-----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, TLzkAxtSYz+ctu6YJlZDloq4i2U5XQ/4BXl80/p8wpWAAHfuJCVGM4KaLShXDI8E SdqX9izYojs0RmX6nBZIog== 0001018712-99-000014.txt : 19990402 0001018712-99-000014.hdr.sgml : 19990402 ACCESSION NUMBER: 0001018712-99-000014 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990331 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SLIPPERY ROCK FINANCIAL CORP CENTRAL INDEX KEY: 0000884782 STANDARD INDUSTRIAL CLASSIFICATION: NATIONAL COMMERCIAL BANKS [6021] IRS NUMBER: 251674381 STATE OF INCORPORATION: PA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-21720 FILM NUMBER: 99581105 BUSINESS ADDRESS: STREET 1: 100 SOUTH MAIN ST CITY: SLIPPERY ROCK STATE: PA ZIP: 16057 BUSINESS PHONE: 7247942210 MAIL ADDRESS: STREET 1: 100 SOUTH MAIN STREET CITY: SLIPPERY ROCK STATE: PA ZIP: 16057 10-K 1 FORM 10-K-ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 X ANNUAL REPORT UNDER SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [ FEE REQUIRED] For the fiscal year ended December 31, 1998 TRANSITION REPORT UNDER SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE A 1934 [NO FEE REQUIRED] For the transition period from to . ----------- ----------- Commission file Number: 0-21720 SLIPPERY ROCK FINANCIAL CORPORATION (Exact name of registrant as specified in its charter) PENNSYLVANIA 25 - 1674381 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 100 South Main Street Slippery Rock, Pennsylvania 16057 - 1245 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (724) 794-2210 Securities registered pursuant to Section 12(b) of the Act: Not Applicable Securities registered pursuant to Section 12(g) of the Act: Common Stock, par value Indicate by check mark whether the registrant (l) has filed all reports required to 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 requirement 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 contained is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. The aggregate market value of the voting stock held by non-affiliates computed by reference to the price as of December 31, 1998, is $37,424,353. The number of shares outstanding of the issuer's Common Stock, as of March 1, 1999, was 2,764,248 shares of Common Stock, par value $0.25 per share. 1 DOCUMENTS INCORPORATED BY REFERENCE Part I Annual Report to Shareholders for Fiscal year Ended December 31, 1998 Part III Proxy statement for the 1999 Annual Meeting of shareholders to be held April 20, 1999 Page 1 of 58 Pages with Exhibits Page 1 of 10 Pages without Exhibits Exhibit Index on Page 11 2 SLIPPERY ROCK FINANCIAL CORPORATION FORM 10-K Index Part I Page Item 1. Business 4-5 Item 2. Properties 5 Item 3. Legal Proceedings 5 Item 4. Submission of Matters to a Vote of Security Holders 5 Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters 6 Item 6. Selected Financial Data 6 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation 6 Item 7A. Quantitive and Qualitive Disclosures About Market Risk 6-7 Item 8. Financial Statements and Supplementary Data 7 Item 9. Changes in and disagreements with Accountants on Accounting and Financial Disclosures 7 Part III Item 10. Directors and Executive Officers of the Registrant 7 Item 11. Executive Compensation 7 Item 12. Security Ownership of Certain Beneficial Owners and Management 7 Item 13. Certain Relationships and Related Transactions 7 Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K 8 Signatures 9-10 Index to Exhibits 11 3 SLIPPERY ROCK FINANCIAL CORPORATION FORM 10K Part I Item 1. Business General - ------- Slippery Rock Financial Corporation ("Company") is a one bank holding company organized under the laws of the Commonwealth of Pennsylvania. In addition, the Company is registered with and supervised by the Board of Governors of the Federal Reserve System (the Federal Reserve Board). On June 30, 1992, The First National Bank of Slippery Rock (Bank) completed the reorganization of the Bank into a holding company structure through the exchange of the outstanding shares of common stock for shares of common stock of Slippery Rock Financial Corporation (Company). The Company's primary business is the holding of all of the outstanding common shares of its wholly-owned subsidiary, The First National Bank of Slippery Rock. The Company's primary source of income has been dividends paid by the Bank. The Bank is nationally chartered and is a member of the Federal Reserve System. The Bank's deposits are insured by the Federal Deposit Insurance Corporation (FDIC) and is a full-service institution and offers various demand and time deposit products and originates secured and unsecured commercial, consumer and mortgage loans. The Bank has two offices located in Slippery Rock, Pennsylvania and one each in the communities of Prospect, Portersville, Grove City, and Harrisville, Pennsylvania. In addition to its retail locations, the Bank has an operations center located in Slippery Rock Township. Supervision and Regulation - -------------------------- The Company is subject to the jurisdiction of the Securities and Exchange Commission ("SEC"). In addition, Slippery Rock Financial Corporation is also subject to the provisions of the Bank Holding Company Act of 1956, as amended ("Bank Holding Company Act") and to the supervision of the Federal Reserve Board. The Bank Holding Company Act requires Slippery Rock Financial Corporation to receive prior approval of the Federal Reserve Board before it owns or controls more than 5% of the voting shares of any financial institution. A bank holding company is prohibited from engaging in or acquiring control of more than 5% of the voting shares of any company engaged in non- banking activities unless the Federal Reserve Board views the activities to be closely related to banking or managing or controlling banks. In addition, the Bank Holding Company Act prohibits changes in control of a bank holding company without prior notice to the Federal Reserve Board. Slippery Rock Financial Corporation is required to file an annual report with the Federal Reserve Board and any additional information as required. The Federal Reserve Board may also require examinations of Slippery Rock Financial Corporation or any or all of its subsidiaries. The Federal Reserve Act applies certain restrictions on a bank subsidiary of a bank holding company regarding extensions of credit to the bank holding company or any of its other subsidiaries, investments in stocks or other securities of the bank holding company or the use of such stocks or securities as collateral to any borrower. Legislation and Regulatory Changes - ---------------------------------- Changes and proposed changes to laws and regulations applicable to banks and bank holding companies are frequently made by the various legislative and regulatory bodies. No predictions as to the impact these changes may have on Slippery Rock Financial Corporation or its subsidiary can be made. On September 29, 1994, the President signed into law the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 ( the "Interstate Banking Act"). Under the Interstate Banking Act, the Federal Reserve Board, subsequent to analytical review, may approve an application by the Company to acquire all or substantially all of the assets of a bank located outside of the Commonwealth of Pennsylvania regardless of whether such a transaction is prohibited under the law of any state. In addition, the Interstate Banking Act provides that, beginning June 1, 1997, federal supervisory agencies may approve a merger of the Bank with another bank located in a different state or the establishment of a new branch office either by acquisition or "de novo" unless the Commonwealth of Pennsylvania enacts legislation prior to that date which specifically allows or prohibits a merger with a financial institution in another state. Management currently has no plans to engage in interstate banking activities. 4 Government Monetary Policy - -------------------------- Financial institutions may be affected by legislative changes and by the monetary and fiscal policies of various legislative and regulatory bodies. A primary function of the Federal Reserve Board is to promote economic growth by influencing interest rates and the national supply of money and credit. The Federal Reserve Board accomplishes this through the use of open market activities of the buying and selling of U. S. Government securities, by changing the discount rate on bank borrowings and by changing the level of reserve requirements on bank deposits. All of these instruments of monetary policy are used in various combinations to influence the volume of bank lending activity, the volume of investment and deposit activity and the interest rates charged on loans and paid on deposits. Because these instruments significantly influence short- term interest rates, the monetary policies of the Federal Reserve Board have had a significant effect on the operating results of banks in the past and are expected to continue to do so in the future. History and Business - Bank - --------------------------- The Bank's headquarters are located at 100 South Main Street, Slippery Rock, Pennsylvania 16057. The Bank had total assets, liabilities and total equity of $215,754,000, $191,623,000 and $24,131,000 respectively at December 31, 1998. The Bank is a full service financial institution, whose products and services include the accepting of time and demand deposits, and the origination of secured and unsecured commercial, mortgage and consumer loans. In addition to these services, the Bank also has a full service trust division, that not only offers traditional trust services, but the sale of mutual funds and annuities as well. The Bank's business is not seasonal in nature. At December 31, 1998, the Bank had 83 full-time employees and 20 part- time employees. Competition - ----------- The Bank competes with other area commercial banks, savings and loan institutions and credit unions. In addition, the Bank competes with major regional financial institutions headquartered in other areas of Pennsylvania. The Bank also competes for deposits with other non financial institutions such as those firms that offer mutual funds or insurance annuities. Interest charged on loans, interest paid on deposits and service charges on deposit accounts are all comparable to competitors in the general market place. Item 2. Properties The Bank has a full service drive through branch facility in addition to the Main banking facility in Slippery Rock, Pennsylvania, as well as one full service branch facility each in the communities of Prospect, Portersville, Harrisville, and Grove City, Pennsylvania. The Bank also has an operations center located in Slippery Rock Township. In addition, in 1999 the Bank moved its trust department to a freestanding facility in Slippery Rock. While the Bank owns all of its facilities, it is subject to a real estate mortgage obligation at its Prospect, Pennsylvania location. The details of which can be found in note 9 of the notes to financial statements on page 13 of the Company's 1998 annual report. In addition, on September 4, 1997, the Bank acquired certain assets and deposit liabilities of the Slippery Rock, Pennsylvania office of First Western Bank, F.S.B. The transaction was accounted for as a purchase. The Bank assumed the deposit liabilities of the office and acquired premises and equipment. The purchased branch was subsequently closed with all assets and liabilities being combined with the Bank's Main Street branch. In 1998, the Bank renovated the purchased facility for the purposes of housing the Bank's expanded trust services division. Slippery Rock Financial Corporation's headquarters are located at the Bank's Main office facility at 100 South Main Street, Slippery Rock, Pennsylvania, 16057. The Company pays no rent or other form of consideration for the use of the facility as its corporate headquarters. Item 3. Legal Proceedings (Not Applicable) Item 4. Submission of Matters to a Vote of Security Holders (Not Applicable) 5 Part II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters The information required by this Item pertaining to Market for Common Equity and Related Stockholder Matters is included in the Company's 1998 Annual report on page 34, and is incorporated herein by reference. Item 6. Selected Financial Data The information required by this Item pertaining to Selected Financial Data is included in the Company's 1998 Annual report on page 2, and is incorporated herein by reference. Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations The information required by this Item pertaining to Management's Discussion and Analysis of Financial Condition and Results of Operations is included in the Company's 1998 Annual report on pages 21 through 34, and is incorporated herein by reference. Item 7A. Quantitative and Qualitative Disclosures About Market Risk. Market risk for the Company is comprised primarily from interest rate risk exposure and liquidity risk. Since virtually all of the interest-earning assets and paying liabilities are at the Bank, virtually all of the interest rate risk and liquidity risk lies at the Bank level. The Bank is not subject to currency exchange risk or commodity price risk, and has no trading portfolio, and therefore, is not subject to any trading risk. In addition, the Bank does not participate in hedging transactions such as interest rate swaps and caps. Changes in interest rates will impact both income and expense recorded and also the market value of long-term interest-earning assets. Interest rate risk and liquidity risk management is performed at the Bank level. Although the Bank has a diversified loan portfolio, loans outstanding to individuals and businesses are dependent upon the local economic conditions in the immediate trade area. One of the principal functions of the Company's asset/liability management program is to monitor the level to which the balance sheet is subject to interest rate risk. The goal of the asset/liability program is to manage the relationship between interest rate sensitive assets and liabilities, thereby minimizing the fluctuations in the net interest margin, which achieves consistent growth of net interest income during periods of changing interest rates. Interest rate sensitivity is the result of differences in the amounts and repricing dates of a bank's rate sensitive assets and rate sensitive liabilities. These differences, or interest rate repricing "gap", provide an indication of the extent that the Company's net interest income is effected by future changes in interest rates. During a period of rising interest rates, a positive gap, a position of more rate sensitive assets than rate sensitive liabilities, is desired. During a falling interest rate environment, a negative gap is desired, that is, a position in which rate sensitive liabilities exceed rate sensitive assets. At December 31, 1998, the Company had a cumulative negative gap of $27,732,000 at the one year horizon. The gap analysis indicates that if interest rates were to rise 100 basis points (1.00%), the Company's net interest income would decline at the one year horizon because the Company's rate sensitive liabilities would reprice faster than rate sensitive assets. Conversely, if rates were to fall 100 basis points, the Company would earn more in net interest income. Management also manages interest rate risk with the use of simulation modeling which measures the sensitivity of future net interest income as a result of changes in interest rates. The analysis is based on repricing opportunities for variable rate assets and liabilities and upon contractual maturities of fixed rate instruments . The simulation also calculates net interest income based upon estimates of the largest foreseeable rate increase or decrease, (+or - 200 basis points or 2.00%). The current analysis indicates that, given a 200 basis point overnight movement in interest rate, the Bank would experience a potential $220,000 or 2% change in net interest income. It is important to note, however, that this exercise would be of a worst case scenario. It would be more likely to have incremental changes in interest rates, rather than a single significant increase or decrease. When management believes interest rate movements will occur, it can restructure the balance sheet and thereby the ratio of rate sensitive assets to rate sensitive liabilities which in turn will effect the net interest income. It is important to note; however, not all assets and liabilities with similar maturities and repricing opportunities will reprice at the same time or to the same degree and therefore, could effect forecasted results. Much of the Bank's deposits have the ability to reprice immediately; however, deposit rates are not tied to an external index. As a result, although changing market interest rates impact repricing, the Bank retains much of the control over repricing by determining itself the extent and timing of repricing of deposit products. In addition, the Bank maintains a significant portion of its investment portfolio as available for sale securities and also has a significant variable rate loan portfolio which is used to offset rate sensitive liabilities. 6 Changes in market interest rates can also affect the Bank's liquidity position through the impact rate changes may have on the market value of the available for sale portion of the investment portfolio. Increases in market rates can adversely impact the market values and therefore, make it more difficult for the Bank to sell available for sale securities needed for general liquidity purposes without incurring a loss on the sale. This issue is addressed by the Bank with the use of borrowings from the Federal Home Loan Bank ("FHLB") and the selling of fixed rate mortgages as a source of liquidity to the Bank. The Company's liquidity plan allows for the use of long-term advances or short-term lines of credit with the FHLB as a source of funds. Borrowing from FHLB not only provides a source of liquidity for the Company, but also serves as a tool to reduce interest risk as well. The Company may structure borrowings from FHLB to match those of customer credit requests, and therefore, lock in interest rate spreads over the lives of the loans. In addition to borrowing from the FHLB as a source for liquidity, the Company also participates in the secondary mortgage market. Specifically, the Company sells fixed rate, residential real estate mortgages to the Federal Home Loan Mortgage Corporation ("Freddie Mac"). The sales to Freddie Mac not only provide an opportunity for the Bank to remain competitive in the market place, by allowing it to offer a fixed rate mortgage product, but also provides an additional source of liquidity and an additional tool for management to limit interest rate risk exposure. The Bank continues to service all loans sold to Freddie Mac. Item 8. Financial Statements and Supplementary Data The Company's consolidated financial statements and notes thereto contained in the 1998 Annual Report are filed as Exhibit 13 hereto and are incorporated in their entirety by reference under this item. Annual Report Page - ----------------------------------------------------------------------------- Consolidated Balance Sheet 3 Consolidated Statement of Income 4 Consolidated Statement of Changes in Stockholders equity 5 Consolidated Statement of Cash Flows 6 Notes to Consolidated Financial Statements 7-19 Item 9. Changes in and disagreements with Accountants on Accounting and Financial Disclosure (Not Applicable) Part III Item 10. Directors and Executive Officers of the Registrant The information required by this Item pertaining to directors of the Company is included in the Company's Proxy Statement for its 1999 Annual Meeting of Shareholders on pages 4 and 5 and page 11 and is incorporated herein by reference. Item 11. Executive Compensation The information required by this Item is included in the 1999 Proxy Statement in the Executive Compensation section on pages 6 through 11, and is incorporated herein by reference. Item 12. Security Ownership of Certain Beneficial Owners and Management. The information required by this Item is included in the 1999 Proxy Statement in the Voting Securities section on pages 1 through 3, and is incorporated herein by reference. Item 13. Certain Relationships and Related Transactions. The information required by this Item is included in the 1999 Proxy Statement in the Transactions with Management section on page 12, and is incorporated herein by reference. 7 Part IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K. (a) The following table presents those exhibits required by Item 601 of Regulation S-K Slippery Rock Financial Corporation Form 10-K Exhibit List (a) Exhibits required by Item 601 of Regulation S-K: Exhibit Number 2 N/A 3(i) Articles of Incorporation filed on March 6, 1992 as Exhibit 3(i) to Registration Statement on Form S-4 (No. 33-46164) and incorporated herein by reference. 3(ii) By-laws filed on March 6, 1992 as Exhibit 3(ii) to Registration Statement on Form S-4 (No. 33-46164) and incorporated herein by reference. 4 N/A 9 N/A 10 N/A 11 N/A 12 N/A 13 Annual Report to Shareholders for Fiscal Year Ended December 31, 1998 filed with the Commission on March 31, 1999 and incorporated herein by reference. 16 N/A 18 N/A 21 List of subsidiaries 22 N/A 23 N/A 24 N/A 27 Financial Data Schedule 28 N/A 99.1 Notice of Annual Meeting, Proxy Statement and form of Proxy for Annual Meeting of Shareholders to be held on April 20, 1999 filed with the Commission on March 31, 1999 and incorporated herein by reference. 99.2 Accountant's Opinion (b) Reports on Form 8 - K None 8 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Slippery Rock Financial Corporation By: /s/ William C. Sonntag ------------------------- William C. Sonntag President & CEO Date: March 16, 1999 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. By:: /s/ Mark A. Volponi ------------------------- Mark A. Volponi Treasurer Date: March 16, 1999 By: /s/ Eleanor L. Cress ------------------------- Eleanor L. Cress Secretary Date: March 16, 1999 9 Signatures (Continued) By: /s/ John W. Conway ------------------------- John W. Conway Director Date: March 16, 1999 By: /s/ Grady W. Cooper ------------------------- Grady W. Cooper Director Date: March 16, 1999 By: /s/ Robert M. Greenberger ------------------------- Robert M. Greenberger Director Date: March 16, 1999 By: /s/ Robert E. Gregg ------------------------- Robert E. Gregg Director Date: March 16, 1999 By: /s/ William D. Kingery ------------------------- William D. Kingery Director Date: March 16, 1999 By: /s/ Paul M. Montgomery ------------------------- Paul M. Montgomery Director Date: March 16, 1999 By: /s/ S. P. Snyder ------------------------- S. P. Snyder Director Date: March 16, 1999 By: /s/ William C. Sonntag ------------------------- William C. Sonntag Director Date: March 16, 1999 By: /s/ Charles C. Stoops, Jr. ------------------------- Charles C. Stoops, Jr. Director Date: March 16, 1999 By: /s/ Norman P. Sundell ------------------------- Norman P. Sundell Director Date: March 16, 1999 Index to Exhibits Item Number Description - ----------------------------------------------------------------------- 21 List of Subsidiaries 99.2 Report of Independent Auditors 11 EX-13 2 ANNUAL REPORT Dear Shareholders: Consolidated net income reached a new high of $3,054,000, an increase of $171,000 or 5.9% from the $2,883,000 reported the previous year. Earnings per share of $1.11 compared to $1.05 per share for the same twelve month period in 1997, an increase of 5.7%. Total assets for the corporation reached a new high of $215,773,000 at year end, December 31, 1998, an increase of $8,625,000 or 4.2% from December 31, 1997. Total deposits were $190,149,000 at December 31, 1998 compared to $181,225,000 at December 31, 1997, an increase of $8,924,000 or 4.9%. Return on average assets of 1.45% at December 31, 1998 compared to a return of 1.46% at December 31, 1997 while the return on average equity of 13.06% at December 31, 1998 compared to 13.52% at December 31, 1997. During 1998, two major construction projects were completed for our Bank. The old First Western Bank branch on South Main Street in Slippery Rock was remodeled to house the Trust Division. The new trust building consists of three offices, a reception area, a work area and lobby. This new facility provides easier access for our customers and expanded space in which to market alternative investment products. In addition to the traditional services, such as estate planning and trusts, we are now able to offer new products such as mutual funds, annuities and life insurance as well as individual stock purchases. As the banking industry continues to change, the addition of these new products will enable your Bank to compete with the many other financial service companies. The second building project completed in 1998 was the construction of the new Plaza Office on Route 173 in Slippery Rock. The original office was sold to the Giant Eagle Plaza and the new expanded facility was built directly across the road. The new Office is a full service branch offering retail lending services, safe deposit boxes, a drive-thru ATM and a drive-up night depository. This office was built to accommodate the growth that we anticipate in the Slippery Rock market in the coming years. As I mentioned last year, the Bank has signed a lease with Giant Eagle to open a grocery store branch when the expansion of the Giant Eagle is complete. That construction has been delayed, but we anticipate the grocery store branch would be open during the year 2000. The Giant Eagle branch will be open extended hours on weekends and evenings to better serve our modern fast paced society. You have probably heard quite a bit of discussion about the Year 2000 or Y2K issue in the news media recently. During 1999, there will be a great amount of publicity about possible problems with the year-end date change. Our Bank has had a Year 2000 committee working on this issue since 1997. We have assessed all of our internal and external systems and have successfully completed testing of the Bank's main computer processing systems. The Bank is also working closely with our third party service providers to monitor their readiness for Year 2000. We are confident that we will be prepared for the Year 2000 date change. In light of the increasing competition from many commission based financial service companies, our Bank has initiated a formal sales training program for all employees. Every employee, including senior management, will have training related to their area of responsibility within the Bank. Your Board of Directors and management believe that in order to be competitive in the future with many non-bank businesses, that we must be begin to change our culture. We will still be a service oriented community bank, but we must focus more on selling our products. Banks can no longer afford to sit back and wait for customers to walk through the door. Sales training will become an ongoing part of the Bank's operating philosophy in the future. Work on a Home Page/Website for the Bank is nearing completion. Current or potential customers will be able to access key information about the Bank's rates, products, and services, by using the Internet. Our website address will be www.FNBSR.COM, and we hope to have this project completed and operational by third quarter of 1999. As a result of numerous mergers of competing banks within our market area, the Board of Directors has made the decision to purchase two building sights in Lawrence County. The Board of Directors and management believe that there are sound business opportunities in that market due to the fact that there are no longer any community banks based in Lawrence County. We believe that our philosophy of accepting deposits and returning those deposits back to the community in the form of loans to local businesses and consumers will be well accepted in that market. No definite date has been set to begin construction, but both locations will be full service branch banks with drive up facilities. As we approach the new millennium I am pleased to report that your Bank continues to be a strong progressive financial institution. The financial service industry continues to change rapidly and your Board of Directors and management believe that our Bank is poised to take advantage of new opportunities as they arise. The success of the Bank is dependent upon the Board, management, employees and shareholders all working together. I would like to take this opportunity to thank everyone for all of their efforts this past year and I encourage all of you to attend the Annual Meeting on April 20, 1999 at the Slippery Rock Township Building. We look forward to seeing you there. Sincerely, William C. Sonntag President & CEO SLIPPERY ROCK FINANCIAL CORPORATION SELECTED FINANCIAL DATA
Five Years Ended December 31, ----------------------------------------------------------------- 1998 1997 1996 1995 1994 ----------------------------------------------------------------- (Dollars in thousands except per share data) SUMMARY OF EARNINGS Interest income $ 16,091 $ 15,152 $ 13,744 $ 12,486 $ 11,042 Interest expense 6,986 6,515 5,761 4,878 4,049 ----------------------------------------------------------------- Net interest income 9,105 8,637 7,983 7,608 6,993 Provision for loan losses 310 275 200 275 163 ----------------------------------------------------------------- Net interest income after provision for loan losses 8,795 8,362 7,783 7,333 6,830 Other income 1,629 1,053 846 902 809 Other expense 6,017 5,432 4,964 4,680 4,534 ----------------------------------------------------------------- Income before income taxes 4,407 3,983 3,665 3,555 3,105 Applicable income tax expense 1,353 1,100 995 1,056 839 ----------------------------------------------------------------- NET INCOME $ 3,054 $ 2,883 $ 2,670 $ 2,499 $ 2,266 ================================================================= PER SHARE DATA (1) Earnings per share $ 1.11 $ 1.05 $ 0.97 $ 0.91 $ 0.82 Dividends paid $ 0.39 $ 0.35 $ 0.29 $ 0.24 $ 0.20 Book value per share at period end $ 8.79 $ 8.05 $ 7.36 $ 6.64 $ 5.92 Average number of shares outstanding 2,759,802 2,756,278 2,756,248 2,756,248 2,756,248 STATEMENT OF CONDITION STATISTICS (At end of period) Assets $ 215,773 $ 207,148 $ 195,713 $ 162,011 $ 147,374 Deposits $ 190,149 $ 181,225 $ 164,779 $ 140,664 $ 129,322 Loans $ 160,854 $ 157,501 $ 141,286 $ 122,747 $ 112,613 Allowance for loan losses $ 1,410 $ 1,299 $ 1,177 $ 1,098 $ 1,037 Interest-bearing deposits in other banks $ 8,016 $ 68 $ 287 $ 118 $ 127 Investment securities $ 21,841 $ 20,030 $ 37,346 $ 25,755 $ 19,638 Short-term borrowings $ 2,000 $ 9,000 $ 1,300 Long term debt $ 333 $ 552 $ 754 $ 939 $ 1,109 Stockholders' equity $ 24,255 $ 22,175 $ 20,297 $ 18,313 $ 16,330 SIGNIFICANT RATIOS (2) Return on average equity 13.06% 13.52% 13.78% 14.32% 14.51% Return on average assets 1.45% 1.46% 1.52% 1.64% 1.56% Loans as a percent of deposits 84.59% 86.91% 85.74% 87.26% 87.08% Ratio of average equity to average assets 11.07% 10.83% 11.05% 11.43% 10.75% Dividends as a percent of net income 35.14% 33.33% 29.90% 26.37% 24.39%
(1) Per share data restated for the effects of 10% stock dividends paid during 1995, 1994, and 1993; and for the effects of a four for one stock split in 1996 and a two for one split in 1998. (2) Loans as a percent of deposits calculations use actual period end volume data, all other ratios use average daily volume data. - 2 - SLIPPERY ROCK FINANCIAL CORPORATION CONSOLIDATED BALANCE SHEET December 31, 1998 1997 ------------ ------------ ASSETS Cash and due from banks $ 8,619,657 $ 12,948,894 Interest-bearing deposits in other banks 8,015,617 68,200 Federal funds sold 6,400,000 8,800,000 Mortgage loans held for sale 2,467,803 898,000 Investment securities available for sale 18,196,864 13,080,018 Investment securities held to maturity (market value of $3,735,582 and $7,029,625) 3,644,197 6,950,367 Loans 160,853,908 157,501,063 Less allowance for loan losses 1,410,309 1,298,981 ------------ ------------ Net loans 159,443,599 156,202,082 ============ ============ Premises and equipment 4,404,766 3,647,420 Accrued interest and other assets 4,580,645 4,553,065 ------------ ------------ TOTAL ASSETS $215,773,148 $207,148,046 ============ ============ LIABILITIES Deposits: Noninterest-bearing demand $ 31,244,022 $ 27,861,267 Interest-bearing demand 22,821,004 22,841,536 Savings 20,698,137 19,410,397 Money market 23,703,562 20,789,596 Time 91,682,212 90,321,772 ------------ ------------ Total deposits 190,148,937 181,224,568 Short-term borrowings - 2,000,000 Other borrowings 333,254 552,252 Accrued interest and other liabilities 1,035,883 1,196,100 ------------ ------------ TOTAL LIABILITIES 191,518,074 184,972,920 STOCKHOLDERS' EQUITY Common stock, par value $.25; authorized shares 12,000,000; issued and outstanding 2,763,648 and 1,379,324 690,912 344,831 Capital surplus 10,447,869 10,710,629 Retained earnings 13,029,794 11,052,496 Net unrealized gain on securities 86,499 67,170 ------------ ------------ TOTAL STOCKHOLDERS' EQUITY 24,255,074 22,175,126 ------------ ------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $215,773,148 $207,148,046 ============ ============ See accompanying notes to the consolidated financial statements. - 3 - SLIPPERY ROCK FINANCIAL CORPORATION CONSOLIDATED STATEMENT OF INCOME
Year Ended December 31, 1998 1997 1996 ------------ ------------ ------------ INTEREST AND DIVIDEND INCOME Interest and fees on loans $ 14,139,576 $ 13,318,221 $ 12,055,139 Interest-bearing deposits in other banks 1,996 20,852 19,230 Federal funds sold 745,412 347,358 172,601 Interest and dividends on investment securities: Taxable interest 692,959 671,717 602,896 Tax-exempt interest 449,258 738,424 841,668 Dividends 62,016 55,711 51,934 ------------ ------------ ------------ Total interest and dividend income 16,091,217 15,152,283 13,743,468 ------------ ------------ ------------ INTEREST EXPENSE Deposits 6,949,151 6,439,824 5,562,371 Short-term borrowings 2,374 29,038 141,194 Other borrowings 34,227 46,212 57,060 ------------ ------------ ------------ Total interest expense 6,985,752 6,515,074 5,760,625 ------------ ------------ ------------ NET INTEREST INCOME 9,105,465 8,637,209 7,982,843 PROVISION FOR LOAN LOSSES 310,000 275,000 200,000 ------------ ------------ ------------ NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES 8,795,465 8,362,209 7,782,843 ------------ ------------ ------------ OTHER INCOME Service charges on deposit accounts 593,112 539,122 496,583 Trust department income 75,452 75,882 53,310 Net gains (losses) on loan sales 289,932 66,062 (21,223) Investment securities losses, net - (14,872) - Other income 670,340 387,416 317,631 ------------ ------------ ------------ Total other income 1,628,836 1,053,610 846,301 ------------ ------------ ------------ OTHER EXPENSE Salaries and employee benefits 2,857,553 2,641,258 2,371,117 Net occupancy expense 242,570 355,920 415,319 Equipment expense 756,845 636,231 597,915 Data processing expense 292,761 176,584 177,438 Pennsylvania shares tax 203,272 182,898 164,430 Stationery, printing, and supplies 156,896 160,405 156,126 Other expense 1,506,921 1,279,108 1,081,188 ------------ ------------ ------------ Total other expense 6,016,818 5,432,404 4,963,533 ------------ ------------ ------------ Income before income taxes 4,407,483 3,983,415 3,665,611 Income tax expense 1,353,457 1,100,214 995,123 ------------ ------------ ------------ NET INCOME $ 3,054,026 $ 2,883,201 $ 2,670,488 ============ ============ ============ EARNINGS PER SHARE Basic $ 1.11 $ 1.05 $ 0.97 Diluted $ 1.11 $ 1.05 $ 0.97
See accompanying notes to the consolidated financial statements. - 4 - SLIPPERY ROCK FINANCIAL CORPORATION CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
Net Unrealized Common Capital Retained Gain (Loss) Comprehensive Stock Surplus Earnings on Securities Total Income ------------ ------------ ------------ ------------ ------------ ------------ Balance, December 31, 1995 $ 344,531 $ 10,676,129 $ 7,255,922 $ 36,830 $ 18,313,412 Net income 2,670,488 2,670,488 $ 2,670,488 Other comprehensive income: Unrealized gain on available for sale securities 104,625 104,625 104,625 ------------ Comprehensive income $ 2,775,113 ============ Cash dividends ($.29 per share) (791,825) (791,825) ------------ ------------ ------------ ------------ ------------ Balance, December 31, 1996 344,531 10,676,129 9,134,585 141,455 20,296,700 Net income 2,883,201 2,883,201 $ 2,883,201 Other comprehensive income: Unrealized loss on available for sale securities (74,285) (74,285) (74,285) ------------ Comprehensive income $ 2,808,916 ============ Cash dividends ($.35 per share) (965,290) (965,290) Stock options exercised 300 34,500 34,800 ------------ ------------ ------------ ------------ ------------ Balance, December 31, 1997 344,831 10,710,629 11,052,496 67,170 22,175,126 Net income 3,054,026 3,054,026 $ 3,054,026 Other comprehensive income: Unrealized gain on available for sale securities 19,329 19,329 19,329 ------------ Comprehensive income $ 3,073,355 ------------ Cash dividends ($.39 per share) (1,076,728) (1,076,728) Stock options exercised 625 82,696 83,321 Stock split 345,456 (345,456) - ------------ ------------ ------------ ------------ ------------ Balance, December 31, 1998 $ 690,912 $ 10,447,869 $ 13,029,794 $ 86,499 $ 24,255,074 ============ ============ ============ ============ ============ 1998 1997 1996 ------------ ------------ ------------ Components of comprehensive income: Change in net unrealized gain (loss) on investment securities available for sale $ 19,329 $ (84,101) $ 104,625 Realized losses included in net income, net of tax - 9,816 - ------------ ------------ ------------ Total $ 19,329 $ (74,285) $ 104,625 ============ ============ ============
See accompanying notes to the consolidated financial statements. - 5 - SLIPPERY ROCK FINANCIAL CORPORATION CONSOLIDATED STATEMENT OF CASH FLOWS
Year Ended December 31, 1998 1997 1996 ------------ ------------ ------------ OPERATING ACTIVITIES Net income $ 3,054,026 $ 2,883,201 $ 2,670,488 Adjustments to reconcile net income to net cash provided by operating activities: Provision for loan losses 310,000 275,000 200,000 Depreciation and amortization 812,004 757,725 632,478 Originations of mortgage loans held for sale (15,528,429) (8,915,878) (4,898,732) Proceeds from sales of mortgage loans 14,248,558 9,379,987 5,174,413 Net (gains) losses on mortgage loan sales (289,932) (66,062) 21,223 Investment securities losses, net - 14,872 - Decrease (increase) in accrued interest receivable 2,079 50,549 (328,939) Increase (decrease) in accrued interest payable (48,215) 214,720 25,807 Other, net (334,363) 86,977 (94,360) ------------ ------------ ------------ Net cash provided by operating activities 2,225,728 4,681,091 3,402,378 ------------ ------------ ------------ INVESTING ACTIVITIES Decrease (increase) in time deposits in other banks (8,000,000) 99,000 - Investment securities available for sale: Proceeds from sales - 11,521,498 - Proceeds from maturities and repayments 8,021,601 2,204,295 2,792,298 Purchases (13,133,296) (650,790) (16,568,897) Investment securities held to maturity: Proceeds from maturities and repayments 3,306,670 4,400,876 4,560,283 Purchases - (323,705) (2,231,508) Increase in loans, net (3,689,028) (16,435,867) (18,587,048) Purchases of premises and equipment (1,225,459) (524,603) (489,333) Premium paid on branch acquisition - (325,310) (2,093,982) Proceeds from sales of other real estate owned - 187,597 - ------------ ------------ ------------ Net cash provided by (used for) investing activities (14,719,512) 152,991 (32,618,187) ------------ ------------ ------------ FINANCING ACTIVITIES Increase in deposits, net 8,924,368 16,445,364 24,114,808 Proceeds from short-term borrowings - - 22,110,000 Repayments of short-term borrowings (2,000,000) (7,000,000) (14,410,000) Payments on other borrowings (218,998) (201,397) (185,214) Proceeds from stock options exercised 83,321 34,800 - Cash dividends paid (1,076,728) (965,290) (791,825) ------------ ------------ ------------ Net cash provided by financing activities 5,711,963 8,313,477 30,837,769 ------------ ------------ ------------ Increase (decrease) in cash and cash equivalents (6,781,821) 13,147,559 1,621,960 CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 21,817,094 8,669,535 7,047,575 ------------ ------------ ------------ CASH AND CASH EQUIVALENTS AT END OF YEAR $ 15,035,273 $ 21,817,094 $ 8,669,535 ============ ============ ============
See accompanying notes to the consolidated financial statements. - 6 - SLIPPERY ROCK FINANCIAL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES A summary of the significant accounting and reporting policies applied in the presentation of the accompanying financial statements follows: Nature of Operations and Basis of Presentation - ---------------------------------------------- The consolidated financial statements include the accounts of Slippery Rock Financial Corporation (the "Company") and its wholly-owned subsidiary, The First National Bank of Slippery Rock (the "Bank"). All significant intercompany transactions have been eliminated in consolidation. The investment in subsidiary on the parent company financial statements is carried at the parent company's equity in the underlying net assets. The Company is a Pennsylvania corporation organized to become the holding company of the Bank. The Bank is a national bank headquartered in Slippery Rock, Pennsylvania. The Company's principal sources of revenue emanate from interest earnings on its portfolio of residential real estate, commercial mortgage, commercial, and consumer loans as well as interest earnings on investment securities and a variety of deposit and trust services provided to its customers through six locations. The Company is supervised by the Board of Governors of the Federal Reserve System, while the Bank is subject to regulation and supervision by the Office of the Comptroller of the Currency. The accounting principles followed by the Company and its wholly-owned subsidiary, the Bank, and the methods of applying these principles conform with generally accepted accounting principles and with general practice within the banking industry. In preparing the financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the balance sheet date and statement of income. Actual results could differ significantly from those estimates. Investment Securities - --------------------- Investment securities are classified at the time of purchase, based upon management's intentions and ability, as securities held to maturity or securities available for sale. Debt securities acquired with the intent and ability to hold to maturity are stated at cost adjusted for amortization of premium and accretion of discount which are computed using a method which approximates a level yield and recognized as adjustments of interest income. Certain other securities have been classified as available for sale to serve principally as a source of liquidity. Unrealized holding gains and losses for available for sale securities are reported as a separate component of stockholders' equity, net of tax, until realized. Realized securities gains and losses, if any, are computed using the specific identification method. Interest and dividends on investment securities are recognized as income when earned. Common stock of the Federal Home Loan Bank and Federal Reserve Bank represent ownership in institutions which are wholly-owned by other financial institutions. These securities are accounted for at cost and are classified with equity securities available for sale. Loans - ----- Loans are reported at their principal amount net of the allowance for loan losses. Interest on loans is recognized as income when earned on the accrual method. The Company's general policy has been to stop accruing interest on loans when it is determined a reasonable doubt exists as to the collectibility of additional interest. Income is subsequently recognized only to the extent that cash payments are received provided the loan is not delinquent in payment and, in management's judgment, the borrower has the ability and intent to make future interest and principal payments. Loan origination fees and certain direct loan origination costs are being deferred and the net amount amortized as an adjustment of the related loan's yield. The Company is amortizing these amounts over the contractual lives of the related loans. In general, fixed rate, permanent residential mortgage loans originated by the Bank are held for sale and are carried in the aggregate at the lower of cost or market. Such loans are sold to Federal Home Loan Mortgage Corporation ("Freddie Mac") and serviced by the Bank. Allowance for Loan Losses - ------------------------- The allowance for loan losses represents the amount which management estimates is adequate to provide for potential losses in its loan portfolio. The allowance method is used in providing for loan losses. Accordingly, all loan losses are charged to the allowance and all recoveries are credited to it. The allowance for loan losses is established through a provision for loan losses charged to operations. The provision for loan losses is based on management's periodic evaluation of individual loans, economic factors, past loan loss experience, changes in the composition and volume of the portfolio, and other relevant factors. The estimates used in determining the adequacy of the allowance for - 7 - loan losses, including the amounts and timing of future cash flows expected on impaired loans, are particularly susceptible to changes in the near term. Impaired loans are commercial and commercial real estate loans for which it is probable that the Company will not be able to collect all amounts due according to the contractual terms of the loan agreement. The Company individually evaluates such loans for impairment and does not aggregate loans by major risk classifications. The definition of "impaired loans" is not the same as the definition of "nonaccrual loans," although the two categories overlap. The Company may choose to place a loan on nonaccrual status due to payment delinquency or uncertain collectibility, while not classifying the loan as impaired if the loan is not a commercial or commercial real estate loan. Factors considered by management in determining impairment include payment status and collateral value. The amount of impairment for these types of impaired loans is determined by the difference between the present value of the expected cash flows related to the loan, using the original interest rate, and its recorded value, or as a practical expedient in the case of collateralized loans, the difference between the fair value of the collateral and the recorded amount of the loans. When foreclosure is probable, impairment is measured based on the fair value of the collateral. Mortgage loans on one-to-four family properties and all consumer loans are large groups of smaller balance homogeneous loans and are measured for impairment collectively. Loans that experience insignificant payment delays, which are defined as 90 days or less, generally are not classified as impaired. Management determines the significance of payment delays on a case- by-case basis taking into consideration all of the circumstances surrounding the loan and the borrower including the length of the delay, the borrower's prior payment record, and the amount of shortfall in relation to the principal and interest owed. Premises and Equipment - ---------------------- Premises and equipment are stated at cost less accumulated depreciation. Depreciation is computed on both the straight-line and accelerated methods over the estimated useful lives of the assets. Expenditures for maintenance and repairs are charged against income as incurred. Costs of major additions and improvements are capitalized. Real Estate Owned - ----------------- Real estate owned acquired by foreclosure is classified as a component of other assets at the lower of the recorded investment in the property or its fair value minus estimated costs of sale. Prior to foreclosure, the value of the underlying collateral is written down by a charge to the allowance for loan losses if necessary. Any subsequent write-downs are charged against operating expenses. Operating expenses of such properties, net of related income and losses on their disposition, are included in operations of other real estate. Intangible Assets - ----------------- Intangible assets are comprised solely of a core deposit acquisition premium. This core deposit acquisition premium, which was quantified by a specific core deposit life study, is amortized using the straight-line method over the estimated average lives of the deposit accounts. Annual assessments of the carrying values and remaining amortization periods of intangible assets are made to determine possible carrying value impairment and appropriate adjustments as deemed necessary. Intangible assets are a component of other assets on the balance sheet. Trust Department - ---------------- Trust department assets (other than cash deposits) held by the Bank in fiduciary or agency capacities for its customers are not included in the balance sheet since such items are not assets of the Company. In accordance with industry practice, trust fees are recorded on the cash basis and approximate the fees which would have been recognized on the accrual basis. Income Taxes - ------------ The Company and its subsidiary file a consolidated federal income tax return. Deferred tax assets and liabilities are reflected at currently enacted income tax rates applicable to the period in which the deferred tax assets or liabilities are expected to be realized or settled. As changes in tax rates are enacted, deferred tax assets and liabilities are adjusted through the provision for income taxes. Earnings Per Share - ------------------ The Company provides dual presentation of Basic and Diluted earnings per share. Basic earnings per share utilizes net income as reported as the numerator, and the actual average shares outstanding as the denominator. Diluted earnings per share includes any dilutive effects of options, warrants, and convertible securities. Employee Benefits - ----------------- Pension and employee benefits include contributions, determined actuarially, to a retirement plan covering the eligible employees of the Bank. The plan is funded on a current basis to the extent deductible under existing federal tax regulations. Pension and other employee benefits also include contributions to a defined contribution Section 401(k) plan covering eligible employees. Contributions matching those made by eligible employees and an elective contribution are made annually at the discretion of the Board of Directors. - 8 - Stock Options - ------------- The Company maintains stock option plans for the directors and for officers and employees. The stock options typically have expiration terms of ten years subject to certain extensions and early terminations. The per share exercise price of a stock option shall be, at a minimum, equal to the fair value of a share of common stock on the date the option is granted. Because the exercise price of the Company's stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized in the Company's financial statements. Pro forma net income and earnings per share are presented to reflect the impact of the stock option plan assuming compensation expense had been affected based on the fair value of the stock options granted under this plan. Mortgage Servicing Rights (MSR) - ------------------------------- The Company has loan agreements for the express purpose of selling these loans in the secondary market. The Company maintains all servicing rights for these loans. The loans are carried at cost. Originated MSRs are to be recorded by allocating total costs incurred between the loan and servicing rights based on their relative fair values. MSRs are amortized in proportion to the estimated servicing income over the estimated life of the servicing portfolio. Comprehensive Income - -------------------- Effective January 1, 1998, the Company adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income." In adopting Statement No. 130, the Company is required to present comprehensive income and its components in a full set of general purpose financial statements for all periods presented. The Company has elected to report the effects of Statement No. 130 as part of the Consolidated Statement of Changes in Stockholders' Equity. Cash Flow Information - --------------------- The Company has defined cash and cash equivalents as those amounts included in the balance sheet captions Cash and due from banks, Federal funds sold, and the demand deposit portion of Interest-bearing deposits in other banks. Cash payments for interest in 1998, 1997, and 1996 were $7,033,967, $6,300,354 and $5,734,818, respectively. Cash payments for income taxes for 1998, 1997, and 1996 amounted to $1,353,000, $1,013,000, and $972,000, respectively. Pending Accounting Pronouncements - --------------------------------- In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities." The Statement provides accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, by requiring the recognition of those items as assets or liabilities in the statement of financial position, recorded at fair value. Statement No. 133 precludes a held-to-maturity security from being designated as a hedged item; however, at the date of initial application of this Statement, an entity is permitted to transfer any held-to-maturity security into the available-for-sale or trading categories. The unrealized holding gain or loss on such transferred securities shall be reported consistent with the requirements of Statement No. 115, "Accounting for Certain Investments in Debt and Equity Securities." Such transfers do not raise an issue regarding an entity's intent to hold other debt securities to maturity in the future. This Statement applies prospectively for all fiscal quarters of all years beginning after June 15, 1999. Earlier adoption is permitted for any fiscal quarter that begins after the issue date of this Statement. In March 1998, the Accounting Standards Executive Committee issued Statement of Position (SOP) 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." This SOP, which is effective for fiscal years beginning after December 15, 1998, provides guidance on accounting for the costs of computer software developed or obtained for internal use and provides guidance for determining whether computer software is for internal use. The Company will adopt SOP 98-1 in the first quarter of 1999 and does not believe the effect of adoption will be material. Reclassification of Comparative Amounts - --------------------------------------- Certain comparative amounts for the prior year have been reclassified to conform to current year presentations. Such reclassifications had no effect on net income or stockholders' equity. 2. EARNINGS PER SHARE There were no convertible securities which would affect the numerator in calculating Basic and Diluted earnings per share; therefore, net income as presented on the Consolidated Statement of Income will be used as the numerator. The following table sets forth a reconciliation of the denominator of the Basic and Diluted earnings per share computation. 1998 ----------- Denominator: Denominator for Basic earnings per share- weighted-average shares 2,759,802 Employee stock options 2,167 ----------- Denominator for Diluted earnings per share- adjusted weighted-average assumed conversions 2,761,969 =========== - 9 - The average shares outstanding for both basic and diluted earnings per share are 2,756,278 and 2,756,248 for the years ended December 31, 1997 and 1996, respectively. As described in Note 12, the Company implemented a stock option plan during 1997. Although stock options were granted in September 1997, there is no dilutive effect since the option exercise prices approximate the average market price for the Company's stock during 1997. 3. INVESTMENT SECURITIES Amortized cost and estimated market values of investment securities are summarized as follows:
1998 ----------------------------------------------------- Gross Gross Estimated Available for Sale Amortized Unrealized Unrealized Market - ------------------ Cost Gains Losses Value ----------- ----------- ----------- ----------- U.S. Treasury and obligations of U.S. Government agency securities $ 8,447,960 $ 46,649 $ (11,510) $ 8,483,099 Obligations of states and political subdivisions 7,518,126 110,602 (16,974) 7,611,754 Foreign debt securities 100,000 100,000 Mortgage-backed securities 1,007,820 11,971 (9,680) 1,010,111 ----------- ----------- ----------- ----------- Total debt securities 17,073,906 169,222 (38,164) 17,204,964 Common stocks 991,900 991,900 ----------- ----------- ----------- ----------- Total $18,065,806 $ 169,222 $ (38,164) $18,196,864 =========== =========== =========== ===========
1998 ----------------------------------------------------- Gross Gross Estimated Held to Maturity Amortized Unrealized Unrealized Market - ---------------- Cost Gains Losses Value ----------- ----------- ----------- ----------- Obligations of states and political subdivisions $ 3,365,361 $ 85,798 $ $ 3,451,159 Foreign debt securities 200,000 4,218 204,218 Mortgage-backed securities 78,836 1,369 80,205 ----------- ----------- ----------- ----------- Total $ 3,644,197 $ 91,385 $ $ 3,735,582 =========== =========== =========== ===========
1997 ----------------------------------------------------- Gross Gross Estimated Available for Sale Amortized Unrealized Unrealized Market - ------------------ Cost Gains Losses Value ----------- ----------- ----------- ----------- U.S. Treasury and obligations of U. S. Government agency securities $ 5,653,359 $ 36,806 $ (1,210) $ 5,688,955 Obligations of states and political subdivisions 5,039,208 80,065 5,119,273 Mortgage-backed securities 1,394,778 14,969 (28,857) 1,380,890 ----------- ----------- ----------- ----------- Total debt securities 12,087,345 131,840 (30,067) 12,189,118 Common stocks 890,900 890,900 ----------- ----------- ----------- ----------- Total $12,978,245 $ 131,840 $ (30,067) $13,080,018 =========== =========== =========== ===========
1997 ----------------------------------------------------- Gross Gross Estimated Held to Maturity Amortized Unrealized Unrealized Market - ---------------- Cost Gains Losses Value ----------- ----------- ----------- ----------- U.S. Treasury and obligations of U. S. Government agency securities $ 1,000,390 $ 1,640 $ - $ 1,002,030 Obligations of states and political subdivisions 5,639,559 75,130 - 5,714,689 Foreign debt securities 200,000 1,718 - 201,718 Mortgage-backed securities 110,418 770 - 111,188 ----------- ----------- ----------- ----------- Total $ 6,950,367 $ 79,258 $ - $ 7,029,625 =========== =========== =========== ===========
- 10 - The amortized cost and estimated market value of debt securities at December 31, 1998, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Available for Sale Held to Maturity ------------------------- ------------------------- Estimated Estimated Amortized Market Amortized Market Cost Value Cost Value ----------- ----------- ----------- ----------- Due in one year or less $ 2,643,488 $ 2,673,801 $ 355,000 $ 356,058 Due after 1 year through 5 years 4,746,491 4,769,055 1,199,313 1,225,716 Due after 5 years through 10 years 5,027,580 5,108,003 2,011,048 2,073,603 Due after 10 years 4,656,347 4,654,105 78,836 80,205 ----------- ----------- ----------- ----------- Total $17,073,906 $17,204,964 $ 3,644,197 $ 3,735,582 =========== =========== =========== ===========
The following is a summary of proceeds received, gross gains, and gross losses realized on the sale of investment securities during the year ended December 31, 1997. There were no security sales during the years ended December 31, 1998 and 1996. Proceeds from sales $11,521,498 Gross gains 55,574 Gross losses 70,446 Investment securities with an amortized cost and estimated market value of $14,243,162 and $14,475,512, respectively, at December 31, 1998, and $15,293,000 and $15,457,812, respectively, at December 31, 1997 were pledged to secure public deposits and other purposes as required by law. 4. LOANS Major classifications of loans are summarized as follows: 1998 1997 ------------ ------------ Real Estate: Construction $ 2,693,310 $ 2,587,193 ResidentIal 84,379,052 82,009,195 Commercial, financial and agricultural 27,793,438 24,299,164 Commercial 15,761,254 18,222,841 Consumer 30,226,854 30,382,670 ------------ ------------ 160,853,908 157,501,063 Less allowance for loan losses 1,410,309 1,298,981 ------------ ------------ Net loans $159,443,599 $156,202,082 ============ ============ Real estate loans serviced for Freddie Mac, which are not included in the consolidated balance sheet, totaled $34,009,862 and $27,116,482 at December 31, 1998 and 1997, respectively. In the normal course of business, loans are extended to directors, executive officers, and their associates. A summary of loan activity for those directors, executive officers, and their associates with aggregate loan balances in excess of $60,000 for the year ended December 31, 1998 is as follows: Amounts 1997 Additions Collected 1998 ----------- ----------- ----------- ----------- $ 1,449,152 $13,398,611 $13,771,097 $ 1,076,666 The Company's primary business activity is with customers located within its local trade area. Commercial, residential, personal, and agricultural loans are granted. Although the Company has a diversified loan portfolio at December 31, 1998 and 1997, loans outstanding to individuals and businesses are dependent upon the local economic conditions in the immediate trade area. The Company had nonaccrual loans, exclusive of impaired loans, of $1,278,262 and $596,898 at December 31, 1998 and 1997, respectively. Interest income on loans would have increased by approximately $72,012 and $50,368 during 1998 and 1997, respectively, if these loans had performed in accordance with their original terms. Information with respect to impaired loans as of and for the years ended December 31, is as follows: 1998 1997 ------------ ------------ Impaired loans $ 592,787 $ 738,227 Related allowance for loan losses 88,918 110,734 Average recorded balance of impaired loans 651,047 736,805 Interest income recognized on impaired loans - 39,310 - 11 - 5. ALLOWANCE FOR LOAN LOSSES Changes in the allowance for loan losses for the years ended December 31, are as follows: 1998 1997 1996 ----------- ----------- ----------- Balance, January 1 $ 1,298,981 $ 1,176,951 $ 1,098,298 Add: Provision charged to operations 310,000 275,000 200,000 Recoveries 44,246 35,459 30,447 Less loans charged off 242,918 188,429 151,794 ----------- ----------- ----------- Balance, December 31 $ 1,410,309 $ 1,298,981 $ 1,176,951 =========== =========== =========== 6. PREMISES AND EQUIPMENT Major classifications of premises and equipment are summarized as follows: 1998 1997 ----------- ----------- Land $ 654,134 $ 694,134 Bank buildings 4,732,771 3,993,244 Furniture, fixtures, and equipment 3,335,273 2,909,653 ----------- ----------- 8,722,178 7,597,031 Less accumulated depreciation 4,317,412 3,949,611 ----------- ----------- Total $ 4,404,766 $ 3,647,420 =========== =========== Depreciation charged to operations was $553,848, $514,213, and $552,788 in 1998, 1997, and 1996, respectively. 7. DEPOSITS Time deposits include certificates of deposit and other time deposits in denominations of $100,000 or more. Such deposits totaled $22,682,188 and $23,181,972 at December 31, 1998 and 1997, respectively. Interest expense on certificates of deposit over $100,000 amounted to $1,291,458, $1,057,378 and $884,822 for the years ended December 31, 1998, 1997, and 1996, respectively. The following table sets forth the remaining maturity of time certificates of deposits of $100,000 or more at December 31, 1998. Three months or less $ 6,912,060 Over 3 months through 6 months 3,271,335 Over 6 months through 12 months 4,105,833 Over 12 months 8,392,960 ----------- Total $22,682,188 =========== 8. SHORT-TERM BORROWINGS As of December 31, 1997, short-term borrowings were comprised of $2,000,000 in Flexline advances, which were repaid on January 8, 1998. The outstanding balances and related information for short-term borrowings are summarized as follows: 1998 1997 ------------------ ----------------- Amount Rate Amount Rate ----------- ---- ---------- ---- Balance at year end $ - - $2,000,000 6.86% Average balance outstanding during the year 38,356 6.19% 489,247 5.93% Maximum amount outstanding at any month end - - 2,000,000 - Short-term borrowings include two types of borrowings with the Federal Home Loan Bank of Pittsburgh (FHLB), "RepoPlus" and "Flexline." RepoPlus advances are short-term borrowings maturing within one year, bearing a fixed rate of interest and subject to prepayment penalties. Flexline advances also mature within one year and have a variable rate of interest, which adjusts daily. There are no prepayment penalties for Flexline advances. Both FHLB credit products are subject to annual renewal, incur no service charges, and are secured by a blanket security agreement on qualifying residential mortgages. As of December 31, 1998, the Company's total borrowing limit was $58,457,000. - 12 - 9. OTHER BORROWINGS Other borrowings consists of the following: 1998 1997 ----------- ----------- Long-term FHLB advances $ 317,584 $ 527,422 Real estate mortgage payable, due in monthly installments of $945, including interest at 10.5 percent 15,670 24,830 ----------- ----------- Total $ 333,254 $ 552,252 =========== =========== Long-term advances from the FHLB consist of a series of borrowings maturing within two years, each with fixed interest rates ranging from 5.47 percent to 6.91 percent. The weighted-average interest rate as of December 31, 1998, was 6.20 percent. Pursuant to a collateral agreement entered into with the FHLB, these advances are secured by stock in the FHLB and qualifying first mortgage loans. Principal repayments on advances from the FHLB are scheduled as follows: Weighted- Average Year Principal Rate --------- --------- --------- 1999 $ 227,996 6.39% 2000 89,588 5.73% --------- Total $ 317,584 ========= 10. INCOME TAXES The provision for Federal income taxes consists of: 1998 1997 1996 ----------- ------------ ----------- Currently payable $ 1,353,202 $ 1,105,150 $ 985,253 Deferred 255 (4,936) 9,870 ----------- ------------ ----------- Total provision $ 1,353,457 $ 1,100,214 $ 995,123 =========== ============ =========== The tax effects of deductible and taxable temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are as follows: 1998 1997 ----------- ----------- Deferred tax assets: Allowance for loan losses $ 388,401 $ 350,550 Deferred loan origination fees, net 71,858 Premises and equipment 22,240 12,053 Fair market value in excess of carrying value of loans held for sale 36,011 38,551 Other 49,482 26,979 ----------- ----------- Total 496,134 499,991 ----------- ----------- Deferred tax liabilities: Unrealized gain on securities 44,559 34,603 Prepaid pension asset 114,515 122,559 Deferred loan origination fees, net 3,469 Other 4,687 3,714 ----------- ----------- Total 167,230 160,876 ----------- ----------- Net deferred tax assets $ 328,904 $ 339,115 =========== =========== No valuation allowance was established at December 31, 1998 and 1997 in view of the Company's ability to carryback taxes paid in previous years and certain tax strategies and anticipated future taxable income as evidenced by the Company's earnings potential. - 13 - The reconciliation between the federal statutory rate and the Company's effective consolidated income tax rate is as follows:
1998 1997 1996 ------------------- ------------------- ------------------- % of % of % of Pre-tax Pre-tax Pre-tax Amount Income Amount Income Amount Income ---------- ----- ---------- ----- ---------- ----- Federal income tax at statutory rate $1,498,544 34.0% $1,354,361 34.0% $1,246,308 34.0% Tax-exempt income (177,373) (4.0) (306,171) (7.7) (310,905) (8.5) Nondeductible interest to carry tax-exempt assets 23,799 0.5 40,138 1.0 43,129 1.2 Other 8,487 0.2 11,886 0.3 16,591 0.4 ---------- ----- ---------- ----- ---------- ----- Actual expense and effective rate $1,353,457 30.7% $1,100,214 27.6% $ 995,123 27.1% ========== ===== ========== ===== ========== =====
11. EMPLOYEE BENEFITS Defined Benefit Plan The Bank sponsors a trusteed, noncontributory defined benefit pension plan covering substantially all employees and officers. The plan calls for benefits to be paid to eligible employees at retirement based primarily upon years of service with the Bank and compensation rates near retirement. The Bank's policy is to make annual contributions, if needed, based upon the funding formula developed by the plan's actuary. The following table sets forth the change in plan assets and benefit obligation at December 31: 1998 1997 ----------- ----------- Plan assets at fair value, beginning of year $ 1,682,945 $ 1,263,886 Actual return on plan assets 255,354 251,244 Employer contribution 72,542 167,815 Benefits paid (268,664) - ----------- ----------- Plan assets at fair value, end of year 1,742,177 1,682,945 ----------- ----------- Benefit obligation, beginning of year 1,268,681 1,091,394 Service cost 134,789 109,855 Interest cost 82,464 81,855 Actuarial adjustments 606,487 (14,423) Benefits paid (268,664) - ----------- ----------- Benefit obligation, end of year 1,823,757 1,268,681 ----------- ----------- Funded status (81,580) 414,264 Prior service cost 8,797 10,203 Unrecognized transition asset (28,299) (32,549) Unrecognized net (gain) loss from past experience different from that assumed 428,275 (37,651) ----------- ----------- Prepaid pension cost $ 327,193 $ 354,267 =========== =========== Plan assets consist primarily of certificates of deposit, money market and equity mutual funds. Assumptions used in determining net period pension cost are as follows: 1998 1997 1996 ----------- ----------- ----------- Discount rate 6.50% 7.50% 7.50% Expected return on plan assets 6.50% 7.50% 7.50% Rate of compensation increase 5.00% 5.00% 5.00% Net period pension costs include the following components: 1998 1997 1996 ----------- ----------- ----------- Service cost of the current period $ 134,789 $ 109,855 $ 100,086 Interest cost on projected benefit obligation 82,464 81,855 73,403 Actual return on plan assets (255,354) (251,244) (141,713) Net amortization and deferral 137,717 147,315 68,681 ----------- ------------ ---------- Net periodic pension cost $ 99,616 $ 87,781 $ 100,457 =========== ============ ========== - 14 - 401(k) Plan - ----------- The Bank maintains a trusteed Section 401(k) plan. The Bank makes matching contributions of eligible officers and employees of 50 percent of the officers and employees contributions annually, to a maximum of four percent of base salary. Substantially all officers and employees are eligible to participate in the plan. The Bank's contribution to this plan was $33,503 and $31,679 for the years ended December 31, 1998 and 1997. No contributions were made in 1996. 12. STOCK OPTION PLAN In 1997, the Company adopted an Incentive Stock Option Plan ("ISOP") and a Directors Stock Option Plan ("Directors Plan"). The ISOP provides for granting up to 200,000 shares of authorized but unissued common stock to eligible salaried officers and employees. The Directors Plan provides for 72,000 authorized but unissued shares of common stock to be granted to nonemployee directors. The per share exercise price of an option granted cannot be less than the fair value of a share of common stock on the date the option is granted. The options granted under the Directors Plan are immediately vested while the option granted under the ISOP are not exercisable for two years and then are vested in equal installments over the next three years. The stock options typically have expiration terms of ten years subject to certain extensions and terminations. No compensation expense has been recognized with respect to the options granted under the stock option plans. Had compensation expense been determined on the basis of fair value net income and earnings per share would have been reduced as follows: 1998 1997 ---------- ---------- Net Income: As reported $3,054,026 $2,883,201 ========== ========== Pro forma $3,049,812 $2,874,205 ========== ========== Basic earnings per share: As reported $ 1.11 $ 1.05 ========== ========== Pro forma $ 1.10 $ 1.04 ========== ========== Diluted earnings per share: As reported $ 1.11 $ 1.05 ========== ========== Pro forma $ 1.10 $ 1.04 ========== ========== The following table presents share data related to the stock option plans: Weighted- Weighted- average average Exercise Exercise 1998 Price 1997 Price ------ ------ ------ ------ Outstanding, January 1 21,000 $14.50 - $ - Granted 23,650 18.50 23,400 14.50 Exercised 5,000 15.94 2,400 14.50 Forfeited - - ------ ------ Outstanding, December 31 39,650 16.70 21,000 14.50 ====== ====== 13. COMMITMENTS AND CONTINGENT LIABILITIES Commitments - ----------- In the normal course of business, there are various outstanding commitments and contingent liabilities which are not reflected in the accompanying financial statements. These commitments were comprised of the following at December 31: 1998 1997 ----------- ----------- Commitments to extend credit $33,871,291 $30,065,224 Standby letters of credit and financial guarantees 620,231 706,544 ----------- ----------- Total $34,491,522 $30,771,768 =========== =========== - 15 - 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. Standby letters of credit are conditional commitments issued by the Bank guaranteeing performance by a customer to a third party. Those guarantees are issued primarily to support public and private borrowing arrangements including commercial paper, bond financing, and similar transactions. Such commitments and standby letters of credit involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the financial statements. The exposure to loss under these commitments is limited by subjecting them to credit approval and monitoring procedures. The amount of collateral obtained, if deemed necessary by the Company, upon the extension of credit is based on management's credit evaluation of the counterparty. Substantially all commitments to extend credit are contingent upon customers maintaining specific credit standards at the time of the loan funding. Management assesses the credit risk associated with certain commitments to extend credit in determining the level of the allowance for loan losses. Since many of the commitments are expected to expire without being drawn upon, the total contractual amounts do not necessarily represent future funding requirements. Contingent Liabilities - ---------------------- The Bank is involved in various legal actions from normal business activities. Management believes that the liability, if any, arising from such litigation will not have a material adverse effect on the Company's financial position. 14. COMMON STOCK On November 17, 1998, the Board of Directors of the Company approved a two-for - -one stock split to shareholders of record December 4, 1998. The par value of the stock was maintained at $.25 per share. As a result of the stock split the outstanding shares increased by 1,381,824. All reference to per share amounts in the accompanying financial statements for 1997 and 1996 has been restated to reflect the stock split. On April 9, 1997, the Board of Directors approved a four-for-one stock split to stockholders of record on June 1, 1997. The par value of the stock was reduced from $1.00 per share to $0.25 per share. 15. REGULATORY RESTRICTIONS Cash and Due from Banks - ----------------------- Included in cash and due from banks are reserves required by the district Federal Reserve Bank of $1,969,000 and $1,250,000 at December 31, 1998 and 1997. The required reserves are computed by applying prescribed ratios to the classes of average deposit balances. These are held in the form of cash on hand and a balance maintained directly with the Federal Reserve Bank. Dividends - --------- Under the National Bank Act, the approval of the Comptroller of the Currency is required if dividends declared by the subsidiary bank in any one year exceed the net profits of that year as defined, combined with net retained profit from the two preceding years. Using this formula, the amount available for payment of dividends in 1998, without approval of the Comptroller, will be limited to $3,918,561 plus net profits retained up to the date of the dividend declaration. 16. CAPITAL REQUIREMENTS The Company and the Bank are subject to various regulatory capital requirements administered by the federal regulatory agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by the regulators that, if undertaken, could have a direct material effect on the entity's financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and the Bank must meet specific capital guidelines that involve quantitative measures of the entities' assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The Company's and the Bank's capital amounts and classification are also subject to qualitative judgments by the regulators about components, Risk-weighting, and other factors. Quantitative measures established by the regulation to ensure capital adequacy require the Company and the Bank to maintain minimum amounts and ratios of Total and Tier I capital (as defined in the regulations) to Risk-weighted assets (as defined) and of Tier I capital to average assets (as defined). Management believes as of December 31, 1998 that the Company and the Bank meet all capital adequacy requirements to which they are subject. As of December 31, 1998, the most recent notification from the Company's and Bank's primary regulatory authorities have categorized the entity as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Company must maintain minimum Total Risk - -based, Tier I Risk-based, and Tier I Leverage ratios at least 100 to 200 basis points above those ratios set forth in the table. There have been no conditions or events since that notification that management believes have changed the Company's or the Bank's category. - 16 - The following table reflects the Company's capital ratios and minimum requirements at December 31. The Bank's capital ratios are substantially the same as the Company's.
1998 1997 --------------------- --------------------- Amount Ratio Amount Ratio ----------- ------- ----------- ------- Total Capital (to Risk-weighted Assets) Company $23,659,772 15.83% $21,260,353 14.88% For Capital Adequacy Purposes 11,956,160 8.00 11,432,640 8.00 To be Well Capitalized 14,945,200 10.00 14,290,800 10.00 Tier I Capital (to Risk-weighted Assets) Company $22,249,463 14.89% $19,961,372 13.97% For Capital Adequacy Purposes 5,978,080 4.00 5,716,320 4.00 To be Well Capitalized 8,967,120 6.00 8,574,480 6.00 Tier I Capital (to Average Total Assets) Company $22,249,463 10.43% $19,961,372 9.98% For Capital Adequacy Purpose 8,530,676 4.00 8,000,012 4.00 To be Well Capitalized 10,663,344 5.00 10,000,015 5.00
17. FAIR VALUE DISCLOSURE The estimated fair value of the Company's financial instruments are as follows:
1998 1997 --------------------------- --------------------------- Carrying Fair Carrying Fair Value Value Value Value ------------ ------------ ------------ ------------ Financial assets: Cash, interest-bearing deposits in other banks and federal funds sold $ 23,035,274 $ 23,035,274 $ 21,817,094 $ 21,817,094 Mortgage loans held for sale 2,467,803 2,467,803 898,000 898,000 Investment securities 21,841,061 21,932,446 20,030,385 20,109,643 Net loans 160,853,908 161,356,213 156,202,082 157,036,856 Accrued interest receivable 1,381,719 1,381,719 1,383,797 1,383,797 ------------ ------------ ------------ ------------ Total $209,579,765 $210,173,455 $200,331,358 $201,245,390 ============ ============ ============ ============ Financial liabilities: Deposits $190,148,937 $191,773,942 $181,224,568 $181,115,377 Short-term borrowings 2,000,000 2,000,000 Other borrowings 333,254 205,513 552,252 478,091 Accrued interest payable 733,664 733,664 781,879 781,879 ------------ ------------ ------------ ------------ Total $191,215,855 $192,713,119 $184,558,699 $184,375,347 ============ ============ ============ ============
Financial instruments are as cash, evidence of ownership interest in an entity, or a contract which creates an obligation or right to receive or deliver cash or another financial instrument from/to a second entity on potentially favorable or unfavorable terms. Fair value is defined as the amount at which a financial instrument could be exchanged in a current transaction between willing parties other than in a forced or liquidation sale. If a quoted market price is available for a financial instrument, the estimated fair value would be calculated based upon the market price per trading unit of the instrument. If no readily available market exists, the fair value estimates for financial instruments should be based upon management's judgment regarding current economic conditions, interest rate risk, expected cash flows, future estimated losses, and other factors as determined through various option pricing formulas or simulation modeling. As many of these assumptions result from judgments made by management based upon estimates which are inherently uncertain, the resulting estimated fair values may not be indicative of the amount realizable in the sale of a particular financial instrument. In addition, changes in assumptions on which the estimated fair values are based may have a significant impact on the resulting estimated fair values. As certain assets such as deferred tax assets and premises and equipment are not considered financial instruments, the estimated fair value of financial instruments would not represent the full value of the Company. The Company employed simulation modeling in determining the estimated fair value of financial instruments for which quoted market prices were not available based upon the following assumptions: - 17 - Cash and Due from Banks, Interest-bearing Deposits in Other Banks, Federal - -------------------------------------------------------------------------- Funds Sold, Short-term Borrowings, Accrued Interest Receivable, and - -------------------------------------------------------------------- Accrued Interest Payable - ------------------------ The fair value is equal to the current carrying value. Investment Securities and Mortgage Loans Held for Sale - ------------------------------------------------------ The fair value of investment securities and mortgage loans held for sale is equal to the available quoted market price. If no quoted market price is available, fair value is estimated using the quoted market price for similar securities and loans. Loans, Deposits, and Other Borrowings - ------------------------------------- The fair value of loans is estimated by discounting the future cash flows using a simulation model which estimates future cash flows and employs discount rates that consider reinvestment opportunities, operating expenses, noninterest income, credit quality, and prepayment risk. Demand, savings, and money-market deposit accounts are valued at the amount payable on demand as of year end. Fair values for time deposits and other borrowings are estimated using a discounted cash flow calculation that applies contractual costs currently being offered in the existing portfolio to current market rates being offered for deposits and notes of similar remaining maturities. Commitments to Extend Credit - ---------------------------- These financial instruments are generally not subject to sale and estimated fair values are not readily available. The carrying value, represented by the net deferred fee arising from the unrecognized commitment or letter of credit, and the fair value, determined by discounting the remaining contractual fee over the term of the commitment using fees currently charged to enter into similar agreements with similar credit risk, are not considered material for disclosure. The contractual amounts of unfunded commitments and letters of credit are presented in Note 13. 18. BRANCH ACQUISITION On August 19, 1996, the Bank acquired certain assets and deposit liabilities of the Harrisville, Pennsylvania office of Mellon Bank, N.A. The transaction was accounted for as a purchase. The Bank assumed deposit liabilities of $19,754,546 and acquired cash and premises and equipment totaling $382,333. On September 4, 1997, the Bank acquired certain assets and deposit liabilities of the Slippery Rock, Pennsylvania office of First Western Bank, F.S.B. The transaction was also accounted for as a purchase. The Bank assumed deposit liabilities of $3,730,857 and acquired premises and equipment totaling $77,331. The purchased branch was subsequently closed with all assets and liabilities being combined with the Bank's Main Street branch. 19. PARENT COMPANY Following are condensed financial statements for the parent company: CONDENSED BALANCE SHEET December 31, 1998 1997 ----------- ----------- ASSETS Cash in subsidiary bank $ 103,119 $ 52,009 Investment in bank subsidiary 24,130,966 22,106,313 Other assets 22,391 17,888 ----------- ----------- Total assets $24,256,476 $22,176,210 =========== =========== LIABILITIES Other liabilities $ 1,402 $ 1,084 STOCKHOLDERS' EQUITY 24,255,074 22,175,126 ----------- ----------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $24,256,476 $22,176,210 =========== =========== - 18 - CONDENSED STATEMENT OF INCOME Year Ended December 31, 1998 1997 1996 ----------- ----------- ----------- INCOME Dividends from subsidiary $ 1,076,728 $ 1,004,687 $ 822,428 EXPENSES 42,463 52,611 54,586 ----------- ----------- ----------- Income before income tax benefit 1,034,265 952,076 767,842 Income tax benefit (14,437) (17,888) (18,559) ----------- ----------- ----------- Income before equity in undistributed net income of subsidiary 1,048,702 969,964 786,401 Equity in undistributed net income of subsidiary 2,005,324 1,913,237 1,884,087 ----------- ----------- ----------- NET INCOME $ 3,054,026 $ 2,883,201 $ 2,670,488 =========== =========== =========== CONDENSED STATEMENT OF CASH FLOWS Year Ended December 31, 1998 1997 1996 ----------- ----------- ----------- OPERATING ACTIVITIES Net Income $ 3,054,026 $ 2,883,201 $ 2,670,488 Adjustments to reconcile net income to net cash provided by operating activities: Equity in undistributed net income of subsidiary (2,005,324) (1,913,237) (1,884,087) Other (4,185) 7,547 6,230 ----------- ----------- ----------- Net cash provided by operating activities 1,044,517 977,511 792,631 ----------- ----------- ----------- FINANCING ACTIVITIES Proceeds from stock options exercised 83,321 34,800 Cash dividends paid (1,076,728) (965,290) (791,825) ----------- ----------- ----------- Net cash used for financing activities (993,407) (930,490) (791,825) ----------- ----------- ----------- Increase in cash 51,110 47,021 806 CASH AT BEGINNING OF PERIOD 52,009 4,988 4,182 ----------- ----------- ----------- CASH AT END OF PERIOD $ 103,119 $ 52,009 $ 4,988 =========== =========== =========== - 19- Board of Directors and Stockholders Slippery Rock Financial Corporation We have audited the accompanying consolidated balance sheet of Slippery Rock Financial Corporation and subsidiary as of December 31, 1998 and 1997, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company'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 Slippery Rock Financial Corporation and subsidiary as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1998 in conformity with generally accepted accounting principles. /s/ S.R. Snodgrass, A.C. Wexford, PA February 19, 1999 - 20 - OVERVIEW Slippery Rock Financial Corporation ("Company") is the parent holding Annual Net Income company for The First National Bank $ in thousands of Slippery Rock ("Bank"). This discussion and the related financial (Bar graph belongs in this area) data represent the financial condition and results of operations of the $2,266 $2,499 $2,670 $2,883 $3,054 Bank for the three years ended -------------------------------------- December 31, 1998, and is presented 1994 1995 1996 1997 1998 to assist in the understanding and evaluation of the financial condition and the results of operations of the Company and is intended to supplement, and should be read in conjunction with, the consolidated financial statements and the related notes. Management is not aware of any current recommendations by the regulatory agencies that will have a material effect on future earnings, liquidity or capital of the Company. RESULTS OF OPERATIONS Net income for 1998 was $3,054,000, an increase of $171,000 from 1997's Earnings Per Share earnings of $2,883,000. An increase Dollars in net interest income after provision for loan losses of $433,000 and a (Bar graph belongs in this area) net increase in total other income of $575,000 was offset by a net increase $0.82 $0.91 $0.97 $1.05 $1.11 in total other expense of $585,000. --------------------------------- Income before taxes at December 31, 1994 1995 1996 1997 1998 1998 was $4,407,000 an increase of $424,000 or 10.65% from the $3,983,000 reported at December 31, 1997. Federal income taxes of $1,353,000 at December 31, 1998 represents an increase of $253,000 from the $1,100,000 reported at December 31, 1997. Net income for 1997 was $2,883,000, an increase of $213,000 from 1996's earnings of $2,670,000. An increase in net interest income after provision for loan losses of $579,000 and a net increase in total other income of $207,000 was offset by a net increase in total other expense of $468,000 and an increase in federal income tax expense of $105,000. Earnings per share, on a fully diluted basis, of $1.11 at December 31, 1998 compared to $1.05 at December 31, 1997 and $0.97 at December 31, 1996, increases of $0.06 and $0.08 per share respectively. NET INTEREST INCOME Dividends Paid Per Share Dollars Net interest income is the amount by which interest generated from interest- (Bar graph belongs in this area) earning assets exceeds interest paid on interest-bearing liabilities. Net $0.20 $0.24 $0.29 $0.33 $0.39 interest income, on a tax equivalent --------------------------------- basis, which is the primary component 1994 1995 1996 1997 1998 of earnings, was $9,375,000 for 1998, as compared to $9,099,000 for 1997 and $8,450,000 for 1996. - 21 - The following table is an analysis of the average balance sheets and the net interest income for each of the years in the three years ended December 31, 1998, 1997 and 1996.
Slippery Rock Financial Corporation AVERAGE BALANCE SHEETS AND NET INTEREST ANALYSIS 1998 1997 1996 -------------------------- -------------------------- -------------------------- Average Average Average Volume Interest Yield Volume Interest Yield Volume Interest Yield -------- -------- ---- -------- -------- ---- -------- -------- ---- ASSETS(Dollars in Thousands) Interest-earning assets Investment securities: Taxable $ 12,565 $ 755 6.01% $ 11,828 $ 741 6.26% $ 10,614 $ 663 6.25% Non-taxable (2) 9,246 680 7.35 15,315 1,118 7.30 17,573 1,275 7.26 Interest-bearing deposits in other banks 33 2 6.06 290 8 2.76 233 10 4.29 Loans (1), (2), (3) 160,218 14,179 8.85 149,370 13,400 8.97 132,278 12,090 9.14 Federal funds sold 3,955 746 5.35 6,349 347 5.47 3,260 173 5.31 -------- -------- ---- -------- -------- ---- -------- -------- ---- Total interest-earning assets 196,017 16,362 8.34 183,152 15,614 8.53 163,958 14,211 8.67 -------- -------- -------- Noninterest-earning assets Cash and due from banks 7,918 6,906 5,896 Allowance for loan losses (1,353) (1,205) (1,153) Other assets 8,706 8,033 6,663 -------- -------- -------- Total assets $211,288 $196,886 $175,364 ======== ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Interest-bearing liabilities Interest-bearing checking $ 24,052 523 2.17 $ 22,780 492 2.16 $ 18,717 407 2.17 Money market accounts 22,694 866 3.82 23,842 912 3.83 21,609 828 3.83 Savings deposits 20,736 508 2.45 18,709 462 2.47 17,904 450 2.51 Time deposits 88,928 5,053 5.68 81,840 4,574 5.59 70,481 3,878 5.50 Borrowed funds 551 37 6.72 1,216 75 6.17 3,297 198 6.01 -------- -------- ---- -------- -------- ---- -------- -------- ---- Total interest-bearing liabilities 156,961 6,987 4.45 148,387 6,515 4.39 132,008 5,761 4.36 -------- -------- -------- Noninterest-bearing liabilities Demand deposits 29,910 26,195 23,227 Other liabilities 1,028 983 750 Stockholders' equity 23,389 21,321 19,379 -------- -------- -------- Total liabilities and stockholders' equity $211,288 $196,886 $175,364 ======== ======== ======== Net interest income and net yield on interest- earning assets $ 9,375 4.78% $ 9,099 4.97% $ 8,450 5.15% ======== ==== ======== ==== ======== ==== Net interest spread 3.89% 4.13% 4.30% ==== ==== ====
(1) Interest on loans includes fee income. (2) Yields on interest-earning assets have been computed on a taxable- equivalent basis using the federal income tax statutory rate of 34%. (3) Nonaccrual loans and loans held for sale included. - 22 - ANALYSIS OF CHANGES IN NET INTEREST INCOME (Dollars in Thousands)
1998 CHANGE FROM 1997 1997 CHANGE FROM 1996 --------------------------- --------------------------- CHANGE DUE TO CHANGE DUE TO TOTAL ----------------- TOTAL ----------------- CHANGE VOLUME(1) RATE(1) CHANGE VOLUME(1) RATE(1) ------- ------- ------- ------- ------- ------- INTEREST INCOME ON: Taxable investment securities $ 14 $ 45 $ (31) $ 78 $ 77 $ 1 Non-taxable investments (438) (446) 8 (157) (164) 7 Interest-bearing deposits in other banks (6) (2) (4) (2) 3 (5) Loans 779 960 (181) 1,310 1,539 (229) Federal funds sold 399 407 (8) 174 169 5 ------- ------- ------- ------- ------- ------- Total interest income 748 964 (216) 1,403 1,624 (221) ------- ------- ------- ------- ------- ------- INTEREST EXPENSE ON: Interest bearing checking 31 29 2 85 87 (2) Money market accounts (46) (44) (2) 84 84 - Savings deposits 46 50 (4) 12 19 (7) Time deposits 479 404 75 696 632 64 Borrowed funds (38) (44) 6 (123) (128) 5 ------- ------- ------- ------- ------- ------- Total interest expense 472 395 77 754 694 60 ------- ------- ------- ------- ------- ------- NET INTEREST INCOME $ 276 $ 569 $ (293) $ 649 $ 930 $ (281) ======= ======= ======= ======= ======= =======
(1) Changes in interest income/expense not arising from volume or rate variances are allocated proportionately to rate and volume. Interest income and interest expense increases or decreases as the volumes of interest sensitive assets and liabilities and interest rates fluctuate. Average interest-earning assets increased $12.9 million in 1998, principally due to an increase in average loans of $10.8 million. Although the most significant growth, $7.9 million, occurred within the real estate segment of the loan portfolio, there were no concentrated efforts on management's part to target growth within any one particular segment of the loan portfolio. Average interest-bearing liabilities increased $8.6 million for the period ended December 31, 1998, with the most significant growth, $7.1 million, occurring in average certificates of deposit. Growth within the certificate product resulted from various short term special offerings throughout the year. The specials resulted from market pressures from competing institutions vying for deposit growth. As a result, the Bank offered an eleven month and a nineteen month certificate, both of which offered aggressive interest rates relative to certificates of more traditional term and pricing. At December 31, 1998, the Bank had $5.9 million in the eleven month certificate and $3.0 million in the nineteen month product. Average interest-earning assets increased $19.2 million in 1997, principally due to an increase in average loans of $17.1 million. The most significant average loan growth, $11.0 million, occurred within the residential real estate portfolio. As in 1998, there were no concentrated efforts on management's part to target growth within any one particular segment of the portfolio. Average interest-bearing liabilities increased $16.4 million in 1997. In addition to normal annual growth within the earning asset and paying liability categories, 1997's statistics were also affected by branch acquisitions. On August 19,1996, the Bank acquired approximately $19.8 million in deposits from the former Harrisville, Pennsylvania office of Mellon Bank, N.A.. On September 4, 1997, the Bank acquired approximately $3.7 million in deposits from the former Slippery Rock office of First Western Bank, F.S.B. Each of these transactions increased the interest-bearing liabilities of the Bank and provided the funding for the growth within the loan portfolio. Although total average earning assets and average loans increased during 1998, the yield on average interest-earning assets decreased in 1998 to 8.34% from a level of 8.53% in 1997. The decline occurred principally from a reduction on loan yields which fell from a level of 9.14% at December 31, 1996 to 8.97% at December 31, 1997 to 8.85% at December 31, 1998. Lower (3 Bar Graphs side by side in this area) Total Assets $ in Millions $147,374 $162,011 $195,713 $207,148 $215,773 - ---------------------------------------------------- 1994 1995 1996 1997 1998 Return on Average Assets Percentage 1.56% 1.64% 1.52% 1.46% 1.45% - ------------------------------------- 1994 1995 1996 1997 1998 Return on Average Equity Percentage 14.51% 14.32% 13.78% 13.52% 13.06% - ------------------------------------------ 1994 1995 1996 1997 1998 - 23 - interest rate pricings for new loan originations brought about by general market pressures as well as lower interest rate repricings within the Bank's existing adjustable rate mortgage product contributed to the decline in loan yields. As a result of the strong National and local economies and Federal Reserve Board action to keep the economy expanding, interest rates, in general, remained at all time lows during the period. This drove interest rates on new loan originations down. In addition, the Bank's existing portfolio of adjustable rate mortgages also repriced downward as they reprice annually to current market pricing. With no significant changes anticipated in economic forecasts, and that it takes the Bank's adjustable rate mortgage portfolio a full year to reprice in its entirety, management anticipates that loan yields will continue to decline. The analysis of changes in net interest income indicates that the total change in interest income on loans of $779,000 is comprised of an increase in loan income of $960,000 due to volume increases within the loan portfolio, and a reduction in loan income of $181,000 due to changes in interest rates. The yield on interest-bearing liabilities increased 6 basis points (0.06%) during the twelve month period ended December 31, 1998 from a level of 4.39% at December 31, 1997 to 4.45% at December 31, 1998. The increase was due principally to an increase in the yield paid on certificates of deposit. The yield on time certificates increased from 5.50% at December 31, 1996 to 5.59% at December 31, 1997 to 5.68% at December 31, 1998. The increase in the yield paid on deposits is due in part to the two certificate "specials" mentioned earlier and due to an increase in pricing brought about in the deposit market place. As financial institutions attempted to not only gain market share, but to also maintain existing deposit relationships, they bid up deposit pricing in general. As a result, the Bank was able to increase average deposits, but those funds came at a higher cost. Average time deposits increased $7.1 million in 1998, from a level of $81.8 million at December 31, 1997 to $88.9 million at December 31, 1998. Average time deposits were $70.5 million at December 31, 1996. The rate volume table indicates an increase in interest expense of $472,000 in 1998 due primarily to an increase in interest expense on certificates of deposit of $479,000. The increase in certificate interest expense is allocated to an increase in volume of $404,000 and $75,000 due to an increase in rates. The effect of the reduction in yields on interest-earning assets and the increase in cost of interest-bearing liabilities was that the net yield on interest-earning assets ("net interest margin") at December 31, 1998 decreased from that of December 31, 1997 and December 31, 1996. Net interest margin at December 31, 1998 was 4.78% as compared to 4.97% at December 31, 1997 and 5.15% at December 31, 1996. It should also be noted that there is a time lag between changes in interest rates and their effect on the Bank's yield on earning assets and its cost of funds. If interest rates rise, it would be expected that the yield on assets and the cost of funds would also increase, however, the effect upon the net interest margin would be dependent upon the extent of the increase in rates, the timing of the change and the general composition of the mix of interest-earning assets and interest-bearing liabilities. OTHER INCOME 1998 - 1997 - ----------- The principal sources of other income are service charges, fees and commissions. Other income for 1998 totaled $1,629,000, an increase of $575,000 or 54.6% from $1,054,000 at December 31, 1997. The increase is derived principally from three sources, an increase in service charges on deposit accounts, an increase in net gains recorded on the sale of loans and an increase in other miscellaneous income. Income from service charges on deposit accounts increased $54,000 from $539,000 at December 31, 1997 to $593,000 at December 31, 1998 due to volume activity. In 1998, the Bank recorded gains of $149,000 on the sale of $14.1 million of fixed rate, 1-4 family, residential mortgages. Gains recorded on the sale of $9.3 million of residential mortgages in 1997 totaled $66,000. Because the Bank maintains the servicing on the sold loans, additional income of $141,000 was recorded in 1998 pertaining to mortgage servicing rights ("MSR"). MSRs are amortized to expense in proportion to the estimated servicing income over the estimated life of the servicing portfolio. Other miscellaneous income of $670,000 at December 31, 1998 compared to $387,000 at December 31, 1997 an increase of $283,000. The increase is due to an increase in mortgage loan servicing fee income of $21,000 due to volume increases in the loan servicing portfolio, an increase in ATM surcharge fee income of $52,000 and an increase in debit card interchange fee income of $68,000. ATM surcharge income of $74,000 at December 31, 1998 compared to $22,000 at December 31, 1997. The Bank began surcharging other bank's ATM cardholders using the Bank's ATM machines in August of 1997, therefore, 1998 represents the first full year of the fee's implementation. In December of 1997, the Bank introduced a debit card product. Fee income to the Bank for this product, based on volume and paid by participating merchants, totaled $72,000 at December 31, 1998 compared to $4,000 at December 31, 1997. The Bank also recorded a gain of $145,000 from the sale of its former Plaza office as part of a general reconstruction project at the local shopping plaza where the office was located. A new office was subsequently constructed directly across the street from the former location. 1997 - 1996 - ----------- Other operating income for 1997 totaled $1,054,000 an increase of $208,000 or 24.5% from $846,000 at December 31, 1996. Income from service charges on deposit accounts increased $42,000 for the twelve month period ended December 31, 1997 - 24 - due to pricing restructurings that took effect during the second quarter of 1997. Trust department fee income increased $23,000 from $53,000 at December 31, 1996 to $76,000 at December 31, 1997 due to growth of trust assets within the department. Trust assets, which are not included in the Bank's balance sheet, increased $4.4 million in 1997. Gains recorded on the sale of fixed rate, 1-4 family residential mortgages totaled $66,000 at December 31 , 1997, an increase of $87,000 from the net loss of $21,000 recorded at December 31, 1996. Mortgage sales to the Federal Home Loan Mortgage Corporation ("Freddie Mac"), were $9.3 million and $5.3 million in 1997 and 1996 respectively. Serviced loans totaled $27.1 million at December 31, 1997. Other miscellaneous fee income of $387,000 at December 31, 1997 compared to $317,000 at December 31, 1996, an increase of $70,000. The increase is comprised of an increase in miscellaneous fee income of $42,000 due to pricing increases in the second quarter, an increase in loan servicing fees of $14,000 due to volume increases in the serviced loan portfolio and to an increase in ATM surcharge fee income of $22,000. The Bank began surcharging foreign ATM activity in August 1997 in an effort to offset costs associated with providing ATM services to its customers. OTHER EXPENSE 1998 - 1997 - ----------- Total other expenses of $6,017,000 at December 31, 1998 represented an increase of $585,000 from $5,432,000 at December 31, 1997. The major contributors of the increase are salary and employee benefits of $217,000, equipment expense of $121,000, data processing expense of $117,000 and miscellaneous expense of $228,000. The increase in salary and employee benefits is attributed to normal annual increases. Equipment expense increased due to acquisitions and increased depreciation expense. Data processing increased due to increased processing costs of $39,000 for volume increases in the Bank's ATM and debit card products and due to one time fee assessments of $45,000 pertaining to the debit card program. In addition, the Bank incurred direct billings of $18,000 pertaining to year 2000 testing of its core data processing system. The increase in other miscellaneous expense is comprised of several items. One is a $ 34,000 increase in net losses recorded on the disbandondment of computer hardware and software. Legal and professional expense increased $29,000 in 1998 due to costs incurred for the expansion of trust services to include the sales of mutual funds and annuities. Also included in the increase in legal and professional fees were costs associated with a site study performed for possible branch locations. An increase in collection expense of $44,000 in 1998 pertaining to foreclosure proceedings on a single parcel also contributed to the overall increase in other miscellaneous expense. The Bank uses a third party data processor for its student loan portfolio, accordingly, processing fees are based on the size of the loan portfolio being serviced and increased $19,000 in 1998. The increase in servicing fee expense is attributed to increased volumes within the Bank's student loan portfolio. Another item contributing to the overall increase in other miscellaneous expense was an increase in net losses on the sale of other real estate owned. Net gains of $32,000 were recorded on sales of property in 1997, however, there were no gains or losses recorded on the sale of other real estate in 1998. The final item to effect the increase in other expense was an increase in amortization expense for intangible assets. Intangible asset amortization increased $20,000 for the period ended December 31, 1998. The increase was due to increased amortization pertaining to acquisition of the Slippery Rock office of First Western Bank, F.S.B. mentioned earlier. 1997 - 1996 - ----------- Total other expenses of $5,432,000 at December 31, 1997 represents an increase of $469,000 from $4,963,000 at December 31, 1996. The increase in other expenses was brought about by those items that are generally thought to be recurring in nature. Those items would include occupancy expense and supply expense. In addition to the normal, recurring increases, salary and benefit expense increased $270,000 or 11.4% in 1997, due to increased costs associated with the branch office acquisitions mentioned earlier and to operational staff additions in the lending and trust areas to facilitate growth within those departments. Other miscellaneous expense at December 31, 1997 of $1.3 million compared to $1.1 million at December 31, 1996, an increase of $200,000 or 18.2%. The increase is attributed principally to increased amortization expense resulting from the branch acquisitions and to a loss recorded on the disbandondment of computer software. Intangible asset amortization, the excess of cost over fair value of the net assets acquired in the branch acquisitions is amortized to expense annually. Intangible amortization expense at December 31, 1997 was $207,000 an increase of $141,000 from $66,000 at December 31, 1996. During the fourth quarter of 1997, the Bank purchased a new computer software system for processing teller transactions. Although no hardware changes were required, the Bank did have a $25,000, before tax, loss on the disbandondment of the existing computer system. INCOME TAXES Federal income taxes for 1998 of $1,353,000 represented a 23.0% increase from the $1,100,000 reported in 1997. The increase is due to an increase in taxable income which increased $745,000 or 23.0% to $4.0 million in 1998. The increase in taxable income not only resulted from an increase in total earnings, but also from a reduction in tax-exempt income. Tax-exempt income declined $289,000 in 1998 as a result of net declines in average non-taxable municipal securities. As a result, the Company's effective tax rate increased to 30.7% in 1998 compared to 27.6% in 1997. Federal income taxes for 1997 of $1,100,000 represented a 10.6% increase from the $995,000 reported in 1996. The increase is due to an increase in taxable income which increased $323,000 or 10.89% to $3.3 million in 1997. As a result. the Company's effective tax rate increased to 27.6% in 1997 as compared to 27.1% in 1996. - 25 - FINANCIAL CONDITION 1998 - 1997 - ----------- Average total assets at December 31, 1998 were $211.3 million, an increase of $14.4 million or 7.3% from $196.9 million at December 31, 1997. Average total interest-earning assets increased $12.9 million in 1998, primarily from increases in average loan balances, which increased $10.8 million or 7.3%. The most significant growth in the loan portfolio, occurred within the commercial real estate portfolio and the 1-4 family residential real estate portfolio. Commercial real estate loans increased $3.5 million or 14.4% from $24.3 million at December 31, 1997 to $27.8 million at December 31, 1998. Residential real estate loans, which includes first and secondary lien positions, increased $5.6 million from $75.0 million at December 31, 1997 to $80.6 million at December 31, 1998. As previously mentioned, the increase within the loan portfolio was due to general demand within the local market place and not due to specific management growth objectives. The growth in average assets and in average loan balances specifically were funded by an increase in average deposit liabilities. Average deposit liabilities at December 31, 1998 were $186.3 million, an increase of $12.9 million or 7.4% from $173.4 million at December 31, 1997. Average balances increased across all deposit products except average money markets, which declined $1.2 million during the period. The greatest net increase occurred within the average time certificate product, which increased $7.1 million or 8.7% from $81.8 million at December 31, 1997 to $88.9 million at December 31, 1998. The increase is due to the offering of the 11 month and 19 month certificate specials discussed earlier. Total assets at December 31, 1998 were $215.8 million, an increase of $8.7 million or 4.2% from $207.1 million at December 31, 1997. Total deposits at December 31, 1998 were $190.1 million, an increase of $8.9 million or 4.9% from $181.2 million at December 31, 1997. The Bank continued to sell fixed rate, 1-4 family, residential mortgages as part of its strategies for managing liquidity and interest rate risk within the loan portfolio. The Bank sold approximately $14.1 million of these loans to the Federal Home Loan Mortgage Corporation ("Freddie Mac"). The ratio of total loans to total deposits of 84.6% at December 31, 1998, compared to 86.9% at December 31, 1997. 1997 - 1996 - ----------- Average total assets at December 31, 1997 were $196.9 million, an increase of $21.5 million or 12.3% from $175.4 million at December 31, 1996. Average total interest-earning assets increased $19.2 million in 1997, primarily from increases in average loan balances, which increased $17.1 million or 12.9%. Although growth occurred within all loan products, the most significant growth occurred within the residential real estate portfolio and the consumer loan portfolio. Residential real estate loans, including first and secondary lien positions, increased $8.6 million from $66.4 million at December 31, 1996 to $75.0 million at December 31, 1997. Consumer loans increased $2.9 million or 10.6% from $27.5 million at December 31, 1996 to $30.4 million at December 31, 1997. The increase within the loan portfolio was due to general demand within the local market place and not due to specific management growth objectives. The growth in average assets and in average loan balances specifically were funded by an increase in average deposit liabilities. Average deposit liabilities at December 31, 1997 were $173.4 million, an increase of $21.5 million or 14.2% from $151.9 million at December 31, 1996. While the average balance increased across all deposit products, the product which had the largest net average increase occurred within the time certificate product, which increased $11.4 million or 16.2 % from $70.4 million at December 31, 1996 to $81.8 million at December 31, 1997. Total assets at December 31, 1997 were $207.1 million, an increase of $11.4 million or 5.8% from $195.7 million at December 31, 1996. Total deposits at December 31, 1997 were $181.2 million, an increase of $16.4 million from $164.8 million at December 31, 1996. Exclusive of the branch acquisition, total deposits at December 31, 1997 were $177.5 million. As part of the Bank's strategies for liquidity and managing interest rate risk exposure in the loan portfolio, the Bank sold $9.3 million in fixed rate, 1-4 family mortgages in 1997. The ratio of total loans to total deposits of 86.9% at December 31, 1997 compared to 85.7% at December 31, 1996, an increase of 1.2%. YEAR 2000 State of Readiness - ------------------ Many older computer systems use two digits to identify the year. These systems, if not adapted to accurately identify years beyond 1999, could fail or produce erroneous results for the year 2000 and beyond, which could result in entire system failures or disruptions of normal daily business operations. The Company's primary computer processing system was purchased from and is maintained by a national computer software vendor, Jack Henry & Associates, ("JHA"). During the second quarter of 1998, JHA issued a Y2K certification letter for its products. In addition, JHA also issued a software warranty to all banks that have a valid license agreement and support/maintenance agreement. The Company has such valid agreements with JHA. Despite the certification and software warranty, the Company was still required to perform Y2K testing, accordingly, during the third quarter of 1998, the Company performed its testing of its mission critical core processing applications with results producing no foreseeable Year 2000 problems. Testing of ancillary applications occurred throughout 1998 and will continue in 1999. - 26 - Risk Assessment - --------------- Although the Company views the Y2K issue to pose little or no effect on its core processing systems, the Company recognizes that computer systems are very much interdependent. Accordingly, the Company, through the use of letters and questionnaires, has communicated with third party vendors of ancillary systems, suppliers and various utilities as to their Y2K preparedness. In addition, the Company, through the use of questionnaires and Company sponsored seminars, provided Y2K information to and solicited information from its own significant loan and deposit customers as to their Y2K preparedness. Management does not believe that any exposure to the Company from its vendors or customers as they relate to Y2K issues pose any significant risk to the Company. Costs - ----- Because Management views its core processing system to be Y2K ready, little or no programming costs will be incurred for its core systems. Most costs are related to planning and internal testing and validation which will be expensed as incurred. Exclusive of costs for planning and testing, management anticipates direct billing costs of approximately $50,000 over the course of the project. Direct billings of $18,000 had been expensed through the period ended December 31, 1998 for costs pertaining to off site testing of core processing applications. There can be no guarantee that these estimates will be achieved and actual results could differ from forecasted. Contingency Plan - ---------------- Should any unforeseen problems arise, the Company continues to update and modify its contingency plan for the Year 2000. Primarily, manual or personal computer processing would substitute for application failures. The plan also allows for procedural methods and acceptable time frames for problem resolution within both JHA and the Company. LIQUIDITY Liquidity represents the ability of the Company to meet normal cash flow requirements of both borrowers and depositors efficiently. Asset liquidity is provided by repayments of and the management of maturity distributions for loans and securities. One measure that the Bank uses to monitor liquidity is the liquidity ratio which assesses the relationship between certain earning assets, customer deposits and short-term interest-bearing liabilities. This ratio was 9.0% of total assets as of December 31, 1998 compared to 7.3% at December 31, 1997. The increase was due primarily to an increase in daily federal funds sold and an increase in certificates of deposit with others, which increased $5.6 million. At December 31, 1998, the Bank had two short- term certificates of deposit at the Federal Home Loan Bank ("FHLB"), totaling $8.0 million. Daily federal funds sold at December 31, 1998 totaled $6.4 million, a decline of $2.4 million from $8.8 million at December 31, 1997. The Statement of Cash Flows indicates that net cash was provided from operating activities and financing activities of $2.2 million and $5.7 million respectively. Cash provided by operating activities was generated principally from net income, while cash provided by financing activities was generated from a net increase in deposits of $8.9 million, of which $2.0 million was used to repay short-term borrowings from the Federal Home Loan Bank. Investing activities for the twelve month period ended December 31, 1998 indicated that net maturities of investment securities available for sale of $8.0 million and maturities of investment securities held to maturity of $3.3 million offset the net purchases of investment securities available for sale of $13.1 million and the net increase in loans of $3.7 million. Cash dividends paid in 1998 were $1.1 million, an increase of $111,000 from the $965,000 paid in 1997. For the period ended December 31, 1997, the Statement of Cash Flows indicates that net cash was provided from operating activities and financing activities of $4.7 million and $8.3 million respectively. Cash provided by operating activities was generated principally from net income, while cash provided by financing activities was generated from a net increase in deposits of $16.4 million, of which $7.0 million was used to repay short-term borrowings from the Federal Home Loan Bank. Investing activities for the twelve month period ended December 31, 1997 indicated that proceeds from the sale of investment securities available for sale of $11.5 million, net maturities of investment securities available for sale of $2.2 million and maturities of investment securities held to maturity of $4.4 million funded the net increase in loans of $16.4 million. Cash dividends paid in 1997 were $965,000, an increase of $173,000 from the $792,000 paid in 1996. The Company's liquidity plan allows for the use of long-term advances or short-term lines of credit with the FHLB as a source of funds. Borrowing from FHLB not only provides a source of liquidity for the Company, but also serves as a tool to reduce interest risk as well. The Company may structure borrowings from FHLB to match those of customer credit requests, and therefore, lock in interest rate spreads over the lives of the loans. FHLB borrowings, generally, have a lower cost than deposits. At December 31, 1998, the Company continued to have one such matched funding loan outstanding totaling $318,000. The Company's short-term borrowings with FHLB are of two types, "RepoPlus" advances and "Flexline" advances. RepoPlus advances are short-term borrowings maturing within one year, bear a fixed rate of interest and are subject to prepayment penalty. The Flexline advances also mature within one year and bear a variable rate of interest that reprices daily. There are no prepayment penalties for these borrowings. 1998 is the last year that the Flexline product will be offered by FHLB. Both FHLB credit products are subject to annual renewal, incur no service charges, and are secured by a blanket security agreement on outstanding residential mortgages. At December 31, 1997, short-term borrowings were comprised of $2.0 million in Flexline advances. - 27 - At December 31, 1998, the Company had no advances outstanding for either the RepoPlus or Flexline products. At December 31, 1997, short-term borrowings were comprised of $2.0 million in Flexline advances that were repaid in January 1998. The Company's total borrowing capacity with FHLB was $58.5 million at December 31, 1998. In addition to borrowing from the FHLB as a source for liquidity, the Company also continued activity in the secondary mortgage market. Specifically, the Company sold fixed rate residential real estate mortgages to Freddie Mac. The sales to Freddie Mac not only provided an opportunity for the Bank to remain competitive in the market place, by allowing it to offer a fixed rate mortgage product, but also provided an additional source of liquidity and an additional tool for management to limit interest rate risk exposure. Total fixed rate mortgage sales in 1998 were $14.1 million, with gains of $149,000. In 1997, sales totaled $9.3 million with gains of $66,000. The Bank continues to service all loans sold to Freddie Mac. As discussed earlier, the Bank recorded approximately $141,000 in income for the establishment of mortgage servicing rights ("MSR"). The MSRs will be amortized to expense in future periods over the estimated life of the servicing portfolio. The Bank serviced $34.0 million and $27.1 million in sold loans to Freddie Mac at December 31, 1998 and 1997 respectively. The retaining of the servicing also provides a source of fee income to the Bank, which totalled $82,000 and $60,000 in 1998 and 1997 respectively. The Bank anticipates the sale of approximately $2.5 million in the first quarter of 1999 and has a single commitment to fund $7.5 million in 1999. The following table is a schedule of the maturity distributions and weighted average yield of investment securities as of December 31, 1998:
Available for Sale Amortized Cost Maturing: --------------------------------------------------------- After 1 After 5 Within but within but within After No Fixed 1 Year 5 Years 10 Years 10 Years Maturity Total --------------------------------------------------------- (Dollars in Thousands) U.S. Treasury securities $ 2,415 $ - $ - $ - $ - $ 2,415 Securities of U. S. Government agencies 228 4,333 495 977 - 6,033 Obligations of states and political subdivisions - 355 4,084 3,079 - 7,518 Other - - 100 - - 100 Mortgage - backed securities (2) - 59 348 601 - 1,008 ------- ------- ------- ------- ------- ------- Total debt securities 2,643 4,747 5,027 4,657 - 17,074 Common Stocks - - - - 992 992 ------- ------- ------- ------- ------- ------- Total $ 2,643 $ 4,747 $ 5,027 $ 4,657 $ 992 $18,066 ======= ======= ======= ======= ======= ======= Weighted average yield (1) 6.42% 5.81% 6.60% 4.96% - % 5.90% ======= ======= ======= ======= ======= =======
Held to Maturity Amortized Cost Maturing: --------------------------------------------------------- After 1 After 5 Within but within but within After No Fixed 1 Year 5 Years 10 Years 10 Years Maturity Total --------------------------------------------------------- (Dollars in Thousands) Obligations of states and political subdivisions $ 355 $ 1,099 $ 1,911 $ - $ - $ 3,365 Other 100 100 - - 200 Mortgage-backed securities (2) - - - 79 - 79 ------- ------- ------- ------- ------- ------- Total $ 355 $ 1,199 $ 2,011 $ 79 $ - $ 3,644 ======= ======= ======= ======= ======= ======= Weighted average yield (1) 6.31% 8.00% 7.50% 7.02% - % 7.54% ======= ======= ======= ======= ======= =======
(1) Weighted average yields were computed on a tax equivalent basis using the federal income tax statutory rate and were determined on the basis of cost, adjusted for amortization of premium or accretion of discount. (2) Mortgage-backed securities provide for periodic principal repayments. It is anticipated that these securities will be repaid prior to their contractual maturity dates. Investments maturing within one year and other short-term investments such as interest-bearing deposits with other banks and federal funds sold were 8.07% of total assets at December 31, 1998, an increase from 7.05% in 1997. The increase is due primarily to an increase in interest-bearing balances at other banks which increased $8.0 million as a result of the short-term certificates purchased from the FHLB. INTEREST RATE SENSITIVITY One of the principal functions of the Company's asset/liability management program is to monitor the level to which the balance sheet is subject to interest rate risk. The goal of the asset/liability program is to manage the relationship between interest rate sensitive assets and liabilities, thereby minimizing the fluctuations in the net interest margin, which achieves consistent growth of net interest income during periods of changing interest rates. - 28 - Interest rate sensitivity is the result of differences in the amounts and repricing dates of a bank's rate sensitive assets and rate sensitive liabilities. These differences, or interest rate repricing "gap," provide an indication of the extent that the Company's net interest income is effected by future changes in interest rates. During a period of rising interest rates, a positive gap, a position of more rate sensitive assets than rate sensitive liabilities, is desired. During a falling interest rate environment, a negative gap is desired, that is, a position in which rate sensitive liabilities exceed rate sensitive assets. The following table shows the Company's gap position for December 31, 1998, based upon contractual repricing opportunities or maturities, with variable rate products measured to the date of the next repricing opportunity as opposed to contractual maturities, while fixed rate products are measured to contractual maturity without any consideration for prepayments:
91 days 0-90 to 1 to 5 Over Days 1 Year Years 5 Years Total -------- -------- -------- -------- -------- (Dollars in Thousands) Assets Intrest-bearing deposits $ 8,000 $ $ $ $ 8,000 Investments (2) (3) 2,386 2,770 8,720 7,965 21,841 Federal funds sold 6,400 6,400 Loans (1) 47,112 30,792 19,870 63,080 160,854 -------- -------- -------- -------- -------- Total 63,898 33,562 28,590 71,045 197,095 -------- -------- -------- -------- -------- Liabilities Interest-bearing demand 22,821 22,821 Savings 20,698 20,698 Money market 23,704 23,704 Certificates > $100,000 6,912 7,377 6,474 1,915 22,678 Other time deposits 11,726 31,714 20,049 5,515 69,004 Borrowed funds 3 237 93 333 -------- -------- -------- -------- -------- Total 85,864 39,328 26,616 7,430 159,238 -------- -------- -------- -------- -------- Interest sensitivity gap $(21,966) $ (5,766) $ 1,974 $ 63,615 $ 37,857 ======== ======== ======== ======== ======== Cumulative interest sensitivity gap (21,966) (27,732) (25,758) 37,857 - ======== ======== ======== ======== ======== Rate sensitive assets/rate sensitive liabilities 0.74 0.85 1.07 - 1.24 Cumulative gap/Total assets (0.10) (0.13) (0.12) 0.18 -
(1) Includes nonaccrual loans, excludes loans held for sale. (2) Includes investments available for sale. (3) Investments are classified by the earlier of call date or maturity date for repricing purposes. At December 31, 1998, the Company had a cumulative negative gap of $27,732,000 at the one year horizon. This value compares to a negative gap of $26,368,000 at December 31, 1997. The gap analysis indicates that if interest rates were to rise 100 basis points (1.00%), the Company's net interest income would decline $277,000 at the one year horizon because the Company's rate sensitive liabilities would reprice faster than rate sensitive assets. Conversely, if rates were to fall 100 basis points, the Company would earn $277,000 more in net interest income. However, not all assets and liabilities with similar maturities and repricing opportunities will reprice at the same time or to the same degree. As a result, the Company's gap position does not necessarily predict the impact on interest income given a change in interest rate levels. Management also manages interest rate risk with the use of simulation modeling which measures the sensitivity of future net interest income as a result of changes in interest rates. The analysis is based on repricing opportunities for variable rate assets and liabilities and upon contractual maturities of fixed rate instruments. The simulation also calculates net interest income based upon estimates of the largest foreseeable rate increase or decrease, (+ or - 200 basis points or 2.00%). The current analysis indicates that, given a 200 basis point overnight movement in interest rates, the Bank would experience a potential $220,000 or 2% change in net interest income. It is important to note, however, that this exercise would be of a worst case scenario. It would be more likely to have incremental changes in interest rates, rather than a single significant increase or decrease. When management believes interest rate movements will occur, it can restructure the balance sheet and thereby the ratio of rate sensitive assets to rate sensitive liabilities which in turn will effect the net interest income. As mentioned earlier, in gap analysis, as well as simulation analysis, not all assets and liabilities with similar maturities and repricing opportunities will reprice at the same time or to the same degree and therefore, could effect forecasted results. CAPITAL RESOURCES Capital adequacy is the ability of the Company to support growth while protecting the interests of shareholders and depositors. Total capital consists of common stock, surplus, retained earnings and net unrealized gains/losses on securities. Equity capital increased $2,080,000 or 9.4% in 1998. This increase is attributed, primarily, to retained net income. Historically, the Company has generated net retained profits sufficient to support normal growth and expansion. Bank regulatory agencies have designated certain capital ratio requirements which they use to assist in monitoring the safety and soundness of financial institutions. For 1998, management has calculated and monitored risk-based and leverage capital - 29 - ratios in order to assess compliance with regulatory guidelines. The following schedule presents certain regulatory capital ratio requirements along with the Company's position at December 31, 1998: Actual ------------------- Minimum Well Amount Ratio Ratio Capitalized -------- -------- -------- -------- Tier I risk-based capital $ 22,250 14.9% 4.00% 6.00% Total risk-based capital 23,660 15.8 8.00 10.00 Leverage capital 22,250 10.4 4.00 5.00 As the above table illustrates, the Company exceeds both the minimum and "well capitalized" regulatory capital requirements at December 31, 1998. Management does not anticipate any future activity that would have a negative impact on any of these ratios. Also, management is not aware of any current recommendations by the regulatory agencies that will have a material effect on future earnings, liquidity or capital of the Company. INFLATION AND CHANGING PRICES Management is aware of the impact inflation has on interest rates and the resulting impact it can have on the Company's performance. The ability of a financial institution to cope with inflation can only be determined by the analysis and monitoring of its asset and liability structure. The Company does monitor its asset and liability position, with particular emphasis on the mix of interest rate sensitive assets and liabilities, in order to reduce the effect of inflation upon its performance. However, it must be remembered that the asset and liability structure of a financial institution is substantially different from that of an industrial corporation, in that virtually all assets and liabilities are monetary in nature, meaning that they have been or will be converted into a fixed number of dollars regardless of changes in prices. Examples of monetary items include cash, loans and deposits. Nonmonetary items are those assets and liabilities which do not gain or lose purchasing power solely as a result of general price level changes. Examples of nonmonetary items are premises and equipment. Inflation can have a more direct impact on the categories of other operating income and other operating expense, such as salaries, employee benefit costs and supplies. These expenses are closely monitored by management for both the effects of inflation and increases relating to such items as staffing levels, usage of supplies and occupancy costs. INVESTMENT SECURITIES The following schedule presents the composition of the investment portfolio as of the three most recent years ended:
Amortized Cost --------------------------------------------------------- December 31, --------------------------------------------------------- 1998 1997 1996 ----------------- ----------------- ----------------- Available Held to Available Held to Available Held to for Sale Maturity for Sale Maturity for Sale Maturity ------- ------- ------- ------- ------- ------- (Dollars in Thousands) U. S. Treasury securities $ 2,415 $ $ 4,925 $ 500 $ 4,929 $ 2,125 Securities of U. S. Government agencies 6,033 728 500 1,728 500 Obligations of states and political subdivisions 7,518 3,365 5,039 5,640 16,649 8,154 Foreign debt securities 100 200 200 100 Mortgage-backed securities 1,008 79 1,395 110 1,797 176 ------- ------- ------- ------- ------- ------- 17,074 3,644 12,087 6,950 25,103 11,055 Restricted common stock 992 891 974 ------- ------- ------- ------- ------- ------- Total $18,066 $ 3,644 $12,978 $ 6,950 $26,077 $11,055 ======= ======= ======= ======= ======= =======
There are no securities in excess of 10% of stockholders' equity at December 31, 1998, deemed to be payable from and secured by the same source of revenue or taxing authority. LOANS The following table presents the composition of the loan portfolio as of the five most recent year ends:
December 31, ---------------------------------------------------- 1998 1997 1996 1995 1994 -------- -------- -------- -------- -------- (Dollars in Thousands) Commercial, financial and agricultural $ 15,761 $ 18,223 $ 18,084 $ 13,283 $ 9,677 Real estate construction 2,693 2,587 1,466 2,967 4,516 Real estate mortgage 112,173 106,308 94,213 81,717 76,012 Loans to individuals 30,227 30,385 27,539 24,852 22,638 -------- -------- -------- -------- -------- 160,854 157,503 141,302 122,819 112,843 Less unearned income - 2 17 72 230 -------- -------- -------- -------- -------- Total loans $160,854 $157,501 $141,285 $122,747 $112,613 ======== ======== ======== ======== ========
- 30 - The following table presents the maturity distribution sensitivity of real estate construction and commercial loans:
December 31, 1998 ----------------------------------------- Due After Due in 1 1 Year Year or Through Due After Less 5 Years 5 Years Total -------- -------- -------- -------- (Dollars in Thousands) Commercial, financial and agricultural $ 5,225 $ 6,906 $ 3,630 $ 15,761 Real estate construction 2,693 - - 2,693 -------- -------- -------- -------- $ 7,918 $ 6,906 $ 3,630 $ 18,454 ======== ======== ======== ======== Predetermined interest rates $ 2,442 $ 4,472 $ 896 $ 7,810 Floating interest rates 5,476 2,434 2,734 10,644 -------- -------- -------- -------- $ 7,918 $ 6,906 $ 3,630 $ 18,454 ======== ======== ======== ========
Generally, loans with maturities of one year or less consist of funds drawn on commercial lines of credit, short-term notes, and demand notes written without alternative maturity schedules. All lines of credit and demand loans are subject to an annual review where the account may be approved for up to one year. Real estate construction loans have a six month maturity, after which the loans are generally transferred to the real estate mortgage portfolio and amortized over their contractual lives. ALLOWANCE FOR LOAN LOSSES The following table presents a summary of loan loss experience for each of the years in the five years ended December 31, 1998:
Year Ended December 31, ---------------------------------------------------- 1998 1997 1996 1995 1994 -------- -------- -------- -------- -------- (Dollars in Thousands) Loans outstanding at end of period $160,854 $157,501 $141,285 $122,747 $112,613 ======== ======== ======== ======== ======== Average loans outstanding (1) $160,218 $149,370 $132,278 $118,201 $110,261 ======== ======== ======== ======== ======== Allowance for loan losses: Balance, beginning of period $ 1,299 $ 1,177 $ 1,098 $ 1,037 $ 981 Loans charged off: Commercial, financial and agricultural 14 35 8 - 38 Real estate mortgages 8 - 5 50 4 Consumer 221 153 139 190 89 -------- -------- -------- -------- -------- Total loans charged off 243 188 152 240 131 Recoveries: Commercial, financial and agricultural 9 5 5 4 5 Real estate mortgages - - 4 1 - Consumer 35 30 22 21 19 -------- -------- -------- -------- -------- Total recoveries 44 35 31 26 24 -------- -------- -------- -------- -------- Net loans charged off 199 153 121 214 107 -------- -------- -------- -------- -------- Provision charged to expense 310 275 200 275 163 -------- -------- -------- -------- -------- Balance, end of period $ 1,410 $ 1,299 $ 1,177 $ 1,098 $ 1,037 ======== ======== ======== ======== ======== Ratio of net charge offs during the period to average loans outstanding during the period 0.12% 0.10% 0.09% 0.18% 0.10% (1) Daily average balances.
- 31 - The following table presents non-performing loans including nonaccrual accounts and loans past due 90 days or more as to interest or principal. In addition, interest data on nonaccrual and restructured loans at December 31, 1998 is also presented:
December 31, -------------------------------------------------------- 1998 1997 1996 1995 1994 -------- -------- -------- -------- -------- (Dollars in thousands) Non-performing and restructured loans: Loans past due 90 days or more $ 50 $ 18 $ 177 $ 87 $ 78 Nonaccrual loans 1,871 1,335 798 783 733 Restructured loans - - 597 306 -------- -------- -------- -------- -------- Total non-performing and restructured loans 1,921 1,353 1,572 1,176 811 -------- -------- -------- -------- -------- Other non-performing assets Other real estate owned 138 1 221 149 20 Repossessed assets 38 24 24 24 5 -------- -------- -------- -------- -------- Total other non-performing assets 176 25 245 173 25 -------- -------- -------- -------- -------- Total non-performing assets $ 2,097 $ 1,378 $ 1,817 $ 1,349 $ 836 ======== ======== ======== ======== ======== Non-performing and restructured loans as a percentage of total loans 1.2% 0.9% 1.1% 1.0% 0.7% Non-performing assets as a percentage of total assets 1.0% 0.7% 0.9% 0.8% 0.6% Non-performing and restructured loans as a percentage of loan loss allowance 136.2% 104.2% 133.6% 107.1% 78.2% Allowance for loan losses/loans 0.88% 0.82% 0.83% 0.89% 0.92% Nonaccrual and restructured loan interest data: Interest computed at original terms: ($ in 000) $ 72 ======= Interest recognized in income ($ in 000) $ 61 =======
Other real estate owned increased to $138,000 during 1998, which is the result of foreclosure activity during the second quarter on a single commercial property. A loan is considered impaired when, based upon current information and events, it is probable that the Company will be unable to collect all principal and interest amounts due according to the contractual terms of the loan agreement. At December 31, 1998, the Company had impaired loans of $593,000, all of which were restructured accounts. Impaired loans at December 31, 1998 consisted of loans to a single borrower which were also classified as nonaccrual. However, as a result of the sale of the borrower's business enterprise during the first quarter of 1999, the Bank not only received payment in full on all outstanding principal, but also recovered all forgone interest as well as miscellaneous expenses incurred by the Bank. Management does not consider any of the remaining non-performing loans to pose any significant risk to the capital position or future earnings of the Company. Commercial, financial and agricultural loans are classified as nonaccrual when the loans become 90 days or more past due, and all other loans 120 days or more past due. In addition, a loan may also be classified as nonaccrual if, in the opinion of management, doubts as to the collectibility of the account arise prior to reaching certain past due parameters. At the time the account is placed on nonaccrual status, all previously accrued interest is charged against current earnings. At the time the accrual of interest is discontinued, future income is recognized only when cash is received. Non-performing loans as a percentage of total loans at December 31, 1998 were 1.2% compared to 0.9% at December 31, 1997, the increase is due principally to an increase in nonaccrual loans, which increased $536,000 during the period. The increase is due primarily to the credit deterioration of two borrowers. Management views the collateral positions on both credits to be sufficient to cover the outstanding debts and does not believe the increase in nonaccrual loans or any of the accounts classified as non-performing will have a significant effect on operations or liquidity during 1999. Exclusive of the payoff mentioned above, nonaccrual loans, total nonperforming and restructured loans and total non-performing assets at December 31, 1998 would have been $1.28 million, $1.33 million and $1.50 million respectively. Non-performing and restructured loans as a percentage of total loans would be 0.8% and non- performing assets as a percentage of total assets would be 0.7%. Management is not aware of any trends or uncertainties related to any loans classified as doubtful or substandard which might have a material effect on future earnings, liquidity or capital resources. In addition, management is not aware of any information pertaining to material credits which would cause it to doubt the ability of such borrowers to comply with the loan repayment terms. The risk of loan losses is one of the inherent risks associated with lending. Management recognizes and experience indicates, that at any point in time, possible losses may exist in the loan portfolio. Therefore, based upon management's best estimate, each year provisions are charged against earnings to maintain the allowance for loan losses at a level sufficient to recognize this potential risk. For 1998, management provided $310,000 to the allowance for loan losses. - 32 - In determining the level at which the allowance for loan losses should be maintained, management relies on in-house quarterly reviews of significant loans and commitments outstanding, including a continuing review of problem or non-performing loans and overall portfolio quality. Based upon this evaluation, allocations of the current allowance are made, with accounts not subject to specific review having fixed factors applied. The unallocated portion of the allowance is then assessed to determine if it is deemed sufficient to absorb any unidentified losses. A quarterly report is presented to and approved by the Board of Directors. To further monitor and assess the risk characteristics of the loan portfolio, loan delinquencies are reviewed to consider any developing problem loans. Based upon the procedures in place, considering past charge-offs and recoveries and assessing the current risk elements in the portfolio, management believes the allowance for loan losses at December 31, 1998 is adequate. Management believes the allowance can be allocated to commercial, real estate and consumer categories as follows:
1998 1997 1996 1995 1994 ------------- ------------- ------------- ------------- ------------- % of % of % of % of % of Loans in Loans in Loans in Loans in Loans in Category Category Category Category Category to Total to Total to Total to Total to Total Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans ------ ----- ------ ----- ------ ----- ------ ----- ------ ----- (Dollars in Thousands) Commercial, financial and agricultural $ 249 9.8% $ 269 11.6% $ 139 12.8% $ 169 10.8% $ 186 8.6% Real estate-construction - 1.7 - 1.6 - 1.0 - 2.4 - 4.0 Real estate mortgage 279 69.7 247 67.5 315 66.7 196 66.6 254 67.5 Consumer 298 18.8 271 19.3 299 19.5 312 20.2 202 19.9 Unallocated 584 - 512 - 424 - 421 - 395 - ------ ----- ------ ----- ------ ----- ------ ----- ------ ----- Total $1,410 100.0% $1,299 100.0% $1,177 100.0% $1,098 100.0% $1,037 100.0% ====== ===== ====== ===== ====== ===== ====== ===== ====== =====
Deposits The following table presents average deposits by type and the average interest rates paid as of 1998, 1997 and 1996:
December 31, ---------------------------------------------------------- 1998 1997 1996 ---------------- ---------------- ---------------- (Dollars in thousands) Average Average Average Average Rate Average Rate Average Rate Balance Paid Balance Paid Balance Paid -------- ----- -------- ----- -------- ----- Noninterest-bearing demand $ 29,910 - % $ 26,195 - % $ 23,227 - % Interest-bearing demand 24,052 2.17 22,780 2.16 18,717 2.17 Money market 22,694 3.82 23,842 3.83 21,609 3.83 Savings 20,736 2.45 18,709 2.47 17,904 2.51 Time 88,928 5.68 81,840 5.59 70,481 5.50 -------- -------- -------- Total $186,320 4.44% $173,366 4.38% $151,938 4.32% ======== ===== ======== ===== ======== =====
The following table presents the maturity schedule of time deposits of $100,000 and over: Three months or less $ 6,912 Over three months through six months 3,271 Over six months through twelve months 4,106 Over twelve months 8,393 ---------- Total $ 22,682 ========== - 33 - Market for Common Equity and Related Stockholder Matters Prior to fourth quarter 1995, the Company's common stock was traded locally. There was no established public trading market for Slippery Rock Financial Corporation's common stock at that time. During the fourth quarter of 1995, the Company began trading its stock in the local over-the-counter market through the National Association of Securities Dealers OTC "Bulletin Board") system, which is its automated system for reporting non-NASDAQ quotes and the National Quotation Bureau's "Pink Sheets". Price quotations reflect inter-dealer prices, without retail mark-up, mark-down or commission and may not represent actual transactions. The Company uses the following firms in establishing a market for its stock: Legg Mason Wood Walker Pittsburgh, PA F. J. Morrissey & Co. Philadelphia, PA Monroe Securities, Inc. Rochester, NY Ryan Beck & Co. West Orange, NJ The following table summarizes the high and low prices and dividend information since January 1, 1997. Prices are based on information made available to the Company. Cash dividends were declared on a quarterly basis. Pricing and dividends have been adjusted for the effect of a two-for-one split in December 1998. 1998 1997 ------------------------- ------------------------- Stock Price Stock Price ---------------- Dividend ---------------- Dividend High Low Declared High Low Declared ------- ------- ------- ------- ------- ------- First Quarter $ 25.00 $ 21.88 $ 0.075 $ 17.50 $ 13.00 $ 0.075 Second Quarter 25.50 23.25 0.080 17.50 16.25 0.075 Third Quarter 27.18 23.25 0.085 20.25 16.25 0.075 Fourth Quarter 26.00 21.75 0.150 21.88 16.25 0.125 The Company paid cash dividends of $0.39 and $0.35 per share in 1998 and 1997 respectively, after adjustment for the stock split. It is the present intention of the Company's Board of Directors to continue the dividend payment policy; however, future dividends must depend upon earnings, financial condition and any other factors relevant at the time the Board of Directors consider such dividends. Cash available for dividend distributions to shareholders of the Company must initially come from dividends paid by the Bank to the Company. Therefore, any restrictions on the Bank's dividend payments are directly applicable to the Company. As of December 31, 1998, the Company had approximately 592 shareholders of record. - 34 - EX-21 3 LIST OF SUBSIDIARIES Exhibit 21 List of Subsidiaries The First National Bank of Slippery Rock EX-27 4 FINANCIAL DATA SCHEDULE
9 1,000 12-MOS DEC-31-1998 DEC-31-1998 8,620 8,016 6,400 0 18,197 3,644 3,736 163,322 1,410 215,773 190,149 0 1,036 333 0 0 691 23,564 215,773 14,140 1,204 747 16,091 6,949 6,986 9,105 310 0 6,017 4,407 4,407 0 0 3,054 1.11 1.11 8.34 1,871 50 0 0 1,299 243 44 1,410 1,410 0 584
EX-99.1 5 PROXY NOTICE OF ANNUAL MEETING OF SHAREHOLDERS AND PROXY STATEMENT SLIPPERY ROCK FINANCIAL CORPORATION 100 South Main Street Slippery Rock, Pennsylvania 16057-1245 To be held April 20, 1999 Mailed to Shareholders March 31, 1999 SLIPPERY ROCK FINANCIAL CORPORATION 100 SOUTH MAIN STREET SLIPPERY ROCK, PENNSYLVANIA 16057-1245 (724) 794-2210 NOTICE OF ANNUAL MEETING OF SHAREHOLDERS To the Shareholders: NOTICE IS HEREBY GIVEN that pursuant to the call of its Board of Directors, the Annual Meeting of Shareholders of Slippery Rock Financial Corporation will be held at the Slippery Rock Township Building, 155 Branchton Road, Slippery Rock, Pennsylvania 16057, on Tuesday, April 20, 1999, at 7:00 p.m., prevailing time, for the purpose of considering and voting on the following matters: 1. Election of three directors for a term of three years. 2. Such other business as may properly come before the meeting or any adjournment thereof. Only those shareholders of record at the close of business on March 12, 1999 shall be entitled to receive notice of and to vote at the meeting. A Proxy Statement, a form of proxy and self-addressed envelope are enclosed. Complete, date and sign the proxy. Return it promptly in the envelope which requires no postage if mailed in the United States. If you attend the meeting, you may withdraw your proxy and vote in person. This Notice, the accompanying Proxy Statement and form of proxy are sent to you by order of the Board of Directors. Eleanor L. Cress Secretary Slippery Rock, Pennsylvania March 31, 1999 PROXY STATEMENT INTRODUCTION The Proxy Statement and enclosed proxy are being mailed to the shareholders of Slippery Rock Financial Corporation (the "Corporation"), on or about March 31, 1999, in connection with the solicitation of proxies by the Board of Directors of the Corporation. The proxies will be voted at the Annual Meeting of the Shareholders to be held on April 20, 1999, at 7:00 p.m., prevailing time, at the Slippery Rock Township Building, 155 Branchton Road, Slippery Rock, Pennsylvania 16057. Proxies may be revoked at will at any time before they have been exercised by filing with the Secretary of the Corporation an instrument of revocation, by submitting a duly executed proxy bearing a later date or by appearing at the Annual Meeting and giving notice of intention to vote in person. Proxies solicited hereby may be exercised only at the Annual Meeting and any adjournment or postponement thereof and will not be used for any other meeting. The costs of the solicitation of proxies will be borne by the Corporation. In addition to the use of the mails, directors and officers of the Corporation may solicit proxies, without additional compensation, by telephone or telegraph. Arrangements may be made by the Corporation with banks, brokerage houses and other custodians, nominees and fiduciaries to forward solicitation material to the beneficial owners of shares held by them of record, and the Corporation may reimburse them for reasonable expense they incur in so doing. The Corporation's Annual Report for the year ended December 31, 1998, is enclosed with this Proxy Statement. It should not be regarded as proxy solicitation material. VOTING SECURITIES As of the close of business on March 31, 1999 (the "Record Date"), there were outstanding 2,763,648 shares of Common Stock of the Corporation ("Common Stock"), the only class of capital stock of the Corporation outstanding and entitled to vote. Only shareholders of record as of the close of business on the Record Date are entitled to receive notice of and to vote at the Annual 1 Meeting. Each shareholder is entitled to one vote for each such share held. BENEFICIAL OWNERSHIP BY CERTAIN PERSONS AND MANAGEMENT There is set forth below information with respect to the beneficial ownership, as of the Record Date, of certain persons, including directors and nominees for director, of shares of the Common Stock. 2 Name of Beneficial Amount and Nature Percent of Class - ------------------ ----------------- ---------------- Owner of Ownership - ----- ------------ (1)(2)(3) John W. Conway Slippery Rock, Pennsylvania 96,928 3.50% Grady W. Cooper St. Cloud, Florida 368,768 13.32% Robert M. Greenberger Butler, Pennsylvania 3,064 * Robert E. Gregg Grove City, Pennsylvania 10,008(4) * William D. Kingery New Wilmington, Pennsylvania 2,608 * Paul M. Montgomery Slippery Rock, Pennsylvania 53,176 1.92% S. P. Snyder Slippery Rock, Pennsylvania 41,602 1.52% William C. Sonntag Slippery Rock, Pennsylvania 16,320 * Charles C. Stoops, Jr. Pittsburgh, Pennsylvania 86,816 3.14% Norman P. Sundell Slippery Rock, Pennsylvania 8,112 * Kenneth D. Wimer Grove City, Pennsylvania 33,184 1.20% Officers, Directors and Nominees for Directors as a Group (5) 755,810 27.30% - ----------------- *Less than l% 3 (l) The securities "beneficially owned" by an individual are determined in accordance with the "beneficial ownership" set forth in the General Rules and Regulations of the Securities and Exchange Commission ("SEC") and may include securities owned by or for the individual's spouse and minor children and any other relative who has the same home, as well as securities to which the individual has or shares voting or investment power or has the right to acquire beneficial ownership within sixty (60) days after the Record Date. Beneficial ownership may be disclaimed as to certain of the securities. (2) Information furnished by the Directors and Officers and the Corporation. (3) Includes shares of Common Stock which may be acquired within 60 days by exercise of stock options granted pursuant to the Non-Employee Directors Stock Option Plan approved in 1997. Shares of Common Stock which are subject to stock options are deemed to be outstanding for computing the percentage of Common Stock owned by such person, but are not deemed to be outstanding for the purpose of computing the percentage of any other person. The number of such shares included above are as follows: Mr. Snyder, 600 shares; Mr. Wimer, 600 shares; Mr. Conway, 600 shares; Mr. Sundell, 1,200 shares; Mr. Gregg, 600 shares; Mr. Kingery, 600 shares; Mr. Montgomery, 600 shares. (4) Includes voting power of attorney over 3,536 shares owned by members of Mr. Gregg's family. (5) The group consists of 14 persons, as of the Record Date, being two officers of the Corporation, one executive officer of The First National Bank of Slippery Rock (the "Bank"), directors and nominees for director. Principal Holders of Stock Except as set forth in the following table, no person is known to the Corporation's management to own of record or beneficially 5% or more of the outstanding Common Stock as of the Record Date: 4 Common Stock ---------------------- Name and Address Amount Percent of Beneficial Owner -------- -------- - -------------------- Grady W. Cooper St. Cloud, Florida 34769 368,768 13.32% ELECTION OF DIRECTORS The Corporation's Articles of Incorporation provide that there shall be three classes of directors as nearly equal in number as possible, each class being elected for a three-year term and only one class being elected each year beginning in 1993. The total number of directors shall be that number from time to time determined by a resolution adopted by a majority vote of the directors then in office or by resolution of the shareholders at a meeting thereof. There shall be not less than five directors. The number of directors for 1999 has been set at 11. The Board of Directors has nominated Messrs. John W. Conway, William D. Kingery and Charles C. Stoops, Jr. for election as Class I directors for three-year terms to expire at the 2002 Annual Meeting of Shareholders, or until their successors are duly elected and qualified. All Class I directors were elected by the shareholders at the 1996 Annual Meeting. The remaining eight directors will continue to serve in accordance with their prior election with the terms of the Class III and Class II directors expiring in 2001 and 2000, respectively. Each shareholder has one vote for each share registered in his or her name, and there are no cumulative voting rights. Unless authority is withheld as to a particular nominee or as to all nominees, all proxies will be voted for the nominees listed below. Directors shall be elected by a plurality of votes cast at the meeting by holders of stock present and entitled to vote thereat. Votes marked "WITHHOLD AUTHORITY" in the election of directors are counted toward a quorum but have no effect on the outcome of the election. It is intended that shares represented by proxies will be voted for the nominees listed below, each of whom is now a director of the Corporation and each of whom has expressed his willingness to serve, or for any substitute nominee or nominees designated by 5 the Board of Directors in the event any nominee or nominees become unavailable for election. The three persons receiving the highest number of votes for Class I directors will be elected. The Board of Directors has no reason to believe that any of the nominees will not serve if elected. In the following tables are set forth as to each of the nominees for election as Class I directors and as to each of the continuing Class III and Class II directors his age, principal occupation and business experience, the period during which he has served as a director of the Corporation, the Bank or an affiliate and other business relationships as of the Record Date. There are no family relationships between any of the persons listed below except Mr. Cooper and the Messrs. Wimer are first cousins. Nominees for Election as Class I Directors Terms Expire in 2002 Directorship in other Name and Principal Director Reporting Occupation (1) Age Since (2)(3) Companies - ---------------- --- ----------- --------- John W. Conway 74 1961 None Vice Chairman, Retired, former Executive Vice President of the Bank William D. Kingery 45 1995 None Vice President and Treasurer, Springfield Restaurant Group Charles C. Stoops, Jr. 65 1984 None Retired, former General Tax Counsel, Rockwell International Corp. THE BOARD OF DIRECTORS RECOMMENDS THE ABOVE NOMINEES BE ELECTED 6 Class III Directors Terms Expire in 2001 Directorship in other Name and Principal Director Reporting Occupation (1) Age Since (2)(3) Companies - ---------------- --- ----------- --------- Grady W. Cooper 76 1966 None Chairman of the Board, former President of Cooper Brothers, Inc. Building Supplies Robert E. Gregg 57 1987 None Partner, Spring Meadows Farms S. P. Snyder, 66 1966 None Retired, former Owner and Partner, Snyder Bus Company Kenneth D. Wimer 72 1971 None Retired, former Manager, Cooper Brothers, Inc. Building Supplies Class II Directors Terms Expire in 2000 Directorship in other Name and Principal Director Reporting Occupation (1) Age Since (2)(3) Companies - ---------------- --- ----------- --------- Robert M. Greenberger 62 1995 None Owner and President, Harry Products, Inc., parent firm of Warehouse Sales and Trader Horn, Retail Sales Paul M. Montgomery 74 1971 None 7 Retired, former President of the Bank William C. Sonntag 50 1989 None President and Chief Executive Officer of the Corporation and Bank Norman P. Sundell 55 1987 None Partner, Sundell Auto Specialties (l) All directors and nominees have held the positions indicated or another senior executive position with the same entity or one of its affiliates or predecessors for the past five years. (2) Reflects the earlier of the first year as a director of the Corporation or the Bank. (3) All incumbent directors were elected by the shareholders. Board Meetings and Committees The Board of Directors of the Corporation has various committees including a Personnel and Salary Committee and an Audit Committee. During the year 1998 the Board of Directors of the Corporation held 6 meetings and the Board of Directors of the Bank held 12 meetings. The Audit Committee held 11 meetings. The Audit Committees of the Corporation and the Bank comprise the same persons, and all meetings were jointly held. Each director attended at least 75% of the combined total of meetings of the Board of Directors and each committee of which he was a member. The Audit Committee is responsible for recommending to the Board of Directors the appointment of independent public accountants to audit the books and accounts of the Corporation and its subsidiaries; reviewing the reports of the Audit Department and the reports of examination conducted by bank and bank holding company regulators and of independent public accountants; reviewing 8 the adequacy of internal audit and control procedures; and reporting to the Board of Directors. The Audit Committee is presently comprised of Messrs. Gregg, Montgomery, Snyder and Wimer who also constitute the Audit Committee of the Bank. The Loan Review Committee consists of Messrs. Gregg, Montgomery, Snyder and Sundell. The Committee met 4 times in 1998. The Corporation presently does not have a separate Nominating Committee. The Personnel and Salary Committee of the Bank, consisting of Messrs. Cooper, Greenberger, Kingery, Snyder, Stoops and Sundell met 3 times in 1998. Mr. Sonntag is ex-officio member of all committees. EXECUTIVE COMPENSATION Compensation of Directors Directors are paid $950.00 for each Board meeting. A total of $116,000.00 was paid as Directors fees in 1998. Executive Compensation The following persons are considered to be Executive Officers of the Corporation by virtue of their position with the Corporation or the Bank. Name Age Position Business Experience(1) ---- --- -------- --------------------- William C. Sonntag 50 President and Chief Executive Officer of the Corporation and the Bank Mark A. Volponi 37 Treasurer of the Corporation and Controller of the Bank Eleanor L. Cress 59 Secretary of the Corporation and Vice President and Secretary of the Bank 9 Dale R. Wimer 53 Executive Vice President of the Bank (l) Each of the above persons, has held an executive position with the Corporation or the Bank for the past five years. The following table sets forth the cash compensation paid or to be paid by the Bank during 1998 to Mr. Sonntag, the Chief Executive Officer. No other officer's compensation exceeded $100,000. The Corporation pays no salaries or benefits. SUMMARY COMPENSATION TABLE Annual Compensation (l)(2) ------------------------ Name and Principal Number of All Other Annual Position Year Salary Bonus Stock Options(4) Compensation(4) - -------- ---- ------ ----- ------------- ------------ William C. 1998 $95,508 $30,309 4,000(5) - Sonntag, 1997 $90,504 $29,166 4,000(5) - President and 1996 $85,512 $28,167 0 - Chief Executive Officer (3) (l) Information with respect to group life, health, hospitalization and medical reimbursement plans is not included as they do not discriminate in favor of officers or Directors and are available generally to all salaried employees. (2) Information with respect to the Bank's Employees Retirement Plan is not included as it is a fixed benefit plan available to all salaried employees on the same terms and conditions. (3) Does not include amounts attributable to miscellaneous benefits. In the opinion of management of the Corporation, the cost of providing such benefits during 1998 did not exceed the lesser of $50,000 or 10% of Mr. Sonntag's total salary and bonus. (4) The Corporation has no restricted stock or other long-term incentive plans. The Board of Directors approved an Employees Incentive Stock Option Plan which was approved and adopted by Shareholders at the 1997 meeting. Information with respect to 10 grants made pursuant to this plan is set forth below. (5) Restated to reflect a two for one stock split in December, 1998. SUMMARY COMPENSATION TABLE Annual Compensation (l)(2) ------------------------- Name and Principal Number of All Other Annual Position Year Salary Bonus Stock Options(4) Compensation(4) - -------- ---- ------ ----- --------------- -------------- William C. 1998 $95,508 $30,309 4,000(5) - Sonntag, 1997 $90,504 $29,166 4,000(5) - President and 1996 $85,512 $28,167 0 - Chief Executive Officer (3) (l) Information with respect to group life, health, hospitalization and medical reimbursement plans is not included as they do not discriminate in favor of officers or Directors and are available generally to all salaried employees. (2) Information with respect to the Bank's Employees Retirement Plan is not included as it is a fixed benefit plan available to all salaried employees on the same terms and conditions. (3) Does not include amounts attributable to miscellaneous benefits. In the opinion of management of the Corporation, the cost of providing such benefits during 1998 did not exceed the lesser of $50,000 or 10% of Mr. Sonntag's total salary and bonus. (4) The Corporation has no restricted stock or other long-term incentive plans. The Board of Directors approved an Employees Incentive Stock Option Plan which was approved and adopted by Shareholders at the 1997 meeting. Information with respect to grants made pursuant to this plan is set forth below. (5) Restated to reflect a two for one stock split in December, 1998. 11 Compensation Committee Reports on Executive Compensation The Personnel and Salary Committee of the Bank, acting as a compensation committee, has the responsibility to recommend to the Bank's Board of Directors the compensation of the Chief Executive Officer and other persons who are deemed to be principal officers of the Bank. The Corporation pays no salaries. The Committee also evaluates performance of management and considers management's success, planning and related matters. The Committee reviews with the Bank's Board of Directors all aspects of the compensation of the highest paid officers, including stock option grants. A salary plan is reviewed for consistency with industry peer group surveys. The peer group consists of banks within the area of similar assets, size and additional banks elsewhere within the same asset range. Judgments are made with respect to the value contributed to the corporation and the Bank by the various officer's positions, including the Chief Executive Officer. Individual salary levels and option awards are based on relative importance of the job, individual performance of each officer in those positions and the contribution that person has made to the Corporation during the year. As a result of these reviews, salary increases and option grants are determined by the Board of Directors. Management of the Bank determines salary and increases for all other officers and employees based upon performance. Submitted by Messrs. Cooper, Greenberger, Kingery, Snyder, Stoops and Sundell. COMPENSATION ACCORDING TO PLANS Retirement Plan All eligible employees of the Bank are covered by a Defined Benefit Pension Plan (the "Plan"). The Plan is a non-contributory, defined benefit pension plan which provides a normal retirement benefit based upon each participant's years of service with the Bank and the participant's average monthly compensation, which is defined as the compensation converted to a monthly amount and averaged over five (5) consecutive calendar years which produce the 12 highest monthly average within the last ten (10) completed years of service. Benefits are equal to 35% of average monthly compensation plus 22% of average monthly compensation in excess of one-twelfth (1/12) of covered compensation. "Covered Compensation" is defined as a 35 year average of the Social Security Taxable Wage Basis in effect for each calendar year ending with the last day of each calendar year in which a participant reaches normal retirement age. Employees are fully vested after five or more years of service. Actuarial equivalant benefits will be paid upon early retirement, death or disability. An employee will receive his or her vested portion if employment is terminated for any other reason. Employees are eligible at age 21 years and completion of one (1) year of service. Directors are not entitled to benefits under the Retirement Plan unless they are also active employees of the Bank. The following table sets forth the estimated annual benefits payable to an employee retiring in 1998 under the Plan reflecting applicable limitations under Federal tax laws. AVERAGE ANNUAL COMPENSATION YEARS OF SERVICE AT RETIREMENT 10 20 30 40 $ 60,000 $ 8,400 $16,800 $21,000 $21,000 $ 80,000 $12,960 $25,920 $32,400 $32,400 $105,000 $18,660 $37,320 $46,650 $46,650 $130,000 $24,360 $48,720 $60,900 $60,900 $155,000 $30,060 $60,120 $75,150 $75,150 $180,000 $31,200 $62,400 $78,000 $78,000 As of December 31, 1998, Mr. Sonntag had been credited with 23 years of service for purposes of the retirement plan. The approximate accrued benefit at age 65 (or retirement if later) based on years of credited service is $31,176 for Mr. Sonntag. Covered compensation is based on salary shown in the Summary Compensation Table. 13 401(k) Savings Plan Employees who have reached age 21 and completed one (1) year of service (1,000 hours) are eligible to participate in the Bank's 401(k) Savings Plan. This is a participant salary reduction plan wherein a participant may elect to have a percentage of his or her salary (up to maximum legal limits) reduced. Such amounts are immediately fully vested. The Bank makes an annual matching contribution equal to a percentage of salary reduction. Currently, the maximum matching contrigution is 2% of salary. Employer Contributions are fully vested after five years eligible service. Investment gains and losses are allocated on the last day of the Plan year (December 31) as follows: Market Value of Employee's Account Employee's Share = ------------------- x Net gain or loss to be allocated Market Value of all Participant's Accounts A participant is entitled to receive 100% of his or her account balance at normal retirement (later of age 65 or 10th anniversary of participation). Payments are also made on early retirement, late retirement, death or disability. Only the vested portion is paid on termination for anyother cause. STOCKHOLDERS RETURN PERFORMANCE Set forth below is a graph comparing the yearly percentage change in the cumulative total shareholder return on the Corporation's Common Stock against the cumulative total return of S&P 500 Total Return Stock Index and Peer Group Index for the five years beginning January 1, 1994 and ending December 31, 1998. Each assumes an investement of $100 on December 31, 1993 and retention of dividends when paid. 14 Year Ended December 31 Valued at December 31 1993 1994 1995 1996 1997 1998 Corporation(1) $100 $104.03 $154.44 $238.47 $263.25 $301.15 S&P 500(2) 100 99.26 139.31 171.21 228.26 293.36 Peer Group(2) 100 114.38 135.65 165.21 232.38 256.31 (1) Data based upon appraised values for 1997 and 1998 and market sales for prior years. (2) Data obtained from Hopper Soliday & Co. 15 OPTION GRANTS IN LAST FISCAL YEAR The following table sets forth certain information concerning the grant of stock options to Mr. Sonntag during fiscal 1998. Percent of Total Options Exercise Options Granted to Price Expiration Name Granted(#) Employees ($/Share)(1)(2) Date - ---- --------- --------- ------------- ---- William C. 4,000(2) 23.0% $18.50 9/30/08 Sonntag (1) Based upon a market value of $18.50 per share on September 30, 1998 pursuant to an independent appraisal as of that date. (2) Restated to reflect a two for one stock split in December, 1998. AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND YEAR END OPTION VALUES The following table sets forth certain information concerning exercise of stock options granted pursuant to the Employees Incentive Stock Option Plan by Mr. Sonntag during the year ended December 31, 1998 and options held at December 31, 1998. Shares Acquired Number of Unexercised Value of Unexercised on Value Options at December 31, 1998 Options at December 31, 1998 Name Exercise Realized Exercisable Unexercisable Exercisable Unexercisable(1) - ---- -------- -------- ----------- ------------- ----------- --------------- William C. Sonntag 0 0 0 8,000(2) 0 $16,800
1) Based upon a market value of $18.60 per share on December 31, 1998 pursuant to an independent appraisal as of the date. (2) Restated to reflect a two for one stock split in December, 1998. COMPLIANCE WITH SECTION 16(A) OF THE SECURITIES EXCHANGE ACT OF 1934 16 Section 16(a) of the Exchange Act requires the Corporation's officers, directors and persons owning more than 10% of the Corporation's Common Stock to file reports of ownership and changes in ownership with the Securities and Exchange Commission ("SEC"). Officers, directors and such shareholders are required by regulation to furnish the Corporation with copies of all Section 16(a) forms they file. Except as set forth above in "Principal Holders of Stock", the Corporation knows of no person who owned 10% or more of its Common Stock. Based upon review of copies of the forms furnished to the Corporation, the Corporation believes that during 1998 all Section 16(a) filing requirements were complied with in a timely manner except Mr. Cooper and Mr. Stoops were late in filing Form 4s which were subsequently filed. TRANSACTIONS WITH MANAGEMENT Certain directors, nominees and executive officers and/or their associates were customers of and had transactions with the Corporation or the Bank during 1998. Transactions which involved loans or commitments by the Bank were made in the ordinary course of business and on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons and did not involve more than normal risk of collectability or present other unfavorable features. AUDITORS S. R. Snodgrass, A.C. has audited the Corporation's financial statements for the fiscal year ended December 31, 1998, and the report on such financial statements appears in the Annual Report to Shareholders. S. R. Snodgrass, A.C. has been selected by the Board of Directors to perform an examination of the consolidated financial statements of the Corporation for the year ending December 31, 1999. FINANCIAL INFORMATION A copy of the Corporation's Annual Report to Shareholders for the year ended December 31, 1998 accompanies this Proxy Statement. Such Annual Report is not a part of the proxy solicitation materials. 17 REQUESTS FOR PRINTED FINANCIAL MATERIAL FOR THE CORPORATION OR ANY OF ITS SUBSIDIARIES - ANNUAL OR QUARTERLY REPORTS, FORMS 10-K AND 10-Q AND CALL REPORTS AND A LIST OF EXHIBITS - SHOULD BE DIRECTED TO MARK A. VOLPONI, TREASURER, 100 SOUTH MAIN STREET, SLIPPERY ROCK, PA 16057-1245, TELEPHONE (724) 794-2210. UPON WRITTEN REQUEST AND PAYMENT OF A COPYING FEE OF TEN CENTS A PAGE, THE CORPORATION WILL ALSO FURNISH A COPY OF ALL EXHIBITS TO THE FORM 10-K. SHAREHOLDERS PROPOSALS FOR NEXT ANNUAL MEETING Any eligible shareholder desiring to present a proposal pursuant to Rule 14a-8 promulgated by the SEC to be considered at the 2000 Annual Meeting of Shareholders should submit the proposal in writing to: William C. Sonntag, President, Slippery Rock Financial Corporation, 100 South Main Street, Slippery Rock, PA 16057-1245 no later than November 29, 1999. A shareholder wishing to submit a proposal other than pursuant to Rule 14a-8 must notify the Corporation no later than February 13, 2000. In the absence of timely notice, management will exercise its discretionary power in voting on any such matter. OTHER MATTERS The Board of Directors knows of no other matters to be presented at the meeting. If, however, any other business should properly come before the meeting, or any adjournment thereof, it is intended that the proxy will be voted with respect thereto in accordance with the best judgment of the persons named in the proxy. By Order of the Board of Directors, ------------------------------ Eleanor L. Cress Secretary 18 PROXY FOR ANNUAL MEETING OF SHAREHOLDERS OF SLIPPERY ROCK FINANCIAL CORPORATION The undersigned shareholder(s) of SLIPPERY ROCK FINANCIAL CORPORATION, Slippery Rock, Pennsylvania (the "Corporation") do(es) hereby appoint Donald L. Mershimer and Frank Gill, or either one of them my (our) true attorney(s) with full power of substitution, for me (us) and in my (our) name(s), to vote all the common stock of the Corporation standing in my (our) name(s) on its books on March 12, 1999 at the Annual Meeting of Shareholders of the Corporation to be held at the Slippery Rock Township Building, 155 Branchton Road, Slippery Rock, Pennsylvania 16057, on April 20, 1999, at 7:00 p.m. or any adjournment or postponement thereof as follows: This will ratify and confirm all that said attorney(s) may do or cause to be done by virtue hereof. Said attorney(s) is (are) hereby authorized to exercise all the power that I (we) would possess if present personally at said meeting or any adjournment(s) thereof. I (we) hereby revoke all proxies by me (us) heretofore given for any meeting of Shareholders of the Corporation. Receipt is acknowledged of the Notice and Proxy Statement for said meeting, each dated March 31, 1999. THIS PROXY IS CONTINUED ON THE REVERSE SIDE. PLEASE SIGN ON THE REVERSE SIDE AND RETURN PROMPTLY. Mark an "X" in the box below to indicate your vote. 1. Election of Class I Directors for a three year term [ ] FOR all nominees listed [ ] WITHHOLD AUTHORITY below (Except as marked to vote for all to the contrary below) nominees listed below SPECIAL INSTRUCTIONS: TO WITHHOLD AUTHORITY TO VOTE FOR ANY INDIVIDUAL NOMINEE(S), DRAW A LINE THROUGH THE NOMINEE'S NAME(S) BELOW. Class I Director for Term Expiring in 2002 ------------------------------------------ John W. Conway Charles C. Stoops, Jr. William D. Kingery 2. In accordance with the recommendations of management, to vote upon such other matters as may properly come before the meeting or any adjournment or postponement thereof. IN ABSENCE OF A CONTRARY DIRECTION, THE SHARES REPRESENTED SHALL BE VOTED IN FAVOR OF ITEM 1 AND IN ACCORDANCE WITH THE RECOMMENDATION OF MANAGEMENT WITH RESPECT TO ITEM 2. THIS PROXY IS SOLICITED ON BEHALF OF THE BOARD OF DIRECTORS AND MAY BE REVOKED PRIOR TO EXERCISE. If planning on attending the meeting in person, please indicate in the box below. [ ] WILL ATTEND Number of Shares held of record as of March 12, 1999: ---------------- ------------------------------ Signature of Shareholder ------------------------------ Signature of Shareholder Dated: __________________________ Please date and sign exactly as your ame(s) appear(s) hereon. When signing as attorney, executor, administrator, trustee, or guardian, etc., you should indicate your full title. If stock is in joint name(s), each joint owner should sign. EX-99.2 6 REPORT OF INDEPENDENT AUDITORS Exhibit 99.2 Report of Independent Auditors REPORT OF INDEPENDENT AUDITORS Board of Directors and Stockholders Slippery Rock Financial Corporation We have audited the accompanying consolidated balance sheet of Slippery Rock Financial Corporation and subsidiary as of December 31, 1998 and 1997, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for the three years in the period ended December 31, 1998. These financial statements are the responsibility of the Company'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 Slippery Rock Financial Corporation and subsidiary as of December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1998 in conformity with generally accepted accounting principles. /s/ S. R. Snodgrass, A.C. Wexford, PA February 19, 1999 S.R. Snodgrass, A.C. 101 Bradford Road, Suite 100 Wexford, PA 16090-6909 Phone: 724-934-0344 Facsimile: 724-934-0345 -----END PRIVACY-ENHANCED MESSAGE-----