stringent than those established by the EPA.
In 1990, amendments to the Clean Air Act were adopted which address, among other things, the country's acid rain problem by imposing strict controls on the emissions of sulfur oxides caused by the combustion of coal and other solid fuels. The power generation market is the first to face the compliance standards set by the amendments. Under the legislation, coal-burning power plants are required to comply with new emissions standards in two phases. The first phase, beginning with enactment of the amendments and generally ending in 1995 or 1996, required reduced emissions levels leading to full compliance, with limited exceptions, by the end of the second phase in the year 2000.
In its operations, the Company is subject to federal, state and local laws and regulations concerning environmental, safety, occupational and health standards. Expenditures required in fiscal 1996 by such laws were not material to the Company's business and the Company is not at a competitive disadvantage by reason of compliance with such laws.
Bonding and Insurance
The Company is from time to time required to provide bonds guaranteeing that it will enter into contracts as bid, guaranteeing performance of its contract obligations, and/or guaranteeing prompt payment of its suppliers and subcontractors. The Company's current surety commitment is, in management's opinion, sufficient to support the Company's current levels of bonded business. In addition, the Company has a bank revolving credit and letter of credit agreement which provides for issuance of letters of credit for various purposes, including as substitutes for performance or payment bonds.
The Company currently maintains different types of insurance, including comprehensive liability and property coverages. The Company does not carry a separate errors and omissions policy, but limited errors and omissions coverage is provided under its comprehensive liability policy. While a successful claim or claims in an amount in excess of the Company's insurance coverage or for which there is no coverage (including claims arising out of the provision by the Company of engineering services without a product) could have a material adverse effect on the Company, the Company believes that it presently maintains adequate insurance coverage for its business as presently constituted. To the extent that the Company performs or will perform engineering only services for customers, the Company will, to the extent practicable, obtain the benefit of contractual terms which limit or eliminate the exposure which would otherwise be insured by an errors and omissions policy.
Employees
As of March 31, 1996 the Company had 156 full-time employees, the substantial majority of whom were engineers and other professionals and technical employees. The Company also hires contract and other temporary personnel to meet the requirements of particular contracts, as well as contract personnel to carry out construction supervisory functions. The Company's professional staff includes chemical engineers, electrical engineers, mechanical engineers, civil engineers, and computer scientists. Although the Company depends on professional employees for performance of its services, it has not experienced any difficulty in employing such personnel to satisfy its requirements. None of the Company's employees is represented by a union. The Company considers its relations with its employees to be good.
ITEM 2.

ITEM 2. PROPERTIES
Substantially all of the Company's operations, including administration, engineering, design, and sales operations are conducted from its Baltimore headquarters, located in a modern office building with approximately 100,000 square feet of leased space. The Company occupies approximately 50,000 square feet of this space and subleases a portion of the remaining space. See Note 6 of the "Notes to Consolidated Financial Statements" in the Company's 1996 Annual Report to Shareholders, incorporated by reference herein, for a description of the rent and other lease terms.
The Company additionally leases approximately 9,000 square feet in Baltimore, Maryland which premises are occupied by its research and development staff.
The Company is in the process of selling a 20,000 square foot office and light manufacturing facility located in Jeffersonville, Indiana, which was previously used in its aftermarket business, which was relocated to Baltimore during fiscal 1996.
In fiscal 1995, the Company sold its privatized waste water treatment facility in East Aurora, New York, which it previously treated as a discontinued operation. The Company maintains limited operational responsibility. See Note 2 of the "Notes of Consolidated Financial Statements" in the Company's 1996 Annual Report to Shareholders.
The Company believes that its existing facilities are adequate to meet its current needs and that suitable additional or substitute space will be available as needed to accommodate any expansion of operations.
ITEM 3.

ITEM 3. LEGAL PROCEEDINGS
The Company is from time to time a party to various legal actions arising in the ordinary course of its business, some of which may involve claims for substantial sums. Management, after review and consultation with counsel, considers that any liability from pending lawsuits and claims will not have any material effect on the financial position or results of operations of the Company.
ITEM 4.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable.
PART II
ITEM 5.

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is traded on the New York Stock Exchange under the symbol "EEC."
As of June 3, 1996, there were 272 record holders of the Company's Common Stock. The closing price of the Common Stock on June 3, 1996 was $1 7/8.
The additional information required by this item is contained under "Investor Information" on page 24 and in Note 10 of the "Notes to Consolidated Financial Statements" on page 21 of the Company's 1996 Annual Report to Shareholders. Such information is incorporated herein by reference to the Annual Report.
ITEM 6.

ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial data provided on page 23 of the Company's 1996 Annual Report to Shareholders should be read in conjunction with "Management's Discussion and Analysis" and the Consolidated Financial Statements and the "Notes to Consolidated Financial Statements" included in the Company's 1996 Annual Report to Shareholders.
ITEM 7.

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The information required by this item is contained on pages 8 through 11 of the Company's 1996 Annual Report to Shareholders. Such information is incorporated herein by reference to the Annual Report.
ITEM 8.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information required by this item is contained in the Consolidated Financial Statements and Notes to Consolidated Financial Statements appearing on pages 12 through 21 of the Company's 1996 Annual Report to Shareholders and the Quarterly Financial Data appearing in Note 10 of the "Notes to Consolidated Financial Statements" appearing on page 21 of the Company's 1996 Annual Report to Shareholders. Such information is incorporated herein by reference to the Annual Report.
ITEM 9.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
(a) Directors - The information with respect to Directors required by this item is incorporated by reference to the Registrant's 1996 Proxy Statement to be filed with the Securities and Exchange Commission, under the headings "Election of Directors," "Directors Continuing in Office," and "Certain Information Regarding the Board of Directors and Committees of the Board."
(b) Executive Officers - Information regarding executive offices of the Company appears in the Company's definitive proxy statement for the 1996 Annual Meeting of Stockholders.
In addition, the following information is being provided in response to the requirements of Item 405 of Regulation S-K. To the Registrant's knowledge, during the fiscal year ended March 31, 1996, all filing requirements applicable to officers, directors, and greater than 10% beneficial owners of the common shares of the Registrant under Section 16(a) of the Securities Exchange Act of 1934, as amended, were complied with, except that Russell R. Jones, a director of the Registrant, filed one late report relating to one transaction.
ITEM 11.

ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated herein by reference to the Registrant's 1996 Proxy Statement to be filed with the Securities and Exchange Commission, under the headings "Executive Compensation and Related Information."
ITEM 12.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated herein by reference to the Registrant's 1996 Proxy Statement to be filed with the Securities and Exchange Commission, under the heading "Security Ownership."
ITEM 13.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated herein by reference to the Registrant's 1996 Proxy Statement to be filed with the Securities and Exchange Commission, under the heading "Certain Relationships and Related Transactions" and under the heading "Employment and Non-Competition Agreements."
PART IV
ITEM 14.

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Documents filed as a part of this report:
1. The following consolidated financial statements included in the 1996 Annual Report to Shareholders for the year ended March 31, 1996 are incorporated herein by reference under Item 8 of this Report:
Page Number in Annual Report
Consolidated Statements of Operations for the years ended March 31, 1996, 1995, and 1994 12
Consolidated Balance Sheets as of March 31, 1996 and 1995 13 Consolidated Statements of Cash Flows for the years ended March 31, 1996, 1995, and 1994 14 Consolidated Statements of Stockholders' Investment as of March 31, 1996, 1995, and 1994 15 Notes to Consolidated Financial Statements 16-21 Management's Responsibility for Financial Statements 22 Report of Independent Public Accountants 22
Page Number in 10-K 2. Financial Statement Schedules (included on pages S-1 of this Report): Report of Independent Public Accountants on Schedules S-1 Valuation and Qualifying Accounts for the years ended March 31, 1996, 1995, and 1994 (Schedule II) S-2
All other schedules have been omitted, since the required information is included in the consolidated financial statements, including the notes thereto, or the circumstances requiring inclusion of such schedules are not present.
3. Exhibits
3.1 - Restated Certificate of Incorporation of the Registrant (incorporated by reference to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on May 25, 1990).
3.2 - Certificate of Amendment of the Registrant (incorporated by reference to Form 10-K filed with the Commission on June 24, 1991).
3.3 - Bylaws of the Registrant (incorporated by reference to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on May 25, 1990).
4.1 - Articles IV, V, VI, VIII, IX, X and XI of the Registrant's Restated Certificate of Incorporation, as amended (included in Exhibit 3.1 and Exhibit 3.2).
4.2 - Articles I, II, V and VII of the Registrant's Bylaws (included in Exhibit 3.3).
10.1 - Articles of Lease dated April 15, 1975 between Balkop Properties Corp., as landlord, and Koppers Company, Inc., and Assignment of Lease dated June 20, 1989 to Registrant, as assignee, and Beazer Materials and Services, Inc., as assignor (incorporated by reference to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on May 25, 1990).
10.2 - The Registrant's Retirement Plan, as amended (incorporated by reference to Form 10-K filed with the Commission on June 28, 1995).
10.2(a) - First Amendment, dated December 28, 1995, to the Registrant's Retirement Plan, as amended, filed herewith.
10.2(b) - Second Amendment, dated December 28, 1995, to the Registrant's Retirement Plan, as amended, filed herewith.
10.3 - The Registrant's 401(k) Retirement Savings Plan, as amended (incorporated by reference to the Registrant's Form 10-K filed with the Commission on June 28, 1995).
10.3(a) - First Amendment, dated December 28, 1995, to the Registrant's 401(k) Retirement Savings Plan, as amended, filed herewith.
10.4 - The Registrant's Employee Stock Option Plan, as amended (incorporated by reference to Form S-8 Registration Statement (File No. 33-38400) filed with the Commission on December 21, 1990).
10.5 - Environmental Elements Corporation Supplemental Pension Agreement dated March 1, 1995, between Registrant and Richard E. Hug, filed herewith.
10.6 - Revolving Credit and Letter of Credit Agreement dated November 24, 1993 between the Registrant and Mercantile-Safe Deposit & Trust Company (incorporated by reference to Form 10-Q filed with the Commission on February 14, 1994).
10.6(a) - Waiver and Amendment dated May 26, 1994, to the Revolving Credit and Letter of Credit Agreement dated November 24, 1993 between the Registrant and Mercantile-Safe Deposit & Trust Company (incorporated by reference to Form 10-K filed with the Commission on June 29, 1994).
10.6(b) - Extension Agreement dated November 18, 1994 to the Revolving Credit and Letter of Credit Agreement dated November 23, 1993 between the Registrant and Mercantile-Safe Deposit & Trust Company (incorporated by reference to Form 10-K filed with the Commission on June 28, 1995).
10.6(c) - Second Amendment to Revolving Credit and Letter of Credit Agreement, First Amendment to Line of Credit Promissory Note and Security Agreement, dated October 25, 1995 between the Registrant and Mercantile-Safe Deposit & Trust Company (incorporated by reference to Form 10-Q filed with the Commission on February 14, 1996).
10.6(d) - Amendment to Revolving Credit and Letter of Credit Agreement dated May 10, 1996 between the Registrant and Mercantile-Safe Deposit & Trust Company, filed herewith.
10.7 - License, Cooperation and Supply Agreement dated May 5, 1988 between the Registrant and Komline-Sanderson Engineering Corporation (incorporated by reference to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on May 25, 1990).
10.8 - [OMITTED].
10.9 - Shareholders' Agreement dated February 2, 1990 by and among the Registrant and certain shareholders of the Registrant (incorporated by reference to Amendment No. 1 to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on July 5, 1990).
10.10 - Employment Agreement dated March 29, 1996 between Registrant and Edward H. Verdery, filed herewith.
10.11 - Underwriting and Continuing Indemnity Agreement by and among Reliance Insurance Company, United Pacific Insurance, and Planet Insurance Company and Registrant and certain of its subsidiaries dated as of February 8, 1991, (incorporated by reference to Form 10-K filed with the Commission on June 23, 1992).
10.12 - Agreement dated May 26, 1993 between the Registrant and Teco Industries of Maryland, Inc. (incorporated by reference to Form 10-Q filed with the Commission on August 13, 1993).
11 - Statement re: Computation of Income per Share, filed herewith.
13 - A copy of the 1996 Annual Report to Shareholders is attached hereto. Such report, except for those portions thereof which are incorporated by reference in this Form 10-K, is furnished for the information of the Commission and is not deemed "filed."
21 - Subsidiaries of the Registrant, filed herewith.
(b) No reports on Form 8-K were filed during the quarter ended March 31, 1996.
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.
Environmental Elements Corporation (Registrant)
/s/ F. Bradford Smith ----------------------------------- F. Bradford Smith Chief Financial Officer (Principal Financial Officer)
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/ F. Bradford Smith June 20, 1996 - - --------------------------------------- F. Bradford Smith Date Chairman of the Board of Directors and Chief Financial Officer (Principal Financial Officer)
/s/ Edward H. Verdery June 20, 1996 - - --------------------------------------- Edward H. Verdery Date Director, President, and Chief Executive Officer
June , 1996 - - --------------------------------------- Richard E. Hug Date Director, Chairman Emeritus
June , 1996 - - --------------------------------------- John C. Nichols Date Director and Secretary
/s/ Fred Hittman June 20, 1996 - - --------------------------------------- Fred Hittman Date Director
/s/ Russell R. Jones June 20, 1996 - - --------------------------------------- Russell R. Jones Date Director
/s/ Raymond A. Mason June 20, 1996 - - --------------------------------------- Raymond A. Mason Date Director
/s/ James E. Kyne June 20, 1996 - - --------------------------------------- James E. Kyne Date Controller (Principal Accounting Officer)
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULES
To Environmental Elements Corporation:
We have audited in accordance with generally accepted auditing standards, the consolidated financial statements included in Environmental Elements Corporation and subsidiaries' annual report to shareholders incorporated by reference in this Form 10-K, and have issued our report thereon dated May 10, 1996. Our audits were made for the purpose of forming an opinion on those consolidated financial statements taken as a whole. The schedules listed in the index above are the responsibility of the Company's management and are presented for purposes of complying with the Securities and Exchange Commission's rules and are not part of the basic financial statements. These schedules have been subjected to the auditing procedures applied in the audits of the basic financial statements and, in our opinion, fairly state in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole.
Arthur Andersen, LLP
Baltimore, Maryland, May 10, 1996
S-1
SCHEDULE II
ENVIRONMENTAL ELEMENTS CORPORATION VALUATION AND QUALIFYING ACCOUNTS FOR THE YEARS ENDED MARCH 31, 1996, 1995, AND 1994
S-2
EXHIBIT INDEX
3.1 - Restated Certificate of Incorporation of the Registrant (incorporated by reference to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on May 25, 1990).
3.2 - Certificate of Amendment of the Registrant (incorporated by reference to Form 10-K filed with the Commission on June 24, 1991).
3.3 - Bylaws of the Registrant (incorporated by reference to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on May 25, 1990).
4.1 - Articles IV, V, VI, VIII, IX, X and XI of the Registrant's Restated Certificate of Incorporation, as amended (included in Exhibit 3.1 and Exhibit 3.2).
4.2 - Articles I, II, V and VII of the Registrant's Bylaws (included in Exhibit 3.3).
10.1 - Articles of Lease dated April 15, 1975 between Balkop Properties Corp., as landlord, and Koppers Company, Inc., and Assignment of Lease dated June 20, 1989 to Registrant, as assignee, and Beazer Materials and Services, Inc., as assignor (incorporated by reference to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on May 25, 1990).
10.2 - The Registrant's Retirement Plan, as amended (incorporated by reference to Form 10-K filed with the Commission on June 28, 1995).
10.2(a) - First Amendment, dated December 28, 1995, to the Registrant's Retirement Plan, as amended, filed herewith.
10.2(b) - Second Amendment, dated December 28, 1995, to the Registrant's Retirement Plan, as amended, filed herewith.
10.3 - The Registrant's 401(k) Retirement Savings Plan, as amended (incorporated by reference to the Registrant's Form 10-K filed with the Commission on June 28, 1995).
10.3(a) - First Amendment, dated December 28, 1995, to the Registrant's 401(k) Retirement Savings Plan, as amended, filed herewith.
10.4 - The Registrant's Employee Stock Option Plan, as amended (incorporated by reference to Form S-8 Registration Statement (File No. 33-38400) filed with the Commission on December 21, 1990).
10.5 - Environmental Elements Corporation Supplemental Pension Agreement dated March 1, 1995, between Registrant and Richard E. Hug, filed herewith.
10.6 - Revolving Credit and Letter of Credit Agreement dated November 24, 1993 between the Registrant and Mercantile-Safe Deposit & Trust Company (incorporated by reference to Form 10-Q filed with the Commission on February 14, 1994).
10.6(a) - Waiver and Amendment dated May 26, 1994, to the Revolving Credit and Letter of Credit Agreement dated November 24, 1993 between the Registrant and Mercantile-Safe Deposit & Trust Company (incorporated by reference to Form 10-K filed with the Commission on June 29, 1994).
10.6(b) - Extension Agreement dated November 18, 1994 to the Revolving Credit and Letter of Credit Agreement dated November 23, 1993 between the Registrant and Mercantile-Safe Deposit & Trust Company (incorporated by reference to Form 10-K filed with the Commission on June 28, 1995).
10.6(c) - Second Amendment to Revolving Credit and Letter of Credit Agreement, First Amendment to Line of Credit Promissory Note and Security Agreement, dated October 25, 1995 between the Registrant and Mercantile-Safe Deposit & Trust Company (incorporated by reference to Form 10-Q filed with the Commission on February 14, 1996).
10.6(d) - Amendment to Revolving Credit and Letter of Credit Agreement dated May 10, 1996 between the Registrant and Mercantile-Safe Deposit & Trust Company, filed herewith.
10.7 - License, Cooperation and Supply Agreement dated May 5, 1988 between the Registrant and Komline-Sanderson Engineering Corporation (incorporated by reference to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on May 25, 1990).
10.8 - [OMITTED].
10.9 - Shareholders' Agreement dated February 2, 1990 by and among the Registrant and certain shareholders of the Registrant (incorporated by reference to Amendment No. 1 to Form S-1 Registration Statement (File No. 33-35802) filed with the Commission on July 5, 1990).
10.10 - Employment Agreement dated March 29, 1996 between Registrant and Edward H. Verdery, filed herewith.
10.11 - Underwriting and Continuing Indemnity Agreement by and among Reliance Insurance Company, United Pacific Insurance, and Planet Insurance Company and Registrant and certain of its subsidiaries dated as of February 8, 1991, (incorporated by reference to Form 10-K filed with the Commission on June 23, 1992).
10.12 - Agreement dated May 26, 1993 between the Registrant and Teco Industries of Maryland, Inc. (incorporated by reference to form 10-Q filed with the Commission on August 13, 1993).
11 - Statement re: Computation of Income per Share, filed herewith.
13 - A copy of the 1996 Annual Report to Shareholders is attached hereto. Such report, except for those portions thereof which are incorporated by reference in this Form 10-K, is furnished for the information of the Commission and is not deemed "filed."
21 - Subsidiaries of the Registrant, filed herewith.