-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, MyskafUC0k5Hf7nQIIriOGhAlhxSbpC9xvwkeUGgn4FXBoHNW7qiRZx6OY4+ayiH ep4+WLufjzcVEjQzidmmDA== 0000892712-00-000062.txt : 20000329 0000892712-00-000062.hdr.sgml : 20000329 ACCESSION NUMBER: 0000892712-00-000062 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 10 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000328 FILER: COMPANY DATA: COMPANY CONFORMED NAME: NORTH COUNTRY FINANCIAL CORP CENTRAL INDEX KEY: 0000036506 STANDARD INDUSTRIAL CLASSIFICATION: STATE COMMERCIAL BANKS [6022] IRS NUMBER: 382062816 STATE OF INCORPORATION: MI FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-20167 FILM NUMBER: 580389 BUSINESS ADDRESS: STREET 1: 130 S CEDAR ST STREET 2: PO BOX 369 CITY: MANISTIQUE STATE: MI ZIP: 49854 BUSINESS PHONE: 9063418401 MAIL ADDRESS: STREET 1: 130 S CEDER ST STREET 2: P O BOX 369 CITY: MANISTIQUE STATE: MI ZIP: 49854 FORMER COMPANY: FORMER CONFORMED NAME: FIRST MANISTIQUE CORP DATE OF NAME CHANGE: 19920703 10-K 1 FORM 10-K FORM 10-K SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1999 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _______ to ________ Commission file number 0-20167 NORTH COUNTRY FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) MICHIGAN 38-2062816 (State of other (I.R.S. Employer jurisdiction of Identification No.) incorporation or organization) 3530 North Country Drive, Traverse City, Michigan 49684 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (231) 929-5600 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, no par value (Title of Class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes _X_ No ____ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendments to this Form 10-K. [ ] The aggregate market value of the common stock held by non-affiliates of the Registrant, based on a per share price of $14.00 as of March 21, 2000, was $87.1 million. As of March 21, 2000, there were outstanding 6,995,067 shares of the Corporation's Common Stock (no par value). Documents Incorporated by Reference: Portions of the Corporation's 1999 Annual Report to Shareholders are incorporated by reference into Parts I and II of this Report. Portions of the Corporation's Proxy Statement for the Annual Meeting of Shareholders to be held April 18, 2000 are incorporated by reference into Part III of this Report. PART I ITEM 1: BUSINESS General North Country Financial Corporation (the "Registrant" or "Corporation") was incorporated under the laws of the state of Michigan on December 16, 1974. The Corporation changed its name from "First Manistique Corporation" to "North Country Financial Corporation" on April 14, 1998. The Registrant owns all of the outstanding stock of its banking subsidiary, North Country Bank and Trust (the "Bank"). The Registrant also owns all of the outstanding stock of five nonbank subsidiaries: First Manistique Agency, an insurance agency which sells annuities as well as life and health insurance; First Rural Relending Company, a nonprofit relending company; North Country Financial Group, a corporation which provides tax-exempt lease/purchase financing to municipalities; North Country Capital Trust, a statutory business trust which was formed solely for the issuance of trust preferred securities; and NCB Real Estate Company, which owns several properties used by the Bank. The Bank represents the principal asset of the Registrant. The Registrant and its subsidiary Bank are engaged in a single industry segment, commercial banking, broadly defined to include commercial and retail banking activities along with other permitted activities closely related to banking, namely credit life and accident and health insurance. The Registrant became a registered bank holding company under the Bank Holding Company Act of 1956, as amended, on April 1, 1976, when it acquired First Northern Bank and Trust ("First Northern"). On May 1, 1986, Manistique Lakes Bank merged with First Northern, with the survivor being First Northern. The Registrant acquired all of the outstanding stock of the Bank of Stephenson on February 8, 1994, in exchange for cash and common stock. The Bank of Stephenson was operated as a separate banking subsidiary of the Registrant until September 30, 1995, when it was merged into First Northern with First Northern being the survivor. First Northern acquired a substantial portion of the banking assets and assumed a substantial portion of the banking liabilities of Newberry State Bank on December 8, 1994, in exchange for cash. First Northern acquired the fixed assets and assumed the deposits of the Rudyard branch of First of America Bank on September 15, 1995, in exchange for cash. The Registrant acquired all of the outstanding stock of South Range State Bank ("South Range") on January 31, 1996, in exchange for cash and notes. On August 12, 1996, First Northern and South Range changed their names to North Country Bank and Trust and North Country Bank, respectively. On February 4, 1997, the Registrant acquired all of the outstanding stock of UP Financial Inc., the parent holding company of First National Bank of Ontonagon ("Ontonagon"). Ontonagon was merged into North Country Bank with North Country Bank being the survivor. North Country Bank was operated as a separate banking subsidiary of the Registrant until March 10, 1998, when it was merged into North Country Bank and Trust with North Country Bank and Trust being the survivor. On June 25, 1999, North Country Bank and Trust acquired the fixed assets and assumed the deposits of the Kaleva and Mancelona branches of Huntington National Bank in exchange for cash. On July 23, 1999, North Country Bank and Trust sold the fixed assets and deposits of the Rudyard and Cedarville branches to Central Savings Bank in exchange for cash. On January 14, 2000, North Country Bank and Trust sold the fixed assets and deposits of the Garden branch to First Bank, Upper Michigan in exchange for cash. The Corporation is headquartered in Traverse City, Michigan. The executive offices and mailing address of the Corporation are located at 3530 North Country Drive, Traverse City, Michigan 49684. The Bank is headquartered in Manistique, Michigan. The Bank has 22 branch offices located in the Upper Peninsula of Michigan and five branch offices located in Michigan's Lower Peninsula. The Bank maintains offices in Grand Traverse, Otsego, Manistee, Antrim, Emmet, Schoolcraft, Menominee, Delta, Dickinson, Hougton, Ontonagon, Baraga, Marquette, Luce, Alger, Mackinac, and Chippewa counties. The Bank provides drive-in convenience at 20 branch locations and has automatic teller machines operating at 12 locations. The Bank has no foreign offices. The Bank is engaged in the general commercial banking business, providing a full range of loan and deposit products. These banking services include customary retail and commercial banking services, including checking and savings accounts, time deposits, interest bearing transaction accounts, safe deposit facilities, real estate mortgage lending, commercial lending, commercial and governmental lease financing, and direct and indirect consumer financing. Forward-Looking Statements The discussions in this Report on Form 10-K and the documents incorporated herein by reference which are not statements of historical fact (including statements in the future tense and those which include terms such as "believe," "will," "expect," and "anticipate") contain forward-looking statements that involve risks and uncertainties. The Corporation's actual future results could materially differ from those discussed. Factors that might cause actual results to differ from the results discussed in forward- looking statements include, but are not limited to: * General economic conditions, either nationally or the state in which the Corporation does business; * Legislation or regulatory changes which adversely affect the businesses in which the Corporation is engaged; * Changes in the interest rate environment which reduce interest rate margins; * Changes in securities markets with respect to the market value of financial assets and the level of volatility in certain markets such as foreign exchange; * Significant increases in competition in the banking and financial services industry resulting from industry consolidation, regulatory changes and other factors, as well as actions taken by particular competitors; * Changes in consumer spending, borrowing and savings habits; * Technological changes; * Acquisitions and unanticipated occurrences which delay or reduce the expected benefits of acquisitions; * The Corporation's ability to increase market share and control expenses; * The effect of compliance with legislation or regulatory changes; * The effect of changes in accounting policies and practices; * The costs and effects of unanticipated litigation and of unexpected or adverse outcomes in such litigation; and * The factors discussed in Item 1 in this Report and in the Management's Discussion and Analysis in Item 7, as well as those discussed elsewhere in this Report and the documents incorporated herein by reference. All forward-looking statements contained in this report are based upon information presently available and the Corporation assumes no obligation to update any forward-looking statements. Principal Sources of Revenue The principal source of revenue for the Registrant is interest and fees on loans and investment income. The sources of income for the three most recent years are as follows (in thousands): 1999 1998 1997 Interest and fees on loans $40,457 $37,284 $34,526 Investment income 1,670 717 1,065 Other interest income 422 497 373 Noninterest income 3,538 2,651 1,638 Employees As of December 31, 1999, the Corporation and its subsidiaries employed in the aggregate approximately 180 employees, of which approximately 160 are full-time employees. Competition Banking is a highly competitive business. In addition to other banks, the Bank also competes for loans and deposits with savings and loan associations, credit unions, investment firms, and large national retailers, and competes for deposits with money market funds. In order to successfully compete, management has developed a sales and service culture, stresses and rewards quality customer service, and designs products to meet the needs of the customer. The Bank also utilizes its ability to sell loans in the secondary market. Business The Bank makes mortgage, commercial, and installment loans to customers throughout Michigan. Fees may be charged for these services. Historically, the Bank has predominantly sold its conforming residential mortgage loans in the secondary market. The Bank also finances commercial and governmental leases throughout the country; the leases are originated by unrelated entities or the Registrant's subsidiary, North Country Financial Group. The Bank reviews the credit quality of each lease before entering into a financing agreement. The Bank supports the growth of the service industry, with its year round resort and related businesses, gaming, forestry, restaurants, farming, fishing, and many other activities important to growth in Michigan. The economy of the market areas of the Bank is affected by summer and winter tourism activities and, accordingly, the Bank experiences seasonal consumer and commercial deposit growth, with substantial growth increases from May to September. There are no material concentrations of credit to, nor have material portions of the Bank's deposits been received from, a single person, industry, group, or geographical location. The Bank is a member of the Federal Home Loan Bank of Indianapolis. The Federal Home Loan Bank of Indianapolis provides an additional source of liquidity and long-term funds. Membership in the Federal Home Loan Bank also provides access to additional advantageous lending programs. The Community Investment Program makes advances to be used for funding community-oriented mortgage lending, and the Affordable Housing Program grants advances to fund lending for long-term low and moderate income owner occupied and affordable rental housing at subsidized interest rates. The Bank regularly assesses its ability to raise funds through the issuance of certificates of deposit in denominations of $100,000 or more in the local and regional market area and has established conservative guidelines for the total funding to be provided by these deposits. The Bank also uses the Internet to attract certificates of deposits in denominations of $100,000 or more. These large denomination deposits approximated 7.6% of total deposits at December 31, 1999. The Bank also uses federal funds purchased from correspondent banks and the Federal Reserve Bank to respond to deposit fluctuations and temporary loan demands. As of December 31, 1999, the Bank had no material risks attendant to foreign sources. See the "Interest Rate Risk" and "Foreign Exchange Risk" sections in Management's Discussion and Analysis of Financial Condition and Results of Operation for details on the Registrant's foreign account activity. Compliance with federal, state, and local statutes and/or ordinances relating to the protection of the environment is not expected to have a material effect upon the Bank's capital expenditures, earnings, or competitive position. Supervision and Regulation As a registered bank holding company, the Corporation is subject to regulation and examination by the Board of Governors of the Federal Reserve System (the "Federal Reserve Board") under the Bank Holding Company Act, as amended (the "BHCA"). The Bank is subject to regulation and examination by the Michigan Financial Institutions Bureau and the FDIC. Under the BHCA, the Corporation is subject to periodic examination by the Federal Reserve Board, and is required to file with the Federal Reserve Board periodic reports of its operations and such additional information as the Federal Reserve Board may require. In accordance with Federal Reserve Board policy, the Corporation is expected to act as a source of financial strength to the Bank and to commit resources to support the Bank in circumstances where the Corporation might not do so absent such policy. In addition, there are numerous federal and state laws and regulations which regulate the activities of the Corporation, the Bank and the nonbank subsidiaries, including requirements and limitations relating to capital and reserve requirements, permissible investments and lines of business, transactions with affiliates, loan limits, mergers and acquisitions, issuances of securities, dividend payments, inter-affiliate liabilities, extensions of credit and branch banking. Federal banking regulatory agencies have established capital adequacy rules which take into account risk attributable to balance sheet assets and off-balance sheet activities. All banks and bank holding companies must meet a minimum total risk-based capital ratio of 8%, of which at least one-half must be comprised of core capital elements defined as Tier 1 capital (which consists principally of shareholders' equity). The federal banking agencies also have adopted leverage capital guidelines which banking organizations must meet. Under these guidelines, the most highly rated banking organizations must meet a minimum leverage ratio of at least 3% Tier 1 capital to total assets, while lower rated banking organizations must maintain a ratio of at least 4% to 5%. Failure to meet minimum capital requirements can initiate certain mandatory - and possible additional discretionary - actions by regulators that, if undertaken, could have a direct material effect on the consolidated financial statements. The risk-based and leverage standards presently used by the Federal Reserve Board are minimum requirements, and higher capital levels will be required it warranted by the particular circumstances or risk profiles of individual banking organizations. The Federal Reserve Board has not advised the Corporation of any specific minimum Tier 1 capital leverage ratio applicable to it. Federal law provides the federal banking regulators with broad power to take prompt corrective action to resolve the problems of undercapitalized institutions. The extent of the regulators' power depends on whether the institution in question is "well capitalized," "adequately capitalized," "undercapitalized," "significantly undercapitalized," or "critically undercapitalized." To be well capitalized under the regulatory framework, the Tier 1 capital ratio must meet or exceed 6%, the total capital ratio must meet or exceed 10% and the leverage ratio must meet or exceed 5%. At December 31, 1999 and 1998, the most recent notification from the Federal Reserve categorized the Corporation 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 Corporation's category. The Bank's risk-based capital and leverage ratios meet or exceed the defined minimum requirements, and the Bank has been deemed well capitalized as of December 31, 1999 and 1998. Current federal law provides that adequately capitalized and managed bank holding companies from any state may acquire banks and bank holding companies located in any other state, subject to certain conditions. Banks are permitted to create interstate branching networks in states that do not "opt out" of interstate branching. The laws and regulations to which the Corporation is subject are constantly under review by Congress, regulatory agencies and state legislatures. On November 12, 1999, President Clinton signed important legislation passed by Congress to overturn Depression- era restrictions on affiliations by banking organizations. This comprehensive legislation, referred to as the Gramm-Leach-Bliley Act (the "Act"), eliminates certain barriers to and restrictions on affiliations between banks and securities firms, insurance companies and other financial services organizations. The Act provides for a new type of "financial holding company" structure under which affiliations among these entities may occur, subject to the regulation of the Federal Reserve Board and regulation of affiliates by the functional regulators, including the Securities and Exchange Commission and state insurance regulators. In addition, the Act permits certain non-banking financial and financially related activities to be conducted by operating subsidiaries of a national bank. Under the Act, a bank holding company may become certified as a financial holding company by filing a notice with the Federal Reserve Board, together with a certification that the bank holding company meets certain criteria, including capital, management and Community Reinvestment Act requirements. The Act contains a number of provisions allocating regulatory authority among the Federal Reserve Board, other banking regulators, the Securities and Exchange Commission and state insurance regulators. In addition, the Act imposes strict new privacy disclosure and "opt out" requirements regarding the ability of financial institutions to share personal non- public customer information with third parties. Other important provisions of the Act permit merchant banking and venture capital activities, and insurance underwriting, to be conducted by a subsidiary of a financial holding company, and municipal securities underwriting activities to be conducted directly by a national bank or by its subsidiary. Under the Act, a financial holding company may engage in a broad list of "financial activities," and any non- financial activity that the Federal Reserve Board determines is "complementary" to a financial activity and poses no substantial risk to the safety and soundness of depository institutions or the financial system. While certain provisions of the Act became effective on November 12, 1999, other provisions are subject to delayed effective dates, and in some cases, will be implemented only upon the adoption by federal regulatory agencies of rules prescribed by the Act. The earnings and business of the Corporation and the Bank are also affected by the general economic and political conditions in the United States and abroad and by the monetary and fiscal policies of various federal agencies. The Federal Reserve Board impacts the competitive conditions under which the Corporation operates by determining the cost of funds obtained from money market sources for lending and investing and by exerting influence on interest rates and credit conditions. In addition, legislative and economic factors can be expected to have an ongoing impact on the competitive environment within the financial services industry. The impact of fluctuating economic conditions and federal regulatory policies on the future profitability of the Corporation and its subsidiaries cannot be predicted with certainty. Selected Statistical Information I. Distribution of Assets, Obligations, and Shareholders' Equity; Interest Rates and Interest Differential The key components of net interest income, the average daily balance sheet for each year - including the components of earning assets and supporting obligations - the related interest income on a fully tax equivalent basis and interest expense, as well as the average rates earned and paid on these assets and obligations is contained under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Registrant's 1999 Annual Report, and is incorporated herein by reference. An analysis of the changes in net interest income from period-to-period and the relative effect of the changes in interest income and expense due to changes in the average balances of earning assets and interest- bearing obligations and changes in interest rates is contained under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the Registrant's 1999 Annual Report, and is incorporated herein by reference. II. Investment Portfolio A. Investment Portfolio Composition The following table presents the carrying value of investment securities available for sale as of December 31 (in thousands): 1999 1998 1997 U.S. Treasury and federal agencies $ 9,392 $3,513 $7,743 State and political subdivisions 16,210 1,021 830 Corporate securities 3,008 1,290 1,138 Mortgage-related securities 14,733 2,852 392 ------- ------- ------- TOTAL $43,343 $8,676 $10,103 Included in the December 31, 1999 investment securities available for sale are $6.2 million of White Mountain Apache Tribe Revenue Bonds Series 1999B. B. Relative Maturities and Weighted Average Interest Rates The following table presents the maturity schedule of securities held and the weighted average yield of those securities, as of December 31, 1999 (fully taxable equivalent, in thousands): 1 Year or Less 1-5 Years 5-10 Years Over 10 Years U.S. Treasury and federal agencies $2,844 $6,548 State and political subdivisions $115 $ 585 $7,085 $8,425 Corporate securities 111 1,457 500 940 Mortgage-related securities 22 14,711 Weighted average yield (1) 8.20% 7.04% 8.09% 7.45% (1) Weighted average yield includes the effect of tax-equivalent adjustments using a 34% tax rate. III. Loan Portfolio A. Type of Loans The following table sets forth the major categories of loans outstanding for each category at December 31 (in thousands): 1999 1998 1997 1996 1995 Commercial, financial and agricultural $258,592 $219,027 $181,683 $141,555 $107,054 Real estate - construction 12,539 11,923 10,940 13,897 2,235 Real estate - mortgage 107,751 97,415 95,543 80,592 58,434 Consumer 17,051 23,160 26,795 31,156 29,918 Leases 70,689 60,195 57,558 47,686 23,867 -------- -------- -------- -------- -------- TOTAL $466,622 $411,720 $372,519 $314,886 $221,508 Included in the December 31, 1999 totals are approximately $6.5 million of commercial loans and $100,000 of real estate mortgage loans to Canadian obligors. To the extent the Corporation utilizes lease financing for its customers, the leases are accounted for as loans. B. Maturities and Sensitivities of Loans to Changes in Interest Rates The following table presents the remaining maturity of total loans outstanding for the categories shown at December 31, 1999, based on scheduled principal repayments (in thousands). The amounts due after one year are classified according to the sensitivity to changes in interest rates. Commercial, Real Estate Financial and Construction Agricultural In one year or less $98,545 $11,463 After one year but within five years: Variable interest rates 46,645 --- Fixed interest rates 50,731 1,076 After five years: Variable interest rates 52,656 --- Fixed interest rates 10,015 --- TOTAL $258,592 $12,539 C. Risk Elements The following table presents a summary of non- performing assets and problem loans as of December 31 (in thousands): 1999 1998 1997 1996 1995 Nonaccrual loans $ 95 $2,174 $1,956 $ 49 $ 579 Accruing loans past due 90 days or more 2,452 1,238 698 68 1,439 Restructured loans --- --- --- --- --- Interest income that would have been recorded under original terms 3 207 93 --- --- Interest income recorded during period --- --- --- --- --- IV. Summary of Loan Loss Experience A. Analysis of the Allowance for Loan Losses Changes in the allowance for loan losses arise from loans charged off, recoveries on loans previously charged off by loan category, and additions to the allowance for loan losses through provisions charged to expense. Factors which influence management's judgment in determining the provision for loan losses include establishing specified loss allowances for selected loans (including large loans, nonaccrual loans, and problem and delinquent loans) and consideration of historical loss information and local economic conditions. The following table presents information relative to the allowance for loan losses for the years ended December 31 (in thousands): 1999 1998 1997 1996 1995 Balance of allownce for loan losses at beginning of period $6,112 $5,600 $4,591 $3,137 $2,350 Loans charged off: Commercial, financial and agricultural 405 406 351 1,012 90 Real estate - construction -- -- -- -- -- Real estate - mortgage 74 31 37 8 -- Consumer 329 368 413 357 252 Leases -- -- -- -- -- TOTAL LOANS CHARGED OFF 808 805 801 1,377 440 Recoveries of loans previously charged off: Commercial, financial and agricultural 9 48 2 67 336 Real estate - construction -- -- -- -- -- Real estate - mortgage 10 -- 7 -- 22 Consumer 83 70 77 55 98 Leases -- -- 27 -- -- TOTAL RECOVERIES 102 118 113 122 456 Net loans charged off 706 687 688 1,255 (16) Provisions charged to expense 1,457 1,199 1,398 2,424 771 Allowance from acquisitions -- -- 299 285 -- BALANCE AT END OF PERIOD $6,863 $6,112 $5,600 $4,591 $3,137 Ratio of net charge-offs during period to average loans outstanding 0.16% 0.17% 0.20% 0.45% -0.01% B. Allocation of Allowance for Loan Losses The allocation of the allowance for loan losses for the years ended December 31 is shown on the following table (in thousands). The percentages shown represent the percent of each loan category to total loans. 1999 1998 1997 1996 1995 Amount % Amount % Amount % Amount % Amount % Commercial, financial and agricutural $2,443 55.4% $1,789 53.2% $2,873 48.8% $2,356 45.0% $ 583 48.3% Real estate - construction 114 2.7% 65 2.9% -- 2.9% -- 4.4% -- 1.0% Real estate - mortgage 835 23.1% 622 23.7% 99 25.6% 81 25.6% 592 6.4% Consumer 326 3.7% 229 5.6% 416 7.2% 341 9.9% 112 13.5% Leases 1,049 15.1% 880 14.6% 350 15.5% 27 15.1% 23 10.8% Unallocated 2,096 N/A 2,507 N/A 1,862 N/A 1,526 N/A 2,360 N/A TOTAL $6,863 100% $6,112 100% $5,600 100% $4,591 100% $3,137 100%
V. Deposits At December 31, 1999, approximately $5.6 million of total deposits are from Canadian customers. The following table presents the maturities of certificates of deposits and other time deposits of $100,000 or more as of December 31, 1999 (in thousands): 3 months or less $ 5,123 Over 3 months through 6 months 3,979 Over 6 months through 12 months 7,708 Over 12 months 18,500 Total $35,310 VI. Return on Equity and Assets Selected financial data of the Registrant is contained in the Corporation's 1999 Annual Report and is incorporated herein by reference. See Item 6, "Selected Financial Data." VII. Financial Instruments with Off-Balance Sheet Risk The Registrant is a party to financial instruments with off-balance sheet risk in the normal course of business to meet financial needs of its customers. These financial instruments include commitments to make loans, unused lines of credit, and standby letters of credit. The Registrant's exposure to credit loss in the event of nonperformance by the other party to the financial instrument is represented by the contractual amount of those instruments. The Registrant follows the same credit policy to make such commitments as it uses for on-balance-sheet items. The Registrant had the following fixed and variable rate commitments outstanding at December 31 (in thousands): 1999 1998 Fixed Variable Fixed Variable Outstanding letters of credit --- $14,425 --- $14,869 Unused lines of credit $9,294 73,939 $2,782 63,452 Loan commitments outstanding 7,127 45,420 11,235 53,372 Fixed rates on unused lines of credit and loan commitments ranged from 5.15% to 18% at December 31, 1999. Since many commitments to make loans expire without being used, the amount does not necessarily represent future cash commitments. Collateral obtained upon exercise of the commitment is determined using management's credit evaluation of the borrower and may include real estate, vehicles, business assets, deposits, and other items. ITEM 2: PROPERTIES The Registrant's headquarters are located at 3530 North Country Drive, Traverse City, Michigan 49684. The headquarters location is owned by the Registrant and not subject to any mortgage. The Bank conducts business from 27 offices at locations described below in Grand Traverse, Otsego, Manistee, Antrim, Emmet, Schoolcraft, Menominee, Delta, Dickinson, Hougton, Ontonagon, Baraga, Marquette, Luce, Alger, Mackinac, and Chippewa counties. The Corporation continually reviews the possibility of applying for additional branch locations, depending on management's assessment of market and economic conditions, the availability of locations, and the proximity of branches of competing institutions. The following table lists each of the Bank's offices. Traverse City Gaylord 3530 North Country Drive 145 North Otsego Avenue Traverse City, MI 49684 Gaylord, MI 49735 Grand Traverse County Otsego County Kaleva Mancelona 14429 Wuoksi Avenue 625 North Williams Street Kaleva, MI 49645 Manxwlona, MI 49659 Manistee County Antrim County Petoskey Manistique 3890 Charlevoix Avenue 130 South Cedar Street Petoskey, MI 49770 Manistique, MI 49854 Emmet County Schoolcraft County Menominee Stephenson 1111 10th Street 245 Menominee Street Menominee, MI 49858 Stephenson, MI 49887 Menominee County Menominee County Escanaba Iron Mountain 837 North Lincoln Road 1890 South Stephenson Avenue Escanaba, MI 49829 Iron Mountain, MI 49801 Delta County Dickinson County South Range Ripley 47 Trimountain Avenue 106 Royce Road South Range, MI 49963 Franklin Township, MI 49930 Houghton County Houghton County Calumet Houghton 1175 Calumet Avenue 524 Sheldon Avenue Calumet, MI 49913 Houghton, MI 49931 Houghton County Houghton County Ontonagon L'anse 601 River Street 117 US Highway 41 Ontonagon, MI 49953 L'anse, MI 49946 Ontonagon County Baraga County Marquette Main Marquette Presque Isle 300 North McClellan Street 1400 Presque Isle Marquette, MI 49855 Marquette, MI 49855 Marquette County Marquette County Newberry Main Newberry Hill 414 Newberry Avenue 2001 South Newberry Avenue Newberry, MI 49868 Newberry, MI 49868 Luce County Luce County Munising Curtis 301 East Superior Street 415 Main Street Munising, MI 49862 Curtis, MI 49820 Alger County Mackinac County Naubinway St. Ignace US Highway 2 430 North State Street Naubinway, MI 49762 St. Ignace, MI 49781 Mackinac County Mackinac County Mackinac Island Sault Main 21 Hoban Street 138 Ridge Street Mackinac Island, MI 49781 Sault Ste. Marie, MI 49783 Mackinac County Chippewa County Sault Cascade 4250 I-75 Business Spur Sault Ste. Marie, MI 49783 Chippewa County All of the above locations are designed for use and operation as a bank, are well maintained, and are suitable for current operations. Of the 27 branch locations, 6 are leased and 21 are owned. North Country Financial Group leases space in a professional office building located at 1860 Blake Street, Denver, Colorado 80202. ITEM 3: LEGAL PROCEEDINGS As the date hereof, there were no material pending legal proceedings, other than routine litigation incidental to the business of banking to which the Registrant or any of its subsidiaries is a party of or which any of its properties is the subject. ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted during the fourth quarter of fiscal 1999 to a vote of the Registrant's stockholders. Additional Item - Executive Officers Name Age Position Ronald G. Ford 52 Chairman and Chief Executive Officer Sherry L. Littlejohn 39 President and Chief Operating Officer The foregoing officers serve at the pleasure of the Board of Directors and are appointed by the Board annually. There are no arrangements or understandings between any officer and any other person pursuant to which the officer was elected. PART II ITEM 5: MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCK HOLDER MATTERS Market information pertaining to the Registrant's common stock is contained under the caption "Market Information" in the Registrant's 1999 Annual Report, and is incorporated herein by reference. The number of common shareholders of the Registrant is contained under the caption "Market Summary" on page 2 in the Registrant's 1999 Annual Report, and is incorporated herein by reference. The holders of the Registrant's common stock are entitled to dividends when, as and if declared by the Board of Directors of the Registrant out of funds legally available for that purpose. Dividends have been paid on a quarterly basis. In determining dividends, the Board of Directors considers the earnings, capital requirements and financial condition of the Registrant and its subsidiary bank, along with other relevant factors. The Registrant's principal source of funds for cash dividends is the dividends paid by the subsidiary bank. The ability of the Registrant and the subsidiary bank to pay dividends is subject to regulatory restrictions and requirements. The cash dividends paid by quarter for 1999 and 1998 is included in the Corporation's 1999 Annual Report under the caption "Comparative Highlights" and is incorporated herein by reference. ITEM 6: SELECTED FINANCIAL DATA Selected financial data of the Registrant is contained in the Corporation's 1999 Annual Report and is incorporated herein by reference. ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Incorporated by reference to the Management's Discussion and Analysis in the Corporation's 1999 Annual Report to Shareholders. ITEM 7A: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Corporation's primary market risk exposure is interest rate risk and, to a lesser extent, liquidity risk and foreign exchange risk. The Corporation has no market risk sensitive instruments held for trading purposes. The Corporation has limited agricultural- related loan assets and therefore has minimal significant exposure to changes in commodity prices. Any impact that changes in foreign exchanges rates and commodity prices would have on interest rates are assumed to be insignificant. Interest rate risk is the exposure of the Corporation's financial condition to adverse movements in interest rates. The Corporation derives its income primarily from the excess of interest collected on its interest-earning assets over the interest paid on its interest-bearing obligations. The rates of interest the Corporation earns on its assets and owes on its obligations generally are established contractually for a period of time. Since market interest rates change over time, the Corporation is exposed to lower profitability if it cannot adapt to interest rate changes. Accepting interest rate risk can be an important source of profitability and shareholder value; however, excess levels of interest rate risk could pose a significant threat to the Corporation's earnings and capital base. Accordingly, effective risk management that maintains interest rate risk at prudent levels is essential to the Corporation's safety and soundness. Evaluating the exposure to changes in interest rates includes assessing both the adequacy of the process used to control interest rate risk and the quantitative level of exposure. The Corporation's interest rate risk management process seeks to ensure that appropriate policies, procedures, management information systems and internal controls are in place to maintain interest rate risk at prudent levels with consistency and continuity. In evaluating the quantitative level of interest rate risk, the Corporation assesses the existing and potential future effects of changes in interest rates on its financial condition, including capital adequacy, earnings, liquidity and asset equity. The table below measures current maturity levels of interest-earning assets and interest-bearing obligations, along with average stated rates and estimated fair values at December 31, 1999 (in thousands): Principal/Notional Amount Maturing in: Fair Value 2000 2001 2002 2003 2004 Thereafter Total 12/31/99 Rate Sensitive Assets Interest-bearing deposits $679 $679 $679 Average interest rate 2.7% 2.7% Fixed interest rate securities $226 $136 $146 $146 $1,613 $41,076 $43,343 $43,343 Average interest rate 5.4% 5.4% 5.4% 5.4% 6.5% 7.0% 7.0% Federal Home Loan Bank Stock $3,034 $3,034 $3,034 Average interest rate 8.0% 8.0% Fixed interest rate loans $57,909 $1,968 $22,206 $24,669 $17,388 $65,174 $189,315 $183,620 Average interest rate 8.2% 8.1% 8.5% 8.9% 8.5% 8.1% 8.3% Variable interest rate loans $73,676 $1,443 $22,422 $31,794 $25,801 $122,171 $277,307 $277,891 Average interest rate 9.3% 9.3% 8.5% 9.2% 9.1% 9.2% 9.2% Rate Sensitive Obligations Savings, money market and interest-bearing demand $267,027 $267,027 $267,027 Average interest rate 3.8% 3.8% Time deposits $103,794 $3,517 $24,414 $16,284 $3,269 $1,087 $152,365 $152,001 Average interest rate 5.4% 5.1% 5.6% 5.5% 5.4% 5.6% 5.4% Fixed interest rate borrowings $17,643 $686 $734 $790 $1,986 $5,039 $26,878 $25,729 Average interest rate 6.0% 6.3% 6.3% 6.3% 6.4% 5.2% 5.9% Variable interest rate-borrowings $20,000 $20,000 $20,000 Average interest rate 5.6% 5.6% Subordinated debentures $12,450 $12,450 $12,450 Average interest rates 8.6% 8.6% In addition to changes in interest rates, the level of future net interest income is also dependent on a number of variables, including: the growth, composition and levels of loans, deposits, and other earning assets and interest-bearing obligations, and economic and competitive conditions; potential changes in lending, investing and deposit strategies; customer preferences; and other factors. ITEM 8: FINANCIAL STATEMENTS Incorporated by reference to the Registrant's Consolidated Financial Statements for the years ended December 31, 1999, 1998 and 1997 in the Corporation's 1999 Annual Report to Shareholders. ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS AND FINANCIAL DISCLOSURE None. PART III ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF REGISTRANT The information set forth under the caption "Election of Directors" of the Registrant's definitive Proxy Statement dated March 8, 2000, is hereby incorporated by reference. ITEM 11: EXECUTIVE COMPENSATION Information relating to compensation of the Registrant's executive officers and directors is contained under the captions "Remuneration of Directors" and "Executive Compensation," in the Registrant's definitive Proxy Statement dated March 8, 2000, and is incorporated herein by reference. ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information relating to security ownership of certain beneficial owners and management is contained under the caption "Beneficial Ownership of Common Stock" in the Registrant's definitive Proxy Statement dated March 8, 2000, and is incorporated herein by reference. ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information relating to certain relationships and related transactions is contained under the caption "Indebtedness of and Transactions With Management" in the Registrant's definitive Proxy Statement dated March 8, 2000, and is incorporated herein by reference. PART IV ITEM 14 - EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES, AND REPORTS ON FORM 8-K (a) Financial Statements. 1. The following documents are filed as part of Item 8 of this report: Independent Auditor's Report Consolidated Balance Sheets as of December 31, 1999 and 1998 Consolidated Statements of Income for the years ended December 31, 1999, 1998, and 1997 Consolidated Statements of Changes in Shareholders' Equity for the years ended December 31, 1999, 1998, and 1997 Consolidated Statements of Cash Flows for the years ended December 31, 1999, 1998, and 1997 Notes to Consolidated Financial Statements 2. Schedules to the consolidated financial statements required by Article 9 of Regulation S-X are not required under the related instructions or are inapplicable, and therefore have been omitted. 3. The following exhibits are filed as part of this report: Reference is made to the exhibit index which follows the signature page of this report. The Registrant will furnish a copy of any exhibits listed on the Exhibit Index to any shareholder of the Registrant without charge upon written request of Sherry L. Littlejohn, 3530 North Country Drive, Traverse City, Michigan 49684. (b) Reports on Form 8-K During the last quarter of the period covered by this report, the Registrant filed no Current Reports on Form 8-K. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, dated March 27, 2000. NORTH COUNTRY FINANCIAL CORPORATION /s/ Ronald G. Ford - -------------------------- Ronald G. Ford Chairman and Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below on March 27, 2000, by the following persons on behalf of the Registrant and in the capacities indicated. Each director of the Registrant, whose signature appears below, hereby appoints Ronald G. Ford and Sherry L. Littlejohn, and each of them severally, as his attorney- in-fact, to sign in his name and on his behalf, as a director of the Registrant, and to file with the Commission any and all Amendments to this Report on Form 10-K. Signature /s/ Ronald G. Ford - ---------------------------------- ------------------------------- Ronald G. Ford - Director, Chairman Stanley J. Gerou - Director and Chief Executive Officer (Principal Executive Officer) /s/ Sherry L. Littlejohn /s/ Michael C. Henricksen - ---------------------------------- ------------------------------- Sherry L. Littlejohn - Director, President, Michael C. Henricksen - Director Chief Operating Officer and Treasurer /s/ Kristine E. Hoefler /s/ Wesley Hoffman - ---------------------------------- ------------------------------- Kristine E. Hoefler - Chief Financial Wesley Hoffman - Director Officer (Principal Financial and Accounting Officer) - ---------------------------------- ------------------------------- Paul Arsenault - Director Thomas G. King - Director /s/ John Lindroth - --------------------------------- ------------------------------- Bernard A. Bouschor - Director John Lindroth - Director /s/ John P. Miller - --------------------------------- ------------------------------- C. Ronald Dufina - Director John P. Miller - Director EXHIBIT INDEX Number Exhibit 3.1 Articles of Incorporation, as amended, incorporated herein by reference to exhibit 3.1 of the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999. 3.2 Bylaws, as amended, incorporated herein by reference to exhibit 3.2 of the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999. 10.1 Stock Option Plan, incorporated by reference to the Registrant's definitive proxy statement for its annual meeting of shareholders held April 21, 1994. 10.2 Deferred Compensation, Deferred Stock, and Current Stock Purchase Plan for Nonemployee Directors. 10.3 North Country Financial Corporation Stock Compensation Plan. 10.4 North Country Financial Corporation 1997 Directors' Stock Option Plan. 10.5 North Country Financial Corporation 2000 Stock Incentive Plan 10.6 Employment Contract dated July 1, 1994 between North Country Bank and Trust and Ronald G. Ford, incorporated herein by reference to exhibit 10(c) of the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995. 10.7 Amendment to Employment Contract dated July 26, 1996 between North Country Bank and Trust and Ronald G. Ford, incorporated herein by reference to exhibit 10(d) of the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996. 10.8 Second Amendment to Employment Agreement dated August 18, 1999, between the Corporation and Ronald G. Ford, incorporated herein by reference to exhibit 10.2 of the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999. 10.9 Consulting Agreement dated September 15, 1999 between the Corporation and Ronald G. Ford, incorporated herein by reference to exhibit 10.1 of the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999. 10.10 Management Continuity Agreement dated May 22, 1996 between the Corporation and Sherry Littlejohn incorporated herein by reference to exhibit 10.3 of the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999. 10.11 First Amendment to Employment Contract dated August 18, 1999 between the Corporation and Sherry Littlejohn, incorporated herein by reference to exhibit 10.4 of the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999. 10.12 North Country Financial Corporation Supplemental Executive Retirement Plan, incorporated herein by reference to exhibit 10.6 of the Registrant's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999. 10.13 Lease Agreement commencing March 1, 2000, by and among C. Ronald Dufina, Mary McCourt Dufina and North Country Bank & Trust. 13 1999 Annual Report to Shareholders. This exhibit, except for those portions expressly incorporated by reference in this filing, is furnished for the information of the Securities and Exchange Commission and is not deemed "filed" as part of this filing. 21 Subsidiaries of the Registrant. 23 Consent of Independent Public Accountants. 27 Financial Data Schedule - year ended December 31, 1999. MW379878_6.DOC
EX-10.2 2 DEFERRED COMPENSATION PLAN DEFERRED COMPENSATION PLAN FIRST MANISTIQUE CORPORATION DEFERRED COMPENSATION, DEFERRED STOCK AND CURRENT STOCK PURCHASE PLAN FOR NON-EMPLOYEE DIRECTORS 1. Purpose. The First Manistique Corporation Deferred Compensation, Deferred Stock and Current Stock Purchase Plan for Non-Employee Directors ("Plan") has been adopted to provide an opportunity for each non- employee director of First Manistique Corporation ("FMC") and FMC subsidiaries to defer his or her director fees or to increase, on a current basis, his or her ownership of shares of FMC's common stock. 2. Eligibility. Each director of FMC or a subsidiary of FMC which adopts this Plan ("Subsidiary Bank") who is not an officer or employee of FMC or of any Subsidiary Bank is eligible to participate in the Plan ("Eligible Director"). 3. Administration. The Plan shall be administered by FMC's Corporate Executive Committee (the "Plan Administrator"), who shall have the authority to interpret the Plan and to adopt procedures for implementing the Plan. 4. FMC Common Stock. The shares of stock subject to purchase or the equivalent to be credited to a participant's account under the Plan shall be the shares of FMC's common stock (the "FMC Common Stock"). Shares issued and delivered to participants under the Plan may be either newly issued shares or shares purchased by FMC and reissued. Subject to adjustment as described below, the maximum number of shares of common stock that may be purchased or credited under the Plan is 50,000. If FMC shall at any time increase or decrease the number of its outstanding shares of FMC Common Stock or change in any way the rights and privileges of such shares by means of the payment of a stock dividend or any other distribution upon such shares payable in FMC Common Stock, or through a stock split, subdivision, consolidation, combination, reclassification, or recapitalization involving the FMC Common Stock, or in case of the merger or consolidation of FMC with or into another organization, then, in any such event, the numbers, rights and privileges of the shares issuable or credited under the Plan shall be increased, decreased or changed in like manner as if such shares had been issued and outstanding, fully paid, and nonassessable at the time of such occurrence. 5. Compensation Affected by Participation in the Plan. An Eligible Director may specify in his or her Election to Participate that all, but not less than all, of an Eligible Director's meeting fees, if any, and all or part (in integral multiples of 25%) of an Eligible Director's annual retainer fees that would otherwise be payable in cash by FMC or a Subsidiary Bank for his or her service for the calendar year following the year in which an Election to Participate is filed, or in the case of an Eligible Director who files an Election to Participate between January 1 and April 1, 1996, for that portion of the 1996 calendar year following March 31, and for all subsequent calendar years while the Election to Participate remains in effect, shall be subject to the terms of the Plan ("Plan Fees"). 6. Election to Participate. An Eligible Director becomes a participant in the Plan by filing an "Election to Participate" with the Plan Administrator not later than (except as provided in the following sentence) December 31 of the year preceding the calendar year with respect to which the Eligible Director wishes to commence participation in the Plan. With respect to 1996 only, an Eligible Director may become a participant in the Plan effective as of April 1, 1996, by filing an Election to Participate not later than March 31, 1996. Once filed, the Election to Participate shall continue to be effective (i) until the participant ceases to be an Eligible Director, (ii) until he or she files a subsequent Election to Participate revising any of the terms of the last election filed, or (iii) until he or she terminates an Election to Participate in the Plan by written notice to the Plan Administrator. Termination of participation shall be effective immediately at the time a participant ceases to be an Eligible Director. Other terminations of participation and changes in election shall be effective with respect to calendar years commencing after the calendar year in which the change in Election to Participate or termination notice is given. An Eligible Director who has filed a notice of termination of participation may thereafter elect to begin participating for any subsequent calendar year or years by filing a new Election to Participate. For all participants who are directors of FMC, all Elections to Participate must be made in compliance with Section 16 of the Securities Exchange Act of 1934, as amended ("Exchange Act") and the rules and regulations promulgated thereunder. 7. Contents of Election to Participate. An Election to Participate shall be made on a form prescribed by the Plan Administrator. The Election to Participate shall indicate the following: (i) the participant's Plan Fees; (ii) one of the following three accounts to which the participant wishes to have his or her Plan Fees credited (a) the Current Stock Purchase Account, (b) the Deferred Cash Investment Account, or (c) the Deferred Stock Account; (iii) the name or names of the participant's beneficiary or beneficiaries; (iv) if the participant elects the Deferred Stock Account or the Deferred Cash Investment Account, whether distributions are to be in a lump sum or in installments; and (v) if the participant has selected the Deferred Stock Account, whether lump sum distributions are to be made in cash, FMC Common Stock or a combination thereof. 8. Credits to Account. On the last day of each calendar quarter (the "Credit Date"), a participant shall receive a credit to his or her account under the Plan in an amount equal to the participant's Plan Fees earned during that quarter (the "Credited Amount"). Except as otherwise specifically provided in this Plan, transfers are not permitted between accounts. 9. Current Stock Purchase Account. If a participant has in effect on a Credit Date an Election to Participate specifying the Current Stock Purchase Account, on that Credit Date, the Credited Amount will be credited to a Current Stock Purchase Account for the benefit of the participant and will be used, together with any other cash credited to the account, to acquire directly from FMC, at a price per share equal to Fair Market Value on the Credit Date, as many whole shares of FMC Common Stock as possible using the funds credited to the Current Stock Purchase Account of that participant. The shares will be issued and delivered to the participant within five (5) business days after the Credit Date. Any Credited Amount remaining in a participant's account will be carried forward for investment under the terms of the Plan at the next Credit Date, unless a participant shall have terminated his or her participation in the Plan in which case such cash balance will be distributed to the terminated participant. Notwithstanding the foregoing, no shares of FMC Common Stock will be purchased for the Current Stock Purchase Account of a participant, who is a director of FMC, until the participant's Election to Participate designating the Current Stock Purchase Account has been in effect for at least six (6) months prior to the relevant Credit Date. 10. Credits to Deferred Cash Investment Account. If a participant has in effect on a Credit Date an Election to Participate specifying the Deferred Cash Investment Account, on that Credit Date, the Credited Amount will be credited to a Deferred Cash Investment Account for the benefit of the participant. In addition, an "Appreciation Factor" (as herein defined) will be credited on the Credit Date to the account as to all funds that were credited to the account for the entire quarter that ends on the Credit Date just as if such funds had been invested during the quarter and earning at the rate of the applicable Appreciation Factor. Initially, the Appreciation Factor available under the Plan will be a rate of interest equal to the rate of interest paid by First Northern Bank & Trust on its 6-month certificates of deposit issued on the business day nearest the beginning of the quarter for which the Appreciation Factor is to be credited. The Appreciation Factor may be changed from time to time by resolution of the FMC Board of Directors but it may not exceed the prime rate of interest charged by First Northern Bank & Trust. 11. Credits to Deferred Stock Account. If a participant has in effect on a Credit Date an Election to Participate specifying the Deferred Stock Account, on that Credit Date, the Credited Amount will be credited to the Deferred Stock Account for that participant and shall be converted into "FMC Stock Units" which shall be equal in number to the number of shares (rounded to the nearest 100th of a share) determined by dividing the Credited Amount by the Fair Market Value of a share of FMC Common Stock on the Credit Date. In addition, each time a dividend is paid on FMC Common Stock, a participant shall receive a credit to his or her Deferred Stock Account. The amount of the dividend credit shall be a number of FMC Stock Units equal to the number of shares (rounded to the nearest 100th of a share) determined by multiplying the dividend amount per share by the number of FMC Stock Units credited to the participant's Deferred Stock Account as of the record date for the dividend and dividing the product by the Fair Market Value on the dividend payment date. Notwithstanding the foregoing, no FMC Stock Units shall be credited to the Deferred Stock Account of a participant, who is a director of FMC, until the participant's Election to Participate designating the Deferred Stock Account has been in effect for at least six (6) months prior to the relevant Credit Date. 12. Distribution of Deferred Account Balances. No amount credited to a participant's Deferred Cash Investment Account or a participant's Deferred Stock Account shall be distributed prior to the termination of his or her service as an Eligible Director. (a) Retirement-Deferred Cash Investment Account. If a participant retires from service as an Eligible Director, the participant's Deferred Cash Investment Account shall be distributed to the participant commencing as of January 15 of the fiscal year of FMC which occurs after the end of the year in which the participant retired from service as an Eligible Director. Distribution of the Deferred Cash Investment Account may be made in a lump sum, in five (5) annual installments or ten (10) annual installments, payable as of January 15 of each year during the distribution period, consistent with the participant's first filed Election to Participate, unless the Plan Administrator, in its sole discretion, approves of a different distribution schedule requested by the participant in a later filed Election to Participate. A retired director's Deferred Cash Investment Account balance during any distribution period shall continue to be adjusted by an Appreciation Factor just as if the director had not retired. After adjusting the retired director's Deferred Cash Investment Account by the Appreciation Factor each year, the account balance will be divided by the number of annual installments yet to be paid or distributed to the retired director and the quotient will be the distribution to be made to the retired director at that time. (b) Retirement-Deferred Stock Account - Lump Sum Distribution. Unless a participant has elected pursuant to his or her Election to Participate to receive payment of his or her Deferred Stock Account in installments, FMC Stock Units credited to the participant's Deferred Stock Account shall be payable in full in cash or in whole shares of FMC Common Stock (together with cash in lieu of a fractional share), or in a combination of cash and FMC Common Stock, as elected in the participant's last filed Election to Participate, on January 15 of the fiscal year of FMC which occurs after the end of the fiscal year in which the participant retired from service as an Eligible Director. Amounts distributed in cash, including cash in lieu of fractional shares, shall be determined based upon the Fair Market Value of FMC Common Stock on the day immediately preceding the date of payment. (c) Retirement-Deferred Stock Account- Installment Distribution. If a participant has elected pursuant to his or her Election to Participate to have his or her Deferred Stock Account paid in cash in annual installments, as of January 15 following the year in which the participant retired from service as an Eligible Director, the cash equivalent of the FMC Stock Units credited to the participant's Deferred Stock Account shall be transferred to a Deferred Cash Investment Account on behalf of the retired director and distribution shall be made in accordance with the provisions of this Plan relating to distribution of Deferred Cash Investment Accounts in installments. The cash equivalent transferred to the Deferred Cash Investment Account shall be determined by converting the FMC Stock Units to a cash balance by multiplying the number of shares deemed credited as of December 31 of the year in which the participant retired by the Fair Market Value of FMC Common Stock on that date. (d) Termination Other Than Retirement. If a participant's service as an Eligible Director terminates because of his or her death or for any other reason, other than retirement, or if a retired director dies following his or her retirement while receiving distributions pursuant to this Plan, the participant's entire account balance shall be distributed as of the January 15 of FMC's fiscal year following the year in which the director died or his or her services as an Eligible Director otherwise terminated, provided, however, if this period is less than one (1) year, the Plan Administrator, in its discretion, may extend the time for final distribution up to a period of twelve (12) months following the director's death or other termination of service. (e) Distributions to Beneficiaries. Each participant shall have the right to designate a beneficiary or beneficiaries to succeed to the right to receive distributions of the participant's account maintained under this Plan in the event of a participant's death. If a participant fails to designate a beneficiary, or if the designated beneficiary dies without a contingent beneficiary being designated, distribution of the participant's account shall be made to the participant's estate. No designation of a beneficiary shall be valid unless in writing signed by the participant, dated and filed with the Plan Administrator. Designated beneficiaries may be changed from time to time without consent of any prior beneficiaries upon filing the beneficiary portion of the Election to Participate form with the Plan Administrator. 13. Nonassignability. No right to receive payments under this Plan nor any shares of FMC Common Stock credited to a participant's Current Stock Purchase or Deferred Stock Account shall be assignable or transferable by participant other than by will or the laws of descent and distribution. The designation of a beneficiary by a participant under this Plan does not constitute a transfer. 14. Unfunded Plan. It is intended that this Plan constitute an "unfunded plan" with respect to the Deferred Cash Investment Accounts and the Deferred Stock Accounts of the participants. FMC may authorize the creation of trusts or other arrangements to meet the obligations created under the Plan as long as FMC determines that the existence of such trusts or other arrangements is consistent with the "unfunded" status of the Plan. Any liability of FMC to any person with respect to any of the accounts established under the Plan shall be based solely upon contractual obligations that may be created pursuant to the Plan. No such obligation of FMC shall be deemed to be secured by any pledge of, or other encumbrance on, any property of FMC. Benefits payable under this Plan shall be an unsecured obligation of FMC, and to the extent that any person acquires a right to receive payments or distributions from FMC under the Plan, such right will be no greater than of any unsecured general creditor of FMC. 15. Trust For Deferred Stock Account. If FMC so chooses, it may, as to credits to the Deferred Stock Accounts, make contributions in cash or in shares of FMC Common Stock to a trust. Any cash contributions shall be used by the trustee to purchase shares of FMC Common Stock within ten (10) business days after the deposit of the funds. The purchase of shares may be made by the trustee in brokerage transactions or by private purchase, including purchase from FMC. All shares held by the trust shall be held in the name of the trustee. All FMC Common Stock or cash held in a trust shall be held on a commingled basis and shall be subject to the claims of general creditors of FMC. All FMC Common Stock held in any such trust shall be voted by the trustee in its discretion. 16. Fair Market Value Defined. As long as the FMC Common Stock is not actively traded in any recognized market, the term "Fair Market Value" as used in this Plan shall mean the average price per share at which shares of FMC Common Stock were bought and sold during the three (3) preceding months in transactions known to management involving 100 or more shares between purchasers and sellers none of whom are directors or officers of FMC or any subsidiary of FMC. If the shares of FMC Common Stock are actively traded in any recognized market, the "Fair Market Value" as used in the Plan shall mean the average of the last reported sales price of FMC Common Stock as of the close of business for each of the last twenty (20) trading days ending the day immediately preceding the day as of which "Fair Market Value" is to be determined. 17. Retirement Defined. As used in this Plan, the terms "retirement" and "retire" shall mean voluntary or involuntary resignation, termination of service based upon attainment of a mandatory retirement age or termination of service as a result of not being reelected. 18. Rules of Construction. Headings are given to the sections of the Plan solely as a convenience to facilitate reference. The reference to any statute, regulation or provision of law shall be construed to refer to any amendment to or successor of such provision of law. The Plan shall be construed and interpreted in accordance with Michigan law. The Plan is intended to be construed so that participation in the Plan will be exempt from Section 16(b) of the Exchange Act pursuant to regulations and interpretations issued from time to time by the Securities and Exchange Commission. 19. Withholding. No later than the date as of which an amount first becomes includable in the gross income of a participant for federal income tax purposes with respect to any participation under the Plan, the participant shall pay to FMC, or make arrangements satisfactory to FMC regarding the payment of, any federal, state, local or foreign taxes of any kind required by law to be withheld with respect to such amount. 20. Regulatory Restrictions. All certificates for shares of FMC Common Stock or other securities delivered under the Plan shall be subject to such stock transfer orders and other restrictions as FMC may deem advisable under the rules, regulations and other requirements of FMC, any stock exchange or stock market upon which the FMC Common Stock is then listed or traded and any applicable Federal, state or foreign securities law, and FMC may cause a legend or legends to be placed on any such certificates to make appropriate reference to such restrictions. 21. Amendment and Termination. The FMC Board of Directors may at any time terminate, suspend or amend this Plan. However, no such action shall be taken with respect to Plan Fees credited to the account of a participant under this Plan prior to the time of the action unless the FMC Board of Directors determines that the action would not be materially adverse to the participants in the Plan. In addition, no amendment may become effective until shareholder approval is obtained if the amendment (i) except as expressly provided in the Plan, increases the aggregate number of shares of FMC Common Stock that are subject to the Plan, (ii) materially increases the benefits accruing to participants under the Plan, (iii) modifies the eligibility requirements for participation in the Plan, or (iv) requires approval by FMC's shareholders under Section 16 of the Exchange Act or the rules or regulations promulgated thereunder. 22. Effective Date of Plan. The Plan will become effective on January 1, 1996; however, if the Plan is not approved by a majority of the votes cast at a duly held meeting of the FMC shareholders at which a quorum representing a majority of all outstanding voting stock is, either in person or by proxy, present and voting on the Plan, on or before May 1, 1996, the Plan shall terminate and be of no force or effect and any Plan Fees credited to any accounts under the Plan will be immediately distributed to the participants in accordance with their interests in their respective accounts. EX-10.3 3 STOCK COMPENSATION PLAN FIRST MANISTIQUE CORPORATION STOCK COMPENSATION PLAN ARTICLE 1 ESTABLISHMENT AND PURPOSE OF THE PLAN 1.1 Establishment of the Plan. First Manistique Corporation, a Michigan corporation (the "Company"), hereby establishes a stock compensation plan to be known as the "First Manistique Corporation Stock Compensation Plan" (the "Plan"), as set forth in this document. The Plan permits the granting of stock options, restricted stock, and other stock-based awards to key employees of the Company and its subsidiaries. 1.2 Purpose of the Plan. The purpose of the Plan is to promote the long-term success of the Company for the benefit of the Company's shareholders, through stock-based compensation, by aligning the personal interests of the Company's key employees with those of its shareholders. The Plan is also designed to allow key employees to participate in the Company's future, as well as to enable the Company to attract, retain and award such employees. Compensation related to Awards under the Plan is generally intended to qualify as "performance-based compensation" under Section 162(m) of the Internal Revenue Code of 1986, as amended ("Code"). 1.3 Term of Plan. No Awards shall be granted pursuant to the Plan on or after the tenth anniversary of the Effective Date ("Termination Date"), provided that Awards granted prior to the Termination Date may extend beyond that date. ARTICLE 2 DEFINITIONS For purposes of this Plan, the following terms shall have the meanings set forth below: 2.1 Award means any award under this Plan of any Options, Restricted Stock, Performance Shares or Other Stock-Based Award. 2.2 Award Agreement means an agreement evidencing the grant of an Award under this Plan. Awards under the Plan shall be evidenced by Award Agreements that set forth the details, conditions and limitations for each Award, as established by the Committee and shall be subject to the terms and conditions of the Plan. 2.3 Award Date means the date that an Award is made, as specified in an Award Agreement. 2.4 Board means the Board of Directors of the Company. 2.5 Change in Control is defined in Article 12. 2.6 Code means the Internal Revenue Code of 1986, as amended. 2.7 Committee means the Committee, as specified in Article 3, appointed by the Board to administer the Plan, no members of which shall be eligible to receive an Award pursuant to the Plan. 2.8 Common Stock means the Common Stock, no par value per share, of the Company. 2.9 Disability means permanent and total disability as determined under the rules and guidelines established by the Committee for purposes of the Plan. 2.10 Effective Date means January 15, 1997. 2.11 Employee means a salaried employee (including officers and directors who are also employees) of the Company or a Subsidiary. 2.12 Fair Market Value means, as long as the Common Stock is not actively traded in any recognized market, the average price per share at which shares of Common Stock were bought and sold during the three (3) preceding months in transactions known to management of the Company involving 100 or more shares between purchasers and sellers none of whom are directors or officers of the Company or any Subsidiary. If the shares of Common Stock are actively traded in any recognized market, the "Fair Market Value" as used in the Plan shall mean the average of the last reported sales price of Common Stock as of the close of business for each of the last twenty (20) trading days ending the day immediately preceding the day as of which "Fair Market Value" is to be determined. 2.13 Incentive Stock Option or ISO means an option to purchase shares of Common Stock granted under Article 6, which is designated as an Incentive Stock Option and is intended to meet the requirements of Section 422 of the Code. 2.14 Non-Employee Director has the meaning set forth in Rule 16b-3(b)(3)(i) or any successor definition adopted by the Securities and Exchange Commission. 2.15 Nonqualified Stock Option or NQSO means an option to purchase shares of Common Stock, granted under Article 6, which is not an Incentive Stock Option. 2.16 Option means an Incentive Stock Option or a Nonqualified Stock Option. 2.17 Option Price means the price at which a share of Common Stock may be purchased by a Participant pursuant to an Option, as determined by the Committee. 2.18 Other Stock-Based Award means an Award under Article 9 of this Plan that is valued in whole or in part by reference to, or is payable in or otherwise based on, Common Stock. 2.19 Participant means an Employee of the Company or a Subsidiary who holds an outstanding Award granted under the Plan. 2.20 Permitted Transferee means (i) the spouse, a child, or a grandchild of a Participant (each an "Immediate Family Member"), (ii) a trust for the exclusive benefit of a Participant and/or one or more Immediate Family Members, or (iii) a partnership or limited liability company whose only partners or members are a Participant and/or one or more Immediate Family Members. 2.21 Performance Shares means an Award granted under Article 8 of this Plan evidencing the right to receive Common Stock or cash of an equivalent value at the end of a specified performance period and upon achievement of specified performance goals or objectives. 2.22 Retirement (including Normal, Early and Disability Retirement) means the termination of a Participant's employment with the Company or a Subsidiary with eligibility for normal, early or disability retirement benefits under the terms of the Company's profit sharing plan, as amended and in effect at the time of such termination of employment. 2.23 Restricted Stock means an Award granted to a Participant under Article 7 of this Plan. 2.24 Rule 16b-3 means Rule 16b-3 promulgated by the Securities and Exchange Commission under the Securities Exchange Act of 1934 (the "Act"), as amended from time to time or any successor rule. 2.25 Subsidiary means any corporation in which the Company owns directly, or indirectly through subsidiaries, at least fifty percent (50%) of the total combined voting power of all classes of stock, or any other entity (including, but not limited to, partnerships and joint ventures) in which the Company owns at least fifty percent (50%) of the combined equity thereof. 2.26 Termination of Employment means the termination of a Participant's employment with the Company or a Subsidiary. A Participant employed by a Subsidiary shall also be deemed to incur a Termination of Employment if the Subsidiary ceases to be a Subsidiary and the Participant does not immediately thereafter become an Employee of the Company or another Subsidiary. ARTICLE 3 ADMINISTRATION 3.1 The Committee. The Plan shall be administered by a Committee designated by the Board consisting of not less than three (3) directors who shall be appointed from time to time by the Board, each of whom shall qualify as a Non-Employee Director. Initially, the Committee shall consist of all directors of the Company who are Non- Employee Directors. 3.2 Committee Authority. Subject to the Company's Articles of Incorporation, Bylaws and the provisions of this Plan, the Committee shall have full authority to grant Awards to key Employees of the Company or a Subsidiary. Awards may be granted singly, in combination, or in tandem. The authority of the Committee shall include the following: (a) To select the key Employees of the Company or a Subsidiary to whom Awards may be granted under the Plan; (b) To determine whether and to what extent Options, Restricted Stock, Performance Shares and Other Stock-Based Awards, or any combination thereof are to be granted under the Plan; (c) To determine the number of shares of Common Stock to be covered by each Award; (d) To determine the terms and conditions of any Award Agreement, including, but not limited to, the Option Price, any vesting restriction or limitation, any vesting schedule or acceleration thereof, or any forfeiture restrictions or waiver thereof, regarding any Award and the shares Common Stock relating thereto, based on such factors as the Committee shall determine in its sole discretion; (e) To determine whether, to what extent and under what circumstances grants of Awards are to operate on a tandem basis and/or in conjunction with or apart from other cash compensation arrangement made by Company other than under the terms of this Plan; (f) To determine under what circumstances an Award may be settled in cash, Common Stock, or a combination thereof; and (g) To determine to what extent and under what circumstances shares of Common Stock and other amounts payable with respect to an Award shall be deferred. The Committee shall have the authority to adopt, alter and repeal such administrative rules, guidelines and practices governing the Plan as it shall, from time to time, deem advisable, to interpret the terms and provisions of the Plan and any Award issued under the Plan (including any Award Agreement) and to otherwise supervise the administration of the Plan. However, the Committee shall take no action which will impair any Award previously granted under the Plan or cause the Plan or the Award not to meet the requirements of Rule 16b-3. A majority of the Committee shall constitute a quorum, and the acts of a majority of a quorum at any meeting, or acts reduced to or approved in writing by a majority of the members of the Committee, shall be the valid acts of the Committee. The interpretation and construction by the Committee of any provisions of the Plan or any Award granted under the Plan shall be final and binding upon the Company, the Board and Participants, including their respective theirs, executors and assigns. No member of the Board or the Committee shall be liable for any action or determination made in good faith with respect to the Plan or an Award granted hereunder. ARTICLE 4 COMMON STOCK SUBJECT TO THE PLAN Subject to adjustment as provided in Section 12.1, the maximum aggregate number of shares of Common Stock which may be issued under this Plan shall not exceed 200,000 shares, which may be either unauthorized and unissued Common Stock or issued Common Stock reacquired by the Company ("Plan Shares"). The number of Plan Shares shall be reduced by any Shares of Common Stock which are covered by, or issued pursuant to, options granted under the First Manistique Corporation 1997 Directors' Stock Option Plan. Determinations as to the number of Plan Shares that remain available for issuance under the Plan shall be made in accordance with such rules and procedures as the Committee shall determine from time to time, which shall be consistent with the requirements of Rule 16b-3 and such interpretations thereof. If an Award expires unexercised or is forfeited, cancelled, terminated or settled in cash in lieu of Common Stock, the shares of Common Stock that were theretofore subject (or potentially subject) to such Award may again be made subject to an Award Agreement; provided, however, that any such shares subject to a forfeited or cancelled Award shall not again be made subject to an Award Agreement to any Participant who received, directly or indirectly, any of the benefits of ownership of the securities underlying such Award, excluding the right to vote such shares. ARTICLE 5 ELIGIBILITY The persons who shall be eligible to receive Awards under the Plan shall be such key Employees as the Committee shall select from time to time. In making such selections, the Committee shall consider such factors as the Committee in its discretion shall deem relevant. Participants may hold more than one Award, but only on the terms and subject to the restrictions set forth in the Plan and their respective Award Agreements. ARTICLE 6 STOCK OPTIONS 6.1 Options. Options may be granted alone or in addition to other Awards granted under this Plan. Each Option granted under this Plan shall be either an Incentive Stock Option ("ISO") or a Nonqualified Stock Option ("NQSO"). 6.2 Grants. The Committee shall have the authority to grant to any Participant one or more Incentive Stock Options, Nonqualified Stock Options, or both types of Options. To the extent that any Option does not qualify as an Incentive Stock Option (whether because of its provisions or the time or manner of its exercise or otherwise), such Option or the portion thereof which does not qualify shall constitute a separate Nonqualified Stock Option. 6.3 Incentive Stock Options. Anything in the Plan to the contrary notwithstanding, no term of this Plan relating to Incentive Stock Options shall be interpreted, amended or altered, nor shall any discretion or authority granted under the Plan be so exercised, so as to disqualify the Plan under Section 422 of the Code, or, without the consent of the Participants affected, to disqualify any Incentive Stock Option under such Section 422. An Incentive Stock Option shall not be granted to an individual who, on the date of grant, owns stock possessing more than ten percent (10%) of the total combined voting power of all classes of stock of the Company. The aggregate Fair Market Value, determined on the Award Date of the shares of Common Stock with respect to which one or more Incentive Stock Options (or other incentive stock options within the meaning of Section 422 of the Code, under all other option plans of the Company) granted on or after January 1, 1987, that are exercisable for the first time by a Participant during any calendar year shall not exceed the $100,000 limitation imposed by Section 422(d) of the Code. 6.4 Terms of Options. Options granted under the Plan shall be evidenced by Award Agreements in such form as the Committee shall, from time to time approve, which Agreement shall comply with and be subject to the following terms and conditions: (a) Option Price. The Option Price per share of Common Stock purchasable under an Option shall be determined by the Committee at the time of grant but shall be not less than one hundred percent (100%) of the Fair Market Value of the Common Stock at the Award Date. (b) Option Term. The term of each Option shall be fixed by the Committee, but no Option shall be exercisable more than ten (10) years after the date the Option is granted. (c) Exercisability. Except as provided in Section 12.2, no Option shall be exercisable in either in whole or in part prior to the first anniversary of the Award Date. Thereafter, an Option shall be exercisable at such time or times and subject to such terms and conditions as shall be determined by the Committee and set forth in the Award Agreement. If the Committee provides that any Option is exercisable only in installments, the Committee may at any time waive such installment exercise provisions, in whole or in part, based on such factors as the Committee may determine. (d) Method of Exercise. Subject to whatever installment exercise and waiting period provisions apply under subsection (c) above, Options may be exercised in whole or in part at any time during the term of the Option, by giving written notice of exercise to the Company specifying the number of shares to be purchased. Such notice shall be accompanied by payment in full of the purchase price in such form as the Committee may accept. Notwithstanding the foregoing, an Option shall not be exercisable with respect to less than 100 shares of Common Stock unless the remaining shares covered by an Option are fewer than 100 shares. If and to the extent determined by the Committee in its sole discretion at or after grant, payment in full or in part may also be made in the form of Common Stock owned for at least six months by the Participant (and for which the Participant has good title free and clear of any liens and encumbrances) or Restricted Stock, or by reduction in the number of shares issuable upon such exercise based, in each case, on the Fair Market Value of the Common Stock on the last trading date preceding payment as determined by the Committee (without regard to any forfeiture restrictions applicable to Restricted Stock). No shares of stock shall be issued until payment has been made. A Participant shall generally have the rights to dividends or other rights of a shareholder with respect to shares subject to the Option when the optionee has given written notice of exercise, has paid for such shares as provided herein, and, if requested, has given the representation described in Section 13.1 of the Plan. Notwithstanding the foregoing, if payment in full or in part has been made in the form of Restricted Stock, an equivalent number of shares of Common Stock issued on exercise of the Option shall be subject to the same restrictions and conditions, and during the remainder of the Restriction Period [as defined in Section 7.3(a)], applicable to the shares of Restricted Stock surrendered therefor. (e) Nontransferability of Options. No Option may be sold, transferred, pledged, assigned, or otherwise alienated or hypothecated, other than by will or by the laws of descent and distribution, provided, however, a Nonqualified Stock Option may be transferred, without consideration, to a Permitted Transferee if the Participant satisfies such conditions to the transfer as may be required by the Committee. A Permitted Transferee shall succeed to all rights and benefits (except any right to further transfer of the Option) and be subject to all obligations and limitations applicable to the original Participant. However, such rights and benefits (except any right to further transfer of the Option), and obligations and limitations shall be determined as if the original Participant continued to hold the Option, whereby provisions of this Plan dealing with termination of employment, retirement, disability or death of a Participant will continue to refer to the original Participant regardless of whether a Nonqualified Stock Option has been transferred to a Permitted Transferee. The Company shall have no obligation to notify a Permitted Transferee of the termination of employment, retirement, disability, or death of a Participant. Further, all Options shall be exercisable, during the Participant's lifetime, only by such Participant, or, in the case of a Nonqualified Stock Option, by a Participant or a Permitted Transferee, as the case may be. The designation of a person entitled to exercise an Option after a person's death will not be deemed a transfer. (f) Termination of Employment for Reasons other than Retirement, Disability, or Death. Upon Termination of Employment for any reason other than Retirement or on account of Disability or death, each Option held by the Participant shall, to the extent rights to purchase shares under such Option have accrued at the date of such Termination of Employment and shall not have been fully exercised, be exercisable, in whole or in part, at any time within a period of three (3) months following Termination of Employment, subject, however, to prior expiration of the term of such Options and any other limitations on the exercise of such Options in effect at the date of exercise. (g) Termination of Employment for Retirement or Disability. Upon Termination of Employment by reason of Retirement or Disability, each Option held by such Participant shall, to the extent rights to purchase shares under the Option have accrued at the date of such Retirement or Disability and shall not have been fully exercised, remain exercisable in whole or in part, for a period of three (3) years following such Termination of Employment, subject, however, to prior expiration according to its terms and other limitations imposed by the Plan. If the Participant dies after such Retirement or Disability, the Participant's Options shall be exercisable in accordance with Section 6.4(h) below. (h) Termination of Employment for Death. Upon Termination of Employment due to death, each Option held by such Participant shall, to the extent rights to purchase shares under the Options have accrued at the date of death and shall not have been fully exercised, be exercisable, in whole or in part, by the personal representative of the Participant's estate or by any person or persons who shall have acquired the Option directly from the Participant by bequest or inheritance only under the following circumstances and during the following periods: (i) if the Participant dies while employed by the Company or a Subsidiary, at any time within three (3) years after his death, or (ii) if the Participant dies during the extended exercise period following Termination of Employment specified in Section 6.4(g), at any time within the longer of such extended period or one (1) year after death, subject, however, in any case, to the prior expiration of the term of the Option and any other limitation on the exercise of such Option in effect at the date of exercise. (i) Termination of Options. Any Option that is not exercised within whichever of the exercise periods specified in Sections 6.4(f), (g) or (h) is applicable shall terminate upon expiration of such exercise period. (j) Purchase and Settlement Provisions. The Committee may at any time offer to purchase an Option previously granted, based on such terms and conditions as the Committee shall establish and communicate to the Participant at the time that such offer is made. ARTICLE 7 RESTRICTED STOCK 7.1 Awards of Restricted Stock. Shares of Restricted Stock may be issued either alone or in addition to other Awards granted under the Plan. The Committee shall determine the eligible persons to whom, and the time or times at which, grants of Restricted Stock will be made, the number of shares to be awarded, the price (if any) to be paid by the Participant, the time or times within which such Awards may be subject to forfeiture, the vesting schedule and rights to acceleration thereof, and all other terms and conditions of the Awards. The Committee may condition the grant of Restricted Stock upon the achievement of specific business objectives, measurements of individual or business unit or Company performances, or such other factors as the Committee may determine. The provisions of Restricted Stock awards need not be the same with respect to each Participant, and such Awards to individual Participants need not be the same in subsequent years. 7.2 Awards and Certificates. A prospective Participant selected to receive a Restricted Stock Award shall not have any rights with respect to such Award, unless and until such Participant has executed an Award Agreement evidencing the Award and has delivered a fully executed copy thereof to the Company, and has otherwise complied with the applicable terms and conditions of such Award. Further, such Award shall be subject to the following conditions: (a) Acceptance. Awards of Restricted Stock must be accepted within a period of 20 days (or such shorter period as the Committee may specify at grant) after the Award Date, by executing an Award Agreement and by paying whatever price (if any) the Committee has designated for such shares of Restricted Stock. (b) Legend. Each Participant receiving a Restricted Stock Award shall be issued a stock certificate in respect of such shares of Restricted Stock. Such certificate shall be registered in the name of such Participant, and shall bear an appropriate legend referring to the terms, conditions, and restrictions applicable to such Award, substantially in the following form: "The transferability of this certificate and the shares of stock represented hereby are subject to the terms and conditions (including forfeiture) of the First Manistique Corporation Stock Compensation Plan and related Award Agreement entered into between the registered owner and the Company, dated _______. Copies of such Plan and Agreement are on file in the offices of the Company, 130 South Cedar, Manistique, Michigan 49854." (c) Custody. The Committee may require that the stock certificates evidencing such shares be held in custody by the Company until the restrictions thereon shall have lapsed, and that, as a condition of any award of Restricted Stock, the Participant shall have delivered a duly signed stock power, endorsed in blank, relating to the Common Stock covered by such Award. 7.3 Restrictions and Conditions. The shares of Restricted Stock awarded pursuant to this Plan shall be subject to the following restrictions and conditions: (a) Restriction Period. Subject to the provisions of this Plan and the Award Agreement, during a period set by the Committee (the "Restriction Period"), the Participant shall not be permitted to sell, transfer, pledge, or assign shares of Restricted Stock awarded under this Plan. Subject to these limits, the Committee, in its sole discretion, may provide for the lapse of such restrictions in installments and may accelerate or waive such restrictions in whole or in part, based on service, performance and/or such other factors or criteria as the Committee may determine. (b) Rights as Shareholder. Except as provided in this subsection (b) and subsection (a) above, the Participant shall have, with respect to the shares of Restricted Stock, all of the rights of a holder of shares of Common Stock of the Company including the right to receive any dividends. The Committee, in its sole discretion, as determined at the time of Award, may permit or require the payment of dividends to be deferred. If any dividends or other distributions are paid in shares of Common Stock, such shares shall be subject to the same restrictions on transferability and forfeitability as the shares of Restricted Stock with respect to which they were paid. (c) Termination of Employment. Subject to the applicable provisions of the Award Agreement and this Article 7, upon Termination of Employment for any reason during the Restriction Period, all Restricted Shares still subject to restriction will vest or be forfeited in accordance with the terms and conditions established by the Committee as specified in the Award Agreement. (d) Lapse of Restrictions. If and when the Restriction Period expires without a prior forfeiture of the Restricted Stock, the certificates for such shares shall be delivered to the Participant. ARTICLE 8 PERFORMANCE SHARES 8.1 Award of Performance Shares. Performance Shares may be awarded either alone or in addition to other Awards granted under this Plan. The Committee shall determine the eligible persons to whom and the time or times at which Performance Shares shall be awarded, the number of Performance Shares to be awarded to any person, the duration of the period (the "Performance Period") during which, and the conditions under which, receipt of the Performance Shares will be deferred, and the other terms and conditions of the Award in addition to those set forth in Section 8.2, as specified in the Award Agreement. The Committee may condition the grant of Performance Shares upon the achievement of specific business objectives, measurements of individual or business unit or Company performance, or such other factors or criteria as the Committee shall determine. The provisions of the award of Performance Shares need not be the same with respect to each Participant, and such Awards to individual Participants need not be the same in subsequent years. 8.2 Terms and Conditions. Performance Shares awarded pursuant to this Article 8 shall be subject to the following terms and conditions: (a) Nontransferability. Subject to the provisions of this Plan and the related Award Agreement, Performance Shares may not be sold, assigned, transferred, pledged or otherwise encumbered during the Performance Period. At the expiration of the Performance Period, share certificates or cash of an equivalent value (as the Committee may determine in its sole discretion) shall be delivered to the Participant, or his legal representative, in a number equal to the shares covered by the Award Agreement. (b) Dividends. Unless otherwise determined by the Committee at the time of Award, amounts equal to any cash dividends declared during the Performance Period with respect to the number of shares of Common Stock covered by a Performance Share Award will not be paid to the Participant. (c) Termination of Employment. Subject to the provisions of the Award Agreement and this Article 8, upon Termination of Employment for any reason during the Performance Period for a given Award, the Performance Shares in question will vest or be forfeited in accordance with the terms and conditions established by the Committee at or after grant. (d) Accelerated Vesting. Based on service, performance and/or such other factors or criteria as the Committee may determine and set forth in the Award Agreement, the Committee may, at or after grant, accelerate the vesting of all or any part of any award of Performance Shares and/or waive the deferral limitations for all or any part of such Award. ARTICLE 9 OTHER STOCK-BASED AWARDS 9.1 Other Awards. Other Awards of Common Stock and other Awards that are valued in whole or in part by reference to, or are payable in or otherwise based on, Common Stock ("Other Stock-Based Awards"), may be granted either alone or in addition to or in tandem with Options, Restricted Stock or Performance Shares. Subject to the provisions of this Plan, the Committee shall have authority to determine the persons to whom and the time or times at which such Awards shall be made, the number of shares of Common Stock to be awarded pursuant to such awards, and all other conditions of the Awards. The Committee may also provide for the grant of Common Stock under such Awards upon the completion of a specified performance period. The provisions of Other Stock-Based Awards need not be the same with respect to each Participant and such Awards to individual Participants need not be the same in subsequent years. 9.2 Terms and Conditions. Other Stock-Based Awards made pursuant to this Article 9 shall be set forth in an Award Agreement and shall be subject to the following terms and conditions: (a) Nontransferability. Subject to the provisions of this Plan and the Award Agreement, shares of Common Stock subject to Awards made under this Article 9 may not be sold, assigned, transferred, pledged, or otherwise encumbered prior to the date on which the shares are issued, or, if later, the date on which any applicable restriction, performance or deferral period lapses. (b) Dividends. Unless otherwise determined by the Committee at the time of Award, subject to the provisions of this Plan and the Award Agreement, the recipient of an Award under this Article 9 shall be entitled to receive, currently or on a deferred stock basis, dividends or other distributions with respect to the number of shares of Common Stock covered by the Award. (c) Vesting. Any Award under this Article 9 and any Common Stock covered by any such Award shall vest or be forfeited to the extent so provided in the Award Agreement, as determined by the Committee, in its sole discretion. (d) Waiver of Limitation. In the event of the Participant's Retirement, Disability or death, or in cases of special circumstances, the Committee may, in its sole discretion, waive in whole or in part any or all of the limitations imposed hereunder (if any) with respect to any or all of an Award under this Article 9. (e) Price. Common Stock issued or sold under this Article 9 may be issued or sold for no cash consideration or such consideration as the Committee shall determine and specify in the Award Agreement. ARTICLE 10 TERMINATION OR AMENDMENT OF THE PLAN The Board may at any time amend, discontinue or terminate this Plan or any part thereof (including any amendment deemed necessary to ensure that the Company may comply with any applicable regulatory requirement); provided, however, that, unless otherwise required by law, the rights of a Participant with respect to Awards granted prior to such amendment, discontinuance or termination, may not be impaired without the consent of such Participant and, provided further, without the approval of the Company's shareholders, no amendment may be made which would (i) increase the aggregate number of shares of Common Stock that may be issued under this Plan (except by operation of Section 12.1); (ii) change the definition of Employees eligible to receive Awards under this Plan; (iii) decrease the option price of any Option to less than one hundred percent (100%) of the Fair Market Value on the date of grant for an Option; (iv) extend the maximum option period under Section 6.4(b) of the Plan; or (v) cause the Plan not to comply with either Rule 16b-3, or any successor rule under the Act, or Section 162(m) of the Code. The Committee may amend the terms of any Award theretofore granted, prospectively or retroactively, but, subject to Section 12.2, no such amendment or other action by the Committee shall impair the rights of any Participant without the Participant's consent. Awards may not be granted under the Plan after the Termination Date, but Awards granted prior to such date shall remain in effect or become exercisable pursuant to their respective terms and the terms of this Plan. ARTICLE 11 UNFUNDED PLAN This Plan is intended to constitute an "unfunded" plan for incentive and deferred compensation. With respect to any payment not yet made to a Participant by the Company, nothing contained herein shall give any such Participant any rights that are greater than those of a general creditor of the Company. ARTICLE 12 ADJUSTMENT PROVISIONS 12.1 Antidilution. Subject to the provisions of this Article 12, if the outstanding shares of Common Stock are increased, decreased, or exchanged for a different number or kind of shares or other securities, or if additional shares or new or different shares or other securities are distributed with respect to such shares of Common Stock or other securities, through merger, consolidation, sale of all or substantially all of the assets of the Company, reorganization, recapitalization, reclassification, stock dividend, stock split, reverse stock split or other distribution with respect to such shares of Common Stock or other securities, an appropriate and proportionate adjustment may be made in (i) the maximum number and kind of shares provided in Article 4 of the Plan, (ii) the number and kind of shares or other securities subject to the then outstanding Awards, and (iii) the price for each share or other unit of any other securities subject to the then outstanding Awards. 12.2 Change in Control. Notwithstanding Section 12.1, upon the occurrence of a Change in Control, all Awards then outstanding under the Plan will be fully vested and exercisable and all restrictions will immediately cease, unless, in the case of a transaction described in clause (iii) or (iv) in the following definition of Change in Control, provisions are made in connection with such transaction for the continuance of the Plan and the assumption of or the substitution for such Awards of new Awards covering the stock of a successor employer corporation, or a parent or subsidiary thereof, with appropriate adjustments as to the number and kind of shares and prices. As used in this Plan, "Change in Control" shall mean a change in control of the Company of a nature that would be required to be reported in response to Item 6(e) of Schedule 14A of Regulation 14A promulgated under the Act; provided that, for purposes of this Plan, a Change in Control shall be deemed to have occurred if: (i) any Person (other than the Company) is or becomes the "beneficial owner" (as defined in Rule 13d-3 under the Act), directly or indirectly, of securities of the Company which represent 20% or more of the combined voting power of the Company's then outstanding securities; (ii) during any period of two (2) consecutive years, individuals who at the beginning of such period constitute the Board cease for any reason to constitute at least a majority thereof, unless the election, or the nomination for election, by the Company's stockholders, of each new director is approved by a vote of at least two-thirds (2/3) of the directors then still in office who were directors at the beginning of the period but excluding any individual whose initial assumption of office occurs as a result of either an actual or threatened election contest (as such term is used in Rule 14a-11 of Regulation 14A promulgated under the Act) or other actual or threatened solicitation of proxies or consents by or on behalf of a person other than the Board; (iii) there is consummated any consolidation or merger of the Company in which the Company is not the continuing or surviving corporation or pursuant to which shares of Common Stock are converted into cash, securities or other property, other than a merger of the Company in which the holders of Common Stock immediately prior to the merger have the same proportionate ownership of common stock of the surviving corporation immediately after the merger; (iv) there is consummated any consolidation or merger of the Company in which the Company is the continuing or surviving corporation in which the holders of Common Stock immediately prior to the merger do not own at least fifty percent (50%), or such greater percentage as shall be set in any agreement with any Participant, or more of the stock of the surviving corporation immediately after the merger; (v) there is consummated any sale, lease, exchange or other transfer (in one transaction or a series of related transactions) of all, or substantially all, of the assets of the Company; or (vi) the stockholders of the Company approve any plan or proposal for the liquidation or dissolution of the Company. 12.3 Adjustments by Committee. Any adjustments pursuant to this Article 12 will be made by the Committee, whose determination as to what adjustments will be made and the extent thereof will be final, binding, and onclusive. No fractional interest will be issued under the Plan on account of any such adjustments. Only cash payments will be made in lieu of fractional shares. ARTICLE 13 GENERAL PROVISIONS 13.1 Legend. The Committee may require each person purchasing shares pursuant to an Award under the Plan to represent to and agree with the Company in writing that the Participant is acquiring the shares without a view to distribution thereof. In addition to any legend required by this Plan, the certificates for such shares may include any legend which the Committee deems appropriate to reflect any restrictions on transfer. All certificates for shares of Common Stock delivered under the Plan shall be subject to such stock transfer orders and other restrictions as the Committee may deem advisable under the rules, regulations and other requirements of the Securities and Exchange Commission, any stock exchange upon which the Stock is then listed, any applicable Federal or state securities law, and any applicable corporate law, and the Committee may cause a legend or legends to be put on any such certificates to make appropriate reference to such restrictions. 13.2 No Right to Employment. Neither this Plan nor the grant of any Award hereunder shall give any Participant or other Employee any right with respect to continuance of employment by the Company or any Subsidiary, nor shall there be a limitation in any way on the right of the Company or any Subsidiary by which an Employee is employed to terminate his or her employment at any time. 13.3 Withholding of Taxes. The Company shall have the right to deduct from any payment to be made pursuant to this Plan, or to otherwise require, prior to the issuance or delivery of any shares of Common Stock or the payment of any cash hereunder, payment by the Participant of, any Federal, state or local taxes required by law to be withheld. Unless otherwise prohibited by the Committee, each Participant may satisfy any such withholding tax obligation by any of the following means or by a combination of such means: (a) tendering a cash payment; (b) authorizing the Company to withhold from the shares otherwise issuable to the Participant a number of shares having a Fair Market Value as of the "Tax Date", less than or equal to the amount of the withholding tax obligation; or (c) delivering to the Company unencumbered shares owned by the Participant having a Fair Market Value, as of the Tax Date, less than or equal to the amount of the withholding tax obligation. The "Tax Date" shall be the date that the amount of tax to be withheld is determined. 13.4 No Assignment of Benefits. No Option, Award or other benefit payable under this Plan shall, except as otherwise specifically provided in this Plan or as otherwise specifically provided by law, be subject in any manner to anticipation, alienation, attachment, sale, transfer, assignment, pledge, encumbrance or charge, and any attempt to anticipate, alienate, attach, sell, transfer, assign, pledge, encumber or charge, any such benefits shall be void, and any such benefit shall not in any manner be liable for or subject to the debts, contracts, liabilities, engagements or torts of any person who shall be entitled to such benefit, nor shall it be subject to attachment or legal process for or against such person. 13.5 Governing Law. This Plan and actions taken in connection herewith shall be governed and construed in accordance with the laws and in the courts of the state of Michigan. 13.6 Application of Funds. The proceeds received by the Company from the sale of shares of Common Stock pursuant to Awards granted under this Plan will be used for general corporate purposes. 13.7 Rights as a Shareholder. Except as otherwise provided in an Award Agreement, a Participant shall have no rights as a shareholder of the Company until he or she becomes the holder of record of Common Stock. 13.8 Cancellation of Prior Plans. Upon approval of this Plan by the Board, all prior restricted stock plans and all prior employee stock option plans shall be cancelled, terminated, and of no further force or effect, except insofar as any such prior plan relates to restricted stock awards or options outstanding immediately prior to approval of this Plan. ARTICLE 14 SHAREHOLDER APPROVAL The Plan shall be effective on the Effective Date and shall be submitted for approval by the shareholders of the Company at the Annual Meeting of Shareholders in 1997. If the shareholders do not approve the Plan, it, and any action taken under the Plan, shall be void and of no effect. EX-10.4 4 1997 DIRECTORS' STOCK OPTION PLAN FIRST MANISTIQUE CORPORATION 1997 DIRECTORS' STOCK OPTION PLAN Section 1. Establishment and Purpose. First Manistique Corporation hereby establishes a stock option plan to be named the First Manistique Corporation 1997 Directors' Stock Option Plan, for certain directors of the Company's banking subsidiaries. The purpose of the Plan is: (i) to provide a non-cash method of compensating directors that will directly promote the interests of the stockholders because the rewards made available to the directors would be directly related to the banking subsidiaries' returns on equity, and thereby indirectly related to the Company's return on equity and the price of its stock; and (ii) to aid the Company and its subsidiaries in competing with other enterprises for the services of new directors needed to help ensure the Company's continued progress. Section 2. Definitions. (a) Act means the Securities Exchange Act of 1934, as amended from time to time. (b) Administrator means the three most senior executive officers f the Company. (c) Authority means the shares of Stock authorized for issuance pursuant to the Plan. (d) Average Equity means the average equity of the Subsidiary as computed in preparing the audited annual financial statements of the Company. (e) Board of Directors means the Board of Directors of the Company. (f) Company means First Manistique Corporation, a corporation organized and existing under the laws of the State of Michigan. (g) Eligible Director means a director of a Subsidiary who is not otherwise an officer or employee of the Company or of any Subsidiary. If a person is a director of more than one Subsidiary, such person shall, for purposes of this Plan, be an Eligible Director only with respect to the Subsidiary having the largest amount of assets. (h) Effective Date means the date this Plan is approved by the Company's stockholders. (i) Fair Market Value means, as long as the Common Stock is not actively traded in any recognized market, the average price per share at which shares of Common Stock were bought and sold during the three (3) preceding months in transactions known to management of the Company involving 100 or more shares between purchasers and sellers none of whom are directors or officers of the Company or any Subsidiary. If the shares of Common Stock are actively traded in any recognized market, the "Fair Market Value" as used in the Plan shall mean the average of the last reported sales price of Common Stock as of the close of business for each of the last twenty (20) trading days ending the day immediately preceding the day as of which "Fair Market Value" is to be determined. (j) Grant Date means, with respect to each Option, the day that an Eligible Director is granted the Option. (k) Net Income means the net income of a Subsidiary as computed in preparing the audited annual financial statements of the Company. (l) Option means an option granted under this Plan to acquire Stock. (m) Optionee means the person to whom an Option is granted. (n) Option Agreement means an Agreement issued to each Eligible Director with respect to each Option. (o) Option Date means the first business day after an annual meeting of Stockholders with respect to each Option. (p) Permitted Transferee means either (i) the spouse, a child, or a grandchild of an Optionee (each an "Immediate Family Member"), (ii) a trust for the exclusive benefit of an Optionee and/or one or more Immediate Family Members, or (iii) a partnership or limited liability company whose only partners or members are an Optionee and/or one or more Immediate Family Members. (q) Plan means the First Manistique Corporation 1997 Directors' Stock Option Plan. (r) Prior Year means the immediately preceding fiscal year of the Company. (s) Post-Death Representative(s) means the executor(s) or administrator(s) of the Optionee's estate or the person or persons to whom the Optionee's rights under his or her Option pass by Optionee's will or the laws of descent and distribution. (t) ROE means the percentage obtained by dividing the Average Equity of a Subsidiary for a fiscal year into the Net Income of the Subsidiary for that fiscal year. (u) Rule 16b-3 means Rule 16b-3 promulgated by the Securities and Exchange Commission under the Act, as amended from time to time or any successor rule. (v) Shares means shares of Stock. (w) Stock means authorized and unissued shares of common stock, no par value, of the Company and includes Shares which may be reacquired by the Company. (x) Subsidiary means any banking corporation in which the Company owns directly, or indirectly through subsidiaries, at least fifty percent (50%) of the total combined voting power of all classes of stock, or any other entity (including, but not limited to, partnerships and joint ventures) in which the Company owns at least fifty percent (50%) of the combined equity thereof. Any dispute as to the meaning of Average Equity, Net Income, or ROE shall be resolved by the independent public accountants then serving the Company. Section 3. Administration. The Plan shall be administered on behalf of the Company by the Administrator. The Administrator may adopt, amend, and rescind from time to time such administrative rules, and may take from time to time such actions, with or without notice to affected Optionees or Permitted Transferees, as the case may be, as the Administrator may deem appropriate to implement or interpret the provisions of this Plan or to exercise any authority, discretion, or power explicitly or implicitly granted to the Administrator under this Plan, provided that no such rules or actions may be inconsistent with the provisions of this Plan or Rule 16b-3, or any successor rule, under the Act (in the case of Optionees affected thereby). The Administrator may make rules or take action pursuant to this Section by any appropriate means. Section 4. Shares Reserved Under the Plan. (a) The maximum number of Shares which may be issued in connection with Options granted hereunder is 200,000, less any Shares which are covered by, or issued pursuant to, awards granted under the First Manistique Corporation Stock Compensation Plan (the "Stock Compensation Plan"). At any time during the existence of the Plan, there shall be reserved for issuance upon the exercise of Options granted under the Plan an amount of Stock (subject to adjustment as provided in Section 10 hereof) equal to 200,000 Shares, less (i) the total number of Shares issued pursuant to all such exercises which shall have been made prior to such time, and (ii) the total number of Shares issued prior to such time pursuant to awards granted under the Stock Compensation Plan. (b) When an Option is granted, the total number of Shares issuable upon complete exercise thereof shall be charged against the maximum number of Shares of the Authority. When the Option is exercised, no additional charge shall be made against the Authority. If an exercise price is paid in Shares owned by the Optionee or the Permitted Transferee, as the case may be, such Shares shall not be added to the Authority. (c) If an Option terminates in whole in part, by expiration or for any other reason except exercise of such Option, the Shares previously charged to the Authority upon grant of the Option shall be restored to the Authority, and shall again be available for issuance under the Authority, for as long as such Authority continues, as if such Shares had never been subject to an Option. Section 5. Granting of Options. Each person who is an Eligible Director on the Option Date in 1998, and each person who is an Eligible Director in each subsequent year on the Option Date, shall receive an Option to acquire Shares at the Fair Market Value on such date in accordance with the following schedule: * if the Subsidiary's ROE for the Prior Year was less than 13%, No Shares; * if the Subsidiary's ROE for the Prior Year was 13% but less than 14%, 200 Shares; * if the Subsidiary's ROE for the Prior Year was 14% but less than 15%, 300 Shares; * if the Subsidiary's ROE for the Prior Year was 15% or greater, 400 Shares. References in this Section 5 to Subsidiary relate to the Subsidiary of which the Eligible Director served as a director during the prior year. Section 6. Terms of Options. Notwithstanding any other provisions of the Plan, each Option shall be evidenced by an Option Agreement, which shall include the substance of the following terms and conditions: (a) The option price for each Share covered by an Option shall be an amount equal to one hundred percent (100%) of the Fair Market Value of a Share on the Grant Date of such Option. (b) The Option by its terms shall not be transferable by the Optionee otherwise than by will or by the laws of descent and distribution; provided, however, an Option may be transferred, without consideration, to a Permitted Transferee if the Optionee satisfies such conditions to the transfer as may be required by the Administrator. A Permitted Transferee shall succeed to all rights and benefits (except any right to further transfer of the Option) and be subject to all obligations and limitations applicable to the original Optionee. However, such rights and benefits (except any right to further transfer of the Option), and obligations and limitations shall be determined as if the original Optionee continued to hold the Option, whereby provisions of this Plan dealing with termination of service or death of an Optionee will continue to refer to the original Optionee regardless of whether an Option has been transferred to a Permitted Transferee. The Company shall have no obligation to notify a Permitted Transferee of the termination of service or death of an Optionee. The designation of a beneficiary entitled to exercise an Option upon the Optionee's death does not constitute a transfer. The Option shall be exercisable, during the Optionee's lifetime, only by the Optionee or a Permitted Transferee, as the case may be. (c) Options shall become fully exercisable on the first anniversary of the Grant Date. No Option shall be exercisable after the expiration of ten years from the Grant Date. Notwithstanding the foregoing, if the Optionee dies before his or her service as a director terminates, the Option shall be exercisable as to all Shares, to the extent not previously exercised. (d) The Option shall not be exercisable after the earlier of (i) the last day of the thirty- sixth month after the month in which the Optionee's service as a director terminates for any reason or (ii) the expiration of ten years from the Grant Date. Section 7. No Right to Remain a Director. The grant of an Option shall not create any right in any person to remain as a director of the Company. Section 8. Exercise of Option. (a) An Option shall be exercisable only (1) upon payment to the Company on the exercise date of cash in the full amount of the option price of the Shares with respect to which the Option is exercised, (2) upon delivery to the Company on the exercise date of certificates representing unencumbered Shares, owned by the Optionee or the Permitted Transferee, as the case may be, having a Fair Market Value, on the last trading date preceding such exercise and delivery, equal to the full amount of the purchase price of the Shares with respect to which the Option is exercised, or (3) a combination of (1) and (2), except that (i) any portion of the exercise price representing a fraction of a Share shall in any event be paid in cash, and (ii) no Shares of Stock which have been held for less than six months may be delivered in payment of the exercise price of an Option. If and to the extent determined by the Administrator, in its sole discretion, at or after the Grant Date, payment in full or in part may also be made by reduction in the number of Shares issuable upon exercise of the Option based on the Fair Market Value of the Stock on the last trading date preceding the exercise. (b) An Optionee or Permitted Transferee, as the case may be, shall have none of the rights of a stockholder with respect to Shares subject to the Option until Shares are issued to the Optionee or Permitted Transferee upon the exercise of an Option. Section 9. General Provisions. The Company shall not be required to issue or deliver any certificate for Shares to an Optionee or Permitted Transferee, as the case may be, upon the exercise of an Option prior to: (a) If requested by the Company, the filing with the Company by the Optionee, the Permitted Transferee or the Optionee's Post-Death Representative, as the case may be, of a representation in writing that at the time of such exercise it is their then present intention to acquire the Shares being purchased for investment and not for resale, and/or the completion of any registration or other qualification of such Shares under any state or federal laws or rulings or regulations of any governmental regulatory body, which the Company shall determine to be necessary or advisable; and (b) The obtaining of any other consent, approval, or permit from any state or federal governmental agency which the Administrator shall, in the Administrator's absolute discretion upon the advice of counsel, determine to be necessary or advisable. Section 10. Adjustment Provisions. In the event any stock dividend is declared upon the Stock or in the event outstanding Shares of Stock shall be changed into or exchanged for a different number, class or kind of Shares of Stock or other securities of the Company or another corporation, whether by reason of a split or combination of shares, recapitalization, reclassification, reorganization, merger, consolidation, or otherwise, the maximum number of Shares of Stock which may be charged against the Authority shall be appropriately and proportionately adjusted and in any such event a corresponding adjustment shall be made changing the number, class or kind of Shares of Stock or other securities which are deliverable upon the exercise of any Option theretofore granted without change in the total price applicable to the unexercised portion of such Option, but with a corresponding adjustment in the price for each Share or other securities covered by the unexercised portion of such Option. In the event the Company is merged, consolidated, or reorganized with another corporation, appropriate provision shall be made for the continuance of outstanding Options with respect to shares of the succeeding parent corporation following a merger, or with respect to shares of the consolidated or reorganized corporation in the case of a consolidation or reorganization, and to prevent their dilution or enlargement compared to the total shares issuable therein in respect of the Stock. Adjustments under this Section 10 shall be made in an equitable manner by the Administrator, whose determination shall be conclusive and binding on all concerned. Section 11. Duration, Amendment, and Termination. The Board of Directors may at any time terminate the Plan or make such amendments thereto as it shall deem advisable and in the best interests of the Company, without further action on the part of the Stockholders of the Company; provided, however, that no such termination or amendment shall, without the consent of the Optionee or Permitted Transferee, as the case may be, adversely affect or impair the rights of such Optionee or Permitted Transferee, as the case may be, and provided further, that, unless the Stockholders of the Company shall have first approved thereof, no amendment of this Plan shall be made whereby: (a) the total number of Shares which may be granted under the Plan to all individuals, or to any of them, shall be increased, except by operation of the adjustment provisions of Section 10 hereof; (b) the term of the Options shall be extended; (c) the minimum option price shall be decreased; or (d) the class of eligible persons to whom options may be granted shall be changed. The period during which Options may be granted under the Authority shall terminate on the tenth anniversary of the Effective Date, unless the Plan earlier shall have been terminated as provided above. Section 12. Date of Granting Options. All Options granted under the Plan shall be in writing and shall be granted as of a Grant Date. Section 13. Stockholder Approval. The Plan is to be submitted for approval by the Stockholders of the Company at the 1997 annual meeting and shall be effective only upon receiving such approval. Section 14. Miscellaneous. (a) Subject to the provisions of applicable federal law, the Plan shall be administered, construed and enforced according to the internal laws of the State of Michigan, excluding its conflict of law rules, and applicable federal law and in courts situated in the State of Michigan. (b) Transactions under this Plan are intended to comply with applicable conditions for exemption under Rule 16b-3. To the extent any provision of this Plan or action by the Administrator fails to so comply, it shall be deemed null and void, to the extent permitted by law and deemed advisable by the Administrator. (c) The invalidity of any particular provision herein shall not invalidate all or any part of the remainder of the Plan, but such remainder shall be and remain valid in all respects as fully as the law will permit. EX-10.5 5 2000 STOCK INCENTIVE PLAN NORTH COUNTRY FINANCIAL CORPORATION 2000 STOCK INCENTIVE PLAN 1. Objectives. The North Country Financial Corporation 2000 Stock Incentive Plan is designed to attract and retain certain selected key employees and non-employee directors whose skills and talents are important to the Company's operations, and reward them for making major contributions to the success of the Company. These objectives are accomplished by making awards under the Plan, thereby providing Participants with a proprietary interest in the growth and performance of the Company. 2. Definitions. (a) "Award" shall mean the grant of a Stock Option to a Participant pursuant to such terms, conditions, performance requirements, and limitations as the Committee may establish in order to fulfill the objectives of the Plan. (b) "Award Agreement" shall mean an agreement between North Country Financial Corporation and a Participant that sets forth the terms, conditions, performance requirements, and limitations applicable to an Award. (c) "Board" shall mean the Board of Directors of North Country Financial Corporation. (d) "Cause" shall mean termination of a Participant's employment with the Company for (i) any failure of the Participant to substantially perform his duties with the Company (other than by reason of illness) which occurs after the Company has delivered to the Participant a demand for performance which specifically identifies the manner in which the Company believes the Participant has failed to perform his duties, and the Participant fails to resume performance of his duties on a continuous basis within 14 days after receiving such demand, (ii) the commission by the Participant of any act of dishonesty or disloyalty involving the Company or its business, or (iii) the conviction of the Participant of a felony or misdemeanor which, in the reasonable judgment of the Committee, is substantially related to the employee's position with the Company or substantially impairs the Participant's ability to perform his duties with the Company. (e) "Change in Control" shall mean any of the following: (i) The acquisition by any individual, entity or "group" (within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934, as amended (the "Exchange Act")) of beneficial ownership (within the meaning of Rule 13d-3 promulgated under the Exchange Act) of thirty-three percent (33%) or more of either (A) the then outstanding shares of common stock of the Company (the "Outstanding Company Common Stock") or (B) the combined voting power of the then outstanding voting securities of the Company entitled to vote generally in the election of directors (the "Outstanding Company Voting Securities"); provided, however, that the following acquisitions of common stock shall not constitute a Change in Control: (A) any acquisition directly from the Company (excluding an acquisition by virtue of the exercise of a conversion privilege or by one person or a group of persons acting in concert), (B) any acquisition by the Company, (C) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any corporation controlled by the Company or (D) any acquisition by any corporation pursuant to a reorganization, merger, statutory share exchange or consolidation which would not be a Change in Control under paragraph (iii) of this Section 2(e); or (ii) During any period of two consecutive years, individuals who at the beginning of such period constitute the entire Board shall cease for any reason to constitute a majority thereof unless the election, or the nomination for election by the Company's stockholders, of each new director was approved by a vote of at least two-thirds of the directors then still in office who were directors at the beginning of the period. (iii) Consummation of a reorganization, merger, statutory share exchange or consolidation, unless, following such reorganization, merger, statutory share exchange or consolidation, (A) more than two thirds (2/3) of, respectively, the then outstanding shares of common stock of the corporation resulting from such reorganization, merger, statutory share exchange or consolidation and the combined voting power of the then outstanding voting securities of such corporation entitled to vote generally in the election of directors is then beneficially owned, directly or indirectly, by all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Company Common Stock and Outstanding Company Voting Securities immediately prior to such reorganization, merger, statutory share exchange or consolidation in substantially the same proportions as their ownership, immediately prior to such reorganization, merger, statutory share exchange or consolidation, (B) no person (excluding the Company, any employee benefit plan (or related trust) of the Company or such corporation resulting from such reorganization, merger, statutory share exchange or consolidation and any person beneficially owning, immediately prior to such reorganization, merger, statutory share exchange or consolidation, directly or indirectly, thirty-three percent (33%) or more of the Outstanding Company Common Stock or Outstanding Voting Securities, as the case may be) beneficially owns, directly or indirectly, thirty-three percent (33%) or more of, respectively, the then outstanding shares of common stock of the corporation resulting from such reorganization, merger, statutory share exchange or consolidation or the combined voting power of the then outstanding voting securities of such corporation, entitled to vote generally in the election of directors and (C) at least a majority of the members of the Board of the corporation resulting from such reorganization, merger, statutory share exchange or consolidation were members of the Board at the time of the execution of the initial agreement providing for such reorganization, merger or consolidation; or (iv) Consummation of (A) a complete liquidation or dissolution of the Company or (B) the sale or other disposition of all or substantially all of the assets of the Company, other than to a corporation, with respect to which following such sale or other disposition, (1) more than two thirds (2/3) of, respectively, the then outstanding shares of common stock of such corporation and the combined voting power of the then outstanding voting securities of such corporation entitled to vote generally in the election of directors is then beneficially owned, directly or indirectly, by all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Company Common Stock and Outstanding Company Voting Securities immediately prior to such sale or other disposition in substantially the same proportion as their ownership, immediately prior to such sale or other disposition, of the Outstanding Company Common Stock and Outstanding Company Voting Securities, as the case may be, (2) no person (excluding the Company and any employee benefit plan (or related trust) of the Company or such corporation and any person beneficially owning, immediately prior to such sale or other disposition, directly or indirectly, thirty-three percent (33%) or more of the Outstanding Company Common Stock or Outstanding Company Voting Securities, as the case may be) beneficially owns, directly or indirectly, thirty-three percent (33%) or more of, respectively, the then outstanding shares of common stock of such corporation or the combined voting power of the then outstanding voting securities of such corporation entitled to vote generally in the election of directors and (C) at least a majority of the members of the board of directors of such corporation were members of the Board at the time of the execution of the initial agreement or action of the Board providing for such sale or other disposition of assets of the Company. (f) "Code" shall mean the Internal Revenue Code of 1986, as amended from time to time. (g) "Committee" shall mean the Compensation Committee of the Board of Directors of North Country Financial Corporation which shall be comprised of at least two non-employee directors. (h) "Common Stock" shall mean the authorized and issued or unissued no par value common stock of North Country Financial Corporation. (i) "Company" shall mean North Country Financial Corporation and/or a subsidiary including subsidiaries of subsidiaries and partnerships and other business ventures in which North Country Financial Corporation has a significant equity interest, as determined in the sole discretion of the Committee. (j) "Fair Market Value" shall mean the closing sale price of the Common Stock on the Nasdaq National Market as reported in the Midwest Edition of the Wall Street Journal for the date in question, provided that, if no sales of Common Stock were made on said exchange on that date, "Fair Market Value" shall mean the closing sale price of Common Stock as reported for the most recent preceding day on which sales of Common Stock were made on such exchange, or, failing any such sales, such other price as the Committee may determine in conformity with pertinent law and regulations of the Treasury Department. (k) "Participant" shall mean a current or prospective employee or non-employee director of the Company to whom an Award has been made under the Plan. (l) "Plan" shall mean the North Country Financial Corporation 2000 Stock Incentive Plan. (m) "Retirement" shall mean, in the case of an employee, termination of employment with the Company at the earlier of (i) after attaining age 65 or (ii) after attaining age 55 with ten years of service with the Company or any predecessor in interest to the Company. In the case of a non- employee director, "Retirement" shall mean termination of service on the board of directors of the Company after at least three years of service on the Company's Board. (n) "Stock Option" shall mean a grant of a right to purchase a specified number of shares of Common Stock, the purchase price of which shall be not less than 100% of Fair Market Value on the date of grant. A stock option may be in the form of a nonqualified stock option or an incentive stock option ("ISO"). A nonqualified stock option is an option that does not meet the criteria of an ISO. An ISO, in addition to being subject to applicable terms, conditions and limitations established by the Committee, complies with Section 422 of the Code which, among other limitations, provides that the aggregate Fair Market Value (determined at the time the option is granted) of Common Stock for which ISOs are exercisable for the first time by a Participant during any calendar year shall not exceed $100,000; that ISOs shall be priced at not less than 100% of the Fair Market Value on the date of the grant (110% in the case of a Participant who is a 10% shareholder of the Company within the meaning of Section 422 of the Code); and that ISOs shall be exercisable for a period of not more than ten years (five years in the case of a Participant who is a 10% shareholder of the Company). 3. Eligibility. Current and prospective employees and non-employee directors who provide services to the Company are eligible for an Award under the Plan if they hold, or will hold, positions of responsibility and if their performance, in the judgment of the Committee or the management of the Company (if such responsibility is delegated pursuant to Section 6 hereof), can have a significant effect on the success of the Company. 4. Common Stock Available for Awards. Subject to adjustment as provided in Section 14 hereof, the number of shares that may be issued under the Plan for Awards during the term of the Plan is 500,000 shares of Common Stock, all of which may be in the form of incentive stock options. Any shares subject to an Award which are used in settlement of tax withholding obligations shall be deemed not to have been issued for purposes of determining the maximum number of shares available for issuance under the Plan. Likewise, if any Stock Option is exercised by tendering shares, either actually or by attestation, to the Company as full or partial payment for such exercise under this Plan, only the number of shares issued net of the shares tendered shall be deemed issued for purposes of determining the maximum number of shares available for issuance under the Plan. No individual shall be eligible to receive Awards aggregating more than 50,000 shares of Common Stock reserved under the Plan in any one calendar year, subject to adjustment as provided in Section 14 hereof. North Country Financial Corporation shall take whatever actions are necessary to file required documents with the U.S. Securities and Exchange Commission and any other appropriate governmental authorities and stock exchanges to make shares of Common Stock available for issuance pursuant to Awards. 5. Administration. The Plan shall be administered by the Committee, which shall have full and exclusive power to interpret the Plan, to determine which current and prospective employees and non- employee directors are Participants, to grant waivers of Award restrictions, to determine the provisions of Award Agreements and to adopt such rules, regulations and guidelines for carrying out the Plan as it may deem necessary or proper. 6. Delegation of Authority. Except to the extent prohibited by applicable law or the applicable rules of a stock exchange, the Committee may delegate to the chief executive officer and to other senior officers of the Company its duties under the Plan pursuant to such conditions or limitations as the Committee may establish. Any such delegation may be revoked by the Committee at any time. 7. Awards. The Committee shall set forth in the related Award Agreement the terms, conditions, performance requirements, and limitations applicable to each Award including, but not limited to, vesting requirements, conditions under which acceleration of vesting will occur and achievement of specific business objectives. 8. Stock Option Exercise. The price at which shares of Common Stock may be purchased under a Stock Option shall be paid in full at the time of the exercise in cash or, if permitted by the Committee, by means of tendering shares of Common Stock, which have been held by the Participant for more than six months and have not been used within the prior six-month period to exercise an option, either directly or by attestation, valued at Fair Market Value on the date of exercise, or any combination thereof. 9. Tax Withholding. The Company shall have the right to deduct applicable taxes from any Award payment and withhold, at the time of delivery or vesting of shares under the Plan, an appropriate number of shares for payment of taxes required by law or to take such other action as may be necessary in the opinion of the Company to satisfy all obligations for withholding of such taxes. The Company may defer making delivery with respect to Common Stock obtained pursuant to an Award hereunder until arrangements satisfactory to it have been made with respect to any such withholding obligation. If Common Stock is used to satisfy tax withholding, such stock shall be valued based on the Fair Market Value when the tax withholding is required to be made. 10. Amendment or Termination of the Plan. The Board may, at any time, amend or terminate the Plan; provided, however, that (a) subject to Section 14 hereof, no amendment or termination may, in the absence of written consent to the change by the affected Participant (or, if the Participant is not then living, the affected beneficiary), adversely affect the rights of any Participant or beneficiary under any Award granted under the Plan prior to the date such amendment is adopted by the Board; and (b) without further approval of the shareholders of the Company, no amendment shall increase the number of shares of Common Stock which may be issued pursuant to Awards hereunder, except for increases resulting from Section 14 hereof. 12. Termination of Employment. If the employment of a Participant terminates, or a non-employee director no longer serves on the Board, other than pursuant to paragraphs (a) through (c) of this Section 12, all unvested Awards shall immediately terminate and all vested but unexercised, deferred or unpaid Awards shall terminate 90 days after such termination of employment or service, unless the Award Agreement provides otherwise, and during such 90-day period shall be exercisable only to the extent provided in the Award Agreement. Notwithstanding the foregoing, if a Participant's employment is terminated for Cause, to the extent the Award is not effectively exercised or has not vested prior to such termination, it shall lapse or be forfeited to the Company immediately upon termination. In all events, an Award will not be exercisable after the end of its term as set forth in the Award Agreement. (a) Retirement. When a Participant's employment or service terminates as a result of Retirement, or early retirement with the consent of the Committee, the Committee (in the form of an Award Agreement or otherwise) may permit Awards to continue in effect beyond the date of Retirement, or early retirement, and/or the exercisability and vesting of any Award may be accelerated. (b) Resignation in the Best Interests of the Company. When a Participant resigns from the Company or the Board and, in the judgment of the Committee, the acceleration and/or continuation of outstanding Awards would be in the best interests of the Company, the Committee may (i) authorize, where appropriate, the acceleration and/or continuation of all or any part of Awards granted prior to such termination and (ii) permit the exercise, vesting and payment of such Awards for such period as may be set forth in the applicable Award Agreement. (c) Death or Disability of a Participant. (i) In the event of a Participant's death, the Participant's estate or beneficiaries shall have a period specified in the Award Agreement within which to receive or exercise any outstanding Award held by the Participant under such terms, and to the extent, as may be specified in the applicable Award Agreement. Rights to any such outstanding Awards shall pass by will or the laws of descent and distribution in the following order: (a) to beneficiaries so designated by the Participant; if none, then (b) to a legal representative of the Participant; if none, then (c) to the persons entitled thereto as determined by a court of competent jurisdiction. Subject to subparagraph (iii) below, Awards so passing shall be exercised or paid out at such times and in such manner as if the Participant were living. (ii) In the event a Participant is deemed by the Company to be disabled within the meaning of the Company's group long-term disability plan, or if the Company does not have such a plan, Section 22(e)(3) of the Code, the Award shall be exercisable for the period, and to the extent, specified in the Award Agreement. Awards and rights to any such Awards may be paid to or exercised by the Participant, if legally competent, or a legally designated guardian or representative if the Participant is legally incompetent by virtue of such disability. (iii) After the death or disability of a Participant, the Committee may in its sole discretion at any time (1) terminate restrictions in Award Agreements and (2) accelerate any or all installments and rights. (iv) In the event of uncertainty as to interpretation of or controversies concerning this paragraph (c) of Section 12, the Committee's determinations shall be binding and conclusive. (d) No Employment Rights. The Plan shall not confer upon any Participant any right with respect to continuation of employment by the Company or service on the Board, nor shall it interfere in any way with the right of the Company to terminate any Participant's employment or service on the Board at any time. 13. Nonassignability. Except as provided in subsection (c) of Section 12 and this Section 13, no Award under the Plan shall be assignable or transferable, or payable to or exercisable by anyone other than the Participant to whom it was granted. Notwithstanding the foregoing, the Committee (in the form of an Award Agreement or otherwise) may permit Awards, other than incentive stock options within the meaning of Section 422 of the Code, to be transferred to members of the Participant's immediate family, to trusts for the benefit of the Participant and/or such immediate family members, and to partnerships or other entities in which the Participant and/or such immediate family members own all the equity interests. For purposes of the preceding sentence, "immediate family" shall mean a Participant's spouse, issue, and spouses of his issue. 14. Adjustments. In the event of any change in the outstanding Common Stock of the Company by reason of a stock split, stock dividend, combination or reclassification of shares, recapitalization, merger, or similar event, the Committee may adjust proportionally (a) the number of shares of Common Stock (i) reserved under the Plan, (ii) available for ISOs, (iii) for which Awards may be granted to an individual Participant, and (iv) covered by outstanding Awards denominated in stock; (b) the stock prices related to outstanding Awards; and (c) the appropriate Fair Market Value and other price determinations for such Awards. In the event of any other change affecting the Common Stock or any distribution (other than normal cash dividends) to holders of Common Stock, such adjustments as may be deemed equitable by the Committee, including adjustments to avoid fractional shares, shall be made to give proper effect to such event. In the event of a corporate merger, consolidation, acquisition of property or stock, separation, reorganization or liquidation, the Committee shall be authorized to issue or assume Stock Options, whether or not in a transaction to which Section 424(a) of the Code applies, by means of substitution of new Stock Options for previously issued Stock Options or an assumption of previously issued Stock Options. 15. Notice. Any notice to the Company required by any of the provisions of the Plan shall be addressed to the president of the Company in writing, and shall become effective when it is received by his office. 17. Governing Law. The Plan and all determinations made and actions taken pursuant hereto shall be governed by the laws of the State of Michigan, without giving effect to principles of conflicts of laws, and construed accordingly. 18. Effective and Termination Dates. The effective date of the Plan is February 16, 2000. The Plan shall terminate on February 15, 2010 subject to earlier termination by the Board pursuant to Section 11, after which no Awards may be made under the Plan, but any such termination shall not affect Awards then outstanding or the authority of the Committee to continue to administer the Plan. 19. Other Benefit and Compensation Programs. Payments and other benefits received by a Participant pursuant to an Award shall not be deemed a part of such Participant's regular, recurring compensation for purposes of the termination, indemnity or severance pay law of any country and shall not be included in, nor have any effect on, the determination of benefits under any other employee benefit plan, contract or similar arrangement, unless the Committee expressly determines otherwise. EX-10.13 6 LEASE AGREEMENT LEASE AGREEMENT This Lease Agreement made and entered into this _____ day of ________, 1999, by and between C. Ronald Dufina and Mary McCourt-Dufina, of PO Box 495, Mackinac Island, Michigan, herein referred to as "Lessor", and North Country Bank & Trust, a Michigan Banking Corporation, of 130 South Cedar, Manistique, Michigan, herein referred to as "Lessee". Witnesseth: Whereas, Lessor is the owner of certain premises located in the City of Mackinac Island, Mackinac County, Michigan, and wishes to let the same; and Whereas, Lessee desires to lease said premises from Lessor; and Whereas, the parties hereto desire to enter into a lease agreement defining their respective rights, obligations and liabilities relating to the premises, and to one another; Now, therefore, in consideration of the mutual covenants and promises contained herein, it is agreed: Section I: Description and Use of Premises Lessor does hereby let to Lessee the following generally described premises: Certain premises located on the ground floor of that building known as "The Balsam Shop" a/k/a "The Old Village Inn", located on Parcel 2, Lot 105, Assessor's Plat No.3, City of Mackinac Island, Michigan, consisting of approximately 400 square feet and referred to as "Balsam Unit No.3". The demised premises are located on commercial property presently zoned "C" Commercial, by virtue of Ordinance No.278 of the Ordinances of the City of Mackinac Island, and Lessee agrees to conduct its operations in conformity therewith. Section II: Term The term of this lease shall be for a period of three (3) years, commencing on March 1, 2000, and terminating on February 28, 2003, unless sooner terminated by the implementation of further provisions of this Agreement. Lessee may renew this lease for two additional three- year terms at an annual rent calculated according to Section III of this lease. Lessee shall inform Lessor in writing at least sixty (60) days prior to the expiration of the term of this lease of Lessee's intent to exercise this option. Section III: Rent The rent for the first year of the term of this Lease shall be the sum of Eighteen Thousand, Seven Hundred Fifty-Two and 40/100 Dollars ($18,752.40), payable as follows: $3,125.40 on or before March 1, 2000; $3,125.40 on or before Aprill, 2000; $3,125.40 on or before May 1, 2000; $3,125.40 on or before June 1, 2000; $3,125.40 on or before July 1, 2000; and $3,125.40 on or before August 1, 2000. The annual rent for the remaining two years of the term of this Lease shall be adjusted on March lst annually in accordance with any change in the Consumer Price Index, Midwest Urban Consumers (a/k/a North Central Region) as of the preceding December 31, using December 31, 1999 as base 100. Section IV: Repairs, Improvements and Maintenance Lessor shall maintain and keep all exterior walls, roofs, plumbing, and electrical in good repair. Lessor shall provide snow removal service for the demised premises, as well as the demised building's roof(s), and sidewalks, as necessary. Lessee shall provide for its own trash removal on a regular basis, and shall maintain the demised premises in a clean and presentable condition. Section V: Taxes and Utilities Lessor shall pay all real estate taxes and special assessments on the demised premises; and Lessee shall pay all personal property, business and all other taxes assessed incident to the operation of its business at the demised premises. Lessor shall pay for water and sewer, and Lessee shall pay for all other utilities supplied to the premises utilized by Lessee. Section VI: Insurance Lessor shall keep the demised premises insured against loss or damage by fire, to the extent of the full insurable value thereof. Lessee may obtain and maintain, at its own expense, any insurance which it desires covering its personal property and contents situate on the demised premises. Lessee shall maintain sufficient insurance to protect both Lessor and Lessee from all claims of personal injury, including death, whether such claims are made under a Workers Compensation Act, or otherwise, which may arise from its operations under this Lease, and carry Lessor as an additional insured thereunder. Section VII: Indemnification Lessee hereby indemnifies and saves Lessor harmless from and against loss, damage and liability, occasioned by or growing out of Lessee's use and occupancy of the demised premises. Section VIII: Contingency Lessee and Lessor mutually acknowledge that this Lease Agreement is contingent upon the approval by the Financial Institution Bureau and the Federal Deposit Insurance Corporation of Lessee operating a branch bank at the location of the demised premises. In the event such approval cannot be reasonably obtained, then in such event, this Lease Agreement shall be of no force and effect. Section IX: Lessor's Remedies In the event Lessee shall breach any of the covenants contained herein, Lessor may, at its option, direct a written notice of default to Lessee at Lessee's Manistique office, directing that said default be cured within ten (10) days of the date of said notice. Failure of Lessee to cure any such breach or default may, at Lessor's election, terminate this Lease. Termination pursuant to this provision shall cause Lessee to immediately surrender and vacate the demised premises to Lessor, and upon Lessee's failure to so surrender and vacate, Lessor may initiate summary proceedings in Michigan's 92nd District Court pursuant to Chapter 57 of Michigan's Revised Judicature Act. In addition to the foregoing, Lessor shall have an entitlement to recover all costs, including actual attorney fees expended in enforcing this provision. Section X: Assignment and sub-let Lessee shall not assign its interest under this Lease, nor underlet the premises, or any portion thereof, without the prior written approval of Lessor. Section XI: Governing Law The provisions of this agreement, as well as the association of the parties hereto, shall be governed by the laws of the State of Michigan. Section XII: Counterparts This Lease may be executed in any number of counterparts, each of which shall be deemed to be an original and all of which together shall comprise but a single document. Section XIII: Corporate Approval Lessee represents that it has approved the terms and provisions of this Lease, and has authorized the undersigned individual to execute this Lease for and on behalf of said Corporation. Section XIV: Binding Effect This Lease, and all of the covenants, conditions and provisions contained herein shall inure to the benefit of and be binding upon the heirs, executors, successors and assigns of the parties hereto. In witness whereof, the parties hereto have executed this Lease Agreement the day and year first written. In the presence of: "Lessor": /s/ Steven A. Cotton /s/ C. Ronald Dufina - ------------------------ ------------------------- C. Ronald Dufina /s/ Anne M. Myers /s/ Mary McCourt-Dufina - ----------------------- ------------------------- Mary McCourt-Dufina In the presence of: "Lessee": North Country Bank & Trust, A Michigan Banking Corporation /s/ Kristine E. Hoefler /s/ Ronald G. Ford - ----------------------- -------------------------- By: (print) Ronald G. Ford Its: Chairman By: (print) Its: 2/16/00 RE: Lease Agreement for ATM Machine Space In addition to the lease agreement signed for the period of March 1,2000 -February 28, 2003, for the amount of $18,752.40. North Country Bank & Trust agrees to pay to C. Ronald Dufina and Mary McCourt-Dufina, $100.00 per month for a total of $1200.00 per year for 3 years, for the use of the ATM space in the Balsam Shop, Mackinac Island, MI. "Lessee" North Country Bank and Trust, A Michigan Banking Corporation /s/ Ronald G. Ford - --------------------------- BY: (print) Ronald G. Ford ITS: Chairman EX-13 7 ANNUAL REPORT TO SHAREHOLDERS Mission Statement NORTH COUNTRY FINANCIAL CORPORATION NORTH COUNTRY BANK AND TRUST NORTH COUNTRY FINANCIAL GROUP NORTH COUNTRY CAPITAL TRUST FIRST RURAL RELENDING COMPANY NCB REAL ESTATE COMPANY FIRST MANISTIQUE AGENCY MISSION STATEMENT NORTH COUNTRY BANK AND TRUST OR PRECEDENT HAS BEEN AN INDEPENDENT BANK SINCE 1934. OUR MISSION IS TO SERVE OUR TRADING AREA WITH QUALITY FINANCIAL SERVICES AND PRODUCTS. TO PROVIDE FOR PROFITABILITY WHICH WILL ENHANCE THE LIFESTYLES OF OUR CUSTOMERS, SHAREHOLDERS AND EMPLOYEES. TO CONTINUE TO GROW, AND MAINTAIN EXCELLENCE AND PROVIDE OUR TRADING AREA WITH INNOVATIVE BANKING SERVICES. AS AN INDEPENDENT COMMUNITY BANK, WE WILL STRIVE TO FOSTER ECONOMIC VITALITY AND CIVIC WELL BEING IN THE COMMUNITIES WE SERVE. IT IS OUR BELIEF THAT A STRONG COMMUNITY IS A PREREQUISITE TO A STRONG BANK. BASED ON OUR BELIEF THAT AS A "COMMUNITY" BANK WE BEST SERVE OUR SHAREHOLDERS, CUSTOMERS AND COMMUNITIES, IT IS OUR INTENTION TO MAINTAIN THE INDEPENDENCE OF NORTH COUNTRY BANK AND TRUST. Table of Contents Table of Contents To Our Shareholders 1 Comparative Highlights 2 Five Year Comparisons 3 Independent Auditor's Report 5 Consolidated Balance Sheets 7 Consolidated Statements of Income 8 Consolidated Statements of Changes in Shareholders' Equity 9 Consolidated Statements of Cash Flows 10 Notes to Consolidated Financial Statements 12 Selected Financial Data 32 Summary Quarterly Financial Information 33 Market Information 34 Management's Discussion and Analysis of Financial Condition and Results of Operations 35 Officers and Directors 47 To Our Shareholders Dear Shareholder: At North County Financial Corporation we are proud of our growth over the past twenty-five years. We have accomplished our goals of increasing our assets, deposits, shareholders' equity, book value per share, net income, and dividends paid to our shareholders each and every year during that time period. While continuing to build our customer base in Michigan's Upper Peninsula, our growth plans also include expanding our presence in lower Michigan. During 1999, we opened offices in Traverse City and Petoskey and purchased banking offices in Mancelona and Kaleva. These four offices compliment the Gaylord office opened in 1998. To further the growth, we are in the process of opening an office in Cadillac and a second office in Traverse City along with purchasing banking offices in Alanson and Glen Arbor. In addition to the new banking offices in lower Michigan, the Board of Directors has approved the move of the Corporation's headquarters to 3530 North Country Drive, Traverse City, Michigan. This is an exciting move for the Corporation as it will enhance the development of the lower Michigan market and will provide additional outlets for both our traditional and nontraditional banking products. Looking forward, we are taking steps to increase the liquidity of North Country Financial Corporation stock. To this end, the Corporation anticipates that, by April 18, 2000, its stock will be listed on The NASDAQ National Market System under the symbol "NCFC". We have historically seen a large demand for the Corporation's stock due to our performance record and our desire to be a leader in the financial industry. Going on NASDAQ will increase our exposure in the national market. Our stock will be closely watched by brokers, and our financial results will be compared on a more public basis with other regional banking institutions. With this national exposure, North Country Financial Corporation stock may experience a degree of short-term volatility. On behalf of the Board of Directors, we express our appreciation to you, our shareholders, for your continued confidence. We ask for your ongoing support as we enter the new millennium and embrace the many challenges that await the financial industry. Respectfully, /s/ Ronald G. Ford /s/ Michael C. Henricksen /s/ Thomas G. King ---------------------- --------------------------- ------------------ Ronald G. Ford Michael C. Henricksen Thomas G. King Chairman, President and C.E.O. Vice Chairman Vice Chairman Comparative Highlights BALANCE SHEET STATISTICS 1999 1998 % Change Assets $568,441,837 $471,380,858 20.59% Net Loans 459,758,248 405,608,135 13.35 Deposits 462,998,148 404,961,333 14.33 Shareholders' Equity 40,819,511 39,469,365 3.42 Shares of Stock Outstanding 7,000,176 7,130,760 (1.83) Book Value per Share 5.83 5.54 5.23 OPERATING STATISTICS Total Income $46,087,211 $41,148,862 12.00% Total Expense 37,996,162 35,617,742 6.68 Income before Income Taxes 8,091,049 5,531,120 46.28 Net Income 6,355,549 4,561,190 39.34 Basic Earnings Per Share 0.90 0.65 38.46 Diluted Earnings Per Share 0.89 0.64 39.06 DIVIDEND SUMMARY (Cash Dividend paid per Common Share) Quarter Ending March 31 .04 .04 June 30 .04 .04 September 30 .05 .04 December 31 .05 .05 The above summary should be read in connection with the related consolidated financial statements and notes included elsewhere in this report. BUSINESS OF THE CORPORATION North Country Financial Corporation is a registered bank holding company formed under the Bank Holding Company Act of 1956, as amended. The principal assets of the Corporation are its ownership of all of the outstanding capital stock of North Country Bank and Trust, North Country Financial Group, North Country Capital Trust, First Rural Relending Company, and First Manistique Agency. North Country Bank and Trust, headquartered in Manistique, Michigan, provides a full range of commercial and retail banking services to customers in Michigan. North Country Bank and Trust owns the outstanding stock of NCB Real Estate Company which owns several properties used by the Bank. North Country Financial Group provides tax-exempt lease/purchase financing to municipalities. North Country Capital Trust was formed solely for the issuance of trust preferred securities. First Rural Relending Company is a nonprofit lending corporation. First Manistique Agency is engaged in the selling of insurance. FORM 10-K A copy of the Annual Report to the Securities and Exchange Commission on Form 10-K is available without charge by writing Sherry Littlejohn, North Country Financial Corporation, 3530 North Country Drive, Traverse City, Michigan 49684. MARKET SUMMARY The common stock of North Country Financial Corporation has been traded in private sales since October 1976. The Corporation has approximately 2,055 shareholders of record, as of January 31, 2000. Five Year Comparisons ASSETS [bar graph] Total assets on a consolidated basis increased by 20.59% in 1999 to $568,441,837. Total assets have increased over $285,650,000 since the end of 1995, an increase of 101% in four years. [bar graph] SECURITIES Our portfolio of securities increased during 1999 to $43,342,807. This increase is based on our strategy to invest excess funds into higher earning assets created by our increased funding sources until we are able to redeploy such funds into high quality, higher yielding loan products. [bar graph] LOANS Total net loans increased 13.35% to $459,758,248 in 1999. Loan demand is strong and our primary lending objective continues to be one of selecting the highest quality credits. Total loan losses have remained at an acceptable level, and we continue to maintain a loan loss allowance above regulatory guidelines. The allowance for loan losses totaled $6,863,367 at the end of 1999, an increase of over $751,000 over 1998. We expect strong loan demand to continue, with the majority being commercial and business loans, which represent 71% of the loan portfolio. [bar graph] DEPOSITS Total deposits increased by 14.33% to $462,998,148. In 1999, we paid our depositors interest of more than $18,280,000 which goes back into our regional economy. [bar graph] SHAREHOLDERS' EQUITY During 1999, $1,350,146 was added to shareholders' equity, increasing total equity by 3.42%. In addition, cash dividends of $0.18 per share were paid to our shareholders, an increase of 5.88% over 1998. Book value per share increased to $5.83 compared to $5.54 at the end of 1998. [bar graph] NET INCOME Net income for 1999 was $6,355,549. Basic earnings per share I increased to $0.90 in 1999 from $0.65 in 1998, a 38.46% increase. Independent Auditor's Report INDEPENDENT AUDITOR'S REPORT TO THE SHAREHOLDERS OF NORTH COUNTRY FINANCIAL CORPORATION TRAVERSE CITY, MICHIGAN Independent Auditor's Report INDEPENDENT AUDITOR'S REPORT Board of Directors and Shareholders North Country Financial Corporation Traverse City, Michigan We have audited the accompanying consolidated balance sheets of North Country Financial Corporation and Subsidiaries as of December 31, 1999 and 1998, and the related consolidated statements of income, changes in shareholders' equity, and cash flows for each of the three years in the period ended December 31, 1999. 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 audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of North Country Financial Corporation and Subsidiaries at December 31, 1999 and 1998, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1999, in conformity with generally accepted accounting principles. /s/ Wipfli Ullrich Bertelson LLP ---------------------------------- Wipfli Ullrich Bertelson LLP January 28, 2000 Appleton, Wisconsin Consolidated Balance Sheets NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES December 31, 1999 and 1998 1999 1998 ASSETS Cash and due from banks $26,159,675 $16,592,703 Federal funds sold -0- 6,047,743 Cash and cash equivalents 26,159,675 22,640,446 Interest-bearing deposits in other financial institutions 679,096 -0- Securities available for sale 43,342,807 8,676,204 Total loans 466,621,615 411,720,469 Allowance for loan losses (6,863,367) (6,112,334) Net loans 459,758,248 405,608,135 Premises and equipment 19,117,811 17,938,058 Other assets 19,384,200 16,518,015 TOTAL ASSETS $568,441,837 $471,380,858 LIABILITIES AND SHAREHOLDERS' EQUITY Liabilities: Non-interest-bearing deposits $ 43,606,378 $ 42,076,502 Interest-bearing deposits 419,391,770 362,884,831 Total deposits 462,998,148 404,961,333 Borrowings 46,878,036 23,270,161 Other liabilities 5,296,142 3,679,999 Total liabilities 515,172,326 431,911,493 Guaranteed preferred beneficial interests in the Corporation's subordinated debentures 12,450,000 -0- Shareholders' equity: Preferred stock - No par value: Authorized 500,000 shares, no shares outstanding Common stock - No par value: Authorized - 18,000,000 shares Issued and outstanding - 7,000,176 and 7,130,760 shares at December 31, 1999 and 1998, respectively 16,418,081 19,436,025 Retained earnings 25,057,935 19,989,247 Accumulated other comprehensive income (deficit) (656,505) 44,093 Total shareholders' equity 40,819,511 39,469,365 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $568,441,837 $471,380,858 See accompanying notes to consolidated financial statements. Consolidated Statements of Income NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES Years Ended December 31, 1999, 1998 and 1997 1999 1998 1997 Interest income: Interest and fees on loans $40,457,210 $37,283,850 $34,525,569 Interest on securities: Taxable 1,437,755 685,870 1,030,414 Tax-exempt 232,262 31,252 35,044 Other interest income 421,879 496,987 373,010 Total interest income 42,549,106 38,497,959 35,964,037 Interest expense: Deposits 18,281,860 16,530,463 14,633,670 Borrowings 1,651,276 1,284,766 1,264,385 Subordinated debentures 668,979 -0- -0- Total interest expense 20,602,115 17,815,229 15,898,055 Net interest income 21,946,991 20,682,730 20,065,982 Provision for loan losses 1,456,544 1,199,725 1,398,201 Net interest income after provision for loan losses 20,490,447 19,483,005 18,667,781 Other income: Service fees 1,965,249 1,478,376 1,220,028 Net security gains (losses) -0- 44,504 (60,163) Other operating income 1,572,856 1,128,023 478,351 Total other income 3,538,105 2,650,903 1,638,216 Other expenses: Salaries and employee benefits 6,361,885 6,567,566 5,898,110 Occupancy expense 2,613,218 2,426,418 2,212,311 Forms and supplies 393,068 391,093 498,635 Amortization of acquisition intangibles 698,752 789,663 719,071 Legal and consulting fees 457,593 553,078 448,324 Data processing 1,369,647 1,566,382 853,841 Telephone 689,571 656,354 304,760 Courier costs 270,416 546,473 162,117 Other 3,083,353 3,105,761 3,699,752 Total other expenses 15,937,503 16,602,788 14,796,921 Income before provision for income taxes 8,091,049 5,531,120 5,509,076 Provision for income taxes 1,735,500 969,930 1,403,417 Net income $ 6,355,549 $ 4,561,190 $ 4,105,659 Earnings per share: Basic $ 0.90 $ 0.65 $ 0.58 Diluted $ 0.89 $ 0.64 $ 0.57 See accompanying notes to consolidated financial statements. Consolidated Statements of Changes in Shareholders' Equity NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES Years Ended December 31, 1999, 1998 and 1997 Accumulated Shares of Other Common Common Retained Comprehensive Stock Stock Earnings Income (Deficit) Total Balance, January 1, 1997 7,091,202 $18,879,454 $13,755,636 $(249,528) $32,385,562 Net income 4,105,659 4,105,659 Other comprehensive income: Net unrealized gain on securities available for sale 246,294 246,294 Total comprehensive income 4,351,953 Cash dividends ($.16 per share) (1,182,014) (1,182,014) Issuance of common stock 104,439 1,868,178 1,868,178 Retirement of common stock (57,171) (831,606) (831,606) Balance, December 31, 1997 7,138,470 19,916,026 16,679,281 (3,234) 36,592,073 Net income 4,561,190 4,561,190 Other comprehensive income: Net unrealized gain on securities available for sale 47,327 47,327 Total comprehensive income 4,608,517 Cash dividends ($.17 per share) (1,251,224) (1,251,224) Issuance of common stock 87,667 1,316,638 1,316,638 Retirement of common stock (95,377) (1,796,639) (1,796,639) Balance, December 31, 1998 7,130,760 19,436,025 19,989,247 44,093 39,469,365 Net income 6,355,549 6,355,549 Other comprehensive deficit: Net unrealized loss on securities available for sale (700,598) (700,598) Total comprehensive income 5,654,951 Cash dividends ($.18 per share) (1,286,861) (1,286,861) Issuance of common stock 22,407 480,036 480,036 Retirement of common stock (152,991) (3,497,980) (3,497,980) Balance, December 31, 1999 7,000,176 $16,418,081 $25,057,935 $(656,505) $40,819,511 See accompanying notes to consolidated financial statements. Consolidated Statements of Cash Flows NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES Years Ended December 31, 1999, 1998 and 1997 1999 1998 1997 Increase (decrease) in cash and cash equivalents: Cash flows from operating activities: Net income $6,355,549 $4,561,190 $4,105,659 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 1,456,544 1,199,725 1,398,201 Provision for depreciation and net amortization 2,246,864 2,073,285 1,988,487 Proceeds from loan sales 15,173,116 21,525,436 6,803,965 Loans originated for sale (15,145,844) (21,415,349) (6,745,114) (Gains) losses on sales of: Loans held for sale (27,272) (110,087) (58,851) Securities -0- (44,504) 60,163 Premises, equipment and other real estate (381,559) (102,787) 27,624 Branches (430,224) -0- -0- Change in other assets (502,598) 1,513,718 706,386 Change in other liabilities 1,610,092 185,184 (163,100) Total adjustments 3,999,119 4,824,621 4,017,761 Net cash provided by operating activities 10,354,668 9,385,811 8,123,420 Cash flows from investing activities: Net (increase) decrease in interest- bearing deposits in other financial institutions (679,096) -0- 534,622 Payment for purchases of securities available for sale (38,875,142) (7,530,434) (2,957,781) Proceeds from sale of securities available for sale -0- 3,820,310 10,151,363 Proceeds from maturities of securities available for sale 3,130,897 2,329,647 2,173,899 Net increase in loans (57,168,064) (40,349,652) (38,423,930) Proceeds from sale of premises, equipment, and other real estate 1,230,560 1,364,248 434,693 Capital expenditures (2,601,597) (2,526,058) (3,496,436) Net cash paid for branch sales (10,001,320) -0- -0- Net cash provided from acquisitions 15,503,748 -0- 32,054 Net cash used in investment activities (89,460,014) (42,891,939) (31,551,516) Consolidated Statements of Cash Flows (Continued) NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES Years Ended December 31, 1999, 1998 and 1997 1999 1998 1997 Cash flows from financing activities: Net increase in deposits $51,439,723 $44,412,648 $27,169,826 Net increase (decrease) in short-term borrowings -0- (1,195,000) (3,805,000) Proceeds from borrowings 36,000,000 10,500,000 7,842,577 Principal payments on borrowings (12,392,125) (6,858,017) (8,655,178) Net proceeds from issuance of guaranteed preferred beneficial interests in the Corporation's subordinated debentures 11,881,782 -0- -0- Proceeds from issuance of common stock 480,036 1,191,638 1,868,178 Retirement of common stock (3,497,980) (1,796,639) (831,606) Dividends paid (1,286,861) (1,251,224) (1,182,014) Net cash provided by financing activities 82,624,575 45,003,406 22,406,783 Net increase (decrease) in cash and cash equivalents 3,519,229 11,497,278 (1,021,313) Cash and cash equivalents at beginning 22,640,446 11,143,168 12,164,481 Cash and cash equivalents at end $26,159,675 $22,640,446 $11,143,168 Supplemental cash flow information: Cash paid during the year for: Interest $20,359,154 $18,077,148 $15,561,189 Income taxes 540,307 1,241,050 1,955,760 Noncash investing and financing activities: Transfer of foreclosures from loans to other real estate 1,561,407 460,795 356,856 Assets and liabilities acquired in acquisitions: Premises and equipment 285,927 -0- 969,437 Acquisition intangibles 1,680,132 -0- 2,099,287 Loans - Net -0- -0- 19,954,774 Securities -0- -0- 4,488,326 Other assets 33 -0- 134,863 Deposits (17,462,948) -0- (27,440,283) Other liabilities (6,892) -0- (238,458) Assets and liabilities divested in branch sales: Premises and equipment (65,296) -0- -0- Acquisition intangibles (369,857) -0- -0- Deposits 10,865,856 -0- -0- Other liabilities 841 -0- -0- See accompanying notes to consolidated financial statements. NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accounting policies of North Country Financial Corporation (the "Corporation") and Subsidiaries conform to generally accepted accounting principles and prevailing practices within the banking industry. Significant accounting policies are summarized below. Principles of Consolidation The consolidated financial statements include the accounts of the Corporation and its wholly owned subsidiaries, North Country Bank and Trust (the "Bank"), North Country Financial Group, North Country Capital Trust, and other minor subsidiaries, after elimination of intercompany transactions and accounts. Nature of Operations The Corporation's and the Bank's revenues and assets are derived primarily from the banking industry. The Bank's primary market area is Michigan. The Bank provides to its customers commercial, real estate, agricultural, and consumer loans, as well as a variety of traditional deposit products. A significant portion of the Bank's commercial loan portfolio consists of leases to commercial and governmental entities which are secured by various types of equipment. These leases are dispersed geographically throughout the country. While the Corporation's chief decision makers monitor the revenue streams of the various Corporation products and services, operations are managed and financial performance is evaluated on a Corporation-wide basis. Accordingly, all of the Corporation's banking operations are considered by management to be aggregated in one reportable operating segment. Use of Estimates in the Preparation of Financial Statements The preparation of 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 financial statements, and the reported amounts of revenue and expenses during the period. Actual results could differ from those estimates. Cash and Cash Equivalents For purposes of reporting cash flows, cash and cash equivalents include cash on hand, non-interest-bearing deposits in correspondent banks, and federal funds sold. Generally, federal funds are purchased and sold for one-day periods. Securities The Corporation's securities are classified and accounted for as securities available for sale. These securities are stated at fair value. Premiums and discounts are recognized in interest income using the interest method over the period to maturity. Unrealized holding gains and losses, net of tax, on securities available for sale are reported as accumulated other comprehensive income within shareholders' equity until realized. Gains and losses on the sale of securities are determined using the specific-identification method. Loans Held for Sale Loans held for sale represent originations of fixed- rate, first mortgage loans recorded at cost. The loans are sold at fair value shortly after origination based on an agreement with an outside mortgage company. NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Interest Income and Fees on Loans Interest on loans is accrued and credited to income based on the principal amount outstanding. The accrual of interest on loans is discontinued when, in the opinion of management, there is an indication that the borrower may be unable to meet payments as they become due. Upon such discontinuance, all unpaid accrued interest is reversed. Loan-origination fees are credited to income when received. Allowance for Loan Losses The allowance for loan losses includes specific allowances related to commercial loans which have been judged to be impaired. A loan is impaired when, based on current information, it is probable that the Corporation will not collect all amounts due in accordance with the contractual terms of the loan agreement. These specific allowances are based on discounted cash flows of expected future payments using the loan's initial effective interest rate or the fair value of the collateral if the loan is collateral dependent. The Corporation continues to maintain a general allowance for loan losses for loans not considered impaired. The allowance for loan losses is maintained at a level which management believes is adequate to provide for possible loan losses. Management periodically evaluates the adequacy of the allowance using the Corporation's past loan loss experience, known and inherent risks in the portfolio, composition of the portfolio, current economic conditions, and other factors. The allowance does not include the affects of expected losses related to future events or future changes in economic conditions. This evaluation is inherently subjective since it requires material estimates that may be susceptible to significant change. Loans are charged against the allowance for loan losses when management believes the collectibility of the principal is unlikely. In addition, various regulatory agencies periodically review the allowance for loan losses. These agencies may require additions to the allowance for loan losses based on their judgments of collectibility. In management's opinion, the allowance for loan losses is adequate to cover probable losses relating to specifically identified loans, as well as probable losses inherent in the balance of the loan portfolio as of the balance sheet date. Other Real Estate Other real estate is carried at the lower of cost or fair value, less estimated sales costs. Premises and Equipment Premises and equipment are stated at cost. Maintenance and repair costs are charged to expense as incurred. Gains or losses on disposition of premises and equipment are reflected in income. Depreciation is computed on the straight-line method and is based on the estimated useful lives of the assets. Acquisition Intangibles The Corporation's intangible assets include the value of ongoing customer relationships (core deposits) and the excess of cost over the fair value of net assets acquired (goodwill) arising from the purchase of a financial institution and the acquisition of certain assets and the assumption of certain liabilities of other financial institutions. Core deposit intangibles are amortized over a 10-year period and goodwill is amortized over periods ranging from 15 to 25 years. NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) Advertising Costs Advertising costs are expensed as incurred. 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 and deferred stock compensation agreements. Earnings and dividends per share are restated for all stock splits through the date of issue of the financial statements. Comprehensive Income Comprehensive income consists of net income and other comprehensive income (deficit). Other comprehensive income (deficit) includes unrealized gains and losses on securities available for sale, net of tax, which are recognized as a separate component of equity, accumulated other comprehensive income (deficit). Income Taxes Deferred income taxes have been provided under the liability method. Deferred tax assets and liabilities are determined based upon the difference between the financial statement and tax bases of assets and liabilities as measured by the enacted tax rates which will be in effect when these differences are expected to reverse. Deferred tax expense (benefit) is the result of changes in the deferred tax asset and liability. Off-Balance-Sheet Financial Instruments In the ordinary course of business, the Corporation has entered into off-balance-sheet financial instruments consisting of commitments to extend credit, commitments under credit card arrangements, commercial letters of credit, and standby letters of credit. Such financial instruments are recorded in the consolidated financial statements when they become payable. Future Accounting Change In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities." This statement establishes accounting and reporting standards for derivative instruments and for hedging activities. This statement requires an entity to recognize all derivatives as either assets or liabilities in the balance sheet and measure those instruments at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation. As amended by SFAS No. 137, the statement is effective for fiscal years beginning after June 15, 2000. Management, at this time, cannot determine the effect adoption of this statement may have on the consolidated financial statements of the Corporation as the accounting for derivatives is dependent on the amount and nature of derivatives in place at the time of adoption. Reclassifications Certain amounts in the 1998 and 1997 consolidated financial statements have been reclassified to conform to the 1999 presentation. NOTE 2 - ACQUISITIONS AND DIVESTURES In February 1997, the Corporation acquired 100% of the outstanding stock of U.P. Financial, Inc. in exchange for cash with an acquisition cost of approximately $4.3 million. The Corporation acquired assets totaling approximately $29.8 million, with resulting acquisition intangibles of $2.1 million. In May 1999, the Corporation acquired branches in Kaleva and Mancelona, Michigan from Huntington National Bank. The Corporation assumed approximately $17.5 million in deposits, and acquired approximately $286,000 in premises and equipment, with resulting acquisition intangibles of $1.7 million. The acquisitions have been accounted for under the purchase method of accounting. Accordingly, the assets, liabilities, and results of operations are included in the Corporation's consolidated financial statements as of and subsequent to the respective acquisition dates. Note 7 provides information regarding acquisition intangibles. In addition to the acquisitions noted above, the Corporation sold two of its branch offices in July of 1999 located in Rudyard and Cedarville in Michigan's Upper Peninsula. Deposits of approximately $11 million were sold in this transaction at a premium of approximately $800,000. After consideration for unamortized intangible assets related to such branches, the transaction resulted in a net gain on sale of approximately $430,000. Additional information regarding assets and liabilities acquired or divested in these transactions is presented on the consolidated statements of cash flows. NOTE 3 - RESTRICTIONS ON CASH AND CASH EQUIVALENTS Cash and cash equivalents in the amount of $6,722,000 and $6,643,000 were restricted at December 31, 1999 and 1998, to meet the reserve requirements of the Federal Reserve System. NOTE 4 -SECURITIES AVAILABLE FOR SALE The amortized cost and estimated fair value of securities available for sale as of December 31 are as follows: 1999 Gross Gross Amortized Unrealized Unrealized Estimated Cost Gains Losses Fair Value U.S. Treasury securities and obligations of U.S. government agencies $ 9,863,055 $ -0- $ 471,585 $ 9,391,470 Obligations of states and political subdivisions 16,355,544 408,248 553,552 16,210,240 Corporate securities 3,049,302 -0- 41,008 3,008,294 Mortgage-related securities 15,069,611 -0- 336,808 14,732,803 Total securities available for sale $44,337,512 $ 408,248 $ 1,402,953 $43,342,807 NOTE 4 -SECURITIES AVAILABLE FOR SALE (Continued) 1998 Gross Gross Amortized Unrealized Unrealized Estimated Cost Gains Losses Fair Value U.S. Treasury securities and obligations of U.S. government agencies $ 3,503,441 $ 10,925 $ 933 $ 3,513,433 Obligations of states and political subdivisions 999,922 20,968 -0- 1,020,890 Corporate securities 1,253,162 36,548 -0- 1,289,710 Mortgage-related securities 2,852,872 -0- 701 2,852,171 Total securities available for sale $ 8,609,397 $ 68,441 $ 1,634 $ 8,676,204 Following is a summary of the proceeds from sales of securities available for sale, as well as gross gains and losses for the years ended December 31: 1999 1998 1997 Proceeds from sale of securities $ -0- $3,820,310 $10,151,363 Gross gains on sales -0- 65,255 -0- Gross losses on sales -0- 20,751 60,163 The amortized cost and estimated fair value of securities available for sale at December 31, 1999, by contractual maturity, are shown below. Contractual maturities may differ from expected maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Amortized Estimated Cost Fair Value Due in one year or less $ 225,922 $ 226,314 Due after one year through five years 2,054,644 2,041,784 Due after five years through ten years 10,205,000 10,429,466 Due after ten years 16,782,335 15,912,440 29,267,901 28,610,004 Mortgage-related securities 15,069,611 14,732,803 Total $44,337,512 $43,342,807 The amortized cost and estimated fair value of securities pledged to secure public deposits, treasury deposits, and repurchase agreements was $1,300,000 and $1,237,544, respectively, as of December 31, 1999. NOTE 5 - LOANS The composition of loans at December 31 follows: 1999 1998 Commercial, financial, and agricultural $258,592,253 $219,026,672 Commercial and governmental leases 70,689,452 60,194,795 1-4 family residential real estate 107,750,757 97,415,442 Consumer 17,050,573 23,159,913 Construction 12,538,580 11,923,647 Total loans $466,621,615 $411,720,469 An analysis of the allowance for loan losses for the years ended December 31 follows: 1999 1998 1997 Balance, January 1 $6,112,334 $5,599,546 $4,590,938 Allowance from acquisition -0- -0- 299,295 Provision for loan losses 1,456,544 1,199,725 1,398,201 Recoveries on loans 102,141 118,408 112,712 Loans charged off (807,652) (805,345) (801,600) Balance, December 31 $6,863,367 $6,112,334 $5,599,546 Information regarding impaired loans follows: As of December 31: 1999 1998 1997 Investment in impaired loans $5,603,505 $6,072,978 $6,933,060 Impaired loans on non-accrual -0- 1,401,216 1,246,890 Amount of the allowance allocated 704,141 873,014 923,014 For the years ended December 31: 1999 1998 1997 Average investment in impaired loans $6,128,430 $6,155,323 $6,709,911 Interest income recognized during impairment 298,314 316,103 211,553 Interest income that would have been recognized on an accrual basis 369,468 667,599 223,510 Cash-basis interest income recognized 298,930 301,840 212,699 The subsidiary bank in the ordinary course of banking business grants loans to the Corporation's executive officers and directors including their families and firms in which they are principal owners. Activity in such loans during 1999 is summarized below. Substantially all loans to executive officers and directors were made on the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with others and did not involve more than the normal risk of collectibility or present other unfavorable features. Loans outstanding, January 1, 1999 $12,403,916 New loans 10,450,034 Repayment (7,125,125) Loans outstanding, December 31, 1999 $15,728,825 NOTE 6 - PREMISES AND EQUIPMENT Details of premises and equipment at December 31 follow: 1999 1998 Land $ 2,895,841 $ 2,804,480 Buildings and improvements 15,053,633 13,663,039 Furniture, fixtures, and equipment 10,327,021 9,224,753 Totals 28,276,495 25,692,272 Less - Accumulated depreciation and amortization 9,158,684 7,754,214 Net book value $19,117,811 $17,938,058 Depreciation and amortization of premises and equipment charged to operating expenses amounted to $1,522,512 in 1999, $1,381,015 in 1998 and $1,222,939 in 1997. NOTE 7 - ACQUISITION INTANGIBLES Included in other assets are intangible assets acquired through acquisitions. Acquisition intangibles consist of the following as of December 31 (net of amortization): 1999 1998 Goodwill $3,668,383 $3,571,067 Core deposit intangible 2,933,773 2,338,354 Total acquisition intangibles $6,602,156 $5,909,421 NOTE 8- DEPOSITS The distribution of deposits at December 31 is as follows: 1999 1998 Non-interest-bearing demand deposits $ 43,606,378 $ 42,076,502 Savings, money market, and interest-bearing demand deposits 267,026,981 213,791,523 Time deposits 152,364,789 149,093,308 Total deposits $462,998,148 $404,961,333 Time deposits of $100,000 or more were $35,309,624 and $25,619,255 at December 31, 1999 and 1998, respectively. Interest expense on time deposits of $100,000 or more was $1,357,153, $1,543,612 and $1,606,273 for the years ended December 31, 1999, 1998 and 1997, respectively. NOTE 8- DEPOSITS (CONTINUED) Maturities of time deposits outstanding at December 31, 1999, are as follows: 2000 $103,794,332 2001 3,516,900 2002 24,413,852 2003 16,283,994 2004 3,269,348 Thereafter 1,086,363 $152,364,789 NOTE 9 - BORROWINGS Borrowings consist of the following at December 31: 1999 1998 Federal Home Loan Bank: Fixed-rate advance at 6.01%, maturing June 19, 2000 $10,000,000 $ -0- Fixed-rate advance at 6.07%, maturing August 9, 2000 7,000,000 -0- Fixed-rate advance at 7.37%, maturing April 15, 2004 136,104 159,731 Fixed-rate advance at 7.59%, maturing May 17, 2004 240,177 281,657 Fixed-rate advance at 6.35%, maturing July 7, 2004 1,000,000 -0- Fixed-rate advance at 6.50%, maturing October 17, 2005 2,268,156 2,535,401 Fixed-rate advance at 7.06%, maturing May 15, 2006 4,422,253 4,630,742 Adjustable-rate advance, maturing May 20, 1999, 5.20% at December 31, 1998 -0- 3,000,000 Adjustable-rate advance, maturing June 23, 2008, 5.49% at December 31, 1999 and 1998 10,000,000 10,000,000 Adjustable-rate advance, maturing October 21, 2009, 5.66% at December 31, 1999 10,000,000 -0- 45,066,690 20,607,531 Farmers Home Administration: $2,000,000 fixed-rate note payable to Farmers Home Administration, maturing August 24, 2024, interest payable at 1% 1,811,346 1,874,857 Other borrowings: Unsecured variable rate notes payable to South Range State Bank's former stockholders, maturing in three equal annual installments beginning February 1, 1997, 5.04% at December 31, 1998 -0- 787,773 Total borrowings $46,878,036 $23,270,161 NOTE 9 - BORROWINGS (CONTINUED) Maturities of borrowings outstanding at December 31, 1999, are as follows: 2000 $17,642,792 2001 686,079 2002 734,547 2003 788,567 2004 1,986,607 Thereafter 25,039,444 $46,878,036 The Federal Home Loan Bank borrowings are collateralized by the following: a blanket collateral agreement on the Bank's residential mortgage loans; U.S. Government and agency securities with an amortized cost and estimated fair value of $22,124,000 and $22,933,000, respectively, at December 31, 1999; and by Federal Home Loan Bank stock owned by the Bank totaling $3,034,300, included in other assets, at December 31, 1999. Prepayment of the advances is subject to the provisions and conditions of the credit policy of the Federal Home Loan Bank of Indianapolis in effect as of December 31, 1999. The Farmers Home Administration borrowing is collateralized by loans totaling $1,594,426, originated and held by the Corporation's wholly owned subsidiary, First Rural Relending, and guaranteed by the Corporation. NOTE 10 - INCOME TAXES The components of the federal income tax provision for the years ended December 31 follow: 1999 1998 1997 Current tax expense $1,852,739 $1,239,912 $1,726,124 Deferred tax credit (117,239) (269,982) (322,707) Total provision for income taxes $1,735,500 $ 969,930 $1,403,417 Included in the total provision for income taxes are expenses (credits) of $0, $15,131 and $(20,455) for the years ended December 31, 1999, 1998 and 1997, respectively, related to security transactions. Deferred income taxes are provided for the temporary differences between the financial reporting and tax bases of the Corporation's assets and liabilities. The major components of net deferred tax assets at December 31 are as follows: 1999 1998 Deferred tax assets: Allowance for loan losses $2,070,487 $1,844,183 Deferred compensation 413,109 366,290 Unrealized loss on securities available for sale 338,200 -0- Total deferred tax assets 2,821,796 2,210,473 Deferred tax liabilities: Depreciation (1,044,915) (777,689) Intangibles (195,814) (285,986) Unrealized gain on securities available for sale -0- (22,714) Other (22,162) (43,332) Total deferred tax liabilities (1,262,891) (1,129,721) Net deferred tax asset $1,558,905 $1,080,752 NOTE 10 - INCOME TAXES (CONTINUED) A summary of the source of differences between income taxes at the federal statutory rate and the provision for income taxes for the years ended December 31 follows: 1999 1998 1997 Tax expense at statutory rate $2,750,957 $1,880,581 $1,873,086 Increase (decrease) in taxes resulting from: Tax-exempt interest (1,121,434) (1,127,726) (603,836) Other 105,977 217,075 134,167 Provision for income taxes $1,735,500 $969,930 $1,403,417 NOTE 11 - RETIREMENT PLAN The Corporation has established a 401(k) profit-sharing plan. Employees who have completed three months of service and attained the age of 18 are eligible to participate in the plan. Eligible employees can elect to have a portion, not to exceed 15%, of their annual compensation paid into the plan. In addition, the Corporation may make discretionary contributions into the plan. Retirement plan contributions charged to operations totaled $158,570, $200,267 and $105,267 for 1999, 1998 and 1997, respectively. NOTE 12 - DEFERRED COMPENSATION PLANS As an incentive to retain key members of management and directors, the Corporation has two deferred compensation plans. Benefits under one of the plans is based on the number of years the key members have served the Corporation. A liability is recorded on a present value basis and discounted using current market rates. The liability may change depending upon changes in long-term interest rates. The liability at December 31, 1999 and 1998, for vested benefits under this plan, was $1,135,769 and $1,098,267, respectively. The Corporation maintains life insurance policies on the plan participants. Death benefits received from the life insurance policies will be used to offset the obligations under the plan. The cash surrender value of these policies was $940,476 and $899,087 at December 31, 1999 and 1998, respectively. The Corporation sponsors a deferred stock compensation plan for directors. Directors are allowed to defer their director's fees under the plan. The deferred compensation is computed as stock equivalents as the compensation is earned. Directors receive the deferred compensation in the form of common stock upon retirement. The liability relating to this plan was $325,050 and $219,100 at December 31, 1999 and 1998, respectively. Deferred compensation expense for the plans was $248,146, $316,041 and $175,000 for 1999, 1998 and 1997, respectively. NOTE 13 - GUARANTEED PREFERRED BENEFICIAL INTERESTS IN THE CORPORATION'S SUBORDINATED DEBENTURES In May 1999, the Corporation formed a Delaware business trust, North Country Capital Trust (the "Trust"). All of the common securities of this special purpose trust are owned by the Corporation. The Trust exists solely to issue capital securities. For financial reporting purposes, the Trust is reported as a subsidiary and is consolidated into the financial statements of the Corporation. The capital securities are presented as a separate line item on the consolidated balance sheet as guaranteed preferred beneficial interests in the Corporation's subordinated debentures (trust preferred securities). The Trust has issued trust preferred securities and invested the net proceeds in subordinated debentures issued to the Trust by the Corporation. The subordinated debentures are the sole asset of the Trust. The Corportion, through guarantees and agreements, has fully and unconditionally guaranteed all of the Trust's obligations under the trust preferred securities. NOTE 13 - GUARANTEED PREFERRED BENEFICIAL INTERESTS IN THE CORPORATION'S SUBORDINATED DEBENTURES (CONTINUED) The Federal Reserve Bank has accorded the trust preferred securities Tier I capital status. The ability to apply Tier I capital treatment, as well as to deduct the expense of the subordinated debentures for income tax purposes, provided the Corporation with a cost-effective way to raise regulatory capital. The trust preferred securities are not included as a component of total shareholders' equity on the consolidated balance sheet. The trust preferred securities carry a distribution floating rate of the three month LIBOR plus 2.5% and have a stated maturity date of May 14, 2029. The securities are redeemable at par after May 14, 2009. Distributions on the trust preferred securities are payable quarterly on February 14, May 14, August 14 and November 14. NOTE 14 - SHAREHOLDERS' EQUITY Earnings per share are based upon the weighted average number of shares outstanding. The following shows the computation of basic and diluted earnings per share for the years ended December 31: Weighted Average Number of Earnings Per Net Income Shares Share 1999 Earnings per share - Basic $6,355,549 7,031,203 $ 0.90 Effect of stock options - Net 67,972 Effect of deferred stock compensation 21,886 Earnings per share - Diluted $6,355,549 7,121,061 $ 0.89 1998 Earnings per share - Basic $4,561,190 7,038,909 $ 0.65 Effect of stock options - Net 64,693 Effect of deferred stock compensation 16,614 Earnings per share - Diluted $4,561,190 7,120,216 $ 0.64 1997 Earnings per share - Basic $4,105,659 7,131,354 $ 0.58 Effect of stock options - Net 11,700 Effect of deferred stock compensation 12,723 Earnings per share - Diluted $4,105,659 7,155,777 $ 0.57 Effective August 25, 1998, the Board of Directors of the Corporation approved a three-for-one stock split. All references to the number of shares of common stock in the consolidated financial statements and footnotes thereto have been restated for the stock split. NOTE 14 - SHAREHOLDERS' EQUITY (CONTINUED) The Corporation is subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory-and possibly additional discretionary-actions by regulators that, if undertaken, could have a direct material effect on the Corporation's consolidated financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Corporation must meet specific capital guidelines that involve quantitative measures of the Corporation's assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The Corporation's capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Corporation to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital to risk- weighted assets and of Tier I capital to average assets. Management believes, as of December 31, 1999, the Corporation meets all capital adequacy requirements to which it is subject. As of December 31, 1999, the most recent notification from the Federal Deposit Insurance Corporation categorized the subsidiary bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Bank must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the subsidiary bank's category. The Corporation's actual and required capital amounts and ratios as of December 31 are as follows: To Be Well Capitalized Under For Capital Prompt Corrective Actual Adequacy Purposes Action Provisions Amount Ratio Amount Ratio Amount Ratio 1999 Total capital (to risk- weighted assets): Consolidated $51,666,000 13.0% $31,732,000 8.0% N/A North Country Bank & Trust $50,053,000 12.7% $31,609,000 8.0% $39,511,000 10.0% Tier I capital (to risk- weighted assets): Consolidated $46,684,000 11.8% $15,866,000 4.0% N/A North Country Bank & Trust $45,090,000 11.4% $15,804,000 4.0% $23,707,000 6.0% Tier I capital (to average assets): Consolidated $46,684,000 8.4% $22,120,000 4.0% N/A North Country Bank & Trust $45,090,000 8.2% $22,066,000 4.0% $27,583,000 5.0% NOTE 14 - SHAREHOLDERS' EQUITY (CONTINUED) 1998 Total capital (to risk- weighted assets): Consolidated $37,881,000 10.7% $28,397,000 8.0% N/A North Country Bank & Trust $37,083,000 10.9% $27,160,000 8.0% $33,950,000 10.0% Tier I capital (to risk- weighted assets): Consolidated $33,423,000 9.4% $14,199,000 4.0% N/A North Country Bank & Trust $32,816,000 9.7% $13,580,000 4.0% $20,370,000 6.0% Tier I capital (to average assets): Consolidated $33,423,000 7.2% $18,532,000 4.0% N/A North Country Bank & Trust $32,816,000 7.2% $18,360,000 4.0% $22,950,000 5.0% The Bank is restricted by banking regulations from making dividend distributions above prescribed amounts. At December 31, 1999, the Bank could have paid $14,811,000 of additional dividends to the Corporation without prior regulatory approval. NOTE 15 - STOCK OPTION PLANS The Corporation sponsors two stock option plans, one for officers and employees and one for nonemployee directors. A total of 600,000 shares were made available for grant under these plans. Options under these plans are granted at the discretion of a committee of the Corporation's Board of Directors. Options to purchase shares of the Corporation's stock are granted at a price equal to the market price of the stock at the date of grant. The committee, within guidelines of no less than six months and no greater than ten years, as established under the plans, determines the vesting of the options when they are granted. The fair value of each option granted is estimated on the grant date using the Black-Scholes methodology. The following assumptions were made in estimating fair value for options granted for the years ended December 31: 1999 1998 1997 Dividend yield 0.90% 1.00% 1.25% Risk-free interest rate 5.50% 4.72% 5.14% Weighted average expected life (years) 7.0 7.0 7.0 Expected volatility 16.46% 10.04% 11.45% The weighted average fair value of options granted as of their grant date, using the assumptions shown above, was computed at $0.94 per share for options granted in 1999, $0.39 per share for options granted in 1998 and $0.37 per share for options granted in 1997. NOTE 15 - STOCK OPTION PLANS (CONTINUED) No compensation cost has been recognized for the plans. Had compensation cost been determined on the basis of fair value, net income and earnings per share would have been reduced for the years ended December 31, as follows: 1999 1998 1997 Net income: As reported $6,355,549 $4,561,190 $4,105,659 Pro forma $6,288,107 $4,550,149 $4,100,889 Earnings per share - Basic: As reported $ 0.90 $ 0.65 $ 0.58 Pro forma $ 0.89 $ 0.64 $ 0.57 Earnings per share - Diluted: As reported $ 0.89 $ 0.64 $ 0.57 Pro forma $ 0.88 $ 0.64 $ 0.57 Following is a summary of stock option transactions for the years ended December 31: Number of Shares 1999 1998 1997 Outstanding at beginning of year 331,895 198,759 75,600 Granted during the year 244,400 163,200 153,309 Exercised during the year (at prices ranging from $3.67 to $15.00 per share) (3,150) (30,064) (30,150) Outstanding at end of year 573,145 331,895 198,759 Weighted average exercise price per share at end of year $ 18.34 $ 16.97 $ 12.51 Available for grant at end of year 39,073 283,473 446,673 Options granted during 1999 were granted at a price of $20.00. Options granted in 1998 were granted at a price of $19.00 and $20.33. Options granted in 1997 were granted at a price of $15.00. Under these plans, options expire ten years after the date of grant. NOTE 15 - STOCK OPTION PLANS (CONTINUED) Following is a summary of the options outstanding at December 31, 1999: Outstanding Options Exercisable Options Weighted Average Weighted Weighted Remaining Average Average Exercise Contractual Exercise Exercise Price Range Number Life-Years Price Number Price $4.17 to $15.00 165,545 7.2 $ 13.86 76,748 $ 12.54 $19.00 to $20.33 407,600 9.0 19.47 163,200 20.22 573,145 8.5 $ 17.85 239,948 $ 17.76 NOTE 16 - OTHER COMPREHENSIVE INCOME (DEFICIT) Other comprehensive income (deficit) components and related taxes were as follows: 1999 1998 1997 Unrealized holding gains (losses) on available for sale securities $(1,061,512) $ 116,212 $ 313,010 Less reclassification adjustments for gains (losses) later recognized in income -0- 44,504 (60,163) Net unrealized gains (losses) (1,061,512) 71,708 373,173 Tax effect (360,914) 24,381 126,879 Other comprehensive income (deficit) $(700,598) $ 47,327 $246,294 NOTE 17 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK Financial Instruments With Off-Balance-Sheet Risk The Corporation 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 and standby letters of credit. Those instruments involve, to varying degrees, elements of credit risk in excess of the amount recognized in the balance sheets. The Corporation's exposure to credit loss, in the event of nonperformance by the other party to the financial instrument for commitments to extend credit and standby letters of credit, is represented by the contractual amount of those instruments. The Corporation uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. These commitments at December 31 are as follows: 1999 1998 Commitments to extend credit $130,446,000 $128,059,000 Standby letters of credit 14,425,000 14,869,000 Credit card commitments 5,334,000 2,782,000 $150,205,000 $145,710,000 NOTE 17 - COMMITMENTS, CONTINGENCIES, AND CREDIT RISK (CONTINUED) 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 Corporation evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Corporation upon extension of credit, is based on management's credit evaluation of the party. Collateral held varies but may include accounts receivable; inventory; property, plant, and equipment; and income-producing commercial properties. Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party. Those guarantees are primarily issued to support public and private borrowing arrangements. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The commitments are structured to allow for 100% collateralization on all standby letters of credit. Credit card commitments are commitments on credit cards issued by the Corporation's subsidiary and serviced by other companies. These commitments are unsecured. Contingencies In the normal course of business, the Corporation is involved in various legal proceedings. In the opinion of management, any liability resulting from such proceedings would not have a material adverse effect on the consolidated financial statements. Concentration of Credit Risk The Corporation's subsidiary bank grants residential, commercial, agricultural, and consumer loans throughout Michigan. Due to the diversity of locations, the ability of debtors to honor their contracts is not tied to any particular economic sector. NOTE 18 - FAIR VALUE OF FINANCIAL INSTRUMENTS Fair value estimates, methods, and assumptions are set forth below for the Corporation's financial instruments: Cash and cash equivalents - The carrying values approximate the fair values for these assets. Securities - Fair values are based on quoted market prices where available. If a quoted market price is not available, fair value is estimated using quoted market prices for similar securities. Loans - Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial, residential mortgage, and other consumer. The fair value of loans is calculated by discounting scheduled cash flows using discount rates reflecting the credit and interest rate risk inherent in the loan. The methodology in determining fair value of nonaccrual loans is to average them into the blended interest rate at 0% interest. This has the effect of decreasing the carrying amount below the risk-free rate amount and therefore discounts the estimated fair value. Impaired loans are measured at the estimated fair value of the expected future cash flows at the loan's effective interest rate or the fair value of the collateral for loans which are collateral dependent. Therefore, the carrying values of impaired loans approximate the estimated fair values for these assets. Deposit liabilities - The fair value of deposits with no stated maturity, such as non-interest-bearing demand deposits and savings, is equal to the amount payable on demand at the reporting date. The fair value of certificates of deposit is based on the discounted value of contractual cash flows applying interest rates currently being offered on similar certificates. NOTE 18 - FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) Borrowings - Rates currently available for debt with similar terms and remaining maturities are used to estimate the fair value of existing debt. The fair value of borrowed funds due on demand is the amount payable at the reporting date. Guaranteed preferred beneficial interests in the Corporation's subordinated debentures - The carrying value is considered to estimate fair value as this financial instrument reprices frequently and fully. Off-balance-sheet instruments - The fair value of commitments is estimated using the fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements, the current interest rates, and the present creditworthiness of the counterparties. Since this amount is immaterial, no amounts for fair value are presented. The following table presents information for financial instruments at December 31: 1999 1998 Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value (In Thousands) Financial assets: Cash and cash equivalents $ 26,160 $ 26,160 $ 22,640 $ 22,640 Interest-bearing deposits 679 679 -0- -0- Securities available for sale 43,343 43,343 8,676 8,676 Net loans 459,758 461,511 405,608 414,609 Total financial assets $ 529,940 $ 531,693 $ 436,924 $ 445,925 Financial liabilities: Deposits $ 462,998 $ 462,634 $ 404,961 $ 406,334 Borrowings 46,878 45,729 23,270 22,380 Guaranteed preferred beneficial interests in the Corporation's subordinated debentures 12,450 12,450 -0- -0- Total financial liabilities $ 522,326 $ 520,813 $ 428,231 $ 428,714 Limitations - Fair value estimates are made at a specific point in time based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Corporation's entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Corporation's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments, and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates. Fair value estimates are based on existing on- and off-balance-sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Significant assets and liabilities that are not considered financial assets or liabilities include premises and equipment, other assets, and other liabilities. In addition, the tax ramifications related to the realization of the unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates. NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS BALANCE SHEETS December 31, 1999 and 1998 ASSETS 1999 1998 Cash and cash equivalents $ 889,001 $ 999,979 Investment in subsidiaries 51,648,625 38,802,583 Other assets 1,311,966 1,057,482 TOTAL ASSETS $53,849,592 $40,860,044 LIABILITIES AND SHAREHOLDERS' EQUITY Liabilities: Accrued expenses $ 194,081 $ 602,906 Borrowings -0- 787,773 Total liabilities 194,081 1,390,679 Subordinated debentures 12,836,000 -0- Total shareholders' equity 40,819,511 39,469,365 TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $53,849,592 $40,860,044 NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED) STATEMENTS OF INCOME Years Ended December 31, 1999, 1998, and 1997 1999 1998 1997 Income: Dividends received from subsidiaries $3,150,000 $3,250,000 $4,377,878 Net security losses -0- -0- (41,888) Other 23,798 31,809 9,317 Total income 3,173,798 3,281,809 4,345,307 Expenses: Salaries and benefits 81,557 142,329 270,038 Interest 760,182 95,272 123,191 Other 364,366 595,284 398,325 Total expenses 1,206,105 832,885 791,554 Income before credit for income taxes and equity in undistributed net income of subsidiaries 1,967,193 2,448,924 3,553,753 Credit for income taxes (402,000) (146,632) (258,964) Income before equity in undistributed net income of subsidiaries 2,369,693 2,595,556 3,812,717 Equity in undistributed net income of subsidiaries 3,985,856 1,965,634 292,942 Net income $6,355,549 $4,561,190 $4,105,659 NOTE 19 - PARENT COMPANY ONLY FINANCIAL STATEMENTS (CONTINUED) STATEMENTS OF CASH FLOWS Years Ended December 31, 1999, 1998, and 1997 1999 1998 1997 Increase (decrease) in cash and cash equivalents: Cash flows from operating activities: Net income $6,355,549 $4,561,190 $4,105,659 Adjustments to reconcile net income to net cash provided by operating activities: Loss on sale of equity securities -0- -0- 41,888 (Gain) loss on sale of premise and equipment 3,528 (31,600) -0- Provision for depreciation and amortization 9,470 4,872 -0- Equity in undistributed net income of subsidiaries (3,985,856) (1,965,634) (292,942) Change in other assets (267,482) (111,636) (487,485) Change in accrued expenses (408,825) 38,241 402,536 Total adjustments (4,649,165) (2,065,757) (336,003) Net cash provided by operating activities 1,706,384 2,495,433 3,769,656 Cash flows from investing activities: Investment in subsidiaries (9,560,784) -0- (4,052,914) Payment for purchase of securities available for sale -0- (110,922) -0- Proceeds from sales of securities available for sale -0- 10,000 317,300 Proceeds from sale of premise and equipment -0- 100,000 -0- Capital expenditures -0- (3,528) -0- Net cash used in investing activities (9,560,784) (4,450)(3,735,614) Cash flows from financing activities: Proceeds from borrowings 15,836,000 -0- -0- Principal payments on borrowings (3,787,773) (787,539) (787,539) Proceeds from issuance of common stock 480,036 1,191,638 1,868,178 Retirement of common stock (3,497,980) (1,796,639) (831,606) Dividends paid (1,286,861) (1,251,224)(1,182,014) Net cash provided by (used in) financing activities 7,743,422 (2,643,764) (932,981) Net decrease in cash and cash equivalents (110,978) (152,781) (898,939) Cash and cash equivalents at beginning 999,979 1,152,760 2,051,699 Cash and cash equivalents at end $ 889,001 $ 999,979 $1,152,760 NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES SELECTED FINANCIAL DATA (Unaudited) Year ended December 31, 1999 1998 1997 1996 1995 (Dollars in thousands, except per share amounts) Selected Financial Condition Data: Total assets $568,442 $471,381 $421,434 $367,160 $282,791 Loans 466,622 411,720 372,519 314,886 221,507 Securities 43,343 8,676 10,103 15,191 27,055 Deposits 462,998 404,961 360,549 305,939 244,407 Borrowings 46,878 23,270 19,628 20,441 10,088 Total equity 40,820 39,469 36,592 32,386 25,007 Selected Operations Data: Interest income $ 42,549 $ 38,498 $ 35,964 $ 28,724 $ 22,100 Interest expense (20,602) (17,815) (15,898) (12,674) (9,561) Net interest income 21,947 20,683 20,066 16,050 12,539 Provision for loan losses (1,457) (1,200) (1,398) (2,424) (771) Other income 3,538 2,651 1,638 1,360 1,354 Other expenses (15,937) (16,603) (14,797) (11,609) (9,368) Income before income taxes 8,091 5,531 5,509 3,377 3,754 Provision for income taxes (1,735) (970) (1,403) (543) (1,084) Net income $ 6,356 $ 4,561 $ 4,106 $ 2,834 $ 2,670 Per Share Data: * Net income - Basic $ 0.90 $ 0.65 $ 0.58 $ 0.43 $ 0.42 Net income - Diluted 0.89 0.64 0.57 0.43 0.42 Cash dividends 0.18 0.17 0.16 0.14 0.14 Book value 5.83 5.54 5.13 4.57 3.96 Financial Ratios: Return on average equity 15.83% 11.18% 11.29% 9.15% 11.65% Return on average assets 1.22% 0.98% 1.00% 0.82% 1.00% Dividend payout ratio 20.25% 27.43% 28.79% 32.11% 31.97% Average equity to average assets 7.70% 8.75% 8.85% 8.99% 8.57% * Adjusted for 3 for 1 stock splits on April 29, 1996 and August 25, 1998 NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES SUMMARY QUARTERLY FINANCIAL INFORMATION (Unaudited) Three months ended, March 31 June 30 September 30 December 31 (Dollars in thousands, except per share amounts) 1999 Selected Operations Data: Interest income $ 9,732 $10,187 $10,791 $11,839 Interest expense (4,622) (4,917) (5,283) (5,780) Net interest income 5,110 5,270 5,508 6,059 Provision for loan losses (213) (213) (213) (818) Other income 615 649 1,223 1,051 Other expenses (3,436) (4,167) (4,291) (4,043) Income before income taxes 2,076 1,539 2,227 2,249 Provision for income taxes (535) (232) (500) (468) Net income $ 1,541 $ 1,307 $ 1,727 $ 1,781 Per Share Data: Net income - Basic $ 0.22 $ 0.19 $ 0.25 $ 0.24 Net income - Diluted 0.22 0.19 0.25 0.23 1998 Selected Operations Data: Interest income $ 9,183 $ 9,815 $ 9,667 $ 9,833 Interest expense (4,253) (4,413) (4,547) (4,602) Net interest income 4,930 5,402 5,120 5,231 Provision for loan losses (250) (425) (450) (75) Other income 542 716 662 731 Other expenses (3,658) (3,996) (3,731) (5,218) Income before income taxes 1,564 1,697 1,601 669 Provision for income taxes (414) (380) (453) 277 Net income $ 1,150 $ 1,317 $ 1,148 $ 946 Per Share Data: * Net income - Basic $ 0.16 $ 0.18 $ 0.16 $ 0.15 Net income - Diluted 0.16 0.18 0.16 0.14 * Adjusted for 3 for 1 stock split on August 25, 1998 NORTH COUNTRY FINANCIAL CORPORATION AND SUBSIDIARIES MARKET INFORMATION (Unaudited) Historically, there has been no active market for the Corporation's common stock and no published information with respect to its market price. There have been occasional direct sales by shareholders of which the Corporation's common stock has sold at a premium to book value. The price was reported to management in most of these transactions, but management has no way of confirming the prices which were reported. The following table sets forth the range of high and low sales prices of the Corporation's common stock during 1999 and 1998 based on information made available to management. Although management is not aware of any transactions at higher or lower prices, there may have been transactions at prices outside of the ranges listed. Three months ended, March 31 June 30 September 30 December 31 1999 High $25.00 $25.00 $20.00 $20.00 Low 23.00 19.50 19.00 17.00 1998 * High $19.00 $20.67 $22.00 $23.00 Low 16.34 19.00 20.67 22.00 * Adjusted for 3 for 1 stock split on August 25, 1998 Management's Discussion and Analysis of Financial Condition and Results of Operations NORTH COUNTRY FINANCIAL CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS HIGHLIGHTS For North Country Financial Corporation ("the Corporation"), 1999 was a year of record growth and profitability. The Corporation grew total assets by 21% and net income by 39% over the prior year. Growth remains an important element of the Corporation's strategy, and management believes that the continued success and profitability of the Corporation depends on continuing to attract credit-worthy, and profitable assets both internally and through market expansion. To enhance its ability to grow, the Corporation formed a Delaware business trust, North Country Capital Trust, in 1999 solely to issue capital securities, which are accorded Tier I capital treatment for regulatory purposes. The Corporation also formed North Country Financial Group, in Denver, Colorado, to further enhance its ability to attract high performing lease assets. In addition, the Corporation continued its market expansion into lower Michigan through the opening of two new branches in Traverse City and Petoskey and the purchase of two branches in Kaleva and Mancelona. At December 31, 1999, the Corporation had total assets of $568.4 million, an increase of $97 million from December 31, 1998. During 1999, outstanding loan balances increased 13% or $55 million to $467 million. Of the total increase in loans, $43 million, or 78%, came from an increase in the commercial loan portfolio. In addition, the Corporation's security portfolio increased $35 million to $43.3 million over the prior year. The increase coincides with the Corporation's strategy to invest funds from increased deposits and borrowings into securities with similar contractual maturities. The growth in 1999 continues the trend which has developed over the past several years. From 1995 through 1999, assets grew by a total of $286 million or 101%. During the same period, loan and lease assets grew $245 million, or 111%. Growth will continue to be an important element of the Corporation's strategy, and selective bank and branch acquisitions will continue to occur as opportunities arise. The Corporation's banking offices are located in Michigan, a state which covers a large geographic area and has a low population density. Because of the nature of this market area, the cost of operating the Corporation's banking network is higher than the average for banking companies the same size as the Corporation. In order to improve operating efficiency, management centralized the key departments of the Corporation's sales and service environment which allows the branches to focus on customer service and cross selling of bank products and services. Earnings have continued to increase over the past several years. Net income was $6.4 million, $4.6 million, and $4.1 million for 1999, 1998 and 1997, respectively. Return on average shareholders' equity was 15.83%, 11.18% and 11.29%, for 1999, 1998 and 1997, respectively. Basic and diluted earnings per share have continued to increase during this three-year period. Basic earnings per share were $0.90 in 1999, $0.65 in 1998 and $0.58 in 1997, an increase of 38.5% from 1998 to 1999 and 12.1% from 1997 to 1998. This increase in earnings per share is a result of significant growth in earnings with a slight decrease in outstanding stock as a result of the Corporation's stock repurchases. The increase in earnings for 1999 is largely the result of increased net interest income, increased non-interest income and improved efficiency in operations. Management's Discussion and Analysis of Financial Condition and Results of Operations FINANCIAL CONDITION Loans Loans represented 82.09% of total assets at the end of 1999, compared to 87.34% at the end of 1998. The loan to deposit ratio remained relatively stable, decreasing slightly from 101.67% at December 31, 1998 to 100.78% at December 31, 1999. Loans provide the most attractive earning asset yield available to the Corporation and management believes that the trained personnel and controls are in place to successfully manage a growing loan portfolio. Accordingly, management intends to continue to maintain loans at the highest possible level within the constraints of adequate liquidity. Following is a summary of the Corporation's loan balances at December 31 (in thousands): Percent 1999 1998 Change Commercial real estate $ 79,000 $ 82,207 (3.90) Commercial, financial, and agricultural 179,592 136,820 31.26 Leases: Commercial 22,541 20,097 12.16 Governmental 48,148 40,098 20.08 1 - 4 family residential real estate 107,751 97,415 10.61 Consumer 17,051 23,160 (26.38) Construction 12,539 11,923 5.17 Total $466,622 $411,720 13.33% The Corporation has four major categories of lending activities. Three categories, commercial, residential real estate, and consumer, are generally with customers in Michigan. The fourth major lending line, commercial and governmental leasing, takes place on a nationwide basis. As shown in the table above, the majority of the current year loan growth occurred in the commercial loans and the leasing categories. Management believes these categories will continue to grow in the future, with the level of consumer lending continuing to decrease. For the year, commercial loans increased by $42.77 million or by 31.26%. The overall commercial loan growth is largely due to the efforts of the relationship bankers and their ability to penetrate growth markets such as Marquette, Sault Ste. Marie, and more recently, commercial centers in lower Michigan. The most prominent type of financing, at $70.10 million or 27.11% of the commercial loan portfolio, continues to focus on hospitality and tourism related industries. The remainder of the commercial loan portfolio is diversified in such categories as gaming, petroleum, forestry, and farming. In addition to traditional commercial lending, the Corporation finances commercial and governmental leases throughout the country. As illustrated in the table above, a majority of the leasing activity is to governmental units, including Native American organizations. The Corporation has developed expertise and contacts in the leasing business which provide it with opportunities to purchase credit-worthy leases at attractive yields. Management closely reviews the credit quality of each proposed lease before entering into a financing agreement. Such reviews may include visits to major equipment vendors which produce the equipment to be leased or to the lease customers, including governmental organizations. The lease agreements are strictly financing; while the Corporation has access to the underlying equipment as collateral, there is no interest in the residual value of the equipment. Management continues to aggressively pursue leases, and the Corporation will look to enhance its lease portfolio through its newly formed subsidiary, North Country Financial Group, in Denver, Colorado. This new corporation is engaged in the business of public finance, and intends to focus primarily on providing tax-exempt lease/purchase financing to municipalities located throughout the United States. Management's Discussion and Analysis of Financial Condition and Results of Operations Real estate lending on 1-4 family residences comprises the second largest portion of the loan portfolio. This past year, real estate loans grew by 10.61% or by $10.34 million to $107.75 million. Approximately 90% of these loans are adjustable rate products that have an annual interest adjustment. These loans typically have a maximum adjustment of two percentage points annually and five percentage points over the life of the loan. The Corporation continues to utilize its mortgage banking operation to sell longer-term, fixed rate products; however, with the rising interest rate environment, activity in this area declined in 1999. Loans originated and sold to the secondary market totaled $15.15 million in 1999 compared to $21.42 million in 1998. Consumer lending represents a small percentage of the Corporation's loan portfolio. At December 31, 1999, consumer loans totaled $17.05 million, or 3.65% of the total portfolio. Consumer loans continue to decrease both in dollars and in percentage in relation to the overall loan portfolio. This decrease is intentional as consumer lending is a highly competitive, and traditionally a higher cost, area of lending. The Corporation will continue to originate consumer loans; however, this is not seen as a high priority lending area at the current time. At the end of 1999, the allowance for loan losses represents 1.47% of total loans or $6.86 million. The allowance is maintained by management at a level considered adequate to cover losses that are currently anticipated based on past loss experience, general economic conditions, information about specific borrower situations including their financial position and collateral values, and other factors and estimates which are subject to change over time. In management's opinion, the allowance for loan losses is adequate to cover probable losses related to specifically identified loans, as well as probable losses inherent in the balance of the loan portfolio. The Corporation's success in maintaining credit quality is demonstrated in the following table (dollars in thousands): 1999 1998 1997 Allowance to total loans at end of year 1.47% 1.48% 1.50% Net charge-offs during the year $ 706 $ 687 $ 689 Net charge-offs to average outstanding loans 0.16% 0.17% 0.20% Net charge-offs to beginning allowance balance 11.55% 12.28% 15.01% Nonaccrual loans at end of year 95 2,174 1,956 Loans 90 days or more delinquent at end of year (excluding nonaccrual loans) $2,452 $1,238 $ 698 Management analyzes the allowance for loan losses in detail on a monthly basis to ensure that losses inherent in the portfolio are properly recognized. In addition to the input of lending officers, management uses an external loan review consultant to examine a sample of commercial real estate, lease, and commercial loan relationships. The recommendations from these sources, along with the federal and state banking regulators, are considered in analyzing the adequacy of the allowance for loan losses. Management's Discussion and Analysis of Financial Condition and Results of Operations Securities During 1999, the security portfolio became a more important component of the Corporation's strategy to diversify its asset base. Securities increased $34.66 million in 1999, from $8.68 million to $43.34 million. Funds made available from increased deposits and additional borrowings have been invested into securities with similar contractual maturities. The security portfolio includes strong diversity among U.S. Treasury and agency securities, obligations of states and political subdivisions, corporate securities and mortgage-related securities. The carrying value of the Corporation's securities is as follows at December 31 (dollars in thousands): 1999 1998 U.S. Treasury securities and obligations of U.S. government agencies $ 9,392 $ 3,513 Obligations of states and political subdivisions 16,210 1,021 Corporate securities 3,008 1,290 Mortgage-related securities 14,733 2,852 Total securities $ 43,343 $ 8,676 The Corporation's policy is to purchase securities of high credit quality, consistent with its asset/liability management strategies. The mortgage- related securities have maturities ranging up to 30 years, while the remaining securities have maturities ranging primarily from one to 15 years. The Corporation classifies all securities as available for sale, in order to maintain adequate liquidity and to maximize its ability to react to changing market conditions. Deposits Deposit growth has been, and continues to be a key element of the Corporation's expansion strategy. Total deposits at December 31, 1999, were $463.00 million compared to $404.96 million at the end of 1998. The growth of $58.04 million during 1999 included a net increase of $6.60 million related to branch acquisition and divesture activity. The majority of the growth, $51.44 million, was internally generated by the Corporation throughout its branch network. The most significant impact on the growth of deposits continues to come from the savings, money market and interest-bearing demand deposit category. This increase is directly attributable to the Corporation's "Preferred Checking" account, which as of December 31, 1999, paid interest at a rate of 5.25% on balances over $10,000. The Preferred Checking account product was introduced in 1998 and, as of December 31, 1999, accounts for $149 million of the Corporation's total deposit base. Deposits over $100,000, totaling $35.31 million and $25.62 million at December 31, 1999 and 1998, respectively, consist primarily of stable, governmental balances, and balances from retail customers. There were no brokered deposits at December 31, 1999. The Corporation continues to offer its premium-based certificate of deposit program. Customers can elect to receive one of several products in place of cash interest payments on term certificates. The Corporation offers firearms, golf clubs, diamond jewelry, and grandfather clocks under these programs. The most successful and long-standing of the programs is the firearm program, which is offered to sports enthusiasts nationally. Under this program, the Corporation records the cost of the product given as a discount from the face amount of the certificate of deposit and recognizes interest expense on the effective interest method over the life of the certificate. Total certificates of deposits outstanding under this program were approximately $1.48 million and $1.63 million at December 31, 1999 and 1998, respectively. Another nontraditional source of deposits is the Corporation's CANSAVE program. CANSAVE accounts are savings accounts denominated in Canadian dollars. These accounts are offered in the Sault Ste. Marie banking offices and had total balances of $5.6 million in U.S. dollars at December 31, 1999. CANSAVE accounts are available only to Canadian citizens who are attracted to the accounts due to the generally low interest rates paid by domestic Canadian banks. Management's Discussion and Analysis of Financial Condition and Results of Operations Borrowings As previously mentioned, the Corporation's branch network is a relatively high cost network in comparison to peer banking companies. Accordingly, the Corporation continues to utilize alternative funding sources to provide funds for investing and lending activities. Borrowings increased during 1999 from $23.27 million to $46.88 million. At December 31, 1999, $45.07 million of the borrowings were from the Federal Home Loan Bank of Indianapolis with both fixed and variable interest rates and stated maturities ranging through 2009. The increase in borrowings during the year was in accordance with the Corporation's asset/liability management strategies to match borrowings with assets of similar terms. From time-to-time, alternative sources of funding can be obtained at interest rates which are competitive with, or lower than, retail deposit rates and with inconsequential administrative costs. Management anticipates that borrowings will continue to be a significant part of the overall funding mix of the Corporation. Shareholders' Equity See the discussion under "CAPITAL" below. RESULTS OF OPERATIONS Summary Earnings continued to increase in 1999 through a combination of increased net interest income and noninterest income and improved efficiency in operations. Net income was $6.36 million, $4.56 million, and $4.11 million for 1999, 1998, and 1997, respectively. Net income for 1999 was 39.34% greater than in 1998, while assets grew by 20.59% over the same period. Basic earnings per share were $0.90 in 1999, $0.65 in 1998 and $0.58 in 1997, an increase of 38.5% from 1998 to 1999 and 12.1% from 1997 to 1998. This increase in earnings per share is a result of significant growth in earnings with continued decreases in outstanding common stock as a result of the Corporation's stock repurchases. Net interest income is the primary source of earnings growth, increasing to $21.95 million in 1999, from $20.68 million and $20.07 million in 1998 and 1997, respectively. The majority of the increase is attributable to the increase in volume in the lending and securities areas. Noninterest income continues to provide a strong secondary source of revenue for the Corporation, increasing to $3.54 million in 1999, from $2.65 million in 1998 and $1.64 million in 1997. Service fee income from demand and savings products continues to grow at a rapid pace, outpacing asset growth. Gains recognized on the sale of the Rudyard and Cedarville offices and on the sale of premises and equipment contributed to the strong growth in noninterest income in 1999. Income from noninterest sources will be an important component of the Corporation's future earnings as the expectation is net interest margin will continue to tighten due to competitive pressures. In addition to strong increases in net interest income and noninterest income, management's strategy to improve the efficiency in operations had a direct impact on the earnings growth for 1999. Noninterest expense decreased in 1999 to $15.94 million from $16.60 million in 1998, as compared to $14.80 million in 1997. Noninterest expense decreased 4.01% while total assets increased 20.59% for 1999. Management is proud of the progress made on efficiency in 1999, and will continue to manage noninterest expense in an effort to maintain strong earnings growth for the Corporation. Net Interest Income Net interest income is a function of the difference, or margin, between the average yield earned on interest- earning assets and the average rate paid on interest- bearing obligations. The net interest margin is affected by economic and competitive factors that influence rates, loan demand, and deposit flows. The Corporation's net interest margin has declined during 1999, from 5.36% to 5.13%. Management's Discussion and Analysis of Financial Condition and Results of Operations Net interest income increased $1.28 million on a tax equivalent basis for 1999 as compared to 1998, and $1.50 million on a tax equivalent basis for 1998 as compared to 1997. The volume increases in both loans and securities had the largest impact on interest income during 1999. The loan volume increases were largely a result of growth in the higher yielding commercial loan and lease areas. This coupled with an increase in interest rates during the last half of 1999 had a favorable impact on interest income during the year. Management expects the higher yielding loan and lease assets will continue to grow as the Corporation expands its presence in the commercial centers within its market area. Total interest expense was $20.60 million in 1999, compared to $17.82 million and $15.90 million in 1998 and 1997, respectively. The increase in interest expense during 1999 was largely the result of increases in the rates and volume of savings deposits and borrowings, offset by a decrease in the rates and volume of time deposits. The popularity of the Preferred Checking account continues to provide the Corporation an increasing source of funding. For 1999, interest expense on deposits represented 88.74% of total interest expense. The remaining 11.26% relates to the Corporation's alternative sources of funding, namely borrowings and the trust preferred securities. Management monitors the rates paid on deposit products and evaluates alternative funding sources on a regular basis in an effort to control interest expense. The following table presents the amount of interest income from average interest-earning assets and the yields earned on those assets, as well as the interest expense on average interest-bearing obligations and the rates paid on those obligations. All average balances are daily average balances.
Years ended December 31, 1999 1998 1997 Average Interest Average Interest Average Interest Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Balance Paid Rate Balance Paid Rate Balance Paid Rate (Dollars in Thousands) Interest-earning assets: Loans receivable1,2,3 $434,723 $ 42,288 9.73% $403,563 $ 39,206 9.71% $352,079 $ 35,567 10.10% Taxable securities 16,040 1,195 7.45 4,543 436 9.60 14,801 1,030 6.96 Nontaxable securities2 4,201 352 8.38 1,000 47 4.70 900 53 5.89 Other interest -earning assets 11,310 665 5.88 12,810 747 5.83 7,009 373 5.32 Total interest- earning assets 466,274 44,500 9.54 421,916 40,436 9.58 374,789 37,023 9.88 Interest-bearing obligations: Savings deposits 265,868 11,045 4.15 209,864 7,271 3.46 156,167 5,593 3.58 Time deposits 131,545 7,237 5.50 150,685 9,259 6.14 159,244 9,040 5.68 Borrowings 29,748 1,651 5.55 22,247 1,285 5.78 21,604 1,265 5.86 Subordinated debentures 7,781 669 8.60 0 0 0.00 0 0 0.00 Total interest- bearing obligations 434,942 20,602 4.76 382,796 17,815 4.65 337,015 15,898 4.72 Net interest income $ 23,898 $ 22,621 $ 21,125 Net interest rate spread 4.78% 4.93% 5.16% Net earning assets $ 31,332 $ 39,120 $ 37,774 Net yield on average interest- earning assets 5.13% 5.36% 5.64% Average interest- earning assets to average interest-bearing obligations 1.07X 1.10X 1.11X
1 For purposes of these computations, non-accruing loans are included in the daily average loan amounts outstanding. 2 The amount of interest income on nontaxable securities and loans has been adjusted to a tax equivalent basis. 3 Interest income on loans includes loan fees. Management's Discussion and Analysis of Financial Condition and Results of Operations The following table presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing obligations. It distinguishes between changes related to higher or lower outstanding balances and changes due to the levels and changes in interest rates. For each category of interest-earning assets and interest-bearing obligations, information is provided for changes attributable to (i) changes in volume (i.e. changes in volume multiplied by old rate) and (ii) changes in rate (i.e. changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume, which cannot be segregated, have been allocated proportionately to the change due to volume and the change due to rate. Years ended December 31, 1999 vs. 1998 1998 vs. 1997 Increase Increase (Decrease) Total (Decrease) Total Due to Increase Due to Increase Volume Rate (Decrease) Volume Rate (Decrease) (Dollars in Thousands) Interest-earning assets: Loans receivable $3,031 $ 51 3,082 $5,043 $(1,404) 3,639 Taxable securities 877 (118) 759 (889) 295 (594) Nontaxable securities 245 60 305 5 (11) (6) Other interest-earning assets (88) 6 (82) 335 39 374 Total interest-earning assets $4,065 $ (1) 4,064 $4,593 $(1,180) 3,413 Interest-bearing obligations: Savings deposits $2,162 1,612 3,774 $1,866 $ (188) 1,678 Time deposits (1,109) (913) (2,022) (502) 721 219 Borrowings 327 39 366 37 (17) 20 Subordinated debentures 669 0 669 0 0 0 Total interest-bearing obligations $2,049 $ 738 2,787 $1,401 $ 516 1,917 Net interest income $1,277 $1,496 Provision for Loan Losses The Corporation maintains the allowance for loan losses at a level considered adequate to cover losses inherent in the loan portfolio. The Corporation records a provision for loan losses necessary to maintain the allowance at an adequate level after considering factors such as loan charge-offs and recoveries, changes in the loan portfolio composition, loan growth, and other economic factors as more fully described in Note 1 to the accompanying financial statements. The increase in the provision for loan losses to $1.46 million in 1999 is a direct result of the strong loan growth during 1999. Net charge-offs remained stable and the quality of the loan portfolio continued to improve, as nonperforming and impaired loans decreased in 1999 as compared to 1998. The allowance for loan losses as a percentage of total loans remained stable at 1.47% at December 31, 1999 compared to 1.48% at December 31, 1998 and 1.50% at December 31, 1997. Noninterest Income Noninterest income was $3.54 million, $2.65 million, and $1.64 million in 1999, 1998, and 1997, respectively. The principal source of noninterest income is service charges on deposit accounts. These fees increased 32.93% in 1999 to $1.97 million from $1.48 million in 1998. 1998 fees represent an increase of 21.17% over the $1.22 million generated in 1997. The increased fees relate to increases in the Corporation's deposit accounts and revisions made to the fee structure throughout the past several years. In addition to service charges on deposit accounts, 1999 included a net gain of approximately $430,000 on the sale of the Rudyard and Cedarville offices and a gain of approximately $496,000 on the sale of land near the Corporation's Traverse City office. Management's Discussion and Analysis of Financial Condition and Results of Operations Noninterest Expense Noninterest expense was $15.94 million, $16.60 million, and $14.80 million in 1999, 1998, and 1997, respectively. The decrease in 1999 is a result of an ongoing internal restructuring process. Management not only reduced total full-time equivalents by more than 50 over the past three years but also centralized three key departments of the Corporation's sales and service environment: the credit department, the operations department and the call center. The results are a focused and effective team built to serve the customer's needs and more cost-effective operations. The restructuring has effectively reduced total operating expenses of the Corporation in comparison to asset growth. While annual increases in noninterest expense are expected, a primary objective of management is to hold the rate of increase below future asset growth. For 1999, noninterest expense actually decreased 4.01% while total assets increased 20.59%. For 1998, noninterest expense increased 12.20% over the previous year while total assets increased 11.85% during that same time period. The overall decrease in 1999 as compared to 1998 includes decreases in salaries and employee benefits of $206,000 or 3.13%, data processing of $197,000 or 12.56%, professional fees of $95,000 or 17.26%, and courier costs of $276,000 or 50.52%. In addition, amortization of intangible assets from acquisitions decreased by approximately $91,000 primarily from the discontinuation of amortization of previously capitalized intangibles related to the Rudyard branch sale in 1999. The above decreases were offset by an increase in occupancy expense of $187,000. The overall increase in 1998 as compared to 1997 was primarily the result of increases in salaries and employee benefits of $669,000 or 11.35%, data processing of $713,000 or 83.45%, occupancy of $214,000 or 9.68%, professional fees of $105,000 or 23.37%, and telephone of $352,000 or 115.37%. The above increases were offset primarily by a decrease in other expense of $594,000. Federal Income Taxes The provision for income taxes is 21.45% of income before income tax in 1999, compared to 17.54% in 1998 and 25.47% in 1997. The difference between these rates and the federal corporate income tax rate of 34% is primarily due to tax-exempt interest earned on securities and loans. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Interest Rate Risk The Corporation's primary market risk exposure is interest rate risk which management actively manages. The Corporation has no market risk sensitive instruments held for trading purposes. In the relatively low interest rate environment which has been in place the last several years, borrowers have generally tried to extend the maturities and repricing periods on their loans and place deposits in demand, or very short-term accounts. Management has taken various actions to offset the imbalance which those tendencies would otherwise create. In general, management tries to write commercial and real estate loans at variable rates or, when forced to offer fixed rates due to competitive pressures, write fixed rate loans for relatively short terms. Conversely, management has attempted to offer deposit products designed to steer depositors to longer periods. Beyond general efforts to shorten loan pricing periods and extend deposit maturities, management can manage interest rate risk by the maturity periods of securities purchased, selling securities available for sale, and borrowing funds with targeted maturity periods, among other strategies. Also, the rate of interest rate changes can impact the actions taken since the speed of change affects borrowers and depositors differently. Management's Discussion and Analysis of Financial Condition and Results of Operations Exposure to interest rate risk is reviewed on a regular basis by the Corporation's Executive Committee. Interest rate risk is the potential of economic losses due to future interest rate changes. These economic losses can be reflected as a loss of future net interest income and/or a loss of current fair market values. The objective is to measure the effect on net interest income and to adjust the balance sheet to minimize the inherent risk and at the same time maximize income. Management realizes certain risks are inherent and that the goal is to identify and minimize the risks. Tools used by management include the maturity/repricing GAP analysis and a simulation model. Presented below is the Corporation's maturity/repricing GAP table at December 31, 1999. GAP Table (In Thousands) 1 - 90 91 - 365 1 - 5 Over 5 Days Days Years Years Total Interest-earning assets Deposits in other financial institutions $ 679 $ 679 Securities 168 $ 80 $ 2,042 $ 41,053 43,343 Loans 211,166 98,579 85,602 71,275 466,622 Total interest-earning assets 212,013 98,659 87,644 112,328 510,644 Interest-bearing obligations Savings, NOW, and money market accounts 267,027 267,027 Certificates of deposit 38,472 65,323 47,484 1,086 152,365 Borrowings 20,000 17,643 4,196 5,039 46,878 Subordinated debentures 12,450 12,450 Total interest-bearing obligations 337,949 82,966 51,680 6,125 478,720 GAP $(125,936) $ 15,693 $ 35,964 $106,203 $ 31,924 Cumulative GAP $(125,936) $(110,243) $(74,279) $ 31,924 $ 31,924 At December 31, 1999, the Corporation had a cumulative liability GAP position of $110.24 million within the one-year timeframe. This suggests that if market interest rates decline in the next twelve months, the Corporation has the potential to earn more net interest income. Conversely, if market interest rates increase in the next twelve months, the above GAP position suggests the Corporation's net interest income would decline due to interest-bearing obligations maturing/repricing prior to interest-earning assets. A limitation of the traditional GAP analysis is that it does not consider the timing or magnitude of noncontractual repricing or expected prepayments. In addition, the GAP analysis treats savings, NOW and money market accounts as maturing within 90 days, while experience suggests that these categories of deposits are actually comparatively resistant to rate sensitivity. Considering the limitations of the maturity/repricing GAP analysis, and based on the results of other interest rate risk management tools used by the Corporation, such as the simulation model, management believes the Corporation is properly positioned against significant changes in interest rates without significantly altering operating results. Management's Discussion and Analysis of Financial Condition and Results of Operations Foreign Exchange Risk In addition to managing interest rate risk, management also actively manages risk associated with foreign exchange. The Corporation provides foreign exchange services, makes loans to, and accepts deposits from, Canadian customers primarily at its banking offices in Sault Ste. Marie. To protect against foreign exchange risk, the Corporation monitors the volume of Canadian deposits it takes in and then invests these Canadian funds in Canadian commercial loans and securities. As of December 31, 1999, the Corporation had excess Canadian assets of approximately $2.42 million (or $1.64 million in U.S. dollars). Management feels the exposure to short-term foreign exchange risk is minimal and at an acceptable level for the Corporation. Off-Balance-Sheet Risk Derivative financial instruments include futures, forwards, interest rate swaps, option contracts and other financial instruments with similar characteristics. The Corporation currently does not enter into futures, forwards, swaps or options. However, the Corporation is 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 and standby letters of credit and involve to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets. 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 and may require collateral from the borrower if deemed necessary by the Corporation. Standby letters of credit are conditional commitments issued by the Corporation to guarantee the performance of a customer to a third party up to a stipulated amount and with specified terms and conditions. Commitments to extend credit and standby letters of credit are not recorded as an asset or liability by the Corporation until the instrument is exercised. LIQUIDITY The Corporation's primary sources of funds include principal payments on securities and loans, sales of securities available for sale, sales of loans held for sale, deposits from customers, borrowings from the Federal Home Loan Bank and other sources, and the issuance of common stock. While scheduled repayments of securities and loans are predictable sources of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. In an attempt to minimize the effects of such fluctuation in funding sources, management has increased its borrowings from the Federal Home Loan Bank. In addition, the Corporation has ready access to significant sources of liquidity on an almost immediate basis through arrangements with the Federal Home Loan Bank and other financial institutions. Management anticipates no difficulty in maintaining liquidity at the levels necessary to conduct the Corporation's day-to-day business activities. CAPITAL It is the policy of the Corporation to maintain capital at a level consistent with both safe and sound operations and proper leverage to generate an appropriate return on shareholders' equity. Capital formation has been key to the Corporation's growth. During 1999, 1998 and 1997, the Corporation raised $0.48 million, $1.32 million and $1.87 million, respectively, in capital through the issuance of common stock related to the exercise of stock options and the dividend reinvestment program. Net income exceeded cash dividends by $5.07 million in 1999, $3.31 million in 1998 and $2.92 million in 1997. These increases in capital were offset by the retirement of common stock of $3.50 million in 1999, $1.80 million in 1998 and $0.83 million in 1997. The Corporation will continue to repurchase common stock from time-to-time when management believes such repurchases will enhance the return to its common shareholders. Overall, shareholders' equity increased by $1.35 million in 1999 and by $2.88 million in 1998. During 1999, the Corporation formed a Delaware business trust, North Country Capital Trust, solely to issue capital, or trust preferred securities. Through this entity, $12.45 million of trust preferred securities were issued in 1999; the net proceeds were invested in subordinated debentures issued to the trust by the Corporation. The Federal Reserve Bank has accorded the trust preferred securities Tier I capital treatment for regulatory purposes. The ability to apply Tier I capital treatment has positioned the Corporation for future growth without diluting the common shareholder base. Should additional capital be required to take advantage of expansion opportunities, management believes the significant demand for the Corporation's common stock could provide for additional capital to the extent that such capital cannot be internally generated. Management's Discussion and Analysis of Financial Condition and Results of Operations As a banking company, the Corporation is required to maintain certain levels of capital under government regulation. There are several measurements of regulatory capital and the Corporation is required to meet minimum requirements under each measurement. The Federal banking regulators have also established capital classifications beyond the minimum requirements in order to risk-rate deposit insurance premiums and to provide trigger points for prompt corrective action in the event an institution becomes financially troubled. Regulatory capital is not the same as shareholders' equity reported in the accompanying financial statements. Certain assets cannot be considered assets for regulatory purposes. The Corporation's acquisition intangibles are examples of such assets. Presented below is a summary of the Corporation's consolidated capital position in comparison to regulatory requirements: Tier I Tier I Total Capital to Capital to Capital to Average Risk Weighted Risk Weighted Assets Assets Assets Regulatory minimum for capital adequacy purposes 4.0% 4.0% 8.0% The Corporation: December 31, 1999 8.4% 11.8% 13.0% December 31, 1998 7.2% 9.4% 10.7% ISSUED BUT NOT YET ADOPTED ACCOUNTING POLICIES See Note 1 to the accompanying financial statements for a discussion of accounting pronouncements issued by the Financial Accounting Standards Board which the Corporation is not required to implement until periods subsequent to December 31, 1999. IMPACT OF INFLATION AND CHANGING PRICES The accompanying financial statements have been prepared in accordance with generally accepted accounting principles, which require the measurement of financial position and results of operations in historical dollars without considering the change in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of the Corporation's operations. Nearly all the assets and liabilities of the Corporation are financial, unlike industrial or commercial companies. As a result, the Corporation's performance is directly impacted by changes in interest rates, which are indirectly influenced by inflationary expectations. The Corporation's ability to match the interest sensitivity of its financial assets to the interest sensitivity of its financial liabilities tends to minimize the effect of changes in interest rates on the Corporation's performance. Changes in interest rates do not necessarily move to the same extent as changes in the price of goods and services. NEW DEVELOPMENTS As mentioned in the Letter to the Shareholders, the Corporation will be engaging in the following exciting new developments in the coming year: * To increase the liquidity for North Country Financial Corporation stock, effective April 18, 2000, it is anticipated the Corporation will be listed on The NASDAQ Market System under the symbol "NCFC." * The Board of Directors approved, in December 1999, the moving of the corporate headquarters to Traverse City, Michigan. Management anticipates this will enhance the ability of the Corporation to expand its development in lower Michigan which in turn is expected to increase the value of the Corporation's common stock. * In February 2000, the Corporation entered into an agreement with Old Kent Bank to purchase banking offices in Alanson and Glen Arbor. In addition to acquiring these two offices, the Corporation is in the process of establishing new offices in Cadillac and Traverse City. These transactions, which are subject to regulatory approval, are expected to be completed in the second quarter of 2000. Management's Discussion and Analysis of Financial Condition and Results of Operations YEAR 2000 COMPLIANCE Year 2000 was the term used to describe the fact that many existing computer programs used only two digits to identify a year in a date field. These programs were designed and developed without considering the impact of the change in the century. If not corrected, many computer applications could have failed or created erroneous results by or at the year 2000. The term also refers to devices with imbedded technology that are time sensitive and may fail to recognize year 2000 correctly. This issue affected virtually all companies and organizations. Since January 1997, the Corporation has reported the status of its actions and plans for the transition to the year 2000. The Corporation is pleased to report that the transition to year 2000, as of the present time, was successful and that there have been no material adverse consequences during the transition to its systems or customers. The Corporation has spent approximately $1 million on year 2000 compliance. Replacement equipment and software were capitalized or expensed in accordance with the Corporation's normal accounting policies. The effect of writing off the net book value of equipment and software that was not year 2000 compliant is included in the above estimate. Year 2000 related costs incurred in 2000 are estimated to be insignificant. Officers and Directors NORTH COUNTRY FINANCIAL CORPORATION Ronald G. Ford, Chairman and Chief Executive Officer Michael C. Henricksen, Vice Chairman Thomas G. King, Vice Chairman Sherry L. Littlejohn, President, Chief Operating Officer and Treasurer Paulette M. Demers, Secretary NORTH COUNTRY FINANCIAL CORPORATION BOARD OF DIRECTORS PAUL W. ARSENAULT President, Concepts Consulting, Inc. BERNARD A. BOUSCHOR Tribal Chairman, Sault Tribe of Chippewa Indians C. RONALD DUFINA Balsam Shop, Inc., Ramas, Inc., HRD, Inc., Island Leasing, Inc., Mackinac Island Hospitality, Inc. RONALD G. FORD Chairman and Chief Executive Officer, North Country Financial Corporation, North Country Bank and Trust, North Country Capital Trust, First Manistique Agency, NCB Real Estate Company, First Rural Relending Corporation STANLEY J. GEROU II Owner, Days Inn & Comfort Inn (Munising), Gerou Excavating MICHAEL C. HENRICKSEN Owner, Satellite Services WESLEY W. HOFFMAN President, Wesley W. Hoffman and Associates, P.C. THOMAS G. KING President, Top of Lake Investment Company JOHN D. LINDROTH President, Superior State Agency, Inc. SHERRY L. LITTLEJOHN President and Chief Operating Officer, North Country Bank and Trust JOHN P. MILLER Retired, Peoples Store Co., Inc. Officers and Directors NORTH COUNTRY BANK AND TRUST Chairman and Chief Executive Officer - Ronald G. Ford, Chairman and Chief Executive Officer, North Country Financial Corporation, North Country Bank and Trust, North Country Capital Trust, First Manistique Agency, NCB Real Estate Company First Rural Relending Corporation Vice Chairman - John D. Lindroth, President, Superior State Agency, Inc. Vice Chairman - Sherry L. Littlejohn, President and Chief Operating Officer, North Country Bank and Trust Vice Chairman - John P. Miller, Retired, Peoples Store Co., Inc. Paul W. Arsenault, Owner, Concepts Consulting Dennis Bittner, Owner, Bittner Engineering Bernard A. Bouscher, Tribal Chairman, Sault Tribe of Chippewa Indians C. Ronald Dufina, Owner, Balsam Shop, Inc., Ramas, Inc., HRD, Inc., Island Leasing, Inc., Mackinac Island Hospitality, Inc. Stanley J. Gerou II, Owner, Days Inn & Comfort Inn (Munising), Gerou Excavating Michael C. Henricksen, Owner, Satellite Services Wesley W. Hoffman, President, Wesley W. Hoffman and Associates, P.C. Kathy Hyland, Owner, Floor Covering Brokers G. David Jukuri, Owner, Century 21 Agency Thomas G. King, President, Top of Lake Investment Company Steve Madigan, Owner, Madigan-Pingatore Insurance Services Richard A. Paidl, Manager, Stephenson Marketing Association Spencer Shunk, Owner, Shunk Furniture Glen Tolksdorf, Owner, Tolksdorf Realty NORTH COUNTRY FINANCIAL GROUP Ronald G. Ford, Chairman Michael Hark, President and Chief Executive Officer Paul Hinkson, Vice President and Secretary NORTH COUNTRY CAPITAL TRUST Ronald G. Ford, Administrative Trustee Sherry L. Littlejohn, Administrative Trustee Paul Hinkson, Administrative Trustee FIRST RURAL RELENDING COMPANY Ronald G. Ford, President Sherry L. Littlejohn, Executive Vice President Paulette M. Demers, Secretary/Treasurer NCB REAL ESTATE COMPANY Ronald G. Ford, President Sherry L. Littlejohn, Executive Vice President Paulette M. Demers, Secretary/Treasurer FIRST MANISTIQUE AGENCY Ronald G. Ford, President Sherry L. Littlejohn, Executive Vice President Paulette M. Demers, Secretary/Treasurer Officers and Directors COMMUNITY BANK BOARD DIRECTORS Escanaba/Marquette/Iron Mountain Rich Rossway Dave Johnson Michele Butler Matt Surrell Steve Pelto Brian Steinhoff Lloyd Houle Heidi Johnson Lyle Berro Kevin Romitti Kerry Sorensen Larry Seratti Copper Country Robert Nara Lawrence Julio Glen Tolksdorf Delano Harma John Hawley Steve Vairo Traverse City Paul Reszka Tom Taylor Kent Rozycki Michael Witkop Michael Niedzielski Daune Weiss Phil Potvin Fred Salisbury Sr. FINANCIAL AFFILIATES North Country Bank and Trust Sherry L. Littlejohn, President and Chief Operating Officer 906-341-8401 or 1-800-236-2219 SHAREHOLDER INFORMATION For information or to assist with questions, please contact Shirley Young at 906-341-8401 or 1-800-236-2219 DIVIDEND REINVESTMENT PLAN Shareholders may acquire additional shares of North Country Financial Corporation stock free of service charges. For information, please contact Shirley Young 906-341-8401 or 1-800-236-2219 STOCK TRANSFER AGENT For questions regarding transfer of stock, please contact Shirley Young at 906-341-8401 or 1-800-236-2219 or Registrar & Transfer Company at 1-800-866-1340 EXECUTIVE OFFICES 3530 North Country Drive Traverse City, Michigan 49684 231-929-5600 WORLD WIDE WEB SITE http://www.ncbt.com EX-21 8 SUBSIDIARIES OF THE REGISTRANT Exhibit 21 - Subsidiaries of Registrant North County Bank and Trust - 100% owned (incorporated as a Michigan banking corporation) First Manistique Agency - 100% owned (incorporated as a Michigan corporation) First Rural Relending Company - 100% owned (incorporated as a Michigan corporation) North Country Financial Group - 100% owned (incorporated as a Michigan corporation) North Country Capital Trust - 100% owned (organized as a Delaware business trust) NCB Real Estate Company - 100% owned (incorporated as a Michigan corporation) All subsidiaries are directly owned by North Country Financial Corporation, except NCB Real Estate Company, which is owned directly by North Country Bank and Trust. EX-23 9 CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS Exhibit 23 - Consent of Independent Public Accountants Independent Auditor's Consent We consent to the incorporation by reference in the Registration Statement on Form S-3 (No. 33-61533) and the Registration Statements of Form S-8 (Nos. 333- 75959 and 333-75961) of North Country Financial Corporation of our report dated January 28, 2000, relating to the consolidated balance sheets of North Country Financial Corporation and Subsidiaries, and the related consolidated statements of income, changes in shareholders' equity, and cash flows, which report is included in the 1999 Annual Report of North Country Financial Corporation and to the continued reference to our firm as experts in the prospectus which is a part of the Registration Statement. /s/Wipfli Ullrich Bertelson LLP Wipfli Ullrich Bertelson LLP Appleton, Wisconsin March 24, 2000 EX-27 10 FINANCIAL DATA SCHEDULE
9 1 U.S. DOLLARS YEAR DEC-31-1999 JAN-01-1999 DEC-31-1999 1 26,159,675 679,096 0 0 0 0 43,342,807 466,621,615 6,863,367 568,441,837 462,998,148 0 5,296,142 46,878,036 0 0 16,418,081 24,401,430 568,441,837 40,457,210 1,670,017 421,879 42,549,106 18,281,860 20,602,115 21,946,991 1,456,544 0 15,937,503 8,091,049 8,091,049 0 0 6,355,549 0.90 0.89 5.13 95 705,511 0 0 6,112,334 807,652 102,141 6,863,367 6,863,367 0 2,096,000
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