ITEM 1. BUSINESS
The Corporation
First Federal Financial Corporation of Kentucky (the "Corporation") was incorporated in August 1989 under the laws of the Commonwealth of Kentucky for the purpose of becoming the holding company for First Federal Savings Bank of Elizabethtown ("First Federal" or the "Bank") pursuant to the Bank's reorganization into the holding company form of ownership, which was consummated on June 1, 1990. Prior to its acquisition of all the outstanding stock of the Bank in connection with the Bank's holding company reorganization, the Corporation had no assets or liabilities and engaged in no business activities. Since its acquisition of First Federal, the Corporation has engaged in no significant activity other than holding the stock of First Federal and operating the business of a savings bank through First Federal. Accordingly, the information set forth in this report, including financial statements and related data, relates primarily to First Federal and its subsidiary.
The Bank
First Federal is a federally-chartered savings bank headquartered in Elizabethtown, Kentucky. The business of First Federal consists primarily of attracting deposits from the general public and originating mortgage loans on single family residences, and to a lesser extent on multi-family housing and commercial property. First Federal also makes home improvement loans, consumer loans and commercial business loans and through its subsidiary offers insurance products and brokerage services to its customers. In April 1993 the Bank established a full service trust department to serve the fiduciary needs of its customers. The principal sources of funds for First Federal's lending activities include deposits received from the general public, borrowings from the Federal Home Loan Bank of Cincinnati, principal amortization and prepayment of loans. First Federal's primary sources of income are interest and origination fees on loans and interest on investments. First Federal also invests in various federal and government agency obligations and other investment securities permitted by applicable laws and regulations. First Federal's principal expenses are interest paid on deposit accounts and operating expenses.
First Federal was originally founded in 1923 as a state-chartered institution and became federally-chartered in 1940. In 1987, the Bank converted to a federally-chartered savings bank and converted from mutual to stock form.
The Bank is a member of the Federal Home Loan Bank ("FHLB") of Cincinnati and is subject to regulation, examination and supervision by the Office of Thrift Supervision ("OTS"). The Bank's deposits are insured by the Savings Association Insurance Fund ("SAIF") administered by the Federal Deposit Insurance Corporation("FDIC").
LENDING ACTIVITIES
GENERAL. The principal lending activity of First Federal is the origination of conventional first mortgage loans secured by residential property. Residential mortgage loans are generally underwritten according to Federal National Mortgage Association (FNMA) and Federal Home Loan Mortgage Corporation (FHLMC) guidelines. To a lesser extent the Bank engages in commercial real estate, consumer and commercial business lending. Residential mortgage loans made by First Federal are secured primarily by single family homes and include construction loans. The majority of First Federal's mortgage loan portfolio is secured by real estate located in Hardin, Nelson, Hart, Meade, LaRue, and Bullitt counties in the state of Kentucky.
The following table presents a summary of the Bank's loan portfolio by category for each of the last five years. The Bank has no foreign loans in its portfolio and other than the categories noted, there is no concentration of loans in any industry exceeding 10% of total loans.
LOAN MATURITY SCHEDULE. The following table sets forth certain information at June 30, 1999, regarding the dollar amount of loans maturing in the Bank's loan portfolio based on their contractual terms to maturity.
Due after Due during 1 through Due after 5 The year ended 5 years after Years after June 30, June 30, June 30, Total 2000 1999 1999 Loans ---- ---- ---- ----- (Dollars in thousands)
Real estate mortgage $ 1,060 $10,485 $313,554 $325,099 Real estate construction (1) 0 0 18,104 18,104 Consumer 7,278 40,169 1,596 49,043 Commercial, financial and agricultural 5,018 9,978 4,652 19,648 ----- ------ ------ ------
Total $13,356 $60,632 $337,906 $411,894 ======= ======= ======== ======== - ---------------------------- (1) These loans will become permanent real estate loans upon completion of construction.
The following table reflects a breakdown of loans maturing after one year, by fixed and adjustable rates.
Floating or Fixed Rates Adjustable Rates Total (Dollars in thousands)
Real estate mortgage $241,227 $ 82,812 $324,039 Real estate construction 16,329 1,775 18,104 Consumer 4,537 37,228 41,765 Commercial, financial and Agricultural 3,477 11,153 14,630 ------ ------ ------ Total $265,570 $132,968 $398,538 ======== ======== ========
RESIDENTIAL REAL ESTATE LENDING. The Bank's primary lending activity is the origination of loans on single family residences, which consist of one-to-four individual dwelling units. Fixed rate residential real estate loans originated by the Bank have terms ranging from ten to thirty years. Interest rates are competitively priced within the primary geographic lending market, and vary according to the term for which they are fixed.
In recent years, the Bank has emphasized the origination of adjustable-rate mortgage loans ("ARMs"). The Bank offers an ARM with an annual adjustment which is tied to various national indeces with a maximum adjustment of 2% annually and a lifetime cap of 15%. As of June 30, 1999, approximately 26% of the Bank's real estate loans were adjustable rate loans with adjustment periods ranging from one to five years and balloon loans of seven years or less. The origination of these mortgage loans can be more difficult in a low interest rate environment where there is a significant demand for fixed rate mortgages.
The Bank limits the maximum loan-to-value ratio on one-to-four-family residential first mortgages to 80% of the appraised value and 95% on certain mortgages, with the requirement that private mortgage insurance be obtained for loans with loan-to-value ratios in excess of 80%. The Bank generally limits the loan-to-value ratio to 80% on second mortgages on one-to-four-family dwellings.
First Federal's residential lending activities also include loans secured by multi-family residential property, consisting of properties with more than four separate dwelling units. These loans amounted to $4.8 million of the loan portfolio at June 30, 1999. First Federal generally does not lend above 75% of the appraised values of multi-family residences on first mortgage loans. The mortgage loans First Federal currently offers on multi-family dwellings are generally one or five year ARMs with maturities of 25 years or less.
The Bank maintains a secondary mortgage operation designed to make qualified VA and FHA loans for sale to investors, thereby providing necessary liquidity to the Bank and needed loan products to the Bank's customers. During fiscal 1999, the Bank's secondary mortgage operations originated $43.4 million in loans and sold $42 million to investors. Conventional mortgage loans originated by the Bank do not meet certain guidelines, therefore, they do not qualify for sale on the secondary market.
CONSTRUCTION AND COMMERCIAL REAL ESTATE LENDING. First Federal originates loans secured by existing commercial properties and construction loans primarily on residential real estate. The loans are secured by real estate located in Kentucky. Substantially all of the commercial real estate loans originated by First Federal have adjustable interest rates with maturities of 25 years or less or are loans with fixed interest rates and maturities of five years or less. At June 30, 1999, the Bank had $18.1 million in outstanding interim construction loans. The security for commercial real estate loans includes retail businesses, warehouses and motels. Commercial real estate loans originated by the Bank range in size from $40,000 to $1.9 million.
Commercial real estate loans typically involve large loan balances to single borrowers or groups of related borrowers and may also involve higher loan principal amount to security property appraisal value ratios as compared to loans secured by residential real estate. In addition, the payment experience of loans secured by income producing properties is typically dependent on the successful operation of the related real estate project and thus may be more vulnerable to adverse conditions in the real estate market or in the economy generally. Construction loans involve additional risks as a result of the fact that loan funds are advanced upon the security of the project under construction, which is of uncertain value prior to the completion of construction. Moreover, because of the uncertainties inherent in estimating construction costs, delays arising from labor problems, material shortages, and other unpredictable contingencies, it is relatively difficult to evaluate accurately the total loan funds required to complete a project, and related loan-to-value ratios. The analysis of prospective construction loan projects thus requires an expertise that varies in significant respects from that which is required for residential mortgage lending.
The Bank's underwriting criteria are designed to evaluate and minimize the risks of each construction loan. Among other things, the Bank considers evidence of the availability of permanent financing or a takeout commitment to the borrower; the reputation of the borrower and his or her financial condition; the amount of the borrower's equity in the project; independent appraisals and cost estimates; pre-construction sale and leasing information; and cash flow projections of the borrower.
CONSUMER LOANS. Federal regulations permit federally chartered thrift institutions to make secured and unsecured consumer loans of up to 35% of their assets. This limit may be exceeded for certain consumer loans, such as home equity loans, property improvement loans, mobile home loans and loans secured by savings accounts. The consumer loans granted by the Bank have included loans on automobiles, boats, recreational vehicles and other consumer goods, as well as loans secured by savings accounts, home improvement loans, and unsecured lines of credit. As of June 30, 1999, consumer loans outstanding were $28.3 million or approximately 6.9% of the Bank's total gross loan portfolio. These loans involved a higher risk of default than loans secured by one-to-four-family residential loans. The Bank believes, however, that the shorter term and the normally higher interest rates available on various types of consumer loans have been helpful in maintaining a profitable spread between the Bank's average loan yield and its cost of funds.
In view of the riskier nature of consumer lending, the Bank has developed what management believes are conservative underwriting standards. In applying these standards, the Bank obtains detailed financial information and credit bureau reports concerning each applicant. In addition, the relationship of the loans to the value of the collateral is considered. The Bank offers a home equity line of credit, which is a revolving line of credit secured by the equity in a customer's home. As of June 30, 1999, these loans totaled $14.1 million.
COMMERCIAL BUSINESS LENDING. The Bank is permitted to make secured and unsecured loans for commercial, corporate, business, and agricultural purposes, including issuing letters of credit and engaging in inventory financing and commercial leasing activities. Commercial loans generally are made to small-to-medium size businesses located within the Bank's defined market area. Commercial loans are considered to involve a higher degree of risk than residential real estate loans. However, commercial loans generally carry a higher yield and are made for a shorter term than real estate loans. The Bank offers a commercial line of credit, which is a revolving line of credit secured by the equity in the property, primarily real estate, of a business. As of June 30, 1999, these loans totaled approximately $7 million.
LOAN UNDERWRITING POLICIES. During the loan approval process, First Federal assesses both the borrower's ability to repay the loan and the adequacy of the underlying security. Potential residential borrowers complete an application which is submitted to a salaried loan officer. As part of the loan application process, qualified fee appraisers inspect and appraise the property which is offered to secure the loan. The Bank also obtains information concerning the income, financial condition, employment and credit history of the applicant. First Federal's loan committee, consisting of certain officers of the Bank, analyzes the loan application and the property to be used as collateral and subsequently approves or denies the loan request. If the mortgage loan amount is less than $250,000, it must be approved by a loan committee consisting of certain members of management. The Board of Directors must approve all mortgage loans in excess of $250,000. All consumer loans under $25,000 may be approved by authorized loan officers under Board approved lines of authority and all loans under $100,000 may be approved by an officer loan committee. Consumer loans in excess of $100,000 must be approved by the President. In connection with the origination of single family residential adjustable rate mortgage loans, borrowers are qualified at a rate of interest equal to the fully accrued index rate. It is the policy of management to make loans to borrowers who not only qualify at the low initial rate of interest, but who would also qualify following an upward interest rate adjustment.
ORIGINATION, PURCHASES AND SALES. Historically, all residential and commercial real estate loans have been originated directly by the Bank through salaried loan officers. Residential loan originations are generally attributable to referrals from real estate brokers and builders, depositors and walk-in customers. Commercial real estate and construction loan origination have been obtained by direct solicitation, and consumer loan origination by walk-in customers in response to the Bank's advertising, as well as by direct solicitation.
LOAN COMMITMENTS. Conventional loan commitments by the Bank are granted for periods of 30 days. The total amount of the Bank's outstanding commitments to originate real estate loans at June 30, 1999, was approximately $19.6 million. It has been the Bank's experience that few commitments expire unfunded.
LOAN FEES. In addition to interest earned on loans, certain fees are received for committing to and ultimately originating loans. The Bank also receives other fees and charges relating to existing loans, which include prepayment penalties, late charges and fees for loan modifications. Management believes that these fees and charges do not materially affect operating results.
NON-PERFORMING ASSETS. Non-performing assets consist of loans on which interest is no longer accrued and real estate acquired through foreclosure. The Bank does not have any loans greater than 90 days past due still on accrual. All loans considered impaired under SFAS 114 are included in non-performing loans. Loans are considered impaired if full principal or interest payments are not anticipated in accordance with the contractual loan terms. Impaired loans are carried at the present value of expected future cash flows discounted at the loan's effective interest rate or at the fair value of the collateral if the loan is collateral dependent. A portion of the allowance for loan losses is allocated to impaired loans if the value of such loans is less than the unpaid balance. If these allocations cause the allowance for loan losses to require increase, such increase is reported in the provision for loan losses. Loans are reviewed on a regular basis and normal collection procedures are implemented when a borrower fails to make a required payment on a loan. If the delinquency on a mortgage loan exceeds 90 days and is not cured through normal collection procedures or an acceptable arrangement is not worked out with the borrower, the Bank institutes measures to remedy the default, including commencing a foreclosure action. Consumer loans generally are charged off when a loan is deemed uncollectible by management and any available collateral has been disposed of. Commercial business and real estate loan delinquencies are handled on an individual basis by management with the advice of the Bank's legal counsel. The Bank anticipates that the increase in non-performing real estate loans will continue due to the growth of the Bank's loan portfolio.
Interest income on loans is recognized on the accrual basis except for those loans in a nonaccrual of income status. The accrual of interest on impaired loans is discontinued when management believes, after consideration of economic and business conditions and collection efforts, that the borrowers' financial condition is such that collection of interest is doubtful. When interest accrual is discontinued, interest income is subsequently recognized only to the extent cash payments are received.
Real estate acquired by the Bank as a result of foreclosure or by deed in lieu of foreclosure is classified as real estate owned until such time as it is sold. When such property is acquired it is recorded at the lower of the unpaid principal balance of the related loan or its fair market value. Any write-down of the property is charged to the allowance for loan losses.
The following table sets forth information with respect to the Bank's non-performing assets for the periods indicated.
At June 30,
1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (Dollars in thousands)
Loans on non-accrual status (1)(2) $2,529 $2,057 $1,550 $1,252 $1,161 ------ ------ ------ ------ ------ Total non-performing loans 2,529 2,057 1,550 1,252 1,161
Real estate acquired through foreclosure 109 134 184 375 260 Total non-performing assets $2,638 $2,191 $1,734 $1,627 $1,421 ====== ====== ====== ====== ====== Ratios: Non-performing loans to loans .63% .58% .47% .41% .41%
Non-performing assets to total assets .54% .53% .46% .46% .43%
- ------------------------------------------- (1) Loans on non-accrual status include impaired loans (2) The interest income that would have been earned and received on non-accrual loans was not material.
ALLOWANCE AND PROVISION FOR LOAN LOSSES. The allowance for loan losses is regularly evaluated by management and maintained at a level believed to be adequate to absorb loan losses in the Bank's lending portfolios. Periodic provisions to the allowance are made as needed. The amount of the provision for loan losses necessary to maintain an adequate allowance is based upon an assessment of current economic conditions, analysis of periodic internal loan reviews, delinquency trends and ratios, changes in the mixture and levels of the various categories of loans, historical charge-offs, recoveries, and other information. Management believes, based on information presently available, that it has adequately provided for loan losses at June 30, 1999. Although management believes it uses the best information available to make allowance provisions, future adjustments which could be material may be necessary if management's assumptions differ significantly from the loan portfolio's actual performance.
The following table sets forth an analysis of the Bank's loan loss experience for the periods indicated.
Year Ended June 30,
1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- (Dollars in thousands)
Balance at beginning of period $1,853 $1,715 $1,613 $1,662 $1,406 ------ ------ ------ ------ ------ Loans charged-off: Real estate mortgage 42 16 17 0 14 Consumer 248 132 114 50 21 Commercial 0 0 0 24 16 --- --- --- --- --- Total charge-offs 290 148 131 74 51 --- --- --- --- --- Recoveries: Real estate mortgage 5 0 0 1 0 Consumer 21 21 33 1 6 Commercial 0 0 0 23 16 --- --- --- --- --- Total recoveries 26 21 33 25 22 --- --- --- --- --- Net loans charged-off 264 127 98 49 29 --- --- --- --- --- Acquired reserves 205 0 0 0 185 Provision for loan losses 314 265 200 0 100 --- --- --- --- --- Balance at end of period $2,108 $1,853 $1,715 $1,613 $1,662 ------ ------ ----- ------ ------
Net charge-offs to average loans outstanding .068% .037% .031% .017% .010% Allowance for loan losses to total non-performing assets 80% 85% 99% 99% 117%
The following table is management's allocation of the allowance for loan losses by loan type. Allowance funding and allocation is based on management's current evaluation of risk in each category, economic conditions, past loss experience, loan volume, past due history and other factors. Since these factors are subject to change, the allocation is not necessarily predictive of future portfolio performance.
There were no material changes in estimation methods or assumptions affecting allowance allocation. Any reallocation to the allowance is primarily indicative of changes in loan portfolio mix, not changes in loan concentrations or terms.
Federal regulations require insured institutions to classify their own assets on a regular basis. In addition, in connection with examinations of insured institutions, OTS examiners have authority to identify problem assets and, if appropriate, classify them. The regulations provide for three classifications of asset categories -- substandard, doubtful and loss. The regulations also contain a special mention category, defined as assets which do not currently expose an insured institution to a sufficient degree of risk to warrant classification but do possess credit deficiencies or potential weaknesses deserving management's close attention. Assets classified as
substandard or doubtful require the institution to establish general allowances for loan losses. If an asset or portion thereof is classified as loss, the insured institution must either establish specified allowances for loan losses in the amount of 100% of the portion of the asset classified loss, or charge off such amount.
At June 30, 1999, on the basis of management's review of the Bank's loan portfolio, the Bank had $2.6 million of assets classified substandard, no assets classified as doubtful and $53,000 of assets classified as loss.
SECURITIES
Interest on securities provides the largest source of income for First Federal after interest on loans, constituting 10% of the total interest income for fiscal year 1999. First Federal maintains its liquid assets above the minimum requirements imposed by regulation at a level believed adequate to meet requirements of normal banking activities and potential savings outflows. Cash flow projections are regularly reviewed and updated to assure that adequate liquidity is provided. As of June 30, 1999, First Federal's liquidity ratio (liquid assets as a percentage of deposits and short-term borrowings) was 8.85%.
First Federal has the authority to invest in various types of liquid assets, including short-term United States Treasury obligations and securities of various federal agencies, certificates of deposit at insured savings and loans and banks, bankers' acceptances, and federal funds. The Bank may also invest a portion of its assets in certain commercial paper and corporate debt securities. First Federal is also authorized to invest in mutual funds and stocks whose assets conform to the investments that First Federal is authorized to make directly. See Note 3 of Notes to Consolidated Financial Statements for further information concerning the Bank's investment portfolio.
As a member of the Federal Home Loan Bank System, First Federal must maintain minimum levels of liquid assets specified by the OTS which vary from time to time. See "Regulation Federal Home Loan Bank System." Liquidity may increase or decrease depending upon the availability of funds and comparative yields on investments in relation to return on loans.
The table on the following page sets forth the carrying value of the Bank's securities portfolio at the dates indicated. At June 30, 1999, the market value of the Bank's securities portfolio was $46.5 million.
At June 30, -----------------------------------
1999 1998 1997 ---- ---- ---- (Dollars in thousands) Securities available-for-sale: Equity securities $ 1,948 $ 1,934 $ 5,192 Obligations of states and political subdivisions 988 - - ------ ------ ------
Total available-for-sale $ 2,936 $ 1,934 $ 5,192 ======= ======= =======
Securities held-to-maturity: U.S. Treasury and agencies $42,814 $22,693 $15,335 Mortgage-backed securities 1,590 1,946 2,149 ------ ------ ------
Total held-to-maturity $44,404 $24,639 $17,484 ======= ======= =======
The following table sets forth the scheduled maturities, amortized cost, fair value and weighted average yields for the Bank's securities at June 30, 1999.
Weighted Amortized Fair Average Cost Value Yield (Dollars in thousands) Securities available-for-sale: Due in one year or less $ - $ - - % Due after one year through five years - - - Due after five years through ten years 785 772 4.33 Due after ten years 225 216 4.60 Equity securities 262 1,948 1.39 ---- ------
Total available-for-sale $1,272 $2,936 ====== ======
Securities held-to-maturity: Due in one year or less $ 1,000 $ 1,001 6.00% Due after one year through five years 6,834 6,933 6.43 Due after five years through ten years 33,980 33,029 6.34 Due after ten years 1,000 951 6.75 Mortgage-backed securities 1,590 1,611 6.50
Total held-to-maturity $44,404 $43,525 ======= =======
SOURCES OF FUNDS
GENERAL. Savings accounts and other types of deposits have traditionally been an important source of the Bank's funds for use in lending and for other general business purposes. In addition to deposit accounts, the Bank derives funds from loan repayments, FHLB advances, other borrowings and operations. Borrowings may be used on a short-term basis to compensate for reductions in deposits or deposit inflows at less than projected levels and may be used on a longer term basis to support expanded lending activities.
DEPOSITS. First Federal attracts both short-term and long-term deposits from the general public by offering a wide range of deposit accounts and interest rates. In recent years the Bank has been required by market conditions to rely increasingly on short-term certificate accounts and other deposit alternatives that are more responsive to market interest rates. First Federal offers regular savings accounts, NOW accounts, money market accounts and fixed-interest-rate certificates with varying maturities. First Federal also offers tax-deferred individual retirement accounts. The flow of deposits is influenced significantly by general economic conditions, changes in interest rates and competition. The Bank relies primarily on customer service and long-standing relationships with customers to attract and retain these deposits; however, market interest rates and rates offered by competing financial institutions significantly affect the Bank's ability to attract and retain deposits.
As of June 30, 1999, approximately 32.9% of First Federal's deposits consisted of various savings and demand deposit accounts from which customers are permitted to withdraw funds at any time without penalty.
Interest earned on savings accounts is paid from the date of deposit to the date of withdrawal and compounded quarterly. Interest earned on NOW accounts is paid from the date of deposit to the date of withdrawal, compounded and credited monthly. Interest rates paid, maturity terms, service fees and withdrawal penalties are established by First Federal's management on a periodic basis.
First Federal also makes available to its depositors a number of certificates of deposit with various terms and interest rates to be competitive in its market area. These certificates have minimum deposit requirements as well.
The following table sets forth the change in dollar amount of savings deposits in the various types of savings accounts offered by the Bank between the dates indicated.
The variety of deposit accounts by First Federal has permitted it to be more competitive in obtaining funds and has allowed it to respond with more flexibility to disintermediation (the flow of funds away from depository institutions such as savings institutions into direct investment vehicles such as government and corporate securities). However, the ability of the Bank to attract and maintain deposits and its cost of funds have been, and will continue to be, significantly affected by money market conditions.
The following table sets forth the amount of deposits as of June 30, 1999 by various interest rate categories.
The following table indicates at June 30, 1999 the amount of the Bank's certificates of deposit of $100,000 or more by time remaining until maturity.
Certificates Maturity Period of Deposit --------------- ------------ (In Thousands)
Three months or less $12,100 Three through six months 10,651 Six through twelve months 22,747 Over twelve months 29,514 ------- Total $75,012 =======
The following table sets forth the average balances and interest rates based on month-end balances for various deposit categories during the periods indicated.
Year Ended June 30, ------------------------------------------------------ 1999 1998 1997 ---- ---- ---- Average Average Average Average Average Average Balance Rate Paid Balance Rate Paid Balance Rate Paid ------- --------- ------- --------- ------- --------- (Dollars in thousands)
Non-interest bearing demand accounts $ 14,651 - % $ 12,289 - % $ 9,104 - % Demand deposit accounts 51,174 1.53 34,171 1.52 32,056 1.57 Savings deposits 38,494 2.56 30,696 2.64 31,259 2.62 Money market accounts 21,050 3.67 9,424 3.31 10,287 3.38 Certificates of deposit 266,575 5.50 207,333 5.78 187,974 5.52
BORROWINGS. Deposits are the primary source of funds for First Federal's lending and investment activities and for its general business purposes. The Bank can also use advances (borrowings) from the FHLB of Cincinnati to supplement its supply of lendable funds, meet deposit withdrawal requirements and to extend the term of its liabilities. Advances from the FHLB are typically secured by the Bank's stock in the FHLB and a portion of the Bank's first mortgage loans. At June 30, 1999 First Federal had $25.9 million in advances outstanding from the FHLB and the capacity to increase its borrowings an additional $167 million.
The FHLB of Cincinnati functions as a central reserve bank providing credit for savings banks and certain other member financial institutions. As a member, First Federal is required to own capital stock in the FHLB and is authorized to apply for advances on the security of such stock and certain of its home mortgages and other assets (principally, securities which are obligations of, or guaranteed by, the United States) provided certain standards related to credit-worthiness have been met.
The following table sets forth certain information regarding the Bank's FHLB advances during the periods indicated.
At June 30, -------------------------------------
1999 1998 1997 ---- ---- ----
(Dollars in thousands)
Average balance outstanding $23,560 $41,990 $41,482 Maximum amount outstanding at any month-end during the period 25,894 43,441 47,716 Year end balance 25,894 43,249 41,514 Weighted average interest rate: At end of year 5.25% 5.39% 5.62% During the year 5.52% 5.68% 5.61%
AVERAGE BALANCE SHEET
The following table sets forth information relating to the Bank's average balance sheet and reflects the average yield on assets and average cost of liabilities for the periods indicated. Such yields and costs are derived by dividing income or expense by the average monthly balance of assets or liabilities, respectively, for the periods presented
RATE/VOLUME ANALYSIS
The table below sets forth certain information regarding changes in interest income and interest expense of the Bank for the periods indicated. For each category of interest-earning assets and interest-bearing liabilities, information is provided on changes attributable to (1) changes in rate (changes in rate multiplied by old volume); (2) changes in volume (change in volume multiplied by old rate); and (3) changes in rate-volume (change in rate multiplied by change in volume). Changes in rate-volume are proportionately allocated between rate and volume variance.
SUBSIDIARY ACTIVITIES
As a federally-chartered savings bank, the Bank is permitted to invest an amount equal to 2% of its assets in subsidiaries with an additional investment of 1% of assets where such investment serves primarily community, intercity, and community development purposes. Under such limitations, on June 30, 1999, the Bank was authorized to invest up to approximately $14.6 million in the stock of or loans to subsidiaries. In addition, institutions meeting regulatory capital requirements, which the Bank does, may invest up to 50% of their regulatory capital in conforming first mortgage loans to subsidiaries in which they own 10% or more of the capital stock. As of June 30, 1999, the Bank's investment in and loans to its subsidiary was approximately $1.4 million consisting of investment in common stock and earnings.
In 1978, the Bank formed First Service Corporation of Elizabethtown ("First Service"). First Service acts as a broker for the purpose of selling mortgage life, credit life and accident and disability insurance to the Bank's customers. In March, 1998 First Service entered into a contract with Robert Thomas Securities, Inc. to provide investment services to the Bank's customers in the area of tax deferred annuities, government securities and stocks and bonds. First Service employs three full-time employees to perform these services. This investment function operates under licenses held by First Service. The net earnings of First Service was $209,000 during fiscal year 1999.
Savings associations, in determining compliance with capital requirements, are required to deduct from capital an increasing percentage of their debt and equity investments in, and extensions of credit to, service corporations in activities not permissible for a national bank. Certain activities of the Bank's service corporations are not permissible for national banks. Accordingly, on June 30, 1999, the Bank deducted 100% of its investment in its service corporation from its core and tangible capital. See "Regulation--Regulatory Capital Requirements." Because the Bank's investment in its subsidiary is insignificant, management does not believe that the required deductions from capital will have a material effect on the Bank's regulatory capital position.
COMPETITION
First Federal experiences substantial competition both in attracting and retaining deposits and in the making of mortgage and other loans. Direct competition for deposits comes from other savings institutions, commercial banks, and credit unions located in north-central Kentucky. Additional significant competition for deposits comes from money market mutual funds and corporate and government debt securities.
The primary factors in competing for loans are interest rates and loan origination fees and the range of services offered by the various financial institutions. Competition for origination of real estate loans normally comes from other savings institutions, commercial banks, mortgage bankers, mortgage brokers, and insurance companies. First Federal is able to compete effectively in its primary market area.
First Federal has offices in nine cities in six contiguous counties. In addition to the financial institutions which have offices in these counties, First Federal competes with several commercial banks and savings institutions in surrounding counties, many of which have assets which are substantially larger than First Federal's. In addition, Kentucky's interstate banking statute, which permits banks in all states to enter the Kentucky market if they have reciprocal interstate banking statutes, has further increased competition for the Bank.
EMPLOYEES
The Corporation and its subsidiary had 143 full-time employees and 23 part-time employees as of June 30, 1999. None of these employees are represented by a collective bargaining agreement and the Corporation believes that it enjoys good relations with its personnel.
REGULATION
GENERAL. As a federally chartered savings association, First Federal is subject to extensive regulation by the OTS. The lending activities and other investments of the Bank must comply with various federal regulatory requirements. The OTS periodically examines the Bank for compliance with various regulatory requirements and the FDIC also has the authority to conduct special examinations of institutions insured by the SAIF. The Bank must file reports with the OTS describing its activities and financial condition. The Bank is also subject to certain reserve requirements promulgated by the Board of Governors of the Federal Reserve System (the "Federal Reserve Board"). This supervision and regulation is intended primarily for the protection of depositors. As a savings and loan holding company, the Corporation is subject to the OTS' regulation, examination, supervision and reporting requirements.
FEDERAL HOME LOAN BANK SYSTEM. The Bank is a member of the FHLB System, which consists of 12 regional Federal Home Loan Banks subject to supervision and regulation by the Federal Housing Finance Board ("FHLB"). The Federal Home Loan Banks provide a Central Credit facility primarily for member institutions. As a member of the FHLB, the Bank is required to acquire and hold shares of capital stock in the FHLB in an amount at least equal to 1% of the aggregate unpaid principal of its home mortgage loans, home purchase contracts, and similar obligations at the beginning of each year, or 1/20 of its advances (borrowings) from the FHLB, whichever is greater. First Federal was in compliance with this requirement with investment in the FHLB stock at June 30, 1999, of $3.2 million.
The FHLB serves as a reserve or central bank for its member institutions within its assigned region. It is funded primarily from proceeds derived from the sale of consolidated obligations of the FHLB System. It makes advances to members in accordance with policies and procedures established by the FHFB and the Board of Directors of the FHLB. As of June 30, 1999, First Federal had $25.9 million in advances outstanding from the FHLB. See "Business Sources of Funds - Borrowings."
LIQUIDITY REQUIREMENTS. As a member of the FHLB System, the Bank has been required to maintain average daily balances of liquid assets (cash, deposits maintained pursuant to Federal Reserve Board requirements, time and savings deposits in certain institutions, obligations of states and political subdivisions thereof, shares in mutual funds with certain restricted investment policies, highly rated corporate debt, and mortgage loans and mortgage-related securities with less than one year to maturity or subject to purchase within one year) equal to the monthly average of not less than a specified percentage of its net withdrawable savings deposits plus short-term borrowings. This liquidity requirement, which is currently 4%, may be changed from time to time by the OTS to any amount within the range of 4% to 10% depending upon economic conditions and the savings flows of member institutions. Member institutions have also been required to maintain average daily balances of short-term liquid assets at a specified percentage (currently 1%) of the total of their net withdrawable savings accounts and borrowings payable in one year or less. Monetary penalties may be imposed for failure to meet liquidity requirements. The Bank's average liquidity ratio for June 1999 was 8.85% which exceeded the applicable liquidity requirements. The Bank's average liquidity ratio for June 1999 was 8.85% which exceeded the applicable liquidity requirement. The Bank has never been subject to monetary penalties for failure to meet its liquidity requirements.
QUALIFIED THRIFT LENDER TEST. The Bank is currently subject to OTS regulations which use the concept of a qualified thrift lender ("QTL") to determine eligibility for Federal Home Loan Bank advances and for certain other purposes. To qualify as a QTL, a savings association must maintain at least 65% of its "portfolio" assets in qualified thrift investments. Portfolio assets are defined as total assets less intangibles, property used by a savings association in its business and liquidity investments in an amount not exceeding 20% of assets. Qualified thrift investments consist of: (i) loans, equity positions, or securities related to domestic, residential real estate or manufactured housing, credit card and education loans; (ii) property used by the savings association in the conduct of its business; and (iii) stock in a Federal Home Loan Bank or the Federal National Mortgage Association or the Federal Home Loan Mortgage Corporation. Qualified thrift investments may also include liquidity investments and 50% of the dollar amount of residential mortgage loans subject to sale under certain conditions. To qualify as a QTL, a savings association must maintain its status as a QTL on a monthly basis in nine out of every 12 months. Failure to qualify as a QTL results in a number of sanctions, including the imposition of certain operating restrictions imposed on national banks and a restriction on obtaining additional advances from the Federal Home Loan Bank System. Upon failure to qualify as a QTL for two years, a savings association must convert to a commercial bank. At June 30, 1999, approximately 93.44% of the Bank's assets were invested in qualified thrift investments.
LENDING LIMITS. Under regulations of the OTS, loans and extensions of credit to a person outstanding at one time and not fully secured shall not exceed 15% of the unimpaired capital, surplus and the loan loss allowance of the savings association. Loans and extensions of credit fully secured by readily marketable collateral (as defined) may comprise an additional 10% of unimpaired capital and surplus. At June 30, 1999, the Bank complied with its regulatory lending limits.
The aggregate amount of loans which a federally chartered savings association may make on the security of liens on non-residential real property may not exceed 400% of the institution's capital, though the Director of OTS has the authority to permit savings associations to exceed the 400% of capital limit in certain circumstances.
REGULATORY CAPITAL REQUIREMENTS. OTS regulations require savings associations to satisfy three different capital requirements. Specifically, savings associations must maintain a 3% Tier 1 leverage ratio, a 4% Tier 1 capital ratio and an 8% risk-based capital standard. OTS regulations impose certain restrictions on savings associations that have a total risk-based capital ratio that is less than 8.0%, a ratio of Tier 1 capital to risk-weighted assets of less than 4.0% or a ratio of Tier 1 capital to adjusted total assets of less than 4.0% (or 3.0% if the institution is rated composite 1 under the OTS examination rating system). As of June 30, 1999, the Bank's actual capital percentages for Tier 1 leverage of 9.0%, Tier 1 capital of 13.9%, and current risk-based capital of 14.6%, significantly exceed the regulatory requirement for each category. For additional information See Note 9 of the Notes to Consolidated Financial Statements in the Annual Report.
For purposes of the OTS's regulatory capital regulations, core capital is defined as common stockholders' equity (including retained earnings), noncumulative perpetual preferred stock and related surplus, minority interests in the equity accounts of fully consolidated subsidiaries, certain nonwithdrawable accounts and pledged deposits and "qualifying supervisory goodwill." Core capital is generally reduced by the amount of the savings association's intangible assets for which no market exists. Limited exceptions to the deduction of intangible assets are provided for purchased mortgage servicing rights and qualifying supervisory goodwill held by an eligible savings association.
Adjusted total assets are a savings association's total assets as determined under generally accepted accounting principles, adjusted for certain goodwill amounts, and increased by a pro rata portion of the assets of subsidiaries in which the savings association holds a minority interest and which are not engaged in activities for which the capital rules require the savings association to net its debt and equity investments against capital, as well as a pro rata portion of the assets of other subsidiaries for which netting is not fully required under the phase-in rules. Adjusted total assets are reduced by the amount of assets that have been deducted from capital, the portion of savings association's investments in subsidiaries that must be netted against capital under the capital rules and, for purposes of the core capital requirement, qualifying supervisory goodwill.
In determining compliance with the risk-based capital requirement, a savings association is allowed to use both Tier 1 capital and supplementary capital provided the amount of supplementary capital used does not exceed the savings association's Tier 1 capital. Supplementary capital is defined to include certain preferred stock issues, nonwithdrawable accounts and pledged deposits that do not qualify as Tier 1 capital, certain approved subordinated debt, certain other capital instruments and a portion of the savings association's general loss allowances. Total Tier 1 and supplementary capital are reduced by an amount equal to the savings association's high loan-to-value ratio land loans and non-residential construction loans and the amount of capital instruments held by other depository institutions pursuant to reciprocal arrangements as well as by an increasing percentage of the savings association's equity investments.
The risk-based capital requirement is measured against risk-weighted assets which equals the sum of each asset and the credit-equivalent amount of each off-balance sheet item after being multiplied by an assigned risk weight. Under the OTS risk-weighted system, one-to four-family first mortgages not more than 90 days past due with loan-to-value ratios under 80% are assigned a risk weight of 50%. Consumer loans are assigned a risk weight of 100%. Mortgage-backed securities issued, or fully guaranteed as to principal and interest, by the FNMA or FHLMC are assigned a 20% risk weight. Cash and U.S. Government securities backed by the full faith and credit of the U.S. Government are given a 0% risk weight. The risk-based capital requirement is 8% of risk-weighted assets.
In determining compliance with capital standards, all of a savings association's investments in, and extensions of credit to, any subsidiary engaged in activities not permissible for a national bank are also to be deducted from the savings association's capital. Certain subsidiaries are exempted from this treatment, including any subsidiary engaged in impermissible activities solely as agent for its customers (unless the FDIC determined otherwise), subsidiaries engaged solely in mortgage banking, and depository institution subsidiaries acquired prior to May 1, 1989. In addition, the capital deduction is not applied to federal savings associations existing as of August 9, 1989 that were either chartered as a state savings bank or state cooperative bank prior to October 10, 1982 or that acquired their principal assets from such an association. The required reduction of capital for this purpose is being phased in over a period of approximately five years. At June 30, 1999, the Bank's investment in First Service, a wholly owned subsidiary of the Bank engaged in activities which are not permitted for a national bank, amounted to $1.4 million. Accordingly, on June 30, 1999, the Bank deducted 100% of this investment from its core and tangible capital.
The OTS risk-based capital requirements require savings institutions with more than a "normal" level of interest rate risk to maintain additional total capital. A savings institution's interest rate risk is measured in terms of the sensitivity of its "net portfolio value" to changes in interest rates. Net portfolio value is defined, generally, as the present value of expected cash inflows from existing assets and off-balance sheet contracts less the present value of expected cash outflows from existing liabilities. A savings institution is considered to have a "normal" level of interest rate risk exposure if the decline in its net portfolio value after an immediate 200 basis point increase or decrease in market interest rates (whichever results in the greater decline) is less than two percent of the current estimated economic value of its assets. A savings institution with a greater than normal interest rate risk is required to deduct from total capital, for purposes of calculating its risk-based capital requirement, an amount (the "interest rate risk component") equal to one-half the difference between the institution's measured interest rate risk and the normal level of interest rate risk, multiplied by the economic value of its total assets.
The OTS will calculate the sensitivity of a savings institution's net portfolio value based on data submitted by the institution in a schedule to its quarterly Thrift Financial Report and using the interest rate risk measurement model adopted by the OTS. The amount of the interest rate risk component, if any, for any quarter is based on the institution's Thrift Financial Report filed three quarters earlier. The Bank does not have more than a normal level of interest rate risk under the new rule and is not required to increase its total capital as a result of the rule.
Presented below as of June 30, 1999 is an analysis of the Bank's interest rate risk ("IRR") as measured by changes in NPV for instantaneous and sustained parallel shifts of 100 basis points in market interest rates.
As of June 30, 1999
Net Portfolio Value NPV as % of PV of Assets Change ------------------- ------------------------ In Rates $ Amount $ Change % Change NPV Ratio Change -------- -------- -------- -------- --------- ------ +300 bp 35,951 (23,286) (39) 7.85 (430 bp) +200 bp 44,082 (15,155) (26) 9.41 (273 bp) +100 bp 52,123 (7,114) (12) 10.90 (125 bp) 0 bp 59,237 12.15 -100 bp 64,333 5,096 9 12.99 84 bp -200 bp 68,072 8,835 15 13.57 142 bp -300 bp 71,824 12,587 21 14.12 198 bp
While the Bank complies with its currently applicable capital requirements and expects to continue to comply with the requirements, any failure to comply with the capital requirements in the future would result in severe penalties. In addition to requiring generally applicable capital standards for savings associations, applicable regulations authorize the Director of OTS to establish the minimum level of capital for a savings institution at such amount or at such ratio of capital-to-assets as the Director determines to be necessary or appropriate for such institution in light of the particular circumstances of the institution. The Director of OTS may treat the failure of any savings institution to maintain capital at or above such level as an unsafe or unsound practice and may issue a directive requiring any savings institution which fails to maintain capital at or above the minimum level required by the Director to submit and adhere to a plan for increasing capital. Such an order may be enforced in the same manner as an order issued by the FDIC.
The OTS staff policies specify that savings institutions failing any one of their minimum regulatory capital requirements may not increase their total assets during any quarter in excess of an amount equal to net interest credited during the quarter. Under these policies, institutions that have submitted capital plans that are rejected by the District Director or that have had capital plans approved but do not meet the targets or requirements of the capital plan may not make any new loans or investments except with the prior written approval of the District Director. Such approval will only be granted when the proposed loan or investment is reasonable in the context of the institution's operations and does not significantly increase the risk profile of the savings institution.
The Director of OTS must restrict the asset growth of savings associations not in regulatory capital compliance, subject to a limited exception for growth not exceeding interest credited. In addition, savings associations not in full compliance with applicable capital standards are subject to a capital directive which may include such restrictions, including restrictions on the payment of dividends and on compensation, as deemed appropriate by the Director of OTS. The Director of OTS is directed to treat as an unsafe and unsound practice any material failure by a savings association to comply with a capital plan or capital directive. The sanctions and penalties that could be imposed range from restrictions on branching or on the activities of the institution, to restrictions on the ability to obtain FHLB advances, to termination of insurance of accounts following appropriate proceedings, to the appointment of a conservator or receiver.
PROMPT CORRECTIVE REGULATORY ACTION
Under the Federal Deposit Insurance Corporation Improvement Act of 1991 ("FDICIA"), the federal banking regulators are required to take prompt corrective action if an insured depository institution fails to satisfy certain minimum capital requirements. All institutions, regardless of their capital levels, are restricted from making any capital distribution or paying any management fees if the institution would thereafter fail to satisfy the minimum levels for any of its capital requirements. An institution that fails to meet the minimum level for any relevant capital measure (an "undercapitalized institution") may be: (i) subject to increased monitoring by the appropriate federal banking regulator; (ii) required to submit an acceptable capital
restoration plan within 45 days; (iii) subject to asset growth limits; and (iv) required to obtain prior regulatory approval for acquisitions, branching and new lines of businesses. The capital restoration plan must include a guarantee by the institution's holding company that the institution will comply with the plan until it has been adequately capitalized on average for four consecutive quarters, under which the holding company would be liable up to the lesser of 5% of the institution's total assets or the amount necessary to bring the institution into capital compliance as of the date it failed to comply with its capital restoration plan. A "significantly undercapitalized" institution, as well as any undercapitalized institution that did not submit an acceptable capital restoration plan, may be subject to regulatory demands for recapitalization, broader application of restrictions on transactions with affiliates, limitations on interest rates paid on deposits, asset growth and other activities, possible replacement of directors and officers, and restrictions on capital distributions by any bank holding company controlling the institution. Any company controlling the institution could also be required to divest the institution or the institution could also be required to divest subsidiaries. The senior executive officers of a significantly undercapitalized institution may not receive bonuses or increases in compensation without prior approval and the institution is prohibited from making payments of principal or interest on its subordinated debt. In their discretion, the federal banking regulators may also impose the foregoing sanctions on an undercapitalized institution if the regulators determine that such actions are necessary to carry out the purposes of the prompt corrective action provisions. If an institution's ratio of tangible capital to total assets falls below a "critical capital level," the institution will be subject to conservatorship or receivership within 90 days unless periodic determinations are made that forbearance from such action would better protect the deposit insurance fund. Unless appropriate findings and certifications are made by the appropriate federal bank regulatory agencies, a critically undercapitalized institution must be placed in receivership if it remains critically undercapitalized on average during the calendar quarter beginning 270 days after the date it became critically undercapitalized. If a savings association is in compliance with an approved capital plan on the date of enactment of FDICIA, however, it will not be required to submit a capital restoration plan if it is undercapitalized or become subject to the statutory prompt corrective action provisions applicable to significantly and critically undercapitalized institutions prior to July 1, 1995.
Under FDICIA, regulations implementing the prompt corrective action provisions of a depository institution's capital adequacy is measured on the basis of the institution's total risk-based capital ratio (the ratio of its total capital to risk-weighted assets), Tier 1 risk-based capital ratio (the ratio of its core capital to risk-weighted assets) and leverage ratio (the ratio of its core capital to adjusted total assets). Under the regulations, a savings association that is not subject to an order or written directive to meet or maintain a specific capital level will be deemed "well capitalized" if it also has: (i) a total risk-based capital ratio of 10% or greater; (ii) a Tier 1 risk-based capital ratio of 6.0% or greater; and (iii) a leverage ratio of 5.0% or greater. An "adequately capitalized" savings association is a savings association that does not meet the definition of well capitalized and has: (i) a total risk-based capital ratio of 8.0% or greater; (ii) a Tier 1 capital risk-based ratio of 4.0% or greater; and (iii) a leverage ratio of 4.0% or greater (or 3.0% or greater if the savings association has a composite of 1 MACRO rating). An "undercapitalized institution" is a savings association that has (i) a total risk-based capital ratio less than 8.0%; or (ii) a Tier 1 risk-based capital ratio of less than 4.0%; or (iii) a leverage ratio of less than 4.0% (or 3.0% if the association has a composite 1 MACRO rating). A "significantly undercapitalized" institution is defined as a savings association that has: (i) a total risk-based capital ratio of less than 6.0%; or (ii) a Tier 1 risk-based capital ratio of less than 3.0%; or (iii) a leverage ratio of less than 3.0%. A "critically undercapitalized" savings association defined as a savings association that has a ratio of core capital to total assets of less than 2.0%. The OTS may reclassify a well capitalized savings association as adequately capitalized and may require an adequately capitalized or undercapitalized association to comply with the supervisory actions applicable to associations in the next lower opportunity for a hearing, that the savings association is in an unsafe or unsound condition or that the association has received and not corrected a less-than-satisfactory rating for any MACRO rating category. First Federal is classified as "well capitalized" under the new regulations.
DEPOSIT INSURANCE
Under FDICIA, the FDIC has established a risk-based assessment system for insured depository institutions. Under the system, the assessment rate for an insured depository institution depends on the assessment risk classification assigned to the institution by the FDIC which will be determined by the institution's capital level and supervisory evaluations. Institutions are assigned to one of three capital groups; well capitalized, adequately capitalized or undercapitalized, based on the data reported to regulators for date closest to the last day of the seventh month preceding the semi-annual assessment period. Well capitalized institutions are institutions satisfying the following capital ratio standards; (i) total risk-based capital ratio of 10.0% or greater; (ii) Tier 1 risk-based capital ratio of 6.0% or greater; and (iii) Tier 1 leverage ratio of 5.0% or greater. Adequately capitalized institutions are institutions that do not meet the standards for well capitalized institutions but which satisfy the following capital ratio standards: (i) total risk-based capital ratio of 8.0% or greater; (ii) Tier 1 risk-based capital ratio of 4.0% or greater; and (iii) Tier 1 leverage ratio of 4.0% or greater. Undercapitalized institutions consist of institutions that do not qualify as either "well capitalized" or "adequately capitalized." Within each capital group, institutions are assigned to one of the three subgroups on the basis of
supervisory evaluations by the institution's primary supervisory authority and such other information as the FDIC determines to be relevant to the institution's financial condition and the risk posed to the deposit insurance fund. Subgroup A consists of financially sound institutions with only a few minor weaknesses. Subgroup B consists of institutions that demonstrate weaknesses which, if not corrected, could result in significant deterioration of the fund. Subgroup C consists of institutions that pose a substantial probability of loss to the deposit insurance fund unless effective corrective action is taken.
The Bank insures its customers' deposits through the Savings Association Insurance Fund ("SAIF"). On September 30, 1996, Federal Deposit Insurance Corporation ("FDIC") legislation was signed into law to recapitalize the SAIF due to a substantial disparity that existed between the premiums assessed by the SAIF as compared to premiums assessed to commercial banks. All SAIF-insured savings institutions were required to pay a one-time special assessment of $.657 for every $100 of customer deposits held as of March 31, 1995. This has resulted in a charge to earnings of $1,095,000, net of tax, during the first quarter of fiscal 1997. On January 1, 1997, the Bank began paying insurance premiums of $.064 per $100 of deposits as compared to a previous premium of $.23 per $100 of deposits.
FEDERAL RESERVE SYSTEM
Pursuant to regulations of the Federal Reserve Board, a thrift institution must maintain average daily reserves equal to 3% on the first $51.9 million of transaction accounts, plus 10% on the remainder. This percentage is subject to adjustment by the Federal Reserve Board. Because required reserves must be maintained in the form of vault cash or in a non-interest bearing account at a Federal Reserve Bank, the effect of the reserve requirement is to reduce the amount of the institution's interest-earning assets. As of June 30, 1999, the Bank met its reserve requirements.
SAVINGS AND LOAN HOLDING COMPANY REGULATIONS. The Corporation is a savings and loan holding company within the meaning of the Home Owners' Loan Act, as amended. As such, it is registered with the OTS and is subject to OTS regulations, examinations, supervision and reporting requirements. As a subsidiary of a savings and loan holding company, First Federal is subject to certain restrictions in its dealings with the Corporation and affiliates thereof.
The Home Owners' Loan Act, as amended, generally prohibits a savings and loan holding company, without prior approval of the Director of OTS, from (i) acquiring control of any other savings institution or savings and loan holding company or controlling the assets thereof or (ii) acquiring or retaining more than 5% of the voting shares of a savings institution or holding company thereof which is not a subsidiary. Additionally, under certain circumstances, a savings and loan holding company is permitted to acquire, with the approval of the Director of OTS, up to 15% of previously unissued voting shares of an under-capitalized savings association for cash without that savings association being deemed controlled by the holding company. Except with the prior approval of the Director of OTS, no director or officer of a savings and loan holding company or person owning or controlling by proxy or otherwise more than 25% of such company's stock may also acquire control of any savings institution, other than a subsidiary institution or any other savings and loan holding company.
The Bank Holding Company Act of 1956 specifically authorizes the Federal Reserve Board and the Director of the OTS to approve an application by a bank holding company to acquire control of any savings institution. Pursuant to rules promulgated by the Federal Reserve Board, owning, controlling or operating a savings institution is a permissible activity for bank holding companies, if the savings institution engages only in deposit-taking activities and lending and other activities that are permissible for the bank holding companies. In approving such as application, the Federal Reserve Board may not impose any restriction on transaction between the savings institution and its holding company affiliates except as required by Sections 23A and 23B of the Federal Reserve Act.
A bank holding company that controls a savings institution may merge or consolidate the assets and liabilities of the savings institution with, or transfer assets and liabilities to, any subsidiary bank which is a member of the BIF with the approval of the appropriate federal banking agency and the Federal Reserve Board. The resulting bank will be required to continue to pay assessments to the SAIF at the rates prescribed for SAIF members on the deposits attributable to the merged savings institution plus an annual growth increment.
Transactions between savings associations and any affiliate are governed by Sections 23A and 23B of the Federal Reserve Act. An affiliate of a savings association is any company or entity which controls, is controlled by or is under common control with the savings association. In a holding company context, the parent holding company of a savings association (such as the Corporation) and any companies which are controlled by such parent holding company are affiliates of the savings association. Generally, Sections 23A and 23B (i) limit the extent to which the savings institution or its subsidiaries may engage in
"covered transactions" with any one affiliate to an amount equal to 10% of such institution's capital stock and surplus, and contain an aggregate limit on all such transactions with all affiliates to an amount equal to 20% of such capital stock and surplus and (ii) require that all such transactions be on terms substantially the same, or at least as favorable, to the institution or subsidiary as those provided to a non-affiliate. The term "covered transaction" includes the making of loans, purchase of assets, issuance of a guarantee and similar other types of transactions. Additionally, in addition to the restrictions imposed by Sections 23A and 23B, no savings association may (i) loan or otherwise extend credit to an affiliate, except for any affiliate which engages only in activities which are permissible for bank holding companies, or (ii) purchase or invest in any stocks, bonds, debentures, notes or similar obligations of any affiliate, except for affiliates which are subsidiaries of the savings association.
Savings associations are also subject to the restrictions contained in Section 22 (h) of the Federal Reserve Act on loans to executive officers, directors and principal shareholders. Under Section 22 (h), loans to an executive officer and to a greater than 10% shareholder of a savings association (18% in the case of institutions located in an area with less than 30,000 in population), and certain affiliated entities of either, may not exceed together with all other outstanding loans to such person and affiliated entities the association's loan to one borrower limit as established by FIRREA (generally equal to 15% of the institution's unimpaired capital and surplus, for loans fully secured by certain readily marketable collateral, an additional 10% of the institution's unimpaired capital and surplus). Section 22(h) also prohibits loans, above amounts prescribed by the appropriate federal banking agency, to directors, executive officers and greater than 10% shareholders of savings association, and their respective affiliates, unless such loan is approved in advance by a majority of the board of directors of the association with any "interested" director not participating in the voting. The Federal Reserve Board has prescribed the loan amount (which includes all other outstanding loans to such person), as to which such prior board of director approval if required, as being the greater of $25,000 or 5% of capital and surplus (up to $500,000). Further, the Federal Reserve Board pursuant to Section 22(h) requires that loans to directors, executive officers and principal shareholders be made on terms substantially the same as offered in comparable transactions to other persons.
The Board of Directors of the Corporation presently intends to operate the Corporation as a unitary savings and loan holding company. There are generally no restrictions on the activities of a unitary savings and loan company. However, if the director of OTS determines that there is reasonable cause to believe that the continuation by a savings and loan holding company of an activity constitutes a serious risk to the financial safety, soundness or stability of its subsidiary savings association, the Director of OTS may impose such restrictions as deemed necessary to address such risk and limiting (i) payment of dividends by the savings association, (ii) transactions between the savings association and its affiliates, and (iii) any activities of the savings association that might create a serious risk that the liabilities of the holding company and its affiliates may be imposed on the savings association.
Notwithstanding the above rules as to permissible business activities of unitary savings and loan holding companies, if the savings association subsidiary of such a holding company fails to meet (in three out to every four quarters and two out of every three years) the QTL test, see "Qualified Thrift Lender Test" above, then such unitary holding company shall also become subject to the activities restrictions applicable to multiple holding companies (additional restrictions on securing advances from the FHLB also apply).
If the Corporation were to acquire control of another savings institution other than through merger or other business combinations with First Federal, the Corporation would thereupon become a multiple savings and loan holding company. Except where such acquisition is pursuant to the authority to approve emergency thrift acquisitions and where each subsidiary savings institution meets the QTL test, the activities of the Corporation and any of its subsidiaries (other than First Federal or other subsidiary savings institutions) would thereafter be subject to further restrictions. The Home Owners' Loan Act, as amended, provides that, among other things, no multiple savings and loan holding company or subsidiary thereof which is not a savings institution shall commence or continue for more than a limited period of time after becoming a multiple savings and loan holding company or subsidiary thereof, any business activity other than (i) furnishing or performing management services for a subsidiary savings institution, (ii) conducting an insurance agency or escrow business, (iii) holding, managing, or liquidating assets owned by or acquired from a subsidiary savings institution, (iv) holding or managing properties used or occupied by a subsidiary savings institution, (v) acting as trustee under deeds of trust, (vi) those activities previously directly authorized by the FSLIC by regulations as of March 5, 1987 to be engaged in by multiple holding companies or (vii) those activities authorized by the Federal Reserve Board as permissible for bank holding companies, unless the Director of OTS by regulation prohibits or limits such activities for savings and loan holding companies. Those activities described in (vii) above must also be approved by the Director of OTS prior to being engaged in by a multiple holding company.
The Director of OTS may only approve acquisitions resulting in the formation of a multiple savings and loan holding company which controls savings institutions in more than one state, if the multiple savings and loan holding company involved controls a savings institution which operated a home or branch office in the state of the institution to be acquired as of March 5, 1987, or if the laws of the state in which the institution to be acquired is located specifically permit institution to be acquired by state-chartered institutions or savings and loan holding companies located in the state where the acquiring entity is located (or by a holding company that controls such state-chartered savings institutions). The Director of OTS may approve an acquisition resulting in a multiple savings and loan holding company controlling savings institutions in more than one state in the case of certain emergency thrift acquisitions.
No subsidiary savings association of a savings and loan holding company may declare or pay a dividend on its permanent or nonwithdrawable stock unless it first gives the Director of OTS 30 day advance notice of such declaration and payment. Any dividend declared during such period or without the giving of such notice shall be invalid.
FEDERAL AND STATE TAXATION
The Corporation and the Bank currently file consolidated federal income tax returns based on a fiscal year ending June 30.
The Small Business Job Protection Act passed by Congress in August 1996 included a provision that repealed the percentage of taxable income bad debt deduction for federal income tax purposes. The Bank used this method to determine its bad debt deduction when computing federal taxes in applicable years. This new legislation also requires recapture of the excess of bad debt reserves over the base year reserve as of December 31, 1987. For years subsequent to the base year, deferred taxes have been recorded; thus, no additional tax provision is required as a result of this legislation. Under the new legislation, the Bank is required to use the specific charge-off method to calculate the bad debt deduction for federal income tax purposes. The new legislation is effective for tax years beginning after December 31, 1995.
Earnings appropriated to the Bank's bad debt reserve and claimed as a tax deduction will not be allowable for the payment of cash dividends or for distribution to shareholders (including distributions made on dissolution or liquidation), without payment of federal income taxes on such dividends or distributions by the Bank at the then current tax rates on the amount deemed removed to the Bank would include not only the amount actually distributed, but would also be increased (subject to certain limitations) by the amount of the tax payable by reason of such distribution.
The Commonwealth of Kentucky imposes no income tax on savings institutions. Nonetheless, First Federal must pay a Kentucky ad valorem tax. This tax is 1/10th of 1% of First Federal's total savings accounts, common stock, capital and retained income with certain deductions for amounts borrowed by depositors and for securities guaranteed by the U.S. Government or certain of its agencies. The Bank's subsidiary must pay a state income tax, as well as a tax on capital. The tax on income is 4% for the first $25,000 of taxable income, 5% for the next $25,000, 6% for the next $50,000, 7% for the next $150,000 and 8.25% for all income over $250,000. The tax on capital is .0021 times the capital employed with a credit of .0014 times the first $350,000 of capital for those corporations with gross income of under $500,000.
For information regarding federal income taxes, see Note 8 of the Notes to Consolidated Financial Statements in the Annual Report.
ITEM 2.
ITEM 2. PROPERTIES
The Corporation's executive offices, principal support and operational functions are located at 2323 Ring Road in Elizabethtown, Kentucky. All of First Federal's banking centers are located in Kentucky. The location of the 12 banking centers, their form of occupancy and their respective approximate square footage is set forth in the following table.
Approximate Square Banking Centers Owned or Leased Footage --------------- --------------- ----------- ELIZABETHTOWN 2323 Ring Road Owned 55,000 325 West Dixie Avenue Owned 1,764 101 Wal-Mart Drive Leased 984
RADCLIFF, 475 West Lincoln Trail Owned 2,728
BARDSTOWN, 401 East John Rowan Blvd. Leased 4,500
MUNFORDVILLE, 925 Main Street Owned 2,928
SHEPHERDSVILLE, 395 N. Buckman Street Owned 7,600
MT. WASHINGTON, 279 Bardstown Road Owned 2,500
BRANDENBURG 416 East Broadway Leased 4,395 50 Old Mill Road Leased 575
FLAHERTY, 4055 Flaherty Road Leased 1,216
LOUISVILLE, 11901 Standiford Plaza Drive Leased 650
As of June 30, 1999, the net book value of office properties and equipment owned or leased by the Bank and its subsidiary was $11.6 million. For further information, see Note 5 of the Notes to Consolidated Financial Statements in the Annual Report.
The Bank utilizes the services of an outside data processing center for most of its savings and loan operations. All accounting and internal record keeping functions are handled by the Bank's in-house computer system.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS
Although the Bank is, from time to time, involved in various legal proceedings in the normal course of business, there are no material pending legal proceedings to which the Corporation, the Bank, or its subsidiary is a party, or to which any of their property is subject.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth quarter of the fiscal year ended June 30, 1999.
PART II
ITEM 5.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Common Stock of First Federal Financial Corporation of Kentucky is traded over the counter and quoted on the NASDAQ system under the symbol "FFKY." The stock began trading on July 20, 1987. The registered number of stockholders as of September 15, 1999, was 808. It is currently the policy of the Corporation's Board of Directors to continue to pay quarterly dividends, but any future dividends are subject to the Board's discretion based on its consideration of the Corporation's operating results, financial condition, capital, income tax considerations, regulatory restrictions and other factors.
QUARTERLY STOCK PRICES TWO MONTHS ENDED QUARTER ENDED FISCAL 1999: 9/30 12/31 3/31 6/30 8/31/99
High $ 28.50 $ 29.75 $ 28.50 $24.94 $25.00 Low 23.13 23.36 23.25 19.88 22.50 Cash dividends 0.15 0.15 0.15 0.18
FISCAL 1998: 9/30 12/31 3/31 6/30
High $ 23.25 $ 22.75 $ 23.00 $ 28.75 Low 21.00 22.00 20.50 21.50 Cash dividends 0.14 0.14 0.14 0.14
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA
Set forth below are selected consolidated fianancial and other data of the Corporation. This financial data is derived in part from, and should be read in conjunction with, the Consolidated Financial Statements and Notes thereto presented elsewhere in this report.
SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA
YEAR ENDED JUNE 30, -------------------------------------------------- 1999 1998 1997 1996 1995 ---- ---- ---- ---- ---- OPERATIONS DATA: (Dollars in thousands)
Interest income $35,496 $31,182 $28,782 $26,926 $22,635 Interest expense (18,481) (16,059) (14,375) (13,676) (10,515) Net interest income 17,015 15,123 14,407 13,250 12,120 Provision for loan losses (314) (265) (200) 0 (100) Other income 3,954 2,860 2,468 2,648 2,464 General and administrative expense (1) (11,706) (8,082) (9,472) (7,547) (6,428) Income tax expense (2,970) (3,302) (2,429) (2,864) (2,626) Net income 5,979 6,334 4,774 5,487 5,430
Earnings per share:** Basic 1.45 1.53 1.14 1.30 1.24 Diluted 1.44 1.52 1.13 1.29 1.23 Book value per share** 14.04 13.24 12.39 11.87 11.17 Dividends paid per share** 0.63 0.56 0.50 0.46 0.41
Dividend payout ratio 43% 37% 44% 35% 33% Return on average assets 1.25% 1.60% 1.30% 1.60% 1.85% Average equity to average assets 11.85% 13.55% 13.77% 14.27% 16.37% Return on average equity 10.53% 11.81% 9.46% 11.22% 11.30%
- -------------------------------------------- (1) 1997 general and administrative expenses include the non-recurring special assessment paid to the FDIC in the amount of $1.7 million, pretax. 1999 general and administrative expenses include one time acquisition and conversion costs in the amount of $789,000, pretax.
** All per share information has been adjusted for a 2-for-1 stock split which was effective June 10, 1996.
QUARTERLY FINANCIAL DATA (Unaudited) (Dollars in thousands except per share data)
FISCAL 1999: September 30 December 31 March 31 June 30 ------------ ----------- -------- -------
Total interest income $8,711 $8,964 $8,967 $8,854 Total interest expense 4,626 4,791 4,556 4,508 Net interest income 4,085 4,173 4,411 4,346 Provision for loan losses 60 60 60 134 Net income 1,373 1,538 1,476 1,592 Earnings per share: Basic 0.33 0.37 0.36 0.39 Diluted 0.33 0.37 0.36 0.38
FISCAL 1998: September 30 December 31 March 31 June 30 ------------ ----------- -------- -------
Total interest income $7,522 $7,693 $7,889 $8,078 Total interest expense 3,829 3,993 4,047 4,190 Net interest income 3,693 3,700 3,842 3,888 Provision for loan losses 60 30 30 145 Net income 1,604 1,452 1,650 1,628 Earnings per share: Basic 0.39 0.35 0.40 0.39 Diluted 0.39 0.35 0.40 0.38
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis covers the primary factors affecting First Federal Financial Corporation of Kentucky's (the "Corporation") performance and financial condition. It should be read in conjunction with the accompanying audited consolidated financial statements included in this report. The Corporation is the parent to its wholly owned subsidiary, First Federal Savings Bank of Elizabethtown (the "Bank"). All dollar amounts (except per share data) are presented in thousands unless otherwise noted.
FORWARD - LOOKING STATEMENTS
Management's discussion and analysis contains forward-looking statements that are provided to assist in the understanding of anticipated future financial performance. However, such performance involves risks and uncertainties, and there are certain important factors that may cause actual results to differ materially from those anticipated. The important factors include, but are not limited to, fluctuations in the economy; changes in interest rates; government legislation and regulation; the Corporation's success in assimilating acquired branches and operations into its existing operations; the Corporation's ability to offer competitive banking products and services; the continued growth of the markets in which the Corporation operates; the Corporation's ability to expand into new markets and to maintain profit margins in the face of pricing pressure, all of which are difficult to predict and many of which are beyond the Corporation's control.
ACQUISITION
On July 24, 1998, the Bank completed its acquisition of three bank branches located in Meade County, Kentucky from Bank One Corporation. Two of the banking centers are located in Brandenburg, Kentucky and the third banking center is in Flaherty, Kentucky.
In the transaction, the Bank acquired certain assets and assumed certain liabilities associated with the acquisition of the Meade County banking centers. The transaction resulted in recording of approximately $11,000 of loans and $72,000 of deposits. The net deposits assumed exceeded the cash received by $8,670. Any ratios or analysis comparing years before acquisition will not be comparable.
BRANCH EXPANSION
On April 26, 1999, the Bank opened a new banking center within the Hillview Wal-Mart Supercenter. The cost of construction for the 650 square feet was approximately $212. This new banking center is open 58 hours per week and adds extended hours for our new and existing customers. In addition, our associates are allowed to utilize the Wal-Mart's customers to create new sales opportunities. Since opening in April, the new banking center has attracted approximately $240 in new deposits from customers.
RESULTS OF OPERATIONS
Net income was $5,979 or $1.44 per share diluted in 1999 compared with $6,334 or $1.52 per share diluted in 1998. Acquisition-related costs in connection with the purchase of three banking centers during the quarter ended September 30, 1998, in the amount of $292 ($193, net of tax) were charged against earnings. Also, the Corporation incurred data and computer conversion costs of $497 ($328, net of tax) relating to its conversion to a new data processor. In addition to these expenses, amortization of intangibles increased to $781 ($597, net of tax) in 1999 from $240 ($240, net of tax) in 1998. Excluding these acquisition and conversion costs and amortization of intangibles, net earnings for the 1999 period would have increased approximately $523 to $7,097 or $1.71 per share diluted for the fiscal year ended June 30, 1999 from $6,574 or $1.57 per share diluted for the fiscal year ending June 30, 1998.
Including acquisition and Excluding acquisition and conversion costs and conversion costs and amortization of amortization of intangibles intangibles
1999 1998 1999 1998 ---- ---- ---- ----
Net Income $5,978,801 $6,334,217 $7,097,011 $6,574,288
Diluted earnings per share 1.44 1.52 1.71 1.57
NET INTEREST INCOME - Net interest income increased by $1,892 during 1999 to $17,015 as compared to $15,123 in 1998 in spite of the declining net interest margin. The Bank's net interest margin declined to 3.86% for the year ended June 30, 1999 compared to 4.04% for the 1998 period. The acquisition contributed approximately $1,137 to the total increase in net interest income for the 1999 period.
Average interest-earning assets increased by $70 million from $371 million for the 1998 period to $441 million for the 1999 period due to the normal growth of the Bank and interest-earning assets acquired from the three Meade County banking centers. Average loans were $42 million higher and averaged $386 million during 1999, while the average yield on loans decreased by 27 basis points to 8.26%. The acquisition contributed approximately $10 million to the total loan growth.
Average interest-bearing liabilities increased by $80 million to an average balance of $416 million for 1999. Customer deposits averaged $392 million during 1999, a $98 million increase from the 1998 average balance of $294 million. The acquisition contributed approximately $72 million to the total deposit growth. The cost of funds on these deposits averaged 4.38% during 1999 which was a decrease of 28 basis points from the 1998 average cost of funds of 4.66%. This decrease is attributable to lower rates paid on short-term customer deposits.
PROVISION FOR LOAN LOSSES - Management periodically evaluates the adequacy of the allowance for loan losses based on the Bank's past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay and other factors.
The provision for loan losses was $314 for 1999. Net charge-offs were $264 during 1999 as compared to $127 during 1998. The Bank's allowance for loan losses was $2.1 million or .52% of loans outstanding at June 30, 1999 compared to $1.9 million or .52% of loans outstanding at June 30, 1998. Non-performing loans represented .63% of the loans outstanding at June 30, 1999. As demonstrated in the summary table below, 62% of the Bank's non-performing assets are collateralized by one-to-four family residential mortgages on real estate located in central Kentucky.
YEAR ENDED JUNE 30, 1999 1998 1997 (Dollars in thousands) Allowance for loan losses: Balance, July 1 $ 1,853 $ 1,715 $ 1,613 Provision for loan losses 314 265 200 Acquired 205 - - Charge-offs (290) (148) (131) Recoveries 26 21 33 ------- ------- ------- Balance, June 30 $ 2,108 $ 1,853 $ 1,715 ======= ======= =======
Loans outstanding at year end $402,468 $356,788 $329,217 Non-performing loans at year end: Collateralized by one-to-four family homes $ 1,633 $ 1,487 $ 1,172 Other non-performing loans 896 566 378 ----- ----- ----- Total non-performing loans 2,529 2,053 1,550 Real estate acquired through foreclosure 109 134 184 ----- ----- ----- Total non-performing assets 2,638 2,187 1,734 ===== ===== =====
Ratios: Non-performing loans to loans .63% .58% .47% Allowance for loan losses to non-performing loans 83% 90% 111% Allowance for loan losses to net loans .52% .52% .52% Non-performing assets to total assets .54% .53% .46%
NON-INTEREST INCOME AND EXPENSE - Non-interest income was $3,954 in 1999, an increase of $1,094 or 38% over 1998. The 23% growth in deposits resulting from the acquisition was the largest contributing factor to the increase in other income. Fee income in connection with loans originated for the secondary market increased by $153 or 31% during the fiscal year due to a better market penetration, as opposed to higher refinancing activity. Fee income from trust, brokerage and other services also increased due to growth in deposit relationships with existing customers. Through a subsidiary of the Bank, gains on sales of real estate held for development of $255 were reported due to the sale of commercial lots in an office park currently under development.
Non-interest expense (excluding the one-time acquisition related charges and information technology upgrades) increased by $2.8 million or 35% during 1999 as compared to 1998. The largest contributing factor to higher expenses was the operating costs of the three acquired branches coupled with a $541 amortization charge on the intangible assets associated with the acquisition. Other contributing factors are expenses resulting from higher loan originations and the opening of a new banking center located in the Wal-Mart Supercenter in Hillview, Kentucky.
Compensation and employee benefits, the largest component of non-interest expense, increased by $801 or 22% in 1999 compared to 1998. The increase includes salary increases and reflects increases in the number of full time equivalent employees from 110 at June 30, 1998, to 155 at June 30, 1999, due to acquisitions and expansion of the Bank's business activity.
Occupancy and equipment expense increased by $339 or 36% in 1999 as compared to 1998 primarily due to the expansion in the number of banking locations from 8 at June 30, 1998, to 12 at June 30, 1999.
Marketing and advertising expense increased by $150 or 40% in 1999 compared to 1998 due to the increase in marketing activities associated with the expansion in the number of banking centers and the development of new products and services.
All other non-interest expenses increased by $1,004 or 36% in 1999 compared to 1998. This increase includes the acquisition of the Meade County banking centers and their respective operating expenses. The increase is also a result of asset growth, new services provided by the Bank and general inflation.
LIQUIDITY AND CAPITAL RESOURCES
The Bank is required to maintain levels of liquid assets as defined by the Office of Thrift Supervision regulations. This requirement is based on a percentage of deposits and short-term borrowings and is currently 4%. The Bank's liquidity ratio was 8.85% at June 30, 1999. The Bank's primary source of funds for meeting its liquidity needs are customer deposits, borrowings from the Federal Home Loan Bank, principal and interest payments from loans and mortgage-backed securities, and earnings from operations retained by the Bank.
Loan demand continued to be strong during the fiscal year ended June 30, 1999, as net loans increased from $355 million at June 30, 1998, to $400 million at June 30, 1999. The acquisition of the Meade County banking centers contributed $11 million to the total loan growth of $45 million, while the Bank achieved a 10% growth rate in its existing loan customer base, or $34 million in net new loans. The Meade County acquisition also contributed $72 million in new customer deposits. The acquisition coupled with a $20 million growth in the Bank's customer deposits resulted in a total deposit increase of $92 million during the fiscal year ended June 30, 1999.
The Bank intends to continue to fund loan growth (outstanding loan commitments were $19.6 million at June 30, 1999) and any declines in customer deposits through additional advances from the FHLB. At June 30, 1999, the Bank has an unused approved line of credit in the amount of $21 million and sufficient collateral to borrow an additional $167 million in advances from the FHLB.
The Office of Thrift Supervision's capital regulations require savings institutions to meet three capital standards: a 3% Tier I leverage ratio; a 4% Tier I capital ratio; and an 8% risk-based capital standard. As of June 30, 1999, the Bank's actual capital percentages for Tier I leverage of 9.0%, Tier I capital of 13.9%, and current risk-based capital of 14.6%, significantly exceed the regulatory requirement for each category.
IMPACT OF INFLATION & CHANGING PRICES
The financial statements and related data presented herein have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and operating results in historical dollars without considering changes in the relative purchasing power of money over time due to inflation.
The Bank has an asset and liability structure that is essentially monetary in nature. As a result interest rates have a more significant impact on the Bank's performance than the effects of general levels of inflation. Periods of high inflation are often accompanied by relatively higher interest rates and periods of low inflation are accompanied by relatively lower interest rates. As market interest rates rise or fall in relation to the rates earned on the Bank's loans and investments, the value of these assets decreases or increases respectively.
REGULATORY MATTERS
The Bank insures its customers' deposits through the Savings Association Insurance Fund ("SAIF"). On September 30, 1996, Federal Deposit Insurance Corporation ("FDIC") legislation was signed into law to recapitalize the SAIF. As was anticipated, all SAIF- insured savings institutions were required to pay a one-time special assessment of $.657 for every $100 of customer deposits. This resulted in a charge to earnings of $1,095, net of tax, during the first quarter of 1997. On January 1, 1997, the Bank began paying insurance premiums of $.064 per $100 of deposits as compared to a previous premium of $.23 per $100 of deposits.
YEAR 2000
As always, you can be proud of the banking industry, which has been consistently rated by experts as one of the foremost industries in addressing the Year 2000 date change.
What is the Year 2000 problem? Simply put, the Year 2000 problem is a result of cost-cutting effort. The computer programmers in the 1960's and 1970's used a year's last two-digits instead of the whole four digit to identify dates. Memory was a premium commodity in computer programming at that time and programmers could save space by deleting the first two digits of a year. The concern now is that date sensitive automated systems could malfunction or stop functioning completely come January 1, 2000 because they would read "00" as the year 1900 instead of 2000.
Status
First Federal Savings Bank's Board of Directors and senior management is committed to be Year 2000 ready. Therefore, management created a Year 2000 team in April 1997 to study the issue and to guide the Bank through the Year 2000 process. The first steps involved an evaluation of the effects Year 2000 could have on our information systems and other important aspects of our business. A formal Year 2000 Plan was then established and filed with the bank's federal regulators, the Office of Thrift Supervision. The Plan is continuously updated with the primary focus on achieving compliance within established time frames. The Bank's plan has five phases: awareness, assessment, renovation, validation, and implementation. All phases of the Bank's Year 2000 plan were substantially completed as of June 30, 1999.
Efforts for the remaining portion of the year will be customer awareness, liquidity needs and contingency planning. First Federal Savings Bank has developed a business resumption or contingency plan, which the Bank will implement in the event certain critical systems failed despite affirmative representations from vendors and favorable test results. These plans will be updated regularly and should enable the Bank to function at a level sufficient to serve the majority of our customer's needs until any Year 2000 problems are resolved. The Plan will be validated in the fall of 1999.
Cost
Capital outlays for becoming Year 2000 compliant through June 30, 1999 totaled $497 ($328, net of tax) all of which was expensed as incurred. As the Bank's initiatives are substantially complete, management anticipates future costs to be minimal and expensed as incurred.
Risk
First Federal Savings Bank relies upon numerous third-party vendors and infrastructures to provide complete service to our customers, and failure on their part to not become Year 2000 compliant could have a material adverse effect on the Bank. Monitoring of the mission critical vendors will continue through the remaining half of the calendar year.
COMPARISON OF FISCAL 1998 TO 1997
Net income for the fiscal year ended June 30, 1998, was $6,334 or $1.52 per share diluted as compared to net income of $4,774 or $1.13 per share diluted for the same period in 1997. During the quarter ended September 30, 1996, net income was affected by a one-time special assessment of $1.7 million ($1.1 million, net of tax) paid to the FDIC to recapitalize the Savings Association Insurance Fund ("SAIF"). Net earnings for the 1997 period would have been approximately $5.87 million or $1.39 per share diluted had it not been for the special assessment. See further discussion under "Regulatory Matters."
In addition to the higher net income, the 9% increase in net income per share was also attributable to the Corporation's stock repurchase plans which have reduced the weighted average number of shares outstanding from 4,182,060 for the
1997 period to 4,145,039 for 1998. Total interest income increased by $2,400 from fiscal 1997 to 1998 due to the strong growth of the Bank's loan portfolio. Interest income on loans accounts for the majority of the Bank's interest income as average loan balances, which comprise 93% of the total interest-earning assets, were $344 million during 1998 as compared to $318 million during 1997, or an increase of $26 million. The average yield on loans increased by 5 basis points to 8.53% during 1998 as compared to 8.48% during 1997.
Total interest expense increased by $1,683 from fiscal 1997 to 1998. The weighted average interest rate paid on customer deposits averaged 4.66% during 1998, which was an increase of 20 basis points from the 1997 average cost of funds of 4.46%. The increase was attributable to higher rates paid on short-term customer deposits. Customer deposit balances averaged $294 million during 1998, a $23 million increase from the 1997 average balance of $271 million. Interest expense paid on deposits increased by $1,607 while interest expense paid on Federal Home Loan Bank advances increased by $76.
As a result of the foregoing discussion, net interest income increased by $716 to $15,123 in 1998 form $14,407 in 1997.
Management periodically evaluates the adequacy of the reserve for loan losses based on the Bank's past loan loss experience, known and inherent risks in the portfolio, adverse situations that may effect the borrower's ability to repay and other factors. During fiscal 1998, the Bank's provision for loan losses was $265. The allowance for loan losses was $1.9 million or .52% of loans outstanding at June 30, 1998, compared to $1.7 million or .52% of loans outstanding at June 30, 1997. Net loan charge-offs have been $127 and $98 for fiscal 1998 and 1997, respectively.
Other income was $2,860 in 1998, an increase of $392 over 1997. Customer service fees increased by $43 during the 1998 period due to a growth in customer checking accounts. Gains reported from investment sales were $375 in 1998 as compared to $317 reported in the 1997 period. Fees associated with loans originated for the secondary market increased by $172 from $314 in 1997 to $486 in 1998 due to a growth in VA and FHA originations. Other sources of miscellaneous income such as brokerage commissions, loan fees and other customer transaction fees increased by $119 due to growth in deposit relationships with existing customers.
Other expense was $8,082 in 1998, compared to $9,472 in 1997. If it had not been for the SAIF special assessment of $1.7 million recorded in the first quarter of 1997 (See "Regulatory Matters"), other expense would have been approximately $7,787 for the 1997 period. Associate compensation and benefits increased by $184 or 5.2% in 1998 as compared to 1997 due to the addition of new associates required to offer expanded services to the Bank's customers. Office occupancy and equipment expenses increased by $36 or 4% in 1998 as compared to 1997 due to inflationary increases in other occupancy and equipment related expenses. All other expenses increased by $285 in 1998 as compared to 1997. Expenses directly related to customer checking accounts increased due to a higher volume of accounts. Expenses directly related to postage, telephone, data processing costs, marketing and supplies increased due to asset growth, new service provided by the Bank and general inflation.
ITEM 7A.
ITEM 7A. DISCLOSURES ABOUT MARKET RISK
To minimize the volatility of net interest income and exposure to economic loss that may result from fluctuating interest rates, the Bank manages its exposure to adverse changes in interest rates through asset and liability management activities within guidelines established by its Asset Liability Committee ("ALOC"). The ALCO, which includes senior management representatives, has the responsibility for approving and ensuring compliance with asset/liability management policies of the Corporation, which include managing the sensitivity repricing characteristics of the balance sheet components consistent with maintaining acceptable levels of changes in net portfolio value ("NPV") and net interest income. A primary purpose of the Corporation's ALCO is to manage interest rate risk to effectively invest the Corporation's capital and to preserve the value created by its core business operations. As such, certain management monitoring processes are designed to minimize the impact of sudden and sustained changes in interest rates on NPV and net interest income.
The Corporation's exposure to interest rate risk is reviewed on at least a quarterly basis by the Board of Directors and the ALCO. Interest rate risk exposure is measured using interest rate sensitivity analysis to determine the
Corporation's change in NPV in the event of hypothetical changes in interest rates and interest rate sensitivity gap analysis is used to determine the repricing characteristics of the Bank's assets and liabilities. The table, presented on page 18, under Item 1 "Regulatory Capital Requirements", presents the Corporation's projected change in NPV for the various rate shock levels as of June 30, 1999. All market risk sensitive instruments presented in this table are held to maturity or available for sale. The Corporation has no trading securities.
NPV is calculated by the Corporation pursuant to guidelines estimated by the OTS. The calculation is based on the net present value of estimated discounted cash flows utilizing market prepayment assumptions and market rates of interest provided by independent broker quotations and other public sources as of June 30, 1998, with adjustments made to reflect the shift in the Treasury yield curve as appropriate. Computation of prospective effects of hypothetical interest rate changes are based on numerous assumptions, including relative levels of market interest rates, loan prepayments, and deposits decay, and should not be relied upon as indicative of actual results. Further, the computations do not contemplate any actions the ALCO could undertake in response to changes in interest rates.
Certain shortcomings are inherent in the method of analysis presented in the computation of NPV. Actual values may differ from those projections presented, should market conditions vary from assumptions used in the calculation of the NPV. Certain assets, such as adjustable rate loans, which represent one of the Corporation's primary loan products, have features which restrict changes in interest rates on a short-term basis and over the life of the assets. In addition, the proportion of adjustable rate loans in the Corporation's portfolio could decrease in future periods if market interest rates remain at or decrease below current levels due to refinance activity. Further, in the event of a change in interest rates, prepayment and early withdrawal levels would likely deviate significantly from those assumed in the NPV. Finally, the ability of many borrowers to repay their adjustable-rate mortgage loans may decrease in the event of interest rate increases.
Another tool of evaluating the institution's sensitivity to net interest income to changes in interest rates is to examine the extent to which its assets and liabilities are "interest rate sensitive" and by monitoring an institution's interest rate sensitivity "gap". An asset or liability is said to be interest rate sensitive within a specific time period if it will mature or reprice within that time period. The interest rate sensitivity gap is defined as the difference between the amount of interest-earning assets maturing or repricing within a specific time period and the amount of interest-bearing liabilities maturing or repricing within that same time period.
The following interest rate sensitivity table sets forth the Bank's interest-earning assets and interest-bearing liabilities at June 30, 1999, which are anticipated to reprice or mature in each of the future time periods shown.
Interest Rate Sensitivity (Gap Analysis) As of June 30, 1999 (Dollars in thousands)
As the preceding table indicates, the Bank has a moderate negative cumulative gap for assets and liabilities maturing or repricing within one year in the amount of ($57,884) million or 11.85% of total assets. Thus, decreases in interest rates during this time period would generally increase net interest income, while increases in interest rates would generally decrease net interest income. However, even though the periodic gap analysis provides management with a method of measuring current interest rate risk, it only measures rate sensitivity at a specific point in time. Gap analysis does not take into consideration that assets and liabilities with similar repricing characteristics may not reprice at the same time or to the same degree and, therefore, does not necessarily predict the impact of changes in general levels of interest rates on net interest income. Additionally, certain assets such as adjustable rate mortgage loans have features which restrict changes in interest rates on a short-term basis and over the life of the asset. Further, in the event of changes in interest rates, prepayment and decay rates may deviate significantly from those assumed in calculating the table. Finally, the ability of many borrowers to afford the payments on their adjustable rate mortgage loans may decrease in the event of an interest rate increase.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
Page Audited Consolidated Financial Statements: Report of Independent Auditors-Crowe, Chizek and Company LLP 34 Report of Independent Auditors-Whelan, Doerr & Company PSC 35 Consolidated Statement of Financial Condition 36 Consolidated Statement of Income 37 Consolidated Statement of Comprehensive Income 38 Consolidated Statement of Changes in Stockholders' Equity 39 Consolidated Statement of Cash Flows 40 Notes to Consolidated Financial Statements 41-57
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Stockholders First Federal Financial Corporation of Kentucky Elizabethtown, Kentucky
We have audited the accompanying consolidated statement of financial condition of First Federal Financial Corporation of Kentucky and subsidiary as of June 30, 1999, and the related consolidated statements of income, comprehensive income, changes in stockholders' equity and cash flows for the year then ended. These financial statements are the responsibility of the Corporation's management. Our responsibility is to express an opinion on these financial statements based on our audit. The consolidated financial statements of First Federal Financial Corporation of Kentucky and subsidiary as of June 30, 1998 and 1997 were audited by other auditors whose report dated August 17, 1998 expressed an unqualified opinion on those statements.
We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of First Federal Financial Corporation of Kentucky and subsidiary as of June 30, 1999 and the results of their operations and their cash flows for the year ended June 30, 1999, in conformity with generally accepted accounting principles.
Crowe, Chizek and Company LLP
Louisville, Kentucky August 20, 1999
REPORT OF INDEPENDENT AUDITORS
Board of Directors First Federal Financial Corporation of Kentucky Elizabethtown, Kentucky
We have audited the accompanying consolidated statements of financial condition of First Federal Financial Corporation of Kentucky and Subsidiaries as of June 30, 1998 and 1997, and the related consolidated statements of income, stockholders' equity, and cash flows for each of the two years in the period ended June 30,1998. These financial statements are the responsibility of the Bank's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of First Federal Financial Corporation of Kentucky and Subsidiaries as of June 30, 1998 and 1997, and the results of its operations and its cash flows for each of the two years in the period ended June 30, 1998, in conformity with generally accepted accounting principles.
Whelan, Doerr & Company PSC Elizabethtown, Kentucky August 17, 1998
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
JUNE 30, ASSETS 1999 1998 ---- ----
Cash and due from banks $ 10,257,162 $ 4,992,588 Interest bearing deposits 1,634,475 4,157,124 ---------- --------- Total cash and cash equivalents 11,891,637 9,149,712 Securities available-for-sale 2,935,979 1,934,412 Securities held-to-maturity 44,404,392 24,639,484 Loans receivable, less allowance for loan losses of $2,107,994 (1999) and $1,852,576 (1998) 400,360,402 354,934,659 Federal Home Loan Bank stock 3,200,000 2,983,800 Premises and equipment 11,594,369 10,747,145 Real estate owned: Acquired through foreclosure 108,610 133,584 Held for development 445,683 642,491 Excess of cost over net assets acquired 10,878,972 2,784,409 Accrued interest 1,603,514 834,052 Other assets 880,216 867,521 ----------- ----------- TOTAL ASSETS $488,303,774 $409,651,269 ============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES: Deposits: Non-interest bearing $ 15,223,267 $ 12,742,723 Interest bearing 384,220,172 293,959,926 ----------- ----------- Total Deposits 399,443,439 306,702,649 Advances from Federal Home Loan Bank 25,894,127 43,248,855 Accrued interest payable 868,840 553,148 Accounts payable and other liabilities 2,336,503 2,382,126 Deferred income taxes 1,898,703 2,076,104 ----------- ----------- TOTAL LIABILITIES 430,441,612 354,962,882 ----------- ----------- STOCKHOLDERS' EQUITY: Serial preferred stock, 5,000,000 shares authorized and unissued - - Common stock, $1 par value per share; authorized 10,000,000 shares; issued and outstanding, 4,121,112 shares in 1999 and 4,129,612 shares in 1998 4,121,112 4,129,612 Additional paid-in capital 3,055,644 3,253,664 Retained earnings 49,587,422 46,208,807 Accumulated other comprehensive income, net of tax 1,097,984 1,096,304 --------- ---------
TOTAL STOCKHOLDERS' EQUITY 57,862,162 54,688,387 ------------ ------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $488,303,774 $409,651,269 ============ ============
See notes to consolidated financial statements.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
See notes to consolidated financial statements.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
See notes to consolidated financial statements.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY YEARS ENDING JUNE 30, 1999, 1998, AND 1997
See notes to consolidated financial statements.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
See notes to consolidated financial statements.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The following is a description of the significant accounting policies which First Federal Financial Corporation of Kentucky follows in preparing and presenting its consolidated financial statements:
PRINCIPLES OF CONSOLIDATION AND BUSINESS - The consolidated financial statements include the accounts of First Federal Financial Corporation of Kentucky (the Corporation) and its wholly-owned subsidiary, First Federal Savings Bank of Elizabethtown (the Bank), and its wholly-owned subsidiary, First Service Corp. of Elizabethtown. All significant intercompany transactions and balances have been eliminated.
The business of the Bank consists primarily of attracting deposits from the general public and originating mortgage loans on single family residences. To a lesser extent, the Bank also originates loans on multi-family housing and commercial property. The Bank's primary lending area is a region within North Central Kentucky. The economy within this region is based on agriculture, a variety of manufacturing industries and Ft. Knox, a military installation.
The principal sources of funds for the Bank's lending and investment activities are deposits, repayment of loans and Federal Home Loan Bank advances. The Bank's principal source of income is interest on loans. In addition, other income is derived from loan origination fees, service charges, returns on investment securities, and trust department and brokerage services.
ESTIMATES AND ASSUMPTIONS - The preparation of consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The allowance for loan losses and the fair value of financial instruments are particularly subject to change.
CASH FLOWS - For purposes of the statement of cash flows, the Corporation considers all highly liquid debt instruments purchased with a maturity of three months or less to be cash equivalents. Cash and cash equivalents include cash on hand, amounts due from banks, and interest bearing deposits. Net cash flows are reported for loans, interest bearing deposits, and deposits.
SECURITIES - The Corporation classifies its investments into held-to-maturity and available-for-sale. Based upon a periodic review of the investment portfolio, debt securities in which the Corporation has a positive intent and ability to hold are classified as held-to-maturity and are carried at cost adjusted for the amortization of premiums and discounts using the interest method over the terms of the securities.
Debt and equity securities which do not fall into this category, nor held for the purpose of selling in the near term are classified as available-for-sale. Unrealized holding gains and losses, net of income tax, on available-for-sale securities are reported as a net amount in a separate component of stockholders' equity until realized.
LOANS RECEIVABLE - Loans receivable are stated at unpaid principal balances, less undistributed construction loans, net deferred loan origination fees and allowance for loan losses. The Bank defers loan origination fees and discounts net of certain direct origination costs. These net deferred fees are amortized using the level yield method on a loan-by-loan basis over the lives of the underlying loans. Unearned discounts on consumer loans are recognized over the lives of the loans using methods that approximate the interest method.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBISIDARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICES - (CONTINUED)
LOANS RECEIVABLE - (CONTINUED) -The allowance for loan losses is increased by charges to income and decreased by charge-offs (net of recoveries). Management's periodic evaluation of the adequacy of the allowance is based on the Bank's past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, estimated value of any underlying collateral, and current economic conditions.
Loans are considered impaired if full principal or interest payments are not anticipated in accordance with the contractual loan terms. Impaired loans are carried at the present value of expected future cash flows discounted at the loan's effective interest rate or at the fair value of the collateral if the loan is collateral dependent. A portion of the allowance for loan losses is allocated to impaired loans if the value of such loans is less than the unpaid balance. If these allocations cause the allowance for loan losses to require increase, such increase is reported in the provision for loan losses.
Interest income on loans is recognized on the accrual basis except for those loans in a nonaccrual of income status. The accrual of interest on impaired loans is discontinued when management believes, after consideration of economic and business conditions and collection efforts, that the borrowers' financial condition is such that collection of interest is doubtful. When interest accrual is discontinued, interest income is subsequently recognized only to the extent cash payments are received.
PREMISES AND EQUIPMENT - Premises and equipment are stated at cost less accumulated depreciation. Depreciation is computed by the straight-line method for buildings and improvements and furniture and fixtures, over the estimated useful lives of the related assets.
REAL ESTATE OWNED - Real estate properties acquired through foreclosure and in settlement of loans are stated at lower of cost or fair value less estimated selling costs at the date of foreclosure. The excess of cost over fair value less the estimated costs to sell at the time of foreclosure is charged to the allowance for loan losses. Costs relating to development and improvement of property are capitalized, whereas costs relating to holding property are not capitalized and are charged against operations in the current period.
Real estate properties held for development and sale are carried at the lower of cost, including cost of development and improvement subsequent to acquisition, or fair value less estimated selling costs. The portion of interest costs relating to the development of real estate is capitalized.
GOODWILL - The unamortized costs in excess of the fair value of acquired net tangible assets are included in goodwill. Goodwill is amortized on a straight-line basis over 15 years.
STOCK OPTION PLANS - Although the Corporation applies APB No. 25, SFAS No. 123, "Accounting for Stock Based Compensation" requires proforma disclosure of net income and earnings per share as if the Corporation had accounted for its employee stock options under that Statement. The fair value of each option grant was estimated on the grant date using an option-pricing model. Under SFAS No. 123, compensation cost is recognized in the amount of the estimated fair value of the options and amortized to expense over the options' vesting period.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - (CONTINUED)
INCOME TAXES - Deferred income tax assets and liabilities are determined using the liability method. Under this method, the net deferred tax asset or liability is determined based on the tax effects of the differences between the book and tax basis of the various balance sheet assets and liabilities.
EARNINGS PER COMMON SHARE - Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period. Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock options. Earnings and dividends per share are restated for all stock splits through the date of issuance of the financial statements.
COMPREHENSIVE INCOME - Comprehensive income consists of net income and other comprehensive income. Other comprehensive income includes unrealized gains and losses on securities available for sale which are also recognized as a separate component of equity. The accounting standard that requires reporting comprehensive income first applies for the year ending June 30, 1999, with prior information restated to be comparable.
NEW ACCOUNTING PRONOUNCEMENTS - Beginning July 1, 2000, a new accounting standard will require all derivatives to be recorded at fair value. Unless designated as hedges, changes in these fair values will be recorded in the income statement. Fair value changes involving hedges will generally be recorded by offsetting gains and losses on the hedge and on the hedged item, even if the fair value of the hedged item is not otherwise recorded. This is not expected to have a material effect on the Corporation's financial statements, but the effect will depend on derivative holdings when this standard applies.
INDUSTRY SEGMENTS - All of the Corporation's operations are considered by management to be aggregated into one reportable operating segment.
RECLASSIFICATIONS - Certain amounts for 1998 and 1997 have been reclassified to conform to the presentation for 1999.
2. BRANCH ACQUISITIONS
On July 24, 1998, the Bank completed its acquisition of three Bank One banking centers. Included in the purchase was approximately $11,000,000 of loans and $72,000,000 of deposits. The net deposits assumed exceeded the cash received by $8,670,000.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
3. SECURITIES
The amortized cost basis and fair values of securities at June 30 are as follows:
The amortized cost and fair value of securities at June 30, 1999, by contractual maturity, are shown below.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
3. SECURITIES - (CONTINUED)
The following schedule sets forth the proceeds from sales of available-for-sale securities and the gross realized gains on those sales for the fiscal years ended June 30:
1999 1998 1997 ---- ---- ----
Proceeds from sales $362,459 $3,808,207 $455,831 Gross realized gains $351,753 $ 375,356 $316,927 Realized gains, net of tax $232,157 $ 247,735 $209,172
Investment securities having an amortized cost of $26,707,468 and fair value of $26,355,925 at June 30, 1999 were pledged to secure public deposits.
4. LOANS RECEIVABLE:
Loans receivable at June 30 are summarized as follows:
1999 1998 ---- ---- Commercial $ 19,647,672 $ 4,274,499 Real estate construction 18,104,220 15,689,170 Real estate mortgage 325,099,433 304,443,021 Consumer and home equity 49,042,678 45,135,754 ----------- ----------- 411,894,003 369,542,444 Less: ----------- ----------- Undisbursed construction loans (6,674,224) (9,728,902) Net deferred loan origination fees (2,751,383) (3,026,307) Allowance for loan losses (2,107,994) (1,852,576) ---------- ---------- (11,533,601) (14,607,785) ----------- ----------- $400,360,402 $354,934,659 =========== ===========
The Bank did not materially participate in the servicing of loans for others on any of the dates presented in these financial statements.
The allowance for losses on loans is summarized as follows:
Year Ended June 30, ---------------------------------------- 1999 1998 1997 ---- ---- ----
Balance, beginning of year $1,852,576 $1,714,512 $1,612,627 Provision for loan losses 314,000 265,000 200,000 Acquired 205,400 - - Charge-offs (290,049) (147,985) (131,132) Recoveries 26,067 21,049 33,017 ---------- ---------- ---------- Balance, end of year $2,107,994 $1,852,576 $1,714,512 ========== ========== ==========
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
4. LOANS RECEIVABLE - (CONTINUED)
Investment in impaired loans is summarized as follows: June 30, --------------------------- 1999 1998 ---- ----
Year-end impaired loans with no related allowances $2,500,000 $2,128,000 Year-end impaired loans with related allowances - - ---------- ---------- Total impaired loans $2,500,000 $2,128,000 ========== ==========
June 30, -------------------------------------- 1999 1998 1997 ---- ---- ---- Average impaired loans outstanding $2,382,000 $1,934,000 $1,983,000 Interest income recognized 197,000 157,000 163,000 Interest income received 197,000 157,000 163,000
The Bank has no loans greater than 90 days past due and still accruing as of June 30, 1999, 1998 and 1997.
5. PREMISES AND EQUIPMENT
Premises and equipment consist of the following: June 30, ------------------------------ 1999 1998 ---- ----
Land $ 816,265 $ 816,265 Buildings 9,391,174 8,805,669 Furniture, fixtures and equipment 5,180,745 4,680,069 --------- --------- 15,388,184 14,302,003 Less accumulated depreciation (3,793,815) (3,554,858) ---------- --------- $11,594,369 $10,747,145 ========== ==========
Certain premises are leased under various operating leases. Rental expense was $233,318, $63,200 and $64,458 for the years ended June 30, 1999, 1998 and 1997, respectively. Future minimum commitments under these leases are:
Year Ended June 30 2000 $ 256,000 2001 256,000 2002 198,067 2003 195,633 2004 198,833 Thereafter 1,562,817 ---------- $2,667,350 ==========
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
6. DEPOSITS
Time Deposits of $100,000 or more were $75,012,000 and $54,332,000 at June 30, 1999 and 1998, respectively.
At June 30, 1999, scheduled maturities of time deposits are as follows: Amount ------- 2000 $203,444,760 2001 33,500,855 2002 7,106,942 2003 3,232,288 Thereafter 20,798,394 ------------ $268,083,239 ============
7. ADVANCES FROM FEDERAL HOME LOAN BANK
Advances from the Federal Home Loan Bank of Cincinnati are collateralized by Federal Home Loan Bank stock and a blanket pledge of one-to-four family residential mortgage loans equivalent to 150 percent of the outstanding advances. The Bank has available collateral to borrow an additional $167 million from the Federal Home Loan Bank.
The aggregate minimum annual repayments of long-term borrowings as of June 30, 1999 is as follows:
2000 $ 3,078,126 2001 83,499 2002 89,248 2003 95,407 2004 101,992 Thereafter 22,445,855 ----------- $25,894,127 ===========
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
8. INCOME TAXES
The Corporation and its subsidiaries file a consolidated federal income tax return and income tax is apportioned among all companies based on their taxable income or loss.
Provision for income taxes for the years ended June 30, are as follows:
1999 1998 1997 ---- ---- ----
Current $3,148,557 $3,175,254 $1,962,001 Deferred (178,266) 126,743 466,891 --------- --------- ----------
Total income tax expense $2,970,291 $3,301,997 $2,428,892 ========== ========== ==========
The provision for income taxes differs from the amount computed at the statutory rates as follows:
1999 1998 1997 ---- ---- ----
Federal statutory rate 34.0% 34.0% 34.0% Tax-exempt interest income (.2) (.2) (.8) Purchase Accounting .9 1.4 1.4 Other (1.5) (.9) (.9)
Effective rate 33.2% 34.3% 33.7% ===== ===== =====
Temporary differences between the financial statements carrying amounts and tax bases of assets and liabilities that give rise to significant portions of deferred income taxes at June 30, relate to the following:
1999 1998 ---- ----
Deferred tax assets: Allowance for loan losses $ 261,200 $ 22,806 Loan fees 114,839 229,679 Investment securities 127,481 149,937 Accrued liabilities and other 216,048 108,612 ------- ------- 719,568 511,034 Deferred tax liabilities: ------- ------- Depreciation 837,234 762,591 Net unrealized gain on securities available-for-sale 565,632 564,767 Federal Home Loan Bank stock 633,473 559,965 Other 581,932 699,815 ------- ------- 2,618,271 2,587,138 --------- --------- Net deferred tax liability $1,898,703 $2,076,104 ========== ==========
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
8. INCOME TAXES - (CONTINUED)
Federal income tax laws provided savings banks with additional bad debt deductions through 1987, totaling $9.3 million for the Bank. Accounting standards do not require a deferred tax liability to be recorded on this amount, which liability otherwise would total $3.2 million at June 30, 1999 and 1998. If the Bank was liquidated or otherwise ceased to be a bank or if tax laws were to change, the $3.2 million would be recorded as expense.
9. STOCKHOLDERS' EQUITY
(a) LIQUIDATION ACCOUNT - In connection with the Bank's conversion from mutual to stock form of ownership during 1987, the Bank established a "liquidation account", currently in the amount of $1,222,000 for the purpose of granting to eligible savings account holders a priority in the event of future liquidation. Only in such an event, an eligible account holder who continues to maintain a savings account will be entitled to receive a distribution from the liquidation account. The total amount of the liquidation account decreases in an amount proportionately corresponding to decreases in the savings account balances of the eligible account holders.
(b) REGULATORY CAPITAL REQUIREMENTS - The Bank is subject to various regulatory capital requirements administered by the OTS. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by the OTS that, if undertaken, could have a direct material effect on the Corporation's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, a bank must meet specific capital guidelines that involve quantitative measures of a bank's assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The amounts and classification of a bank's capital are also subject to qualitative judgements by the OTS about components, risk weightings, and other factors. Qualitative measures established by regulation to ensure capital adequacy and to be classified as "well capitalized" require the Bank to maintain minimum amounts and ratios of Total and Tier I capital to risk-weighted assets, Tier I capital to adjusted total assets, and Tier I capital to average assets as set forth in the following table. In their evaluation of capital adequacy, the regulators assess exposure to declines in the economic value of the Bank's capital, as well as exposure to declines in the economic value of capital due to changes in interest rates. As of June 30, 1999, the most recent notification from the OTS categorized the Bank as "well capitalized" under the regulatory framework for prompt corrective action. There are no conditions or events since that notification that management believes have changed the Bank's category.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
9. STOCKHOLDERS' EQUITY - (CONTINUED)
(c) DIVIDEND RESTRICTIONS - Regulations of the Office of Thrift Supervision limit the dividends that may be paid without prior approval of the Office of Thrift Supervision. The Bank is currently a "well-capitalized" Tier 1 institution and can make distributions during a year of 100% of its net income to date during the year plus one-half its "surplus capital ratio" (the excess over its capital requirements) at the beginning of the calendar year. Accordingly, at June 30, 1999, approximately $12.2 million of the Bank's retained earnings is available for distribution.
10. EARNINGS PER SHARE
The reconciliation of the numerators and denominators of the basic and diluted EPS is as follows:
Year Ended June 30, ------------------------------------------- 1999 1998 1997 ---- ---- ---- Net income available to common Shareholders $5,978,801 $6,334,217 $4,774,062 ========== ========== ==========
Basic EPS: Weighted average common shares 4,127,804 4,145,039 4,182,060 ========= ========= =========
Diluted EPS: Weighted average common shares 4,127,804 4,145,039 4,182,060 Dilutive effect of stock options 20,419 29,114 46,456 --------- --------- --------- Weighted average common and Incremental shares 4,148,223 4,174,153 4,228,516 ========= ========= =========
Earnings Per Share: Basic $1.45 $1.53 $1.14 ========= ========= =========
Diluted $1.44 $1.52 $1.13 ========= ========= =========
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
11. EMPLOYEE BENEFIT PLANS:
(a) PENSION PLANS - The Bank is a participant in the Financial Institutions Retirement Fund, a multiple-employer defined benefit pension plan covering substantially all employees. Employees are 100% vested at the completion of five years of participation in the plan. The Bank's policy is to contribute annually the minimum funding amounts. Employer contributions and administrative expenses charged to operations for 1999, 1998, 1997 totaled $4,486, $4,438, and $56,475, respectively.
The Bank has a contributory thrift plan which covers substantially all of the employees. Under the terms of the plan, voluntary employee contributions are matched by up to 6% of the employee base pay and employees are immediately vested. Employer contributions charged to operations for 1999, 1998 and 1997 were $142,465, $116,367, and $114,939, respectively.
(b) EMPLOYEE STOCK OWNERSHIP PLAN - The Corporation has a non-contributory employee stock ownership plan (ESOP) in which employees are eligible to participate upon completion of one year of service. Employees are vested in accordance with a schedule which provides for 100% vesting upon completion of seven years of service.
Shares of the Corporation's common stock are acquired in a non-leveraged transaction. At the time of purchase, the shares are released and allocated to eligible employees determined by a formula specified in the plan agreement. Shares in the plan at June 30 and contributions charged to compensation expense during the year were as follows:
1999 1998 1997 ---- ---- ---- Allocated ESOP shares 225,889 230,213 307,595 Contributions to ESOP $50,000 $30,000 $30,000
(c) STOCK OPTION PLAN - Under the 1987 Stock Option and Incentive Plan, the Corporation may grant either incentive or non-qualified stock options to key employees for an aggregate of 423,200 shares of the Corporation's common stock at not less than fair market value at the date such options are granted. The option to purchase shares expires ten years after the date of grant. A summary of option transactions is as follows:
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
11. EMPLOYEE BENEFIT PLANS - (CONTINUED)
The following table summarizes information about stock options outstanding at June 30, 1999:
The pro forma effect on net income and earnings per share is as follows:
Year Ended June 30, 1999 1998 1997 ---- ---- ----
Net income: As reported $5,978,801 $6,334,217 $4,774,062 Pro-forma $5,968,780 $6,332,502 $4,762,347
Earnings per share: Basic As reported $ 1.45 $ 1.53 $ 1.14 Pro-forma $ 1.45 $ 1.53 $ 1.14
Diluted As reported $ 1.44 $ 1.52 $ 1.13 Pro-forma $ 1.44 $ 1.52 $ 1.13
The fair value of each stock option granted is estimated on the date of grant using the Black-Scholes option-pricing model with the following assumptions for grants in 1999: 1) expected dividend yields at 2.6%, 2) risk-free interest rates at 5.75%, 3) expected volatility at 22%, and 4) expected life of options at 10 years.
12. CASH FLOW ACTIVITIES
The following information is presented as supplemental disclosures to the statement of cash flows.
(a) Cash paid during the year ended June 30 for:
1999 1998 1997 ---- ---- ----
Interest expense $18,165,549 $15,903,156 $14,390,809 =========== =========== ===========
Income taxes $ 2,946,000 $ 1,461,000 $ 2,482,000 =========== =========== ===========
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
12. CASH FLOW ACTIVITIES - (CONTINUED)
(b) Supplemental disclosure of non-cash activities:
1999 1998 1997 ---- ---- ---- Loans to facilitate sales of real estate owned $320,688 $716,448 $698,405 ======== ======== ========
Transfers from loans to real estate acquired through foreclosure $295,714 $666,463 $505,579 ======== ======== ========
13. CONDENSED FINANCIAL INFORMATION (PARENT COMPANY ONLY)
The following condensed statements summarize the financial position, operating results and cash flows of First Federal Financial Corporation of Kentucky (Parent Company only).
CONDENSED STATEMENTS OF FINANCIAL CONDITION June 30, ------------------------------ 1999 1998 --- ---- ASSETS Cash and interest bearing deposits $ 595,638 $ 92,006 Investment in subsidiary 55,255,823 52,978,174 Securities available-for-sale 199,894 209,995 Receivable from Bank 1,787,705 1,393,810 Other assets 23,102 14,402 ----------- ----------- $57,862,162 $54,688,387 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Other liabilities $ - $ - Stockholders' equity 57,862,162 54,688,387 ---------- ---------- $57,862,162 $54,688,387 =========== ===========
CONDENSED STATEMENTS OF INCOME
Year Ended June 30, --------------------------------------- 1999 1998 1997 ---- ---- ---- Dividend from subsidiary $4,000,000 $4,000,000 $3,000,000 Interest income 34,681 35,188 57,162 Gain on sale of investments - 51,620 25,344 Other expenses (547,656) (65,329) (47,044) --------- --------- --------- Net income before income tax benefit 3,487,025 4,021,479 3,035,462 Income tax benefit 222,473 56,535 39,635 --------- --------- --------- Income before equity in undistributed net income of subsidiary 3,709,498 4,078,014 3,075,097 Equity in undistributed net income of subsidiaries 2,269,303 2,256,203 1,698,965 ----------- ----------- -----------
Net income $5,978,801 $6,334,217 $4,774,062 ========== ========== ==========
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
13. CONDENSED FINANCIAL INFORMATION (PARENT COMPANY ONLY) - (CONTINUED)
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
14. FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of the Corporation's financial instruments are as follows:
The methods and assumptions used by the Corporation in estimating its fair value disclosures for financial instruments are presented below:
CASH AND INTEREST BEARING DEPOSITS - The carrying amounts for cash and interest bearing deposits approximate their fair values.
INVESTMENT SECURITIES - Fair values for investment securities are based upon quoted market prices, where available. If quoted market prices are not available, fair values are based on quoted market prices of comparable instruments.
LOANS, NET - For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying amounts. The fair values of other types of loans are estimated by discounting the future cash flows using current interest rates at which similar loans would be made to borrowers with similar credit quality and for the same remaining maturities.
FEDERAL HOME LOAN BANK STOCK - The carrying amounts for Federal Home Loan Bank stock approximates fair value.
DEPOSITS - The fair values for demand deposits, savings accounts and certain money market deposits are the amounts payable on demand at the reporting date. The carrying amounts for variable-rate money market accounts and certificates of deposit approximate their fair values at the reporting date. Fair values for fixed-rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits.
ADVANCES FROM FEDERAL HOME LOAN BANK - The fair values for long-term debt are estimated using discounted cash flow analyses, based on the Corporation's current incremental borrowing rates for similar types of borrowing arrangements.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
14. FAIR VALUE OF FINANCIAL INSTRUMENTS - (CONTINUED)
COMMITMENTS TO EXTEND CREDIT AND STANDBY LETTERS OF CREDIT - The fair values of commitments to extend credit is estimated using fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the present creditworthiness of the customer. For fixed-rate loan commitments, fair value also considers the difference between current levels of interest rates and the committed rates. The fair values of standby letters of credit are based on fees currently charged for similar agreements or on the estimated cost to terminate them or otherwise settle the obligations with the counter parties at the reporting date. The value of these financial instruments was not material at June 30, 1999 and 1998.
15. CONTINGENCIES
In the normal course of business, there are various outstanding legal proceedings and claims. In the opinion of management, after consultation with legal counsel, the disposition of such legal proceedings and claims will not materially affect the Corporation's consolidated financial position, results of operations or liquidity.
16. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK
The Bank is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These financial instruments include commitments to extend credit. Those instruments involve, to varying degrees, elements of credit and interest-rate risk in excess of the amount recognized in the balance sheet. The contract or notional amounts of those instruments reflect the extent of the Bank's involvement in particular classes of financial instruments.
The Bank's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contractual notional amount of those instruments. The Bank uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments.
Commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The Bank evaluates each customer's credit worthiness. The amount of collateral obtained, if it is deemed necessary by the Bank upon extension of credit, is based on management's credit evaluation of the counterpart.
Commitments to make loans, excluding undisbursed portions of loans in process, at June 30 were as follows:
1999 1998 ------------------------ ------------------------ Fixed Variable Fixed Variable Rate Rate Rate Rate Commitments to make loans $16,146,055 $ 3,455,856 $4,182,800 $ 2,403,269
Unused lines of credit - 21,090,958 - 12,389,690
Standby letters of credit - 2,694,940 - 694,640 ----------- ----------- ---------- ----------
$16,146,055 $27,241,754 $4,182,800 $15,487,599 =========== =========== ========== ===========
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(CONTINUED)
16. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK - (CONTINUED)
Fixed rate loan commitments at June 30, 1999 were at current rates ranging from 6.75% to 9.50%.
Variable rate loan commitments at June 30, 1999 were at current rates ranging from 6.50% to 9.25% for loan commitments, 6.99% to 10.50% for unused lines of credit and primarily at the national prime rate of interest plus 50 to 200 basis points for standby letters of credit.
17. RELATED PARTY TRANSACTIONS
Certain directors, executive officers and principal shareholders of the Company, including associates of such persons, are loan customers. A summary of the related party loan activity, for loans aggregating $60,000 or more to any one related party, is as follows:
June 30, ------------------------------ 1999 1998 ---- ----
Beginning of year $1,112,789 $ 970,896
New loans 182,000 472,000
Repayments (294,770) (214,415)
Other changes 668,611 (115,692) ------- --------
End of year $1,668,630 $1,112,789 ========== ==========
Other changes include adjustments for loans applicable to one reporting period that are excludable from the other reporting period. These loans were made in the ordinary course of business at market interest rates and normal credit terms.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Information required by this item is incorporated herin by reference to the Corporation's Form 8-K filed April 20,1999.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
For information concerning the Board of Directors of the Corporation, the information contained under the section captioned "Proposal I -- Election of Directors" in the Corporation's definitive proxy statement for the Corporation's 1999 Annual Meeting of Stockholders (the "Proxy Statement") is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION
The information contained under the section captioned "Executive Compensation" 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 "Voting Securities and Principal Holders Thereof" in the Proxy Statement
(b) Security Ownership of Management
Information required by this item is incorporated herein by reference to the sections captioned "Proposal I -- Election of Directors" and "Voting Securities and Principal Holders Thereof" in the Proxy Statement.
(c) Changes in Control
Management of the Corporation knows of no arrangements, including any pledge by any person of securities of the Corporation, the operation of which may at a subsequent date result in a change of control of the Corporation.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated herein by reference to the section captioned "Proposal I -- Election of Directors" in the Proxy Statement.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
1. Financial Statements Filed
(a)(1) Report of Independent Auditors (a)(2) Report of Independent Auditors (b) Consolidated Statement of Financial Condition at June 30, 1999 and 1998. (c) Consolidated Statement of Income for the years ended June 30, 1999, 1998, and 1997. (d) Consolidated Statement of Comprehensive Income for the years ended June 30, 1999, 1998, and 1997. (e) Consolidated Statement of Changes in Stockholders' Equity for the years ended June 30, 1999, 1998, and 1997. (f) Consolidated Statement of Cash Flows for the years ended June 30, 1999, 1998, and 1997. (g) Notes to Consolidated Financial Statements
2. All financial statement schedules have been omitted as the required information is either inapplicable or included in the financial statements or related notes.
3. Exhibits (3)(a) Articles of Incorporation * (3)(b) Bylaws * 10 (b) First Federal Savings Bank of Elizabethtown Stock Option and Incentive Plan, as amended** (16) Letter re Change in Auditor*** (21) Subsidiaries of the Registrant (99) Undertakings (23)(a) Consent of Crowe, Chizek and Company LLP, Certified Public Accountants (23)(b) Consent of Whelan, Doerr & Company PSC, Certified Public Accountants (27) Financial Data Schedule
4. The Corporation filed a Form 8-K on April 20, 1999 regarding a change in the registrant's certifying accountant.
- ----------------------------------- * Incorporated by reference to the Corporation's Form S-4 Registration Statement (No. 33-30582) ** Incorporated by reference to Exhibit 10(b) of the Corporation's 1998 definitive proxy statement. *** Incorporated by reference to the Corporation's Form 8-K filed April 20, 1999.
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.
FIRST FEDERAL FINANCIAL CORPORATION OF KENTUCKY
Date: 9/28/99 By: /s/ B. Keith Johnson -------------------- B. Keith Johnson President and Chief Executive Officer Duly Authorized Representative
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.
By: /s/ B. Keith Johnson By: /s/ Irene B. Lewis --------------------- ------------------ B. Keith Johnson Irene B. Lewis Principal Executive Officer Director and Director
Date: 9/28/99 Date: 9/28/99
By: /s/ Wreno M. Hall By: /s/ Bob Brown ------------------ -------------- Wreno M. Hall Bob Brown Director Director
Date: 9/28/99 Date: 9/28/99
By: /s/ J. Alton Rider By: /s/ Kennard Peden --------------------- ----------------- J. Alton Rider Kennard Peden Director Director
Date: 9/28/99 Date: 9/28/99
By: /s/ Burlyn Pike By: /s/ Walter D. Huddleston ----------------- ------------------------- Burlyn Pike Walter D. Huddleston Director Director
Date: 9/28/99 Date: 9/28/99
By: /s/ Stephen Mouser By: /s/ Richard L. Muse ------------------- -------------------- Stephen Mouser Richard L. Muse Director Comptroller
Date: 9/28/99 Date: 9/28/99
By: /s/ Michael Thomas --------------------- Michael Thomas, DVM Director
Date: 9/28/99
INDEX TO EXHIBITS
Exhibit No. Description - ----------- ----------- (3) (a) Articles of Incorporation *
(3) (b) Bylaws*
(10)(b) First Federal Savings Bank of Elizabethtown Stock Option and Incentive Plan, as amended **
(16) Letter re Change in Auditor***
(21) Subsidiaries of the Registrant
(99) Undertakings
(23)(a) Consent of Crowe, Chizek and Company LLP, Certified Public Accountants
(23)(b) Consent of Whelan, Doerr & Company PSC, Certified Public Accountants
(27) Financial Data Schedule
- ------------------------------------------------ * Incorporated by reference to the Corporation's Form S-4 Registration Statement (No. 33-30582) ** Incorporated by reference to Exhibit 10(b) of the Corporation's 1998 definitive proxy statement. ***Incorporated by reference to the Corporation's Form 8-K filed April 20, 1999.
EXHIBIT 21
SUBSIDIARIES OF THE REGISTRANT
Parent - ------- First Federal Financial Corporation of Kentucky
State of Percentage Subsidiaries Incorporation Owned - ------------ ------------- ---------- First Federal Savings Bank United States 100% of Elizabethtown
First Service Corporation Kentucky 100% of Elizabethtown (a)
- ----------------------------------- (a) Wholly-owned subsidiary of First Federal Savings Bank of Elizabethtown.
EXHIBIT 99 - UNDERTAKINGS
(a) The undersigned Registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being made, a post-effective amendment to its Form S-8 registration statement No. 33-30582
(i) To include any prospectus required by section 10(a)(3) of the Securities Act of 1933; (ii) To reflect in the prospectus any facts or events arising after the effective date of the registration statement (or the most recent post-effective amendment thereof) which, individually or in the aggregate, represents a fundamental change in the information set forth in the registration statement; (iii) To include any material information with respect to the plan of distribution not previously disclosed in the registration statement or any material change to such information in the registration statements;
(2) That, for the purpose of determining any liability under the Securities Act of 1933, each such post-effective amendment shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof.
(3) To remove from registration by means of a post-effective amendment any of the securities being registered which remain unsold at the termination of the offering.
(b) The undersigned Registrant hereby undertakes that, for purposes of determining any liability under the Securities Act of 1933, each filing of the Registrant's Annual Report pursuant to section 13(a) or section 15(d) of the Securities Exchange Act of 1934 (and, where applicable, each filing of an employee benefit plan's annual report pursuant to section 15(d) of the Securities Exchange of 1934) that is incorporated by reference in the registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof.
(h) Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the registrant pursuant to the foregoing provisions, or otherwise, the registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the registrant of expenses incurred or paid by a director, officer or controlling person of the registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue.
EXHIBIT 23(A) - CONSENT OF CROWE, CHIZEK & COMPANY LLP
We hereby consent to the inclusion of our report dated August 20, 1999 in the annual report on Form 10-K of First Federal Financial Corporation of Kentucky as of June 30, 1999.
/s/ Crowe, Chizek & Company LLP ------------------------------- Crowe, Chizek & Company LLP
EXHIBIT 23(B) - CONSENT OF WHELAN, DOERR & COMPANY PSC
We consent to incorporation by reference in the Registration Statement No. 33-30582 on Form S-8 of First Federal Financial Corporation of Kentucky of our report dated August 17, 1998, relating to the consolidated balance sheets of First Federal Financial Corporation of Kentucky and Subsidiary as of June 30, 1998 and 1997, and related consolidated statements of income, changes in stockholders' equity, and cash flows for each of the years in the two year period ended June 30, 1999, which reports appear in the June 30, 1998 annual report on Form 10-K of First Federal Financial Corporations of Kentucky.
/s/ Whelan, Doerr & Company PSC ------------------------------- Whelan, Doerr & Company PSC