<PAGE>   1


                                  UNITED STATES
                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549

                                    FORM 10-K

              [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
                       THE SECURITIES EXCHANGE ACT OF 1934
                   For the fiscal year ended December 31, 1999

                 [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934
                        For the transition period from        to

                         Commission file number 2-78178

                         SOUTHERN MICHIGAN BANCORP, INC.
             (Exact name of registrant as specified in its charter)

               Michigan                                           38-2407501
      (State or other jurisdiction of                          (I.R.S. Employer
      incorporation or organization)                        Identification No.)

           51 West Pearl Street
           Coldwater, Michigan                                        49036
   (Address of principal executive offices)                         (Zip Code)

Registrant's telephone number, including area code:              (517) 279-5500

Securities Registered under Section 12(b) of the Act:                None

Securities Registered under Section 12(g) of the Act:                None

     Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No

     Indicate by check mark if disclosures 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 ]

     The aggregate market value of the registrant's common stock, par value
$2.50 per share (based on the average of the bid and ask prices) held by
non-affiliates of the registrant as of March 1, 2000 was $36,039,382. For
purposes of this computation, all executive officers, directors and 5%
shareholders of the registrant have been assumed to be affiliates. Certain of
such persons may disclaim that they are affiliates of the registrant.

     The number of shares outstanding of the registrant's common stock as of
March 1, 2000 was 1,958,498 shares.




<PAGE>   2


                                     PART I

ITEM 1.  BUSINESS

Overview

     The registrant, Southern Michigan Bancorp, Inc. (the "Company"), is a
registered bank holding company incorporated under the laws of the State of
Michigan, headquartered in Coldwater, Michigan. The Company was formed in 1982
for the purpose of acquiring all of the outstanding shares of Southern Michigan
National Bank, which it did in November 1982. In December 1992, Southern
Michigan National Bank converted its charter to that of a Michigan state banking
corporation and changed its name to, Southern Michigan Bank & Trust (the
"Bank"), with its main office located at 51 West Pearl Street, Coldwater,
Michigan 49036. The Bank operates twelve (12) branch offices in the primarily
rural areas of Branch, Hillsdale, and Calhoun counties in southwestern Michigan.
In addition to the operations of the Bank described below, the Company owns and
leases certain real estate to the Bank and third parties (see Item 2. Properties
below); and SMB&T Financial Services, Inc., a subsidiary of the Bank, has been
established to provide insurance and investment services, which services are
currently limited to the sale of certain insurance products to the Bank. None of
such activities are significant to the operations of the Company

     In February 2000, the Company and Sturgis Bank & Trust Company ("Sturgis")
entered into an Agreement and Plan of Consolidation pursuant to which Sturgis
will become a wholly-owned subsidiary of the Company. Sturgis shareholders will
receive .398 shares of the Company's common stock for each share of Sturgis'
common stock. The transaction is subject to normal regulatory approvals and the
approval of the shareholders of Sturgis. The transaction is expected to close in
the second half of 2000. Sturgis and the Bank will continue to operate as
stand-alone banks.

Banking Services

     The Bank offers a full range of banking services to individuals,
businesses, governmental entities and other institutions. These services include
checking, savings, and NOW accounts, time deposits, safe deposit facilities, and
money transfers. The Bank's lending operations provide secured and unsecured
commercial and personal loans, real estate loans, consumer installment loans,
lines of credit and accounts receivable financing.

     The Bank's Trust Department offers a wide variety of fiduciary services to
individuals, businesses, not-for-profit organizations and governmental entities,
including services as trustee for personal, corporate, pension, profit sharing,
and other employee benefit trusts. The Bank also provides security custodial
services as an agent, acts as the personal representative for estates and as a
fiscal, paying and escrow agent for corporate customers and governmental
entities.

     The Bank also offers securities brokerage services through an unaffiliated
broker. The Bank maintains correspondent banking relationships with several
larger banks, which correspondent relationships concern check clearing
operations, transfer of funds, loan participations, the purchase and sale of
federal funds, and other similar services.

Competition

     The banking business in the Bank's market area is highly competitive. The
Bank competes with other banks, savings and loan associations, credit unions and
finance companies. Banks and other financial institutions from surrounding areas
maintain branches within the Bank's service area and offer additional
competition. The Bank is also faced with increasing competition from
non-depository financial intermediaries, such as large retailers, investment
banks and securities brokerage firms.






                                       2


<PAGE>   3


Supervision and Regulation

General

     Bank holding companies and banks are highly regulated by both state and
federal agencies. As a bank holding company, the Company is subject to
supervision and regulation by the Federal Reserve Board ("FRB") pursuant to the
Bank Holding Company Act of 1956, as amended (the "BHCA"). The BHCA restricts
the product range of a bank holding company by circumscribing the types of
businesses it may own or acquire. The BHCA limits a bank holding company to
owning and managing banks or companies engaged in activities determined by the
FRB to be closely related to banking as to be a proper incident thereto. The
BHCA requires a bank holding company to obtain the prior approval of the FRB
before acquiring a nonbanking company, or substantially all of the assets of a
bank or a bank holding company, or direct or indirect ownership or control of
more than five percent of the voting shares of a bank or a bank holding company.

     Under FRB regulations, the Company is required to serve as a source of
financial and managerial strength to the Bank and must conduct its operations in
a safe and sound manner.

     The Bank is subject to regulation, supervision, and regular bank
examinations by the Federal Deposit Insurance Corporation (the "FDIC") and the
Michigan Financial Institutions Bureau (the "FIB"). The FIB is the Bank's
chartering authority and primary regulator. Under FIB and FDIC regulations, the
Bank is required to maintain reserves against its deposits and to maintain
certain levels of capital and surplus. In addition, the Bank is subject to
restrictions on the nature and amount of loans which may be made, the types and
amounts of investments it may make, and certain limitations on the payment of
dividends to its sole shareholder, the Company.

Dividend Restrictions

     The Company's principal source of income consists of dividends paid by the
Bank on its common stock (all of which is owned by the Company). Michigan law
restricts the Bank's ability to pay dividends to its shareholder. Under the
Michigan Banking Code of 1969, as amended (the "1969 Code") and the Michigan
Banking Code of 1999 (which became effective March 1, 2000 and repealed the 1969
Code), no dividend may be declared by the Bank in an amount greater than net
income then on hand after deducting losses and bad debts. After payment of a
dividend, the Bank must have a surplus amounting to not less than 20% of its
capital. In addition, if the surplus of the Bank is less than the amount of its
capital, before a dividend may be declared, the Bank must transfer to surplus
not less than 10% of the net income of the Bank for the preceding 6 months in
the case of quarterly or semiannual dividends or not less than 10% of its net
profits for the preceding two consecutive 6 month periods in the case of annual
dividends. Dividends cannot be paid from the Bank's capital or surplus. Based on
the Bank's balance sheet as of December 31, 1999, the Bank could pay a dividend
to the Company in the amount of $3,752,000 without prior regulatory approval.

     The payment of dividends by the Company and the Bank is also affected by
various regulatory requirements and policies, such as the requirement to
maintain adequate capital above regulatory guidelines. The "prompt corrective
action" provisions of the Federal Deposit Insurance Corporation Improvement Act
of 1991 ("FDICIA") impose further restrictions on the payment of dividends by
insured banks which fail to meet specified capital levels and, in some cases,
their parent bank holding companies. FDICIA generally prohibits a depository
institution from making any capital distribution (including payment of a
dividend) or paying any management fee to its holding company if the depository
institution would thereafter be undercapitalized (see "Capital Requirements").
These regulations and restrictions may limit the Company's ability to obtain
funds





                                       3


<PAGE>   4


from the Bank for the Company's cash needs, including funds for acquisitions,
payments of dividends and interest, and the payment of operating expenses.

     The FDIC may prevent an insured bank from paying dividends if the bank is
in default of payment of any assessment due to the FDIC. In addition, payment of
dividends by a bank may be prevented by the applicable federal regulatory
authority if such payment is determined, by reason of the financial condition of
such bank, to be an unsafe and unsound banking practice. The Federal Reserve
Board has issued a policy statement providing that bank holding companies and
insured banks should generally only pay dividends out of current operating
earnings.

Federal Regulation

     The following is a summary of certain statutes and regulations affecting
the Company and the Bank. This summary is qualified in its entirety by such
statutes and regulations, which are subject to change based on pending and
future legislation and action by regulatory agencies. Proposals to change the
laws and regulations governing the operation of banks and companies which
control banks and other financial institutions are frequently raised in
Congress. The likelihood of any major legislation and the impact such
legislation might have on the Company or the Bank are, however, impossible to
predict.

Gramm-Leach-Bliley

     Enacted late in 1999, the Gramm-Leach-Bliley Act ("Gramm-Leach-Bliley"),
broadens the scope of financial services that banks may offer to consumers,
essentially removing the barriers erected during the Depression that separated
banks and securities firms, closes the loophole which permitted commercial
enterprises to own and operate a thrift institution, and provides some new
consumer protections with respect to privacy issues and ATM usage fees.
Gramm-Leach-Bliley permits affiliations between banks, securities firms and
insurance companies (which affiliations were previously prohibited under the
Glass-Steagall Act). Under Gramm-Leach-Bliley, a bank holding company may
qualify as a financial holding company and thereby offer expanded range of
financial oriented products and services which products and services may not be
offered by bank holding companies. To qualify as a financial holding company, a
bank holding company's subsidiary depository institutions must be well-managed,
well-capitalized and have received a "satisfactory" rating on its latest
examination under the Community Reinvestment Act. Gramm-Leach-Bliley provides
for some regulatory oversight by the Securities and Exchange Commission for bank
holding companies engaged in certain activities, and reaffirms that insurance
activities are to be regulated on the state level. States, however, may not
prevent depository institutions and their affiliates from engaging in insurance
activities. Commercial enterprises are no longer able to establish or acquire a
thrift institution and thereby become a unitary thrift holding company. Thrift
institutions may only be established or acquired by financial organizations.
Gramm-Leach-Bliley provides new consumer protections with respect to the
transfer and use of a consumer's nonpublic personal information and generally
enables financial institution customers to "opt-out" of the dissemination of
their personal financial information to unaffiliated third parties. ATM
operators who charge a fee to non-customers for use of its ATM must disclose the
fee on a sign placed on the ATM and before the transaction is made as a part of
the on-screen display or by a paper notice issued by the machine.

Riegle-Neal

     Prior to September 29, 1995, the BHCA prohibited a bank holding company
from acquiring shares of any bank located outside the state in which the
operations of the bank holding company's banking subsidiaries were primarily
conducted unless the acquisition was specifically authorized by statute of the
state of the bank whose shares were to be acquired. Under the Riegle-Neal
Interstate Banking and Branching Efficiency Act of 1994 (the "Riegle-Neal Act"),
the restriction on interstate bank acquisitions was repealed effective September
29, 1995. The FRB is now generally authorized to approve bank acquisitions by
out-of-state bank holding





                                       4

<PAGE>   5


companies that are adequately capitalized and managed irrespective of the
permissibility of such acquisition under state law, but subject to any state
requirement that the bank has been organized and operating for a minimum period
of time, not to exceed five (5) years.

     Each State is permitted to prohibit interstate branch acquisitions (i.e.,
acquisition of a branch without acquisition of the entire target bank or the
establishment of de novo branches) and to examine acquired and de novo branches
of out-of-state banks with respect to compliance with certain host State laws.

FDICIA

     In December 1991, FDICIA was enacted, substantially revising the bank
regulatory and funding provisions of the Federal Deposit Insurance Act and
making revisions to several other federal banking statutes. Among other things,
FDICIA requires the federal banking agencies to take "prompt corrective action"
in respect of depository institutions that do not meet minimum capital
requirements. FDICIA establishes five capital tiers: "well-capitalized,"
"adequately capitalized," "undercapitalized," "significantly under capitalized"
and "critically undercapitalized." A depository institution's capital tier will
depend upon where its capital levels are in relation to various relevant capital
measures, which will include a risk-based capital measure and a leverage ratio
capital measure, and certain other factors. The Bank is considered to be
well-capitalized.

     FDICIA also contains a variety of other provisions that may affect the
operations of depository institutions including new reporting requirements,
regulatory standards for real estate lending, "truth in savings" provisions, the
requirement that a depository institution give 90 days prior notice to customers
and regulatory authorities before closing any branch and a prohibition on the
acceptance or renewal of brokered deposits by depository institutions that are
not well capitalized or are adequately capitalized and have not received a
waiver from the FDIC.

FIRREA

     Under the Financial Institutions Reform and Recovery and Enforcement Act of
1989 ("FIRREA"), a depository institution insured by the FDIC is liable for any
loss incurred by, or reasonably expected to be incurred by, the FDIC in
connection with (i) the default of a commonly controlled FDIC-insured depository
institution, or (ii) any assistance provided by the FDIC to any commonly
controlled FDIC-insured depository institution "in danger of default." "Default"
is defined generally as the appointment of a conservator or receiver and "in
danger of default" is defined as the existence of certain conditions indicating
that a default is likely to occur in the absence of regulatory assistance.

Transactions with Affiliates and Insiders

     The Bank and the Company are affiliates of each other and, as such, are
subject to certain federal restrictions with respect to loans and extensions of
credit to the Company and other Company affiliates, investments in the Company's
and its affiliates' securities, acceptance of such securities as collateral for
loans to any borrowers, and leases, services and other agreements between the
Bank and the Company. Additionally, regulations allow a bank to extend credit to
the bank's and its affiliates' executive officers, directors and principal
shareholders or their related interests, only if the loan is made on
substantially the same terms, including interest rates and collateral, as those
prevailing at the time for comparable transactions with non-insiders, and if
credit underwriting standards are followed that are no less stringent than those
applicable to comparable transactions with non-insiders. Moreover, loans to
insiders must not involve more than the normal risk of repayment or present
other unfavorable features and must in certain circumstances be approved in
advance by a majority of the entire board of directors of the Bank. The
aggregate amount that can be lent to all insiders is limited to the Bank's
unimpaired capital and surplus.





                                       5

<PAGE>   6


Deposit Insurance

     Deposits held by the Bank are insured, to the extent permitted by law, by
the Bank Insurance Fund ("BIF") administered by the FDIC. As required under
FDICIA, the FDIC has established a system of risk-based deposit insurance
premiums. Under this system each insured institution's assessment is based on
the probability that the BIF will incur a loss related to that institution, the
likely amount of the loss, and the revenue needs of the BIF.

     Under the risk-based assessment system, a depository institution pays an
assessment of between 0 cents and 27 cents per $100 of insured deposits based on
its capital level and risk classification. To arrive at a risk based assessment
for an insured institution, the FDIC places it in one of nine risk categories
using a two step analysis based first on capital ratios and then on other
relevant supervisory information. The Bank has been given the designation of
well managed and well capitalized. As a result of such classification, the Bank
pays the lowest assessment rate possible to the FDIC. In 1997, the Bank began
making payments to the FDIC for certain Financing Corporation ("FICO") Bonds
that had been previously issued. Any significant changes in the deposit
insurance assessment rate or FICO bond servicing imposed by the FDIC could have
a material effect on the earnings of the Company.

Capital Requirements

     The FRB has imposed risk-based capital guidelines applicable to the
Company. These guidelines require that bank holding companies maintain capital
commensurate with both on and off balance sheet credit and other risks of their
operations. Under the guidelines, a bank holding company must have a minimum
ratio of total capital to risk-weighted assets ("Total Capital") of 8.0 percent.
At least half of Total Capital must be composed of common shareholder's equity,
qualifying perpetual preferred stock and minority interest in equity accounts of
consolidated subsidiaries, less goodwill and certain other intangible assets
("Tier I Capital"). At December 31, 1999, the Company's Total Capital to
risk-weighted assets was 12.0 percent, which is above the regulatory minimum
requirements.

     In addition to risk-based capital requirements, the FRB has also imposed
leverage capital ratio requirements. The leverage ratio requirements establish a
minimum required ratio of Tier I Capital to total assets less goodwill of 3
percent for the bank holding companies having the highest regulatory rating. All
other bank holding companies are required to maintain a minimum Tier I capital
yielding a leverage ratio of 4 percent to 5 percent, depending on the particular
circumstances and risk profile of the institution. The Company's Tier I Capital
leverage ratio at December 31, 1999 was 8.4 percent.

     The Bank is also subject to risk-weighted capital standards and leverage
measures which are similar, but in some cases not identical, to the requirements
applicable to bank holding companies. At December 31, 1999, the Bank met all
applicable capital requirements.

Monetary Policy and Economic Conditions

     The business of commercial banks, such as the Bank, is affected by monetary
and fiscal policies of various regulatory agencies, including the FRB. Among the
regulatory techniques available to the FRB are open market operations in United
States Government securities, changing the discount rate for member bank
borrowings, and imposing and changing the reserve requirement applicable to
member bank deposits and to certain borrowings by member banks and their
affiliates (including parent companies). These policies influence to a
significant extent the overall growth and distribution of bank loans,
investments and deposits and the interest rates charged on loans, as well as the
interest rates paid on savings and time deposits.




                                       6



<PAGE>   7


     The monetary policies of the FRB have had a significant effect on the
operating results of commercial banks in the past and are expected to continue
to do so in the future. In view of constantly changing conditions in the
national economy and the money market, as well as the effect of acts by the
monetary and fiscal authorities, including the FRB, no definitive predictions
can be made by the Company or the Bank as to future changes in interest rates,
credit availability, deposit levels, or the effect of any such changes on the
Company's or the Bank's operations and financial condition.

Employees

     As of December 31, 1999, 141 persons were employed by the Bank; 123 were
full time employees and 18 were part time employees.

Selected Statistical Information

     The following tables describe certain aspects of the Company's business in
statistical form.







                                       7

<PAGE>   8



I.  DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY; INTEREST RATES
    AND INTEREST DIFFERENTIAL

The following are the average balance sheets for the years ending December 31:
 (Dollars in Thousands)

<TABLE>
<CAPTION>


                                                   1 9 9 9                                     1 9 9 8
                                     -------------------------------------      --------------------------------------
                                      Average                       Yield/        Average                       Yield/
                                      Balance         Interest      Rate          Balance        Interest       Rate
                                     --------         --------      ----          -------        --------       ----
<S>                                  <C>             <C>           <C>           <C>           <C>            <C>
ASSETS
Interest earning assets:

Loans (A) (B) (C)                     $  178,906     $  16,606      9.3%          $  160,666    $  15,816      $  9.8%
Taxable investment securities (D)         35,784         2,235      6.2               32,449        2,305         7.1
Tax-exempt investment
  securities (A)                          22,716         1,715      7.6               22,342        1,657         7.4
Federal funds sold                         2,154           107      5.0                4,782          266         5.6
                                      ----------     ---------                    ----------       ------
  Total interest earning assets          239,560        20,663      8.6              220,239       20,044         9.1

Non-interest earning assets:
  Cash and due from banks                 12,679                                      15,591
  Other assets                            18,028                                      16,415
  Less allowance for loan loss            (2,161)                                     (1,955)
                                      ----------                                  ----------

    Total assets                      $  268,106                                  $  250,290
                                      ==========                                  ==========

LIABILITIES AND SHAREHOLDERS' EQUITY
Interest bearing liabilities:
  Demand deposits                     $   77,664     $   2,482      3.2%          $   74,154    $   2,440         3.3%
  Savings deposits                        45,722         1,496      3.3               44,356        1,509         3.4
  Time deposits                           73,553         3,760      5.1               68,177        3,673         5.4
  Federal funds purchased                  2,044            97      4.7                    -            -           -
  Other borrowings                         9,716           600      6.2                6,146          410         6.7
                                       ---------     ---------                    ----------    ---------
     Total interest bearing
       liabilities                       208,699         8,435      4.0              192,833        8,032         4.2

Non-interest bearing liabilities:
  Demand deposits                         32,982                                      30,570
  Other                                    1,261                                       1,124
  Common stock subject to
    repurchase obligation                  5,009                                       5,464
  Shareholders' equity                    20,155                                      20,299
                                      ----------                                  ----------
Total liabilities and
  shareholders' equity                $  268,106                                   $ 250,290
                                      ==========                                  ==========
   Net interest earnings                             $  12,228                                  $  12,012
                                                     =========                                  =========

Net yield on interest
 earning assets                                                     5.1%                                          5.5%
                                                                  =====                                         =====
</TABLE>


<TABLE>
<CAPTION>


                                                       1 9 9 7
                                        ---------------------------------------
                                          Average                        Yield/
                                          Balance        Interest        Rate
                                        ---------        --------        ----

<S>                                     <C>              <C>             <C>
ASSETS
Interest earning assets:

Loans (A) (B) (C)                        $   158,193      $  15,593         9.9%
Taxable investment securities (D)             33,538          2,189         6.5
Tax-exempt investment
  securities (A)                              16,864          1,253         7.4
Federal funds sold                             1,357             74         5.5
                                         -----------      ---------
  Total interest earning assets              209,952         19,109         9.1

Non-interest earning assets:
  Cash and due from banks                     10,442
  Other assets                                14,871
  Less allowance for loan loss                (1,866)
                                         -----------

    Total assets                         $   233,399
                                         ===========

LIABILITIES AND SHAREHOLDERS' EQUITY
Interest bearing liabilities:
  Demand deposits                        $    63,856      $   2,163         3.4%
  Savings deposits                            43,505          1,485         3.4
  Time deposits                               67,993          3,612         5.3
  Federal funds purchased                        784             42         5.4
  Other borrowings                             1,404            141        10.0
                                         -----------      ---------
     Total interest bearing
       liabilities                           177,542          7,443         4.2

Non-interest bearing liabilities:
  Demand deposits                             30,004
  Other                                        1,355
  Common stock subject to
    repurchase obligation                      4,227
  Shareholders' equity                        20,271
                                         -----------
Total liabilities and
  shareholders' equity                   $   233,399
                                         ===========
   Net interest earnings                                  $  11,666
                                                          =========

Net yield on interest
 earning assets                                                             5.6%
                                                                          =====
</TABLE>


(A)  Includes tax equivalent  adjustment of interest  (assuming a 34% tax rate)
     for securities and loans of $583,000 and $29,000,  respectively for 1999;
     $563,000 and $35,000, respectively for 1998; and $392,000 and $48,000
     respectively for 1997.
(B)  Average balance includes average nonaccrual loan balances of $593,000 in
     1999; $815,000 in 1998; and $500,000 in 1997.
(C)  Interest income includes loan fees of $663,000 in 1999; $563,000 in 1998;
     and $617,000 in 1997.
(D)  Average balance includes  average  unrealized gain (loss) of $(104,000)
     in 1999;  $128,000 in 1998; and $(13,000) in 1997 on available for sale
     securities.  The yield was calculated without regard to this average
     unrealized gain (loss).






                                       8


<PAGE>   9



I.  DISTRIBUTION OF ASSETS, LIABILITIES AND SHAREHOLDERS' EQUITY; INTEREST RATES
    AND INTEREST DIFFERENTIAL (CONTINUED)

(Dollars in Thousands)

The following table sets forth for the periods indicated a summary of changes in
interest income and interest expense, based upon a tax equivalent basis,
resulting from changes in volume and changes in rates:

Volume Variance - change in volume multiplied by the previous year's rate.

Rate Variance - change in rate multiplied by the previous year's volume.

Rate/Volume Variance - change in volume multiplied by the change in rate. This
variance was allocated to volume variance and rate variance in proportion to the
relationship of the absolute dollar amount of the change in each.

Interest on non-taxable securities has been adjusted to a fully tax equivalent
basis using a statutory tax rate of 34% in 1999, 1998 and 1997.

<TABLE>
<CAPTION>



                                                        1999 Compared to 1998            1998 Compared to 1997
                                                     Increase (Decrease) Due To       Increase (Decrease) Due To
                                                     --------------------------       --------------------------

Interest income on:                                 Volume      Rate        Net      Volume      Rate        Net
                                                    ------      ----        ---      ------      ----        ---
<S>                                                <C>        <C>       <C>        <C>        <C>        <C>
Loans                                              $  1,727   $  (937)   $  790     $  243     $  (20)    $  223
Taxable investment securities                           224      (294)      (70)       (73)       189        116
Tax-exempt investment securities                         28        30        58        406         (2)       404
Federal funds sold                                     (133)      (26)     (159)       190          2        192
                                                   --------   -------    ------     ------     ------     ------

   Total interest earning assets                   $  1,846   $(1,227)   $  619     $  766     $  169     $  935
                                                   ========   =======    ======     ======     ======     ======

Interest expense on:

Demand deposits                                    $     113  $     (71) $   42     $  340     $  (63)    $  277
Savings deposits                                          46        (59)    (13)        29         (5)        24
Time deposits                                            281       (194)     87         10         51         61
Federal funds purchased                                   97          -      97        (42)         -        (42)
Other borrowings                                         222        (32)    190        331        (62)       269
                                                   ---------  ---------  ------     ------     ------     ------

   Total interest bearing liabilities              $     759  $    (356) $  403     $  668     $  (79)    $  589
                                                   =========  =========  ======     ======     ======     ======

Net interest income                                $   1,087  $    (871) $  216     $   98     $  248     $  346
                                                   =========  =========  ======     ======     ======     ======
</TABLE>






                                       9

<PAGE>   10



II.  INVESTMENT PORTFOLIO

(Dollars in Thousands)

The following table sets forth the fair value and amortized cost of securities
at December 31:

<TABLE>
<CAPTION>



                                                1 9 9 9                   1 9 9 8                    1 9 9 7
                                                -------                   -------                    -------
                                          Fair        Amortized      Fair       Amortized      Fair       Amortized
                                          Value         Cost         Value        Cost         Value        Cost
                                          -----         ----         -----        ----         -----        ----

<S>                                      <C>        <C>          <C>           <C>          <C>          <C>
U.S. Treasury and other
  U.S. Government agencies
  and corporations                      $  15,541    $  15,885    $   9,087     $  9,087     $  6,262     $   6,262
States and political subdivisions          28,411       28,529       37,903       37,006       20,885        20,560
Corporate securities                        6,172        6,203       15,942       15,902       15,590        15,564
Other securities                            4,105        4,201        5,899        5,899        2,688         2,688
                                        ---------    ---------    ---------     --------     --------     ---------

Total investment securities             $  54,229    $  54,818    $  68,831     $ 67,894     $ 45,425     $  45,074
                                        =========    =========    =========     ========     ========     =========
</TABLE>




The following table sets forth the amortized cost of securities by maturity (or
anticipated call date, if earlier) and weighted average yield for each range of
maturities at December 31, 1999:

<TABLE>
<CAPTION>


                                     -----------------------------------Maturing-----------------------------------

                                       Within One Year      1 to 5 Years        5 to 10 Years     After 10 Years
                                     -----------------      ------------        -------------     -----------------

                                       Amount    Yield     Amount    Yield     Amount   Yield     Amount    Yield
                                       ------    -----     ------    -----     ------   -----     ------    -----

<S>                                   <C>        <C>      <C>        <C>      <C>      <C>       <C>       <C>
U.S. Treasury and other
  U.S. Government agencies
  and corporations                    $   5,031   5.64%   $ 10,854    5.53%   $      -      -%    $    -       -%
States and political subdivisions (1)     9,197   5.19      16,183    5.57       3,109   5.85         40    6.10
Corporate securities                      2,850   6.26       3,353    6.56
Other securities                            654   5.64       2,155    5.36         469   5.73        923    8.63
                                      ---------           --------            --------            ------

Total (1)                             $  17,732   5.45%   $ 32,545    5.63%   $  3,578   5.83%    $  963    8.63%
                                      =========  =====    ========   -====    ========  =====     ======    ====

</TABLE>


(1)  Yields are not presented on a tax-equivalent basis.


The weighted average interest rates are based on coupon rates for securities
purchased at par value and on effective interest rates considering amortization
or accretion if the securities were purchased at a premium or discount.

Except as indicated and for U.S. Treasury and other U.S. Government agencies,
total securities of any state (including all its political subdivisions) were
less than 10% of shareholders' equity. At year-end 1999 and 1998, the amortized
cost of securities issued by the state of Michigan and all its political
subdivisions totaled $13,114,000 and $19,883,000 with an estimated market value
of $13,132,000 and $20,729,000, respectively.





                                       10


<PAGE>   11



III. LOAN PORTFOLIO

(Dollars in Thousands)

Types of Loans

The following table sets forth the classification of loans by major category at
December 31:

<TABLE>
<CAPTION>



                                              1999           1998           1997            1996            1995
                                              ----           ----           ----            ----            ----
<S>                                      <C>             <C>            <C>            <C>            <C>
Commercial, financial, and
  agricultural                            $    96,758     $    82,533    $    74,819    $    72,108     $    51,940
Real estate mortgage (1)                       63,423          51,567         50,057         47,561          41,293
Installment                                    33,190          29,203         33,865         33,009          30,004
                                          -----------     -----------    -----------    -----------     -----------

   Total loans                            $   193,371     $   163,303    $   158,741    $   152,678     $   123,237
                                          ===========     ===========    ===========    ===========     ===========

</TABLE>


(1)  Includes loans held for sale


Maturities and Sensitivities of Loans to Changes in Interest Rates

The following table sets forth the maturities of the loan portfolio at December
31, 1999. Also provided are the amounts due after one year classified according
to interest rate sensitivity.

<TABLE>
<CAPTION>

                                                           Within 1        1 to 5          After 5
                                                           Year (A)         Years           Years           Total
                                                           --------         -----           -----           -----

<S>                                                      <C>             <C>            <C>            <C>

Commercial, financial, and agricultural                   $    34,461    $    38,999    $    23,298     $    96,758
Real estate mortgages                                           6,431          1,935         55,057          63,423
Installment                                                     1,816         18,096         13,278          33,190
                                                          -----------    -----------    -----------     -----------

   Total                                                  $    42,708    $    59,030    $    91,633     $   193,371
                                                          ===========    ===========    ===========     ===========

Loans maturing after one year with:
   Fixed interest rates                                                  $    44,786    $    23,127
   Variable interest rates                                                    14,244         68,506
                                                                         -----------    -----------

     Total                                                               $    59,030    $    91,633
                                                                         ===========    ===========
</TABLE>



     (A)   Amounts include demand loans, loans having no stated schedule of
repayments, or no stated maturity and overdrafts.





                                       11


<PAGE>   12



III. LOAN PORTFOLIO (CONTINUED)

Non-Performing Loans

Non performing loans include impaired loans, nonaccrual and accruing loans past
due 90 days or more. The following table sets forth the aggregate amount of
non-performing loans in each of the following categories:

<TABLE>
<CAPTION>

                                                                        December 31
                                              1999           1998           1997            1996            1995
                                              ----           ----           ----            ----            ----
<S>                                       <C>             <C>           <C>            <C>             <C>
Non accrual loans:
   Commercial, financial and
     agricultural                         $       306     $       343    $     1,026    $       448     $       380
   Real estate mortgage                            23               -              -              -              24
   Installment                                      -               -             61              2              40
                                          -----------     -----------    -----------    -----------     -----------

                                                  329             343          1,087            450             444

Loans contractually past due 90 days
   or more:
   Commercial, financial, and
     agricultural                                 432             807          1,067             82             353
   Real estate mortgage                           134             161            630            129              56
   Installment                                     34             120            966            165               4
                                          -----------     -----------    -----------    -----------     -----------
                                                  600           1,088          2,663            376             413
                                          -----------     -----------    -----------    -----------     -----------

     Total                                $       929     $     1,431    $     3,750    $       826     $       857
                                          ===========     ===========    ===========    ===========     ===========

Percent of total loans outstanding                .48%            .88%          2.36%           .54%            .70%
                                          ===========     ===========    ===========    ===========     ===========
</TABLE>


The accrual of interest income generally is discontinued when a loan becomes
over 90 days past due as to principal or interest. When interest accruals are
discontinued, interest credited to income in the current year and accrued
interest from the prior year is reversed. Management may elect to continue the
accrual of interest when: (1) the estimated net realizable value of collateral
is sufficient to cover the principal balance and accrued interest and; (2) the
loan is in the process of collection.


Interest of $9,000 and $19,000 was realized on nonaccrual loans during 1999 and
1998, respectively. Under original terms for these loans, interest income which
would have been recorded approximates $50,000 and $91,000 in 1999 and 1998,
respectively. There are no loan commitments outstanding to extend credits to
these customers.

Potential Problem Loans

At December 31, 1999, the Company had approximately $2,683,000 in commercial,
financial, agricultural loans for which payments are presently current, but the
borrowers are experiencing certain financial and/or operational difficulties.
These loans are subject to frequent management review and their classification
is reviewed on a monthly basis.

All loans classified for regulatory purposes as loss, doubtful, substandard, or
special mention have been included in the above disclosures.







                                       12
<PAGE>   13



IV.  SUMMARY OF LOAN LOSS EXPERIENCE

(Dollars in Thousands)

The following table sets forth changes in the allowance for loan losses:

<TABLE>
<CAPTION>


                                                                         Year Ended December 31
                                                        1999         1998         1997         1996         1995
                                                        ----         ----         ----         ----         ----

<S>                                                 <C>          <C>           <C>          <C>          <C>
Balance at beginning of year                         $   2,026    $   1,863     $  1,814     $  1,609     $   1,498

Charge offs:
   Commercial, financial and agricultural                 (505)        (227)        (122)         (13)          (87)
   Installment                                            (492)        (352)        (386)        (157)         (124)
   Real estate                                             (53)           -            -            -             -
                                                     ---------    ---------     --------     --------     ---------
                                                        (1,050)        (579)        (508)        (170)         (211)


Recoveries:
   Commercial, financial and agricultural                  171           41           31           43            43
   Installment                                             132          101           66           62            54
   Real estate                                               1            -            -            3             3
                                                     ---------    ---------     --------     --------     ---------
                                                           304          142           97          108           100
                                                     ---------    ---------     --------     --------     ---------
   Net charge offs                                        (746)        (437)        (411)         (62)         (111)

Provision for loan losses                                  852          600          460          267           222
                                                     ---------    ---------     --------     --------     ---------

   Balance at end of year                            $   2,132    $   2,026     $  1,863     $  1,814     $   1,609
                                                     =========    =========     ========     ========     =========

Average loans outstanding                            $ 178,906    $ 160,666     $158,193     $137,273     $ 123,684
                                                     =========    =========     ========     ========     =========

Ratio of net charge offs to average loans outstanding      .42%         .27%         .26%         .05%          .09%
                                                       =======    =========     ========     ========     =========
</TABLE>





                                       13

<PAGE>   14



IV.  SUMMARY OF LOAN LOSS EXPERIENCE (CONTINUED)


Allocation of the Allowance for Loan Losses

The Securities and Exchange Commission's guide to the presentation of
statistical information provides for a break down of the allowance for loan
losses into major loan categories. The Company allocates the allowance among the
various categories through an analysis of the loan portfolio composition, prior
loan loss experience, evaluation of those loans identified as being probable
problems in collection, results of examination by regulatory agencies and
current economic conditions. The entire allowance is available to absorb any
losses without regard to the category or categories in which the charged off
loans are classified.

Even though such an allocation has inherent limitations, the Company has
compiled the results of its various reviews and has made estimates of the risk
which might be allocated to the respective loan categories.

The following table sets forth the allocation of the allowance for loan losses
at December 31:

<TABLE>
<CAPTION>



                                                 --------1 9 9 9--------   --------1 9 9 8--------   --------1 9 9 7---------
                                                         -------                   -------                   -------
<S>                                              <C>        <C>            <C>        <C>            <C>        <C>
                                                             Percent of                 Percent of                Percent of
                                                              Loans in                   Loans in                  Loans in
                                                                Each                       Each                      Each
                                                              Category                   Category                  Category
                                                              Of Total                   Of Total                  Of Total
                                                  Allowance     Loans        Allowance     Loans       Allowance     Loans

Commercial, financial and agricultural           $     924       50.0%     $     777       50.5%     $     628       47.1%
Real estate mortgage                                   127       32.8            103       31.6             98       31.0
Installment                                            601       17.2            521       17.9            321       21.9
Unallocated                                            480          -            625          -            816          -
                                                 ---------    -------      ---------    -------      ---------     ------

                                                 $   2,132      100.0%     $   2,026      100.0%     $   1,863      100.0%
                                                 =========    =======      =========    =======      =========     ======
</TABLE>



<TABLE>
<CAPTION>



                                                  ---------1 9 9 6--------- ---------1 9 9 5---------
                                                           -------                   -------

<S>                                               <C>       <C>            <C>          <C>

                                                               Percent of                  Percent of
                                                                Loans in                    Loans in
                                                                  Each                        Each
                                                                Category                    Category
                                                                Of Total                    Of Total
Commercial, financial and agricultural             Allowance      Loans       Allowance       Loans
Real estate mortgage
Installment                                        $     351       47.2%     $     313       42.1%
Unallocated                                               95       31.2             83       33.5
                                                         177       21.6            157       24.4
                                                       1,191          -          1,056          -
                                                   ---------    -------      ---------    -------

                                                   $   1,814      100.0%     $   1,609      100.0%
                                                   =========    =======      =========    =======

</TABLE>


The allowance for loan losses is maintained at a level which, in management's
opinion, is adequate to absorb loan losses in the portfolio. In assessing the
adequacy of the allowance, management reviews the characteristics of the loan
portfolio in order to determine overall quality and risk profiles. Some factors
considered by management in determining the level at which the allowance is
maintained include a continuing evaluation of those loans identified as being
subject to possible problems in collection, results of examination by regulatory
agencies, current economic conditions, and historical loan loss experience.

The 1996 provision increased from 1995 levels to provide for loan growth. The
1997 provision was increased to provide for loan growth and the increase in
charge-offs and delinquencies. Several customers, including a large commercial
borrower, declared bankruptcy during 1997 resulting in increased charge-offs.
The 1999 and 1998 provisions increased to provide for higher charge-offs and
delinquencies, primarily as a result of increased customer bankruptcies. Net
commercial loan charge-offs totaled $334,000 in 1999; $267,000 of this was
attributable to three commercial borrowers that discontinued business operations
during 1999.






                                       14


<PAGE>   15




V.   DEPOSITS

(Dollars in Thousands)

The following table sets forth the average amount of deposits and rates paid for
deposits for the years ended December 31:

<TABLE>
<CAPTION>



                                                           1 9 9 9               1 9 9 8               1 9 9 7
                                                           -------               -------               -------
                                                    Amount      Rate      Amount       Rate     Amount       Rate

<S>                                                <C>          <C>      <C>         <C>       <C>          <C>
Non interest bearing demand deposits               $  32,982             $  30,570             $  30,004
Interest bearing demand deposits                      77,664      3.2%      74,154     3.3%       63,856     3.4%
Savings deposits                                      45,722      3.3       44,356     3.4        43,505     3.4
Time deposits                                         73,553      5.1       68,177     5.4        67,993     5.3
                                                   ---------             ---------             ---------

                                                   $ 229,921             $ 217,257             $ 205,358
                                                   =========             =========             =========
</TABLE>



The following table sets forth as of December 31, 1999, the aggregate amount of
outstanding deposits (certificates of deposit) of $100,000 or more by maturity
(in thousands of dollars):

<TABLE>

                        <S>                                             <C>
                           Three months or less                          $    8,858
                           Over three months through six months               5,686
                           Over six months through twelve months              3,850
                           Over twelve months                                 4,719
                                                                         ----------

                                                                         $   23,113
                                                                         ==========
</TABLE>




VI.  RETURN ON EQUITY AND ASSETS

The following table sets forth consolidated operating and capital ratios for the
years ended December 31:

<TABLE>
<CAPTION>


                                                                                 1 9 9 9     1 9 9 8      1 9 9 7
                                                                                 -------     -------      -------

<S>                                                                             <C>          <C>          <C>
Return on average assets                                                           1.23%       1.42%        1.30%
Return on average equity (1)                                                      16.37       17.48        14.96
Dividend payout ratio (2)                                                         41.61       35.56        36.58
Average equity to average assets (1)                                               7.52        8.11         8.69
</TABLE>



(1)  Average equity used in the above table excludes common stock subject to
     repurchase  obligation but includes average  unrealized  appreciation or
     depreciation on securities available for sale.

(2)  Dividends declared divided by net income.







                                       15


<PAGE>   16


ITEM 2.  PROPERTIES

     The Bank's main office is located at 51 West Pearl Street, Coldwater,
Michigan and is owned by the Bank. This facility, which opened in 1955 and
expanded in 1976, consists of a one story structure comprising 27,945 square
feet. Parking is available for approximately 125 cars and 9 teller windows are
available to serve the Bank's customers. The Bank owns eleven branch offices,
two of which are in Coldwater, two in Union City, Michigan, one in Kinderhook,
Michigan, one in Tekonsha, Michigan, one in Hillsdale, Michigan, one in Camden,
Michigan, one in Athens, Michigan, one in North Adams, Michigan and one in
Pennfield Township (Battle Creek), Michigan. The Bank also leases 1,700 square
feet from a third party for use in its Battle Creek Loan Production Office. In
addition, the Company owns a 15,000 square foot building in Battle Creek,
Michigan and a 14,000 square foot building in Coldwater, Michigan. 6,000 square
feet of the Battle Creek building is leased to the Bank for use by one of its
Battle Creek branches. 3,500 square feet is leased to a local college, 2,300
square feet is leased as office space to local businesses and the remaining
space is presently unoccupied. 7,446 square feet of the Coldwater building is
leased to the Bank for use as a Consumer Loan center, 3,420 square feet is
leased to a local title office, 762 square feet is leased to a local insurance
company and 394 square feet is leased to community nonprofit organizations. The
Bank's branch offices range in size from 465 square feet to 6,000 square feet,
with nine of the branch offices having drive-in facilities and seven of the
branches having automated teller machines.

     All of the Company's and the Bank's facilities are maintained in good
condition and are adequately insured. Management of Company believes the present
facilities are adequate to meet both current and future needs.

ITEM 3.  LEGAL PROCEEDINGS

     The Bank is frequently engaged in litigation, both as plaintiff and
defendant, which is incident to its business. In certain proceedings, claims or
counterclaims may be asserted against the Bank. Based on the facts known to it
to date, management of the Company does not currently anticipate that the
ultimate liability, if any, arising out of any such litigation will have a
material effect on the consolidated financial statements of the Company.

ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

None.








                                       16


<PAGE>   17

                                     PART II

ITEM 5.  MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

         The Company's common stock is regularly quoted on the OTC Bulletin
Board (OTCBB). The bid prices described below are quotations reflecting
inter-dealer prices, without retail markup, markdown or commissions, and may not
necessarily represent actual transactions. There were 469 shareholders of record
at February 29, 2000.

         The following table sets forth the range of high and low bid
information and dividends declared for the Company's two most recent fiscal
years:

<TABLE>
<CAPTION>

                                                 1999                                             1998
                             ------------------------------------------       -------------------------------------------
                                     BID PRICE                  CASH                  BID PRICE                  CASH
                             -------------------------        DIVIDENDS        ------------------------       DIVIDENDS
                             HIGH BID          LOW BID        DECLARED         HIGH BID         LOW BID        DECLARED
Quarter Ended
-------------------------------------------------------------------------------------------------------------------------
<S>                        <C>             <C>              <C>             <C>              <C>             <C>
March 31                    $    33.08      $    27.00       $      .16      $    37.80       $    30.60      $      .13
June 30                          32.40           27.23              .17           46.13            37.13             .13
September 30                     29.70           26.10              .17           40.50            37.13             .15
December 31                      30.60           27.23              .18           37.80            29.48             .19
</TABLE>

There are restrictions that currently limit the Company's ability to pay cash
dividends. Information regarding dividend payment restrictions is described in
Note L to the consolidated financial statements for the year ended December 31,
1999.

All market price per share amounts have been adjusted for a 10% stock dividend
declared in 1999.


ITEM 6.  SELECTED FINANCIAL DATA

<TABLE>
<CAPTION>

                                                                     Year Ended December 31
                                                1999            1998             1997            1996             1995
                                            ----------------------------------------------------------------------------
<S>                                        <C>              <C>             <C>              <C>             <C>
Total interest income                       $   20,051       $   19,446      $   18,669       $   16,787      $   15,476
Net interest income                             11,616           11,414          11,226           10,183           9,096
Provision for loan losses                          852              600             460              267             222
Net income                                       3,300            3,549           3,032            3,058           2,615
Per share data:
   Basic and diluted earnings per share           1.64             1.70            1.44             1.46            1.27
   Cash dividends                                  .68              .60             .52              .48             .45
Balance sheet data:
   Other borrowings                             15,000            5,000           3,000                -               -
   Capital note                                      -                -               -                -           1,000
   Common stock subject to repurchase            3,990            6,029           4,899            3,555           2,232
   Equity                                       19,990           19,345          20,590           19,616          18,497
   Total assets                                275,825          266,851         238,531          235,562         209,977
Return on average assets                         1.23%            1.42%           1.30%            1.45%           1.31%
Return on average equity                        16.37%           17.48%          14.96%           16.09%          14.64%
</TABLE>


All per share amounts have been adjusted for a 10% stock dividend declared in
1999, a 1997 stock split effected in the form of a 100% stock dividend and a 2
for 1 stock split in 1995.


                                       17

<PAGE>   18



ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS

         The following discussion provides information about the Company's
financial condition which supplements the Consolidated Financial Statements. The
analysis should be read in conjunction with such financial statements.

FINANCIAL CONDITION

         The Company functions as a financial intermediary and, as such, its
financial condition should be examined in terms of trends in its sources and
uses of funds.

         The Company uses its funds primarily to support its lending activities.
Loans increased by 18.4% in 1999 and 2.9% in 1998. The loan growth occurred in
all loan categories and is the result of continued good economic conditions
within the Company's market area. Commercial loans increased 17.2% as local
businesses expanded to meet the growth demands of the region. Consumer loans
increased 13.7% as the Bank competitively priced its boat and recreational
vehicle loans and offered dealer incentives to obtain such loans. Real estate
mortgage loans increased 23.0% as the Bank engaged in a home equity loan
promotion and offered an attractive short-term fixed rate mortgage loan product.

         Gains recognized on the sale of real estate mortgage loans to the
secondary market decreased in 1999 from $1,085,000 in 1998 to $758,000. The
secondary market loan activity declined in 1999 as mortgage rates increased and
the refinancing activity of 1998 declined. Loans held for sale at December 31,
1999 were $991,000. The real estate portfolio largely consists of residential
mortgages within the local area with a low risk of loss.

         The loan growth in 1998 occurred in commercial loans, which increased
by 10.3% as local businesses expanded and took advantage of lower interest
rates. Consumer loans declined in 1998 as a result of competition from both
financial and non-financial companies which offer borrowers other low cost
financing options. The real estate portfolio increased primarily due to the
offering of competitive home equity products.

         Loan commitments, consisting of unused credit card and home equity
lines, available amounts on revolving lines of credit and other approved loans
which have not been funded, were $37,949,000 and $31,175,000 at December 31,
1999 and 1998, respectively. Most of these commitments are priced at a variable
interest rate thus minimizing the Bank's risk in a changing interest rate
environment.

         There were no significant concentrations in any loan category as to
borrower or industry. However, substantially all loans are granted to customers
primarily in Southern Michigan.

         Another significant component of cash flow is the securities portfolio.
Total securities decreased by 20.1% in 1999 and increased by 50.6% in 1998. The
funds received from maturing securities were used to fund the 1999 loan growth
since the Bank was not able to fund this growth with deposits. The 1998 increase
is the result of a significant increase in deposits.

         The available-for-sale portfolio had net unrealized losses of $589,000
in 1999 and gains of $394,000 in 1998. During 1999, the Company adopted
Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for
Derivative Instruments and Hedging Activities" and transferred the entire
portfolio of held to maturity securities to available for sale. The transfer was
done so that the securities would be available to sell should the Company's
liquidity needs require it. None of these securities were sold during 1999.
There is no concentration of securities in the portfolio which would constitute
an unusual risk except at year-end 1999 and


                                       18

<PAGE>   19


1998, the amortized cost of securities issued by the state of Michigan and all
its political subdivisions totaled $13,114,000 and $19,883,000 with an estimated
market value of $13,132,000 and $20,729,000, respectively.

         Deposits traditionally represent the Company's principal source of
funds. Total deposits remained stable in 1999 and increased 12.7% in 1998. The
Bank was not able to increase its deposit base in 1999 because of increased
competition within the Bank's market area. Local competitors have offered
premium rates for deposits and the Bank has chosen not to match such rates. Also
contributing to the lack of deposit growth was an increase in customer cash
withdrawals late in the year in preparation for the Year 2000 rollover. The 1998
increase in deposits is the result of a complete overhaul of the Bank's personal
checking accounts which allowed the Bank to increase the number of deposit
accounts. The Bank experienced an increase not only in demand deposit accounts,
but in other deposit accounts as well as customers opened secondary accounts to
supplement their new checking accounts.

         Attracting and keeping traditional deposit relationships will continue
to be a challenge to the Bank, particularly with the increased competition from
nondeposit products. As an alternate funding source, the Bank obtains putable
advances from the Federal Home Loan Bank (FHLB) of Indianapolis. The advances
are secured by a blanket collateral agreement with the FHLB giving the FHLB an
unperfected security interest in the Bank's one-to-four family whole mortgage
loans, U.S. Treasury and Government agencies and highly rated private
mortgage-backed securities. FHLB advances can be a less expensive way to obtain
longer term funds than paying a premium for long term deposits.

         Premises and equipment decreased by 4.7% in 1999 and increased by 25.9%
in 1998. The 1999 decrease was due to a lack of significant additions and
increased depreciation because of the high level of additions in 1998. The Bank
opened a new branch office in Hillsdale in October 1998 at an approximate cost
of $2,000,000. The Bank made this significant investment because of the growth
potential in Hillsdale. In 2000, the Bank will spend approximately $2,300,000 to
renovate the Coldwater main office and the Beckley Road office.

         On February 15, 2000, the Company announced that it had agreed to merge
with Sturgis Bank & Trust Company of Sturgis, Michigan ("Sturgis"). The
transaction is anticipated to be a tax-free exchange. It is subject to
regulatory approvals and approval by the shareholders of Sturgis, and is
anticipated to be effective the second half of 2000. The exchange ratio is .398
shares of the Company's common stock for one share of Sturgis' common stock.

CAPITAL RESOURCES

         The Company maintains a strong capital base to take advantage of
business opportunities while ensuring that it has resources to absorb the risks
inherent in the business.

         The Federal Reserve Board (FRB) has imposed risk-based capital
guidelines applicable to the Company. These guidelines require that bank holding
companies maintain capital commensurate with both on and off balance sheet
credit risks of their operations. Under the guidelines, a bank holding company
must have a minimum ratio of total capital to risk-weighted assets of 8 percent.
In addition, a bank holding company must maintain a minimum ratio of Tier 1
capital equal to 4 percent of risk-weighted assets. Tier 1 capital includes
common shareholders' equity, qualifying perpetual preferred stock and minority
interests in equity accounts of consolidated subsidiaries less goodwill.

         As a supplement to the risk-based capital requirements, the FRB has
also adopted leverage capital ratio requirements. The leverage ratio
requirements are intended to insure that adequate capital is maintained against
risk other than credit risk. The leverage ratio requirements establish a minimum
ratio of Tier 1 capital to total assets of 3 percent for the most highly rated
bank holding companies and banks that do not anticipate and are


                                       19

<PAGE>   20


not experiencing significant growth. All other bank holding companies are
required to maintain a ratio of Tier 1 capital to assets of 4 to 5 percent,
depending on the particular circumstances and risk profile of the institution.

         Regulatory agencies have determined that the capital component created
by the adoption of FASB Statement 115 should not be included in Tier 1 capital.
As such, the net unrealized appreciation or depreciation on available-for-sale
securities is not included in the ratios listed in Note O to the financial
statements. The ratios include the common stock subject to repurchase obligation
in the Company's employee stock ownership plan (ESOP) and the unearned ESOP
shares. As seen in Note O, the Company exceeds the well capitalized
requirements.

         In addition to these regulatory requirements, a certain level of
capital growth must be achieved to maintain appropriate levels of equity to
total assets. During 1999 and 1998, total average assets grew 7.1% and 7.2%. At
the same time, average equity (including common stock held by the ESOP)
decreased 2.3% in 1999 and increased 5.2% in 1998. Equity grew at lower levels
than assets in both 1999 and 1998 because of the repurchase and retirement of
common stock shares (82,442 shares in 1999 and 51,079 in 1998). Future growth
opportunities will focus on maintaining the existing customer base and growing
within selected other markets identified as providing significant growth
potential.

LIQUIDITY AND INTEREST RATE SENSITIVITY

         The primary functions of asset/liability management are to assure
adequate liquidity and maintain an appropriate balance between interest-earning
assets and interest-bearing liabilities. Liquidity management involves the
ability to meet the cash flow requirements of customers who may be either
depositors wanting to withdraw funds or borrowers needing assurance that
sufficient funds will be available to meet their credit needs. Interest rate
sensitivity management seeks to avoid fluctuating net interest margins and
enhance consistent growth of net interest income through periods of changing
interest rates.

         Maturing loans and investment securities are the principal sources of
asset liquidity. Securities maturing or callable within 1 year were $17,732,000
at December 31, 1999 representing 32.7% of the amortized cost of the investment
securities portfolio, a decrease from the 43.4% level of 1998. Loans maturing
within 1 year were $42,708,000 at December 31, 1999 representing 22.1% of the
loan portfolio, a slight decrease from the 23.2% level of 1998.

         Financial institutions are subject to prepayment risk in falling rate
environments. Prepayments of assets carrying higher rates reduce the Company's
interest income and overall asset yields. Certain portions of an institution's
liabilities may be short-term or due on demand, while most of its assets may be
invested in long-term loans or investments. Accordingly, the Company seeks to
have in place sources of cash to meet short-term demands. These funds can be
obtained by increasing deposits, borrowing, or selling assets. Also, Federal
Home Loan Bank advances and short-term borrowings provide additional sources of
liquidity for the Company.

         During the year ended December 31, 1999, there was a net decrease in
cash and cash equivalents of $4,182,000. The major sources of cash in 1999 were
loan sales and maturing securities. The major uses of cash in 1999 were loan
growth and loans originated for sale.

         During the year ended December 31, 1998, there was a net decrease in
cash and cash equivalents. of $620,000. The major sources of cash in 1998 were
loan sales and the increase in deposits. The major uses of cash in 1998 were the
purchase of investment securities and loans originated for sale.

         During the year ended December 31, 1997, there was a net increase in
cash and cash equivalents of $3,328,000. The major sources of cash in 1997 were
loan sales and maturing securities. The major uses of cash in 1997 were loan
growth and loans originated for sale.



                                       20

<PAGE>   21

         Federal law places restrictions on extensions of credit from banks to
their parent holding company and, with certain exceptions, to other affiliates,
on investments in stock or other securities thereof, and on taking of such
securities as collateral for loans. State law also places restrictions on the
payment of dividends by the Bank to the Company. Note L to the Consolidated
Financial Statements discusses these dividend limitations.

         Interest rate risk arises when the maturity or repricing
characteristics of assets differ significantly from the maturity or the
repricing characteristics of liabilities. Accepting this risk can be an
important source of profitability and shareholder value, however excessive
levels of interest rate risk could pose a significant threat to the Company's
earnings and capital base. Accordingly, effective risk management that maintains
interest rate risk at prudent levels is essential to the Company's safety and
soundness.

         The Company measures the impact of changes in interest rates on net
interest income through a comprehensive analysis of the Bank's interest rate
sensitive assets and liabilities. Interest rate sensitivity varies with
different types of interest-earning assets and interest-bearing liabilities.
Overnight federal funds and mutual funds on which rates change daily and loans
which are tied to the prime rate or a comparable index differ considerably from
long-term investment securities and fixed-rate loans. Similarly, certificates of
deposit and money market investment accounts are much more interest sensitive
than passbook savings accounts. The shorter term interest rate sensitivities are
key to measuring the interest sensitivity gap, or excess interest-earning assets
over interest-bearing liabilities. In addition to reviewing the interest
sensitivity gap, the Company also analyzes projected changes in market interest
rates and the resulting effect on net interest income.

         The following table shows the interest sensitivity gaps for five
different time intervals as of December 31, 1999:


<TABLE>
<CAPTION>

                                                  0-30           31-90         91-365          1-5         Over 5
                                                  Days           Days           Days          Years        Years
                                                  ----           ----           ----          -----        -----
<S>                                         <C>            <C>           <C>           <C>            <C>
Interest-earning assets                      $      54,348  $      6,439  $     56,815  $    108,904   $     21,749

Interest-bearing liabilities                        53,968        84,526        42,013        25,260         10,000
                                             ----------------------------------------------------------------------

Interest sensitivity gap                     $         380  $    (78,087) $     14,802  $     83,644    $    11,749
                                             ======================================================================
</TABLE>


         The primary interest sensitive assets in the one year repricing range
are commercial loans and adjustable rate mortgage loans. The primary interest
sensitive liabilities in the one year repricing range are money market
investment accounts, certificates of deposit and interest bearing checking
accounts. This analysis indicates that growth in rate sensitive liabilities has
outpaced the growth in rate sensitive assets in the one year range. This has
occurred primarily as a result of the inclusion of interest bearing checking
accounts and savings accounts in a repricing period of one year or less as these
accounts have become rate sensitive as interest rates have fluctuated. The
long-term interest sensitivity gap indicates that the Company's net interest
margin would improve with an increase in interest rates and decline with further
declines in interest rates. Trying to minimize the interest sensitivity gap is a
continual challenge in a changing rate environment and one of the objectives of
the Company's asset/liability strategy.

RESULTS OF OPERATIONS

         Net interest income is an effective measurement of how well management
has balanced the Company's interest rate sensitive assets and liabilities. Net
interest income increased by 1.8% in 1999, 1.7% in 1998 and 10.2% in 1997. The
1999 increase is due to the reinvestment of funds held in the investment
securities portfolio


                                       21

<PAGE>   22


into the higher yielding loan portfolio, partially offset by increased interest
expense as a result of increased FHLB advances. The 1998 increase is due to the
reinvestment of funds held in overnight federal funds accounts into higher
yielding investment securities. The 1997 net interest income increased as a
result of the reinvestment of funds received from maturing investment securities
into the higher yielding loan portfolio, along with the stability of the
Company's cost of funds.

         The uncertain economic environment and potential fluctuations in
interest rates are expected to continue to impact the Company and the industry
in 2000. Depending on these interest rate fluctuations, there may be continued
market pressure to raise deposit rates in 2000 and to lower loan rates. The
Company monitors deposit rates on a weekly basis and adjusts deposit rates as
the market dictates. Loan rates are subject to change as the national prime rate
changes and are also influenced by competitor's rates. An increase in deposit
rates occurring at the same time as loan rate decreases would cause the
Company's net interest income to decline.

         The provision for loan losses is based on an analysis of the required
additions to the allowance for loan losses. The allowance for loan losses is
maintained at a level believed adequate by management to absorb potential losses
in the loan portfolio. Some factors considered by management in determining the
level at which the allowance is maintained include specific credit reviews, past
loan loss experience, current economic conditions and trends, results of
examinations by regulatory agencies and the volume, growth and composition of
the loan portfolio.

         The provision for loan losses was $852,000 in 1999, $600,000 in 1998
and $460,000 in 1997. The 1999 provision increase occurred to provide for loan
growth and increased charge-offs, primarily as a result of increased customer
bankruptcies. Net commercial loan charge-offs totaled $334,000 in 1999; $267,000
of this was attributable to three commercial borrowers that discontinued
business operations during 1999. The 1998 provision was increased to provide for
increased charge-offs and delinquencies, primarily as a result of increased
customer bankruptcies. The 1997 provision was increased to provide for loan
growth and the increase in charge-offs and delinquencies. Several customers,
including a large commercial borrower, declared bankruptcy during 1997 resulting
in increased charge-offs. It is anticipated that the Company will continue to
experience higher than normal losses in 2000. The provision will be adjusted
quarterly, if necessary, to reflect actual charge-off experience and any known
future losses.

         Non-interest income, excluding security gains and losses, decreased by
5.4% in 1999 and increased by 30.2% in 1998 and 15.2% in 1997. The 1999 decrease
is due primarily to a decline in gains recognized on the sale of real estate
mortgage loans to the secondary market. In order to reduce the risk associated
with changing interest rates, the Bank regularly sells fixed rate real estate
mortgage loans on the secondary market. The Bank recognizes a profit at the time
of the sale and receives a fee in order to service the loans. As fixed rate
mortgage rates increased in 1999, the number of new loans and refinancing
activities declined.

         The 1998 increase is due to increased service charge income, increased
gains recognized on the sale of secondary market real estate mortgage loans and
increased income from the Bank's automatic teller machines (ATMs). The Bank
increased its deposit base by 12.7% in 1998 and generated additional service
charges as a result of the growth. During this period of relatively low interest
rates, the Bank generated large volumes of fixed rate mortgage loans which were
sold to the secondary market. During 1998, the Bank began assessing a fee to
noncustomers who use the Bank's ATMs and thus increased fees generated.

         The 1997 increase is due to increased service charges on deposit
accounts as a result of the additional deposits purchased in connection with the
acquisition of two branches late in 1996, increased gains recognized on the sale
of secondary market real estate mortgage loans in 1997 due to an increase in
activity, increased fees from the sale of nondepository investment products in
1997 due to an increase in activity and unrecognized losses on real estate
mortgage loans held for sale recorded in 1996. These increases were partially
offset by a


                                       22

<PAGE>   23


decline in trust income due to a decline in trust assets and a decline in
earnings on Bank owned life insurance policies due to an increase in premium
payments.

         Security gains of $5,000 were recognized in 1997. No sales occurred in
1999 or 1998.

         Non-interest expense increased by 2.2% in 1999, 1.8% in 1998 and 16.0%
in 1997. In 1999, salaries and benefit expenditures increased as additional loan
department employees were added to assist with the increased loan volume.
Occupancy and equipment costs were higher in 1999 as a result of the addition of
the new Hillsdale branch and its equipment additions, increasing maintenance on
the Bank's older properties and technological upgrades to the Bank's mainframe
and personal computers. Professional and outside services were higher in 1999 as
a result of increased usage of consultants for general bank consulting purposes.
Advertising and marketing expenses were down for 1999 as a result of higher
expenses paid to promote the Bank's new checking product in 1998.

         The primary expense categories that increased in 1998 were occupancy
and equipment and professional and outside services. Occupancy and equipment
costs increased as a result of the opening of the new Hillsdale branch and
continued upgrades to the Bank's technology base. Professional and outside
services increased as a result of increased usage of consultants for general
bank consulting purposes.

         The 1997 increase was due to additional personnel costs, occupancy and
equipment costs, advertising and marketing expenditures, training costs and
intangible asset amortization as a result of the acquisition of two branches
late in 1996. Trust department expenses also increased in 1997 as professional
consultants and new trust administrators were added in order to increase the
trust department's market share. Equipment costs increased in 1997 as the
Company invested in significant technological upgrades.

         Income tax expense was $1,005,000 in 1999, $1,185,000 in 1998 and
$1,085,000 in 1997. Tax-exempt income continues to have a major impact on the
Company's tax expense. The lower coupon rate on municipal instruments is offset
by the nontaxable feature of the income earned on such instruments. This
resulted in a lower effective tax rate and reduced federal income tax expense by
approximately $358,000 in 1999, $350,000 in 1998 and $254,000 in 1997.

         Results of operations can be measured by various ratio analyses. Two
widely recognized performance indicators are the return on equity and the return
on assets. The Company's return on average equity was 16.4% in 1999, 17.5% in
1998 and 15.0% in 1997. The return on average assets was 1.2% in 1999, 1.4% in
1998 and 1.3% in 1997.

         The majority of assets and liabilities of a financial institution are
monetary in nature and therefore differ greatly from most commercial and
industrial companies that have significant investments in fixed assets or
inventories. However, inflation does have an important impact on the growth of
total assets in the banking industry and the resulting need to increase equity
capital at higher than normal rates in order to maintain an appropriate
equity-to-assets ratio. Another significant effect of inflation is on other
expenses, which tend to rise during periods of general inflation.

         Management believes the most significant impact on financial results is
the Company's ability to react to changes in interest rates. As discussed
previously, management is attempting to maintain an essentially balanced
position between interest sensitive assets and liabilities in order to protect
against wide interest rate fluctuations.



                                       23

<PAGE>   24


YEAR 2000

         The Company had a successful Year 2000 rollover. The Company has not
experienced any significant Year 2000 problems as a result of the rollover, and
is not aware of any customers that have experienced material Year 2000 problems.
This success can be attributed to the fact that the Company began addressing
Year 2000 issues in mid 1997. The Company followed a plan to identify all
critical business processes and established a priority schedule for assessment
of each process. As the Company worked through its Year 2000 plan, any hardware,
software, equipment or vendor provided services that were identified as not Year
2000 compliant were either upgraded or retired. While no Year 2000 problems have
been identified to date, monitoring will continue for most of 2000 to assure
that all Year 2000 issues have been addressed.

NONPERFORMING ASSETS

         Nonperforming assets include nonaccrual loans, accruing loans past due
90 days or more, and other real estate which includes foreclosures and deeds in
lieu of foreclosure.

         A loan generally is classified as nonaccrual when full collectibility
of principal or interest is doubtful or a loan becomes 90 days past due as to
principal or interest, unless management determines that the estimated net
realizable value of the collateral is sufficient to cover the principal balance
and accrued interest. When interest accruals are discontinued, unpaid interest
credited to income in the current year is reversed, and unpaid interest accrued
in prior years is charged to the allowance for loan losses. Nonperforming loans
are returned to performing status when the loan is brought current and has
performed in accordance with contract terms for a period of time.

         The following table sets forth the aggregate amount of nonperforming
loans in each of the following categories:

<TABLE>
<CAPTION>

                                                                                        December 31
                                                                          1999             1998            1997
                                                                          -------------------------------------
                                                                                  (Dollars in thousands)
<S>                                                                  <C>             <C>              <C>
Nonaccrual loans:
   Commercial, financial and agricultural                             $        306    $        343     $      1,026
   Real estate mortgage                                                         23               -                -
   Installment                                                                   -               -               61
                                                                      ---------------------------------------------
                                                                               329             343            1,087

Loans contractually past due 90 days or more:
   Commercial, financial and agricultural                                      432             807            1,067
   Real estate mortgage                                                        134             161              630
   Installment                                                                  34             120              966
                                                                      ---------------------------------------------
                                                                               600           1,088            2,663
                                                                      ---------------------------------------------

Total nonperforming loans                                                      929           1,431            3,750
Other real estate owned                                                          4             166              103
                                                                      ---------------------------------------------

Total nonperforming assets                                            $        933    $      1,597     $      3,853
                                                                      ---------------------------------------------

Nonperforming loans to year-end loans                                         .48%            .88%            2.36%
                                                                              ===             ===             ====
Nonperforming assets to year-end loans
  and other real estate owned                                                 .48%             .98%            2.43%
                                                                              ===              ===             ====
</TABLE>

         Nonperforming loans are subject to continuous monitoring by management
and are specifically reserved for in the allowance for loan losses where
appropriate.



                                       24

<PAGE>   25


         At December 31, 1999, the Company had approximately $2,683,000 in
commercial, financial and agricultural loans for which payments are presently
current but the borrowers are experiencing certain financial and/or operational
difficulties. These loans are subject to frequent management review and their
classification is reviewed on a monthly basis.

         In management's evaluation of the loan portfolio risks, any significant
future increases in nonperforming loans is dependent to a large extent on the
economic environment. In a deteriorating or uncertain economy, management
applies more conservative assumptions when assessing the future prospects of
borrowers and when estimating collateral values. This may result in a higher
number of loans being classified as nonperforming.

REGULATORY MATTERS

         Representatives of the Financial Institutions Bureau, a division of the
Department of Commerce of the State of Michigan, completed an examination at the
Company's subsidiary bank using financial information as of May 24, 1999. The
purpose of the examination was to determine the safety and soundness of the
Bank.

         Examination procedures require individual judgments about a borrower's
ability to repay loans, sufficiency of collateral values and the effects of
changing economic circumstances. These procedures are similar to those employed
by the Company in determining the adequacy of the allowance for loan losses and
in classifying loans. Judgments made by regulatory examiners may differ from
those made by management. The Company's level and classification of identified
potential problem loans was not revised significantly as a result of this
regulatory examination process.

         Management and the Board of Directors evaluate existing practices and
procedures on an ongoing basis. In addition, regulators often make
recommendations during the course of their examination that relate to the
operations of the Company and the Bank. As a matter of practice, management and
the Board of Directors consider such recommendations promptly.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         The Company's primary market risk exposure is interest rate risk and to
a lesser extent liquidity risk. See Liquidity and Interest Rate Sensitivity,
above. Business is transacted in U.S. dollars with no foreign exchange rate risk
or any direct exposure to changes in commodity prices.

         The following tables provide information about the Company's financial
instruments that are sensitive to changes in interest rates as of December 31,
1999 and 1998. The Company had no derivative financial instruments, or trading
portfolio, at either date. The expected maturity date values for loans
receivable, mortgage-backed securities and investment securities were calculated
without adjusting the instrument's contractual maturity date for expectations of
prepayments. Expected maturity date values for interest-bearing core deposits
were not based upon estimates of the period over which the deposits would be
outstanding, but rather the opportunity for repricing. Similarly, with respect
to its variable rate instruments, the Company believes that repricing dates, as
opposed to expected maturity dates may be more relevant in analyzing the value
of such instruments and are reported as such in the following table. Company
borrowings are also reported based on conversion or repricing dates.



                                       25

<PAGE>   26


<TABLE>
<CAPTION>

                                                 1999 Principal Amount Maturing in:                        Fair Value
                                  2000       2001       2002       2003       2004    Thereafter    Total    12/31/99
                                  ----       ----       ----       ----       ----    ----------    -----    --------
<S>                           <C>        <C>        <C>        <C>        <C>        <C>        <C>        <C>
Rate sensitive assets:
  Fixed interest rate loans      $11,510  $   5,997  $  10,769  $  11,439  $  16,581  $  23,127  $  79,423  $  78,477
    Average interest rate           8.98       9.01       9.03       9.52       9.72       9.31       9.12
  Variable interest rate loans    84,171      5,636      4,514      6,928     10,934      1,765    113,948    113,948
    Average interest rate           8.65       8.92       8.89       9.03       8.90       9.17       8.75
  Fixed interest rate securities   9,638      7,985     11,546     11,217      2,902     10,941     54,229     54,229
    Average interest rate           5.45       5.57       5.64       5.87       5.44       5.32       5.60
  Other interest bearing assets      655                                                               655        655
    Average interest rate          5.14%                                                             5.14%

Rate sensitive liabilities
  Interest bearing demand
    deposits                      82,498                                                             82,498     82,498
    Average interest rate           3.19                                                               3.19
  Passbook savings                30,793                                                             30,793     30,793
    Average interest rate           2.40                                                               2.40
  Time deposits                   57,453      8,044      5,765        574         29                 71,865     71,959
    Average interest rate           5.11       5.65       5.55       5.15       5.14                   5.23
  Other deposits                   6,482      2,792      1,265        234      4,250                 15,023     14,911
    Average interest rate           4.87       5.25       5.29       5.30       5.31                   5.11
  Fixed interest rate
    borrowings                    13,588      2,000                                                  15,588     15,588
    Average interest rate           5.32       5.77                                                    5.38
</TABLE>

<TABLE>
<CAPTION>

                                                 1998 Principal Amount Maturing in:                        Fair Value
                                  1999       2000       2001       2002       2003    Thereafter    Total    12/31/98
                                  ----       ----       ----       ----       ----    ----------    -----    --------
<S>                            <C>      <C>        <C>        <C>        <C>        <C>        <C>        <C>
Rate sensitive assets:
  Fixed interest rate loans     $ 9,887  $   6,679  $   8,478  $  10,259  $  11,483  $  11,582  $  58,368  $  58,653
    Average interest rate         10.81       9.98      10.25      10.50       9.79       9.01      10.02
  Variable interest rate loans   77,513      5,190      4,157      6,380     10,069      1,626    104,935    104,935
    Average interest rate          8.75       8.63       8.65       8.79       9.00       8.72       8.70
  Fixed interest rate securities 21,933     11,304      7,962      5,327      2,971     18,397     67,894     68,831
    Average interest rate          4.71       4.62       4.59       4.64       4.58       4.71       4.60
  Other interest bearing assets   6,610                                                             6,610      6,610
    Average interest rate         4.84%                                                             4.84%

Rate sensitive liabilities
  Interest bearing demand
    deposits                     79,255                                                            79,255     79,255
    Average interest rate          3.05                                                              3.05
  Passbook savings               31,797                                                            31,797     31,797
    Average interest rate          2.30                                                              2.30
  Time deposits                  54,704     10,774      5,164      1,797                           72,439     72,899
    Average interest rate          5.11       4.83       4.74       4.81                             5.00
  Other deposits                  6,461      2,825      1,282        235      4,289                15,092     16,209
    Average interest rate          4.35       5.81       5.72       5.65       5.60                  5.40
  Fixed interest rate
    borrowings                               3,588      2,000                                       5,588      5,588
    Average interest rate                     5.47       5.47                                        5.47
</TABLE>


ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         The information required by this Item is set forth in the Section
entitled "Quantitative and Qualitative Disclosures about Market Risk" included
under Item 7 of this report and is incorporated herein by reference.


                                       26

<PAGE>   27

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

         See consolidated financial statements of the Company which are included
in Item 14., Exhibits, Financial Statement Schedules and Reports on Form 8-K,
and begin on page FS-1.


ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES

         None

                                    PART III

ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY

         The following table lists the names of the directors and their ages as
of February 29, 2000, their principal occupations and the year in which each
became a director. Mr. Grohalski is the only executive officer of the Company.

<TABLE>
<CAPTION>

                                                                                               YEAR FIRST BECAME A
                                                     PRINCIPAL OCCUPATION(S) FOR PAST 5      DIRECTOR OF THE COMPANY
     NAME OF DIRECTOR                    AGE                      YEARS(1)
     ----------------------------------- --------- ---------------------------------------- ---------------------------

<S>                                     <C>       <C>                                       <C>
     James P. Briskey                    66        Owner - Pittsford Grain Incorporated                1982
                                                   (grain elevator operator)

     H. Kenneth Cole                     51        Treasurer - Hillsdale College                       1998

     William E. Galliers                 57        Co-Owner and Chief Executive Officer -              1993
                                                   G & W Display Fixtures, Inc.
                                                   (manufacturer of display fixtures)

     James T. Grohalski                  59        President and Chief Executive Officer               1982
                                                   of the Company and the Bank since
                                                   December 31, 1998; Executive Vice
                                                   President and Chief Financial Officer
                                                   of the Company and President of the
                                                   Bank from January 1, 1984 until
                                                   December 31, 1998; Mr. Grohalski
                                                   joined the Bank in 1967.

     Nolan E. Hooker                     48        Owner - Hooker Oil Co. (distributor of              1991
                                                   heating oil)

     Gregory J. Hull                     51        Farmer                                              1955

     Thomas E. Kolassa                   52        Owner - The Planning Group (insurance)              1995

     James J. Morrison                   52        Owner - Morrison & Associates                       1991
                                                   (insurance)
</TABLE>



                                       27

<PAGE>   28

<TABLE>
<CAPTION>

                                                                                               YEAR FIRST BECAME A
                                                     PRINCIPAL OCCUPATION(S) FOR PAST 5      DIRECTOR OF THE COMPANY
     NAME OF DIRECTOR                    AGE                      YEARS(1)
     ----------------------------------- --------- ---------------------------------------- ---------------------------

<S>                                     <C>       <C>                                       <C>


     Jane L. Randall                     78        Owner - Dally Tire Co. (tire                        1982
                                                   distributor)

     Freeman E. Riddle                   67        Owner - Spoor & Parlin, Inc. (farm                  1982
                                                   equipment)

     Jerry L. Towns                      65        President and Chief Executive Officer               1982
                                                   of the Company and Chairman and Chief
                                                   Executive Officer of the Bank until
                                                   retirement on December 31, 1998
</TABLE>


ITEM 11.  EXECUTIVE COMPENSATION

         The following table sets forth compensation paid by the Company and the
Bank with respect to the fiscal year ended December 31, 1999 to the Company's
Chief Executive Officer. Mr. Grohalski is the only executive officer of the
Company.

                           SUMMARY COMPENSATION TABLE

<TABLE>
<CAPTION>

                                                               ANNUAL COMPENSATION
                                                               -------------------
                                                                                                ALL OTHER
       NAME AND PRINCIPAL POSITION                         YEAR         SALARY ($)(1)       COMPENSATION ($)(2)
       -----------------------------------------------------------------------------------------------------------
<S>                                                       <C>            <C>                      <C>
       James T. Grohalski
       President and Chief Executive
          Officer of the                                   1999           $140,570                 $7,344
       Company and the
          Bank                                             1998           $133,813                 $7,400
                                                           1997           $135,225                 $7,202
</TABLE>

          (1)  The amounts shown include amounts deferred under the 401(k)
               provisions of the ESOP and the Bank's Executives' Deferred
               Compensation Plan.

          (2)  The amounts shown include the following for 1999: (i) employer
               contributions to accounts in the ESOP and the Deferred
               Compensation Plan of $4,000 and $3,000 respectively for Mr.
               Grohalski; and (ii) $344 constituting the value of insurance
               premiums paid by the Bank for term life insurance for Mr.
               Grohalski's benefit.

Retirement Benefits

         Officers of the Company participate in the Southern Michigan Bank &
Trust Retirement Plan (the "Retirement Plan") which has been adopted by the
Bank. Under the terms of the Retirement Plan, a normal monthly retirement
benefit is provided to covered employees who attain the age of 65. It provides
for a normal retirement benefit after 30 years of credited service equal to 35%
of a participant's actual monthly compensation based on the participant's
highest consecutive five year average compensation (see column captioned
"Remuneration"). For participants with less than 30 years credited service,
reduced benefits are available in an amount equal to the normal retirement
benefit reduced by 1/30 for each year of service less than 30. Participants are
100% vested after five years of credited service, and are subject to forfeiture
upon termination of employment with credited service less than five years. The
following table represents estimated normal


                                       28

<PAGE>   29


annual benefits payable on a straight-life annuity basis upon retirement at age
65 and are not subject to deduction for social security benefits:


                               PENSION PLAN TABLE

<TABLE>
<CAPTION>

                                                                       YEARS OF SERVICE
                                                 -------------------------------------------------------------

                    REMUNERATION                        25                  30                    35
               -----------------------------------------------------------------------------------------------
<S>                                                 <C>                 <C>                   <C>
                           $110,000                  $32,100             $38,500               $38,500

                           $120,000                  $35,000             $42,000               $42,000

                           $130,000                  $37,900             $45,500               $45,500

                           $140,000                  $40,800             $49,000               $49,000

                           $150,000                  $43,750             $52,500               $52,500
</TABLE>

James T. Grohalski has 32 years of credited service and $132,500 current covered
remuneration.


         The Bank also has in effect supplemental retirement arrangements in the
form of Executive Employee Salary Continuation Agreements with Messrs. Grohalski
and Towns under which a specified annual benefit, in addition to that provided
under the Retirement Plan, is payable to the participant upon retirement at age
65. The participant is entitled to a reduced benefit if his retirement occurs
between the ages of 62 and 65. No benefit is payable if the participant
voluntarily terminates his employment or is discharged for cause prior to the
age of 62. However, the specified benefit is payable beginning at age 65, if the
participant's employment is terminated after a "change in control" of the
Company, and in connection with such change, his title, responsibility or
compensation is significantly lessened or the status of his employment is
changed without his consent. The specified annual benefit, when added to the
benefit under the Retirement Plan, is intended to be approximately equal to the
benefit the participant would have received under the Retirement Plan but for a
plan amendment which changed the Retirement Plan's benefit formula to comply
with changes in pension laws and which substantially reduced the participants'
benefits. For James T. Grohalski, the specified benefit payable upon retirement
at age 65 under the supplemental retirement arrangement is $22,060 per year for
15 years. The Board of Directors may increase the benefit by not more than 2%
per year prior to retirement.

         The Bank also has an Executives' Deferred Compensation Plan (the
"Deferred Compensation Plan") for directors and certain officers. Under the
Deferred Compensation Plan, participants elect to defer a portion of their
compensation (in the case of directors, their fees) on a pretax basis. Upon
retirement at or after age 65, the participant or his or her designated
beneficiary is entitled to a benefit equal to the amount of the participant's
deferrals to the Deferred Compensation Plan plus earnings on such deferrals at a
specified rate of interest compounded annually, payable in equal monthly amounts
for not less than 180 months. Upon the participant's termination of employment
or retirement before age 65, the benefit payable to the participant at age 65 is
determined by multiplying the amount deferred under the Deferred Compensation
Plan by the ratio of the number of months for which the participant made
deferrals to the number of months from the time the participant began making
deferrals to the participant's reaching age 65. The amounts shown in the summary
compensation table above include amounts deferred as contributions under the
Deferred Compensation Plan.

Compensation Committee Report on Executive Compensation

Executive Compensation Policies.



                                       29

<PAGE>   30

         The Company's executive compensation policies are designed to support
the corporate objective of maximizing the long-term value of the Company to its
shareholders and employees. To achieve this objective, the Compensation
Committee believes it is important to provide competitive levels of compensation
to attract and retain the most qualified executives, to recognize individuals
who exceed expectations and to link closely overall corporate performance and
executive pay.

         The Company has established two primary components of the Company's
executive compensation plan. The two components are: (a) base compensation; and
(b) stock-based performance compensation through stock option grants, subject to
the shareholders' approval of the Southern Michigan Bancorp, Inc. 2000 Stock
Option Plan described below.

Base Compensation.

         The Compensation Committee annually reviews base salaries of executive
officers. Factors which influence decisions made by the Compensation Committee
regarding base salaries are levels of responsibility and potential for future
responsibilities, salary levels offered by competitors and overall performance
of the Company. The Compensation Committee's practice in establishing salary
levels is based in part upon overall Company performance and is not based upon
any specific objectives or policies, but reflects the subjective judgment of the
Compensation Committee. However, specific annual performance goals are
established for each executive officer. Based on the Compensation Committee's
comparison of the Company's overall compensation levels as a percent of revenues
and net income to comparable companies in the industry, the Compensation
Committee believes its overall compensation levels are in the middle of the
range.

Stock Option Grants.

         Executive compensation to reward past performance and to motivate
future performance will also be provided through stock options granted under the
Southern Michigan Bancorp, Inc. 2000 Stock Option Plan if approved by the
shareholders. The purpose of the plan is to encourage executive officers to
maintain a long-term stock ownership position in the Company in order that their
interests are aligned with those of the Company's shareholders. The Board of
Directors, in its discretion, has the authority to determine participants in the
plan, the number of shares to be granted and the option price and term.
Consideration for stock option awards are evaluated on a subjective basis and
granted to participants until an ownership position exists which is consistent
with the participant's current responsibilities.

Chief Executive Officer Compensation.

         The Compensation Committee established Mr. Grohalski's base salary
based primarily on a subjective evaluation of the Company's prior year's
financial results, past salary levels and compensation paid to other chief
executive officers in the Company's industry. Based on the Compensation
Committee's comparison of the Company's overall compensation level for Mr.
Grohalski as a percent of revenue and net income to comparable companies in the
industry, the Compensation Committee believes his overall compensation level is
in the middle of the range.

RESPECTFULLY SUBMITTED BY THE MEMBERS OF THE COMPENSATION COMMITTEE, James J.
Morrison, H. Kenneth Cole and James P. Briskey.

Director Compensation

         Currently, each director of the Company whose principal occupation is
not with the Company or the Bank receives an annual fee of $6,200 which will be
indexed for inflation in 2000. In addition, outside directors are compensated
$150 for each committee meeting attended and participate in a bonus program
based upon the



                                       30

<PAGE>   31

achievement of growth and profitability goals. No bonus was paid to outside
directors for 1999. Subject to approval by the shareholders as described below,
the directors will be eligible to receive stock options under the Southern
Michigan Bancorp, Inc. 2000 Stock Option Plan.


ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

         The following table sets forth, as of February 29, 2000, the names and
addresses of all beneficial owners of 5% or more of the Common Stock showing the
amount and nature of such beneficial ownership:

<TABLE>
<CAPTION>

                                NAME & ADDRESS OF                           AMOUNT & NATURE OF           PERCENT
      TITLE OF CLASS             BENEFICIAL OWNER                         BENEFICIAL OWNERSHIP(1)        OF CLASS
      -----------------------------------------------------------------------------------------------------------

<S>                           <C>                                             <C>                        <C>
      Common Stock             Southern Michigan Bank                          169,500(a)                 8.65%
                               & Trust
                               51 West Pearl Street
                               Coldwater, MI  49036

      Common Stock             Harvey B. Randall                               146,075(b)                 7.46%
                               8391 Old U.S. 27 South
                               Marshall, MI  49068
</TABLE>


          (1)  Based upon information furnished to the Company by the beneficial
               owners named above. The nature of beneficial ownership for shares
               shown is sole voting and investment power, except as set forth
               below. Shares have been rounded to the nearest whole share.

               (a)  Shares are held by the Trust Department of Southern Michigan
                    Bank & Trust (the "Bank") in various fiduciary capacities.
                    16,270 of such shares are voted by the Bank with no
                    investment power.

               (b)  Includes 146,022 shares held by Mr. Randall as trustee.

         The following table sets forth, as of February 29, 2000, the total
number of shares of the Common Stock beneficially owned, and the percent of such
shares so owned, by each director and by all directors and executive officers of
the Company as a group.



<TABLE>
<CAPTION>

      NAME OF BENEFICIAL OWNER OR        AMOUNT AND NATURE OF          TOTAL        PERCENT OF
      NUMBER OF PERSONS IN GROUP        BENEFICIAL OWNERSHIP(1)                       CLASS
      ----------------------------------------------------------------------------------------

<S>                                    <C>                           <C>           <C>
      James P. Briskey                      10,648                    21,296          1.09
                                            10,648 (a)

      H. Kenneth Cole                          169                       169           (2)

      William E. Galliers                    2,260 (a)                 2,260           (2)

      James T. Grohalski(3)                 21,868 (b)                21,868          1.12

      Nolan E. Hooker                          950 (a)                   950           (2)

      Gregory J. Hull                        1,099 (a)                 1,099           (2)

      Thomas E. Kolassa                      1,527 (a)                 1,527           (2)

      James J. Morrison                        346                     2,904           (2)
                                             2,558 (a)
</TABLE>


                                       31

<PAGE>   32

<TABLE>
<CAPTION>


      NAME OF BENEFICIAL OWNER OR        AMOUNT AND NATURE OF          TOTAL        PERCENT OF
      NUMBER OF PERSONS IN GROUP        BENEFICIAL OWNERSHIP(1)                       CLASS
      ----------------------------------------------------------------------------------------

<S>                                    <C>                           <C>           <C>


      Jane L. Randall                        5,774 (c)                 5,774           (2)

      Freeman E. Riddle                      4,554                     7,000           (2)
                                             2,446 (a)

      Jerry L. Towns (4)                       126 (a)                 7,048           (2)
                                             6,922 (d)

      All directors and executive           71,895                    71,895         3.67%
      officers as a group (11 persons)
</TABLE>


          (1)  Based upon information furnished to the Company by the individual
               named and the members of the designated group. The nature of
               beneficial ownership for shares shown is sole voting and
               investment power except as set forth below. Shares have been
               rounded to the nearest whole share.

               (a)  Shared voting and investment power.

               (b)  Includes 19,385 shares held by the Bank's Employee Stock
                    Ownership Plan (the "ESOP") as to which Mr. Grohalski has
                    voting power only.

               (c)  Shares indicated are held as trustee.

               (d)  Shares are voted by the Bank as IRA custodian unless
                    otherwise directed by Mr. Towns.

          (2)  Less than one percent (1%).

          (3)  Mr. Grohalski is the only executive officer of the Company.

          (4)  Mr. Towns served on the Board of Directors since 1982 and is
               retiring as a director effective April 17, 2000. Mr. Towns' three
               year term as a director expires as of the 2000 Annual Meeting.

ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

         Directors and officers of the Company and their associates were
customers of, and had transactions with the Bank in the ordinary course of
business during 1999. All loans and commitments included in such transactions
were made in the ordinary course of business on substantially the same terms,
including interest rates and collateral, as those prevailing at the time for
comparable transactions with other persons and did not involve more than the
normal risk of collectibility or present other unfavorable features.

                                     PART IV

ITEM 14.  EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

         (a)(1)The following consolidated financial statements of the Company
               are filed as a part of this report and are included herewith
               beginning on page FS-1:

               -    Report of Crowe, Chizek and Company LLP, independent
                    auditors

               -    Consolidated Balance Sheets - December 31, 1999 and 1998


                                       32

<PAGE>   33



               -    Consolidated Statements of Changes in Shareholders' Equity -
                    Years ended December 31, 1999, 1998 and 1997

               -    Consolidated Statements of Income - Years ended December 31,
                    1999, 1998 and 1997

               -    Consolidated Statements of Cash Flows - Years ended December
                    31, 1999, 1998 and 1997

               -    Notes to Consolidated Financial Statements - December 31,
                    1999

         (a)(2)Not applicable.

         (a)(3)Exhibits (Numbered in accordance with Item 601 of Regulation
               S-K).


               Exhibit No.           Description of Exhibit
               -----------           ----------------------
                Exhibit 2    Agreement and Plan of Consolidation dated February
                             15, 2000 by and between the Company and Sturgis
                             Bank & Trust Company, a Michigan savings bank.

               Exhibit 3(i)  Articles of Incorporation incorporated by reference
                             to Exhibit 3 to the Company's Annual Report on Form
                             10-K for the year ended December 31, 1991 and
                             Exhibit 3 to Form S-3D filed April 30, 1998.

              Exhibit 3(ii)  Amended and Restated By-Laws are incorporated by
                             reference to Exhibit 3 to the Company's Annual
                             Report on Form 10-K for the year ended December 31,
                             1997.

                Exhibit 4    Instruments Defining the Rights of Security Holders
                             of the Company are the Articles of Incorporation
                             and By-Laws (see Exhibits 3(i) and (ii) above).

                Exhibit 9    Not applicable.

              Exhibit 10(a)  Material Contracts - Executive Compensation Plans
                             and Arrangements: (1) Master Agreements for
                             Directors' Deferred Income Plan; (2) Composite form
                             of Executive Employee Salary Continuation
                             Agreement, as amended; and (3) Master Agreements
                             for Executives' Deferred Compensation Plan, as
                             amended, are incorporated by reference to Exhibit
                             10 to the Company's Annual Report on Form 10-K for
                             the year ended December 31, 1994.

              Exhibit 10(b)  Southern Michigan Bancorp, Inc. 2000 Stock Option
                             Plan.

                Exhibit 11   Not applicable.

                Exhibit 12   Not applicable.

                Exhibit 13   Not applicable.

                Exhibit 16   Not applicable.

                Exhibit 18   Not applicable.

                Exhibit 19   Not applicable.






                                       33

<PAGE>   34

               Exhibit No.           Description of Exhibit
               -----------           ----------------------
                Exhibit 21   Subsidiaries of the Company.

                Exhibit 22   Not applicable.

                Exhibit 23   Consent of Independent Auditors.

                Exhibit 27   Financial Data Schedule.

          (b)  No reports on Form 8-K were filed in the last Quarter of the
               period covered by this report.

          (c)  Exhibits - See Item 14(a)(3) above.

          (d)  Financial Statement Schedules - Omitted due to inapplicability or
               because required information is shown in the Financial Statements
               and Notes thereto.

SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT TO SECTION
15(d) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED SECURITIES PURSUANT TO
SECTION 12 OF THE ACT

          (a)  On March 24, 2000, the Company delivered to the Commission via
               EDGAR its proxy statement dated March 24, 2000 which was prepared
               for its 2000 Annual Meeting of Shareholders and, which proxy
               statement included, in Appendix B, the information required in
               its 2000 Annual Report.





   (The remainder of this page is intentionally blank. The next page is FS-1).














                                       34





<PAGE>   35
REPORT OF INDEPENDENT AUDITORS



                       [CROWE CHIZEK LOGO]







Shareholders and Board of Directors
Southern Michigan Bancorp, Inc.
Coldwater, Michigan


We have audited the accompanying consolidated balance sheets of Southern
Michigan Bancorp, Inc. as of December 31, 1999 and 1998 and the related
consolidated statements of income, shareholders' equity and cash flows for each
of the three years in the period ended December 31, 1999. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Southern Michigan
Bancorp, Inc. as of December 31, 1999 and 1998 and the results of its operations
and its cash flows for each of the three years in the period ended December 31,
1999 in conformity with generally accepted accounting principles.

As disclosed in Note C, on July 1, 1999 the Company changed its method of
accounting for derivative instruments and hedging activities to comply with new
accounting guidance.





                                            Crowe, Chizek and Company LLP

South Bend, Indiana
February 11, 2000


                                      FS-1

<PAGE>   36


CONSOLIDATED BALANCE SHEETS
(In thousands, except number of shares)

<TABLE>
<CAPTION>


                                                                                                  December 31,
                                                                                              1999           1998
                                                                                        ---------------------------
<S>                                                                                     <C>             <C>
ASSETS
Cash                                                                                    $     4,217     $     3,021
Due from banks                                                                                7,829          13,207
                                                                                        ---------------------------
     Cash and cash equivalents                                                               12,046          16,228
Federal funds sold                                                                                            4,000
Securities available for sale                                                                54,229          36,138
Securities held to maturity (fair value $32,693 - 1998)                                                      31,756
Loans, net of allowance for loan losses $2,132 - 1999 ($2,026 - 1998)                       191,239         161,277
Premises and equipment                                                                        6,705           7,036
Accrued interest receivable                                                                   2,442           2,418
Net cash surrender value of life insurance                                                    5,251           5,026
Other assets                                                                                  3,913           2,972
                                                                                        ---------------------------
     TOTAL ASSETS                                                                       $   275,825     $   266,851
                                                                                        ===========================
LIABILITIES AND SHAREHOLDERS' EQUITY
Liabilities
     Deposits
         Non-interest bearing                                                           $    33,124     $    34,778
         Interest bearing                                                                   200,179         198,583
                                                                                        ---------------------------
              Total deposits                                                                233,303         233,361
     Accrued expenses and other liabilities                                                   3,542           3,116
     Other borrowings                                                                        15,000           5,000
                                                                                        ---------------------------
         TOTAL LIABILITIES                                                                  251,845         241,477

Common stock subject to repurchase obligation in
  Employee Stock Ownership Plan, shares outstanding - 130,502 in 1999
  (150,727 in 1998)                                                                           3,990           6,029

Shareholders' equity
     Preferred stock, 100,000 shares authorized; none issued or outstanding
     Common stock, $2.50 par value:
         Authorized - 4,000,000 shares
         Issued - 1,969,259 shares in 1999 (1,872,677 in 1998)
         Outstanding - 1,838,757 shares in 1999 (1,721,950 in 1998)                           4,597           4,305
     Additional paid-in capital                                                               8,421           3,863
     Retained earnings                                                                        7,949          11,505
     Accumulated other comprehensive income (loss), net of tax $200 - 1999,
       $(134) - 1998                                                                           (389)            260
     Unearned Employee Stock Ownership Plan shares                                             (588)           (588)
                                                                                        ---------------------------
         TOTAL SHAREHOLDERS' EQUITY                                                          19,990          19,345
                                                                                        ---------------------------
     TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY                                         $   275,825     $   266,851
                                                                                        ===========================
</TABLE>

See accompanying notes to consolidated financial statements.

                                      FS-2

<PAGE>   37


CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
(In thousands, except number of shares and per share data)

<TABLE>
<CAPTION>
                                                                                     Accumulated
                                                                                        Other
                                                                                    Comprehensive
                                                            Additional                 Income,      Unearned
                                                Common        Paid-In     Retained      (Loss)        ESOP
                                                 Stock        Capital     Earnings    Net of Tax     Shares       TOTAL
                                              ----------------------------------------------------------------------------
<S>                                          <C>          <C>          <C>          <C>          <C>          <C>
BALANCE AT JANUARY 1, 1997                   $     2,174  $     2,734  $    14,687  $        21  $             $    19,616

Net income for 1997                                                          3,032                                   3,032
Cash dividends declared - $.52 per share                                    (1,109)                                 (1,109)
Common stock issued under dividend
  reinvestment plan (9,879 shares)                    25          365                                                  390
100% stock dividend issued (956,695
  shares)                                          2,392                    (2,392)
Change in common stock subject
  to repurchase                                     (159)      (1,185)                                              (1,344)
Net change in unrealized gain on
  available for sale securities, net of tax                                                   5                          5
                                              ----------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1997                       4,432        1,914       14,218           26                     20,590

Net income for 1998                                                          3,549                                   3,549
Cash dividends declared - $.60 per share                                    (1,262)                                 (1,262)
Common stock issued under dividend
  reinvestment plan (6,835 shares)                    18          233                                                  251
Common stock repurchased and
  retired (51,079 shares)                           (128)      (2,171)                                              (2,299)
Transfer from retained earnings to
  additional paid-in capital                                    5,000       (5,000)
Change in common stock subject
  to repurchase                                      (17)      (1,113)                                              (1,130)
Purchase of shares by ESOP
  (14,000 shares)                                                                                       (588)         (588)
Net change in unrealized gain on
  available for sale securities, net of tax                                                 234                        234
                                              ----------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1998                       4,305        3,863       11,505          260         (588)       19,345

Net income for 1999                                                          3,300                                   3,300
Cash dividends declared - $.68 per share                                    (1,373)                                 (1,373)
10% stock dividend issued (179,024
  shares)                                            447        5,036       (5,483)
Common stock repurchased and
  retired (82,442 shares)                           (206)      (2,466)                                              (2,672)
Change in common stock subject
  to repurchase                                       51        1,988                                                2,039
Net change in unrealized gain (loss) on
  available for sale securities, net of tax                                               (649)                       (649)
                                             -----------------------------------------------------------------------------

BALANCE AT DECEMBER 31, 1999                 $     4,597  $     8,421  $     7,949  $      (389) $      (588)  $    19,990
                                             =============================================================================
</TABLE>

See accompanying notes to consolidated financial statements.


                                      FS-3

<PAGE>   38


CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)

<TABLE>
<CAPTION>


                                                                                   Year ended December 31,
                                                                            1999            1998           1997
                                                                        ------------------------------------------
<S>                                                                      <C>            <C>             <C>
Interest income:
     Loans, including fees                                               $    16,577    $    15,781     $    15,545
     Securities:
         Taxable                                                               2,235          2,305           2,189
         Tax-exempt                                                            1,132          1,094             861
                                                                         ------------------------------------------
                                                                               3,367          3,399           3,050
     Other                                                                       107            266              74
                                                                         ------------------------------------------
         Total interest income                                                20,051         19,446          18,669
Interest expense:
     Deposits                                                                  7,738          7,622           7,260
     Other                                                                       697            410             183
                                                                         ------------------------------------------
         Total interest expense                                                8,435          8,032           7,443
                                                                         ------------------------------------------
NET INTEREST INCOME                                                           11,616         11,414          11,226
Provision for loan losses                                                        852            600             460
                                                                         ------------------------------------------
NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES                           10,764         10,814          10,766

Non-interest income:
     Service charges on deposit accounts                                       1,064            978             835
     Trust fees                                                                  486            500             528
     Securities gains                                                                                             5
     Net gains on loan sales                                                     758          1,085             550
     Earnings on life insurance assets                                           208            220             181
     Other                                                                       509            413             360
                                                                         ------------------------------------------
                                                                               3,025          3,196           2,459
Non-interest expense:
     Salaries and employee benefits                                            4,569          4,528           4,508
     Occupancy                                                                   854            781             697
     Equipment                                                                   979            872             762
     Printing, postage and supplies                                              385            466             419
     Advertising and marketing                                                   287            417             444
     Professional and outside services                                           428            326             242
     Other                                                                     1,982          1,886           2,036
                                                                         ------------------------------------------
                                                                               9,484          9,276           9,108
                                                                         ------------------------------------------
Income before income taxes                                                     4,305          4,734           4,117
Federal income taxes                                                           1,005          1,185           1,085
                                                                         ------------------------------------------
NET INCOME                                                                     3,300          3,549           3,032
Other comprehensive income:
     Unrealized gains (losses) on securities arising during the year          (1,599)           355              13
     Net cumulative effect of adopting new accounting principle                  616
     Reclassification adjustment for accumulated (gains) losses
       included in net income                                                                                    (5)
     Tax effect                                                                  334           (121)             (3)
                                                                         ------------------------------------------
     Other comprehensive income (loss)                                          (649)           234               5
                                                                         ------------------------------------------

COMPREHENSIVE INCOME                                                     $     2,651    $     3,783     $     3,037
                                                                         ==========================================

BASIC AND DILUTED EARNINGS PER COMMON SHARE                              $      1.64    $      1.70     $      1.44
                                                                         ==========================================
</TABLE>

See accompanying notes to consolidated financial statements.


                                      FS-4
<PAGE>   39


CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)

<TABLE>
<CAPTION>

                                                                                   Year ended December 31,
                                                                            1999            1998           1997
                                                                         ------------------------------------------
<S>                                                                      <C>            <C>             <C>
OPERATING ACTIVITIES
     Net income                                                          $     3,300    $     3,549     $     3,032
     Adjustments to reconcile net income to net cash
       provided by operating activities:
         Provision for loan losses                                               852            600             460
         Depreciation                                                            711            599             527
         Net amortization of investment securities                               206            182             138
         Net realized gain on sales of investment securities                                                     (5)
         Loans originated for sale                                           (27,348)       (34,550)        (17,175)
         Proceeds on loans sold                                               27,773         35,167          17,489
         Net gains on loan sales                                                (758)        (1,085)           (550)
         Net change in:
              Accrued interest receivable                                        (24)          (342)           (161)
              Other assets                                                      (607)            60             124
              Accrued expenses and other liabilities                             481           (459)            160
                                                                         ------------------------------------------
         Net cash from operating activities                                    4,586          3,721           4,039

INVESTING ACTIVITIES
     Net (increase) decrease in federal funds sold                             4,000            500          (4,500)
     Activity in available-for-sale securities:
         Sales                                                                                                  255
         Maturities and calls                                                 19,238          9,522          12,187
         Purchases                                                           (19,387)       (32,808)         (1,167)
     Activity in held-to-maturity securities:
         Maturities and calls                                                 12,625          6,852           4,355
         Purchases                                                                           (6,213)         (4,230)
     Increase in net cash surrender value of life insurance                     (225)          (612)           (432)
     Loan originations and payments, net                                     (30,481)        (4,531)         (6,230)
     Additions to premises and equipment                                        (380)        (2,047)           (888)
                                                                         ------------------------------------------
         Net cash from investing activities                                  (14,610)       (29,337)           (650)

FINANCING ACTIVITIES
     Net change in deposits                                                      (58)        26,296          (2,402)
     Proceeds from other borrowings                                           10,000          2,000           3,000
     Common stock issued                                                                        251             390
     Cash dividends paid                                                      (1,428)        (1,252)         (1,049)
     Repurchase of common stock                                               (2,672)        (2,299)
                                                                         ------------------------------------------
         Net cash from financing activities                                    5,842         24,996             (61)
                                                                         ------------------------------------------
NET CHANGE IN CASH AND CASH EQUIVALENTS                                       (4,182)          (620)          3,328
Beginning cash and cash equivalents                                           16,228         16,848          13,520
                                                                         ------------------------------------------
ENDING CASH AND CASH EQUIVALENTS                                         $    12,046    $    16,228     $    16,848
                                                                         ==========================================

Transfers of securities from held to maturity
  to available for sale                                                  $    19,747    $         -     $         -
</TABLE>

See accompanying notes to consolidated financial statements.


                                      FS-5

<PAGE>   40


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS


NOTE A - NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES

NATURE OF OPERATIONS AND INDUSTRY SEGMENTS: Southern Michigan Bancorp, Inc. is a
bank holding company. The Company's business is concentrated in the banking
industry segment. The business of commercial and retail banking accounts for
more than 90% of its revenues, operating income and assets. While the Company's
chief decision makers monitor the revenue stream of various company products and
services, operations are managed and financial performance is evaluated on a
company-wide basis. Accordingly, all of the Company's banking operations are
considered by management to be aggregated into one operating segment. The Bank
offers individuals, businesses, institutions and government agencies a full
range of commercial banking services primarily in the southern Michigan
communities in which the Bank is located and in areas immediately surrounding
these communities. The Bank grants commercial, real estate and consumer loans to
customers. The majority of loans are secured by business assets, commercial and
residential real estate, and consumer assets. There are no foreign loans.

PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include the
accounts of Southern Michigan Bancorp, Inc. (the Company) and its wholly owned
subsidiary, Southern Michigan Bank & Trust (the Bank), after elimination of
significant intercompany balances and transactions.

USE OF ESTIMATES: 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, liabilities and
disclosure of contingent 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. Estimates that are more
susceptible to change in the near term include the allowance for loan losses,
deferred income tax provisions, fair values of certain securities and other
financial instruments and the actuarial present value of pension benefit
obligations, net periodic pension expense and prepaid pension costs.

SECURITIES: Management determines the appropriate classification of securities
at the time of purchase. If management has the intent and the Company has the
ability at the time of purchase to hold securities until maturity, they are
classified as held to maturity and carried at amortized historical cost.
Securities to be held for indefinite periods of time and not intended to be held
to maturity are classified as available for sale and carried at fair value, with
unrealized gains and losses reported in other comprehensive income and
shareholders' equity, net of tax. Securities classified as available for sale
include securities that management intends to use as part of its asset/liability
management strategy and that may be sold in response to changes in interest
rates, resultant prepayment risk, and other factors.

Premiums and discounts on securities are recognized in interest income using the
level yield method over the estimated life of the security. Gains and losses on
the sale of available for sale securities are determined using the specific
identification method. Securities are written down to fair value when a decline
in fair value is not temporary.

LOANS: Loans are reported at the principal balance outstanding, net of unearned
interest, deferred loan fees and costs, and an allowance for loan losses.
Interest income is reported on the interest method and includes amortization of
net deferred loan fees and costs over the loan term.

Interest income is not reported when full loan repayment is in doubt, typically
when payments are past due over 90 days, unless the loan is both well secured
and in the process of collection. Payments received on such loans are reported
as principal reductions.

ALLOWANCE FOR LOAN LOSSES: The allowance for loan losses is a valuation
allowance for probable credit losses, increased by the provision for loan losses
and decreased by charge-offs less recoveries. Estimating the risk of loss and
the amount of loss on any loans is necessarily subjective. Accordingly,
management estimates the allowance balance required based on past loan loss
experience, known and inherent risks in the portfolio, information about
specific borrower situations and estimated collateral values, economic
conditions, and other factors. Allocations of the allowance may be made for
specific loans, but the entire allowance is available for any loan that, in
management's judgment, should be charged-off. A problem loan is charged-off by
management as a loss when deemed uncollectible, although collection efforts
continue and future recoveries may occur.



                                      FS-6

<PAGE>   41


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE A - NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

Loan impairment is reported when full payment under the loan terms is not
expected. Impairment is evaluated in total for smaller-balance loans of similar
nature such as residential mortgage and consumer loans and on an individual loan
basis for other loans. If a loan is impaired, a portion of the allowance is
allocated so that the loan is reported, net, at the present value of estimated
future cash flows using the loan's existing rate or at the fair value of
collateral if repayment is expected solely from the collateral. Loans are
evaluated for impairment when payments are delayed, typically 90 days or more,
or when it is probable that all principal and interest amounts will not be
collected according to the original terms of the loan.

PREMISES AND EQUIPMENT: Premises and equipment are stated at cost, less
accumulated depreciation. Depreciation is computed principally using accelerated
methods over their estimated useful lives. These assets are reviewed for
impairment when events indicate their carrying amount may not be recoverable
from future undiscounted cash flows. Maintenance, repairs and minor alterations
are charged to current operations as expenditures occur. Major improvements are
capitalized.

SERVICING RIGHTS: Servicing rights represent both purchased rights and the
allocated value of servicing rights retained on loans sold. Servicing rights are
expensed in proportion to, and over the period of, estimated net servicing
revenues.

Impairment is evaluated based on the fair value of the rights, using groupings
of the underlying loans as to interest rates and then, secondarily, as to
geographic and prepayment characteristics. Any impairment of a grouping is
reported as a valuation allowance.

GOODWILL AND CORE DEPOSIT INTANGIBLES: Goodwill is the excess of purchase price
over identified net assets in business acquisitions. Goodwill is amortized on
the straight-line method over 15 years. Identified intangibles represent the
value of depositor relationships purchased and are amortized on accelerated
methods over 10 years. Goodwill and identified intangibles are assessed for
impairment based on estimated undiscounted cash flows, and written down if
necessary. Goodwill was $745,000 and $807,000 and core deposit intangibles were
$376,000 and $464,000 at December 31, 1999 and 1998, respectively. These
balances are included in other assets.

OTHER REAL ESTATE: Other real estate was $161,000 and $166,000 at December 31,
1999 and 1998 and is included in other assets. Other real estate is comprised of
properties acquired through a foreclosure proceeding or acceptance of a deed in
lieu of foreclosure. These properties are initially recorded at fair value at
the date of foreclosure, establishing a new cost basis by a charge to the
allowance for loan losses. After foreclosure, valuations are periodically
performed by management and real estate is carried at the lower of cost or fair
value less estimated cost of disposal.

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.

EARNINGS AND DIVIDENDS PER COMMON SHARE: Basic earnings per common share is
based on net income divided by the weighted average number of common shares
outstanding during the period. ESOP shares are considered outstanding for this
calculation unless unearned. Diluted earnings per common share reflects the
dilutive effect of any additional potential common shares. Earnings and
dividends per share are restated for all stock splits and stock dividends
through the date of issue of the financial statements.

CASH FLOW INFORMATION: For purposes of the consolidated statements of cash
flows, the Company considers cash and due from banks as cash and cash
equivalents. The Company reports net cash flows for customer loan and deposit
transactions.

COMPREHENSIVE INCOME: Comprehensive income consists of net income and other
comprehensive income. Other comprehensive income includes the net change in
unrealized gains and losses on securities available for sale, net of tax, which
is also recognized as a separate component of shareholders' equity.

                                      FS-7

<PAGE>   42


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE A - NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

FAIR VALUES OF FINANCIAL INSTRUMENTS: Fair values of financial instruments are
estimated using relevant market information and other assumptions. Fair value
estimates involve uncertainties and matters of significant judgment regarding
interest rates, credit risk, prepayments and other factors, especially in the
absence of broad markets for particular items. Changes in assumptions or in
market conditions could significantly affect such estimates.

CONCENTRATIONS OF CREDIT RISK: The Company grants commercial, real estate and
installment loans to customers mainly in Southern Michigan. Commercial loans
include loans collateralized by commercial real estate, business assets and
agricultural loans collateralized by crops and farm equipment. Commercial,
financial and agricultural loans make up approximately 50% of the loan portfolio
and the loans are expected to be repaid from cash flow from operations of
businesses. Residential mortgage loans make up approximately 33% of the loan
portfolio and are collateralized by mortgages on residential real estate.
Consumer loan loans make up approximately 17% of the loan portfolio and are
primarily collateralized by consumer assets.

FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK: The Company, in the normal
course of business, makes commitments to extend credit which are not reflected
in the consolidated financial statements.

LOSS CONTINGENCIES: Loss contingencies, including claims and legal actions
arising in the ordinary course of business, are recorded as liabilities when the
likelihood of loss is probable and an amount or range of loss can be reasonably
estimated. Management does not believe there are such matters that will have a
material effect on the consolidated financial statements at December 31, 1999
and 1998.

RECLASSIFICATIONS: Some items in the prior year consolidated financial
statements have been reclassified to conform with the current year presentation.


NOTE B - BASIC AND DILUTED EARNINGS PER COMMON SHARE

A reconciliation of the numerators and denominators of the computations of basic
and diluted earnings per common share for the years ended December 31, 1999,
1998 and 1997 is presented below:


<TABLE>
<CAPTION>

                                                                                   Year Ended December 31,
                                                                            1999            1998           1997
                                                                            ----            ----           ----
<S>                                                                      <C>            <C>             <C>
BASIC EARNINGS PER COMMON SHARE

     Net income (in thousands)                                           $     3,300    $     3,549     $     3,032
                                                                         ==========================================

     Weighted average common shares outstanding                            2,027,015      2,084,821       2,101,494

     Less:  Unallocated ESOP shares                                          (15,400)        (2,566)              -
                                                                         ------------------------------------------

     Weighted average common shares outstanding for basic
       earnings per common share                                           2,011,615      2,082,255       2,101,494
                                                                         ==========================================

     Basic earnings per common share                                     $      1.64    $      1.70     $      1.44
                                                                         ==========================================

DILUTED EARNINGS PER COMMON SHARE

     Net income (in thousands)                                           $     3,300    $     3,549     $     3,032
                                                                         ==========================================

     Weighted average common and dilutive
       potential common shares outstanding                                 2,011,615      2,082,255       2,101,494
                                                                         ==========================================

     Diluted earnings per common share                                   $      1.64    $      1.70     $      1.44
                                                                         ==========================================
</TABLE>

                                      FS-8


<PAGE>   43


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE C - SECURITIES

Year end investment securities were as follows (in thousands):

<TABLE>
<CAPTION>

                                                                            GROSS           GROSS
                                                           AMORTIZED     UNREALIZED      UNREALIZED        FAIR
AVAILABLE FOR SALE, 1999                                     COST           GAINS          LOSSES          VALUE
                                                          ---------------------------------------------------------
<S>                                                       <C>            <C>            <C>             <C>
U.S. Treasury and Government agencies                     $    15,885    $              $      (344)    $    15,541
States and political subdivisions                              28,529            106           (224)         28,411
Corporate securities                                            6,203              1            (32)          6,172
Mortgage-backed securities                                      3,278                           (96)          3,182
                                                          ---------------------------------------------------------
Total debt securities                                          53,895            107           (696)         53,306
Equity securities                                                 923                                           923
                                                          ---------------------------------------------------------
TOTAL                                                     $    54,818    $       107    $      (696)    $    54,229
                                                          =========================================================

There were no securities held to maturity as of December 31, 1999.

AVAILABLE FOR SALE, 1998

U.S. Treasury and Government agencies                     $     9,019    $        68    $               $     9,087
States and political subdivisions                              20,236            315             (5)         20,546
Corporate securities                                            1,302              8                          1,310
Mortgage-backed securities                                      2,677              8                          2,685
                                                          ---------------------------------------------------------
Total debt securities                                          33,234            399             (5)         33,628
Equity securities                                               2,510                                         2,510
                                                          ---------------------------------------------------------
TOTAL                                                     $    35,744    $       399    $        (5)    $    36,138
                                                          =========================================================

HELD TO MATURITY, 1998

States and political subdivisions                         $    16,460    $       897    $               $    17,357
Corporate securities                                           14,592             49             (9)         14,632
                                                          ---------------------------------------------------------
Total debt securities                                          31,052            946             (9)         31,989
Equity securities                                                 704                                           704
                                                          ---------------------------------------------------------
TOTAL                                                     $    31,756    $       946    $        (9)    $    32,693
                                                          =========================================================
</TABLE>



Sales of available for sale securities were (in thousands):

<TABLE>
<CAPTION>
                                                                            1999            1998           1997
                                                                         ------------------------------------------
         <S>                                                             <C>            <C>             <C>
         Proceeds                                                        $         0    $         0     $       255
         Gross gains                                                               0              0               5
         Gross losses                                                              0              0               0
</TABLE>


Contractual maturities of debt securities at year-end 1999 were as follows (in
thousands). Securities not due at a single maturity date, primarily
mortgage-backed securities, are shown separately. Expected maturities may differ
from contractual maturities because borrowers may have the right to call or
prepay obligations with or without call or prepayment penalties.

<TABLE>
<CAPTION>

                                                                                          AMORTIZED        FAIR
                                                                                            COST           VALUE
                                                                                        ---------------------------
         <S>                                                                            <C>             <C>
         Due in one year or less                                                        $     8,994     $     8,991
         Due from one to five years                                                          31,906          31,571
         Due from five to ten years                                                           7,057           6,863
         Due after ten years                                                                  2,660           2,699
         Mortgage-backed securities                                                           3,278           3,182
                                                                                        ---------------------------
                                                                                        $    53,895     $    53,306
                                                                                        ===========================
</TABLE>

                                      FS-9

<PAGE>   44


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE C - SECURITIES (CONTINUED)

Investment securities with an amortized cost of $2,911,000 and $3,303,000 were
pledged as collateral for public deposits and for other purposes in 1999 and
1998.

Except as indicated, total securities of any state (including all its political
subdivisions) were less than 10% of shareholders' equity. At year-end 1999 and
1998, the amortized cost of securities issued by the state of Michigan and all
its political subdivisions totaled $13,114,000 and $19,883,000 with an estimated
market value of $13,132,000 and $20,729,000, respectively.

As of July 1, 1999, the Company adopted Statement of Financial Accounting
Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging
Activities." Under SFAS No. 133, all derivative instruments are recorded at
their fair values. If derivative instruments are designated as hedges of fair
values, both the change in the fair value of the hedge and the hedged item are
included in current earnings. Fair value adjustments related to cash flow hedges
are recorded in other comprehensive income and reclassified to earnings when the
hedged transactions are reflected in earnings. Ineffective portions of hedges
are reflected in income currently. The Company does not have any derivative
instruments nor does the Company have any hedging activities. As permitted by
SFAS No. 133, the Company transferred securities with an amortized cost of
$19,131,000 and a fair value of $19,747,000 from the held to maturity portfolio
to the available for sale portfolio. None of these securities were sold during
1999.

NOTE D - LOANS

Loans at year-end were as follows (in thousands):

<TABLE>
<CAPTION>

                                                                                            1999           1998
                                                                                        ---------------------------
         <S>                                                                            <C>             <C>
         Commercial                                                                     $    96,758     $    82,533
         Consumer                                                                            33,190          29,203
         Real estate mortgage                                                                62,432          50,909
         Loans held for sale, net of valuation allowance of $-0- in 1999 and 1998               991             658
                                                                                        ---------------------------
                                                                                            193,371         163,303
         Less allowance for loan losses                                                      (2,132)         (2,026)
                                                                                        ---------------------------
         LOANS, NET                                                                     $   191,239     $   161,277
                                                                                        ===========================
</TABLE>


Certain directors and executive officers of the Company and the Bank, including
their associates and companies in which they are principal owners, were loan
customers of the Bank. The following is a summary of loans (in thousands)
exceeding $60,000 in the aggregate to these individuals and their associates.

<TABLE>
<CAPTION>
                                                                                            1999           1998
                                                                                        ---------------------------
         <S>                                                                           <C>             <C>
         Balance at January 1                                                          $      3,923    $      3,722
         New loans                                                                            6,222           7,767
         Repayments                                                                          (5,487)         (7,624)
         Other changes, net                                                                    (156)             58
                                                                                        ---------------------------
         BALANCE AT DECEMBER 31                                                         $     4,502     $     3,923
                                                                                        ===========================
</TABLE>


The unpaid principal balance of mortgage loans serviced for others, which are
not included on the consolidated balance sheet, was $69,880,000 and $51,462,000
at December 31, 1999 and 1998, respectively. Related escrow deposit balances
were approximately $11,000 and $2,000 at December 31, 1999 and 1998,
respectively.

Activity for capitalized mortgage servicing rights was as follows (in
thousands):

<TABLE>
<CAPTION>
                                                                                            1999           1998
                                                                                        ---------------------------
         <S>                                                                           <C>             <C>
         Balance at January 1                                                           $       595     $       327
         Additions                                                                              377             468
         Amortized to expense                                                                  (176)           (200)
                                                                                        ---------------------------
         BALANCE AT DECEMBER 31                                                         $       796     $       595
                                                                                        ===========================
</TABLE>


No valuation allowance for capitalized mortgage servicing rights was necessary
at December 31, 1999 or 1998.


                                     FS-10
<PAGE>   45


NOTE E - ALLOWANCES FOR LOAN LOSSES

Changes in the allowance for loan losses for the years ended December 31 were as
follows (in thousands):

<TABLE>
<CAPTION>
                                                                            1999            1998           1997
                                                                         ------------------------------------------
         <S>                                                             <C>            <C>            <C>
         Balance at January 1                                            $     2,026    $     1,863     $     1,814
         Provision for loan losses                                               852            600             460
         Loans charged off                                                    (1,050)          (579)           (508)
         Recoveries                                                              304            142              97
                                                                         ------------------------------------------
         Net charge-offs                                                        (746)          (437)           (411)
                                                                         ------------------------------------------

         BALANCE AT DECEMBER 31                                          $     2,132    $     2,026     $     1,863
                                                                         ==========================================
</TABLE>

<TABLE>
<CAPTION>
                                                                                            1999           1998
                                                                                        ---------------------------
Information regarding impaired loans follows:
<S>                                                                                     <C>             <C>
         Year end loans with allowance for loan losses allocated                        $     1,543     $     1,259
         Year end loans with no allowance for loan losses allocated                             700               0
                                                                                        ---------------------------

         Total impaired loans                                                           $     2,243     $     1,259
                                                                                        ===========================

         Amount of allowance allocated to these loans                                   $       275     $       367

         Average balance of impaired loans during the year                              $     2,415     $     1,566

         Cash basis interest income recognized during the year                          $       191     $        73

         Interest income recognized during the year                                     $       200     $       102
</TABLE>



NOTE F - PREMISES AND EQUIPMENT

Premises and equipment consist of (in thousands):

<TABLE>
<CAPTION>
                                                                                            1999           1998
                                                                                        ---------------------------
         <S>                                                                            <C>             <C>
         Land                                                                           $       786     $       786
         Buildings and improvements                                                           7,685           7,625
         Equipment                                                                            3,442           3,157
                                                                                        ---------------------------
                                                                                             11,913          11,568
         Less accumulated depreciation                                                       (5,208)         (4,532)
                                                                                        ---------------------------
         TOTALS                                                                         $     6,705     $     7,036
                                                                                        ===========================
</TABLE>


Depreciation and amortization expense charged to operations was approximately
$711,000, $599,000 and $527,000 in 1999, 1998 and 1997, respectively.


NOTE G - DEPOSITS

The carrying amount of domestic deposits at year end follows (in thousands):

<TABLE>
<CAPTION>

                                                                                            1999           1998
                                                                                        ---------------------------
         <S>                                                                            <C>             <C>
         Non-interest bearing checking                                                  $    33,124     $    34,778
         Interest bearing checking                                                           38,927          37,055
         Passbook savings                                                                    30,793          31,797
         Money market accounts                                                               43,571          42,200
         Time deposits                                                                       71,865          72,439
         Individual retirement accounts and other deposits                                   15,023          15,092
                                                                                        ---------------------------
         TOTALS                                                                         $   233,303     $   233,361
                                                                                        ===========================
</TABLE>






                                     FS-11


<PAGE>   46




NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE G - DEPOSITS (CONTINUED)

The carrying amount of time deposits over $100,000 was $23,113,000 and
$21,058,000 at December 31, 1999 and 1998, respectively. Interest expense on
time deposits over $100,000 was $1,198,000, $1,084,000 and $1,025,000 at
December 31, 1999, 1998 and 1997, respectively.

At year end, scheduled maturities of time deposits were as follows for the years
ending December 31 (in thousands):

<TABLE>
         <S>                                                                            <C>
         2000                                                                           $    57,453
         2001                                                                                 8,044
         2002                                                                                 5,765
         2003                                                                                   574
         2004                                                                                    29
                                                                                        -----------
         TOTALS                                                                         $    71,865
                                                                                        ===========
</TABLE>


Related party deposits were $2,061,000 and $1,374,000 at December 31, 1999 and
1998, respectively.

Cash paid for interest was $8,397,000, $8,054,000 and $7,464,000 for the years
ended December 31, 1999, 1998 and 1997, respectively.


NOTE H - OTHER BORROWINGS

Other borrowings represents putable advances obtained by the Bank from the
Federal Home Loan Bank (FHLB) of Indianapolis. The advances have fixed interest
rates ranging from 5.31% to 5.71% until the stated call date ranging from
February 22, 2000 to June 29, 2009. On the stated call date, the FHLB will have
the option to convert the advances to a periodic adjustable rate and will
continue to have this option quarterly thereafter. The advances may not be
prepaid by the Bank prior to the FHLB exercising its option to convert the
advances to an adjustable rate. The advances are secured by a blanket collateral
agreement with the FHLB which gives the FHLB an unperfected security interest in
the Bank's one-to-four family mortgage loans, U.S. Treasury and Government
agencies, and highly rated private mortgage-backed securities.

At year-end 1999, scheduled principal reductions on these advances were as
follows for the years ending December 31 (in thousands):

<TABLE>

         <S>                                                                            <C>
         2000                                                                           $         -
         2001                                                                                     -
         2002                                                                                 3,000
         2003                                                                                 2,000
         2004                                                                                     -
         Thereafter                                                                          10,000
                                                                                        -----------
              TOTAL FHLB ADVANCES                                                       $    15,000
                                                                                        ===========
</TABLE>


NOTE I - INCOME TAXES

Income tax expense consists of:

<TABLE>
<CAPTION>
                                                                             1999            1998           1997
                                                                         ------------------------------------------
         <S>                                                             <C>            <C>             <C>
         Current                                                         $     1,021    $     1,226     $     1,066
         Deferred                                                                (16)           (41)             19
                                                                         ------------------------------------------
         TOTALS                                                          $     1,005    $     1,185     $     1,085
                                                                         ==========================================
</TABLE>


Income tax expense calculated at the statutory federal income tax rate of 34%
differs from actual income tax expense as follows (in thousands):

<TABLE>
<CAPTION>

                                                                            1999            1998           1997
                                                                         ------------------------------------------
<S>                                                                      <C>            <C>             <C>
Statutory rates                                                          $     1,464    $     1,610     $     1,400
Tax-exempt interest income                                                      (358)          (350)           (254)
Increase in net cash surrender value of life insurance policies                  (77)           (82)            (65)
Other items, net                                                                 (24)             7               4
                                                                         ------------------------------------------
TOTALS                                                                   $     1,005    $     1,185     $     1,085
                                                                         ==========================================
</TABLE>


                                     FS-12
<PAGE>   47


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE I - INCOME TAXES (CONTINUED)

Year end deferred tax assets and liabilities consist of (in thousands):

<TABLE>
<CAPTION>

                                                                                              1999           1998
                                                                                        ---------------------------
<S>                                                                                     <C>             <C>
Deferred tax assets:
Net unrealized depreciation on available-for-sale securities                            $       200     $
Allowance for loan losses                                                                       497             461
Deferred compensation liability                                                                 502             470
Pension liability                                                                                99              65
Other                                                                                           185             175
                                                                                        ---------------------------
Totals                                                                                        1,483           1,171

Deferred tax liabilities:
Net unrealized appreciation on available-for-sale securities                                                    134
Mortgage servicing rights                                                                       271             202
Other                                                                                            41              14
                                                                                        ---------------------------
Totals                                                                                          312             350
                                                                                        ---------------------------
NET DEFERRED TAX ASSET                                                                  $     1,171     $       821
                                                                                        ===========================
</TABLE>


The Company made income tax payments of $1,160,000 in 1999, $1,165,000 in 1998
and $1,130,000 in 1997. An allowance against the net deferred tax asset was not
considered necessary at December 31, 1999 or 1998.


NOTE J - RETIREMENT PLANS

The defined benefit pension plan covers substantially all full-time employees.
The benefits are based on years of service and the employee's average highest
compensation during five consecutive years of employment. The funding policy is
to contribute annually an amount sufficient to meet the minimum funding
requirements set forth in the Employee Retirement Income Security Act of 1974,
plus additional amounts as may be appropriate from time to time. Contributions
are intended to provide not only for benefits attributed to service to date but
also for those expected to be earned in the future.

Information about the pension plan was as follows (in thousands):

<TABLE>
<CAPTION>
                                                                                              1999           1998
                                                                                        ---------------------------
<S>                                                                                     <C>             <C>
Change in benefit obligation:
     Beginning benefit obligation                                                       $    (2,326)    $    (1,715)
     Service cost                                                                              (133)           (140)
     Interest cost                                                                             (134)           (115)
     Actuarial (gain) loss                                                                      511            (435)
     Benefits paid                                                                              667              79
                                                                                        ---------------------------
     Ending benefit obligation                                                               (1,415)         (2,326)

Change in plan assets, at fair value:
     Beginning plan assets                                                                    2,266           1,856
     Actual return                                                                              144             335
     Employer contribution                                                                       29             154
     Benefits paid                                                                             (667)            (79)
                                                                                        ---------------------------
     Ending plan assets                                                                       1,772           2,266
                                                                                        ---------------------------
Funded status                                                                                   357             (60)
Unrecognized net actuarial gain                                                                (650)           (185)
Unrecognized transition obligation                                                               13              17
Unrecognized prior service cost                                                                  37              49
                                                                                        ---------------------------
ACCRUED PENSION COST                                                                    $      (243)    $      (179)
                                                                                        ===========================
</TABLE>


                                     FS-13

<PAGE>   48


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE J - RETIREMENT PLANS (CONTINUED)

The components of pension expense and related actuarial assumptions were as
follows:

<TABLE>
<CAPTION>

                                                                             1999            1998           1997
                                                                         ------------------------------------------
<S>                                                                      <C>            <C>             <C>
Service cost                                                             $       133    $       140     $       130
Interest cost                                                                    134            115             113
Actual return on plan assets                                                    (153)          (345)           (330)
Net amortization and deferral                                                     16            188             205
                                                                         ------------------------------------------

NET                                                                      $       130    $        98     $       118
                                                                         ==========================================

Discount rate on benefit obligation                                             7.0%           7.0%            7.0%
Long-term expected rate of return on plan assets                                8.0%           8.0%            8.0%
Rate of compensation increase                                                   3.0%           3.0%            3.5%
</TABLE>


The Company has an employee stock ownership plan (ESOP) for substantially all
full-time employees. The Board of Directors determines the Company's
contribution level annually. Assets of the plan are held in trust by the Bank
and administrative costs of the plan are borne by the plan sponsor. Costs
charged to operations for contributions to the plan totaled $78,000, $90,000 and
$66,000 in 1999, 1998 and 1997. During 1999, the Company amended its ESOP plan
to adopt 401(k) provisions allowing for employee salary deferrals to purchase
either Company stock or mutual funds. Company matching is provided in Company
stock. Substantially all employees have converted their ESOP accounts to the
amended plan.

During 1998, the ESOP borrowed $588,000 to purchase 14,000 shares of company
stock which are currently held as unallocated ESOP shares.

Shares held by the ESOP at year-end are as follows:

<TABLE>
<CAPTION>

                                                                                            1999           1998
                                                                                        ---------------------------
         <S>                                                                            <C>             <C>
         Allocated shares                                                                   130,502         150,727
         Unallocated shares                                                                  15,400          14,000
                                                                                        ---------------------------

         TOTAL ESOP SHARES                                                                  145,902         164,727
                                                                                        ===========================
</TABLE>



The fair value of the allocated shares held by the ESOP is approximately
$3,990,000 and $6,029,000 at December 31, 1999 and 1998, respectively. Upon
distribution of shares to a participant, the participant has the right to
require the Company to purchase shares at their fair value in accordance with
terms and conditions of the plan. As such these shares are not classified in
shareholders' equity as permanent equity.

As an incentive to retain key members of management and directors, the Bank has
a deferred compensation plan whereby participants defer a portion of current
compensation. Benefits are based on salary and length of service and are vested
as service is provided from the date of participation through age 65. A
liability is recorded on a present value basis and discounted at current
interest rates. This liability may change depending upon changes in long-term
interest rates. Deferred compensation expense was $218,000, $229,000 and
$206,000 in 1999, 1998 and 1997. The liability for vested benefits was
$1,476,000 and $1,382,000 at December 31, 1999 and 1998, respectively.



                                     FS-14

<PAGE>   49


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE K - COMMITMENTS

There are various commitments which arise in the normal course of business, such
as commitments under commercial letters of credit, standby letters of credit and
commitments to extend credit. Generally accepted accounting principles recognize
these transactions as contingent liabilities and accordingly, they are not
reflected in the accompanying financial statements. These arrangements have
credit risk essentially the same as that involved in extending loans to
customers and are subject to the Bank's normal credit policies. Collateral
generally consists of receivables, inventory and equipment and is obtained based
on management's credit assessment of the customer.

At December 31, 1999 and 1998, respectively, the Bank had commitments under
commercial letters of credit, used to facilitate customers' trade transactions,
of $414,000 and $133,000.

Under standby letter of credit agreements, the Bank agrees to honor certain
commitments in the event that its customers are unable to do so. At December 31,
1999 and 1998, respectively, commitments under outstanding standby letters of
credit were $626,000 and $385,000.

Loan commitments outstanding to extend credit are detailed below (in thousands):

<TABLE>
<CAPTION>

                                                                                            1999           1998
                                                                                        ---------------------------
     <S>                                                                               <C>             <C>
     Fixed rate                                                                        $      4,570    $      1,616
     Variable rate                                                                           33,379          29,559
                                                                                       ----------------------------
     TOTALS                                                                            $     37,949    $     31,175
                                                                                       ============================
</TABLE>


The fixed rate commitments have stated interest rates ranging from 8.5% to
17.0%. The terms of the above commitments range from 1 to 60 months.

Management does not anticipate any losses as a result of the above related
transactions; however, the above amount represents the maximum exposure to
credit loss for loan commitments and commercial and standby letters of credit.

At December 31, 1999, the Bank had line of credit agreements with the Federal
Home Loan Bank, Bank One and Fifth Third Bank for $3,000,000, $5,000,000 and
$750,000 respectively. The balances on all three of these lines was $0 at
December 31, 1999.


NOTE L - RESTRICTIONS ON TRANSFERS FROM SUBSIDIARY

Banking laws and regulations restrict the amount the Bank may transfer to the
Company in the form of cash dividends, loans and advances. In 2000, the Bank is
permitted to pay the Company an amount equal to $3,752,000 plus the Bank's 2000
net income, as dividends without prior regulatory approval.


                                     FS-15

<PAGE>   50


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE M - SOUTHERN MICHIGAN BANCORP, INC. (PARENT COMPANY ONLY) FINANCIAL
INFORMATION

Condensed financial statements of Southern Michigan Bancorp, Inc. follow (in
thousands):

<TABLE>
<CAPTION>


Balance Sheets                                                                                 December 31,
                                                                                            1999           1998
                                                                                        -----------------------
<S>                                                                                     <C>            <C>
ASSETS
Cash                                                                                    $        97     $        16
Securities available for sale                                                                 3,273           3,170
Securities held to maturity                                                                                     250
Investment in subsidiary                                                                     19,107          20,422
Premises and equipment                                                                        1,196           1,231
Other                                                                                           704             700
                                                                                        ---------------------------
TOTAL ASSETS                                                                            $    24,377     $    25,789
                                                                                        ===========================

LIABILITIES AND SHAREHOLDERS' EQUITY
Dividends payable                                                                       $       340     $       393
Other liabilities                                                                                57              22
Common stock subject to repurchase obligation in ESOP                                         3,990           6,029
Shareholders' equity                                                                         19,990          19,345
                                                                                        ---------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY                                              $    24,377     $    25,789
                                                                                        ===========================
</TABLE>

<TABLE>
<CAPTION>


Statements of Income                                                               Year ended December 31,
                                                                            1999            1998           1997
                                                                         ------------------------------------------
<S>                                                                      <C>            <C>             <C>
Dividends from Bank                                                      $     3,718    $     3,620     $     1,109
Interest income                                                                  154            167             137
Other income                                                                     269            226             206
Other expenses                                                                   (98)           (33)            (49)
                                                                         ------------------------------------------
                                                                               4,043          3,980           1,403
Federal income tax expense                                                       (35)           (85)            (68)
                                                                         ------------------------------------------
                                                                                4008          3,895           1,335
Equity in undistributed/(excess) distributed net income of subsidiary           (708)          (346)          1,697
                                                                         ------------------------------------------
NET INCOME                                                                     3,300          3,549           3,032
                                                                         ------------------------------------------

Net change in unrealized gains (losses) on securities available for sale        (649)           234               5
                                                                         ------------------------------------------
Other comprehensive income                                                      (649)           234               5
                                                                         ------------------------------------------
COMPREHENSIVE INCOME                                                     $     2,651    $     3,783     $     3,037
                                                                         ==========================================
</TABLE>


<TABLE>
<CAPTION>

Statements of Cash Flows                                                           Year ended December 31,
                                                                            1999            1998           1997
                                                                         ------------------------------------------
OPERATING ACTIVITIES
<S>                                                                      <C>            <C>             <C>
Net income                                                               $     3,300    $     3,549     $     3,032
Adjustments to reconcile net income to net cash
  provided by operating activities:
     Equity in (undistributed)/excess distributed net income of subsidiary       708            346          (1,697)
     Depreciation                                                                 35             31              31
     Net amortization of investment securities                                    25             16              13
     Other                                                                        54           (253)           (146)
                                                                         ------------------------------------------
Net cash from operating activities                                             4,122          3,689           1,233
</TABLE>



                                     FS-16

<PAGE>   51


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE M - SOUTHERN MICHIGAN BANCORP, INC. (PARENT COMPANY ONLY) FINANCIAL
INFORMATION (CONTINUED)

<TABLE>
<CAPTION>

Statements of Cash Flows                                                           Year ended December 31,
                                                                            1999            1998           1997
                                                                         ------------------------------------------
<S>                                                                      <C>               <C>           <C>
INVESTING ACTIVITIES
Activity in available for sale investment securities:
     Maturities and calls                                                        776          1,977             734
     Purchases                                                                  (717)        (2,059)         (1,248)
Activity in held to maturity investment securities:
     Maturities and calls                                                                      (250)
Additions to premises and equipment                                                             (60)            (62)
                                                                         ------------------------------------------
Net cash from investing activities                                                59           (392)           (576)

FINANCING ACTIVITIES
Common stock issued                                                                             251             390
Cash dividends paid                                                           (1,428)        (1,252)         (1,049)
Repurchase of common stock                                                    (2,672)        (2,299)
                                                                         ------------------------------------------
Net cash from financing activities                                            (4,100)        (3,300)           (659)
                                                                         ------------------------------------------

NET CHANGE IN CASH AND CASH EQUIVALENTS                                           81             (3)             (2)
Beginning cash and cash equivalents                                               16             19              21
                                                                         ------------------------------------------

ENDING CASH AND CASH EQUIVALENTS                                         $        97    $        16     $        19
                                                                         ==========================================

Transfers of securities held to maturity to securities available for     $       250
sale
</TABLE>


NOTE N - FAIR VALUE INFORMATION

The following methods and assumptions were used by the Company in estimating
fair values for financial instruments:

     CASH AND CASH EQUIVALENTS AND FEDERAL FUNDS SOLD: The carrying amounts
     reported in the balance sheet for cash and due from banks approximate those
     assets' fair values.

     SECURITIES: Fair values for investment securities are based on quoted
     market prices, where available. If quoted market prices are not available,
     fair values are based on quoted market prices of comparable instruments.
     The fair value of restricted equity securities approximates amortized cost.

     LOANS: For variable-rate loans that reprice frequently and with no
     significant change in credit risk, fair values are based on carrying
     values. The fair values for other loans are estimated using discounted cash
     flows analyses, using interest rates currently being offered for loans with
     similar terms to borrowers of similar credit quality.

     OFF-BALANCE-SHEET INSTRUMENTS: Fair values for the Bank's letters of credit
     are based on fees currently charged to enter into similar agreements,
     taking into account the remaining terms of the agreements and the
     counterparties' credit standing. It is not practicable to estimate the fair
     value of lending commitments because of the wide variety of the
     instruments.

                                     FS-17

<PAGE>   52


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE N - FAIR VALUE INFORMATION (CONTINUED)

     DEPOSITS: The fair values disclosed for demand deposits (e.g., interest and
     non-interest checking, passbook savings, and certain types of money market
     accounts) are, by definition, equal to the amount payable on demand at the
     reporting date (i.e., their carrying amounts). Fair values for fixed-rate
     certificates of deposit are estimated using a discounted cash flow
     calculation that applies interest rates currently being offered on
     certificates to a schedule of expected monthly maturities on time deposits.

     OTHER BORROWINGS: The fair value of other borrowings is estimated using
     discounted cash flows analysis based on the Bank's current incremental
     borrowing rate for similar types of borrowing arrangements.

While these estimates of fair value are based on management's judgment of the
most appropriate factors, there is no assurance that if the Company had disposed
of such items at December 31, 1999 and 1998, the estimated fair values would
have been achieved. Market values may differ depending on various circumstances
not taken into consideration in this methodology. The estimated fair values at
December 31, 1999 and 1998 should not necessarily be considered to apply at
subsequent dates.

In addition, other assets and liabilities that are not defined as financial
instruments are not included in the following disclosures, such as property and
equipment. Also, non-financial instruments typically not recognized in financial
statements may have value but are not included in the following disclosures.
These include, among other items, the estimated earnings power of core deposit
accounts, the trained work force, customer goodwill and similar items.

The estimated fair values of the Company's financial instruments at year end are
as follows (in thousands):

<TABLE>
<CAPTION>

                                                                1999                               1998
                                                     ---------------------------        ---------------------------
                                                       CARRYING         FAIR              Carrying         Fair
                                                        AMOUNT          VALUE              Amount          Value
<S>                                                  <C>             <C>                <C>            <C>
Financial assets:
Cash and cash equivalents                            $    12,046     $    12,046        $    16,228     $    16,228
Federal funds sold                                                                            4,000           4,000
Securities available for sale                             54,229          54,229             36,138          36,138
Securities held to maturity                                                                  31,756          32,693
Loans                                                    193,371         192,425            163,303         163,588

Financial liabilities:
Deposits                                             $  (233,303)    $  (233,285)       $  (233,361)    $  (234,938)
Other borrowings                                         (15,000)        (15,000)            (5,000)         (5,000)

Unrecognized financial instruments:
Commercial letters of credit                                         $        (8)                       $        (8)
Standby letters of credit                                                    (13)                                (3)
</TABLE>


NOTE O - REGULATORY MATTERS

The Company and Bank are subject to regulatory capital requirements administered
by federal banking agencies. Capital adequacy guidelines and 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 about components, risk weightings and other factors, and
the regulators can lower classifications in certain cases. Failure to meet
various capital requirements can initiate regulatory action that could have a
direct material effect on the consolidated financial statements.

                                     FS-18

<PAGE>   53


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)


NOTE O - REGULATORY MATTERS (CONTINUED)

The prompt corrective action regulations provide five classifications, including
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 plans for capital restoration are required.

At year end, actual capital levels (in thousands) and minimum required levels
were:

<TABLE>
<CAPTION>

                                                                                                 MINIMUM REQUIRED
                                                                                                       TO BE
                                                                         MINIMUM REQUIRED        WELL CAPITALIZED
                                                                            FOR CAPITAL       UNDER PROMPT CORRECTIVE
                                                  ACTUAL               ADEQUACY  PURPOSES        ACTION REGULATIONS
                                            -------------------       --------------------    -----------------------
                                             AMOUNT       RATIO       AMOUNT         RATIO     AMOUNT        RATIO
                                            -------------------       --------------------    -----------------------
<S>                                         <C>           <C>         <C>           <C>         <C>          <C>
1999
TOTAL CAPITAL (TO RISK WEIGHTED ASSETS)
  CONSOLIDATED                              $25,300       12.0%       $16,869        8.0%       $21,086       10.0%
  BANK                                      $20,425        9.8%       $16,673        8.0%       $20,842       10.0%
TIER 1 CAPITAL (TO RISK WEIGHTED ASSETS)
  CONSOLIDATED                              $23,168       11.0%        $8,435        4.0%       $12,652        6.0%
  BANK                                      $18,293        8.8%        $8,337        4.0%       $12,505        6.0%
TIER 1 CAPITAL (TO AVERAGE ASSETS)
  CONSOLIDATED                              $23,168        8.4%       $11,037        4.0%       $13,797        5.0%
  BANK                                      $18,293        6.7%       $10,917        4.0%       $13,646        5.0%

1998
Total capital (to risk weighted assets)
  Consolidated                              $25,808       13.4%       $15,439        8.0%       $19,298       10.0%
  Bank                                      $20,541       10.8%       $15,238        8.0%       $19,048       10.0%
Tier 1 capital (to risk weighted assets)
  Consolidated                              $23,782       12.3%        $7,719        4.0%       $11,579        6.0%
  Bank                                      $18,515        9.7%        $7,619        4.0%       $11,428        6.0%
Tier 1 capital (to average assets)
  Consolidated                              $23,782        9.2%       $10,363        4.0%       $12,954        5.0%
  Bank                                      $18,515        7.5%        $9,845        4.0%       $12,306        5.0%
</TABLE>


The Company and Bank, at year end 1999 and 1998, were categorized as well
capitalized.


NOTE P - MERGER AGREEMENT (EVENT SUBSEQUENT TO DATE OF AUDITOR'S REPORT)

On February 15, 2000, the Company announced that it had agreed to merge with
Sturgis Bank & Trust Company of Sturgis, Michigan ("Sturgis"). The transaction
is anticipated to be a tax-free exchange. It is subject to regulatory approvals
and approval by the shareholders of Sturgis, and is anticipated to be effective
the second half of 2000. The exchange ratio is .398 shares of the Company's
common stock for one share of Sturgis' common stock.





                                     FS-19
<PAGE>   54
SIGNATURES


     Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Company has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
<TABLE>

<S><C>

                                                    SOUTHERN MICHIGAN BANCORP, INC.
Dated:      March 20, 2000

                                                    By:  /s/  James T. Grohalski
                                                    ------------------------------------------
                                                         James T. Grohalski
                                                    Its: President and Chief Executive Officer
</TABLE>

     Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the Company
and in the capacities and on the dates indicated.

<TABLE>


<S><C>

/s/ James P. Briskey                                /s/ Thomas E. Kolassa
------------------------------------------          ------------------------------------------
James P. Briskey, Director                          Thomas E. Kolassa, Director


/s/ H. Kenneth Cole                                 /s/ James J. Morrison
------------------------------------------          ------------------------------------------
H. Kenneth Cole, Director                           James J. Morrison, Director


/s/ William E. Galliers                             /s/ Jane L. Randall
------------------------------------------          ------------------------------------------
William E. Galliers, Director                       Jane L. Randall, Director


/s/ James T. Grohalski                              /s/ Freeman E. Riddle
------------------------------------------          ------------------------------------------
James T. Grohalski, President, Chief                Freeman E. Riddle, Director
Executive Officer and Director
(Principal Financial & Accounting Officer)


/s/ Nolan E. Hooker                                  /s/Jerry L. Towns
------------------------------------------           ------------------------------------------
Nolan E. Hooker, Director                            Jerry L. Towns, Director


/s/ Gregory J. Hull                                  Dated: March 20, 2000
------------------------------------------
Gregory J. Hull, Director
</TABLE>







                                       S-1



<PAGE>   55






                       SECURITIES AND EXCHANGE COMMISSION
                             Washington, D.C. 20549


                           Annual Report on Form 10-K
                      For the Year Ended December 31, 1999






                                Index to Exhibits
                                    Exhibits






                         SOUTHERN MICHIGAN BANCORP, INC.
                            (A Michigan corporation)
                              51 West Pearl Street
                            Coldwater, Michigan 49036










<PAGE>   56



                                INDEX TO EXHIBITS


     Exhibit No.                          Description of Exhibit
     -----------                          ----------------------
      Exhibit 2             Agreement and Plan of Consolidation dated February
                            15, 2000 by and between the Company and Sturgis Bank
                            & Trust Company, a Michigan savings bank.

      Exhibit 3(i)          Articles of Incorporation incorporated by reference
                            to Exhibit 3 to the Company's Annual Report on Form
                            10-K for the year ended December 31, 1991 and
                            Exhibit 3 to Form S-3D filed April 30, 1998.

     Exhibit 3(ii)          Amended and Restated By-Laws are incorporated by
                            reference to Exhibit 3 to the Company's Annual
                            Report on Form 10-K for the year ended December 31,
                            1997.

      Exhibit 4             Instruments Defining the Rights of Security Holders
                            of the Company are the Articles of Incorporation and
                            By-Laws (see Exhibits 3(i) and (ii) above).

      Exhibit 9             Not applicable.

    Exhibit 10(a)           Material Contracts - Executive Compensation Plans
                            and Arrangements: (1) Master Agreements for
                            Directors' Deferred Income Plan; (2) Composite form
                            of Executive Employee Salary Continuation Agreement,
                            as amended; and (3) Master Agreements for
                            Executives' Deferred Compensation Plan, as amended,
                            are incorporated by reference to Exhibit 10 to the
                            Company's Annual Report on Form 10-K for the year
                            ended December 31, 1994.

    Exhibit 10(b)           Southern Michigan Bancorp, Inc. 2000 Stock Option
                            Plan.

      Exhibit 11            Not applicable.

      Exhibit 12            Not applicable.

      Exhibit 13            Not applicable.

      Exhibit 16            Not applicable.

      Exhibit 18            Not applicable.

      Exhibit 19            Not applicable.

      Exhibit 21            Subsidiaries of the Company.

      Exhibit 22            Not applicable.

      Exhibit 23            Consent of Independent Auditors.

      Exhibit 27            Financial Data Schedule.