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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
Annual Report Pursuant to Section 13
or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended December 31, 2007
Commission file number: 0-26570
1ST INDEPENDENCE FINANCIAL GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 61-1284899
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
8620 Biggin Hill Lane 40220-4117
Louisville, Kentucky (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (502)753-0500
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
------------------- -----------------------------------------
Common Stock, par value The NASDAQ Stock Market LLC
$0.10 per share
Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned
issuer, as defined in Rule 405 of the Securities Act. Yes |_| No |X|
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or 15(d) of the Act. Yes |_| No |X|
Indicate by check mark whether the registrant (1) filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes |X| No |_|
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. |X|
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, or a non-accelerated filer, or a smaller reporting
company. See the definitions of "large accelerated filer," "accelerated filer"
and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer |_| Accelerated filer |_|
Non-accelerated filer |_| Smaller reporting company |X|
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Act). Yes |_| No |X|
The aggregate market value of the voting common stock held by
non-affiliates of the registrant was approximately $27,858,435 as of
June 30, 2007.
The number of shares outstanding of the registrant's common stock as of
March 14, 2008 was 1,995,744.
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1ST INDEPENDENCE FINANCIAL GROUP, INC.
FORM 10-K
For the Year Ended December 31, 2007
INDEX
PART I Page
Item 1. Business....................................................... 3
Item 1B. Unresolved Staff Comments...................................... 13
Item 2. Properties..................................................... 13
Item 3. Legal Proceedings.............................................. 14
Item 4. Submission of Matters to a Vote of Security Holders............ 14
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities............ 15
Item 6. Selected Financial Data........................................ 17
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operation..................................... 18
Item 7A. Quantitative and Qualitative Disclosures About Market Risk .... 26
Item 8. Financial Statements and Supplementary Data.................... 27
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure..................................... 54
Item 9A. Controls and Procedures........................................ 54
Item 9B. Other Information.............................................. 55
PART III
Item 10. Directors, Executive Officers and Corporate Governance......... 55
Item 11. Executive Compensation......................................... 58
Item 12. Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters................... 65
Item 13. Certain Relationships and Related Transactions, and Director
Independence................................................. 66
Item 14. Principal Accounting Fees and Services......................... 67
PART IV
Item 15. Exhibits, Financial Statement Schedules........................ 68
Signatures............................................................... 70
PART I
Item 1. Business.
General
1st Independence Financial Group, Inc. (the "Company") was organized as
a Delaware corporation in June 1995 and is a bank holding company based in
Louisville, Kentucky which owns 1st Independence Bank, Inc. (the "Bank"). During
2004, the Company merged with Independence Bancorp, New Albany, Indiana. The
Bank currently serves its customers through a network of eight branch offices
located in Harrodsburg, Lawrenceburg and Louisville (Stony Brook main office
branch and St. Matthews branch office), Kentucky and New Albany, Jeffersonville,
Marengo and Clarksville, Indiana. The Bank also operates a mortgage division,
1st Independence Mortgage, which originates one-to-four family residential
mortgage loans. 1st Independence Mortgage operates throughout the Bank's branch
network. The Bank also offers limited trust services. On November 1, 2004, the
Bank formed a title insurance company, Foundation Title Company, LLC, located in
Jeffersonville, Indiana. The Company decided to exit the title insurance
business at the end of November 2005 and sold the title insurance company at its
carrying value.
The Company provides commercial and retail banking services, with an
emphasis on commercial real estate loans, one-to-four family residential
mortgage loans via 1st Independence Mortgage, home equity loans and lines of
credit and consumer loans as well as certificates of deposit, checking accounts,
money-market accounts and savings accounts within its market area. At December
31, 2007, the Company had total assets, deposits and equity of $347.7 million,
$254.6 million, and $35.3 million, respectively. The Company's business is
conducted principally through the Bank. Unless otherwise indicated, all
references to the Company refer collectively to the Company and the Bank and its
subsidiaries.
In January 2005, the Company completed the sale of its entire interest
in its majority owned subsidiary, Citizens Financial Bank, Inc., Glasgow,
Kentucky ("Citizens) to another financial institution for $2.3 million. The sale
of Citizens reflected the Company's revised strategic plan to exit the south
central Kentucky market and to focus on the growing markets of southern Indiana,
central Kentucky, and greater Louisville, Kentucky. In accordance with Statement
of Financial Accounting Standards ("SFAS") No. 144, "Accounting for the
Impairment or Disposal of Long-lived Assets", the financial position and results
of operations of Citizens prior to the sale were removed from the detail line
items in the Company's financial statements and presented separately as
"subsidiary held for disposal." In a related transaction the Bank purchased in
January 2005 a commercial building located in Louisville, Kentucky, for $2.3
million from an affiliate of the financial institution which purchased Citizens.
The Bank moved its finance and accounting, loan and deposit operations, and
mortgage banking operations into the building in April 2005. The Bank also
received regulatory approval during the second quarter of 2005 to establish a
full service branch at this location which it opened in November 2005. See note
3 to the Company's consolidated financial statements, presented herein, for
additional information. Additionally, the financial tables also presented
herein, have been revised to reflect the discontinued operations of Citizens
prior to the sale.
On February 27, 2008, the Company announced that it had entered into an
Agreement and Plan of Merger (the "Merger Agreement") with MainSource Financial
Group, Inc. ("MainSource"). The Merger Agreement provides that the Company's
stockholders would receive $5.475 in cash and 0.881036 shares of MainSource
common stock for each share of the Company's stock owned. Based on MainSource's
February 26, 2008 closing price of $14.60 per share, the transaction values the
Company at $18.34 per share or $37.0 million in the aggregate, including the
cashout value of the Company's in-the-money stock options. The merger is
currently expected to close in the third quarter of 2008, and is subject to the
approval of the Company's stockholders, receipt of certain regulatory approvals,
and certain other customary conditions. See note 22 to the Company's
consolidated financial statements, presented herein, for additional information.
Market Area and Competition
The competition for deposit products comes from other insured financial
institutions such as commercial banks, thrift institutions, credit unions, and
multi-state regional banks in the Company's market area of Anderson, Jefferson,
and Mercer Counties in Kentucky and Floyd, Clark and Crawford Counties in
Indiana. Deposit competition also includes a number of insurance products sold
by local agents and investment products such as mutual funds and other
securities sold by local and regional brokers. Loan competition varies depending
upon market conditions and comes from other insured financial institutions such
as commercial banks, thrift institutions, credit unions, multi-state regional
banks, and mortgage bankers.
Analysis of Loan Portfolio. The following table (in thousands except
percentages) sets forth information concerning the composition of the Company's
loan portfolio in dollar amounts and in percentages of the total loan portfolio
as of the dates indicated. Loan balances related to the discontinued operations
of Citizens have been eliminated.
December 31,
-----------------------------------------------------------------------------------------------------
2007 2006 2005 2004 2003
-------------------- ------------------ ------------------ ------------------ ------------------
Percent of Percent of Percent of Percent of Percent of
Amount Total loans Amount Total loans Amount Total loans Amount Total loans Amount Total loans
------- ----------- ------ ----------- ------ ----------- ------ ----------- ------ ----------
Real estate:
Commercial $ 60,357 22% $ 49,943 18% $ 46,731 17% $ 35,746 15% $13,128 16%
Residential 108,557 40 121,216 45 128,949 48 125,433 53 61,495 73
Construction 64,710 23 64,244 23 51,877 19 33,600 14 2,977 3
Commercial 25,092 9 20,393 7 23,757 9 21,040 9 3,365 4
Consumer
Home equity 12,309 4 14,026 5 16,615 6 16,672 7 1,963 2
Other 4,563 2 4,401 2 1,960 1 3,706 2 1,327 2
-------- --- -------- --- -------- --- -------- --- ------- ---
Total loans 275,588 100% 274,223 100% 269,889 100% 236,197 100% 84,255 100%
=== === === === ===
Less: allowance for
loan losses 7,140 3,745 2,911 2,549 391
-------- -------- -------- -------- -------
Loans, net $268,448 $270,478 $266,978 $233,648 $83,864
======== ======== ======== ======== =======
Loans held for sale $2,874 $1,227 $1,278 $2,344 $ -
====== ====== ====== ====== ======
Loan Maturity Tables
The following table (in thousands) sets forth the maturity of the
Company's loan portfolio at December 31, 2007. The table does not include
prepayments or scheduled principal repayments. Adjustable-rate mortgage loans
are shown as maturing based on contractual maturities.
Due after 1
Due within 1 through 5 Due after 5
year years years Total
---- ----- ----- -----
Real estate:
Commercial $17,794 $16,508 $ 26,055 $ 60,357
Residential 9,751 14,724 84,082 108,557
Construction 49,750 13,148 1,812 64,710
Commercial 14,955 2,688 7,449 25,092
Consumer 3,027 9,977 3,868 16,872
------- ------- -------- --------
Total $95,277 $57,045 $123,266 $275,588
======= ======= ======== ========
The following table (in thousands) sets forth as of December 31, 2007
the dollar amount of all loans that are due after December 31, 2008 and have
either fixed rates of interest or floating or adjustable interest rates.
Floating or
Fixed rates adjustable rates Total
----------- ---------------- -----
Real estate:
Commercial $ 6,729 $ 35,834 $ 42,563
Residential 29,945 68,861 98,806
Construction 590 14,370 14,960
Commercial 4,689 5,448 10,137
Consumer 3,064 10,781 13,845
------- -------- --------
Total $45,017 $135,294 $180,311
======= ======== ========
Commercial Real Estate Loans. The commercial real estate loans
originated are generally made to individuals, small businesses and partnerships
located in the Company's primary market area. Such loans are generally secured
by first mortgages on apartment buildings, office buildings, churches and other
properties. Adjustable-rate loans for this type of lending have a margin that is
50 to 150 basis points higher than the margin added to single-family
owner-occupied property loans. Commercial real estate loans are typically
adjustable-rate loans with terms of 25 years or less and loan-to-value ratios
typically not exceeding 80%. At December 31, 2007, commercial real estate loans
totaled approximately $60.4 million or 22% of the total loan portfolio.
Commercial real estate lending entails significant additional risks as
compared to one- to four-family residential lending. For example, such loans
typically involve large loans to single borrowers or related borrowers, the
payment experience on such loans is typically dependent on the successful
operation of the project, and these risks can be significantly affected by the
supply and demand conditions in the market for commercial property.
Loans secured by commercial real estate generally involve a greater
degree of risk than residential mortgage loans and carry larger loan balances.
This increased credit risk is a result of several factors, including the
concentration of principal in a limited number of loans and borrowers, the
effects of general economic conditions on income producing properties, and the
increased difficulty of evaluating and monitoring these types of loans. If the
cash flow from the project is reduced, the borrower's ability to repay the loan
may be impaired. To minimize these risks, the Company generally limits loans of
this type to its market area and to borrowers with which it has substantial
experience and expertise in the commercial real estate market. The Company's
underwriting procedures require verification of the borrower's credit history,
income, financial statements, banking relationships, credit references, and
income projections for the property. It is their current practice to obtain
personal guarantees from substantially all principals obtaining this type of
loan. The Company also obtains appraisals on each property.
Included in the commercial real estate loan category are agricultural
loans. At December 31, 2007, agricultural loans totaled $1.0 million, or less
than 1/2 of 1% of the Company's loan portfolio.
Residential Loans. The Company's residential loans consist of one- to
four-family residential mortgage loans that are secured by property located in
its primary market area. The Company generally originates one- to four-family
residential mortgage loans without private mortgage insurance in amounts up to
85% of the lesser of the appraised value or selling price of the mortgaged
property. Loans in excess of 89.9% of the value of the mortgaged property
typically carry higher rates commensurate with the higher risk associated with
this type of loan. At December 31, 2007, one-to four-family residential mortgage
loans totaled approximately $108.6 million, or 40% of the total loan portfolio.
The Company offers three types of residential adjustable rate mortgage
loans, all of which use the index value of the Weekly Average Yield on United
States Treasury Securities Adjusted to a Constant Maturity of One Year plus a
set margin added to it. The interest rates on these loans have an initial
adjustment period of between one and five years, and generally adjust annually
thereafter, with a maximum adjustment of 2% per year and a maximum increase of
5% over the life of the loan. The index margin on a non owner-occupied one- to
four-family property loan is generally 50 basis points higher than on an
owner-occupied property loan. The Company's adjustable-rate one-to- four family
and multi-family mortgage loans are for terms of up to 30 years, amortized on a
monthly basis, with principal and interest due each month. Borrowers may
refinance or prepay loans at their option without penalty. Substantially all
fixed rate one-to-four family loans with a term of ten to thirty years are
originated and sold on the secondary market through 1st Independence Mortgage.
At December 31, 2007, loans held for sale totaled approximately $2.9 million.
Loan originations are generally obtained from existing and walk-in
customers, members of the local community, and referrals from realtors,
builders, depositors and borrowers within the Company's market area. Mortgage
loans originated and held by the Company in its portfolio generally include
due-on-sale clauses which gives it the contractual right to deem the loan
immediately due and payable in the event that the borrower sells or otherwise
transfers an interest in the property to a third party.
During periods of rising interest rates, the risk of default on
adjustable-rate loans may increase due to increases in interest costs to
borrowers. Further, adjustable-rate loans that provide for initial rates of
interest below the fully indexed rates may be subject to increased risk of
delinquency or default as the higher, fully indexed rate of interest
subsequently replaces the lower, initial rate.
Construction and Land Development Loans. The Company engages in
construction lending involving loans to qualified borrowers for construction of
one- to four-family dwellings, multi-family residential units, commercial
buildings and churches, and single family subdivision land development loans
with the intent of such loans converting to permanent financing upon completion
of construction. All construction and development loans are secured by a first
lien on the property under construction. Loan proceeds are disbursed in
increments as construction progresses and as inspections warrant. At December
31, 2007, construction loans totaled approximately $64.7 million, or 23%, of the
Company's total loan portfolio.
Construction/permanent loans generally have adjustable or fixed
interest rates and are underwritten in accordance with the same terms and
requirements as permanent mortgages, except the loans generally provide for
disbursement in stages during a construction period of up to twelve months,
during which the borrower is not required to make monthly principal payments.
Accrued interest must be paid at completion of construction to the first day of
the following month, and monthly payments start the first day of the following
month if the loan is converted to permanent financing. Borrowers must satisfy
all credit requirements that would apply to permanent mortgage loan financing
for the subject property and must execute a construction loan agreement.
Construction financing generally is considered to involve a higher
degree of risk of loss than long term financing on improved, occupied real
estate. Risk of loss on a construction loan is dependent largely upon the
accuracy of the initial estimate of the property's value at completion of
construction or development and the estimated cost (including interest) of
construction. During the construction phase, a number of factors could result in
delays and cost overruns. If the estimate of construction cost proves to be
inaccurate, the Company may be required to advance funds beyond the amount
originally committed to permit completion of the development. The Company has
sought to minimize this risk by requiring precise construction cost estimates,
specifications, and drawing plans from qualified borrowers in their market area
along with tighter underwriting guidelines relating to borrower cash flow and
net worth.
Commercial Loans. The Company originates fixed-rate and adjustable-rate
commercial loans secured by commercial properties. These loans are typically
originated with maximum loan-to-value ratios of 80% of the value of the
respective property. At December 31, 2007, commercial loans totaled
approximately $25.1 million, or 9%, of the total loan portfolio.
Loans secured by commercial properties generally have larger balances
and involve a greater degree of risk than one- to four-family residential
mortgage loans. Of primary concern in commercial lending are the borrower's
creditworthiness and the feasibility and cash flow potential of the project.
Payments on loans secured by income properties often depend on successful
operation and management of the properties. As a result, repayment of such loans
may be subject to a greater extent than residential real estate loans to adverse
conditions in the real estate market or the economy. To monitor cash flows on
income properties, the Company requires borrowers and loan guarantors, if any,
to provide annual financial statements on commercial loans. In reaching a
decision on whether to make a commercial loan, the Company considers the net
operating income of the property, the borrower's expertise, credit history and
profitability and the value of the underlying property. The Company generally
requires an environmental survey for all commercial loans over $500,000.
Consumer Lending. The Company originates consumer loans on either a
secured or unsecured basis with revolving home equity lines of credit composing
the majority of the consumer loan portfolio. The Company generally makes
certificate of deposit loans for terms of up to the terms of the certificate of
deposit collateralizing the loan and up to the face amount of the certificate.
The interest rate charged on these loans is typically up to 2% higher than the
rate paid on the certificate. These loans generally mature concurrently with the
certificate of deposit or on demand and the account must be assigned to the
Company as collateral for the loan. At December 31, 2007, consumer loans totaled
approximately $16.9 million, or 6%, of the total loan portfolio.
Consumer loans may entail greater risk than residential loans,
particularly in the case of consumer loans that are unsecured or secured by
assets that depreciate rapidly. Repossessed collateral for a defaulted consumer
loan may not be sufficient for repayment of the outstanding loan, and the
remaining deficiency may not be collectible.
Loan Approval Authority and Underwriting. The Company has established
various lending limits for its officers and maintains a loan committee that
consists of the President and Chief Executive Officer, the Senior Vice President
and Senior Lending Officer, and other officers of the Bank. The loan committee
approves loans that exceed the limits established for individual officers. The
Bank's directors' loan committee, which consists of outside Bank directors, must
approve all loans that exceed the lending limits of the loan committee.
For all loans originated by the Company, upon receipt of a completed
loan application from a prospective borrower, a credit report is generally
ordered, income and certain other information is verified and, if necessary,
additional financial information is requested. An appraisal of the real estate
intended to be used as security for the proposed loan is obtained. All
appraisals are reviewed by the Bank's loan officers designated by the Bank's
Board of Directors. An independent appraiser designated and approved by the
Bank's Board of Directors is utilized for all real estate mortgage loans. For
construction/permanent loans, the funds advanced during the construction phase
are disbursed based upon various stages of completion in accordance with the
results of inspection reports that are based upon physical inspection of the
construction by an independent contractor hired by the Bank or in some cases by
an officer of the Bank. For real estate loans, the Bank requires either title
insurance or a title opinion. Borrowers must also obtain fire and casualty,
hazard or flood insurance (for loans on property located in a flood zone, flood
insurance is required) prior to the closing of the loan.
Loan Commitments. The Company issues written commitments to prospective
borrowers on all approved commercial real estate loans in excess of $500,000.
Generally, the commitment requires acceptance within 20 days of the date of
issuance. At December 31, 2007, the Company had approximately $67 million of
commitments to cover originations and unused lines of credit. Nonperforming and
Problem Assets
Loan Delinquencies. The Company's collection procedures provide that
when a loan is 10 days past due, a notice of nonpayment is sent. Delinquent
notices are sent if the loan becomes delinquent for more than 30 days and
generally the borrower will receive a letter or be personally contacted by an
officer of the Bank. If payment is still delinquent after 60 days, the customer
will again receive a letter and/or telephone call and may receive a visit from
an officer representative of the Bank. If the delinquency continues, similar
subsequent efforts are made to eliminate the delinquency. If the loan continues
in a delinquent status for 90 days past due and no repayment plan is in effect,
management will generally initiate legal proceedings.
Loans are reviewed on a monthly basis by management and are generally
placed on a non-accrual status when the loan becomes more than 90 days
delinquent and, in the opinion of management, the collection of additional
interest is doubtful. Interest accrued and unpaid at the time a loan is placed
on non- accrual status is charged against interest income. Subsequent interest
payments are applied to the outstanding principal balance.
Nonperforming Assets. The following table (in thousands except
percentages) sets forth information regarding nonaccrual loans, other real
estate owned and certain other repossessed assets and loans. Nonperforming asset
balances related to the discontinued operations of Citizens have been
eliminated. Additionally, as of the dates indicated, the Company had no loans
categorized as troubled debt restructurings within the meaning of Statement of
Financial Accounting Standards ("SFAS") No. 15 and impaired loans within the
meaning of SFAS No. 114, as amended by SFAS No. 118, were approximately $6.3
million at December 31, 2007.
December 31,
-----------------------------------------------------
2007 2006 2005 2004 2003
---- ---- ---- ---- ----
Nonaccrual loans $6,269 $3,698 $1,140 $893 $ -
Accruing loans past due 90 days or more 151 31 130 332 472
------ ------ ------ ------ ----
Total nonperforming loans 6,420 3,729 1,270 1,225 472
Other real estate owned 58 433 - - -
------ ------ ------ ------ ----
Total nonperforming assets $6,478 $4,162 $1,270 $1,225 $472
====== ====== ====== ====== ====
Total nonperforming loans to total loans 2.33% 1.36% 0.47% 0.52% 0.56%
===== ===== ===== ===== =====
Total nonperforming assets to total assets 1.86% 1.21% 0.38% 0.41% 0.36%
===== ===== ===== ===== =====
In addition to the nonperforming loans discussed above, there were
loans for which payments were current or less than 90 days past due where
borrowers are experiencing financial difficulties. At December 31, 2007, these
loans totaled approximately $23.2 million. These loans are monitored by
management and considered in determining the level of the allowance for loan
losses. Management does not believe these loans represent a significant exposure
to loss.
Classified Assets. Federal regulations provide for a classification
system for problem assets of insured institutions that covers all problem
assets. Under this classification system, problem assets of insured institutions
are classified as "substandard," "doubtful," or "loss." An asset is considered
substandard if it is inadequately protected by the current net worth and paying
capacity of the obligor or of the collateral pledged, if any. Substandard assets
include those characterized by the "distinct possibility" that the insured
institution will sustain "some loss" if the deficiencies are not corrected.
Assets classified as doubtful have all of the weaknesses inherent in those
classified substandard, with the added characteristic that the weaknesses
present make "collection or liquidation in full," on the basis of currently
existing facts, conditions, and values, "highly questionable and improbable."
Assets classified as loss are those considered "uncollectible" and of such
little value that their continuance as assets without the establishment of a
specific loss reserve is not warranted. Assets may be designated "special
mention" because of potential weaknesses that do not currently warrant
classification in one of the aforementioned categories.
When an insured institution classifies problem assets as either
substandard or doubtful, it may establish general allowances for loan losses in
an amount deemed prudent by management. General allowances represent loss
allowances which have been established to recognize the inherent risk associated
with lending activities, but which, unlike specific allowances, have not been
allocated to particular problem assets. When an insured institution classifies
problem assets as loss, it is required either to establish a specific allowance
for losses equal to 100% of that portion of the asset so classified or to charge
off such amount. The Company's determination as to the classification of its
assets and the amount of its valuation allowances is subject to review by the
Federal Deposit Insurance Corporation ("FDIC") and the Kentucky Office of
Financial Institutions ("KOFI") which may order the establishment of additional
general or specific loss allowances. A portion of general loss allowances
established to cover possible losses related to assets classified as substandard
or doubtful may be included in determining an institution's regulatory capital,
while specific valuation allowances for loan losses generally do not qualify as
regulatory capital.
Allowance for Loan Losses. It is management's policy to provide for
probable losses on loans in its loan portfolio. A provision for loan losses is
charged to operations based on management's evaluation of the losses that may be
incurred in the Company's loan portfolio. Such evaluation, which includes a
review of all loans of which full collectibility of interest and principal may
not be reasonably assured, considers the Company's past loan loss experience,
known and inherent risks in the portfolio, adverse situations that may affect
the borrower's ability to repay, estimated value of any underlying collateral,
current economic conditions, and the relationship of the allowance for loan
losses to outstanding loans.
The following table (in thousands except percentages) sets forth
information with respect to the Company's allowance for loan losses at the dates
and for the periods indicated below. Balances related to the discontinued
operations of Citizens have been eliminated.
Three months
Year ended Year ended Year ended ended Year ended
December 31, December 31, December 31, December 31, September 30,
------------ ------------ ------------ ------------ ------------------
2007 2006 2005 2004 2004 2003
---- ---- ---- ---- ---- ----
Allowance for loan losses
Balance at beginning of period $3,745 $2,911 $2,549 $2,560 $ 391 $390
Allowance of acquired company - - - - 1,046 -
Provision for loan losses 4,584 847 354 - 1,203 2
Net charge-offs (recoveries):
Residential 862 16 (11) 9 (2) 1
Commercial 321 1 2 - 67 -
Consumer 6 (4) 1 2 15 -
------ ------ ------ ------ ------ ----
Balance at end of period $7,140 $3,745 $2,911 $2,549 $2,560 $391
====== ====== ====== ====== ====== ====
Total loans outstanding $275,588 $274,223 $269,889 $236,197 $213,719 $84,796
======== ======== ======== ======== ======== =======
Average loans outstanding $270,909 $276,629 $257,333 $224,201 $112,844 $84,335
======== ======== ======== ======== ======== =======
Allowance for loan losses to
period-end loans 2.59% 1.37% 1.08% 1.08% 1.20% 0.46%
===== ===== ===== ===== ===== =====
Net loans charged off to average loans 0.44% 0.00% 0.00% 0.00% 0.07% 0.00%
===== ===== ===== ===== ===== =====
Management will continue to review the entire loan portfolio to
determine the extent, if any, to which further additional loss provisions may be
deemed necessary. There can be no assurance that the allowance for loan losses
will be adequate to cover losses that may in fact be realized in the future and
that additional provisions for losses will not be required.
Analysis of the Allowance for Loan Losses
The following table (in thousands except percentages) sets forth the
allocation of the allowance by category, which management believes can be
allocated only on an approximate basis. The allocation of the allowance to each
category is not necessarily indicative of future loss and does not restrict the
use of the allowance to absorb losses in any category. Balances related to the
discontinued operations of Citizens have been eliminated.
December 31,
----------------------------------------------------------------------------------------------------
2007 2006 2005 2004 2003
------------------ --------------------------------------------------------------------------------
Percent of Percent of Percent of Percent of Percent of
Amount Total loans Amount Total loans Amount Total loans Amount Total loans Amount Total loans
------ ----------- ------ ----------- ------ ----------- ------ ----------- ------ -----------
Real estate:
Commercial $3,280 22% $1,508 18% $ 715 17% $ 651 15% $ 61 16%
Residential 1,263 40 832 45 581 48 255 53 285 73
Construction 2,058 23 358 23 153 19 358 14 14 3
Commercial 356 9 856 7 859 9 957 9 16 4
Consumer 183 6 191 7 603 7 328 9 15 4
------ --- ------ --- ------ --- ------ --- ---- ---
Total allowance for
loan losses $7,140 100% $3,745 100% $2,911 100% $2,549 100% $391 100%
====== === ====== === ====== === ====== === ==== ===
Return on Equity and Assets Ratios
Ratios have been adjusted to reflect the discontinued operations of
Citizens.
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Average equity to average assets 11.70% 11.57% 11.59%
Return on average equity (11.95) 4.93 11.92
Return on average assets (1.40) 0.57 1.38
Dividend payout ratio (13.22) 31.96 16.83
Investment Activities
The Company is required under federal regulations to maintain a
sufficient amount of liquid assets that may be invested in specified short-term
securities and certain other investments. However, the FDIC does not prescribe
by regulation to a minimum or percentage of liquid assets. The level of liquid
assets varies depending upon several factors, including: (i) the yields on
investment alternatives, (ii) management's judgment as to the attractiveness of
the yields then available in relation to other opportunities, (iii) expectation
of future yield levels, and (iv) management's projections as to the short-term
demand for funds to be used in loan origination and other activities. Investment
securities, including mortgage-backed securities, are classified at the time of
purchase, based upon management's intentions and abilities, as securities held
to maturity or securities available for sale. Debt securities acquired with the
intent and ability to hold to maturity are classified as held to maturity and
are stated at cost and adjusted for amortization of premium and accretion of
discount, which are computed using the level yield method and recognized as
adjustments of interest income. All other debt securities are classified as
available for sale to serve principally as a source of liquidity.
Current regulatory and accounting guidelines regarding investment
securities (including mortgage backed securities) require the Company to
categorize securities as "held to maturity," "available for sale" or "trading."
As of December 31, 2007, the Company had securities (including mortgage-backed
securities) classified as "held to maturity" and "available for sale" in the
amount of $1.7 million and $15.0 million, respectively and had no securities
classified as "trading." Securities classified as "available for sale" are
reported for financial reporting purposes at the fair market value with net
changes in the fair market value from period to period included as a separate
component of stockholders' equity, net of income taxes. At December 31, 2007,
the Company's securities available for sale had an amortized cost of $15.0
million and fair market value of $15.0 million. Changes in the fair market value
of securities available for sale do not affect the Company's net income. In
addition, changes in the fair market value of securities available for sale do
not affect the Bank's regulatory capital requirements or its loan-to-one
borrower limit.
At December 31, 2007, the Company's investment portfolio policy allowed
investments in instruments such as: (i) U.S. Treasury obligations, (ii) U.S.
federal agency or federally sponsored agency obligations, (iii) local municipal
obligations, (iv) mortgage-backed securities, (v) banker's acceptances, (vi)
certificates of deposit, (vii) equity investments, and (viii) investment grade
corporate bonds and commercial paper. The board of directors may authorize
additional investments.
As a source of liquidity and to supplement the Company's lending
activities, the Company has invested in residential mortgage-backed securities.
Mortgage-backed securities can serve as collateral for borrowings and, through
repayments, as a source of liquidity. Mortgage-backed securities represent a
participation interest in a pool of single-family or other type of mortgages.
Principal and interest payments are passed from the mortgage originators,
through intermediaries (generally quasi-governmental agencies) that pool and
repackage the participation interests in the form of securities to investors.
Mortgage-backed securities typically are issued with stated principal
amounts. The securities are backed by pools of mortgages that have loans with
interest rates that are within a set range and have varying maturities. The
underlying pool of mortgages can be composed of either fixed rate or adjustable
rate mortgage loans. Mortgage-backed securities are generally referred to as
mortgage participation certificates or pass-through certificates. The interest
rate risk characteristics of the underlying pool of mortgages (i.e., fixed rate
or adjustable rate) and the prepayment risk, are passed on to the certificate
holder. The life of a mortgage-backed pass-through security is equal to the life
of the underlying mortgages. Expected maturities will differ from contractual
maturities due to scheduled repayments and because borrowers may have the right
to call or prepay obligations with or without prepayment penalties.
Mortgage-backed securities issued by quasi-governmental agencies, make up a
majority of the pass-through certificates market.
At December 31, 2007, the Company's securities portfolio did not
contain securities of any issuer, other than those issued by U.S. government or
its agencies, with an aggregate book value in excess of 10% of the Company's
equity.
Investment Portfolio. The following table (in thousands) sets forth the
carrying value of the Company's investment securities at the dates indicated.
December 31,
-------------------------------
2007 2006 2005
---- ---- ----
Investment securities available for sale:
Mortgage-backed $12,589 $11,795 $11,556
U.S. government and federal agencies - 1,985 1,974
Municipal bonds 2,456 2,641 2,610
------- ------- -------
Total $15,045 $16,421 $16,140
======= ======= =======
Investment securities held to maturity:
Mortgage-backed $ - $ - $ -
Municipal bonds 1,745 1,900 1,975
------- ------- -------
Total $ 1,745 $ 1,900 $ 1,975
======= ======= =======
Total investment securities $16,790 $18,321 $18,115
======= ======= =======
Investment Portfolio Maturities. The following table sets forth
information regarding the scheduled maturities, carrying values, market value
and weighted average yields for the Company's investment securities portfolio at
December 31, 2007. The following table does not take into consideration the
effects of scheduled repayments or the effects of possible prepayments.
December 31, 2007
----------------------------------------------------------------------------------------------------
More Than One to More Than Five to
One Year or Less Five Years Ten Years More Than Ten Years Total
----------------- ----------------- ------------------- ------------------- --------------------
Carrying Average Carrying Average Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield Value Yield Value Yield
------- -------- ----------------- ------- -------- ------- -------- -------- --------
Available-for-sale securities:
Mortgage-backed securities $ - -% $1,046 5.33% $1,895 4.68% $ 9,648 5.49% $12,589 5.35%
U.S government and federal
agencies - - - - - - - - - -
Municipal bonds - - - - 1,004 5.33 1,452 6.16 2,456 5.82
------ ---- ------ ---- ------ ---- ------- ---- ------ ----
Total $ - -% $1,046 5.33% $2,899 4.90% $11,100 5.58% $15,045 5.43%
====== ==== ====== ==== ====== ==== ======= ==== ======= ====
Held-to-maturity securities:
Mortgage-backed securities $ - -% $ - -% $ - -% $ - -% $ - -%
Municipal bonds 40 5.00 15 5.62 1,443 4.41 247 5.56 1,745 4.60
------ ---- ------ ---- ------ ---- ------- ---- ------- ----
Total $ 40 5.00% $ 15 5.62% $1,443 4.41% $ 247 5.56% $ 1,745 4.60%
====== ==== ====== ==== ====== ==== ======= ==== ======= ====
Sources of Funds
General. Deposits are the major external source of the Company's funds
for lending and other investment purposes. The Company derives funds from
amortization and prepayment of loans and, to a much lesser extent, maturities of
investment securities, borrowings, mortgage-backed securities and operations.
Scheduled loan principal repayments are a relatively stable source of funds,
while deposit inflows and outflows and loan prepayments are significantly
influenced by general interest rates and market conditions.
Deposits. Consumer and commercial deposits are attracted principally
from within the Company's primary market area through the offering of a
selection of deposit instruments including regular savings accounts, money
market accounts, and term certificate accounts. Deposit account terms vary
according to the minimum balance required, the time period the funds must remain
on deposit, and the interest rate, among other factors. At December 31, 2007,
the Company had brokered deposits totaling $38.2 million.
The following table (in thousands) sets forth the amount of the
Company's certificates of deposit of $100,000 or more by time remaining until
maturity as of December 31, 2007.
Amount
-------
3 months or less $35,865
Over 3 through 6 months 12,971
Over 6 through 12 months 18,921
Over 12 months 2,749
-------
Total $70,506
=======
The following table (in thousands except rates) sets forth the
Company's average balances and interest rates for interest-bearing demand
deposits and time deposits for the periods indicated. Balances related to the
discontinued operations of Citizens have been eliminated.
Year ended Year ended Year ended
December 31, 2007 December 31, 2006 December 31, 2005
----------------- ----------------- -----------------
Average Average Average Average Average Average
balance rate balance rate balance rate
------- ---- ------- ---- ------- ----
Demand and savings $ 92,259 3.45% $ 61,710 2.96% $ 59,520 1.85%
Time 152,606 4.80 187,463 4.39 177,801 3.24
-------- -------- --------
$244,865 4.29 $249,173 4.04 $237,321 2.89
======== ======== ========
Short-Term Borrowings. Deposits are the primary source of funds for the
Company's lending and investment activities and for its general business
purposes. The Company can also obtain advances from the Federal Home Loan Bank
of Cincinnati ("FHLB") and other short-term borrowings, such as federal funds
purchased and issuance of securities sold under repurchase agreements to
supplement its supply of lendable funds and to also supplement short-term
liquidity. A pledge of the Bank's stock in the FHLB and a portion of its first
mortgage loans typically secure FHLB advances. At December 31, 2007, the
Company's short-term borrowings totaled $36.0 million; of which $35.0 million
were short-term FHLB advances. See note 10 to the consolidated financial
statements for additional information.
Information regarding short-term FHLB advances follows:
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Amount outstanding:
Period end $35,000 $35,000 $18,000
Maximum month end
balance during period 40,000 35,000 28,000
Average balance during
Period 16,247 18,216 16,541
Weighted average interest rate:
Period end 4.66% 5.44% 4.33%
During the period
5.20 5.20 3.43
Personnel
As of December 31, 2007, the Company had 90 full-time equivalent
employees. None of the Company's employees are represented by a collective
bargaining group. The Company believes that its relationship with its employees
is good.
Regulation of the Company
General. The Company is a registered bank holding company subject to
regulation under the Bank Holding Company Act of 1956, as amended (the "BHC
Act"). In addition, the Company is subject to the provisions of Kentucky's
banking laws regulating bank acquisitions and various activities of controlling
bank shareholders. As a bank holding company, the Company is subject to
regulation, supervision, and examination by the Board of Governors of the
Federal Reserve System (the "FRB") and is required to file periodic reports with
the FRB. The KOFI may also conduct examinations of the Company to determine
whether it is in compliance with applicable Kentucky banking laws and
regulations. In addition, the FRB has enforcement authority over the Company and
any of its non-financial institution subsidiaries. This regulation and oversight
is intended primarily for the protection of the depositors of the Bank and not
for the benefit of the Company's stockholders.
The Gramm-Leach-Bliley Act, which became effective in March 2001,
permits greater affiliation among banks, securities firms, insurance companies,
and other companies under a new type of financial services company known as a
"financial holding company." A financial holding company essentially is a bank
holding company with significantly expanded powers. Financial holding companies
are authorized by statute to engage in a number of financial activities
previously impermissible for bank holding companies, including securities
underwriting, dealing and market making; sponsoring mutual funds and investment
companies; insurance underwriting and agency; and merchant banking activities.
The act also permits the FRB and the Treasury Department to authorize additional
activities for financial holding companies if they are "financial in nature" or
"incidental" to financial activities. A bank holding company may become a
financial holding company if each of its subsidiary banks is well capitalized,
well managed, and has at least a "satisfactory" CRA rating. A financial holding
company must provide notice to the FRB within 30 days after commencing
activities previously determined by statute or by the FRB and the Department of
the Treasury to be permissible. The Company has not submitted notice to the FRB
of its intent to be deemed a financial holding company.
Regulatory Capital Requirements. The FRB has adopted capital adequacy
guidelines pursuant to which it assesses the adequacy of capital in examining
and supervising a bank holding company and in analyzing applications to it under
the Bank Holding Company Act. The FRB's regulations define relevant capital
measures for five capital categories. A "well capitalized" institution is one
that has a total risk-based capital ratio of at least 10%, a Tier 1 risk-based
capital ratio of at least 8%, a leverage ratio of at least 5% and is not subject
to regulatory direction to maintain a specific level for any capital measure. An
"adequately capitalized" institution is one that has ratios greater than 8%, 4%
and 4%. An institution is "undercapitalized" if its respective ratios are less
than 8%, 4% and 4%. "Significantly undercapitalized" institutions have ratios of
less than 6%, 3% and 3%. An institution is deemed to be "critically
undercapitalized" if it has a ratio of tangible equity to total assets that is
2% or less. Institutions with capital ratios at levels of "undercapitalized" or
lower are subject to various limitations that, in most situations, will reduce
the competitiveness of the institution
Restrictions on Dividends. The FRB has issued a policy statement on the
payment of cash dividends by bank holding companies, which expresses the FRB's
view that a bank holding company should pay cash dividends only to the extent
that the holding company's net income for the past year is sufficient to cover
both the cash dividends and a rate of earnings retention that is consistent with
the holding company's capital needs, asset quality and overall financial
condition. The FRB also indicated that it would be inappropriate for a company
experiencing serious financial problems to borrow funds to pay dividends.
Accordingly, the Company's ability to pay dividends is dependent on the Bank's
ability to pay dividends to the Company. Furthermore, under the federal prompt
corrective action regulations, the FRB may prohibit a bank holding company from
paying any dividends if the holding company's bank subsidiary is classified as
"undercapitalized." See "Regulation of the Bank - Dividend and Other Capital
Distribution Limitations" for additional information regarding the Bank's
ability to pay dividends to the Company.
Acquisition of Banks. The BHC Act also requires a bank holding company
to obtain prior approval from the FRB before acquiring direct or indirect
ownership or control of more than 5% of the voting shares of any bank which is
not already majority owned or controlled by that bank holding company.
Acquisition of any additional banks would require prior approval from both the
FRB and the KOFI.
Non-Banking Activities. A bank holding company is generally prohibited
from engaging in, or acquiring, direct or indirect control of more than 5% of
the voting securities of any company engaged in non-banking activities. One of
the principal exceptions to this prohibition is for activities found by the FRB
to be so closely related to banking or managing or controlling banks as to be a
proper incident thereto. Some of the principal activities that the FRB has
determined by regulation to be so closely related to banking are: (i) making or
servicing loans; (ii) performing certain data processing services; (iii)
providing discount brokerage services; (iv) acting as fiduciary, investment or
financial advisor; (v) leasing personal or real property; (vi) making
investments in corporations or projects designed primarily to promote community
welfare; and (vii) acquiring a savings and loan association.
Regulation of the Bank
General. Set forth below is a brief description of certain laws that
relate to the regulation of the Bank. The description does not purport to be
complete and is qualified in its entirety by reference to applicable laws. The
Bank is a Kentucky state-chartered stock-form commercial bank and its deposit
accounts are insured under the Deposit Insurance Fund ("DIF"). The Bank is
subject to extensive regulation and supervision by the KOFI as its chartering
agency, and by the FDIC, as its deposit insurer. The Bank must file reports with
the KOFI and the FDIC concerning its activities and financial condition, in
addition to obtaining regulatory approvals prior to entering into certain
transactions such as mergers with, or acquisitions of, other depository
institutions. The deposits of the Bank are insured by the FDIC to the maximum
extent provided by law.
Federal and Kentucky banking laws and regulations control, among other
things, the Bank's required reserves, investments, loans, mergers and
consolidations, issuance of securities, payment of dividends and other aspects
of the Bank's operations. The regulatory structure also gives the respective
regulatory authorities extensive discretion in connection with their supervisory
and enforcement activities and examination policies, including polices with
respect to the classification of assets and the establishment of adequate loan
loss reserves for regulatory purposes. Supervision, regulation and examination
of the Bank by the bank regulatory agencies are intended primarily for the
protection of depositors rather than for holders of the Company's stock or for
the Company as the holder of the stock of the Bank.
Insurance of Deposit Accounts. The FDIC has adopted a risk-based
insurance assessment system. The FDIC assigns an institution to one of three
capital categories, consisting of (1) well capitalized, (2) adequately
capitalized, or (3) undercapitalized, and one of three supervisory subcategories
within each capital group, based on the institution's financial information, as
of the reporting period ending seven months before the assessment period. The
supervisory subgroup to which an institution is assigned is based on the
supervisory evaluation provided to the FDIC by the institution's primary federal
regulator, and information which the FDIC determines to be relevant to the
institution's financial condition and the risk posed to the deposit insurance
funds. An institution's assessment rate depends on the capital category and
supervisory category to which it is assigned. Assessment rates are determined
semiannually by the FDIC.
Under the Federal Deposit Insurance Act, insurance of deposits may be
terminated by the FDIC upon a finding that the institution has engaged in unsafe
or unsound practices, is in an unsafe or unsound condition to continue
operations, or has violated any applicable law, regulation, rule, order, or
condition imposed by the FDIC. The Bank does not know of any practice,
condition, or violation that might lead to the termination of deposit insurance.
Regulatory Capital Requirements. The FDIC has adopted regulations
requiring institutions under their respective jurisdictions to maintain
specified minimum ratios of capital to total assets and capital to risk-weighted
assets. Specifically, all savings institutions and banks must maintain the
following ratios: (1) Tier 1 or core capital equal to at least 4% (3% if the
institution has received the highest rating on its most recent examination) of
total adjusted assets; and (2) total capital (defined as Tier 1 capital plus
supplementary Tier 2 capital) equal to 8% of total risk-weighted assets. At
December 31, 2007, the Bank was in compliance with the capital requirements of
the FDIC.
Dividend and Other Capital Distribution Limitations. The KOFI imposes
restrictions on the ability of Kentucky commercial banks to pay dividends and to
make other capital distributions. In general, banks are prohibited from paying
any dividends or other capital distributions if, after the distribution, they
would be undercapitalized under applicable federal law.
In addition, under applicable provisions of Kentucky law, the prior
approval of the KOFI is required if the total of all dividends declared by the
Bank in any calendar year exceeds its respective net profits, as defined, for
that year combined with its retained net profits for the preceding two calendar
years, less any required transfers to surplus or a fund for the retirement of
any preferred stock. At January 1, 2008, the Bank was no longer able to pay
dividends to the Company without regulatory approval due to the net loss
incurred in the Bank in the fourth quarter of 2007 primarily due to the
substantial increase in the provision for loan losses and the goodwill
impairment charge. At January 1, 2008 the Bank's retained net losses, less
dividends declared during the preceding two years was approximately $1,279,000.
See note 13 to the consolidated financial statements for additional information.
Federal Home Loan Bank System. The Bank is a member of the FHLB of
Cincinnati, which is one of twelve (12) regional federal home loan banks that
administer the home financing credit function of savings associations. Each FHLB
serves as a reserve or central bank for its members within its assigned region.
It is funded primarily from proceeds derived from the sale of consolidated
obligations of the FHLB System. It makes loans to members (i.e., advances) in
accordance with policies and procedures established by the Board of Directors of
the FHLB.
As a member, the Bank is required to purchase and maintain stock in the
FHLB of Cincinnati in an amount equal to at least 1% of aggregate unpaid
residential mortgage loans, home purchase contracts or similar obligations at
the beginning of each year.
Federal Reserve System. The FRB requires all depository institutions to
maintain non-interest bearing reserves at specified levels against their
transaction accounts (primarily checking, NOW, and Super NOW checking accounts)
and non-personal time deposits. At December 31, 2007, the Bank was in compliance
with these FRB requirements.
Transactions with Affiliates
Under current federal law, transactions between depository
institutions, such as the Bank, and their affiliates are governed by Sections
23A and 23B of the Federal Reserve Act and Regulation W promulgated thereunder.
An affiliate is any company or entity that controls, is controlled by, or is
under common control with the financial institution, other than a subsidiary.
Generally, a bank's subsidiaries are not treated as affiliates unless they are
engaged in activities as principal that are not permissible for national banks.
In a holding company context, at a minimum, the parent holding company of a
bank, and any companies that are controlled by such parent holding company, are
affiliates of the bank. Generally, Section 23A limits the extent to which the
bank or its subsidiaries may engage in "covered transactions" with any one
affiliate to an amount equal to 10% of such bank's capital stock and surplus,
and contains an aggregate limit on all such transactions with all affiliates to
an amount equal to 20% of such capital stock and surplus. The term "covered
transaction" includes the making of loans or other extensions of credit to an
affiliate; the purchase of assets from an affiliate; the purchase of, or an
investment in, the securities of an affiliate; the acceptance of securities of
an affiliate as collateral for a loan or extension of credit to any person; or
issuance of a guarantee, acceptance, or letter of credit on behalf of an
affiliate. Section 23A also establishes specific collateral requirements for
loans or extensions of credit to, or guarantees, or acceptances on letters of
credit issued on behalf of an affiliate. Section 23B requires that covered
transactions and a broad list of other specified transactions be on terms
substantially the same as or no less favorable to, the bank or its subsidiary as
similar transactions with non-affiliates.
The Sarbanes-Oxley Act of 2002 generally prohibits loans by the Company
to its executive officers and directors. However, the Sarbanes-Oxley Act
contains a specific exemption for loans made by the Bank to its executive
officers and directors in compliance with federal banking laws. Section 22(h) of
the Federal Reserve Act governs a bank's loans to directors, executive officers,
and principal shareholders. Under Section 22(h), loans to directors, executive
officers, and shareholders who control, directly or indirectly, 10% or more of
voting securities of a bank, and certain related interests of any of the
foregoing, may not exceed, together with all other outstanding loans to such
persons and affiliated entities, the bank's total capital and surplus. Section
22(h) also prohibits loans above amounts prescribed by the appropriate federal
banking agency to directors, executive officers, and shareholders who control 10
% of more of voting securities of a bank, and their respective related
interests, unless such loan is approved in advance by a majority of the board of
directors of the bank. Any "interested" director may not participate in the
voting. The loan amount (which includes all other outstanding loans to such
person) as to which such prior board of director approval is required, is the
greater of $25,000 or 5% of capital and surplus or any loans over $500,000.
Further, pursuant to Section 22(h), loans to directors, executive officers, and
principal shareholders must be made on terms substantially the same as those
offered in comparable transactions to other persons. There is an exception for
loans made pursuant to a benefit or compensation program that is widely
available to all employees of the institution and does not give preference to
executive officers over other employees. Section 22(g) of the Federal Reserve
Act places additional limitations on loans to executive officers. Available
Information
The Company files annual reports on Form 10-K, quarterly reports on
Form 10-Q, current reports on Form 8-K, and amendments to those reports with the
United States Securities and Exchange Commission (the "SEC") pursuant to Section
13(a) or 15(d) of the Securities Exchange Act of 1934. Such reports can be read
and copied at the public reference facilities maintained by the SEC at the
Public Reference Room, 100 F Street, NE, Washington, D. C. 20549. Information
regarding the operation of the Public Reference Room may be obtained by calling
the SEC at 1-800-732-0330. These reports are also available at the SEC's website
at www.sec.gov. You also may obtain electronic or paper copies of our reports
free of charge by contacting John F. Barron, Senior Vice President and
Controller, 1st Independence Financial Group, Inc., 8620 Biggin Hill Lane,
Louisville, Kentucky 40220-4117.
Item 1B. Unresolved Staff Comments.
None.
Item 2. Properties.
The Company's corporate office is located at 8620 Biggin Hill Lane in
Louisville, Kentucky where the Company's finance and accounting, loan and
deposit operations, mortgage operations and a full service banking office (Stony
Brook Branch) are located. The Company conducts its banking business through
eight full service banking offices located in Harrodsburg, Lawrenceburg and two
locations in Louisville, Kentucky (St. Matthews Branch and Stony Brook Branch)
and Jeffersonville, New Albany, Marengo and Clarksville, Indiana. 1st
Independence Mortgage conducts its business throughout the Bank's branch
network.
The location of the Company's properties, the approximate square
footage and whether owned or leased is described in the following table:
Location Nature Square Feet Status
-------- ------ ----------- ------
Harrodsburg, Kentucky Branch banking facility 12,636 Owned
104 South Chiles Street
Lawrenceburg, Kentucky Branch banking facility 2,550 Owned
1015 Crossroad Drive
Louisville, Kentucky Corporate office (including 14,190 Owned
(Stony Brook Branch) finance and accounting, loan
8620 Biggin Hill Lane and deposit operations),
mortgage operations and
branch banking facility
Louisville, Kentucky Branch banking facility 3,606 Leased
(St. Matthews Branch)
4220 Shelbyville Road
Clarksville, Indiana Branch banking facility 2,817 Leased
1305 Veterans Parkway, Suite 1000
Jeffersonville, Indiana Branch banking facility 3,562 Owned
1711 East 10th Street
Marengo, Indiana Branch banking facility 2,870 Owned
162 East State Road 64
New Albany, Indiana Branch banking facility 11,200 Leased
3801 Charlestown Road
See note 8 to the Company's consolidated financial statements herein
for additional information. The New Albany, Indiana branch is leased from
Chalfant Industries, Inc., a company owned by the Company's Chairman of the
Board of Directors. The Marengo, Indiana branch opened on January 2, 2008 and
replaced the Marengo, Indiana branch located at 309 South Bradley Street. The
former branch building was donated to the City of Marengo in March 2008.
Item 3. Legal Proceedings.
The Company, from time to time, is a party to ordinary routine
litigation, which arises in the normal course of business, such as claims to
enforce liens, condemnation proceedings on properties in which the Company holds
security interests, claims involving the making and servicing of real property
loans, and other issues incident to its business. Except as discussed below,
there were no potentially material lawsuits or other legal proceedings pending
or known to be contemplated against the Company at December 31, 2007.
On or about May 28, 2004, a complaint was filed in the Circuit Court of
Anderson County in the Commonwealth of Kentucky by Larry Sutherland, Judy
Sutherland, John Henry Disponett, Brenda Disponett, Todd Hyatt, Lois Ann
Disponett, Sue Saufley, and Hugh Coomer. Soon thereafter, an amended complaint
was filed which added Lois Hawkins and Norma K. Barnett as plaintiffs. The
lawsuit arises from offers to purchase securities made by the Company in
connection with an offer to purchase up to 300,000 shares of its stock in a
tender offer on or about May 28, 2003. The Plaintiffs alleged that the Company
made certain material misrepresentations in connection with certain statements
made in the tender offer. In the lawsuit, the plaintiffs sought to recover
compensatory and punitive damages in connection with the shares they sold in the
tender offer and their attorneys' fees. On April 14, 2006 a partial summary
judgment was entered against the plaintiffs. In the partial summary judgment,
the Circuit Court held that the only remedy available to the plaintiffs is the
return of the stock upon the tender of the consideration received by the
plaintiffs in exchange for the stock. Subsequent to the partial summary
judgment, the plaintiffs amended their complaint to allege certain additional
material misrepresentations had been made by the Company. On July 18, 2007 a
jury in the Circuit Court of Anderson County in the Commonwealth of Kentucky
returned a verdict awarding damages to the plaintiffs of $403,620. Management,
after discussion with legal counsel, decided to record an accrual of $403,620 as
of June 30, 2007 relating to the lawsuit. The Company has now entered into a
settlement with each of the Plaintiffs resolving the litigation. Under the terms
of the settlement, the Company paid an aggregate amount equal to $281,288 to the
Plaintiffs. The settlement was recorded effective in December 2007 and thus the
Company reversed $122,332 of the accrual originally recorded in June 2007.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of security holders during the
fourth quarter ended December 31, 2007.
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and
Issuer Purchases of Equity Securities.
The Company's common stock is traded on the NASDAQ Global Market
System. The Company's trading symbol is FIFG. The quarterly high and low sales
prices for the Company's common stock as reported by NASDAQ and any dividends
declared during the quarter are set forth in the table below.
Quarter Ended
-----------------------------------------------------
2007 3/31 6/30 9/30 12/31
---- ---- ---- ---- -----
High $17.28 $18.00 $17.99 $16.16
Low 15.24 16.50 14.80 9.06
Cash dividend declared
per share 0.08 0.08 0.08 0.08
Quarter Ended
-----------------------------------------------------
2006 3/31 6/30 9/30 12/31
---- ---- ---- ---- -----
High $19.00 $18.80 $18.00 $17.90
Low 17.49 16.20 15.67 16.40
Cash dividend declared
per share 0.08 0.08 0.08 0.08
The number of shareholders of record of common stock as of December 31,
2007, was approximately 395. This does not reflect the number of persons or
entities who held stock in nominee or "street" name through various brokerage
firms. At December 31, 2007, there were 1,995,744 shares outstanding. The
Company's ability to pay dividends to stockholders is dependent upon the
dividends it receives from the Bank. The payment of cash dividends by the Bank
is limited by regulations of the FDIC and KOFI. See "Regulations of the Bank
- Dividend and Other Capital Distribution Limitations."
Performance Graph
The following Performance Graph and related information shall not be
deemed "soliciting material" or to be "filed" with the Securities and Exchange
Commission, nor shall such information be incorporated by reference into any
future filing under the Securities Act of 1933 or Securities Exchange Act of
1934, each as amended, except to the extent that the Company specifically
incorporates it by reference into such filing.
Comparative Stock Performance Graph
The following performance graph compares the performance of the
Company's Common Stock to the NASDAQ Market Index (U.S.) and the NASDAQ
Financial Stocks Index for the five year period ended December 31, 2007. The
graph assumes an investment of $100 in each of the Company's Common Stock, the
NASDAQ Market Index (U.S.) and the NASDAQ Bank Stocks Index on December 31, 2002
and that all dividends were reinvested.
[GRAPHIC OMITTED]
12/31/02 12/31/03 12/31/04 12/31/05 12/31/06 12/31/07
-------- -------- --------- -------- -------- --------
1st Independence Financial Group, Inc. $100.00 $182.65 $154.88 $154.15 $139.19 $ 83.28
NASDAQ Market Index (U.S.) 100.00 69.13 103.36 112.49 114.88 126.22
NASDAQ Bank Stocks Index 100.00 102.98 139.28 162.56 166.42 191.34
Item 6. Selected Financial Data.
Selected Consolidated Financial Data
(in thousands except per share data)
Three months
ended
Year ended December 31, December 31, Year ended September 30,
----------------------------------- ------------- -------------------------
Results of operations: 2007 2006 2005 2004 2004 2003
---------- ---------- ---------- ------------ ----------- -----------
Net interest income $ 9,627 $ 10,623 $ 10,252 $ 2,330 $ 4,678 $ 3,422
Provision for loan losses 4,584 847 354 - 1,203 3
Noninterest income 1,991 1,791 6,957 538 682 652
Noninterest expense 13,001 8,839 10,093 2,537 6,026 2,715
Net income (loss) (4,771) 1,940 4,481 240 (1,093) 1,307
Per Share Data:
Income (loss) from continuing operations
Basic $ (2.42) $ 1.00 $ 2.38 $ 0.13 $ (0.84) $ 0.94
Diluted (2.42) 0.99 2.33 0.12 (0.84) 0.94
Income from subsidiary held for disposal
Basic 0.00 0.00 0.00 0.00 0.02 0.20
Diluted 0.00 0.00 0.00 0.00 0.02 0.20
Net income (loss)
Basic (2.42) 1.00 2.37 0.13 (0.83) 1.05
Diluted (2.42) 0.99 2.32 0.13 (0.83) 1.05
Weighted average shares outstanding
Basic 1,970 1,941 1,889 1,864 1,318 1,244
Diluted 1,970 1,957 1,929 1,917 1,318 1,245
Book value - end of period $ 17.68 $ 20.20 $ 19.61 $ 19.68 $ 19.38 $ 16.98
Market value - end of period 9.62 16.40 18.50 18.98 20.00 19.42
Cash dividends declared 0.32 0.32 0.40 0.00 0.38 0.60
Dividend payout ratio (13.22)% 31.96% 16.83% 0.00% (47.30)% 54.94%
At December 31, At September 30,
------------------------------------------------ -------------------------
Balance Sheet Data: 2007 2006 2005 2004 2004 2003
---------- ---------- ---------- ----------- ----------- -----------
Total assets $347,718 $342,806 $336,187 $337,191 $320,032 $173,764
Securities 16,790 18,321 18,115 28,873 29,478 31,892
Loans, excluding held for sale 275,588 274,223 269,889 236,197 213,719 84,796
Allowance for loan losses 7,140 3,745 2,911 2,549 2,560 391
Deposits 254,585 254,077 264,323 223,308 219,817 106,692
Short-term borrowings 36,011 36,526 18,747 23,233 7,121 -
Long-term borrowings 20,279 10,279 13,279 14,247 14,234 6,155
Stockholders' equity 35,276 40,303 38,261 37,706 37,081 20,772
Shares outstanding at end of period 1,996 1,996 1,951 1,916 1,913 1,223
Three months
ended
Year ended December 31, December 31, Year ended September 30,
----------------------------------- ------------- -------------------------
Financial Performance Ratios: 2007 2006 2005 2004 2004 2003
---------- ---------- ---------- ----------- ----------- -----------
Return on average assets (1.40)% 0.57% 1.38% 0.32% (0.68)% 0.91%
Return on average stockholders' equity (11.95) 4.93 11.92 2.51 (4.58) 5.65
Net interest margin 3.12 3.40 3.44 3.45 3.13 2.82
Efficiency ratio (1) 111.91 71.20 81.88 88.46 112.28 67.35
Asset Quality Ratios (2):
Nonperforming loans to total loans 2.33 % 1.36% 0.47% 0.52% 0.57 % 0.48%
Nonperforming assets to total assets 1.86 1.21 0.38 0.41 0.44 0.31
Net charge-offs (recoveries) to
average loans 0.44 0.00 0.00 0.00 0.07 0.00
Allowance for loan losses to total
loans (excluding held for sale) 2.59 1.37 1.08 1.08 1.20 0.46
Allowance for loan losses to
nonperforming loans (3) 111.22 100.43 229.21 208.08 210.01 95.13
Liquidity and Capital Ratios:
Loans to deposits 108.25 % 107.93% 102.11% 105.77% 97.23 % 79.48%
Average stockholders' equity
to average assets 11.70 11.57 11.59 12.76 14.79 16.08
Tangible equity to assets (4) 7.74 8.47 8.01 7.81 8.01 11.75
Leverage ratio 10.50 11.60 10.20 9.60 9.90 11.40
Tier 1 risk-based capital ratio 13.20 14.60 13.10 13.30 13.90 20.60
Total risk-based capital ratio 14.50 15.90 15.10 15.60 16.20 21.10
(1) Efficiency ratio is noninterest expense divided by net interest income plus noninterest income (excluding securities
gains and losses).
(2) At period end, except for net charge-offs to average loans.
(3) Nonperforming loans consist of nonaccrual loans, loans contractually past due 90 days or more and restructured loans.
(4) Calculated by dividing stockholders' equity less goodwill and core deposit intangibles by total assets.
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operation.
The following is a discussion of the consolidated financial condition
and results of operations of the Company for the periods presented, and certain
factors that may affect the Company's prospective financial condition. This
section should be read in conjunction with the consolidated financial statements
and the notes thereto appearing elsewhere or incorporated by reference in this
Annual Report on Form 10-K including note 1 which describes the Company's
significant accounting policies including its use of estimates. See the caption
entitled "Critical Accounting Policies and Estimates" in this section for
further information. The following discussion contains statements which are
forward-looking rather than historical fact. Forward-looking statements, which
are based on certain assumptions and describe future plans, strategies, and
expectations of the Company, are generally identified by use of the words
"plan," "believe," "expect," "intend," "anticipate," "estimate," "project," or
similar expressions. These forward-looking statements are made pursuant to the
safe harbor provisions of the Private Securities Litigation Reform Act of 1995
and involve risks and uncertainties that could render them materially different,
including, but not limited to, changes in general economic conditions; interest
rates, deposit flows, loan demand, real estate values, competition and demand
for financial services and loan, deposit, and investment products in the
Company's local markets; changes in the quality and composition of the loan or
investment portfolios; changes in accounting principles, policies, or
guidelines; changes in legislation and regulation; changes in the monetary and
fiscal policies of the U.S. Government, including policies of the U.S. Treasury
and the Federal Reserve Board; war or terrorist activities; and other economic,
competitive, governmental, regulatory, geopolitical, and technological factors
affecting the Company's operations, pricing, and services, expected cost
savings, synergies and other financial benefits from the Company's proposed
merger with MainSource Financial Group, Inc. might not be realized within the
expected time frames and costs or difficulties relating to integration matters
might be greater than expected, the timing of the closing of the proposed
merger, and other risks as detailed in the Company's various Securities and
Exchange Commission filings.
Readers are cautioned not to place undue reliance on these
forward-looking statements, which speak only as of the date of this filing.
Except as required by applicable law or regulation, the Company undertakes no
obligation to update these forward-looking statements to reflect events or
circumstances that occur after the date on which such statements were made.
General
The Company provides commercial and retail banking services, including
commercial real estate loans, one-to-four family residential mortgage loans via
1st Independence Mortgage, home equity loans and lines of credit and consumer
loans as well as certificates of deposit, checking accounts, money-market
accounts and savings accounts within its market area. At December 31, 2007, the
Company had total assets, deposits and stockholders' equity of $347.7 million,
$254.6 million, and $35.3 million, respectively. The Company's business is
conducted principally through the Bank. Unless otherwise indicated, all
references to the Company refer collectively to the Company and the Bank.
On February 26, 2008, the Company entered into an Agreement and Plan
of Merger (the "Merger Agreement") with MainSource Financial Group, Inc.
("MainSource"). The Merger Agreement provides that the Company would be merged
with and into MainSource, with MainSource being the surviving corporation and
that as a result of the merger the Bank would become a wholly owned subsidiary
of MainSource.
The Merger Agreement provides that the Company's stockholders would
receive $5.475 in cash and 0.881036 shares of MainSource common stock for each
share of the Company's stock owned. Based on MainSource's February 26, 2008
closing price of $14.60 per share, the transaction values the Company at $18.34
per share or $37.0 million in the aggregate, including the cashout value of the
Company's in-the-money stock options.
The consideration to be received by the Company's stockholders may
be adjusted at closing based on the value of the Company's consolidated tangible
stockholders' equity as of the end of the last day of the month prior to closing
subject to certain adjustments as well as the average closing price of
MainSource's common stock prior to the closing.
The transaction, which is expected to close in the third quarter of
2008, is subject to various regulatory approvals and the approval of the
Company's stockholders at a future stockholders meeting to be called by the
Company's Board of Directors. A copy of the Merger Agreement was included as an
exhibit to the Company's Current Report on Form 8-K, filed on February 27, 2008
with the Securities and Exchange Commission, a copy of which can be obtained
free of charge at www.sec.gov.
On July 18, 2007 a jury in the case of Larry Sutherland, et.al., v.
Harrodsburg First Financial Bancorp, Inc., in the Circuit Court of Anderson
County in the Commonwealth of Kentucky returned a verdict awarding damages to
the plaintiffs of $403,620. The lawsuit originated from offers to purchase
securities made by the Company in connection with an offer to purchase up to
300,000 shares of its stock in a tender offer on or about May 28, 2003. The
plaintiffs alleged that the Company made certain material misrepresentations in
connection with certain statements made in the tender offer. Management, after
discussion with legal counsel, decided to record an accrual of $403,620 as of
June 30, 2007 relating to the lawsuit. The case was settled effective in
December 2007 for $281,288 and thus the Company reversed $122,332 of the accrual
originally recorded in June 2007.
During November 2007, the Company performed its annual impairment test
of goodwill as of September 30, 2007 with no indication of any impairment. Even
though the Company determined there was no goodwill impairment as of September
30, 2007, the future occurrence of a potential indicator of impairment being the
more-likely-than-not-expectation that the Company will be sold, based upon the
Merger Agreement with MainSource discussed previously, required the Company to
perform an interim assessment and resulted in a goodwill impairment charge of
$2.856 million recorded effective December 31, 2007.
In January 2005, the Company sold its interest in Citizens Financial
Bank, Inc., Glasgow, Kentucky ("Citizens") to another financial institution for
$2.3 million. The sale of Citizens reflected the Company's revised strategic
plan to exit the south central Kentucky market and to focus on the growing
markets of southern Indiana, central Kentucky, and greater Louisville, Kentucky.
The Bank also purchased property and a building, located in Louisville,
Kentucky, that was previously used as an operations center and retail branch of
an affiliate of the financial institution that purchased Citizens. The purchase
price of the building and property was $2.3 million. The Bank moved its finance
and accounting, loan and deposit operations, and mortgage banking operations
into the building in April 2005. The Bank also received regulatory approval
during the second quarter of 2005 to establish a full service branch at this
location and subsequently opened the branch in November 2005.
Critical Accounting Policies and Estimates
The discussion and analysis of the Company's financial condition and
results of operations is based upon the Company's consolidated financial
statements, which have been prepared in conformity with accounting principles
generally accepted in the United States of America. The preparation of financial
statements in conformity with generally accepted accounting principles requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and liabilities at
the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period.
On an ongoing basis, management evaluates the Company's accounting
polices and estimates it uses to prepare the consolidated financial statements.
In general, management's estimates are based on historical experience, on
information from regulators and third party professionals and other assumptions
believed to be reasonable under the circumstances. Actual results could differ
from those estimates.
The following critical accounting policies affect the Company's more
significant judgements and estimates used to prepare the consolidated financial
statements:
Other Than Temporary Impairment of Securities. Securities are
evaluated periodically to determine whether a decline in their value is other
than temporary. Management utilizes criteria such as the magnitude and duration
of the decline, in addition to the reasons underlying the decline, to determine
whether the loss in value is other than temporary. The term "other than
temporary" is not intended to indicate that the decline is permanent. It
indicates that the prospects for a near term recovery of value are not
necessarily favorable, or that there is a lack of evidence to support fair
values equal to, or greater than, the carrying value of the investment. Once a
decline in value is determined to be other than temporary, the value of the
security is reduced and a corresponding charge to earnings is recognized.
Allowance for Loan Losses. Determining the amount of the allowance for
loan losses necessarily involves a high degree of judgment. To assess the
adequacy of the allowance, management uses historical information as well as the
prevailing business environment, as it is affected by changing economic
conditions and various external factors, which may impact the portfolio in ways
currently unforeseen. The allowance is increased by provisions for loan losses
and by recoveries of loans previously charged-off and reduced by loans
charged-off. For a full discussion of the methodology of assessing the adequacy
of the allowance for loan losses, see the "Provision for Loan Losses" section
elsewhere within this Management's Discussion and Analysis of Financial
Condition and Results of Operations and note 5 to the Company's consolidated
financial statements.
Goodwill. Acquisitions accounted for under the purchase method of
accounting require that assets acquired and liabilities assumed be recorded at
their fair value which is an estimate determined by the use of internal or other
valuation techniques. These valuation estimates result in goodwill and other
intangible assets with goodwill representing the excess of the purchase price
over the fair value of acquired tangible assets and liabilities and identifiable
intangible assets. Goodwill is subject to an annual impairment test or more
often if events or circumstances, such as adverse changes in the business
climate, more-likely-than-not-expectation that the Company will be sold or
various other factors indicate there may be impairment and is evaluated using
various fair value techniques. See note 7 to the Company's consolidated
financial statements for further information.
Overview
The Company recorded a loss for the year ended December 31, 2007 of
($4,771,000) or ($2.42) per diluted share compared to net income of $1,940,000
or $0.99 per diluted share for the year ended December 31, 2006. The decreases
in net income and net income per diluted share for the year ended December 31,
2007 was primarily due to an increase of $2,466,000 after taxes in the provision
for loan losses, a decrease in net interest income after taxes of $657,000, an
increase in noninterest expenses after taxes of $3,718,000 (which includes a
nontaxable goodwill impairment charge of $2,856,000 and $186,000 after taxes
relating to the litigation settlement both items that were previously
discussed). Partially offsetting these factors was an increase in noninterest
income after taxes of $132,000.
Net income for the year ended December 31, 2006 was $1,940,000 or $0.99
per diluted share compared to net income of $4,481,000 or $2.32 per diluted
share for the year ended December 31, 2005. The decreases in net income and net
income per diluted share for the year ended December 31, 2006 were primarily due
to after tax securities gains of $3,308,000 taken in the first quarter of 2005
and the increase of $325,000 after taxes in the provision for loan losses in the
year 2006 compared to the year 2005. Partially offsetting these factors was an
increase in net interest income of $245,000 after taxes and an after tax charge
of $235,000 recorded in the first quarter of 2005 for severance expenses related
to the retirement of the Company's former Chairman and Chief Executive Officer.
Other factors were decreased incentive expense, employee benefit expense,
marketing expense, professional fees and other noninterest expense items.
Partially offsetting these factors were increased net occupancy expense and data
processing expense.
Results of Operations
Net Interest Income
Net interest income is the most significant component of the Company's
revenues. Net interest income is the difference between interest income on
interest-earning assets (primarily loans and investment securities) and interest
expense on interest-bearing liabilities (deposits and borrowed funds). Net
interest income depends on the volume and rate earned on interest-earning assets
and the volume and rate paid on interest-bearing liabilities.
Net interest income was $9.6 million for the year ended December 31,
2007, a decrease of $1.0 million or 9% from $10.6 million for the year ended
December 31, 2006. Net interest spread and net interest margin were 2.73% and
3.12%, respectively, for the year ended December 31, 2007, compared to 2.98% and
3.40% for the year ended December 31, 2006. The decrease in the net interest
margin was primarily due to a faster increase in interest rates on
interest-bearing liabilities compared to the rates on interest-earning assets, a
decrease in the volume of net earning assets and the reversal of $145,000 of
interest income on certain loans which were placed on nonaccrual in the last
half of 2007. Changes in volume resulted in a decrease in net interest income of
$0.4 million for the year of 2007 compared to the year 2006, and changes in
interest rates and the mix resulted in a decrease in net interest income of $0.6
million for the year 2007 versus the year 2006.
Net interest income was $10.6 million for the year ended December 31,
2006, an increase of $0.3 million or 4% from $10.3 million for the year ended
December 31, 2005. Net interest spread and net interest margin were 2.98% and
3.40%, respectively, for the year ended December 31, 2006, compared to 3.14% and
3.44% for the year ended December 31, 2005. The decrease in net interest spread
and net interest margin for the year 2006 compared to the year 2005 was
primarily due to the reversal of $57,000 of interest income on a $2.6 million
loan which was placed on nonaccrual in August 2006 and a faster increase in
interest rates on interest-bearing liabilities, including the effect of the
increasing rate on the $4.1 million of variable rate subordinated debentures,
compared to the rates on interest-earning assets. Partially offsetting these
factors were increases in the volume of net earning assets. Changes in volume
resulted in an increase in net interest income of $0.7 million for the year of
2006 compared to the year 2005, and changes in interest rates and the mix
resulted in a decrease in net interest income of $0.4 million for the year 2006
versus the year 2005.
For a detailed analysis of interest income and interest expense, see
"Average Balance Sheets" and "Rate/Volume Analysis" below.
Average Balance Sheets
The following table set forth certain information relating to the
Company for the periods indicated. The average yields and costs are derived by
dividing income or expense by the average balance of assets or liabilities,
respectively, for the periods presented.
Year ended December 31, Year ended December 31, Year ended December 31,
2007 2006 2005 (1)
-------------------------- ------------------------------ ----------------------------
Average Average Average Average Average Average
Balance Interest Yield/Cost Balance Interest Yield/Cost Balance Interest Yield/Cost
-------- -------- ---------- -------- -------- ---------- -------- -------- ----------
(in thousands except percentages)
Earning assets:
Loans, net of unearned income $272,560 $20,411 7.49% $277,974 $20,798 7.48% $259,119 $17,009 6.56%
Investment securities and other (2) 35,688 1,772 4.97 34,060 1,640 4.82 38,827 1,437 3.70
-------- ------- -------- ------- -------- -------
Total earning assets 308,248 22,183 7.20 312,034 22,438 7.19 297,946 18,446 6.19
------- ------- -------
Less allowance for loan losses 3,149 3,157 2,747
-------- -------- --------
305,099 308,877 295,199
Assets of discontinued operations
Non-earning assets:
Cash and due from banks 8,802 5,462 4,604
Premises and equipment, net 8,285 8,259 7,856
Other assets 19,003 17,584 16,431
-------- -------- --------
Total assets $341,189 $340,182 $324,090
======== ======== ========
Interest bearing liabilities:
Deposits $244,865 10,507 4.29 $249,173 10,060 4.04 $237,321 6,852 2.89
Borrowings 36,029 2,049 5.69 31,433 1,755 5.58 31,302 1,342 4.29
-------- ------- -------- ------- -------- -------
Total interest bearing
liabilities 280,894 12,556 4.47 280,606 11,815 4.21 268,623 8,194 3.05
------- ------- -------
Liabilities of discontinued operations
Non-earning liabilities:
Non-interest bearing deposits 18,380 18,539 16,016
Other liabilities 1,982 1,674 1,861
-------- -------- --------
Total liabilities 301,256 300,819 286,500
Minority interests - - 13
Stockholders' equity 39,933 39,363 37,577
-------- -------- --------
Total liabilities and
stockholders' equity $341,189 $340,182 $324,090
======== ======== ========
Net interest income $ 9,627 $10,623 $10,252
======= ======= =======
Net interest spread (3) 2.73% 2.98% 3.14%
====== ====== ======
Net interest margin (4) 3.12% 3.40% 3.44%
====== ====== ======
Ratio of average interest-earning assets
to average interest-bearing liabilities 109.74% 111.20% 110.92%
====== ====== ======
(1) Average balances and interest income and interest expense related to the
discontinued operations of Citizens have been eliminated.
(2) Includes interest-earning overnight deposits and term deposits with
the FHLB.
(3) Net interest spread represents the difference between the average yield
on earning assets and the average cost of interest bearing liabilities.
(4) Net interest margin represents net interest income as a percentage of
average earning assets.
Rate/Volume Analysis
The following table below sets forth certain information regarding
changes in interest income and interest expense of the Company for the periods
indicated. For each category of earning assets and interest bearing liabilities,
information is provided on changes attributable to (i) changes in volume (change
in average volume multiplied by old rate); and (ii) changes in rates (change in
rate multiplied by old average volume). Changes in rate/volume (change in rate
multiplied by the change in volume) have been allocated to the changes due to
volume and rate in proportion to the absolute value of the changes due to volume
and rate prior to the allocation.
Year ended December 31, Year ended December 31,
2007 vs. 2006 2006 vs. 2005 (1)
------------------------------------ ------------------------------------
Increase (decrease) due to change in Increase (decrease) due to change in
------------------------------------ ------------------------------------
Volume Rate Net Volume Rate Net
-------- --------- --------- -------- --------- ----------
(in thousands)
Interest income
Loans $(414) $ 27 $(387) $1,294 $2,495 $3,789
Investment securities and other (2) 80 52 132 (192) 395 203
------ ------ ------ ------- ------ -------
Total interest income (334) 79 (255) 1,102 2,890 3,992
------- ------ ------ ------- ------ -------
Interest expense
Deposits (174) 621 447 358 2,850 3,208
Borrowings 259 35 294 6 407 413
------- ------ ------ ------- ------ -------
Total interest expense 85 656 741 364 3,257 3,621
------- ------ ------ ------- ------ -------
Net interest income $(419) $(577) $(996) $ 738 $ (367) $ 371
======= ====== ====== ======= ====== =======
(1) Average balances and changes in interest income and interest expense
related to the discontinued operations of Citizens have been eliminated.
(2) Includes interest-earning overnight deposits and term deposits with the FHLB.
Provision for Loan Losses
The provision for loan losses was $4,584,000 for the year ended
December 31, 2007, compared to $847,000 for the year 2006. The increase in the
provision in 2007 including $4,131,000 in the fourth quarter 2007 compared to
the fourth quarter of 2006 reflects the increasing risk in the loan portfolio
related to the current economic weakness and the additional stress this places
on borrowers. Nonperforming loans were $6.4 million at December 31, 2007 and
$3.7 million at December 31, 2006, or 2.33% and 1.36%, respectively, of total
loans. The increase in nonperforming loans is primarily due to an increase in
nonperforming real estate construction and development loans, primarily in the
1-4 family markets. The allowance for loan losses was $7.1 million and $3.7
million at December 31, 2007 and December 31, 2006, or 2.59% and 1.37%,
respectively, of total loans. Net charge-offs were $1,189,000 in 2007 compared
to $13,000 in 2006. The increase in net charge-offs in 2007 was primarily due to
three large borrowers in the real estate construction and commercial and
industrial portfolios. These charge-offs taken in the first quarter of 2007 had
been adequately reserved for in previous periods.
The provision for loan losses was $847,000 for the year ended December
31, 2006, compared to $354,000 for the year 2005. Nonperforming loans were $3.7
million at December 31, 2006 and $1.3 million at December 31, 2005, or 1.36% and
0.47%, respectively, of total loans. The increase in the level of nonperforming
loans was primarily due to the result of one loan of $2.6 million that was
placed on nonaccrual status in August 2006 in addition to several other smaller
loans totaling $0.9 million placed on nonaccrual status during the third quarter
of 2006 and a $0.4 million increase in loans delinquent over 90 days but still
accruing at December 31, 2006 compared to the amount at December 31, 2005. A
softening in the 1-4 family residential real estate and real estate construction
markets contributed to the increase in nonperforming loans. The allowance for
loan losses was $3.7 million and $2.9 million at December 31, 2006 and December
31, 2005, or 1.37% and 1.08%, respectively, of total loans.
The Company maintains the allowance for loan losses at a level that it
considers to be adequate to provide for credit losses inherent in its loan
portfolio. Management determines the level of the allowance by performing a
quarterly analysis that considers concentrations of credit, past loss
experience, current economic conditions, the amount and composition of the loan
portfolio (including nonperforming and potential problem loans), estimated fair
value of underlying collateral, loan commitments outstanding, and other
information relevant to assessing the risk of loss inherent in the loan
portfolio. As a result of management's analysis, a range of the potential amount
of the allowance for loan losses is determined.
The Company will continue to monitor the adequacy of the allowance for
loan losses and make additions to the allowance in accordance with the analysis
referred to above. Because of uncertainties inherent in estimating the
appropriate level of the allowance for loan losses, actual results may differ
from management's estimate of credit losses and the related allowance.
Noninterest Income
Noninterest income was $2.0 million for the year ended December 31,
2007, compared to $1.8 million for the year 2006. The gain on loan sales was
down slightly for 2007 versus 2006 due to a decrease in volume in the last half
of 2007 that reversed an increase in volume in the first half of 2007 versus a
softened housing market leading to a slow down in secondary market mortgage
activity and lower margins in 2006. The gain on loan sales was $878,000 for the
year 2007 compared to $892,000 for the year 2006. Service charge income was
$590,000 for the year 2007 compared to $518,000 for the year 2006. The Company
continues to evaluate its deposit product offerings with the intention of
continuing to expand its offerings to the consumer and business depositor.
Currently, the Company is pursuing a strategy to increase its core deposit base
by expanding the Company's offering of remote deposit capture products for
current and prospective business depositors. Other factors which contributed to
the increase in noninterest income was a reduction of the loss on other real
estate owned from $120,000 in 2006 to $32,000 in 2007, a loss on sale of
premises and equipment in 2006 of $32,000 compared to none in 2007 and an
increase in cash value of life insurance from $199,000 in 2006 to $212,000 in
2007.
Noninterest income was $1.8 million for the year ended December 31,
2006, compared to $7.0 million for the year 2005. The significant decrease in
noninterest income for the year 2006 compared to the year 2005 resulted
primarily from a $5.0 million gain on sale of Federal Home Loan Mortgage
Corporation ("FHLMC") preferred stock recorded in the first quarter of 2005. The
gain on loan sales decreased for the year 2006 compared to the year 2005 due to
a slow down in secondary market mortgage activity and lower margins in 2006. The
gain on loan sales was $892,000 for the year 2006 compared to $1,041,000 for the
year 2005. Service charge income was $518,000 for the year 2006 compared to
$391,000 for the year 2005. During March 2005, the Bank began offering products
which include overdraft privileges on certain individual deposit products and
cash management services for business depositors. Both of these products are
fee-based and resulted in increases in service charge income. Other factors
which primarily offset each other was a reduction of the loss on sale of
premises and equipment which decreased from $156,000 in 2005 to $32,000 in 2006
which offset a loss of $120,000 in 2006 relating to other real estate owned
compared to no activity in 2005. Factors contributing to the decrease in other
noninterest income for the year 2006 was the Company's decision to exit the
title insurance business at the end of November 2005 and a decrease in fees due
to reduced activity relating to secondary market mortgage lending and a one time
gain of $32,000 on long-term portfolio loans sold in the first quarter of 2005.
The Company's title insurance company had approximately $264,000 of title
insurance revenue for the year ended December 31, 2005.
Noninterest Expense
Noninterest expense was $13.0 million for the year ended December 31,
2007 compared to $8.8 million for the year ended 2006. Contributing to the
increase were increases in salaries and employee benefits due to merit and
promotional salary increases and management additions including the hiring of an
experienced commercial lending team in the second quarter of 2007, increased
health care costs, increased stock option expense and increased restricted stock
expense. Partially offsetting these increases in salaries and employee benefits
was a reduction in the amount of expense necessary to cover the Company's 401(k)
match as the match is now covered by released ESOP shares. Additional factors
contributing to the overall increase in noninterest expenses were an increase in
data processing expenses which was primarily due to the growth of the Bank's
services and its continuing commitment to upgrade systems productivity and
various increases in other noninterest expenses including an increase in
expenses relating to other real estate owned due to the higher levels of other
real estate owned and as previously discussed the litigation settlement of
$281,000 and the goodwill impairment charge of $2,856,000. Other factors were
an increase in net occupancy expenses relating to the Bank's branch expansion
plans and certain equipment upgrades. Partially offsetting these increases was a
decrease in professional fees due to a reduced amount of services required
notwithstanding an increased amount of services required regarding preparation
work for compliance with certain of the requirements of the Sarbanes-Oxley Act
of 2002 which became effective in 2007.
Noninterest expense was $8.8 million for the year ended December 31,
2006 compared to $10.1 million for the year ended 2005. Contributing to the
decrease was a decrease in salaries and employee benefits due to the $356,000
which the Company accrued during the first quarter of 2005 for the severance
expense relating to the retirement of the Company's former Chairman and Chief
Executive Officer, a reduction in the commissions related to reduced activity in
mortgage loan sales, a reduction in incentive accruals and a decrease in
employee benefit expense due to a plan revision and a lower amount of ESOP
contributions. Additional factors contributing to the decrease were reduced
marketing expense and a reduction in professional fees in the year 2006 compared
to the year 2005 due to a reduced amount of services required. Other factors
included a higher level of other noninterest expenses in the first quarter of
2005 primarily related to integration items associated with the Merger, the
Citizens disposal in January 2005 and the expenses relating to the title
insurance company that was sold which was previously mentioned. Partially
offsetting those factors was an increase in net occupancy expense due to the
Bank's purchase of a building, located in Louisville, Kentucky to accommodate
expansion. In April 2005, the Bank moved its finance and accounting, loan and
deposit operations, and mortgage banking operations into the building and in
November 2005 established a full service branch at this location. An additional
factor offsetting the overall decrease in noninterest expense was an increase in
data processing expense which was primarily due to the growth of the Bank's
services and its commitment to upgrade systems productivity and the effects of a
refund received in the first quarter of 2005 from a previous third party data
processing company of the Bank.
Income Tax Expense (Benefit)
The effective income tax rate on income (loss) from continuing
operations was (20.0%) for the year ended December 31, 2007 compared to 28.9%
for the year 2006. The change in the effective tax rate is primarily due to the
change in income from continuing operations and the effect of the nontaxable
goodwill impairment charge.
The effective income tax rate on income from continuing operations was
28.9% for the year ended December 31, 2006 compared to 33.6% for the year 2005.
The decrease in the effective tax rate is primarily due to an increase in the
percentage of tax exempt interest income compared to income from continuing
operations.
Financial Condition
The Company's total assets were $347.7 million at December 31, 2007
compared to $342.8 million at December 31, 2006, an increase of $4.9 million or
1.4%. Cash and cash equivalents increased $9.0 million, loans held for sale
increased $1.7 million, interest receivable and other assets increased $1.2
million and bank owned life insurance went up $0.2 million, while net loans
decreased $2.0 million, investments decreased $1.5 million, goodwill was written
down $2.9 million, other real estate owned went down $0.4 million, and premises
and equipment decreased $0.4 million.
Loans, gross of the allowance for loan losses, were $275.6 million at
December 31, 2007, compared to $274.2 million at December 31, 2006, an increase
of $1.4 million or 0.5%. The increase was primarily due to increases in the real
estate commercial and commercial loan portfolios, which increased $10.4 million
or 20.9% and $4.7 million or 23.0%, respectively, coupled with a partially
offsetting decrease in residential real estate loans which decreased $12.7
million or 10.4%. All loan categories increased or remained the same as a
percentage of total loans, except residential real estate loans, which decreased
from approximately 45% to 40% of total loans and home equity loans which
decreased from 5% to 4%. The decrease in residential real estate loans as a
percentage of total loans is partly due to those loans now being sold in the
secondary market through 1st Independence Mortgage, a division of the Bank,
rather than being retained for the Company's loan portfolio. The Company
continues to identify opportunities to cross sell its other products, including
home equity and consumer loans for its loan portfolio resulting from customer
relationships established through the origination of loans by 1st Independence
Mortgage.
Deposits increased $0.5 million or 0.2% to $254.6 million at December
31, 2007 compared to $254.1 million at December 31, 2006. This increase was
attributable to an increase in savings, NOW and money market deposits of $24.0
million which offset a decrease in time deposits and demand deposits of $20.7
million and $2.8 million, respectively. The increase in savings, NOW and money
market deposits resulted primarily from the effects of a general marketing
campaign promoting a more competitively priced NOW account product in an effort
to reduce the Company's dependency on higher costing time deposits.
Short-term borrowings decreased $0.5 million to $36.0 million at
December 31, 2007, compared to $36.5 million at December 31, 2006 while
long-term debt increased $10.0 million to $20.3 million at December 31, 2007,
compared to $10.3 million at December 31, 2006. The increase in long-term debt
was due to the Company deciding to utilize a long-term FHLB fixed rate advance
and thus reducing the level of short-term FHLB advances. The Company uses
short-term borrowings, primarily short-term FHLB advances, to fund short-term
liquidity needs and manage net interest margin.
Liquidity
Liquidity to meet borrowers' credit and depositors' withdrawal demands
is provided by maturing assets, short-term liquid assets that can be converted
to cash and the ability to attract funds from depositors. Additional sources of
liquidity include brokered deposits, advances from the FHLB and other short-term
borrowings, such as federal funds purchased and securities sold under repurchase
agreements.
At December 31, 2007 and December 31, 2006, brokered deposits were
$38.2 million and $23.7 million, respectively. The weighted average cost and
maturity of brokered deposits were 4.67% and four months at December 31, 2007
compared to 4.86% and six months at December 31, 2006. The Company plans to
continue using brokered deposits for the foreseeable future to support loan
demand when pricing for brokered deposits is more favorable than short-term
borrowings or rates within the Company's local markets.
At December 31, 2007 and December 31, 2006, the Bank had total FHLB
advances outstanding of $46.0 million and $36.0 million, respectively, with
$11.0 million and $1.0 million, respectively, included in long-term debt in the
accompanying consolidated balance sheet and the remaining amount included in
short-term borrowings. Additionally, the Bank had $35.0 million of unused
commitments under its line of credit with the FHLB and sufficient collateral to
borrow an additional $37.0 million.
The Company's liquidity depends primarily on dividends paid to it as
sole shareholder of the Bank. At January 1, 2008, the Bank was no longer able to
pay dividends to the Company without regulatory approval due to the net loss
incurred in the Bank in the fourth quarter of 2007 primarily due to the
substantial increase in the provision for loan losses and the goodwill
impairment charge. At January 1, 2008 the Bank's retained net losses, less
dividends declared during the preceding two years was approximately $1,279,000.
The Company currently has sufficient assets at the holding company to allow it
to pay another quarterly dividend in May 2008 (after the quarterly dividend that
was paid in February 2008) at the current quarterly dividend rate and expects to
request regulatory approval for any additional cash flow needs prior to closing
the transaction with MainSource (see note 13 for additional information on
capital requirements and restrictions on retained earnings and note 22 for
additional information regarding the pending acquisition of the Company by
MainSource).
The Company has $9.3 million of subordinated debentures outstanding,
which are included in long-term debt in the accompanying consolidated balance
sheet with $4.1 million of the debentures being variable rate obligations with
interest rates that reprice quarterly (March 26, June 26, September 26 and
December 26) and are tied to the three-month London Interbank Offering Rate
("LIBOR") plus 3.15%. The weighted average rate on the variable rate obligations
was 8.46% for 2007 compared to 8.24% in 2006. At December 31, 2007 the rate on
the variable rate obligations was 8.01% compared to 8.52% at December 31, 2006.
The remaining $5.2 million of debentures carry a fixed interest rate of 6.4%
until March 26, 2008 when the debentures become variable rate obligations that
reprice quarterly at the three-month LIBOR rate plus 3.15%. At the rates that
were in effect at December 31, 2007, the Company's cash requirement to service
interest on the debentures for 2008 was $660,000.
Sources and Uses of Cash
The Company derives most of its cash flow from the Bank's activities.
Cash flow of the Bank is provided primarily through financing activities, which
include net increases in deposits and short-term borrowings. These funds are
used to fund investing activities, which include making loans and increasing the
investment portfolio.
Off-Balance Sheet Arrangements
In the normal course of operations, the Company engages in financial
transactions that contain credit, interest rate, and liquidity risk that are not
recorded in the financial statements. Such transactions include traditional
off-balance sheet credit-related financial instruments, and commitments under
long-term debt and operating lease agreements.
The Company provides customers with off-balance sheet credit support
through loan commitments, unused lines of credit, letters of credit, and
commitments to sell loans. A summary of these financial instruments at December
31, 2007 follows:
Less than 1 to 3 3 - 5 Over 5
Total one year years years years
----- -------- ----- ----- -----
(in thousands)
Off- balance sheet items:
Commitments to make loans $19,804 $19,804 $ - $ - $ -
Unused lines of credit 44,002 24,644 9,420 3,125 6,813
Performance letters of credit 2,608 730 1,796 82 -
Mortgage banking rate-lock 3,122 3,122 - - -
Since many of the commitments and unused lines of credit are expected
to expire or be only partially used, the total amount of commitments does not
necessarily represent future cash requirements.
Contractual Obligations
The Company is required to make future payments on long-term debt,
which includes long-term FHLB advances and subordinated debentures. In addition
to owned banking facilities, the Company has entered into long-term leases to
support its activities. A summary of these aggregate contractual obligations at
December 31, 2007 follows:
Payments Due by Period
-----------------------------------------------
Less than 1 to 3 3 to 5 Over 5
Total one year years years years
----- -------- ----- ----- ------
(in thousands)
Aggregate contractual obligations:
FHLB borrowings $11,000 $10,000 $ - $1,000 $ -
Subordinated debentures 9,279 - - - 9,279
Operating lease commitments 2,805 264 563 572 1,406
------- ------- ---- ------ -------
Total $23,084 $10,264 $563 $1,572 $10,685
======= ======= ==== ====== =======
Asset/Liability Management
The Bank, like many other financial institutions, is vulnerable to an
increase in interest rates to the extent interest-bearing liabilities mature or
reprice more rapidly than interest-earning assets. Historically, the lending
activities of commercial banks emphasized the origination of short to
intermediate term variable rate loans that are more closely matched with the
deposit maturities and repricing of interest-bearing liabilities which occur
closer to the same general time period. While having interest-bearing
liabilities that reprice more frequently than interest-earning assets is
generally beneficial to net interest income during periods of declining interest
rates, it is generally detrimental during periods of rising interest rates.
To reduce the effect of interest rate changes on net interest income,
the Bank has adopted various strategies to improve matching interest-earning
asset maturities to interest-bearing liability maturities. The principal
elements of these strategies include; originating variable rate commercial loans
that include interest rate floors; originating one-to-four family residential
mortgage loans with adjustable rate features, or fixed rate loans with short
maturities; maintaining interest-bearing demand deposits, federal funds sold,
and U.S. government securities with short to intermediate term maturities;
maintaining an investment portfolio that provides stable cash flows, thereby
providing investable funds in varying interest rate cycles; lengthening the
maturities of our time deposits and borrowings when it would be cost effective;
and attracting low cost checking and transaction accounts, which tend to be less
interest rate sensitive when interest rates increase.
The Bank measures its exposure to changes in interest rates using an
overnight upward and downward shift (shock) in the Treasury yield curve. As of
December 31, 2007, if interest rates increased 200 basis points and decreased
200 points, respectively, the Bank's net interest income would increase by 1.5%
and increase by 3.8%, respectively. The risk position of the Bank is within the
Bank's policy limits.
Regulatory Matters
On November 20, 2007, the Bank received its most recent Community
Reinvestment Act ("CRA") Performance Evaluation prepared as of September 17,
2007. The Bank was assigned a "Satisfactory" rating which replaced the previous
rating of "Needs to Improve" which the Bank had received on July 20, 2006. The
previous rating was due in part to the Bank's low level of residential lending
to low and moderate income borrowers within the Louisville, Kentucky
Metropolitan Statistical Area. Management had taken appropriate steps to improve
the residential lending issues cited by the Federal Deposit Insurance
Corporation ("FDIC") during the 2006 CRA Performance Evaluation and those
actions along with other steps taken resulted in the higher rating from the 2007
CRA Performance Evaluation. By statute, a bank with a "less than satisfactory"
CRA rating has limitations on certain future business activities until the CRA
rating improves. A "Satisfactory" rating has no such limitations.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Information required by this item is included in Item 7, "Management's
Discussion and Analysis of Financial Condition and Results of Operation" under
the caption "Asset/Liability Management."
Item 8. Financial Statements and Supplementary Data.
The following report of independent registered public accounting firm
and the consolidated financial statements of the Company are included below:
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets
Consolidated Statements of Operations
Consolidated Statements of Comprehensive Income (Loss)
Consolidated Statements of Changes in Stockholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
Audit Committee, Board of Directors and Stockholders
1st Independence Financial Group, Inc.
Louisville, Kentucky
We have audited the accompanying consolidated balance sheets of 1st Independence
Financial Group, Inc. (Company) as of December 31, 2007 and 2006, and the
related consolidated statements of operations, comprehensive income (loss),
changes in stockholders' equity and cash flows for each of the years in the
three-year period ended December 31, 2007. The Company's management is
responsible for these financial statements. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements are free of material misstatement. The Company is not
required to have, nor were we engaged to perform, an audit of its internal
control over financial reporting. Our audits included consideration of internal
control over financial reporting as a basis for designing auditing procedures
that are appropriate in the circumstances, but not for the purpose of expressing
an opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. Our audits also included
examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements, assessing the accounting principles used and
significant estimates made by management and 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 the Company as of
December 31, 2007 and 2006, and the results of its operations and its cash flows
for each of the years in the three-year period ended December 31, 2007, in
conformity with accounting principles generally accepted in the United States of
America.
/s/ BKD, LLP
Louisville, Kentucky
April 11, 2008
1ST INDEPENDENCE FINANCIAL GROUP, INC.
Consolidated Balance Sheets
(in thousands except share data)
December 31, December 31,
2007 2006
--------------- ---------------
Assets
Cash and and due from banks $ 11,118 $ 16,678
Interest-bearing demand deposits 7,789 6,370
Federal funds sold 13,711 531
-------------- -------------
Cash and cash equivalents 32,618 23,579
Inerest-bearing deposits 100 100
Available-for-sale securities at fair value 15,045 16,421
Held-to-maturity securities, fair value of $1,750 and
$1,930 at December 31, 2007 and 2006, respectively 1,745 1,900
Loans held for sale 2,874 1,227
Loans, net of allowance for loan losses of $7,140 and
$3,745 at December 31, 2007 and 2006, respectively 268,448 270,478
Premises and equipment, net 7,954 8,322
Federal Home Loan Bank (FHLB) stock 2,313 2,313
Bank owned life insurance 3,647 3,435
Goodwill 8,286 11,142
Other real estate owned 58 433
Interest receivable and other assets 4,630 3,456
------------- -------------
Total assets $347,718 $342,806
============= =============
Liabilities and Stockholders' Equity
Liabilities
Deposits
Demand $ 15,491 $ 18,261
Savings, NOW and money market 102,064 78,083
Time 137,030 157,733
------------- -------------
Total depositsotal deposits 254,585 254,077
Short-term borrowings 36,011 36,526
Long-term debt 20,279 10,279
Interest payable and other liabilities 1,567 1,621
------------- -------------
Total liabilities 312,442 302,503
------------- -------------
Commitments and contingencies - -
Stockholders' equity
Preferred stock, $0.10 par value, 500,000 shares authorized, no
shares issued or outstanding - -
Common stock, $0.10 par value, 5,000,000 shares authorized,
1,995,744 shares and 1,995,594 shares outstanding at
December 31, 2007 and 2006, respectively 296 296
Additional paid-in capital 39,898 39,775
Retained earnings 9,767 15,169
Unearned ESOP compensation (166) (291)
Accumulated other comprehensive income (loss) 56 (71)
Treasury stock, at cost, common,
969,835 shares and 969,835 shares at December 31, 2007 and
and 2006, respectively (14,575) (14,575)
------------- -------------
Total stockholders' equity 35,276 40,303
------------- -------------
Total liabilities and stockholders' equity $347,718 $342,806
============= =============
See notes to consolidated financial statements.
1ST INDEPENDENCE FINANCIAL GROUP, INC.
Consolidated Statements of Operations
(in thousands except per share data)
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---------- ----------- -----------
Interest and dividend income
Loans, including fees $20,411 $20,798 $17,009
Securities
Taxable 651 649 693
Tax exempt 176 183 125
Federal funds sold 442 368 332
Dividends 193 158 143
Deposits with financial institutions 310 282 144
--------- --------- ---------
Total interest and dividend income 22,183 22,438 18,446
--------- --------- ---------
Interest expense
Deposits 10,507 10,060 6,852
FHLB advances 1,328 1,023 727
Other 721 732 615
--------- --------- ---------
Total interest expense 12,556 11,815 8,194
--------- --------- ---------
Net interest income 9,627 10,623 10,252
Provision for loan losses 4,584 847 354
--------- --------- ---------
Net interest income after provision for loan losses 5,043 9,776 9,898
--------- --------- ---------
Noninterest income
Service charges 590 518 391
Gain on loan sales 878 892 1,041
(Loss) on sale of premises and equipment - (32) (156)
(Loss) on other real estate owned (32) (120) -
Increase in cash value of life insurance 212 199 188
Net realized gains on sales of
available-for-sale securities 1 - 4,883
Other 342 334 610
--------- --------- ---------
Total noninterest income 1,991 1,791 6,957
--------- --------- ---------
Noninterest expense
Salaries and employee benefits 4,977 4,162 4,850
Net occupancy expense 1,647 1,586 1,431
Data processing fees 820 759 630
Professional fees 359 590 785
Marketing expense 99 104 362
Goodwill impairment 2,856 - -
Other 2,243 1,638 2,035
--------- --------- ---------
Total noninterest expense 13,001 8,839 10,093
--------- --------- ---------
Income (loss) from continuing operations before income
taxes and minority interest (5,967) 2,728 6,762
Income tax expense (benefit) from continuing operations (1,196) 788 2,273
--------- --------- ---------
Income (loss) from continuing operations before minority
interest and discontinued operations (4,771) 1,940 4,489
Income from subsidiary held for disposal - - 6
Income tax expense from subsidiary held for disposal - - 2
--------- --------- ---------
Income (loss) before minority interest (4,771) 1,940 4,493
Minority interest in (income) of consolidated subsidiary
and subsidiary held for disposal - - (12)
--------- --------- ---------
Net income (loss) $(4,771) $ 1,940 $4,481
========= ========= =========
Income (loss) per share from continuing operations
Basic ($2.42) $1.00 $2.38
Diluted (2.42) 0.99 2.33
Income per share from subsidiary held for disposal
Basic $0.00 $0.00 $0.00
Diluted 0.00 0.00 0.00
Net income (loss) per share
Basic ($2.42) $1.00 $2.37
Diluted (2.42) 0.99 2.32
Weighted average shares outstanding
Basic 1,970 1,941 1,889
Diluted 1,970 1,957 1,929
See notes to consolidated financial statements.
1ST INDEPENDENCE FINANCIAL GROUP, INC.
Consolidated Statements of Comprehensive Income (Loss)
(in thousands)
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---------- ---------- -----------
Net income (loss) $(4,771) $1,940 $4,481
Other comprehensive income (loss), net of tax
Change in unrealized gains and losses on available-for-sale
securities 128 66 (686)
Less reclassification adjustment for realized gains (losses)
included in net income (loss) 1 - 3,223
-------- -------- --------
Other comprehensive income (loss) 127 66 (3,909)
-------- -------- --------
Comprehensive income (loss) $(4,644) $2,006 $572
======== ======== ========
See notes to consolidated financial statements.
1ST INDEPENDENCE FINANCIAL GROUP, INC.
Consolidated Statements of Changes in Stockholders' Equity
(in thousands except share and per share data)
Common Stock Accumulated
---------------- Additional Unearned Other Total
Number of Paid-in Retained ESOP Unearned Comprehensive Treasury Stockholders'
Shares Amount Capital Earnings Compensation Compensation Income (Loss) Stock Equity
--------- ------ ---------- -------- ------------ ------------ ------------ -------- -------------
Balance December 31, 2004 1,916,368 $289 $38,588 $10,122 $(490) $ - $ 3,772 $(14,575) $37,706
Net income - - - 4,481 - - - - 4,481
Cash dividends declared,
$0.40 per share - - - (754) - - - - (754)
Change in other comprehensive
income (loss), net of tax - - - - - - (3,909) - (3,909)
Exercise of stock options 54,500 5 877 - - - - - 882
Retirement of stock received
as part of exercise of
stock options (20,960) (2) (411) - - - - - (413)
Issuance of restricted stock 2,000 - 38 - - (38) - - -
Forfeiture of restricted stock (500) - (9) - - 9 - - -
Amortization of unearned
compensation - - - - - 5 - - 5
ESOP shares released - - 153 - 110 - - - 263
--------- ---- ------- ------- ----- ---- ------- -------- -------
Balance December 31, 2005 1,951,408 $292 $39,236 $13,849 $(380) $(24) $ (137) $(14,575) $38,261
Net income - - - 1,940 - - - - 1,940
Cash dividends declared,
$0.32 per share - - - (620) - - - - (620)
Change in other comprehensive
income (loss), net of tax - - - - - - 66 - 66
Exercise of stock options 51,500 5 736 - - - - - 741
Retirement of stock received
as part of exercise of
stock options (14,314) (1) (246) - - - - - (247)
Issuance of restricted stock 7,000 1 (1) - - - - - -
Accrual of compensation expense
for stock options - - 40 - - - - - 40
Amortization of unearned
compensation - - 19 - - - - - 19
ESOP shares released - - 14 - 89 - - - 103
Other - (1) (23) - - 24 - - -
--------- ---- ------- ------- ----- ---- ------- -------- -------
Balance December 31, 2006 1,995,594 $296 $39,775 $15,169 $(291) $ - $ (71) $(14,575) $40,303
Net income (loss) - - - (4,771) - - - - (4,771)
Cash dividends declared,
$0.32 per share - - - (631) - - - - (631)
Change in other comprehensive
income (loss), net of tax - - - - - - 127 - 127
Repurchase and retirement of
common stock (2,200) - (37) - - - - - (37)
Issuance of restricted stock 2,750 - - - - - - - -
Forfeiture of restricted stock (400) - - - - - - - -
Accrual of compensation expense
for stock options - - 59 - - - - - 59
Amortization of unearned
compensation - - 30 - - - - - 30
ESOP shares released - - 72 - 125 - - - 197
Other - - (1) - - - - - (1)
--------- ---- ------- ------- ----- ---- ------- -------- -------
Balance December 31, 2007 1,995,744 $296 $39,898 $ 9,767 $(166) $ - $ 56 $(14,575) $35,276
========= ==== ======= ======= ===== ==== ======= ======== =======
See notes to consolidated financial statements.
1ST INDEPENDENCE FINANCIAL GROUP, INC.
Consolidated Statements of Cash Flows
(in thousands)
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
----------- ----------- ------------
Cash Flows from Operating Activities:
Net income (loss) $(4,771) $ 1,940 $ 4,481
Adjustments to reconcile net income (loss) to net cash provided by
operations:
Depreciation 719 716 613
Provision for loan losses 4,584 847 354
Goodwill impairment 2,856 - -
Gain on loan sales (878) (892) (1,041)
Origination of loans held for sale (47,714) (46,830) (60,408)
Proceeds from loans held for sale 46,945 47,773 62,515
Compensation expense on stock options 59 40 -
ESOP compensation 197 103 210
Amortization of unearned compensation on restricted stock 30 19 5
Amortization of premiums and discounts on securities 26 32 117
Deferred income taxes (1,401) (395) 3
FHLB stock dividend - (122) (100)
Amortization of loan fees (209) (358) (330)
Amortization of intangibles, net 224 259 336
Net realized (gains) losses on available-for-sale securities (1) - (4,883)
Loss on sale of premises and equipment - 32 156
Minority interest in income of consolidated subsidiary and
subsidiary held for disposal - - 12
Increase in cash value of life insurance (212) (199) (188)
(Income) from subsidiary held for disposal - - (4)
Changes in:
Decrease (increase) in interest receivable and other assets 2,888 (70) (594)
(Decrease) increase in interest payable and other liabilities (119) 120 507
------- ------- -------
Net cash provided by operating activities 3,223 3,015 1,761
------- ------- -------
Cash Flows from Investing Activities:
Purchase of interest-bearing deposits - (100) -
Proceeds from maturities of interest-bearing deposits - 100 -
Purchases of available-for-sale securities (4,009) (2,538) (7,319)
Proceeds from maturities and calls of available-for-sale securities 5,550 2,321 5,474
Proceeds from sales of available-for-sale securities - - 11,267
Proceeds from maturities of held-to-maturity securities 152 68 165
Net (increase) in loans (4,851) (4,901) (33,578)
Purchases of premises and equipment (351) (855) (3,635)
Proceeds from sales of premises and equipment - - 24
Proceeds from sale of FHLB stock - 498 -
Proceeds, net from sale of subsidiaries - - 2,260
------- ------- -------
Net cash (used in) investing activities (3,509) (5,407) (25,342)
------- ------- -------
Cash Flows from Financing Activities:
Net increase (decrease) in deposits 508 (10,245) 40,968
Net (decrease) increase in short-term borrowings (515) 17,779 (4,486)
Proceeds from issuance of long-term debt 10,000 - -
Repayment of long-term debt - (3,000) (1,000)
Repurchase and retirement of common stock (37) - -
Proceeds from exercise of stock options - 494 470
Cash dividends paid (631) (620) (754)
------- ------- -------
Net cash provided by financing activities 9,325 4,408 35,198
------- ------- -------
Net increase in cash and cash equivalents 9,039 2,016 11,617
Cash and cash equivalents at beginning of period 23,579 21,563 9,946
------- ------- -------
Cash and cash equivalents at end of period $32,618 $23,579 $21,563
======= ======= =======
Supplemental Cash Flow Information:
Interest paid $12,525 $11,664 $ 7,800
Income taxes paid 137 1,248 1,965
Net increase in cash and cash equivalents of
discontinued operations
Net cash (used in) provided by operating activities - - (5)
Net cash provided by investing activities - - 1,647
Net cash (used in) financing activities - - (361)
------- ------- ------------
Net increase in cash and cash equivalents of discontinued operations - - 1,281
------- ------- ------------
Real estate acquired in settlement of loans 2,328 710 33
Sale and financing of foreclosed assets 2,807 - -
See notes to consolidated financial statements.
1st INDEPENDENCE FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation and Summary of Significant Accounting Policies
Nature of Operations
1st Independence Financial Group, Inc. (the "Company") is a holding company
whose principal activity is the ownership and management of its wholly owned
subsidiary, 1st Independence Bank, Inc. (the "Bank") and 1st Independence
Mortgage, a division of the Bank. The Bank is primarily engaged in providing a
full range of banking and financial services to individual and corporate
customers in Indiana and Kentucky. The Bank is subject to competition from other
financial institutions and is subject to the regulation of certain federal and
state agencies and undergoes periodic examinations by those regulatory
authorities. 1st Independence Mortgage engages in mortgage banking operations.
The Bank sold its majority ownership in Foundation Title Company, LLC at the end
of November 2005 after deciding to exit the title insurance business. As
discussed in note 3, on January 28, 2005 the Company completed the sale of its
entire interest in its majority owned subsidiary, Citizens Financial Bank, Inc.
("Citizens").
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
the Bank. All significant inter-company accounts and transactions have been
eliminated in consolidation. The financial position and results of operations of
Citizens were removed from the detail line items in the Company's financial
statements and presented separately as "subsidiary held for disposal."
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Material estimates that are particularly susceptible to significant change
relate to the determination of the allowance for loan losses and goodwill
impairment. In connection with the determination of the allowance for loan
losses, management obtains independent appraisals for significant properties.
Cash Equivalents
The Company considers all liquid investments with original maturities of three
months or less to be cash equivalents.
Securities
Available-for-sale securities, which include any security for which the Company
has no immediate plan to sell, but which may be sold in the future, are carried
at fair value. Unrealized gains and losses are recorded, net of related income
tax effects, in other comprehensive income.
Held-to-maturity securities, which include any security for which the Company
has the positive intent and ability to hold until maturity, are carried at
historical cost adjusted for amortization of premiums and accretion of
discounts.
Amortization of premiums and accretion of discounts are recorded as interest
income from securities. Realized gains and losses are recorded as net security
gains (losses). Gains and losses on sales of securities are determined on the
specific-identification method.
Mortgage Banking Activities
Mortgage loans originated and intended for sale in the secondary market are
carried at the lower of aggregate cost or market value. To deliver closed loans
to the secondary market and to control its interest rate risk prior to sale, the
Company enters into "best efforts" contracts. The aggregate market value of
mortgage loans held for sale considers the price of the sales contracts. No
servicing is retained on loans sold into the secondary market.
Loans
Loans that management has the intent and ability to hold for the foreseeable
future or until maturity or payoffs are reported at their outstanding principal
balances adjusted for any charge-offs, the allowance for loan losses, any
deferred fees or costs on originated loans and unamortized premiums or discounts
on purchased loans. Interest income is reported on the interest method and
includes amortization of net deferred loan fees and costs over the loan term.
Generally, loans are placed on nonaccrual status at 90 days past due and
interest is considered a loss unless the loan is well-secured and in the process
of collection.
Allowance for Loan Losses
The allowance for loan losses is established as losses are estimated to have
occurred through a provision for loan losses charged to income. Loan losses are
charged against the allowance when management believes the uncollectibility of a
loan balance is confirmed. Subsequent recoveries, if any, are credited to the
allowance.
The allowance for loan losses is evaluated on a regular basis by management and
is based upon management's periodic review of the collectibility of the loans in
light of historical experience, the nature and volume of the loan portfolio,
adverse situations that may affect the borrower's ability to repay, estimated
value of any underlying collateral and prevailing economic conditions. This
evaluation is inherently subjective as it requires estimates that are
susceptible to significant revisions as more information becomes available.
A loan is considered impaired when, based on current information and events, it
is probable that the Company will be unable to collect the scheduled payments of
principal or interest when due according to the contractual terms of the loan
agreement. Factors considered by management in determining impairment include
payment status, collateral value and the probability of collecting scheduled
principal and interest payments when due. Loans that experience insignificant
payment delays and payment shortfalls generally are not classified as impaired.
Management determines the significance of payment delays and payment shortfalls
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
reasons for the delay, the borrower's prior payment record and the amount of the
shortfall in relation to the principal and interest owed. Impairment is measured
on a loan-by-loan basis for commercial and construction loans by either the
present value of expected future cash flows discounted at the loan's effective
interest rate, the loan's observable market price or the fair value of the
collateral if the loan is collateral dependent.
Large groups of smaller balance homogeneous loans are collectively evaluated for
impairment. Accordingly, the Company does not separately identify individual
consumer and residential loans for impairment.
Premises and Equipment
Depreciable assets and leasehold improvements are stated at cost less
accumulated depreciation. Depreciation is charged to expense using the
straight-line method over the estimated useful lives of the assets which
generally range from 5 to 39 years for buildings and related components and from
3 to 10 years for furniture, fixtures and equipment.
Federal Home Loan Bank Stock
Federal Home Loan Bank ("FHLB") stock is a required investment for institutions
that are members of the FHLB system. The required investment in the common stock
is based on a predetermined formula and is carried at cost.
Bank Owned Life Insurance
The Bank has purchased life insurance policies on certain key executives.
Company owned life insurance is recorded at its cash surrender value.
Goodwill
Goodwill is tested for impairment annually (as of the end of the third quarter)
or more often if events or circumstances, such as adverse changes in the
business climate, indicate there may be impairment. If the implied fair value
of goodwill is lower than its carrying amount, goodwill impairment is indicated
and goodwill is written down to its implied fair value. Subsequent increases in
goodwill value are not recognized in the consolidated financial statements.
Treasury Stock
Treasury stock is stated at cost. Cost is determined by the average cost method.
Stock Options
The Company has two stock-based employee compensation plans ("Plans"), which are
described more fully in note 16. Prior to January 1, 2006, as permitted by
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS No. 123"), the Company followed the provisions of
Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees," and related Interpretations in accounting for its stock option plans
under the intrinsic value based method. Accordingly, no stock-based compensation
expense was recognized for the year ended December 31, 2005 for stock options
issued under the plans as all stock options granted under the plans had an
exercise price equal to the market value of the underlying common stock on the
date of grant. The following table illustrates the effect on net income and
basic and diluted net income per share had compensation expense been determined
based on the fair value of the stock options at the grant date consistent with
the provisions of SFAS No. 123 (in thousands except per share data):
Year ended
December 31,
2005
----
Net income as reported $4,481
Less total stock-based employee
compensation expense (including
forfeitures of $65) determined under
fair value method for all awards, net of
related tax effects (47)
------
Pro forma net income $4,528
======
Basic net income per share
As reported $2.37
Pro forma 2.40
Diluted net income per share
As reported $2.32
Pro forma 2.35
The weighted average fair value of stock options granted in 2007, 2006 and 2005
was $4.45, $4.87 and $6.65, respectively, and was estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions:
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Risk-free interest rate 4.82% 4.72% 4.17%
Dividend yield 1.94% 1.80% 1.69%
Volatility factor 22% 22% 27%
Expected term of options (in years) 7 7 10
In December 2004, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards No.123R, "Share-Based
Payment" ("SFAS 123R"). This Statement requires expensing of stock options and
other share-based payments over the related vesting period and supersedes FASB's
earlier rule (the original SFAS 123) that had allowed companies to choose
between expensing stock options and showing pro forma disclosure only. SFAS 123R
permits companies to adopt its requirements using either a "modified
prospective" method, or a "modified retrospective" method. Under the "modified
prospective" method, compensation cost is recognized in the financial statements
beginning with the effective date, based on the requirements of SFAS 123R for
all share-based payments granted after that date, and based on the requirements
of SFAS 123 for all unvested awards granted prior to the effective date of SFAS
123R. Under the "modified retrospective" method, the requirements are the same
as under the "modified prospective" method but this method also permits entities
to restate financial statements of previous periods based on proforma
disclosures made in accordance with SFAS 123. Beginning in January 2006, the
Company adopted the Statement as required and elected the "modified prospective"
method and thus has not restated prior financial statements. For the year ended
December 31, 2007 and 2006, the Company recorded $60,000 and $40,000,
respectively, in employee stock-based compensation expense, which is included in
salaries and employee benefits. As of December 31, 2007 and 2006, there was
$24,000 and $22,000, respectively, of unrecognized stock-compensation expense
for previously granted unvested options that will be recognized for both years
over a weighted-average period of 1.4 years.
Income Taxes
Income tax expense is the total of the current year income tax due or refundable
and the change in deferred tax assets and liabilities. Deferred tax assets and
liabilities are the expected future tax amounts for the temporary differences
between carrying amounts and tax bases of assets and liabilities, computed using
enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets
to the amount expected to be realized.
The Company adopted FASB Interpretation No. 48, "Accounting for Uncertainty in
Income Taxes - an interpretation of FASB Statement No. 109" ("FIN 48"), as of
January 1, 2007. A tax position is recognized as a benefit only if it is "more
likely than not" that the tax position would be sustained in a tax examination,
with a tax examination being presumed to occur. The amount recognized is the
largest amount of tax benefit that is greater than 50% likely of being realized
on examination. For tax positions not meeting the "more likely than not" test,
no tax benefit is recorded. The adoption had no affect on the Company's
financial statements.
The Company records interest related to income tax matters as other interest
expense and penalties related to income tax matters as other noninterest
expense.
Employee Stock Ownership Plan ("ESOP")
The cost of shares issued to the ESOP, but not yet allocated to participants, is
shown as a reduction to stockholders' equity. Compensation expense is based on
the market price of shares as they are committed to be released to participant
accounts. Dividends on allocated ESOP shares reduce retained earnings; dividends
on unearned ESOP shares reduce debt and accrued interest. Effective January 1,
2006, the ESOP was combined with the Company's 401(k) plan and now a portion of
the released shares are used as the Company's 401(k) match.
Net Income Per Share
Net income per share has been computed based upon the weighted-average common
shares outstanding during each year. Unearned ESOP shares have been excluded
from the computation of average shares outstanding.
Comprehensive Income
Comprehensive income consists of net income and other comprehensive income.
Other comprehensive income includes unrealized gains and losses on securities
available for sale, which are recognized as a separate component of equity.
Recently Issued Accounting Standards
In September 2006, the FASB issued Statement of Financial Accounting Standards
No. 157, "Fair Value Measurements," ("SFAS 157") which is effective for fiscal
years beginning after November 15, 2007 and for interim periods within those
years. SFAS 157 defines fair value, establishes a framework for measuring fair
value and expands the related disclosure requirements. This Statement applies
under other accounting pronouncements that require or permit fair value
measurements. The Statement indicates, among other things, that a fair value
measurement assumes that the transaction to sell an asset or transfer a
liability occurs in the principal market for the asset or liability or, in the
absence of a principal market, the most advantageous market for the asset or
liability. SFAS 157 defines fair value based upon an exit price model. Relative
to SFAS 157, the FASB proposed FASB Staff Positions (FSP) 157-a, 157-b, and
157-c. FSP 157-a amends SFAS 157 to exclude Financial Accounting Standards No.
13, "Accounting for Leases," and its related interpretive accounting
pronouncements that address leasing transactions, while FSP 157-b delays the
effective date of SFAS 157 for all nonfinancial assets and nonfinancial
liabilities, except those that are recognized or disclosed at fair value in the
financial statements on a recurring basis. FSP 157-c clarifies the principles in
SFAS 157 on the fair value measurement of liabilities. Public comments on FSP
157-a and 157-b were due in January 2008, while public comments on FSP 157-c
were due in February 2008. Based upon pronouncements issued to date, the Company
has determined that the adoption of this Standard will not have a material
impact on the Company's financial position, results of operations or cash
flows.
In February 2007, the FASB issued Statement of Financial Accounting Standards
No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities"
("SFAS 159"), which permits entities to choose to measure many financial
instruments and certain other items at fair value. The objective is to improve
financial reporting by providing entities with the opportunity to mitigate
volatility in reported earnings caused by measuring related assets and
liabilities using different measurement techniques. SFAS 159 requires additional
disclosures related to the fair value measurements included in the entity's
financial statements. This Statement is effective for financial statements
issued for fiscal years beginning after November 15, 2007. Accordingly, the
Company will adopt SFAS 159 in the first quarter of 2008. The Company has
determined that the adoption of this Standard will not have a material impact on
the Company's financial position, results of operations or cash flows.
In December 2007, the FASB issued Statement of Financial Accounting Standards
No. 141 (revised 2007), "Business Combinations" ("SFAS 141(R)"), which replaces
Statement of Financial Accounting Standards No. 141, "Business Combinations"
("SFAS 141"). SFAS 141(R) retains the underlying concepts of SFAS 141 in that
all business combinations are still required to be accounted for at fair value
under the acquisition method of accounting but SFAS 141(R) changed the method of
applying the acquisition method in a number of significant aspects. Acquisition
costs will generally be expensed as incurred; noncontrolling interests will be
valued at fair value at the acquisition date; in-process research and
development will be recorded at fair value as an indefinite-lived intangible
asset at the acquisition date; restructuring costs associated with a business
combination will generally be expensed subsequent to the acquisition date; and
changes in deferred tax asset valuation allowances and income tax uncertainties
after the acquisition date generally will affect income tax expense. SFAS 141(R)
is effective on a prospective basis for all business combinations for which the
acquisition date is on or after the beginning of the first annual period
subsequent to December 15, 2008, with the exception of the accounting for
valuation allowances on deferred taxes and acquired tax contingencies. SFAS
141(R) amends SFAS 109 such that adjustments made to valuation allowances on
deferred taxes and acquired tax contingencies associated with acquisitions that
closed prior to the effective date of SFAS 141(R) would also apply the
provisions of SFAS 141(R). Early adoption is not permitted. The Company is
currently evaluating the potential impact this Statement may have on the
Company's future financial position, results of operations and cash flows.
In December 2007, the FASB issued Statement of Financial Accounting Standards
No. 160, "Noncontrolling Interests in Consolidated Financial Statements--an
amendment of ARB No. 51." ("SFAS 160"). SFAS 160 is effective for fiscal years,
and interim periods within those fiscal years, beginning on or after December
15, 2008, with earlier adoption prohibited. The Statement requires the
recognition of a noncontrolling interest (minority interest) as equity in the
consolidated financial statements and separate from the parent's equity. The
amount of net income attributable to the noncontrolling interest will be
included in consolidated net income on the face of the income statement. The
Statement also amends certain of ARB No. 51's consolidation procedures for
consistency with the requirements of SFAS 141(R). This Statement also includes
expanded disclosure requirements regarding the interests of the parent and its
noncontrolling interest. The Company is currently evaluating the potential
impact this Statement may have on the Company's financial position, results
of operations and cash flows, but does not believe the impact of the adoption
will be material.
Reclassifications
Certain prior year amounts have been reclassified to conform with current
classifications. These reclassifications had no effect on net income.
2. Restrictions on Cash and Due from Banks
The Bank is required by law to maintain average reserve balances, in the form of
vault cash and non-interest bearing balances with the Federal Reserve Bank,
against a percentage of certain deposit liabilities. The reserve required was
approximately $4,945,000 and $2,252,000 at December 31, 2007 and 2006,
respectively.
3. Completion of Subsidiary Disposal
On January 28, 2005 the Company completed the sale of its entire interest in its
majority owned subsidiary, Citizens Financial Bank, Inc., to Porter Bancorp,
Inc. for $2.3 million, pursuant to a Stock Purchase Agreement, dated as of
October 22, 2004, between Porter Bancorp, Inc. and the Company. In accordance
with Financial Accounting Standard No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets", the financial position and results of operations
of Citizens prior to the sale were removed from the detail line items in the
Company's financial statements and presented separately as "subsidiary held for
disposal."
In a related transaction, on January 28, 2005, the Company's subsidiary bank,
1st Independence Bank, Inc., purchased a commercial building located in
Louisville, Kentucky, for $2.3 million from Ascencia Bank, Inc., an affiliate of
Porter Bancorp, Inc.
4. Securities
The amortized cost and approximate fair value of securities are as follows (in
thousands):
Gross Gross
Amortized Unrealized Unrealized Approximate
Cost Gains (Losses) Fair Value
----------- ------------ ------------ -------------
Available-for-sale securities
December 31, 2007
U.S. government agencies $ - $ - $ - $ -
State and municipal 2,448 18 (10) 2,456
Mortgage-backed 12,513 100 (24) 12,589
------- ---- ----- -------
$14,961 $118 $ (34) $15,045
======= ==== ===== =======
December 31, 2006
U.S. government agencies $ 1,999 $ - $ (14) $ 1,985
State and municipal 2,638 20 (17) 2,641
Mortgage-backed 11,892 30 (127) 11,795
------- ---- ----- -------
$16,529 $ 50 $(158) $16,421
======= ==== ===== =======
Held-to-maturity securities
December 31, 2007
State and municipal $ 1,745 $ 20 $ (15) $ 1,750
Mortgage-backed - - - -
------- ---- ----- -------
$ 1,745 $ 20 $ (15) $ 1,750
======= ==== ===== =======
December 31, 2006
State and municipal $ 1,900 $ 54 $ (24) $ 1,930
Mortgage-backed - - - -
------- ---- ----- -------
$ 1,900 $ 54 $ (24) $ 1,930
======= ==== ===== =======
The amortized cost and approximate fair value of available-for-sale securities
and held-to-maturity securities at December 31, 2007, by contractual maturity,
are shown in the following table (in thousands). Expected maturities will differ
from contractual maturities because issuers may have the right to call or prepay
obligations with or without call or prepayment penalties.
Available for Sale Held to Maturity
--------------------------- ---------------------------
Amortized Approximate Amortized Approximate
Cost Fair Value Cost Fair Value
--------- ------------ ----------- ------------
Due within one year $ - $ - $ 40 $ 40
Due after one year through five years - - 15 15
Due after five years through ten years 1,012 1,004 1,443 1,445
Due after ten years 1,436 1,452 247 250
Mortgage-backed securities 12,513 12,589 - -
------- ------- ------ ------
$14,961 $15,045 $1,745 $1,750
======= ======= ====== ======
The approximate fair value of available-for-sale securities pledged as
collateral to secure public deposits and for other purposes, was $3,352,000 and
$3,312,000 at December 31, 2007 and 2006, respectively.
Gross gains of $1,000 and no gross losses resulting from early calls of
available-for-sale securities were realized for the year ended December 31, 2007
and gross gains of $5,012,000 and gross losses of $129,000 resulting from sales
of available-for-sale securities were realized for the year ended December 31,
2005. There were no sales of securities for the year ended December 31, 2006.
The following table is a summary of investment securities with gross unrealized
losses at December 31, 2007 and December 31, 2006, aggregated by investment
category and length of time that individual securities have been in a continuous
unrealized loss position (in thousands):
Less than 12 months 12 months or longer Total
------------------- ------------------- -----------------------
Unrealized Unrealized Unrealized
Fair Value Losses Fair Value Losses Fair Value Losses
---------- ---------- ---------- ---------- ---------- ----------
December 31, 2007
U.S. government agencies $ - $ - $ - $ - $ - $ -
State and municipal - - 1,074 (25) 1,074 (25)
Mortgage-backed 54 - 4,296 (24) 4,350 (24)
------ --- ------- ----- ------- -----
Total temporarily impaired $ 54 $ - $ 5,370 $ (49) $ 5,424 $ (49)
====== === ======= ===== ======= =====
December 31, 2006
U.S. government agencies $ 998 $(1) $ 987 $ (13) $ 1,985 $ (14)
State and municipal - - 2,757 (41) 2,757 (41)
Mortgage-backed 1,373 (5) 8,386 (122) 9,759 (127)
------ --- ------- ----- ------- -----
Total temporarily impaired $2,371 $(6) $12,130 $(176) $14,501 $(182)
====== === ======= ===== ======= =====
These declines primarily resulted from recent increases in market interest rates
and failure of certain investments to maintain consistent credit quality
ratings.
Based on evaluation of available evidence, including recent changes in market
interest rates, credit rating information and information obtained from
regulatory filings, management believes the declines in fair value for these
securities are temporary.
Should the impairment of any of these securities become other than temporary,
the cost basis of the investment will be reduced and the resulting loss
recognized in net income in the period the other-than-temporary impairment is
identified.
5. Loans and Allowance for Loan Losses
The composition of the loan portfolio at each of the dates indicated was as
follows (in thousands):
December 31, December 31,
2007 2006
---- ----
Residential real estate $108,557 $121,216
Commercial real estate 60,357 49,943
Commercial 25,092 20,393
Construction 64,710 64,244
Consumer 4,563 4,401
Home equity 12,309 14,026
-------- --------
Total loans 275,588 274,223
Less allowance for loan losses 7,140 3,745
-------- --------
Net loans $268,448 $270,478
======== ========
Activity in the allowance for loan losses was as follows (in thousands):
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Balance at the beginning of period $3,745 $2,911 $2,549
Provision for loan losses 4,584 847 354
Loans charged off (1,198) (17) (11)
Recoveries on loans 9 4 19
------ ------ ------
Balance at end of period $7,140 $3,745 $2,911
====== ====== ======
Impaired loans were as follows (in thousands):
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Impaired loans at end of period $6,321 $3,398 $514
Impaired loans at end of period with
allowance allocated 5,424 3,351 448
Allowance allocated for impaired loans 840 610 128
Average impaired loans during the period 3,930 3,372 511
Interest income recognized during the period 334 114 19
Interest income received during the period 202 114 18
Nonperforming loans were as follows (in thousands):
December 31, December 31,
2007 2006
---- ----
Loans past due 90 days or more
and still on accrual $ 151 $ 31
Nonaccrual loans 6,269 3,698
------ ------
Total nonperforming loans $6,420 $3,729
====== ======
Loans held for sale activity is as follows (in thousands):
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Balance at the beginning of period $ 1,227 $ 1,278 $ 2,344
Origination of loans held for sale 47,714 46,830 60,408
Sales proceeds (46,945) (47,773) (62,515)
Gain on sales of loans 878 892 1,041
------- ------- -------
Balance at end of period $ 2,874 $ 1,227 $ 1,278
======= ======= =======
In conjunction with the mortgage banking activities, the Company enters into
commitments to originate and commitments to sell loans, both of which are
considered derivatives. The Company's commitments are generally for fixed rate
mortgage loans, lasting 45 days and are at market rates when initiated. The
Company had commitments to originate $3,122,000 and $5,773,000 in loans as of
December 31, 2007 and 2006, respectively, which it intends to sell.
6. Premises and Equipment
A summary of premises and equipment follows (in thousands):
December 31, December 31,
2007 2006
---- ----
Land $ 1,487 $ 1,487
Buildings and improvements 6,456 6,473
Furniture, fixtures and equipment 3,028 2,598
Construction in progress - 63
------- -------
10,971 10,621
Less accumulated depreciation 3,017 2,299
------- -------
Net premises and equipment $ 7,954 $ 8,322
======= =======
Depreciation expense was $719,000, $716,000 and $613,000 for the year ended
December 31, 2007, 2006 and 2005, respectively.
7. Goodwill and Intangible Assets
During November 2007, the Company performed its annual impairment test of
goodwill as of September 30, 2007 with no indication of any impairment. Even
though the Company determined there was no goodwill impairment as of September
30, 2007, the future occurrence of a potential indicator of impairment being the
more-likely-than-not-expectation that the Company will be sold (see note 22 for
more information) required the Company to perform an interim assessment. The
fair value of the Company was determined based on a weighted distribution of
values derived from the following different approaches: asset value method,
earnings value method, transaction value method, and acquisition analysis. The
Company then calculated the fair value of its net assets (assets less
liabilities) which was greater than the fair value of the Company. As such, the
fair value of the Company was not sufficient to support the goodwill and
resulted in a goodwill impairment charge of $2,856,000 recorded effective
December 31, 2007. The change in the carrying amount of goodwill is as follows
(in thousands):
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Balance at the beginning of period $11,142 $11,142 $11,142
Impairment (2,856) - -
------- ------- -------
Balance at end of period $ 8,286 $11,142 $11,142
======= ======= =======
The Company also has a core deposit intangible of $258,000 that was recorded in
2004 relating to an acquisition. The amount is being amortized over eight years
using an accelerated method. Net core deposit intangible is as follows (in
thousands):
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Core deposit intangible $258 $258 $258
Less accumulated amortization 165 125 78
---- ---- ----
Net core deposit intangible $ 93 $133 $180
==== ==== ====
Estimated amortization expense for each of the next five years follows (in
thousands):
2008 $33
2009 26
2010 19
2011 11
2012 4
8. Leases
A lease was entered into in December 2000 to lease an office facility which is
now the Bank's New Albany, Indiana branch from an entity owned by the Company's
Chairman of the Board of Directors under an operating lease for 15 years. Base
monthly rentals are currently $11,239, with the next increase in January 2011
equal to the percentage increase in the U. S. Consumer Price Index - All Urban
Consumers ("CPI-U") for the prior five-year period. The Company may purchase the
facility at any time for $1,187,000, plus an increase equal to the percentage
increase in the CPI-U from January 1, 2001, until the month of purchase.
A lease was entered into in December 2001 to lease an office building for the
Bank's Jeffersonville, Indiana branch. This three year operating lease was from
January 1, 2002, through year-end 2004 with three three-year renewal options. In
March 2005, the Bank exercised its option to purchase the facility for $322,000.
A lease was entered into in August 2002 to lease an office facility for the
Bank's mortgage banking operations. This three year operating lease was from
August 1, 2002, to July 31, 2005, with a two-year renewal option. Monthly
payments were $2,200, $2,300 and $2,400 through July 2003, 2004 and 2005,
respectively. The Bank moved its mortgage banking operations to a building that
was purchased in 2005 by the Bank and did not renew this lease.
A lease was entered into in April 2003 to lease an office building for the
Bank's St. Matthews, Kentucky branch. This 15-year operating lease is from May
1, 2003, through April 30, 2018, with a five-year renewal option. Monthly
payments are $4,000, $4,500, $5,000, $6,500 and $8,000 through April 2005, 2007,
2009, 2013 and 2018, respectively.
A lease was entered into in May 2004 to lease an office facility for the Bank's
Clarksville, Indiana branch from an entity owned by the Company's Chairman of
the Board of Directors under an operating lease starting in October 2004 for 15
years. In March 2006 that entity sold the office facility to an unrelated third
party which assumed the lease arrangement. The lease contains a provision for
additional rent in addition to the base rent for common area expenses. This
common area expense rent adjusts annually based upon the actual expenses paid by
the landlord. Monthly payments are $5,236, $5,603 and $6,302 through September
2009, 2014 and 2019, respectively.
Rent expense for operating leases was $313,000, $260,000 and $267,000 for the
year ended December 31, 2007, 2006 and 2005, respectively. Rent expense paid to
related parties was $139,000, $140,000 and $181,000 for the year ended December
31, 2007, 2006 and 2005, respectively. Rent commitments under noncancelable
operating leases at December 31, 2007 were as follows, before considering
renewal options (in thousands):
2008 $264
2009 277
2010 286
2011 286
2012 286
Thereafter 1,406
------
$2,805
======
9. Interest-bearing deposits
Interest-bearing time deposits in denominations of $100,000 or more were
$70,506,000, $60,929,000 and $68,962,000 on December 31, 2007, 2006 and 2005,
respectively. Time deposits include $38,161,000, $23,724,000 and $59,618,000 of
brokered deposits at December 31, 2007, 2006 and 2005, respectively.
At December 31, 2007, the scheduled maturities of time deposits are as follows
(in thousands):
2008 $126,605
2009 7,241
2010 1,514
2011 383
2012 1,162
Thereafter 125
--------
$137,030
========
10. Short-term Borrowings
Short-term borrowings were as follows (in thousands):
December 31, December 31,
2007 2006
---- ----
Securities sold under agreements to repurchase $ 1,011 $ 1,526
Single maturity FHLB advance with variable
rate of 4.42% and maturity date of March
19, 2008 25,000 -
Single maturity FHLB advance with fixed
rate of 5.25% and maturity date of February
29, 2008 10,000 -
Single maturity FHLB advance with variable
rate of 5.44% and maturity date of March
21, 2007 - 15,000
Single maturity FHLB advance with variable
rate of 5.44% and maturity date of March
21, 2007 - 15,000
Single maturity FHLB advance with variable
rate of 5.44% and maturity date of February
16, 2007 - 5,000
Single maturity FHLB advance with variable
rate of 4.33% and maturity date of March
22, 2006 - -
------- -------
$36,011 $36,526
======= =======
Securities sold under agreements to repurchase consist of obligations of the
Bank to other parties. The obligations are secured by the underlying securities
and such collateral is held by First Tennessee Bank. The maximum amount of
outstanding agreements at any month end during the year ended December 31, 2007,
2006 and 2005, totaled $1,291,000, $1,526,000 and $747,000, respectively, and
the average of such agreements totaled $859,000, $912,000 and $514,000 for the
year ended December 31, 2007, 2006 and 2005, respectively. The agreements at
December 31, 2007, mature within one to three days.
The Company had a $2.5 million line of credit with an unaffiliated institution
that the Company elected to cancel in January 2006. The Company had never
borrowed against the line of credit.
11. Long-term Debt
Long-term debt was as follows (in thousands):
December 31, December 31,
2007 2006
---- ----
FHLB advance with fixed rate of 5.20% with
maturity date of March 7, 2011 $ 1,000 $ 1,000
FHLB advance with fixed rate of 5.16% with
maturity date of May 30, 2008 10,000 -
FHLB advance with fixed rate of 1.95% with
maturity date of June 9, 2006 - -
Subordinated debentures 9,279 9,279
------- -------
$20,279 $10,279
======= =======
The FHLB advances shown here and in note 10 are secured by qualifying first
mortgage loans; the minimum balance required was approximately $57,500,000,
$45,000,000 and $27,800,000 at December 31, 2007, December 31, 2006 and
December 31, 2005, respectively. The advances are subject to restrictions or
penalties in the event of prepayment.
Aggregate annual maturities of FHLB borrowings at December 31, 2007, were (in
thousands):
2008 $10,000
2011 1,000
The subordinated debentures relate to transactions entered into as part of the
formation of two separate trusts in 2003. One trust (Harrodsburg Statutory Trust
I) was formed by the Company and the other trust (Independence Bancorp Statutory
Trust I) was formed by Independence Bancorp and acquired by the Company as part
of the acquisition of Independence. Both trusts were formed to issue trust
preferred securities as part of pooled offerings. The Company issued $5,155,000
of subordinated debentures and Independence issued $4,124,000 of subordinated
debentures to the respective trusts in exchange for the proceeds of the
offerings. Issuance costs are being amortized over the life of the preferred
securities. Distributions on each issue are paid quarterly on March 26, June 26,
September 26 and December 26 of each year.
The subordinated debentures, which mature March 26, 2033, are redeemable prior
to the maturity date at the option of the Company on or after March 26, 2008 at
their principal amount plus accrued interest. As defined in the trust
indentures, the prepayment would require prior approval of the Board of
Governors of the Federal Reserve System. The Company also has the option to
defer interest payments on the subordinated debentures from time to time for a
period not to exceed twenty consecutive quarters. If payments are deferred, the
Company is prohibited from paying dividends to its common stockholders.
The $5,155,000 subordinated debentures bear interest at 6.4% through March 26,
2008 and thereafter a variable rate with repricing quarterly based on the
three-month London Interbank Offering Rate ("LIBOR") plus 3.15%. The $4,124,000
subordinated debentures bear interest at a variable rate repricing quarterly
based on the three-month LIBOR plus 3.15%. At December 31, 2007 that rate was
8.01%.
12. Income Taxes
The provision for income taxes includes these components (in thousands):
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Current $ 205 $1,183 $2,270
Deferred (1,401) (395) 3
------- ------ ------
Income tax expense (benefit) $(1,196) $ 788 $2,273
======= ====== ======
A reconciliation of income tax expense at the statutory rate to the Company's
actual income tax expense is shown below (in thousands):
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Computed at the statutory rate of 34% $(2,029) $928 $2,296
Increase (decrease) resulting from:
State income taxes (56) 48 97
Tax exempt interest (93) (97) (79)
Goodwill impairment 971 - -
Nondeductible expenses 8 15 13
Compensation expense on
stock options 21 14 -
Increase in cash surrender
value of life insurance (72) (68) (64)
Other 54 (52) 10
------- ---- ------
Income tax expense (benefit) $(1,196) $788 $2,273
======= ==== ======
The significant components of deferred tax assets and liabilities are reflected
in the following table (in thousands):
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Deferred tax assets
Allowance for loan losses $ 2,508 $1,288 $ 971
ESOP liability 23 35 57
Deferred loan fees 192 230 283
Transaction costs 33 35 35
Accrued expenses 101 27 -
Building donation 92 92 90
Unrealized losses on available-for-sale securities - 37 71
Tax credit carryforward 20 - -
Other 13 22 4
------- ------ ------
Total deferred tax assets 2,982 1,766 1,511
------- ------ ------
Deferred tax liabilities
Depreciation 254 322 386
Federal Home Loan Bank stock dividends 580 580 532
Core deposit intangible 33 48 64
Fair market value adjustments 1 67 141
Unrealized gains on available-for-sale securities 29 - -
Other 2 1 1
------- ------ ------
Total deferred tax liabilities 899 1,018 1,124
------- ------ ------
Net deferred tax (assets) liabilities $(2,083) $ (748) $ (387)
======= ====== ======
Retained earnings at December 31, 2007, December 31, 2006 and December 31, 2005,
include approximately $2,135,000 for which no deferred federal income tax
liability has been recognized. This amount represents an allocation of income to
bad debt deductions for tax purposes only. Reduction of amounts so allocated for
purposes other than tax bad debt losses or adjustments arising from carryback of
net operating losses would create income for tax purposes only, which would be
subject to the then-current corporate income tax rate. The deferred income tax
liabilities on the preceding amounts that would have been recorded if they were
expected to reverse into taxable income in the foreseeable future were
approximately $726,000 at December 31, 2007, December 31, 2006 and December 31,
2005.
The Company does not have any beginning and ending unrecognized tax benefits.
The Company does not expect the total amount of unrecognized tax benefits to
significantly increase or decrease in the next twelve months.
There were no interest and penalties recorded in the consolidated statement of
income or accrued for the year ended December 31, 2007 related to unrecognized
tax benefits.
The Company and its subsidiaries file a consolidated U.S. Corporation income tax
return, a combined unitary return in the state of Indiana and a corporate income
tax return in the state of Kentucky. The Company is no longer subject to
examination by taxing authorities for years before 2004. A federal examination
audit of the tax year 2004 was completed in 2006 with no material adjustments.
13. Capital Requirements and Restrictions on Retained Earnings
Banks and holding companies are subject to regulatory capital requirements
administered by federal banking agencies. Capital adequacy guidelines and,
additionally for banks, prompt corrective action regulations involve
quantitative measures of assets, liabilities and certain off-balance-sheet items
calculated under regulatory accounting practices. Capital amounts and
classifications are also subject to qualitative judgments by regulators. Failure
to meet capital requirements can initiate regulatory action.
Prompt corrective action regulations provide five classifications: well
capitalized, adequately capitalized, undercapitalized, significantly
undercapitalized and critically undercapitalized, although these terms are not
used to represent overall financial condition. If adequately capitalized,
regulatory approval is required to accept brokered deposits. If
undercapitalized, capital distributions are limited, as is asset growth and
expansion, and capital restoration plans are required.
At year-end 2007, the Bank was considered well capitalized under these
regulations. Actual and required capital amounts and ratios are presented below
(in thousands except ratios).
To Be Well
Capitalized Under
For Capital Adequacy Prompt Corrective
Actual Purposes Action Provisions
----------------- ------------------ ------------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
As of December 31, 2007
Total capital (to risk-weighted assets)
Consolidated $39,158 14.5% $21,684 8.0% $ N/A N/A%
Bank 37,586 13.9 21,666 8.0 27,082 10.0
Tier 1 capital (to risk-weighted
assets)
Consolidated 35,724 13.2 10,842 4.0 N/A N/A
Bank 34,154 12.6 10,833 4.0 16,249 6.0
Tier 1 capital (to average assets)
Consolidated 35,724 10.5 13,576 4.0 N/A N/A
Bank 34,154 10.1 13,557 4.0 16,946 5.0
As of December 31, 2006
Total capital (to risk-weighted assets)
Consolidated $41,233 15.9% $20,800 8.0% $ N/A N/A%
Bank 38,200 14.7 20,767 8.0 25,958 10.0
Tier 1 capital (to risk-weighted
assets)
Consolidated 37,977 14.6 10,400 4.0 N/A N/A
Bank 34,949 13.5 10,383 4.0 15,575 6.0
Tier 1 capital (to average assets)
Consolidated 37,977 11.6 13,144 4.0 N/A N/A
Bank 34,949 10.7 13,099 4.0 16,374 5.0
The Bank is subject to certain regulations on the amount of dividends it may
declare without prior regulatory approval. Under these regulations, the amount
of dividends that may be paid in any year is limited to that year's net profits,
as defined, combined with the retained net profits of the preceding two years,
less dividends declared during those periods. The Company's ability to pay
dividends is substantially determined by the Bank's ability to pay dividends to
the Company. At January 1, 2008, the Bank was no longer able to pay dividends to
the Company without regulatory approval due to the net loss incurred in the Bank
in the fourth quarter of 2007 primarily due to the substantial increase in the
provision for loan losses and the goodwill impairment charge. At January 1, 2008
the Bank's retained net losses, less dividends declared during the preceding two
years was approximately $1,279,000.
14. Related Party Transactions
Loans to executive officers and directors, including loans to affiliated
companies of which executive officers and directors are principal owners, and
loans to members of the immediate family of such persons are summarized as
follows (in thousands):
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Balance at beginning of period $ 6,925 $9,983 $5,397
Chnages in composition of related
parties - - 4,308
New loans, including renewals and
advances 4,473 2,019 4,026
Payments, including renewals (1,354) (5,077) (3,748)
------- ------ ------
Balance at end of period $10,044 $6,925 $9,983
======= ====== ======
In management's opinion, such loans and other extensions of credit and deposits
were made in the ordinary course of business and were made on substantially the
same terms (including interest rates and collateral) as those prevailing at the
time for comparable transactions with other persons. Further, in management's
opinion, these loans did not involve more than normal risk of collectibility or
present other unfavorable features.
Deposits from related parties held by the Bank at December 31, 2007, December
31, 2006 and December 31, 2005, totaled $1,035,000, $1,016,000 and $839,000,
respectively.
Leases from related parties are disclosed in Note 8.
15. Employee Benefits
The Bank has a retirement savings 401(k) plan covering substantially all
employees. The plan allows employees to contribute up to 15% of their
compensation with 1st Independence Bank, which is matched at a discretionary
rate determined annually by the board of directors. Effective January 1, 2006,
the 401(k) plan was combined with the Company's ESOP plan and now a portion of
the released ESOP shares are used as the Company's 401(k) match. Employer
contributions charged to expense for 2007, 2006 and 2005 were $95,000, $88,000
and $91,000, respectively.
As part of the conversion of the Bank from the mutual to stock form of
ownership, in 1995 the Company established an employee stock ownership plan
("ESOP") covering substantially all employees of the Bank. The ESOP acquired
174,570 shares of Company common stock at $10 per share at the time of the
conversion with funds provided by a loan from the Company. Accordingly,
$1,745,700 of common stock acquired by the ESOP was shown as a reduction of
stockholders' equity. Shares are released to participants proportionately as the
loan is repaid. Dividends on allocated shares are recorded as dividends and
charged to retained earnings. Dividends on allocated and unallocated shares are
used to reduce the Bank's obligation to repay the loan and are treated as a
reduction in compensation expense. Compensation expense is recorded equal to the
fair market value of the stock as the shares are released for allocation.
ESOP expense for 2007, 2006 and 2005 was $197,000, $103,000 and $210,000,
respectively. The following table summarizes activity in the ESOP for the years
2007, 2006 and 2005.
2007 2006 2005
---- ---- ----
Allocated shares at beginning of year 129,477 120,563 119,925
Shares released for allocation during the year 12,533 8,914 10,941
Unearned shares at end of year 16,577 29,110 38,024
Less shares sold to fund distributions to
former employees during the year (3,130) - (10,303)
-------- -------- --------
Total ESOP shares at end of year 155,457 158,587 158,587
======== ======== ========
Fair value of unearned shares at end of year $159,471 $477,404 $703,444
======== ======== ========
16. Stock Incentives
The Company had two stock option plans, however the 1996 plan terminated on
January 28, 2007. The 1996 plan was a fixed option plan under which the Company
could grant options that vest over four years (20% immediate and 20% on each of
the next four anniversary dates) to selected employees and directors for up to
200,000 shares of common stock. The exercise price of each option was intended
to equal the fair value of the Company's stock on the date of grant. An option's
maximum term was 10 years. Under the plan's terms, no options could be granted
after January 28, 2007. At December 31, 2007, no options granted under the 1996
Plan were still outstanding.
In July 2004, the Company formed a second plan for up to 300,000 shares of the
Company's common stock. The plan allows for both incentive and non-qualified
options to be granted to selected employees and directors at the discretion of
the Company's board of directors, generally with ten year maturities and with a
three year vesting schedule (25% immediate and 25% on each of the next three
anniversary dates). Commensurate with the Company's acquisition of Independence
Bancorp, 60,300 options of Independence Bancorp were transferred into the plan
at their existing terms. At December 31, 2007, 210,700 options remain available
to be granted under this plan.
In addition to the two stock option plans described above, the Company has a
restricted stock plan that was approved by the stockholders of the Company in
2006. This plan superceded a previous restricted stock plan that had been
approved by the stockholders of the Company in 1997. The current restricted
stock plan allows for awards to selected employees for up to 80,500 shares of
the Company's common stock. Awards made to employees and directors under the
plan have a five year vesting schedule (20% on each of the five anniversary
dates following the date of grant). The Company expenses the restricted stock
awards over the years during which the shares vest based on the fair market
value of the common stock at the date of the grant to the employee or director.
As of December 31, 2007, 6,350 shares had been awarded and were still
outstanding under the current plan with 74,150 shares remaining available to be
awarded. The previous plan had 4,500 shares that had been awarded that were
still outstanding.
The following summarizes activity under the plans for the years 2005, 2006 and
2007:
Restricted
Options Stock
-------------------------------------------------- -------------
Range of
Exercise Weighted Average
Shares Prices Exercise Price Shares
---------- ---------------- ---------------- -----------
Outstanding December 31, 2004 252,300 $8.00 to $16.50 $14.58 -
Granted 10,000 $18.99 $18.99 2,000
Exercised (54,500) $8.00 to $16.50 $15.61 -
Forfeited (22,500) $13.50 to $18.99 $16.11 (500)
------- ------
Outstanding December 31, 2005 185,300 $8.00 to $18.99 $14.33 1,500
Granted 9,500 $17.75 $17.75 7,000
Exercised (51,500) $8.00 to $16.50 $13.60 -
Forfeited (10,750) $10.00 to $16.50 $16.41 -
------- ------
Outstanding December 31, 2006 132,550 $8.00 to $18.99 $14.69 8,500
Granted 16,500 $16.44 to $17.20 $16.48 2,750
Exercised - - - -
Forfeited (84,750) $16.44 to $17.75 $16.51 (400)
------- ------
Outstanding December 31, 2007 64,300 $8.00 to $18.99 $12.75 10,850
======= ======
(Weighted average contractual
life of 5.6 years)
Exercisable Options:
December 31, 2005 179,675 $8.00 to $18.99 $14.18
December 31, 2006 122,050 $8.00 to $18.99 $14.38
December 31, 2007 48,236 $8.00 to $18.99 $11.29
(Weighted average contractual
life of 4.6 years)
The aggregate intrinsic value (difference between the Company's closing stock
price on last trading day of the year and the exercise price, multiplied by the
number of stock options) of in-the-money stock options outstanding and
exercisable at December 31, 2007 and 2006 was $35,000 and $267,000,
respectively.
The following table summarizes information about stock options outstanding at
December 31, 2007:
Options Outstanding Options Exercisable
--------------------------------------------------- ---------------------------------
Weighted
Average Weighted Weighted
Range of Number Contractual Average Number Average
Exercise Prices Outstanding Life Exercise Price Exercisable Exercise Price
--------------- ----------- ---- -------------- ----------- --------------
$8.00 21,300 2.1 years $8.00 21,300 $8.00
$10.00 13,750 5.2 years $10.00 13,750 $10.00
$16.44 to $18.99 29,250 8.3 years $17.50 13,186 $17.96
------ ------
$8.00 to $18.99 64,300 5.6 years $12.75 48,236 $11.29
====== ======
The weighted average fair value of stock options granted in 2007, 2006 and 2005
was $4.45, $4.87 and $6.65, respectively. The total intrinsic value of stock
options (the amounts by which the stock price exceeded the exercise price of the
stock option on the date of exercise) exercised during 2006 and 2005 was
$198,000 and $214,000, respectively. There were no stock options exercised
during 2007. The total fair value of stock options vested during 2007, 2006 and
2005 was $42,000, $23,000 and $17,000, respectively.
Cash received from stock options exercised during 2006 and 2005 was $494,000
and $470,000, respectively. There were no stock options exercised in 2007.
The actual tax benefit realized for the tax deductions from the stock options
exercised during 2006 and 2005 was $44,000 and $31,000, respectively.
The following table summarizes the status of the Company's nonvested restricted
stock as of December 31, 2007 and changes during the year:
Weighted
Average
Number of Grant-Date
Shares Fair Value
--------- ----------
Restricted stock granted and not vested
at beginning of year 8,200 $17.79
Restricted stock granted during the year 2,750 $11.98
Restricted stock vested during the year (1,700) $17.83
Restricted stock forfeited during the year (400) $17.75
------
Total nonvested restricted stock at end of year 8,850 $15.97
======
17. Net Income Per Share Computations
The following is a reconciliation of the numerator and denominator of the basic
and diluted per share computations (in thousands except per share data):
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
---- ---- ----
Income (numerator) amounts used for basic and diluted per
share computations:
Income (loss) from continuing operations $(4,771) $1,940 $4,489
======= ====== ======
Income from discontinued operations $ - $ - $ 4
======= ====== ======
Net income (loss) $(4,771) $1,940 $4,481
======= ====== ======
Shares (denominator) used for basic per share computations:
Weighted average shares of common stock outstanding 1,970 1,941 1,889
===== ===== =====
Shares (denominator) used for diluted per share computations:
Weighted average shares of common stock outstanding 1,970 1,941 1,889
Plus: dilutive effect of stock options - 16 40
----- ----- -----
Adjusted weighted average shares 1,970 1,957 1,929
===== ===== =====
Basic net income (loss) per share:
Income (loss) from continuing operations $(2.42) $1.00 $2.38
Income from discontinued operations - - -
Net income (loss) (2.42) 1.00 2.37
Diluted net income (loss) per share:
Income (loss) from continuing operations $(2.42) $0.99 $2.33
Income from discontinued operations - - -
Net income (loss) (2.42) 0.99 2.32
Options to purchase 64,300 common shares, which equates to 9,783 incremental
common equivalent shares for the year ended December 31, 2007 were excluded from
the diluted calculations above as their effect would have been antidilutive. In
addition, options to purchase 16,500 and 7,500 common shares for the year ended
December 31, 2006 and 2005, respectively, were excluded from the diluted
calculations above because the exercise price on the options were greater than
the average market price for certain periods within the year.
18. Disclosures About Fair Value of Financial Instruments
The following table presents estimated fair values of the Company's financial
instruments. The fair values of certain of these instruments were calculated by
discounting expected cash flows, which involves significant judgments by
management and uncertainties. Fair value is the estimated amount at which
financial assets or liabilities could be exchanged in a current transaction
between willing parties, other than in a forced or liquidation sale. Because no
market exists for certain of these financial instruments and because management
does not intend to sell these financial instruments, the Company does not know
whether the fair values shown below represent values at which the respective
financial instruments could be sold individually or in the aggregate (in
thousands).
December 31, 2007 December 31, 2006
----------------- -----------------
Carrying Fair Carrying Fair
Amount Value Amount Value
-------- ------- -------- --------
Financial assets
Cash and cash equivalents $ 32,618 $ 32,618 $ 23,579 $ 23,579
Interest-bearing deposits 100 100 100 100
Available-for-sale securities 15,045 15,045 16,421 16,421
Held-to-maturity securities 1,745 1,750 1,900 1,930
Loans held for sale 2,874 2,874 1,227 1,227
Loans, net of allowance for
loan losses 268,448 269,019 270,478 271,995
FHLB stock 2,313 2,313 2,313 2,313
Interest receivable 1,858 1,858 1,927 1,927
Financial liabilities
Deposits $254,585 $254,647 $254,077 $253,764
Short-term borrowings 36,011 36,011 36,526 36,526
Long-term debt 20,279 20,401 10,279 10,264
Interest payable 848 848 817 817
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments:
Cash and Cash Equivalents, Interest-bearing Deposits, FHLB Stock and Interest
Receivable The carrying amount approximates fair value.
Securities
Fair values equal quoted market prices, if available. If quoted market prices
are not available, fair value is estimated based on quoted market prices of
similar securities.
Loans
The fair value of loans, including loans held for sale, is estimated by
discounting the future cash flows using the current rates at which similar loans
would be made to borrowers with similar credit ratings and for the same
remaining maturities. Loans with similar characteristics were aggregated for
purposes of the calculations. The carrying amount of accrued interest
approximates its fair value.
Deposits
Deposits include demand deposits, savings accounts, NOW accounts and certain
money market deposits. The carrying amount approximates fair value. The fair
value of fixed-maturity time deposits is estimated using a discounted cash flow
calculation that applies the rates currently offered for deposits of similar
remaining maturities.
Short-term Borrowings, FHLB Advances and Interest Payable The carrying amount
approximates fair value.
Long-term Debt
Rates currently available to the Company for debt with similar terms and
remaining maturities are used to estimate the fair value of existing debt.
Commitments to Originate Loans, Letters of Credit and Lines of Credit
The fair value of commitments to originate loans is estimated using the fees
currently charged to enter into similar agreements, taking into account the
remaining terms of the agreements and the present creditworthiness of the
counterparties. For fixed-rate loan commitments, fair value also considers the
difference between current levels of interest rates and the committed rates. The
fair value of forward sale commitments is estimated based on current market
prices for loans of similar terms and credit quality. The fair values of letters
of credit and lines of credit are based on fees currently charged for similar
agreements or on the estimated cost to terminate or otherwise settle the
obligations with the counterparties at the reporting date. The fair value of
commitments to originate loans, letters of credit and lines of credit are not
material.
19. Significant Estimates and Concentrations and Contingencies
Accounting principles generally accepted in the United States of America
require disclosure of certain significant estimates and current vulnerabilities
due to certain concentrations. Estimates related to the allowance for loan
losses are reflected in the footnote regarding loans. Estimates related to
goodwill impairment are reflected in the footnote regarding goodwill and
intangible assets. Current vulnerabilities due to certain concentrations of
credit risk are discussed in the footnote on commitments and credit risk.
On July 18, 2007 a jury in the case of Larry Sutherland, et.al., v. Harrodsburg
First Financial Bancorp, Inc., in the Circuit Court of Anderson County in the
Commonwealth of Kentucky returned a verdict awarding damages to the plaintiffs
of $403,620. The lawsuit originated from offers to purchase securities made by
the Company in connection with an offer to purchase up to 300,000 shares of its
stock in a tender offer on or about May 28, 2003. The plaintiffs alleged that
the Company made certain material misrepresentations in connection with certain
statements made in the tender offer. Management, after discussion with legal
counsel, decided to record an accrual of $403,620 as of June 30, 2007 relating
to the lawsuit. The case was settled effective in December 2007 for $281,288 and
thus the Company reversed $122,332 of the accrual originally recorded in June
2007.
20. Commitments and Credit Risks
Commitments to Originate Loans
Commitments to originate loans are agreements to lend to a customer as long as
there is no violation of any condition established in the contract. Commitments
generally have fixed expiration dates or other termination clauses and may
require payment of a fee. Since a portion of the commitments may expire without
being drawn upon, the total commitment amounts do not necessarily represent
future cash requirements. Each customer's creditworthiness is evaluated on a
case-by-case basis. The amount of collateral obtained, if deemed necessary, is
based on management's credit evaluation of the counterparty. Collateral held
varies, but may include accounts receivable, inventory, property, plant and
equipment, commercial real estate and residential real estate.
At December 31, 2007 and 2006, the Bank had outstanding commitments to originate
loans aggregating approximately $19,804,000 and $21,385,000, respectively. Also
at December 31, 2007 and 2006, the Bank had commitments to originate
approximately $3,122,000 and $5,773,000, respectively, of fixed rate loans for
sale into the secondary market. The commitments extended over varying periods of
time with the majority being disbursed within a one-year period.
Loan Concentrations
The Bank grants commercial, residential and consumer loans to customers
throughout central Kentucky and southern Indiana. Although the Bank has a
diversified loan portfolio, loans aggregating approximately $54,000,000 at
December 31, 2007 are secured by speculative construction and land development
projects in the Bank's operating area.
Letters of Credit
Letters of credit are conditional commitments issued by the Bank to guarantee
the performance of a customer to a third party. These guarantees are primarily
issued to support public and private borrowing arrangements, including
commercial paper, bond financing and similar transactions. The credit risk
involved in issuing letters of credit is essentially the same as that involved
in extending loans to customers.
The Bank had total outstanding letters of credit amounting to approximately
$2,608,000 and $2,405,000, at December 31, 2007 and 2006, respectively.
Lines of Credit
Lines of credit are agreements to lend to a customer as long as there is no
violation of any condition established in the contract. Lines of credit
generally have fixed expiration dates. Since a portion of the line may expire
without being drawn upon, the total unused lines do not necessarily represent
future cash requirements. Each customer's creditworthiness is evaluated on a
case-by-case basis. The amount of collateral obtained, if deemed necessary, is
based on management's credit evaluation of the counterparty. Collateral held
varies but may include accounts receivable, inventory, property, plant and
equipment, commercial real estate and residential real estate. Management uses
the same credit policies in granting lines of credit as it does for
on-balance-sheet instruments.
At December 31, 2007 and 2006, the Bank had granted unused lines of credit to
borrowers aggregating approximately $44,002,000 and $43,983,000, respectively.
Cash and Cash Equivalents
At December 31, 2007 and 2006, the Company had approximately $13,082,000 and
$8,517,000, respectively, of deposits with correspondent banks in excess of
federally insured amounts.
At December 31, 2007 and 2006, the Company had approximately $13,711,000 and
$531,000, respectively, of federal funds sold with one correspondent bank.
Bank Owned Life Insurance
As of December 31, 2007, the Company's investment in life insurance of
$3,647,000 was with one insurance company.
21. Selected Quarterly Financial Data (unaudited) All amounts are in thousands
except per share data.
Quarter
--------------------------------------------
2007 1st 2nd 3rd 4th
---- ------- ------ ------ -------
Interest and dividend income $5,533 $5,638 $5,575 $5,437
Interest expense 3,127 3,193 3,176 3,060
Net interest income 2,406 2,445 2,399 2,377
Provision for loan losses 175 20 66 4,323
Net interest income after provision for loan losses 2,231 2,425 2,333 (1,946)
Noninterest income 452 534 537 468
Noninterest expense 2,556 2,822 2,473 5,150
Net income (loss) 110 125 229 (5,235)
Net income (loss) per share:
Basic 0.06 0.06 0.12 (2.65)
Diluted 0.06 0.06 0.12 (2.65)
2006
----
Interest and dividend income $5,221 $5,637 $5,797 $5,783
Interest expense 2,610 2,886 3,107 3,212
Net interest income 2,611 2,751 2,690 2,571
Provision for loan losses 81 31 543 192
Net interest income after provision for loan losses 2,530 2,720 2,147 2,379
Noninterest income 440 479 513 359
Noninterest expense 2,255 2,288 2,200 2,096
Net income 494 627 349 470
Net income per share:
Basic 0.26 0.32 0.18 0.24
Diluted 0.25 0.32 0.18 0.24
The increase in the provision for loan losses in the fourth quarter of 2007 reflects the increased risk
in the loan portfolio related to the current economic weakness and the additional stress this places on
borrowers. Noninterest expense in the fourth quarter of 2007 includes a goodwill impairment charge of
$2.856 million.
22. Subsequent Event
On February 27, 2008, the Company announced that it had entered into an
Agreement and Plan of Merger with MainSource Financial Group, Inc.
("MainSource"). If the merger is completed, the Company's stockholders would
receive, in exchange for shares of Company common stock, shares of MainSource
common stock or cash, or a combination of stock and cash, subject to
MainSource's ability to limit such stock consideration to 75% of the total
consideration. The stock portion of the consideration furnished to the Company's
shareholders is intended to qualify as a tax-free transaction. The merger is
currently expected to close in the third quarter of 2008, and is subject to the
approval of the Company's stockholders, receipt of certain regulatory approvals,
and certain other customary conditions. While the Company believes the
transaction will occur, there can be no assurance. If the transaction is
terminated, the Company could incur certain costs.
Upon the closing of the proposed transaction, the Company will record a number
of charges including certain change-in-control payments to certain officers that
will have a material impact on the consolidated financial statements. At
December 31, 2007, no accrual has been made for these charges.
23. 1st Independence Financial Group, Inc. (parent company only)
Condensed Balance Sheets
(in thousands)
December 31, December 31,
2007 2006
------------- -------------
Assets
Cash and cash equivalents $ 1,120 $ 1,366
Investment in subsidiaries 42,589 46,162
Available-for-sale securities - 986
Note receivable 229 388
Debt issuance costs, net of accumulated amortization 118 122
Other assets 532 715
------- -------
Total assets $44,588 $49,739
======= =======
Liabilities and Stockholders' Equity
Subordinated debentures $ 9,279 $ 9,279
Other liabilities 33 157
Stockholders' equity 35,276 40,303
------- -------
Total liabilities and stockholders' equity $44,588 $49,739
======= =======
Condensed Statements of Operations
(in thousands)
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
------------- ------------ ------------
Income
Cash dividends from subsidiaries $ - $ - $ -
Other income 68 103 85
------- ------ ------
Total income 68 103 85
------- ------ ------
Expenses
Interest expense 687 675 600
Amortization of core deposit intangibles and debt issuance costs 5 5 5
Other expenses 641 520 733
------- ------ ------
Total expenses 1,333 1,200 1,338
------- ------ ------
Income (loss) from continuing operations before income
taxes, equity in undistributed net income of subsidiary, and
equity in undistributed net income of subsidiary held for disposal (1,265) (1,097) (1,253)
Income tax expense (benefit) from continuing operations (390) (420) (467)
------- ------ ------
Income (loss) from continuing operations before equity in
undistributed net income (loss) of subsidiary, and equity in
undistributed net income of subsidiary held for disposal (875) (677) (786)
Equity in undistributed net income (loss) of subsidiary from
continuing operations (3,896) 2,617 5,266
Equity in undistributed net income of subsidiary held for disposal - - 1
------- ------ ------
Net income (loss) $(4,771) $1,940 $4,481
======= ====== ======
Condensed Statements of Cash Flows
(in thousands)
Year ended Year ended Year ended
December 31, December 31, December 31,
2007 2006 2005
------------ ------------ -----------
Cash flows from operating activities:
Net income (loss) $(4,771) $ 1,940 $ 4,481
Adjustments to reconcile net income (loss) to net cash (used in)
operations:
Amortization of core deposit intangibles and debt
issuance costs 5 5 5
Amortization of unearned compensation on restricted stock 30 19 5
Compensation expense on stock options 59 40 -
Undistributed (net income) net loss of subsidiary 3,896 (2,617) (5,266)
Undistributed net income of unconsolidated statutory trusts - - 2
Changes in:
Decrease (increase) in other assets 177 418 (304)
(Decrease) increase in other liabilities (125) 124 24
----------- ---------- -----------
Net cash (used in) operating activities (729) (71) (1,053)
----------- ---------- -----------
Cash flows from investing activities:
Proceeds from maturity of available-for-sale security 1,000 - -
Repayment of note receivable 158 154 132
Proceeds from sale of subsidiary - - 2,300
Additional capital contributed to subsidiary (7) (11) (20)
----------- ---------- -----------
Net cash provided by investing activities 1,151 143 2,412
----------- ---------- -----------
Cash flows from financing activities:
Repurchase and retirement of common stock (37) - -
Proceeds from exercise of stock options - 494 470
Cash dividends paid (631) (620) (754)
----------- ---------- -----------
Net cash (used in) financing activities (668) (126) (284)
----------- ---------- -----------
Net (decrease) increase in cash and cash equivalents (246) (54) 1,075
Cash and cash equivalents at beginning of period 1,366 1,420 345
----------- ---------- -----------
Cash and cash equivalents at end of period $ 1,120 $ 1,366 $1,420
=========== ========== ===========
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None.
Item 9A. Controls and Procedures.
Disclosure Controls and Procedures
Based on their evaluation as of the end of the period covered by this
Annual Report on Form 10-K, the Company's principal executive officer and
principal financial officer have concluded that the Company's disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934 (the "Exchange Act")) were not effective to
ensure that information required to be disclosed by the Company in reports that
it files or submits under the Exchange Act is recorded, processed, summarized
and reported within the time periods specified in Securities and Exchange
Commission rules and forms because of the material weakness described below.
Management's Report on Internal Control Over Financial Reporting
Management of the Company is responsible for establishing and
maintaining adequate internal control over financial reporting. Internal control
over financial reporting is a process designed by, or under the supervision of,
the Company's principal executive and principal financial officer, or persons
performing similar functions, and effected by the Company's Board of Directors,
management and other personnel, to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements
for external purposes in accordance with accounting principles generally
accepted in the United States of America.
The Company's internal control over financial reporting includes those
policies and procedures that (1) pertain to the maintenance of records, that, in
reasonable detail, accurately and fairly reflect the transactions and
dispositions of the Company's assets; (2) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of financial
statements in accordance with generally accepted accounting principles, and that
receipts and expenditures of the Company are being made only in accordance with
authorizations of the Company's management and directors; and (3) provide
reasonable assurance regarding prevention or timely detection of unauthorized
acquisition, use or disposition of the Company's assets that could have a
material effect on the financial statements.
Because of its inherent limitations, internal control over financial
reporting may not prevent or detect misstatements. Also, projections of any
evaluation of effectiveness to future periods are subject to the risk that
controls may become inadequate because of changes in conditions, or that the
degree of compliance with the policies or procedures may deteriorate.
Management has completed an assessment of the effectiveness of the
Company's internal control over financial reporting as of December 31, 2007. In
making the assessment, management used the framework in "Internal Control
-Integrated Framework" promulgated by the Committee of Sponsoring Organizations
of the Treadway Commission, commonly referred to as the "COSO" criteria.
As of December 31, 2007, Management concluded that the Company's
internal control over financial reporting was not effective. The Company
identified a material weakness in its internal control over financial reporting
related to determining the allowance for loan losses after management performed
an additional review of the fourth quarter 2007 evaluation of the adequacy of
the allowance for loan losses. The additional review was performed to address
concerns raised during the annual audit of the 2007 consolidated financial
statements by BKD, LLP, ("BKD") the Company's registered independent public
accounting firm, regarding certain areas of the initial fourth quarter 2007
evaluation of the adequacy of the allowance for loan losses. A material weakness
is a deficiency, or a combination of deficiencies, in internal control over
financial reporting such that there is a reasonable possibility that a material
misstatement of the annual or interim financial statements will not be prevented
or detected on a timely basis. The material weakness resulted due to an
inappropriate change and an inappropriate application of methodology made in the
fourth quarter 2007 evaluation of the adequacy of the allowance for loan losses.
These inappropriate items were not communicated effectively to senior
management, the Audit Committee of the Company's Board of Directors, or the
Company's entire Board of Directors and the lack of effective communication
contributed to ineffective monitoring. The effected areas dealt with the
subjective factors in the calculations as opposed to specific reserves.
This material weakness resulted in a misstatement in the allowance for
loan losses of approximately $3.3 million, which was detected and corrected
prior to the issuance of the Company's December 31, 2007 consolidated financial
statements in this Form 10-K (see Item 8 - Financial Statements and
Supplementary Data) and resulted in more than a remote likelihood that a
material misstatement of our consolidated financial statements would not have
been prevented or detected.
As a result of the findings above, the Company implemented the
following actions: (1) Sought to thoroughly understand the nature of the issues
through discussions with BKD, with a third party firm who regularly consults
with the Company regarding the quarterly calculation of the adequacy of the
allowance for loan losses and with the Audit Committee of the Board of
Directors, (2) implemented procedures that any changes to the quarterly analysis
of the adequacy in loan losses must be communicated in writing and approved by
senior management and the Audit Committee of the Board of Directors, and (3)
implemented more timely independent monitoring of the quarterly analysis of the
adequacy in the allowance for loan losses. While the Company believes that these
actions will remediate this material weakness, it has not yet evaluated (tested)
the operating effectiveness of such controls.
Changes in Internal Control over Financial Reporting
Other than as described below, there was no change in the Company's
internal control over financial reporting identified by the principal executive
officer or principal financial officer that occurred in the three month period
ended December 31, 2007 that has materially affected, or is reasonably likely to
materially affect, the Company's internal control over financial reporting.
Subsequent to December 31, 2007, however, the Company, as mentioned previously,
corrected a misstatement in the allowance for loan losses of approximately $3.3
million, which was detected and corrected prior to the issuance of the Company's
December 31, 2007 consolidated financial statements in this Form 10-K (see Item
8 - Financial Statements and Supplementary Data). The Company also began
implementing the changes described in the previous paragraph. These actions have
materially affected, or are reasonably likely to materially affect the Company's
internal controls over financial reporting. When fully implemented, the Company
will test the operating effectiveness of such controls, as performed, in the
normal course of business.
Item 9B. Other Information.
Not applicable.
PART III
Item 10. Directors, Executive Officers and Corporate Governance.
DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY
Directors
The directors of the Company are listed in the table below along with
their age, period they have served as a director and their business experience
over the past five years. Each director serves for a term of three years and
until the election and qualification of his successor. The following directors
have been determined by the Company to be independent under the applicable
NASDAQ listing standards: Matthew C. Chalfant, Jack L. Coleman, Jr., Thomas Les
Letton, Stephen R. Manecke, Charles L. Moore II, Dr. Ronald L. Receveur, W.
Dudley Shryock and H. Lowell Wainwright, Jr. The age of each director is as of
March 14, 2008. Each director has listed when his term will expire.
NAME AGE OFFICE AND BUSINESS EXPERIENCE
---- --- ------------------------------
Matthew C. Chalfant.......44 A director since 2004. Mr. Chalfant's term will
expire at the 2008 Annual Meeting. Mr. Chalfant
is the President of Forms America and Chalfant
Industries, Inc.
Jack L. Coleman, Jr.......54 A director since 1991. Mr. Coleman's term will
expire at the 2010 Annual Meeting. Mr. Coleman is
a partner and majority stockholder of Coleman's
Lumber Yard and owner of Coleman's Home Center all
located in Harrodsburg, Kentucky. He is a former
member of the Kentucky House of Representatives
and is a current member of the Mercer County
Chamber of Commerce.
Thomas Les Letton.........55 A director since 1985. Mr. Letton's term will
expire at the 2010 Annual Meeting. Mr. Letton is
the President of The Letton Company,Inc., a real
estate investment company and Old Bridge, Inc., a
golf course and development company, all located
in Danville, Kentucky. He is also an owner of
WFL Group which owns thirteen Papa Johns Pizza
franchises.
Stephen R. Manecke........52 A director since 2004. Mr. Manecke's term will
expire at the 2009 Annual Meeting. Mr. Manecke is
a certified public accountant and owner of
Business Advisory Services, a business management
consulting company.
Charles L. Moore II.......45 A director since 2004. Mr. Moore's term will
expire at the 2010 Annual Meeting. Mr. Moore is a
real estate investor and owner of Riverside
Properties, a property management company. He is
also a councilman on the Clark County Indiana
Council.
Dr. Ronald L. Receveur....52 A director since 2004. Dr. Receveur's term will
expire at the 2009 Annual Meeting. Dr. Receveur's
principal occupation is as a dentist. Dr. Receveur
is owner and managing partner of The Center for
Advanced Dentistry, LLC. Dr. Receveur also is
owner or has partial interest in various real
estate development companies including Janus
Partners, L. P., Janus Development, Inc., The
Artisan Co., LLC and Luxury Views, LLC.
W. Dudley Shryock.........51 A director since 1998. Mr. Shryock's term will
expire at the 2009 Annual Meeting. Mr. Shryock is
a certified public accountant, practicing in
Lawrenceburg, Kentucky. Mr. Shryock is treasurer
for the Anderson County Fiscal Court.
H. Lowell Wainwright, Jr..51 A director since 2005. Mr. Wainwright's term will
expire at the 2009 Annual Meeting. Mr. Wainwright
is a Managing Director with Sterne, Agee & Leach
Inc. an Investment Firm.
N. William White..........42 A director since 2004. Mr. White's term will
expire at the 2008 Annual Meeting. Mr. White is
the President and Chief Executive Officer of the
Company and the Bank. Prior to the merger of
Harrodsburg First Financial Bancorp, Inc. and
Independence Bancorp, Mr. White served as
President and Chief Executive Officer of
Independence Bancorp and Independence Bank.
Executive Officers Who Are Not Directors
The executive officers of the Company, who are not also directors of
the Company, are listed in the table below. The age of each executive officer is
as of March 14, 2008.
NAME AGE OFFICE AND BUSINESS EXPERIENCE
---- --- ------------------------------
Kathy L. Beach............44 Ms. Beach joined the Company and the Bank in May
2004. Ms. Beach is Executive Vice President and
Chief Operations Officer of the Company and the
Bank. Previously, Ms. Beach was Chief Operations
Officer at Porter Bancorp, Inc., Shepherdsville,
Kentucky.
R. Michael Wilbourn.......46 Mr. Wilbourn is Executive Vice President and Chief
Financial Officer of the Company and the Bank.
Prior to the Merger, Mr. Wilbourn served in the
same capacity to Independence Bancorp and
Independence Bank. Previous to his employment at
Independence Bancorp and Independence Bank, Mr.
Wilbourn served as Vice President-Senior
Consultant and Analyst of Commercial Finance of
Bank One, Kentucky.
SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the 1934 Act requires the Company's directors,
executive officers and stockholders who own more than 10% of the Company's stock
to file reports of ownership and changes in ownership of their equity securities
of the Company with the Securities and Exchange Commission and to furnish the
Company with copies of such reports. Based solely upon a review of such reports,
the Company believes that all of the filings by the Company's directors,
executive officers and stockholders who own more than 10% of the Company's stock
were made on a timely basis during 2007.
COMMITTEES OF THE BOARD OF DIRECTORS
The Company's Board of Directors conducts its business through meetings
of the Board and through activities of its committees. All committees act for
both the Company and the Bank. During the year ended December 31, 2007, the
Board of Directors held twelve regular meetings and one special meeting. All
directors attended at least 75% of the meetings of the Board and the committees
to which they belonged. It is the Company's policy to encourage the directors to
attend the Company's Annual Meeting of Stockholders. All of the directors
attended the Annual Meeting of Stockholders held in 2007.
In addition to other committees, as of December 31, 2007, the Company
had a standing Compensation Committee and Audit Committee.
NAME COMPENSATION AUDIT
---- ------------ -----
Matthew C. Chalfant................
Jack L. Coleman, Jr................
Thomas Les Letton.................. X
Stephen R. Manecke................. *
Charles L. Moore II................ X
Ronald L. Receveur................. *
W. Dudley Shryock.................. X X
H. Lowell Wainwright, Jr........... X X
N. William White...................
------------
X Member
* Chairman
Nominating Committee
The Board of Directors had no standing nominating committee or any
committee performing similar functions during 2007. Because such functions are
performed by the independent (as such is defined under the NASDAQ listing
standards) members of the Board of Directors, the Board of Directors believes
that it is appropriate not to have a standing nominating committee. In the
nomination process, the independent members of the Board of Directors identify
director nominees through a combination of referrals, including by management,
existing board members and stockholders. The Company does not have a formal
policy with respect to the consideration of any nominees recommended by a
stockholder, however, the Board of Directors will consider written
recommendations from stockholders of the Company regarding potential nominees
for election as directors. To be considered for inclusion in the slate of
nominees proposed by the Board of Directors at the next Annual Meeting of
Stockholders of the Company, such recommendations must be received in writing by
the Secretary of the Company not less than 60 or more than 90 days prior to the
date of the meeting. Once a candidate has been identified, the independent
members of the Board of Directors review the individual's experience and
background and may discuss the proposed nominee with the source of the
recommendation. If determined to be appropriate, certain independent Directors
may meet with the proposed nominee before making a final determination. The
independent members of the Board of Directors consider all factors they deem
relevant regarding a possible director nominee, including his or her business
experience, civic involvement, and general reputation in the community. In this
respect, the Company has not identified any specific minimum qualifications
which must be met to be considered as a nominee.
Compensation Committee
The Board of Directors appoints the members of the Compensation
Committee. The Compensation Committee is currently composed of four non-employee
directors, each of whom meets the criteria for independence under the NASDAQ
listing standards. The Compensation Committee met one time during the year
ended December 31, 2007.
The Compensation Committee has retained an independent compensation
consulting firm, Mercer Human Resource Consulting, to advise it and the Company
on executive compensation matters in the past but did not utilize their services
in 2007.
The Compensation Committee is responsible for approving and evaluating
the Company's employee compensation and benefit programs, ensuring the
competitiveness of those programs, and advising the Board of Directors regarding
the development of key executives. The Compensation Committee is responsible for
annually reviewing, approving, and recommending to the Board of Directors for
its approval all elements of the compensation of the Chief Executive Officer and
other executive officers. The Compensation Committee is also responsible for
determining awards to employees of restricted stock or stock options pursuant to
the Company's incentive plans.
The Board of Directors has adopted a Compensation Committee Charter
which details all the duties and responsibilities of the Committee. A copy of
the Compensation Committee Charter can be found on the Company's website at
www.1stindependence.com under the investor relations section.
Audit Committee
The Audit Committee of the Company is comprised of four independent
directors as that term for audit committee members is defined by the NASDAQ
listing standards and Rule 10A-3 of the Securities and Exchange Act of 1934. W.
Dudley Shryock and Stephen R. Manecke have been determined by the Board of
Directors to be "audit committee financial experts" (as defined by the SEC) for
purposes of fulfilling the duties of the Committee. The Audit Committee met four
times during the year ended December 31, 2007.
Among other duties, the Audit Committee is responsible for:
o overseeing that management has maintained the reliability and
integrity of the accounting policies and financial reporting and disclosure
practices of the Company;
o overseeing that management has established and maintained processes
to assure that an adequate system of internal control over key business risks is
functioning within the Company; and
o overseeing that management has established processes to assure
compliance by the Company with all applicable laws, regulations and Company
policies.
The Board of Directors has adopted an Audit Committee Charter which
details all the duties and responsibilities of the Committee. A copy of the
Audit Committee Charter can be found on the Company's website at
www.1stindependence.com under the investor relations section.
CODE OF ETHICS
The Company adopted a Code of Conduct for its Principal Executive
Officer and Senior Financial Officers (the "Code of Conduct") in June 2003. The
Code of Conduct is available free of charge by writing to the Secretary of the
Company at 8620 Biggin Hill Lane, Louisville, Kentucky, 40220-4117.
Item 11. Executive Compensation.
DIRECTOR COMPENSATION TABLE
Director Compensation in 2007
------------------------------ ------------ ------------ ------------- -------------- ---------------- ---------------
Name (1) Fees Stock Option Non-Equity All Other Total
Earned Awards Awards Incentive Compensation
or Paid (3) (4) Plan (4)
in Cash (4)
(2)
------------------------------ ------------ ------------ ------------- -------------- ---------------- ---------------
Matthew C. Chalfant $9,000 $1,745 $ - $ - $ - $10,745
Jack L. Coleman, Jr. $9,000 $1,745 $ - $ - $ - $10,745
Thomas Les Letton $9,000 $1,745 $ - $ - $ - $10,745
Stephen R. Manecke $15,000 $1,745 $ - $ - $ - $16,745
Charles L. Moore II $9,000 $1,745 $ - $ - $ - $10,745
Ronald L. Receveur $9,000 $1,745 $ - $ - $ - $10,745
W. Dudley Shryock $9,000 $1,745 $ - $ - $ - $10,745
H. Lowell Wainwright, Jr. $9,000 $1,745 $ - $ - $ - $10,745
------------------------------ ------------ ------------ ------------- -------------- ---------------- ---------------
(1) N. William White, the Company's President and Chief Executive Officer is not included in this table as
Mr. White is also a Named Executive Officer of the Company and his compensation for service as a Director
is reflected in the Summary Compensation Table.
(2) Fees earned or paid in cash included $750 per month for each Director with the exception of the Chairman
of the Audit Committee (Mr. Stephen R. Manecke) who received $1,250 per month. No additional fees are paid
for committee meetings.
(3) Represents the amount of compensation expense recorded during 2007 on 500 shares of the Company's Common Stock
awarded on September 20, 2006 (award vests 20% annually beginning with the first anniversary date). The market
value of the 500 shares granted on September 20, 2006 was $8,725 (calculated using the closing stock price of
the Company's Common Stock on September 20, 2006 of $17.45). The number of shares of stock awards that have not
vested at December 31, 2007 was 400 shares with a market value of $3,848 using the December 31, 2007 closing
market price of the Company's Common Stock of $9.62.
(4) No annual stock option grants, non-equity incentive plan compensation payments or other compensation payments
were made as compensation for director services in 2007 or are contemplated under the Company's current
compensation structure with the exception of possible stock option grants. There were no stock options
outstanding at December 31, 2007 for any directors.
EXECUTIVE COMPENSATION
Retirement Plan
The 1st Independence Employee Stock Ownership & 401(k) Plan (the
"ESOP") is maintained by 1st Independence Financial Group, Inc. The ESOP
consists of the following two components: (i) an employee stock ownership plan,
and (ii) a qualified cash or deferred arrangement 401(k).
The purposes of the Plan are to enable eligible employees to (i)
provide for their future financial security by deferring a portion of their
compensation and having those funds accumulate under the ESOP, (ii) share in the
growth and prosperity of the Company, (iii) accumulate capital for their future
economic security, and (iv) acquire beneficial stock ownership interests in the
Company. The ESOP is also designed to assist the Company in meeting some of its
corporate financial objectives. Subject to Internal Revenue Service limitations,
the Company matches 50% of participant contributions up to 6% of the
participant's compensation. To be eligible to receive a matching contribution, a
participant must be employed on the last day of the year.
Stock Option Plan
The 1st Independence Stock Option Plan was developed to enable the
Company to attract and retain employees and Non-employee Directors by providing
them with appropriate incentives and rewards for superior performance by
granting stock options.
The Plan is intended to encourage stock ownership by recipients by
providing for their proprietary interests in the Company, thereby encouraging
them to remain employed or otherwise in service.
Restricted Stock Plan
1st Independence Financial Group, Inc. established a Restricted Stock
Plan, approved by stockholders at the 2006 Annual Meeting. This is an
equity-based incentive compensation plan that provides for the award of
restricted stock. The Plan is designed to promote the interests of the Company
and its Subsidiaries by encouraging officers, key employees and Non-employee
Directors, upon whose judgment, initiative and industry the Company and its
Subsidiaries are largely dependent for the successful conduct and growth of
their business, to continue their association with the Company and its
Subsidiaries by providing additional incentive and opportunity for unusual
industry and efficiency through stock ownership, and by increasing their
proprietary interest in the Company and their personal interest in its continued
success and progress. The restricted stock vests in 20% increments over a 5 year
period.
Deductibility Cap on Executive Compensation
Under Section 162(m) of the Internal Revenue Code of 1986, as amended
(the "Code"), subject to an exception for qualifying performance-based
compensation, we cannot deduct compensation of over $1,000,000 in annual
compensation paid to certain executive officers. We have never paid compensation
for which a deduction was disallowed.
If an executive officer is entitled to deferred compensation under Code
Section 409A, and such benefits do not comply with the Code Section 409A, then
the benefits are taxable in the first year they are not subject to a substantial
risk of forfeiture. In such case, the executive is subject to payment of regular
federal income tax, interest and an additional federal income tax of 20 percent
of the amount includible in income. Our compensation program has been structured
to comply with Code Section 409A.
Tabular Disclosures Regarding Executive Officers
The following tables provide compensation information for
the Company's Principal Executive Officer, the Principal Financial Officer and
the Company's most highly compensated executive officer (collectively, the
"named executive officers"):
Summary Compensation Table
------------------------------ -------- ------------ ------------ ------------ ------------ ----------------- ------------
Name and Year Salary Bonus Stock Option All Other Total
Principal ($) ($) Awards Awards Compensation ($)
Position ($) ($) ($)
------------------------------ -------- ------------ ------------ ------------ ------------ ----------------- ------------
N. William White, 2007 $170,000 $ - $3,674(1) $17,421(3) $36,019(6) $227,114
President and Chief 2006 $154,000 $ - $3,378(1) $ 4,156(2) $27,529(7) $189,063
Executive Officer
R. Michael Wilbourn, 2007 $106,108 $ - $3,674(1) $5,651(4) $13,874(8) $129,307
Executive Vice 2006 $105,000 $ - $3,378(1) $4,156(2) $6,906(9) $119,440
President and Chief
Financial Officer
Kathy L. Beach, 2007 $93,323 $ - $3,674(1) $9,576(5) $8,737(10) $115,310
Executive Vice 2006 $90,000 $ - $3,378(1) $4,156(2) $5,832(11) $103,366
President and Chief
Operations Officer
------------------------------ -------- ------------ ------------ ------------ ------------ ----------------- ------------
(1) Represents the amount of compensation expense recorded during 2007 and 2006 on 500 shares of the
Company's Common Stock awarded on February 24, 2005 and 500 shares of the Company's Common Stock awarded
on March 17, 2006 (both awards vest 20% annually beginning with the first anniversary date). The market
value of the 500 shares granted on February 24, 2005 was $9,495 (calculated using the closing stock
price of the Company's Common Stock on February 24, 2005 of $18.99) and the market value of the 500
shares granted on March 17, 2006 was $8,875 (calculated using the closing stock price of the Company's
Common Stock on March 17, 2006 of $17.75).
(2) Represents the amount of compensation expense recorded during 2006 on 2,500 stock options on the
Company's Common Stock awarded on February 24, 2005 (options vest 25% annually beginning with the grant
date). The market value of the 2,500 stock options was $6.65 per stock option based upon the
Black-Scholes option-pricing model. See the caption "stock options" in note 1 to the Company's
consolidated financial statements included in item 8 of this Annual Report on Form 10-K for additional
information.
(3) Represents the amount of compensation expense recorded during 2007 on 2,500 stock options on the
Company's Common Stock awarded on February 24, 2005 and 5,000 stock options on the Company's Common
Stock awarded on January 17, 2007 (both option awards vest 25% annually beginning with the grant date).
The market value of the 2,500 stock options was $6.65 per stock option and the market value of the 5,000
stock options was $4.43 per stock option with both market values based upon the Black-Scholes
option-pricing model. See the caption "stock options" in note 1 to the Company's consolidated financial
statements included in item 8 of this Annual Report on Form 10-K for additional information.
(4) Represents the amount of compensation expense recorded during 2007 on 2,500 stock options on the
Company's Common Stock awarded on February 24, 2005 and 1,250 stock options on the Company's Common
Stock awarded on January 17, 2007 (both option awards vest 25% annually beginning with the grant date).
The market value of the 2,500 stock options was $6.65 per stock option and the market value of the 1,250
stock options was $4.43 per stock option with both market values based upon the Black-Scholes
option-pricing model. See the caption "stock options" in note 1 to the Company's consolidated financial
statements included in item 8 of this Annual Report on Form 10-K for additional information.
(5) Represents the amount of compensation expense recorded during 2007 on 2,500 stock options on the
Company's Common Stock awarded on February 24, 2005 and 2,500 stock options on the Company's Common
Stock awarded on January 17, 2007 (both option awards vest 25% annually beginning with the grant date).
The market value of the 2,500 stock options awarded on February 24, 2005 was $6.65 per stock option and
the market value of the 1,250 stock options awarded on January 17, 2007 was $4.43 per stock option with
both market values based upon the Black-Scholes option-pricing model. See the caption "stock options"
in note 1 to the Company's consolidated financial statements included in item 8 of this Annual Report on
Form 10-K for additional information.
(6) Includes 1,366 shares allocated to Mr. White's account pursuant to the ESOP at a cost of $10 per
share (with an aggregate market value of $9.62 per share at December 31, 2007 totaling $13,141), a
matching contribution to the 401(k) portion of the ESOP of $9,048, director fees of $9,000, value of
personal use of a Company owned vehicle of $4,475 and premiums paid of $355 for $500,000 of term life
insurance where Mr. White's minor children are the beneficiary.
(7) Includes 407 shares allocated to Mr. White's account pursuant to the ESOP at a cost of $10 per
share (with an aggregate market value of $16.40 per share at December 31, 2006 totaling $6,675), a
matching contribution to the 401(k) portion of the ESOP of $6,160, director fees of $9,000, value of
personal use of a Company owned vehicle of $5,339 and premiums paid of $355 for $500,000 of term life
insurance where Mr. White's minor children are the beneficiary.
(8) Includes 913 shares allocated to Mr. Wilbourn's account pursuant to the ESOP at a cost of $10 per
share (with an aggregate market value of $9.62 per share at December 31, 2007 totaling $8,783) and a
matching contribution to the 401(k) portion of the ESOP of $5,091.
(9) Includes 229 shares allocated to Mr. Wilbourn's account pursuant to the ESOP at a cost of $10 per
share (with an aggregate market value of $16.40 per share at December 31, 2006 totaling $3,756) and a
matching contribution to the 401(k) portion of the ESOP of $3,150.
(10) Includes 447 shares allocated to Ms. Beach's account pursuant to the ESOP at a cost of $10 per
share (with an aggregate market value of $9.62 per share at December 31, 2007 totaling $4,300) and a
matching contribution to the 401(k) portion of the ESOP of $4,437.
(11) Includes 191 shares allocated to Ms. Beach's account pursuant to the ESOP at a cost of $10 per
share (with an aggregate market value of $16.40 per share at December 31, 2006 totaling $3,132) and a
matching contribution to the 401(k) portion of the ESOP of $2,700.
Grants of Plan-Based Awards in 2007
---------------------------- ------------ ----------------- ------------------ ----------------- -------------------
Name Grant All Other All Other Exercise or Grant
Date Stock Awards: Option Awards: Base Price of Date Fair
Number of Number of Option Value of Stock
Shares of Securities Awards and Option
Stock Underlying ($/SH) Awards ($)
(#) Options
(#)
---------------------------- ------------ ----------------- ------------------ ----------------- -------------------
N. William White 1/17/07 - 1,250(1) $16.44 $5,537.50(5)
1/17/07 - 1,250(2) $16.44 $5,537.50(5)
1/17/07 - 1,250(3) $16.44 $5,537.50(5)
1/17/07 - 1,250(4) $16.44 $5,537.50(5)
R. Michael Wilbourn 1/17/07 - 312(1) $16.44 $1,382.16(5)
1/17/07 - 312(2) $16.44 $1,382.16(5)
1/17/07 - 312(3) $16.44 $1,382.16(5)
1/17/07 - 314(4) $16.44 $1,391.02(5)
Kathy L. Beach 1/17/07 - 625(1) $16.44 $2,768.75(5)
1/17/07 - 625(2) $16.44 $2,768.75(5)
1/17/07 - 625(3) $16.44 $2,768.75(5)
1/17/07 - 625(4) $16.44 $2,768.75(5)
---------------------------- ------------ ----------------- ------------------ ----------------- -------------------
(1) Vesting date of January 17, 2007.
(2) Vesting date of January 17, 2008.
(3) Vesting date of January 17, 2009.
(4) Vesting date of January 17, 2010.
(5) Using market value of $4.43 per stock option based upon the Black-Scholes option-pricing model.
See the caption "stock options" in note 1 to the Company's consolidated financial statements included in
item 8 of this Annual Report on Form 10-K for additional information.
Outstanding Equity Awards at 2007 Year-End
-------------------------- ---------------------------------------------------------------- ------------------------------
Option Awards Stock Awards
-------------------------- ---------------------------------------------------------------- ------------------------------
Name Number of Number of Option Option Number of Market
Securities Securities Exercise Expiration Shares of Value of
Underlying Underlying Price Date Stock That Shares of
Unexercised Unexercised ($) Have Not Stock That
Options Options Vested Have Not
(#) (#) (#) Vested
(Exercisable) (Unexercisable) ($)
-------------------------- ---------------- ------------------- ------------ -------------- --------------- --------------
N. William White 4,000 - $8.00 1/27/10 300(5) $2,886(7)
1,500 - $10.00 1/28/13 400(6) $3,848(7)
2,500 - $10.00 12/31/13
1,875 - $18.99 2/24/15
- 625(1) $18.99 2/24/15
1,250 - $16.44 1/17/17
- 1,250(2) $16.44 1/17/17
- 1,250(3) $16.44 1/17/17
- 1,250(4) $16.44 1/17/17
R. Michael Wilbourn 1,000 - $10.00 2/16/11 300(5) $2,886(7)
1,500 - $10.00 1/28/13 400(6) $3,848(7)
2,500 - $10.00 12/31/13
1,875 - $18.99 2/24/15
- 625(1) $18.99 2/24/15
312 - $16.44 1/17/17
- 312(2) $16.44 1/17/17
- 312(3) $16.44 1/17/17
- 314(4) $16.44 1/17/17
Kathy L. Beach 1,875 - $18.99 2/24/15 300(5) $2,886(7)
- 625(1) $18.99 2/24/15 400(6) $3,848(7)
625 - $16.44 1/17/17
- 625(2) $16.44 1/17/17
- 625(3) $16.44 1/17/17
- 625(4) $16.44 1/17/17
-------------------------- ---------------- ------------------- ------------ -------------- --------------- --------------
(1) Vesting date of February 24, 2008.
(2) Vesting date of January 17, 2008.
(3) Vesting date of January 17, 2009.
(4) Vesting date of January 17, 2010.
(5) Vest at 100 shares per year on vesting dates of February 24, 2008, February 24, 2009 and February 24, 2010.
(6) Vest at 100 shares per year on vesting dates of March 17, 2008, March 17, 2009, March 17, 2010 and March 17, 2011.
(7) Valued using December 31, 2007 closing market price of the Company's Common Stock of $9.62.
Option Exercises and Stock Vested in 2007
------------------------------ ------------------------------------ ----------------------------------
Option Awards Stock Awards
------------------------------ ------------------------------------ ----------------------------------
Name Number of Value Number of Value
Shares Realized Shares Realized
Acquired on Exercise Acquired on Vesting
on Exercise ($) on Vesting ($)
(#) (#)
------------------------------ --------------------- -------------- --------------- ------------------
N. William White - - 100 $1,715(1)
- - 100 $1,697(2)
R. Michael Wilbourn - - 100 $1,715(1)
- - 100 $1,697(2)
Kathy L. Beach - - 100 $1,715(1)
- - 100 $1,697(2)
------------------------------ --------------------- -------------- --------------- ------------------
(1) Valued using the closing market price of $17.15 of the Company's Common Stock on the vesting date of February 24, 2007.
(2) Valued using the closing market price of $16.97 of the Company's Common Stock on the vesting date of March 17, 2007.
Potential Payments Upon Termination or Change in Control
Employment Agreements. During 2004, the Company and the Bank entered
into three year employment agreements with N. William White, R. Michael Wilbourn
and Kathy L. Beach (collectively the "Employment Agreements"). Under the
Agreements, Mr. White, Mr. Wilbourn and Ms. Beach's employment may be terminated
by the Company or the Bank for "just cause" as defined below. The executive may
also terminate employment for "good reason" as defined below.
On December 31, 2007 amendments were completed to each of the
Employment Agreements to comply with the requirements of Code Section 409A and
to specify the circumstances under which the Executive should receive a payment
upon the occurrence of a "Change in Control" of the Company.
Termination by Company or Bank for "cause", or by executive without
"good reason", or due to death or disability. If an executive is terminated by
the Company or the Bank for "cause", or if an executive terminates employment
without "good reason", death, or disability, he or she will be entitled to all
benefits payable under insurance, health, retirement, bonus and salary programs
through the date of termination, and will be paid amounts due under those
arrangements in accordance with such arrangements.
Termination by Company or Bank without "cause" or by executive for
"good reason". If an executive is terminated by the Company or the Bank without
"cause", or if an executive terminates employment for "good reason", he or she
will be entitled to all benefits payable under insurance, health, retirement,
bonus and salary programs through the date of termination, and will be paid
amounts due under those arrangements in accordance with such arrangements.
If the termination does not occur during the two-year period following
a "Change in Control", the executive will continue to receive his or her salary
for the period of time remaining in the term of the Agreement. Payment will be
made in accordance with the Bank's payroll beginning on the first payroll after
the date of termination.
If the termination occurs during the two-year period following a
"Change in Control", as defined below, the executive will be paid an amount
equal to 2.99 times the executive's "base amount" (as defined in Code Section
280G(b)(3) less the value of any benefits or rights accelerated by the Change in
Control. This amount will be paid in a single sum within 30 days of termination
of employment; provided, however, the amount will be reduced in such a way as to
prevent the payment from constituting an "excess parachute payment" in
accordance with Code Section 280G. In lieu of COBRA coverage, the Company or the
Bank shall maintain the welfare benefit plans in effect for the executive for
the remaining term of the Agreement, unless an equivalent benefit is available
for the executive from a subsequent employer.
During the three-month period following termination by the Company or
the Bank without "cause" or by the executive for "good reason" following a
"Change in Control", the executive may purchase all options, whether or not they
are exercisable or have terminated at the fair market value of the shares as of
the date of termination.
No payment of "deferred compensation" (as defined by Code Section 409A)
will be made to an executive during the six months following termination of
employment for reasons other than death, if he or she is a key employee (as
defined by Code Section 409A).
Confidentiality and Non-Compete/Non-Solicitation Covenants. The
executive agrees to hold confidential all trade secrets and confidential
information. The executive also agrees to not compete with the Company or Bank
during the one year following termination in the geographical areas where the
Company and Bank are actually doing business or intend to do business as
evidenced by a formal proposal for business. The executive agrees to not
influence customers for the one-year period following termination. The executive
lastly agrees not to solicit any employees of the Company or Bank during the
one-year period following termination of employment.
Restricted Stock Plan. In the event of a Change in Control of the
Company (i) the restrictions on the transfer of all shares of Restricted Stock
will immediately lapse, and (ii) all of the shares of Restricted Stock subject
to forfeiture will immediately become fully vested and nonforfeitable.
For purposes of the Agreements, "Cause" is defined as: (i) executive's
personal dishonesty of a material nature affecting executive's ability to
perform his or her duties under the Agreement; (ii) executive's incompetence in
the performance of his or her duties under the Agreement; (iii) executive's
willful misconduct or gross negligence; (iv) executive's breach of fiduciary
duty involving personal profit; (v) executive's intentional failure to perform
stated duties; (vi) executive's conviction of any felony; (vii) any requirement
of a governmental agency or authority having jurisdiction over the Company and
the Bank; or (viii) any material violation by the executive of any material
provision or covenant of the Agreement.
For purposes of the Agreements, "Good Reason" is defined as (i) any
action by the Company's or the Bank's Board of Directors to remove the executive
without the prior written consent of executive, except where the Company's and
the Bank's Board of Directors properly act to remove executive from such office
for "cause"; (ii) any action by the Company's or the Bank's Board of Directors
to materially limit, increase, or modify executive's duties and/or authority
(including his or her authority, subject to corporate controls no more
restrictive than those in effect on the date hereof, to hire and discharge
executives who are not bona fide officers of the Company) without the prior
written consent of executive, except such change in duties as may be required by
any government agency or authority having jurisdiction over the Company or the
Bank, or as may be required for the Board to perform its fiduciary obligations;
(iii) any failure of the Company to obtain the assumption of the obligation to
perform this Agreement by any successor; or (iv) any material violation by the
Company or the Bank of any material provision or covenant of this Agreement. For
purposes of the Agreements, "Change in Control" is defined as (i) any merger,
tender offer, consolidation or sale of substantially all of the assets of the
Company, or related series of such events, as a result of which stockholders of
the Company immediately prior to such event hold less than 50% of the
outstanding voting securities of the Company or its survivor or successor
immediately after such event; persons holding less than 25% of such securities
before such event own more than 50% of such securities after such event; or
persons constituting a majority of the Board of Directors were not directors of
the Company for at least 24 preceding months; (ii) any sale, lease, exchange,
transfer, or other disposition of all or any substantial part of the assets of
the Company; or (iii) any acquisition by any person or entity, directly or
indirectly, of the beneficial ownership of 40% or more of the outstanding voting
stock of the Company, excluding acquisitions by individuals or entities who at
the date of this Agreement were either a Director of the Company or the
beneficial owner (either directly or indirectly) of 10% or more of the voting
securities of the Company.
The following table sets forth information concerning potential
payments and benefits for the named executive officers under the Employment
Agreements discussed above assuming a change in control event had occurred on
December 31, 2007.
N. William R. Michael Kathy L.
White Wilbourn Beach
----------------------------------------- -------------- --------------- --------------
Termination in connection with
a Change in Control (assumed
date of December 31, 2007):
Lump sum severance payment (1) $508,300 $317,263 $279,036
Lump sum welfare benefits (2) 22,080 - 12,996
Acceleration of restricted
stock awards (3) 6,734 6,734 6,734
Acceleration of vesting of
stock option awards (4) - - -
-------- -------- --------
Total $537,114 $323,997 $298,766
======== ======== ========
(1) Determined based upon 2.99 times his or her base compensation.
(2) Estimated based upon welfare benefits for a period of three years.
(3) Reflects the assumed fair value of $9.62 per share which was the closing stock price per share of the
Company's Common Stock on December 31, 2007 (the last trading day of the year) times the unvested restricted
stock awards that would vest due to the change in control.
(4) Reflects the excess of the assumed fair value of $9.62 per share which was the closing stock price per share
of the Company's Common Stock on December 31, 2007 (the last trading day of the year) over the exercise price
for those stock options becoming vested due to the change in control. There was no excess based upon the
assumed fair value of $9.62.
Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
The following table sets forth, as of March 14, 2008 certain
information regarding the beneficial ownership of the Company's Common Stock by
each person or group who own more than 5% of the Common Stock. Other than as
noted below, management knows of no person or group that owns more than 5% of
the outstanding shares of Common Stock as of that date.
Amount and Percent of
nature of shares of
beneficial common stock
Name and address of beneficial owner ownership outstanding
---------------------------------------- ---------- -----------
Tontine Financial Partners, L.P. (1)
Tontine Management, L.L.C.
Jeffrey L. Gendell
55 Railroad Avenue
Greenwich, Connecticut 06830 178,405 8.9%
1st Independence Employee Stock
Ownership & 401K Plan (2)
8620 Biggin Hill Lane
Louisville, Kentucky 40220-4117 155,457 7.8%
(1) Based solely upon information provided in a Schedule 13F/A filed with the
United States Securities and Exchange Commission by such persons on
February 22, 2008.
(2) The Employee Stock Ownership & 401K Plan ("KSOP") purchased such shares
for the exclusive benefit of plan participants with funds borrowed from
the Company. These shares are held in a suspense account and will be
allocated among ESOP participants annually on the basis of compensation
as the ESOP debt is repaid. The Bank's Board of Directors has appointed
a committee consisting Mr. N. William White - President and Chief
Executive Officer of the Company, Mr. R. Michael Wilbourn - Executive Vice
President and Chief Financial Officer of the Company and Ms. Terry L.
Batson - Senior Vice President Human Resources of the Company to serve as
the KSOP administrative committee ("KSOP Committee") and First Bankers
Trust Services, Inc. to serve as the KSOP trustees ("KSOP Trustee"). The
KSOP Committee instructs the KSOP Trustee regarding investment of KSOP
plan assets. The KSOP Trustee must vote all shares allocated to
participant accounts under the KSOP as directed by participants.
Unallocated shares and shares for which no timely voting direction is
received, will be voted by the KSOP Trustee as directed by the KSOP
Committee. As of December 31, 2007, 138,880 shares have been allocated
under the ESOP to participant accounts.
SECURITY OWNERSHIP OF MANAGEMENT
The following table sets forth, as of March 14, 2008 certain
information regarding beneficial ownership of the Company's common stock by: (i)
each of the Company's directors, nominees and named executive officers; and (ii)
all current directors and executive officers as a group.
Amount and Nature of
Beneficial Percent of Shares of
Name of Beneficial Owner Ownership (1) Common Stock Outstanding (2)
----------------------------- ------------- ----------------------------
Matthew C. Chalfant 58,188 2.9%
Jack L. Coleman, Jr. 15,365 *
Thomas Les Letton 23,600 1.2
Stephen R. Manecke 21,750 1.1
Charles L. Moore II 81,571 4.1
Ronald L. Receveur 43,343 2.2
W.Dudley Shryock 7,127 *
H. Lowell Wainwright, Jr. 10,500 *
N. William White 40,259 2.0
All directors and executive
officers of the Company as
a group (12 persons) (1) (2)
(3) 328,039 16.1
________________
(1) The share amounts also include shares of common stock that the following
persons may acquire through the exercise of stock options within 60 days of
March 14, 2008: Stephen R. Manecke - 5,000; Charles L. Moore II - 3,400;
Ronald L. Receveur - 3,400; N. William White - 13,000.
(2) Excludes 155,457 shares of Common Stock held by the KSOP for which such
individuals serve as a member of the KSOP Committee and has shared voting
power. Such individuals disclaim beneficial ownership with respect to such
shares held in a fiduciary capacity.
(3) The share amount also includes 11,874 shares of common stock that may be
acquired through the exercise of stock options within 60 days of
March 14, 2008 by other executive officers.
* Represents less than 1% of the Company's outstanding common stock.
Set forth below is information as of December 31, 2007 with respect to
compensation plans under which equity securities of the Company are authorized
for issuance.
Equity Compensation Plan Information
(c)
(a) (b) Number of securities
Number of securities Weighted-average remaining available for
to be issued upon exercise price future issuance under
exercise of of outstanding equity compensation plan
outstanding options, options, warrants [excluding securities
warrants and rights and rights reflected in column (a)]
---------------------- ------------------- ------------------------
Equity compensation plans approved
by stockholders:
2004 Omnibus Stock Option Plan 64,300 $ 12.75 210,700
1996 Stock Option Plan (1) - - -
Restricted Stock Plan - - 74,150
Equity compensation plans not
approved by stockholders n/a n/a n/a
------ ------- -------
Total 64,300 $ 12.75 284,850
====== ======= =======
(1) Plan terminated and no longer eligible for grant as of January 28, 2007.
Item 13. Certain Relationships and Related Transactions, and Director
Independence.
The Bank, like many financial institutions, has followed a policy of
granting various types of loans to officers, directors, and employees.
Applicable laws and regulations require the loans to be 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
the Bank's other customers, and do not involve more than the normal risk of
collectibility, or present other unfavorable features.
In addition, Federal Reserve Board Regulation O governs the extension
of credit to insiders, including executive officers, directors, and principal
stockholders. All extensions of credit to insiders are approved by the Company's
Board of Directors.
Management is responsible for reviewing and approving any transaction
between the Company and any director or officer of the Company or members of
their immediate family or entities with which they are affiliated. In addition,
on an annual basis, each director and executive officer is obligated to complete
a "Director and Officer Questionnaire" which requires the director or executive
to disclose any related party transactions or business relationships involving
the Company or its subsidiaries which are required to be disclosed pursuant to
Item 404 of SEC Regulation S-K.
The following table illustrates the expenses of products and services
provided to the Company in 2007 from businesses with ownership interests by
directors or executive officers.
Director or Director or Executive Expense Paid by the Service or Product
Executive Officer Officer Related Entity Company Provided
----------------- ------------------------- ------------------- -------------------
Matthew C. Chalfant Chalfant Industries, Inc. $134,868 Leased office space
Jack L. Coleman, Jr. Patterson - Coleman LLC 4,500 Land lease for ATM
Information regarding the independence of each of the directors of the
Company is provided in Item 10, "Directors, Executive Officers and Corporate
Governance."
Item 14. Principal Accounting Fees and Services.
REPORT OF THE AUDIT COMMITTEE
Review of Audited Financial Statements with Management.
The Audit Committee reviewed and discussed the audited financial
statements for the year ended December 31, 2007 with the management of the
Company.
Review of Financial Statements and Other Matters with Independent Registered
Public Accounting Firm.
The Audit Committee discussed with BKD, LLP, the Company's independent
registered public accounting firm, the matters required to be discussed by the
Statement on Auditing Standards No. 61 ("Communications with Audit Committees"),
as may be modified or supplemented. The Audit Committee has received the written
disclosures and the letter from BKD, LLP required by Independence Standards
Board Standard No. 1 ("Independence Discussions with Audit Committees"), as may
be modified or supplemented, and has discussed with BKD, LLP its independence.
Recommendation that Financial Statements be Included in Annual Report.
Based on the reviews and discussions referred to above, the Audit
Committee recommended to the Board of Directors that the audited financial
statements be included in the Company's Annual Report on Form 10-K for the year
ended December 31, 2007, for filing with the United States Securities and
Exchange Commission.
Submitted by the Audit Committee:
Stephen R. Manecke, Chairman
Charles L. Moore II
W. Dudley Shryock
H. Lowell Wainwright, Jr.
AUDIT FEES
The following table sets forth fees for professional audit services
rendered by BKD, LLP, the Company's independent registered public accounting
firm, for the audits of the Company's annual financial statements for the years
ended December 31, 2007 and December 31, 2006, and fees for other services
rendered by BKD, LLP during those periods:
Year ended Year ended
December 31, 2007 December 31, 2006
----------------- -----------------
Audit fees (1) $227,775 $118,534
Audit-related fees (2) - 11,268
Tax fees (3) - 8,811
All other fees (4) - -
-------- --------
Total fees $227,775 $138,613
======== ========
-------------
(1) Audit fees consist of fees for professional services rendered for the
annual audit and review of Form 10-K as well as fees for the reviews of
quarterly financial information filed with the SEC on Form 10-Q.
(2) Audit-related fees are fees for assurance and related services that are
reasonably related to the performance of the audit or review of the
Company's financial statements including due diligence services.
(3) Tax fees consist of compliance fees for the preparation of state and
federal tax returns and consulting on various tax matters. During 2005,
the Company engaged another accounting firm to begin providing tax
compliance and consulting services. Fees for 2006 were assistance relating
to an IRS audit of prior year federal tax returns.
(4) All other fees consist of other services not included in the first three
categories above.
Pre-Approval Policies and Procedures
The Audit Committee has adopted a policy that requires advance approval
of all audit, audit-related, tax services, and other services performed by the
independent registered public accounting firm. The policy provides for
pre-approval by the Audit Committee of specified audit and non-audit services.
Unless the specific service has been previously pre-approved with respect to
that year, the Audit Committee must approve the permitted service before the
independent registered public accounting firm is engaged to perform it. The
Audit Committee has delegated to the Chairman of the Audit Committee authority
to approve permitted services provided that the Chairman reports any decisions
to the full Audit Committee at its next scheduled meeting.
PART IV
Item 15. Exhibits, Financial Statement Schedules.
(a) The following exhibits are filed as part of this report.
(1) Financial Statements.
The consolidated financial statements of the Company are listed in the
index under Part II, Item 8 of this Annual Report on Form 10-K.
(2) Financial Statement Schedules.
All schedules are omitted because they are not applicable or not
required, or because the required information is included in the
consolidated financial statements or related notes in Part II, Item 8
of this Annual Report on Form 10-K.
(3) Exhibits.
Exhibit
number Description
------- -----------------------------------------------------------
2.1 Stock Purchase Agreement, dated as of October 22, 2004,
between Porter Bancorp, Inc. and 1st Independence Financial
Group, Inc. (incorporated by reference to Exhibit 2.1 to
the Company's Form 8-K filed on October 22, 2004).
2.2 Contract of Sale, dated as of October 22, 2004, between
Ascencia Bank, Inc. and 1st Independence Bank, Inc.
(incorporated by reference to Exhibit 2.2 to the Company's
Form 8-K filed on October 22, 2004).
2.3 Agreement and Plan of Merger, dated as of February 26, 2008,
among MainSource Financial Group, Inc., 1st Independence
Financial Group, Inc. and 1st Independence Bank, Inc.
(incorporated by reference to Exhibit 2.1 to the Company's
Form 8-K filed on February 27, 2008).
3.1 Certificate of Incorporation (incorporated by reference from
the Exhibits to the Company's Form S-1 Registration
Statement, initially filed on June 14, 1995, Registration
No. 33-93458).
3.2 Amended Certificate of Incorporation (incorporated by
reference to Exhibit 3.1 to the Company's Form 10-KSB filed
on December 29, 2004).
3.3 Bylaws (incorporated by reference to Exhibit 3.2 to the
Company's Form 8-K filed on August 21, 2007).
10.1* 1996 Stock Option Plan (incorporated by reference to
Exhibit 10.1 to the Company's Form 10-K filed on
December 29, 1997).
10.2* Restricted Stock Plan and Trust Agreement (incorporated by
reference to Exhibit 10.2 to the Company's Form 10-K filed
on December 29, 1997).
10.3* Form of Employment Agreement for N. William White
(incorporated by reference to Exhibit 10.6 to the Company's
Form S-4 Registration Statement, initially filed on
February 27, 2004, Registration No. 333-113163).
10.4* First Amendment of the N. William White Employment
Agreement (incorporated by reference to Exhibit 10.1 to the
Company's Form 8-K filed on January 7, 2008).
10.5* Form of Employment Agreement for R. Michael Wilbourn
(incorporated by reference to Exhibit 10.7 to the Company's
Form S-4 Registration Statement, initially filed on
February 27, 2004, Registration No. 333-113163).
10.6* First Amendment of the R. Michael Wilbourn Employment
Agreement (incorporated by reference to Exhibit 10.2 to the
Company's Form 8-K filed on January 7, 2008).
10.7* Form of Employment Agreement for Kathy L. Beach
(incorporated by reference to Exhibit 10.7 to the
Company's Form 10-KSB filed on December 29, 2004).
10.8* First Amendment of the Kathy L. Beach Employment Agreement
(incorporated by reference to Exhibit 10.3 to the Company's
Form 8-K filed on January 7, 2008).
10.9* 2004 Omnibus Stock Option Plan (incorporated by reference
to Appendix G to the proxy statement/prospectus contained
in the Company's Form S-4 Registration Statement, initially
filed on February 27, 2004, Registration No. 333-113163).
10.10* 1st Independence Restricted Stock Plan (incorporated by
reference to Exhibit 99.1 to the Company's Form S-8
Registration Statement, initially filed on August 18, 2006,
Registration No. 333-136725).
10.11* Form of Stock Option Award under the 1996 Stock Option Plan
(incorporated by reference to Exhibit 99.3 to the Company's
Form S-8 Registration Statement, initially filed on
August 13, 2004, Registration No. 333-118198).
10.12* Form of Restricted Stock Agreement under the Restricted
Stock Plan and Trust Agreement (incorporated by reference
to Exhibit 99.5 to the Company's Form S-8 Registration
Statement, initially filed on August 13, 2004, Registration
No. 333-118198).
10.13* Form of Stock Award Agreement under the 2004 Omnibus Stock
Option Plan (incorporated by reference to Exhibit 99.2 to
the Company's Post Effective Amendment No. 1 Under Cover of
Form S-8 to Form S-4 Registration Statement, initially filed
on August 13, 2004, Registration No. 333-113163).
10.14* Form of Restricted Stock Award Agreement under the 1st
Independence Restricted Stock Plan (incorporated by
reference to Exhibit 99.2 to the Company's Form S-8
Registration Statement, initially filed on August 18, 2006,
Registration No. 333-136725).
10.15* Severance Agreement and Release, dated March 31, 2005, by
and among the Company, 1st Independence Bank and Arthur L.
Freeman (incorporated by reference to Exhibit 10.13 to the
Company's Form 8-K filed on April 1, 2005).
10.16* Form of Change of Control Agreement for Gregory A. DeMuth
(incorporated by reference to Exhibit 10.1 to the Company's
Form 8-K filed on March 31, 2006).
14.1 Code of Ethics for Principal Executive Officer and Senior
Financial Officers (incorporated by reference to Exhibit
14.0 to the Company's Form 10-KSB filed on
December 23, 2003).
21.1 Subsidiaries of the Registrant.
23.1 Consent of BKD, LLP.
31.1 Rule 13a-14 (a) / 15d-14 (a) Certification of Principal
Executive Officer ("Section 302 Certifications").
31.2 Rule 13a-14 (a) / 15d-14 (a) Certification of Principal
Financial Officer ("Section 302 Certifications").
32.1 Section 1350 Certifications ("Section 906 Certifications").
* Management contract or compensatory plan or arrangement.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
1St INDEPENDENCE FINANCIAL GROUP, INC.
Date: March 31, 2008 By /s/ N. William White
---------------------------------------
N. William White, President and
Chief Executive Officer
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the registrant and in the capacities and
on the dates indicated:
Signature Title Date
--------- ----- ----
/s/ Matthew C. Chalfant Chairman of the Board and March 31, 2008
------------------------------ Director
Matthew C. Chalfant
/s/ N. William White
------------------------------
N. William White President, Chief Executive March 31, 2008
Officer and Director
(Principal Executive Officer)
/s/ Jack L. Coleman, Jr.
------------------------------
Jack L Coleman, Jr. Director March 31, 2008
/s/ Thomas Les Letton
------------------------------
Thomas Les Letton Director March 31, 2008
/s/ Stephen R. Manecke
------------------------------
Stephen R. Manecke Director March 31, 2008
/s/ Charles L. Moore II
------------------------------
Charles L. Moore II Director March 31, 2008
/s/ Ronald L. Receveur
------------------------------
Ronald L. Receveur Director March 31, 2008
/s/ W. Dudley Shryock
------------------------------
W. Dudley Shryock Director March 31, 2008
/s/ H. Lowell Wainwright, Jr.
------------------------------
H. Lowell Wainwright, Jr. Director March 31, 2008
/s/ R. Michael Wilbourn
------------------------------
R. Michael Wilbourn Executive Vice President March 31, 2008
and Chief Financial Officer
(Principal Financial and
Accounting Officer)
/s/ John F. Barron
------------------------------
John F. Barron Senior Vice President March 31, 2008
and Controller
Exhibit Index
-------------
Exhibit
number Description
------- -----------------------------------------------------------
2.1 Stock Purchase Agreement, dated as of October 22, 2004,
between Porter Bancorp, Inc. and 1st Independence
Financial Group, Inc. (incorporated by reference to
Exhibit 2.1 to the Company's Form 8-K filed on
October 22, 2004).
2.2 Contract of Sale, dated as of October 22, 2004, between
Ascencia Bank, Inc. and 1st Independence Bank, Inc.
(incorporated by reference to Exhibit 2.2 to the Company's
Form 8-K filed on October 22, 2004).
2.3 Agreement and Plan of Merger, dated as of
February 26, 2008, among MainSource Financial Group, Inc.,
1st Independence Financial Group, Inc. and 1st
Independence Bank, Inc. (incorporated by reference to
Exhibit 2.1 to the Company's Form 8-K filed on
February 27, 2008).
3.1 Certificate of Incorporation (incorporated by reference
from the Exhibits to the Company's Form S-1 Registration
Statement, initially filed on June 14, 1995, Registration
No. 33-93458).
3.2 Amended Certificate of Incorporation (incorporated
by reference to Exhibit 3.1 to the Company's Form
10-KSB filed on December 29, 2004).
3.3 Bylaws (incorporated by reference to Exhibit 3.2 to the
Company's Form 8-K filed on August 21, 2007).
10.1* 1996 Stock Option Plan (incorporated by reference to
Exhibit 10.1 to the Company's Form 10-K filed on
December 29, 1997).
10.2* Restricted Stock Plan and Trust Agreement (incorporated by
reference to Exhibit 10.2 to the Company's Form 10-K filed
on December 29, 1997).
10.3* Form of Employment Agreement for N. William White
(incorporated by reference to Exhibit 10.6 to the
Company's Form S-4 Registration Statement, initially
filed on February 27, 2004, Registration No. 333-113163).
10.4* First Amendment of the N. William White Employment
Agreement (incorporated by reference to Exhibit 10.1 to the
Company's Form 8-K filed on January 7, 2008).
10.5* Form of Employment Agreement for R. Michael Wilbourn
(incorporated by reference to Exhibit 10.7 to the Company's
Form S-4 Registration Statement, initially filed on
February 27, 2004, Registration No. 333-113163).
10.6* First Amendment of the R. Michael Wilbourn Employment
Agreement (incorporated by reference to Exhibit 10.2 to the
Company's Form 8-K filed on January 7, 2008).
10.7* Form of Employment Agreement for Kathy L. Beach
(incorporated by reference to Exhibit 10.7 to the
Company's Form 10-KSB filed on December 29, 2004).
10.8* First Amendment of the Kathy L. Beach Employment Agreement
(incorporated by reference to Exhibit 10.3 to the Company's
Form 8-K filed on January 7, 2008).
10.9* 2004 Omnibus Stock Option Plan (incorporated by reference
to Appendix G to the proxy statement/prospectus contained
in the Company's Form S-4 Registration Statement, initially
filed on February 27, 2004, Registration No. 333-113163).
10.10* 1st Independence Restricted Stock Plan (incorporated by
reference to Exhibit 99.1 to the Company's Form S-8
Registration Statement, initially filed on August 18, 2006,
Registration No. 333-136725).
10.11* Form of Stock Option Award under the 1996 Stock Option Plan
(incorporated by reference to Exhibit 99.3 to the Company's
Form S-8 Registration Statement, initially filed on
August 13, 2004, Registration No. 333-118198).
10.12* Form of Restricted Stock Agreement under the Restricted
Stock Plan and Trust Agreement (incorporated by reference
to Exhibit 99.5 to the Company's Form S-8 Registration
Statement, initially filed on August 13, 2004, Registration
No. 333-118198).
10.13* Form of Stock Award Agreement under the 2004 Omnibus Stock
Option Plan (incorporated by reference to Exhibit 99.2 to
the Company's Post Effective Amendment No. 1 Under Cover of
Form S-8 to Form S-4 Registration Statement, initially filed
on August 13, 2004, Registration No. 333-113163).
10.14* Form of Restricted Stock Award Agreement under the 1st
Independence Restricted Stock Plan (incorporated by
reference to Exhibit 99.2 to the Company's Form S-8
Registration Statement, initially filed on August 18, 2006,
Registration No. 333-136725).
10.15* Severance Agreement and Release, dated March 31, 2005, by
and among the Company, 1st Independence Bank and Arthur L.
Freeman (incorporated by reference to Exhibit 10.13 to the
Company's Form 8-K filed on April 1, 2005).
10.16* Form of Change of Control Agreement for Gregory A. DeMuth
(incorporated by reference to Exhibit 10.1 to the Company's
Form 8-K filed on March 31, 2006).
14.1 Code of Ethics for Principal Executive Officer and Senior
Financial Officers (incorporated by reference to Exhibit
14.0 to the Company's Form 10-KSB filed on
December 23, 2003).
21.1 Subsidiaries of the Registrant.
23.1 Consent of BKD, LLP.
31.1 Rule 13a-14 (a) / 15d-14 (a) Certification of Principal
Executive Officer ("Section 302 Certifications").
31.2 Rule 13a-14 (a) / 15d-14 (a) Certification of Principal
Financial Officer ("Section 302 Certifications").
32.1 Section 1350 Certifications ("Section 906 Certifications").
* Management contract or compensatory plan or arrangement.