**EXHIBIT 13**

 

**ANNUAL REPORT TO STOCKHOLDERS**

 

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**MANAGEMENT’S DISCUSSION ANDANALYSIS OF**

**FINANCIAL CONDITION ANDRESULTS OF OPERATIONS**

 

**Introduction**

 

ClassicBancshares, Inc. (the “Company”), a Delaware corporation, was organized in 1995for the purpose of becoming the savings and loan holding company of ClassicBank in connection with Classic Bank’s conversion from mutual to stock form oforganization on December 28, 1995.  TheCompany acquired First Paintsville Bancshares, Inc., the former holding companyof The First National Bank of Paintsville (“First National”), on September 30,1996.  The Company completed theacquisition of Citizen’s Bank, Grayson on May 14, 1999 which was merged intoClassic Bank at the time of acquisition. The Company maintained Classic Bank and First National as separatesubsidiaries until March 2001 at which time the Company merged the twosubsidiaries into one banking subsidiary known as Classic Bank.

 

Originallya federally chartered stock savings bank, Classic Bank converted on June 30,2000 to a Kentucky chartered commercial bank. Classic Bank is headquartered in Ashland, Kentucky and currently servesthe financial needs of communities in its market area through its officelocated at 344 Seventeenth Street, Ashland, Kentucky 41101 and seven branchoffices located in Boyd, Carter, Greenup and Johnson Counties.  The deposits of Classic Bank are insured upto applicable limits by the Federal Deposit Insurance Corporation (“FDIC”).  The Company’s business involves attractingdeposits from the general public and using such deposits, together with otherfunds, to originate primarily consumer, commercial business, commercial realestate, one- to four-family residential mortgages, and to a lesser extent multi-familyand construction loans primarily in the market area of Classic Bank.  The Company also invests in mortgage-backedand related securities, taxable and tax-exempt investment securities and otherpermissible investments.

 

ClassicBank’s primary market area includes the Kentucky counties of Boyd, Carter,Greenup and Johnson Counties and portions of Martin, Floyd, Magoffin andLawrence Counties also located in Kentucky. The economic base in Boyd, Carter and Greenup counties has primarily beenindustrial in nature and previously relied upon a small number of largeemployers particularly in the steel and petroleum industries.  Over the last several years, diversificationof the employment base to a more retail and service based economy has resultedin a slowing of previously experienced declines in population.   Per capita income in these counties remainsbelow the national average.  Boyd Countyexceeds the state average of per capita income while Carter and GreenupCounties remain below the state average. Unemployment has continued to decline as a result of a continuedshifting of the local employment base to the retail and service sectors,although the unemployment rate for these counties continues to exceed thenational and state unemployment rates.

 

Theeconomy in Johnson, Martin, Floyd, Magoffin and Lawrence Counties hashistorically been based on the manufacturing and coal mining relatedindustries, but now also includes retail, medical, and government sectors and,to a lesser extent, manufacturing.  Percapita income for these counties is below the national average and the stateaverage.  The unemployment rate exceedsthe national and state unemployment rates.

 

TheCompany’s revenues are derived principally from interest earned on loans and,to a lesser extent, from interest earned on investments and mortgage-backed andrelated securities.  The operations ofthe Company are influenced significantly by general economic conditions and bypolicies of financial institution regulatory agencies, including the KentuckyDepartment of Financial Institutions, the Federal Reserve and the FDIC.   The Company’s cost of funds is influencedby interest rates on competing investments and general market interestrates.  Lending activities are affectedby the demand for

 

 

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financing ofreal estate and other types of loans, which in turn is affected by the interestrates at which such financings may be offered.

 

TheCompany’s net interest income is dependent primarily upon the difference orspread between the average yield earned on loans receivable, net andinvestments and the average rate paid on deposits and borrowings, as well asthe relative amounts of such assets and liabilities.  The Company is subject to interest rate risk to the degree that itsinterest-bearing liabilities mature or reprice at different times, or on adifferent basis, than its interest-earning assets.

 

Management’sdiscussion and analysis of financial condition and results of operations areintended to assist in understanding the financial condition and results ofoperations of the Company. The information contained in this section should beread in conjunction with the financial statements and accompanying notescontained elsewhere herein.

 

**Forward-Looking Statements**

 

Whenused in this report, the words or phrases “will likely result”, “are expectedto”, “will continue”, “is anticipated”, “estimate”, “project” or similarexpressions are intended to identify “forward-looking statements” within themeaning of the Private Securities Litigation Reform Act of 1995.  Such statements are subject to certain risksand uncertainties, changes in economic conditions in the Company’s market area,changes in real estate values in the Company’s market area, changes in policiesby regulatory agencies, fluctuations in interest rates, demand for loans in theCompany’s market area and competition that could cause actual results to differmaterially from historical earnings and those presently anticipated orprojected.  The Company wishes to cautionreaders not to place undue reliance on any such forward-looking statements,which speak only as of the date made. The Company wishes to advise readers that the factors listed above couldaffect the Company’s financial performance and could cause the Company’s actualresults for future periods to differ materially from any opinions or statementsexpressed with respect to future periods in any current statements.

 

TheCompany does not undertake – and specifically declines any obligation –to publicly release the result of any revisions which may be made to anyforward-looking statements to reflect events or circumstances after the date ofsuch statements or to reflect the occurrence of anticipated or unanticipatedevents.

 

**Business Strategy**

 

TheBoard’s primary vision is the enhancement of shareholder value and earningsgrowth.  The Company has strategicallypositioned itself to become a high performing, independent, community-focusedfinancial services organization.  Thisstrategic direction will continue as long as the Board believes, following itsregular strategic reviews, that it is in the best interest of shareholdervalue.  The Company will continue tomaintain a focus on internal growth while exploring acquisition opportunitiesthat are accretive to earnings and strategically located so as to creategreater franchise and shareholder value. Management believes that its recently executed strategy of consolidatingthe Company’s two bank charters to a Kentucky-chartered commercial bankcontributed to the Company’s increase in net income.

 

TheCompany’s focus is the continuation of improvements in net interest incomederived from a balance sheet structure utilizing variable rate assets funded bythe most cost effective funding sources available to the Company, whether inthe form of deposits or borrowings. While market share increases remain a strategic goal, management issteadfast in the belief that profitability is paramount to asset growth.  As a result of this philosophy, managementremains focused on pricing assets to maximize net interest income rather than formarket share growth.  Furthermore,management may continue to utilize

 

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borrowingsto fund asset growth, rather than deposits, when the cost of borrowings is moreattractive than the cost of deposits.

 

Managementhas revamped its compensation programs to incentive based compensation thatrewards employees for attaining production and customer service levels andbelieves this strategy will assist in profitable growth while containing salaryexpense levels commensurate with profitability increases.  Under the program, loan officers arerewarded for loan volume above an established production level.  The program also includes incentives forloan fees and other products sold in connection with loans and penalizes fordelinquencies and declines in loan quality. Other front-line staff, such ascustomer service representatives and tellers are rewarded for sales efforts,accuracy and superior customer service. The operations staff is compensated for efficient back room operationsand delivering accurate and timely services to the Company’s customerbase.  The implementation of theincentive program has served as a catalyst for creating profitable growth forthe Company, improving operational efficiencies and delivering superiorcustomer service.

 

Technologyinnovation that increases operating efficiencies remains a major strategy forthe Company.  In order to keep pace withthe changes in banking technology, the Company plans to convert to checkimaging in November 2002.  While a smallincrease in expenses may result in the short term, this will streamline thestatement rendering process and reduce the need for additional staff as depositaccounts increase in the future.

 

Whileacquisitions of other institutions or branch offices remain a consideration andopportunity for growth, management continues to seek opportunities for internalgrowth within its existing franchise area. In order to facilitate internal growth, management has announced plansto open a banking office in the city of Greenup, Kentucky that will representthe eighth banking office for the Company and the second banking office inGreenup County.

 

Inorder to meet internal growth targets, management has undertaken an aggressive advertisingcampaign focusing on image and name recognition utilizing the endorsement ofnational celebrity and Ashland, Kentucky native, Naomi Judd.  The goal of the campaign is to stress theimportance of hometown values, convenience, and banking with people that youknow and trust.  The campaign hasresulted in increased account openings in the markets we serve.

 

**Financial Condition**

 

***March 31,2002 compared to March 31, 2001.***** **Total assetsincreased approximately $27.5 million, or 14.6%, from $187.9 million at March31, 2001 to $215.4 million at March 31, 2002. The increase was due primarily to an increase in loans of $21.4 million,an increase in investment securities of $1.0 million, an increase inmortgage-backed securities of approximately $5.6 million offset primarily by adecrease in cash and cash equivalents of approximately $200,000, a decrease inother real estate owned of $100,000 and a decrease in premises and equipment ofapproximately $200,000.

 

Loansincreased $21.4 million, or 15.4%, from $138.9 million at March 31, 2001 to$160.3 million at March 31, 2002.  Incompliance with the Company’s strategic plan, the increase in loans wasprimarily in the consumer, commercial business and commercial real estate portfolioswith less emphasis on residential mortgage loans.  The growth in loans reflected an increase in consumer loans of$6.7 million, an increase in commercial business loans of $6.7 million, anincrease in commercial real estate loans of $6.2 million, an increase inconstruction loans of $1.5 million, and an increase in one-to-four familymortgage loans of $600,000 offset by a decrease in multi-family loans$300,000.  The implementation of anincentive-based compensation program fueled the loan growth for the fiscalyear.

 

Investmentsecurities increased $1.0 million, or 4.0%, from $24.8 million at March 31,2001 to $25.8 million at March 31, 2002. The increase was due primarily to purchases of $2.5 million offset by

 

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sales,maturities and calls of $1.3 million and a decline in the market value oftheses available for sale securities of approximately $200,000.  Mortgage-backed securities increasedapproximately $5.6 million primarily due to purchases of $7.0 million offset byprincipal repayments of approximately $1.3 million and a decline in the marketvalue of these available for sale securities.

 

Depositsincreased $13.5 million from $145.4 million at March 31, 2001 to $158.9 millionat March 31, 2002.  The increase indeposits reflected an increase in noninterest-bearing demand deposits of $3.3million, an increase in savings, NOW and money market accounts of $8.6 millionand an increase in certificates of deposit of $1.6 million.  Federal Home Loan Bank borrowings increased$10.8 million from $16.6 million at March 31, 2001 to $27.4 million at March31, 2002.  The increase in deposits andborrowings was used to fund the increase in loans.  Borrowings were utilized during the fiscal year to fund loangrowth when the cost of borrowings was more attractive than the cost ofdeposits.

 

Theallowance for loan losses increased approximately $200,000 from $1.4 million atMarch 31, 2001 to $1.6 million at March 31, 2002 as a result of a provision forfiscal 2002 of $363,000, offset by net charge-offs of $142,000.

 

Stockholder’sequity increased $1.5 million to $22.0 million at March 31, 2002 as compared to$20.5 million at March 31, 2001 as a result of net income for the period ofapproximately $2.2 million, and the release of ESOP shares and RRP sharesearned during the fiscal year of approximately $100,000 offset by a decrease inthe market value of available for sale securities of $200,000, stockrepurchases of approximately $300,000 and dividends paid of approximately$300,000.  Management intends torepurchase shares of its outstanding common stock in the open market atprevailing market prices from time to time depending on market conditions.  The reacquired shares will be held astreasury shares and will be used for general corporate purposes including theissuance of shares in connection with the exercise of options.

 

***March 31,2001 compared to March 31, 2000.***** **Total assetsincreased approximately $12.6 million, or 7.2%, from $175.3 million at March31, 2000 to $187.9 million at March 31, 2001. The increase was due primarily to an increase in cash and cashequivalents of approximately $300,000, an increase in loans of $11.1 million,an increase in investment securities of $1.1 million, an increase in mortgage-backedsecurities of approximately $200,000, and an increase in premises and equipmentof approximately $600,000 offset by a decrease in goodwill of approximately$300,000 and a decrease in other assets of approximately $400,000.

 

Loansincreased $11.1 million, or 8.7%, from $127.8 million at March 31, 2000 to$138.9 million at March 31, 2001.  Thegrowth in loans reflected an increase in consumer loans of $4.2 million, anincrease in commercial business loans of $3.2 million, an increase inone-to-four family mortgage loans of $2.0 million and an increase in commercialreal estate loans of $1.7 million.

 

Investmentsecurities increased $1.1 million, or 4.2%, from $25.1 million at March 31,2000 to $26.2 million at March 31, 2001. The increase was due primarily to an increase of $1.6 million in themarket value of these available for sale securities offset by net sales of$500,000.  Mortgage-backed securitiesincreased  $200,000 primarily due topurchases of approximately $700,000 offset by principal repayments ofapproximately $500,000.

 

Premisesand equipment increased approximately $600,000 primarily as a result of theconstruction of an additional banking office in the Paintsville market offsetby depreciation expense recorded during the fiscal year.

 

Depositsincreased $10.5 million from $134.9 million at March 31, 2000 to $145.5 millionat March 31, 2001.  The increase indeposits reflected an increase in noninterest-bearing demand deposits of $2.4 million,

 

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an increasein NOW and money market accounts of $3.8 million and an increase incertificates of deposits of $5.0 million offset by a decrease in savingsaccounts of approximately $800,000.  Theincrease in deposits was used to fund the increase in loans.

 

Theallowance for loan losses increased approximately  $100,000 from $1.3 million at March 31, 2000 to $1.4 million atMarch 31, 2001 as a result of a provision for fiscal 2001 of $261,000, offsetby net charge-offs of $143,000.

 

Stockholder’sequity increased $1.5 million to $20.5 million at March 31, 2001 as compared to$19.0 million at March 31, 2000 as a result of net income for the period ofapproximately $1.0 million, an increase in the market value of available forsale securities of $1.1 million and the release of ESOP shares and RRP sharesearned during the fiscal year of approximately $300,000 offset by stockrepurchases of approximately $500,000 and dividends paid of approximately$400,000.

 

**Results of Operations**

 

TheCompany’s results of operations depend primarily upon the level of net interestincome, which is the difference between the interest income earned on itsinterest-earning assets such as loans and investments, and the costs of theCompany’s interest-bearing liabilities, primarily deposits and borrowings.  Results of operations are also dependentupon the level of the Company’s noninterest income, including fee income andservice charges, and affected by the level of its noninterest expenses,including its general and administrative expenses.  Net interest income depends upon the volume of interest-earningassets and interest-bearing liabilities and the interest rate earned or paid onthem, respectively.

 

**Comparison of Operating Results for the Years Ended March 31,2002 and March 31, 2001**

 

***Net Income***.  Net income increased by approximately $1.2million from $1.0 million for the fiscal year ended March 31, 2001 to $2.2million for the fiscal year ended March 31, 2002.  The increase was due to an increase in net interest income of$1.3 million, an increase in noninterest income of $369,000 and a decrease innoninterest expenses of $68,000 offset by an increase in the provision for loanlosses of $102,000, and an increase in income tax expense of $445,000.

 

***NetInterest Income*****.**  Net interest income increased $1.3 millionfrom $6.3 million for the fiscal year ended March 31, 2001 to $7.6 million forthe fiscal year ended March 31, 2002 due to an increase in interest income of$11,000 and a decrease in interest expense of $1.3 million.  The increase in interest income was due toan increase in the average balance of interest-earning assets offset primarilyby a decrease in the yield earned on interest-earning assets.  The average balance of interest-earningassets increased $16.6 million from $166.1 million for fiscal 2001 to $182.7million for fiscal 2002.  Interest-earning assets increased primarily due to an increase in theaverage balance of loans of $14.5 million, and an increase in investment andmortgage-backed securities of $2.1 million. The average tax equivalent yield on interest-earning assets was 8.5% forthe fiscal year ending March 31, 2001 compared to 7.7% for the fiscal yearending March 31, 2002.  The decrease inthe yield was due primarily to a decline in market interest rates during thefiscal year.  Despite the significantdecline in interest rates during the fiscal year, the Company was able tosustain interest income levels as a result of the growth in loans.

 

Interestexpense decreased approximately $1.3 million from $7.4 million for fiscal 2001to $6.1 million for fiscal 2002 primarily as a result of a decrease in theaverage rate paid on interest-bearing liabilities.  The average rate paid on interest-bearing liabilities decreasedfrom 5.1% for the fiscal year ending March 31, 2001 to 3.9% for the fiscal yearending March 31, 2002.  The reduction inthe cost of interest-bearing liabilities was due to a decline in marketinterest rates during the fiscal year. The

 

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averagebalance of interest-bearing liabilities increased $13.3 million from $145.0million for fiscal 2001 to $158.3 million for fiscal 2002.  The increase in the average balance ofinterest-bearing liabilities was due primarily to an increase in the averagebalance of interest-bearing deposits and borrowings.

 

***Provisionfor Loan Losses.***  Theprovision for loan losses increased by $102,000 from $261,000 for fiscal 2001to $363,000 for fiscal 2002 based on management’s overall assessment ofprobable incurred losses in the loan portfolio.  The increase in the provision was due primarily to overall growthof the loan portfolio and continued diversification of the loan portfolio intoconsumer and commercial loans. Management maintains the allowance for loan losses based on the analysisof various factors, including the market value of the underlying collateral,growth and composition of the loan portfolio, the relationship of the allowancefor loan losses to outstanding loans, historical loss experience, delinquencytrends and prevailing and projected economic conditions.  Although the Company maintains its allowancefor loan losses at a level it considers adequate to provide for losses, therecan be no assurance that such losses will not exceed the estimated amounts orthat additional substantial provisions for loan losses will not be required infuture periods.  At March 31, 2002, theallowance for loan losses totaled $1.6 million, or 1.0% of net loans and 248.0%of non-performing loans.  Non-performingloans decreased $130,000 from $786,000 at March 31, 2001 to $656,000 at March31, 2002.

 

***NoninterestIncome.***  Noninterest income increasedapproximately $369,000 from $1.1 million for fiscal 2001 to $1.5 million forfiscal 2002 due to an increase in service charges and other fees on deposits of$275,000, an increase in other income of $119,000 offset by a decrease in gainon sale of securities of $25,000.  Theincrease in service charges and other fees on deposits was the result of anincreased deposit base and a continual adherence to charging fees in accordancewith the established fee schedule. Other income increased primarily due to an increase in the fees earnedfrom the origination of secondary market loans and commissions earned from thesale of credit life and accident and health insurance on consumer loans.  The increase in these fees was fueled by theimplementation of an incentive-based compensation program.  The incentive program includes fees earnedon the origination of secondary market loans and credit life and accident andhealth insurance whereby loan officers are compensated for the level of feesgenerated.

 

***NoninterestExpense.*** Noninterest expenses decreased approximately $68,000 from approximately$5.8 million for the year ended March 31, 2001 to approximately $5.7 million for the year ended March 31, 2002.  The decrease in noninterest expenses was dueto a decrease in federal deposit insurance premiums of $13,000, a decrease infranchise and deposit taxes of $57,000, a decrease in directors fees of$18,000, a decrease in the amortization of goodwill of $254,000 and a decreasein other operating expenses of $98,000 offset by an increase in employeecompensation and benefits of $131,000, an increase in occupancy and equipmentexpense of $77,000, an increase in advertising expense of $78,000, an increasein communications expense of $72,000 and an increase in stationary and suppliesof $14,000.

 

Thedecrease in franchise and deposit taxes, directors fees and other operatingexpenses was due primarily to the consolidation of the Company’s twosubsidiaries in March 2001. The decrease in the amortization of goodwill was due to the implementation ofthe Financial Accounting Standards Board Statement No. 142, Goodwill and Other Intangibles. Because the Company has a fiscal year end in March, the statement wasapplied effective April 1, 2001 and resulted in the discontinuance of theamortization of goodwill.

 

Compensationand benefit expenses increased $131,000 due to the implementation of anincentive compensation program, the payment of bonuses for the fiscal year andan increase in ESOPexpense due to an increase in theaverage market value of the Company’s stock.

 

Occupancyand equipment expense increased approximately $77,000.  The increase was due primarily to theopening of an additional banking office in the Paintsville market in March2001.  Advertising expense increasedapproximately $78,000 due to the launching of an aggressive advertising

 

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campaignthat utilized the endorsement of a national celebrity.  Communications expense increased $72,000 asa result of the installation of a state-of-the-art telephone and communicationsystem that allows voice and data to be carried simultaneously over frame relayenabling a central operator to answer calls originating from any of the Company’smarket areas.

 

***Income TaxExpense*****.**  Income tax expense increased $445,000 due toa higher income before income taxes.

 

**Comparison of Operating Results for the Years Ended March 31,2001 and March 31, 2000**

 

***Net Income*****.**  Net income decreased byapproximately $22,000 from $1.1 million for the fiscal year ended March 31,2000 to $1.0 million for the fiscal year ended March 31, 2001.  The decrease was due to an increase in netinterest income of $299,000, an increase in noninterest income of $191,000offset by an increase in the provision for loan losses of $38,000, an increasein noninterest expense of $436,000 and an increase in income tax expense of$38,000.

 

***NetInterest Income*****.**  Net interest income increased $299,000 from$6.0 million for the fiscal year ended March 31, 2000 to $6.3 million for thefiscal year ended March 31, 2001 due to an increase in interest income of $1.8million offset by an increase in interest expense of $1.5 million.  The increase in interest income was due toan increase in the average balance of interest-earning assets, as well as anincrease in the yield earned on interest-earning assets.  The average balance of interest-earningassets increased from $151.4 million for fiscal 2000 to $166.1 million forfiscal 2001.   Interest-earning assetsincreased primarily due to an increase in the average balance of loans.  The average tax equivalent yield oninterest-earning assets was 8.2% at March 31, 2000 compared to 8.5% at March31, 2001.  The increase in the yield wasdue to the continued diversification of the loan portfolio to higher yieldingcommercial and consumer loans.

 

Interestexpense increased approximately $1.5 million from $5.8 million for fiscal 2000to $7.3 million for fiscal 2001 primarily as a result of an increase in theaverage balance of interest-bearing liabilities.  The average balance of interest-bearing liabilities increasedfrom $134.0 million at March 31, 2000 to $145.0 million at March 31, 2001.  The increase in the average balance ofinterest-bearing liabilities was due primarily to an increase in the averagebalance of interest-bearing demand accounts and an increase in the averagebalance of FHLB borrowings.   Theaverage rate paid on interest-bearing liabilities increased from 4.4% at March31, 2000 to 5.1% at March 31, 2001.  Theincrease in the average rate paid on interest-bearing liabilities was due torising interest rates during the first half of the Company’s fiscal year.  Although interest rates dropped during thelast quarter of the Company’s fiscal year, longer term deposits which repricedin the higher rate environment have not repriced since the reduction inrates.  However, due to the shortmaturities of the majority of these deposits, repricing in this lower rateenvironment is occurring.  The Company’sFHLB borrowings have repriced as rates have decreased.  However, the rate paid on FHLB borrowingswas higher during the majority of the fiscal year resulting in an increase onthe rate paid in fiscal 2001 compared to fiscal 2000.

 

***Provisionfor Loan Losses.***  Theprovision for loan losses increased by $38,000 from $223,000 for fiscal 2000 to$261,000 for fiscal 2001 based on management’s overall assessment of probableincurred losses in the loan portfolio. The increase in the provision was due primarily to an increase in netcharge-offs during fiscal 2001 compared to fiscal 2000, overall growth of theloan portfolio and continued diversification of the loan portfolio intoconsumer and commercial loans. Management maintains the allowance for loan losses based on the analysisof various factors, including the market value of the underlying collateral,growth and composition of the loan portfolio, the relationship of the allowancefor loan losses to outstanding loans, historical loss experience, delinquencytrends and prevailing and projected economic conditions.  Although the Company maintains its allowancefor loan losses at a level it considers adequate to provide for losses, therecan be no assurance that such losses

 

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will notexceed the estimated amounts or that additional substantial provisions for loanlosses will not be required in future periods. At March 31, 2001, the allowance for loan losses totaled $1.4 million,or 1.0% of net loans and 179.1% of non-performing loans.  The ratio of the allowance for loan losses tonon-performing loans increased at March 31, 2001 from the level of March 31,2000 due to the fact that the level of non-performing loans remained constantand the balance of the allowance increased from March 31, 2000 to March 31,2001.

 

***NoninterestIncome.***  Noninterest income increasedapproximately $191,000 from $895,000 for fiscal 2000 to $1.1 million for fiscal2001 due to an increase in service charges and other fees on deposits of$212,000, an increase in the gain on sale of securities of $34,000 offset by adecrease in other income of $55,000. The increase in service charges and other fees on deposits was theresult of an increased deposit base and aggressive pricing strategies.  The Company adheres to a very strict waiverpolicy and during the fiscal year waived fees of only 3.9% of total charges.  The increase in the gain on the sale of securitiesduring the current fiscal year was due to a gain on the sale of securities ofapproximately $32,000 being recorded during fiscal 2001 as compared to a losson the sale of securities of $2,500 in the previous fiscal year.  Other income decreased primarily due to aloss that was recorded during fiscal 2001 on the disposal of fixed assets ofapproximately $31,000 compared to a gain on the disposal of fixed assets of$28,000 that was recorded during the fiscal year ended March 31, 2000.  The loss recorded during the current fiscalyear on the disposal of fixed assets was primarily due to assets no longer inservice as a result of the consolidation of the two subsidiaries of theCompany.

 

***NoninterestExpense.*** Noninterest expense increased approximately $436,000 or 8.1%, fromapproximately $5.4 million for the year ended March 31, 2000 to approximately$5.8 million for the year ended March 31, 2001.  Compensation and benefit expenses increased $193,000 from $2.4million for the year ended March 31, 2000 to $2.6 million for the year endedMarch 31, 2001 due to severance packages of approximately $23,000 paid inconnection with the consolidation of the Company’ subsidiaries and a netincrease in the number of employees prior to the consolidation in order to facilitatethe growth of the Company.  Compensationand benefit expenses also increased due to a slight increase in the amountallocated to employees under the cafeteria plan.  The cafeteria plan was put in place to mitigate rising costsassociated with medical insurance premiums. Although costs under the cafeteria plan did increase slightly from theprevious year, the costs did not increase as much as they would have had theplan not been in place.

 

Occupancyand equipment expense increased approximately $125,000 from $761,000 for 2000to $886,000 for 2001.  The increase wasdue to additional repairs required during the fiscal year to existingfacilities and equipment and an increase in depreciation expense.  The increase was also due to costsassociated with a land lease in the Paintsville market where the new bankingoffice was constructed and opened in March 2001.  Although, the facility was not completed until March 2001, theland lease began in August 2000.

 

Advertisingexpense increased approximately $17,000 due to intensified marketing effortswithin the Company’s market area. Franchise and deposit taxes increased $75,000 due to the conversion ofthe charter of Classic Bank.  ClassicBank is now subject to a franchise and deposit tax in the state of Kentuckythat was not required under the thrift charter.  Amortization of goodwill increased $16,000 due to a full twelvemonths of the amortization of the goodwill recorded in connection with theCitizens acquisition as compared to only ten months in the previous fiscalyear.

 

Noninterestexpenses also increased due to restructuring charges of approximately $93,000recorded in connection with the consolidation which consisted primarily oflegal fees, data processing costs, additional advertising costs and employeerelocations.  All of these increaseswere offset by reductions in the amortization of software in connection withthe Company’s data processing system of $29,000, a reduction in federal depositinsurance premiums of $14,000 and a reduction in other general

 

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andadministrative expenses of $40,000 due to management’s efforts to reduceoverhead expenses and improve efficiency.

 

***Income TaxExpense*****.**  Income tax expense increased $38,000 due toa higher income before income taxes.

 

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Thefollowing table presents for the periods indicated the total dollar amount ofinterest income from average interest-earning assets and the resultant yields,as well as the interest expense on average interest bearing liabilities,expressed both in dollars and rates. All average balances are monthly average balances.  Yields are reported on a tax equivalentbasis.  Non-accruing loans have beenincluded in the table as loans carrying a zero yield.  Included in interest income on loans are loan fees and othercharges on loans totaling $261,000, $193,000, and $182,000 for the years endedMarch 31, 2002, 2001 and 2000, respectively.

 
|                                                                      |   | **Year Ended March 31,**          |    |                        |
|---------------------------------------------------------------------------|--------|-----------------------------------|---------|-----------------------------|
|                                                                      |   | **2002**                          |    | **2001**                    |   | **2000** |   |   |
|                                                                      |   | **Average  Outstanding  Balance** |    | **Interest  Earned/  Paid** |   | **Yield/Rate** |   | **Average  Outstanding  Balance** |   | **Interest  Earned/  Paid** |   | **Yield/Rate** |   | **Average  Outstanding  Balance** |   | **Interest  Earned/  Paid** |   | **Yield/Rate** |   |   |
|                                                                      |   | **(Dollars in Thousands)**        |    |                        |
| Interest-Earning Assets:                                                  |   |                              |    |                        |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Loans receivable(1)                                                       |   | $                                 | 149,979 |                        | $ | 11,899 |   | 7.9 | % | $ | 135,627 |   | $ | 11,904 |   | 8.8 | % | $ | 121,274 |   | $ | 10,099 |   | 8.3 | % |
| Mortgage-backed securities                                                |   | 5,124                             |    | 281                         |   | 5.5 |   | 3,258 |   | 216 |   | 6.6 |   | 3,764 |   | 223 |   | 5.9 |   |   |
| Investment securities                                                     |   | 25,511                            |    | 1,815                       |   | 7.1 |   | 25,300 |   | 1,800 |   | 7.1 |   | 24,407 |   | 1,917 |   | 7.9 |   |   |
| Interest-earning deposits                                                 |   | 185                               |    | 6                           |   | 3.2 |   | 125 |   | 6 |   | 4.8 |   | 128 |   | 6 |   | 4.7 |   |   |
| Federal funds sold                                                        |   | 464                               |    | 10                          |   | 2.2 |   | 311 |   | 14 |   | 4.5 |   | 446 |   | 25 |   | 5.6 |   |   |
| FHLB stock and FRB stock                                                  |   | 1,438                             |    | 87                          |   | 6.1 |   | 1,512 |   | 109 |   | 7.2 |   | 1,420 |   | 98 |   | 6.9 |   |   |
| Total interest-earning assets(1)                                          |   | $                                 | 182,701 |                        | 14,098 |   | 7.7 |   | $ | 166,133 |   | 14,049 |   | 8.5 |   | $ | 151,439 |   | 12,368 |   | 8.2 |   |
|                                                                      |   |                              |    |                        |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Interest-Bearing Liabilities:                                             |   |                              |    |                        |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Savings accounts and interest-bearing  demand                             |   | $                                 | 36,380  |                        | 815 |   | 2.2 |   | $ | 34,431 |   | 1,233 |   | 3.6 |   | $ | 33,549 |   | 1,081 |   | 3.2 |   |
| Money market deposits                                                     |   | 15,274                            |    | 417                         |   | 2.7 |   | 10,892 |   | 366 |   | 3.4 |   | 10,596 |   | 318 |   | 3.0 |   |   |
| Certificate accounts                                                      |   | 82,062                            |    | 4,034                       |   | 4.9 |   | 77,054 |   | 4,343 |   | 5.6 |   | 77,312 |   | 3,857 |   | 5.0 |   |   |
| FHLB advances                                                             |   | 19,753                            |    | 718                         |   | 3.6 |   | 19,124 |   | 1,193 |   | 6.2 |   | 8,930 |   | 421 |   | 4.7 |   |   |
| Other short-term borrowings                                               |   | 4,869                             |    | 116                         |   | 2.4 |   | 3,540 |   | 214 |   | 6.0 |   | 3,930 |   | 215 |   | 5.5 |   |   |
| Total interest-bearing liabilities                                        |   | $                                 | 158,338 |                        | 6,100 |   | 3.9 |   | $ | 145,041 |   | 7,349 |   | 5.1 |   | $ | 134,317 |   | 5,892 |   | 4.4 |   |
|                                                                      |   |                              |    |                        |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |   |
| Net interest income                                                       |   |                              |    | $                           | 7,998 |   |   |   |   |   | $ | 6,700 |   |   |   |   |   | $ | 6,476 |   |   |   |   |
| Net interest rate spread                                                  |   |                              |    |                        |   | 3.8 | % |   |   |   |   | 3.4 | % |   |   |   |   | 3.8 | % |   |
| Net earning assets                                                        |   | $                                 | 24,363  |                        |   |   |   |   | $ | 21,092 |   |   |   |   |   | $ | 17,122 |   |   |   |   |   |
| Net yield on average interest-earning  assets                             |   |                              |    |                        |   | 4.4 | % |   |   |   |   | 4.0 | % |   |   |   |   | 4.3 | % |   |
| Average interest-earning assets to  average interest -bearing liabilities |   |                              |    | 1.15                        | x |   |   |   |   | 1.15 | x  |   |   |   |   | 1.13 | x |   |   |   |
|                                                                           |        |                                   |         |                             |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

----

(1)Calculated net of deferred loan fees, loan discounts, loans in process and lossreserves.

 

10

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Thefollowing table presents the dollar amount of changes in interest income andinterest expense for major components of interest-earning assets andinterest-bearing liabilities.  Itdistinguishes between the changes related to outstanding balances and those dueto the changes in interest rates.  Foreach category of interest-earning assets and interest-bearing liabilities,information is provided on changes attributable to (i) changes in volume (*i.e.*, changes in volume multiplied by oldrate) and (ii) changes in rate (*i.e.*,changes in rate multiplied by old volume). For purposes of this table, changes attributable to both rate and volume,which cannot be segregated, have been allocated proportionately to the changedue to volume and the change due to rate.

 
|                                  |   | **Year Ended March 31,**         |   |
|---------------------------------------|--------|----------------------------------|--------|
|                                  |   | **2002 vs. 2001**                |   | **2001 vs. 2000** |   |
|                                  |   | **Increase  (Decrease)  Due to** |   | **Total  Increase(Decrease)** |   | **Increase  (Decrease)********Due to** |   | **Total  Increase(Decrease)** |   |
|                                  |   | **Volume**                       |   | **Rate** |   |   | **Volume** |   | **Rate** |   |   |
|                                  |   | **(Dollars in Thousands)**       |   |
|                                  |   |                             |   |   |   |   |   |   |   |   |   |   |   |
| Interest-earning assets:              |   |                             |   |   |   |   |   |   |   |   |   |   |   |
| Loans receivable                      |   | $                                | 1,239  |   | $ | (1,244 | ) | $ | (5 | ) | $ | 1,196 |   | $ | 609 |   | $ | 1,805 |   |
| Mortgage-backed securities            |   | 106                              |   | (41 | ) | 65 |   | (32 | ) | 25 |   | (7 | ) |
| Investment securities                 |   | 15                               |   | — |   | 15 |   | 73 |   | (190 | ) | (117 | ) |
| Other                                 |   | 8                                |   | (34 | ) | (26 | ) | (2 | ) | 2 |   | — |   |
|                                  |   |                             |   |   |   |   |   |   |   |   |   |   |   |
| Total interest-earning assets         |   | $                                | 1,368  |   | $ | (1,319 | ) | $ | 49 |   | $ | 1,235 |   | $ | 446 |   | $ | 1,681 |   |
|                                  |   |                             |   |   |   |   |   |   |   |   |   |   |   |
| Interest-bearing liabilities:         |   |                             |   |   |   |   |   |   |   |   |   |   |   |
| Savings accounts and interest bearing |   |                             |   |   |   |   |   |   |   |   |   |   |   |
| demand                                |   | $                                | 67     |   | $ | (646 | ) | $ | (579 | ) | $ | 26 |   | $ | 126 |   | $ | 152 |   |
| Money market accounts                 |   | 134                              |   | (83 | ) | 51 |   | 8 |   | 40 |   | 48 |   |
| Certificate accounts                  |   | 261                              |   | (410 | ) | (149 | ) | (10 | ) | 496 |   | 486 |   |
| FHLB advances                         |   | 38                               |   | (513 | ) | (475 | ) | 603 |   | 169 |   | 772 |   |
| Other short-term borrowings           |   | 60                               |   | (157 | ) | (97 | ) | (21 | ) | 20 |   | (1 | ) |
|                                  |   |                             |   |   |   |   |   |   |   |   |   |   |   |
| Total interest-bearing liabilities    |   | $                                | 560    |   | $ | (1,809 | ) | $ | (1,249 | ) | $ | 606 |   | $ | 851 |   | $ | 1,457 |   |
|                                  |   |                             |   |   |   |   |   |   |   |   |   |   |   |
| Net interest income                   |   |                             |   |   |   | $ | 1,298 |   |   |   |   |   | $ | 224 |   |

 

**Asset/Liability Management****and Market Risk**

 

TheCompany’s profitability, like that of many financial institutions, is dependentto a large extent upon its net interest income.  When interest-bearing liabilities mature or reprice more quicklythan interest-earning assets in a given period, a significant increase inmarket rates of interest could adversely affect net interest income.  Similarly, when interest-earning assetsmature or reprice more quickly than interest-bearing liabilities, fallinginterest rates could result in a decrease in net interest income.  Finally, a flattening of the “yield curve” (*i.e.*, a decline in the difference betweenlong- and short-term interest rates) could adversely impact net interest incometo the extent that the Company’s assets have a longer average term than itsliabilities.

 

TheCompany is also subject to interest rate risk to the extent that the value ofits net assets fluctuates with interest rates. In general, the value of a portion of the Company’s assets will declinein the event of an increase in interest rates. Historically, the Company’s lending activity consisted primarily ofone-to four-family mortgages with long terms and fixed rates.  These assets are not interest rate

 

11

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sensitiveand therefore decline in value during a period of rising interest rates.  Conversely, these assets can increase invalue during a period of decreasing interest rates.  As part of the Company’s business strategy and asset/liabilitymanagement policy, a primary focus of lending activity is the acquisition ofvariable rate and/or shorter term loans thereby now decreasing interest raterisk and fluctuations in the value of the Company’s assets.

 

TheCompany has an asset/liability management policy.  The principal goals of this policy are to enhance the Company’snet interest margin while managing its interest rate position.  Depending upon market conditions, theCompany may place more emphasis on enhancing the net interest margin ratherthan matching the interest rate sensitivity of the Company’s assets andliabilities.  Management strives to meetthe goals of the policy by continually enhancing the net interest margin whilestill trying to effectively manage interest rate sensitivity.  Nonetheless, the Company’s results ofoperations and the economic value of its equity remain vulnerable to increasesin interest rates and declines in the difference between long- and short-terminterest rates.

 

Asset/Liabilitymanagement is monitored at the bank level by a committee that is comprised ofthe Company’s chief executive officer, chief financial officer, the presidentand senior lending officer of the bank and a minimum of two non-employeedirectors of the bank.  The committeemeets periodically to review the Company’s interest rate risk position andproduct mix and to make recommendations for adjustments to the Company’s Boardof Directors.  Management also monitorsthe Company’s interest rate risk position on a monthly basis, reviews theCompany’s portfolio, earnings, liquidity, asset quality, formulates investmentstrategies and oversees the timing and implementation of transactions to assureattainment of the Board’s objectives in a most effective manner.

 

Theprincipal elements of the Company’s asset/liability management policy are asfollows.  First, the Company requiresthat one-to-four family ARM loans be indexed to changes in rates paid on U.S.Treasury securities and all other adjustable rate loans be indexed to the Primerate as published in the Wall Street Journal. Management believes that U.S. Treasury securities and the Prime rate aresignificantly more interest rate sensitive than other indices and provides abetter opportunity to manage interest rate risk in a changing rateenvironment.  Second, management has andintends to continue to increase the Company’s commercial business, consumer andcommercial real estate loans, subject to market conditions.  In general, such loans carry shorter termsto maturity and/or repricing, and are more interest rate sensitive than most ofthe Company’s other assets.  Third,management has used marketing and other initiatives to increase the Company’stransaction and other non-certificate deposit accounts and believes that suchaccounts generally carry lower interest costs and are more interest rateresistant than the certificates of deposit. The Company also utilizes FHLBborrowings in funding assets when the cost of these borrowing is moreattractive than the cost of deposits. There can be no assurance as to whether or when any or all of theelements of the asset/liability management program will be successfully implemented.

 

EconomicValue of Equity  (“EVE”) analysisprovides a quantitative measure of interest rate risk.  In essence, this approach calculates thedifference between the market value of assets and liabilities under differentinterest rate environments.  The degreeof change between interest rate shock levels is a measure of the volatility ofvalue risk.  The following table setsforth, as of March 31, 2002, the estimated changes in the Company’s EVE inthe event of the specified instantaneous changes in interest rates.

 

12

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|                                          |   | **Economic Value of Equity** |   |
|-----------------------------------------------|--------|------------------------------|--------|
| **Change in  Interest Rates  (Basis Points)** |   | **Estimated EVE**            |   | **Amount of********Change** |   | **Percent  Change** | ** ** |
|                                          |   | **(Dollars in Thousands)**   |   |   |   |
|                                          |   |                         |   |   |   |   |   |
| +300                                          |   | $                            | 11,239 |   | (8,493 | ) | (43 | ) |
| +200                                          |   | 13,790                       |   | (5,942 | ) | (30 | ) |
| +100                                          |   | 16,790                       |   | (2,942 | ) | (15 | ) |
| 0                                             |   | 19,732                       |   |   |   |   |   |
| -100                                          |   | 21,767                       |   | 2,035 |   | 10 |   |
| -200                                          |   | 23,495                       |   | 3,763 |   | 19 |   |
| -300                                          |   | 25,163                       |   | 5,431 |   | 28 |   |
|                                               |        |                              |        |  |  |  |  |  |

 

Certainassumptions were employed by the Company in preparing the previous table.  These assumptions relate to interest rates,loan prepayment rates varied by categories and rate environment, deposit decayrates varied by categories and rate environment and the market values ofcertain assets under the various interest rate scenarios.  It was also assumed that delinquency rateswill not change as a result of changes in interest rates although there can beno assurance that this will be the case. In the event that interest rates do change in the designated amounts,there can be no assurance that the Company’s assets and liabilities wouldperform as set forth above.  Inaddition, a change in Treasury rates in the designated amounts accompanied by achange in the shape of the Treasury yield curve would cause significantlydifferent changes to the EVE than indicated above.

 

**Liquidity and Capital Resources**

 

TheCompany’s principal sources of funds are deposits and borrowings, amortizationand prepayment of loan principal and mortgage–backed securities,maturities of investment securities and operations.  While scheduled loan repayments and maturing investments arerelatively predictable, deposit flows and early loan repayments are moreinfluenced by interest rates, floors and caps on loan rates, general economicconditions and competition.  The Companygenerally manages the pricing of its deposits to be competitive and to increasecore deposit relationships, but has from time to time decided not to paydeposit rates that are as high as those of its competitors and, when necessary,to supplement deposits with less expensive alternative sources of funds, suchas FHLB borrowings.

 

Theprimary investing activities of the Company are originating loans and, to amuch lesser extent, purchasing mortgage–backed and investmentsecurities.  During fiscal years endedMarch 31, 2002, 2001, and 2000, the Company had loan originations net ofprincipal repayments of $22.1 million, $11.3 million and $22.1 million,respectively. A substantial portion of loan originations were funded byproceeds of loan repayments, the maturity or sale of securities, deposits andFHLB advances.

 

Theprimary financing activities of the Company are deposits and borrowings.  During the fiscal years ended March 31,2002, 2001, and 2000, the Company experienced an increase in deposits of $13.5million, $10.5 million, and $5.1 million. Certificates of deposits as of March 31, 2002 maturing within one yeartotal $63.1 million.  Management expectsmost of these deposits to remain with the Bank. During the fiscal years endedMarch 31, 2002, 2001 and 2000, the Company’s net financing activity(proceeds less repayments) with the FHLB totaled $10.8 million, $0, and $16.7million, respectively**.**

 

TheCompany’s most liquid assets are cash and cash equivalents, which consist ofshort-term highly liquid investments with original maturities of less thanthree months that are readily convertible to known amounts of cash andinterest-bearing deposits.  The level ofthese assets is dependent on the Company’s operating, financing and investingactivities during any given period.  AtMarch 31, 2002, cash and cash equivalents totaled $5.4 million.

 

Liquiditymanagement is both a daily and long–term responsibility ofmanagement.  The Company adjusts itsinvestments in liquid assets based upon management’s assessment of (i) expectedloan demand,

 

13

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(ii) expecteddeposit flows, (iii) yields available on interest–earning depositsand investment securities, and (iv) the objectives of its asset/liabilitymanagement program.  Excess liquidity isinvested generally in interest–earning overnight deposits and short–and intermediate–term U.S. Government and agency obligations and mortgage–backedsecurities of short duration.  If theCompany requires funds beyond its ability to generate them internally, ClassicBank has additional borrowing capacity with the FHLB of Cincinnati  which is, in the opinion of management,adequate to provide any funds needed.

 

TheCompany anticipates that it will have sufficient funds available to meetcurrent loan commitments.  At March 31,2002, the Company had outstanding loan commitments totaling $15.3 million.

 

Boththe Company and Classic Bank are required to maintain minimum levels ofregulatory capital.  At March 31, 2002,both the Company and Classic Bank exceeded all of their capital requirements.

 

**Impact of New Accounting Standards**

 

SeeNote 1 of the Notes to the Consolidated Financial Statements included hereinfor information regarding the effect of implementing new accounting standards.

 

**Impact of Inflation and Changing Prices**

 

TheCompany’s Consolidated Financial Statements and Notes have been preparedin accordance with generally accepted accounting principles, which require themeasurement of financial position and operating results in terms of historicaldollars without consideration for changes in the relative purchasing power ofmoney over time due to inflation.  Theimpact of inflation can be found in the increased cost of the Company’soperations.  Nearly all the assets andliabilities of the Company are financial, unlike most industrialcompanies.  As a result, the Company’sperformance is directly impacted by changes in interest rates, which areindirectly influenced by inflationary expectations.  Changes in interest rates do not necessarily move to the sameextent as changes in the price of goods and services.

 

14

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| R. MILTON GOOLSBY,  C.P.A. |   |
|---------------------------------|--------|
| JOHN W. ARTIS, C.P.A.           |   |
| LARRY J. WITHERS, C.P.A.        |   |
| STEPHEN W. KANOUSE, C.P.A.      |   |
| DELMAR H. FRALEY, C.P.A.        |   |
| RODNEY M. ROBINETTE, C.P.A.     |   |
|                            |   |   |   |
|                            |   |
| G. DALE SWENTZEL, C.P.A.        |   |
| STUART T. BLEVINS, C.P.A.       |   |
| DAVID K. WHALEY, C.P.A.         |   |
| SHARON K. KRETZER, C.P.A.       |   |
| THERESA C. LYONS, C.P.A.        |   |
|                                 |        |  |  |

 

**Smith, Goolsby, Artis & Reams,****P.S.C.**

 

**CERTIFIED PUBLIC ACCOUNTANTS**

**P.O. BOX 551     1330 CARTER AVE.**

**ASHLAND, KENTUCKY 41105-0551**

**(606) 329-1171  FAX (606) 325-0590**

 

Board of Directors

Classic Bancshares, Inc.

Ashland,Kentucky

 

**INDEPENDENTAUDITOR’S REPORT**

 

Wehave audited the accompanying consolidated statements of financial condition ofClassic Bancshares, Inc. and Subsidiary as of March 31, 2002 and 2001, andthe related consolidated statements of income, comprehensive income, changes instockholders’ equity and cash flows for each of the three years in the periodended March 31, 2002.  These financialstatements are the responsibility of the Corporation’s management.  Our responsibility is to express an opinionon these financial statements based on our audits.

 

Weconducted our audits in accordance with auditing standards generally acceptedin the United States of America.  Thosestandards require that we plan and perform the audit to obtain reasonableassurance about whether the financial statements are free of materialmisstatement.  An audit includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements.  An audit alsoincludes assessing the accounting principles used and significant estimatesmade by management, as well as evaluating the overall financial statementpresentation.  We believe that ouraudits provide a reasonable basis for our opinion.

 

Inour opinion, the consolidated financial statements referred to above presentfairly, in all material respects, the financial position of Classic Bancshares,Inc. and Subsidiary, as of March 31, 2002 and 2001, and the results oftheir operations and their cash flows for each of the three years in the periodended March 31, 2002, in conformity with accounting principles generallyaccepted in the United States of America.

 

 

 

/s/***Smith, Goolsby, Artis & Reams, P.S.C.***

 

Ashland,Kentucky

June11, 2002

 

15

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**CLASSIC BANCSHARES, INC. AND SUBSIDIARY**

**CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION**

**MARCH 31, 2002 AND 2001**

 
|                                                                                                |   | **2002**    |        | **2001**    |   |
|-----------------------------------------------------------------------------------------------------|--------|-------------|-------------|-------------|--------|
| **ASSETS**                                                                                          |   |        |        |        |   |
| Cash and due from banks                                                                             |   | $           | 4,952,009   |        | $      | 5,442,712 |   |
| Interest-bearing deposits with banks                                                                |   | 448,037     |        | 113,188     |   |
| Federal funds sold and securities purchased under agreements to resell                              |   | —      |        | 50,491      |   |
| Cash and cash equivalents                                                                           |   | 5,400,046   |        | 5,606,391   |   |
|                                                                                                |   |        |        |        |   |
| Securities available for sale                                                                       |   | 25,803,491  |        | 24,794,369  |   |
| Mortgage-backed and related securities available for sale                                           |   | 9,063,617   |        | 3,444,603   |   |
| Loans, net of allowance for loan losses of $1,628,242 in 2002 and  $1,406,908 in 2001.              |   | 160,315,663 |        | 138,861,807 |   |
| Real estate acquired in the settlement of loans                                                     |   | 77,622      |        | 210,745     |   |
| Accrued interest receivable                                                                         |   | 1,158,144   |        | 1,187,242   |   |
| Federal Home Loan Bank stock                                                                        |   | 1,480,300   |        | 1,394,000   |   |
| Premises and equipment, net                                                                         |   | 5,366,126   |        | 5,620,934   |   |
| Goodwill net of accumulated amortization of $864,636                                                |   | 5,554,549   |        | 5,554,549   |   |
| Other assets                                                                                        |   | 1,227,518   |        | 1,185,734   |   |
|                                                                                                |   |        | ** **  |        |   |
| **Total  assets**                                                                                   |   | $           | 215,447,076 |        | $      | 187,860,374 |   |
|                                                                                                |   |        |        |        |   |
| **LIABILITIES**                                                                                     |   |        |        |        |   |
| Non-interest bearing demand deposits                                                                |   | $           | 20,404,210  |        | $      | 17,186,398 |   |
| Savings, NOW, and money market demand deposits                                                      |   | 57,433,787  |        | 48,805,047  |   |
| Other time deposits                                                                                 |   | 81,036,439  |        | 79,438,470  |   |
| Total deposits                                                                                      |   | 158,874,436 |        | 145,429,915 |   |
| Federal funds purchased and securities sold under agreements to  repurchase                         |   | 5,395,941   |        | 3,179,589   |   |
| Advances from Federal Home Loan Bank                                                                |   | 27,401,157  |        | 16,635,590  |   |
| Other short-term borrowings                                                                         |   | 445,806     |        | 234,319     |   |
| Accrued expenses and other liabilities                                                              |   | 501,744     |        | 736,676     |   |
| Accrued interest payable                                                                            |   | 374,276     |        | 593,353     |   |
| Accrued income taxes                                                                                |   | —      |        | 57,919      |   |
| Deferred income taxes                                                                               |   | 472,761     |        | 532,706     |   |
|                                                                                                |   |        | ** **  |        |   |
| **Total  liabilities**                                                                              |   | 193,466,121 |        | 167,400,067 |   |
| Commitments                                                                                         |   |        |        |        |   |
|                                                                                                |   |        |        |        |   |
| **STOCKHOLDERS’  EQUITY**                                                                      |   |        |        |        |   |
| Preferred stock $.01 par value; authorized, 100,000 shares - none  issued                           |   | —      |        | —      |   |
| Common stock $.01 par value; authorized 1,700,000 shares; issued and  outstanding, 1,322,500 shares |   | 13,225      |        | 13,225      |   |
| Additional paid-in capital                                                                          |   | 20,373,556  |        | 20,317,385  |   |
| Retained earnings, substantially restricted                                                         |   | 5,136,114   |        | 3,275,716   |   |
| Accumulated other comprehensive income (loss)                                                       |   | (325,896    | )           | (171,073    | )      |
| Unearned ESOP shares                                                                                |   | (643,310    | )           | (689,320    | )      |
| Unearned RRP shares                                                                                 |   | (18,812     | )           | (58,434     | )      |
| Treasury stock, at cost (201,914 at 2002 and 178,164 shares at 2001)                                |   | (2,553,922  | )           | (2,227,192  | )      |
| **Total  stockholders’ equity**                                                                |   | 21,980,955  |        | 20,460,307  |   |
| **Total liabilities  and stockholders' equity**                                                     |   | $           | 215,447,076 |        | $      | 187,860,374 |   |

 

**NOTE**: The accompanying notes are an integral partof these consolidated financial statements.

 

16

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**CLASSIC BANCSHARES, INC. AND SUBSIDIARY**

**CONSOLIDATED STATEMENTS OF INCOME**

**YEARS ENDED MARCH 31, 2002, 2001 AND 2000**

 
|                                                                     |   | **2002**   |       | **2001**   |   | **2000**   |       |
|--------------------------------------------------------------------------|--------|------------|------------|------------|--------|------------|------------|
| **INTEREST AND DIVIDEND INCOME**                                         |   |       |       |       |   |       |       |
| Loans, including fees                                                    |   | $          | 11,898,779 |       | $      | 11,903,366 |       | $ | 10,099,028 |   |
| Securities:                                                              |   |       |       |       |   |       |       |
| Taxable                                                                  |   | 601,770    |       | 622,063    |   | 658,106    |       |
| Tax exempt                                                               |   | 824,196    |       | 825,893    |   | 831,256    |       |
| Mortgage-backed securities                                               |   | 281,119    |       | 215,871    |   | 223,325    |       |
| Federal funds sold and securities purchased under agreements to resell   |   | 10,414     |       | 14,236     |   | 25,543     |       |
| Dividends                                                                |   | 86,500     |       | 109,186    |   | 97,793     |       |
| Other interest                                                           |   | 5,754      |       | 6,453      |   | 5,749      | ** ** |
| **Total interest and dividend income**                                   |   | 13,708,532 |       | 13,697,068 |   | 11,940,800 |       |
|                                                                     |   |       |       |       |   |       |       |
| **INTEREST EXPENSE**                                                     |   |       |       |       |   |       |       |
| Deposits                                                                 |   | 5,265,668  |       | 5,935,475  |   | 5,256,203  |       |
| Federal Home Loan Bank advances                                          |   | 718,011    |       | 1,199,312  |   | 421,172    |       |
| Federal funds purchased and securities sold under repurchase  agreements |   | 107,816    |       | 182,559    |   | 180,504    |       |
| Other short-term borrowings                                              |   | 8,365      |       | 31,786     |   | 34,067     |       |
| **Total interest expense**                                               |   | 6,099,860  |       | 7,349,132  |   | 5,891,946  |       |
|                                                                     |   |       |       |       |   |       |       |
| **Net interest income**                                                  |   | 7,608,672  |       | 6,347,936  |   | 6,048,854  |       |
| Provision for loss on loans                                              |   | (363,000   | )          | (261,000   | )      | (222,500   | )          |
|                                                                     |   |       |       |       |   |       |       |
| **Net interest income after provision for loss on loans**                |   | 7,245,672  |       | 6,086,936  |   | 5,826,354  |       |
|                                                                     |   |       |       |       |   |       |       |
| **NONINTEREST INCOME**                                                   |   |       |       |       |   |       |       |
| Service charges                                                          |   | 1,188,699  |       | 915,129    |   | 702,570    |       |
| Gain (loss) on sale of securities                                        |   | 7,015      |       | 31,520     |   | (2,500     | )          |
| Other income                                                             |   | 258,693    |       | 139,383    |   | 194,706    |       |
| **Total noninterest income**                                             |   | 1,454,407  |       | 1,086,032  |   | 894,776    |       |
|                                                                     |   |       |       |       |   |       |       |
| **NONINTEREST EXPENSES**                                                 |   |       |       |       |   |       |       |
| Employee compensation and benefits                                       |   | 2,750,305  |       | 2,619,021  |   | 2,425,898  |       |
| Occupancy and equipment expense                                          |   | 963,814    |       | 886,365    |   | 760,911    |       |
| Federal deposit insurance premiums                                       |   | 14,168     |       | 27,420     |   | 41,674     |       |
| Advertising                                                              |   | 299,693    |       | 221,767    |   | 204,895    |       |
| Communications                                                           |   | 191,048    |       | 119,299    |   | 116,009    |       |
| Franchise and deposit taxes                                              |   | 185,221    |       | 242,173    |   | 167,076    |       |
| Directors fees and benefits                                              |   | 96,068     |       | 114,050    |   | 110,450    |       |
| Amortization of goodwill                                                 |   | —     |       | 254,225    |   | 238,226    |       |
| Stationary and supplies                                                  |   | 188,515    |       | 174,427    |   | 167,648    |       |
| Other operating expenses                                                 |   | 1,037,827  |       | 1,135,986  |   | 1,126,321  |       |
| **Total noninterest expense**                                            |   | 5,726,659  |       | 5,794,733  |   | 5,359,108  |       |
|                                                                     |   |       |       |       |   |       |       |
| **INCOME BEFORE INCOME TAXES**                                           |   | 2,973,420  |       | 1,378,235  |   | 1,362,022  |       |
|                                                                     |   |       |       |       |   |       |       |
| Income tax expense                                                       |   | 773,533    |       | 329,990    |   | 292,340    |       |
|                                                                     |   |       |       |       |   |       |       |
| **NET INCOME**                                                           |   | $          | 2,199,887  |       | $      | 1,048,245  |       | $ | 1,069,682 |   |
|                                                                     |   |       |       |       |   |       |       |
| Basic earnings per share                                                 |   | $          | 2.08       |       | $      | .97        |       | $ | .94 |   |
| Diluted earnings per share                                               |   | $          | 1.94       |       | $      | .96        |       | $ | .92 |   |

 

**NOTE**: The accompanying notes are an integral part of these consolidatedfinancial statements.

 

17

----

 

**CLASSIC BANCSHARES, INC. AND SUBSIDIARY**

**CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME**

**YEARS ENDED MARCH 31, 2002, 2001 AND 2000**

 
|                                                                                                                                                               |   | **2002** |      | **2001**  |   | **2000**   |   |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|----------|-----------|-----------|--------|------------|--------|
|                                                                                                                                                               |   |     |      |      |   |       |   |
| **Net Income**                                                                                                                                                     |   | $        | 2,199,887 |      | $      | 1,048,245  |   | $ | 1,069,682 |   |
|                                                                                                                                                               |   |     |      |      |   |       |   |
| **Other comprehensive income, net of tax:**                                                                                                                        |   |     |      |      |   |       |   |
| Unrealized holding gains (losses) on securities during the period, net  of tax                                                                                     |   | (150,193 | )         | 1,129,254 |   | (1,365,151 | )      |
|                                                                                                                                                               |   |     |      |      |   |       |   |
| Reclassification adjustments for realized gains (losses) included in  earnings, net of tax of $2,385, $10,717, and ($850), for 2002, 2001, and  2000, respectively |   | (4,630   | )         | (20,803   | )      | 1,650      |   |
|                                                                                                                                                               |   |     |      |      |   |       |   |
| **Comprehensive income (loss)**                                                                                                                                    |   | $        | 2,045,064 |      | $      | 2,156,696  |   | $ | (293,819 | ) |
|                                                                                                                                                               |   |     |      |      |   |       |   |
| **Accumulated other comprehensive income (loss)**                                                                                                                  |   | $        | (325,896  | )         | $      | (171,073   | )      | $ | (1,279,524 | ) |

 

**NOTE****:**The accompanying notes are an integral part ofthese consolidated financial statements.

 

18

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**CLASSIC BANCSHARES, INC. AND SUBSIDIARY**

 

**CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’EQUITY**

 

**FOR THE YEARS ENDED MARCH 31, 2002, 2001 AND 2000**

 

 
|                                                                                                                    |   | **COMMON  STOCK** |   | **ADDITIONAL  PAID-IN  CAPITAL** |   | **RETAINED  EARNINGS** |   | **UNEARNED  ESOP  SHARES** |      | **UNEARNED  RRP  SHARES** |   | **TREASURY  STOCK** |   | **SET UNREALISED  GAIN (LOSS) ON  SECURITIES  AVAILABLE  FOR SALE** |     | **TOTAL**  |   |
|-------------------------------------------------------------------------------------------------------------------------|--------|-------------------|--------|----------------------------------|--------|------------------------|--------|----------------------------|-----------|---------------------------|--------|---------------------|--------|---------------------------------------------------------------------|----------|------------|--------|
|                                                                                                                    |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     |       |   |
| **Balances, March 31, 1999**, as previously  reported                                                                   |   | $                 | 13,225 |                             | $      | 12,806,544             |   | $                          | 9,362,668 |                      | $      | (785,150            | )      | $                                                                   | (294,332 | )          | $      | (897,952 | ) | $ | 83,977 |   | $ | 20,288,980 |   |
| To reclassify to paid-in-capital, the retained earnings of subsidiary  (Classic Bank) as of the date of its acquisition |   |              |   | 7,486,987                        |   | (7,486,987             | )      |                       |      |                      |   |                |   |                                                                |     |       |   |
|                                                                                                                    |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     |       |   |
| **Balances, March 31, 1999,**as reclassified                                                                            |   | 13,225            |   | 20,293,531                       |   | 1,875,681              |   | (785,150                   | )         | (294,332                  | )      | (897,952            | )      | 83,977                                                              |     | 20,288,980 |   |
|                                                                                                                    |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     |       |   |
| Net income for the year ended March 31, 2000                                                                            |   |              |   |                             |   | 1,069,682              |   |                       |      |                      |   |                |   |                                                                |     | 1,069,682  |   |
| Cash dividends paid ($.32 per share)                                                                                    |   |              |   |                             |   | (369,632               | )      |                       |      |                      |   |                |   |                                                                |     | (369,632   | )      |
| ESOP shares earned                                                                                                      |   |              |   | 14,468                           |   |                   |   | 48,550                     |      |                      |   |                |   |                                                                |     | 63,018     |   |
| RRP shares earned                                                                                                       |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     | 116,255    |   |
| RRP shares granted                                                                                                      |   |              |   | 365                              |   |                   |   |                       |      | 116,255                   |   | 2,360               |   |                                                                |     | —     |   |
| RRP shares forfeited                                                                                                    |   |              |   | (264                             | )      |                   |   |                       |      | (2,725                    | )      | (6,392              | )      |                                                                |     | —     |   |
| Tax benefit from RRP                                                                                                    |   |              |   | 8,631                            |   |                   |   |                       |      | 6,656                     |   |                |   |                                                                |     | 8,631      |   |
| Purchased 66,106 treasury shares                                                                                        |   |              |   |                             |   |                   |   |                       |      |                      |   | (814,787            | )      |                                                                |     | (814,787   | )      |
| Change in unrealized gain (loss) on available for sale securities net  of applicable deferred income taxes of $702,410  |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   | (1,363,501                                                          | )        | (1,363,501 | )      |
|                                                                                                                    |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     |       |   |
| **Balances, March 31, 2000**                                                                                            |   | 13,225            |   | 20,316,731                       |   | 2,575,731              |   | (736,600                   | )         | (174,146                  | )      | (1,716,771          | )      | (1,279,524                                                          | )        | 18,998,646 |   |
|                                                                                                                    |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     |       |   |
| Net income for the year ended March 31, 2001                                                                            |   |              |   |                             |   | 1,048,245              |   |                       |      |                      |   |                |   |                                                                |     | 1,048,245  |   |
| Cash dividends paid ($.32 per share)                                                                                    |   |              |   |                             |   | (348,260               | )      |                       |      |                      |   |                |   |                                                                |     | (348,260   | )      |
| ESOP shares earned                                                                                                      |   |              |   | 4,797                            |   |                   |   | 47,280                     |      |                      |   |                |   |                                                                |     | 52,077     |   |
| RRP shares earned                                                                                                       |   |              |   |                             |   |                   |   |                       |      | 117,167                   |   |                |   |                                                                |     | 117,167    |   |
| RRP shares granted                                                                                                      |   |              |   | (450                             | )      |                   |   |                       |      | (3,075                    | )      | 3,525               |   |                                                                |     | —     |   |
| RRP shares forfeited                                                                                                    |   |              |   | (210                             | )      |                   |   |                       |      | 1,620                     |   | (1,410              | )      |                                                                |     | —     |   |
| Tax expense from RRP                                                                                                    |   |              |   | (3,483                           | )      |                   |   |                       |      |                      |   |                |   |                                                                |     | (3,483     | )      |
| Purchased 47,800 treasury shares                                                                                        |   |              |   |                             |   |                   |   |                       |      |                      |   | (512,536            | )      |                                                                |     | (512,536   | )      |
| Change in unrealized gain (loss) on available for sale securities net  of applicable deferred income taxes of $571,019  |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   | 1,108,451                                                           |     | 1,108,451  |   |
|                                                                                                                    |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     |       |   |
| **Balances, March 31, 2001**                                                                                            |   | 13,225            |   | 20,317,385                       |   | 3,275,716              |   | (689,320                   | )         | (58,434                   | )      | (2,227,192          | )      | (171,073                                                            | )        | 20,460,307 |   |
|                                                                                                                    |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     |       |   |
| Net income for the year ended March 31, 2002                                                                            |   |              |   |                             |   | 2,199,887              |   |                       |      |                      |   |                |   |                                                                |     | 2,199,887  |   |
| Cash dividends paid ($.32 per share)                                                                                    |   |              |   |                             |   | (339,489               | )      |                       |      |                      |   |                |   |                                                                |     | (339,489   | )      |
| ESOP shares earned                                                                                                      |   |              |   | 22,519                           |   |                   |   | 46,010                     |      |                      |   |                |   |                                                                |     | 68,529     |   |
| RRP shares earned                                                                                                       |   |              |   |                             |   |                   |   |                       |      | 43,810                    |   |                |   |                                                                |     | 43,810     |   |
| RRP shares granted                                                                                                      |   |              |   | 1,230                            |   |                   |   |                       |      | (4,188                    | )      | 2,938               |   |                                                                |     | —     |   |
| Tax (expense) benefit from RRP                                                                                          |   |              |   | 32,402                           |   |                   |   |                       |      |                      |   |                |   |                                                                |     | 32,402     |   |
| Purchased 24,000 treasury shares                                                                                        |   |              |   |                             |   |                   |   |                       |      |                      |   | (329,668            | )      |                                                                |     | (329,668   | )      |
| Change in unrealized gain (loss) on available for sale securities net  of applicable deferred income taxes of $79,757   |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   | (154,823                                                            | )        | (154,823   | )      |
|                                                                                                                    |   |              |   |                             |   |                   |   |                       |      |                      |   |                |   |                                                                |     |       |   |
| **Balances, March 31, 2002**                                                                                            |   | $                 | 13,225 |                             | $      | 20,373,556             |   | $                          | 5,136,114 |                      | $      | (643,310            | )      | $                                                                   | (18,812  | )          | $      | (2,553,922 | ) | $ | (325,896 | ) | $ | 21,980,955 |   |
|                                                                                                                         |        |                   |        |                                  |        |                        |        |                            |           |                           |        |                     |        |                                                                     |          |            |        |  |  |  |  |  |  |  |  |  |  |

 

**NOTE****:**Theaccompanying notes are an integral part of these consolidated financialstatements.

 

19

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**CLASSIC BANCSHARES, INC. AND SUBSIDIARY**

**CONSOLIDATED STATEMENTS OF CASH FLOWS**

**FOR THE YEARS ENDED MARCH 31, 2002, 2001 AND 2000**

 
|                                                                                      |   | **2002**    |      | **2001**    |   | **2000**    |   |
|-------------------------------------------------------------------------------------------|--------|-------------|-----------|-------------|--------|-------------|--------|
| **OPERATING ACTIVITIES**                                                                  |   |        |      |        |   |        |   |
| Net income                                                                                |   | $           | 2,199,887 |        | $      | 1,048,245   |   | $ | 1,069,682 |   |
| Adjustments to reconcile net income to net cash  provided by operating activities:        |   |        |      |        |   |        |   |
| Depreciation and amortization                                                             |   | 459,900     |      | 511,561     |   | 522,654     |   |
| Provision for loan losses                                                                 |   | 363,000     |      | 261,000     |   | 222,500     |   |
| Loss (gain) on sale of investment securities                                              |   | (7,015      | )         | (31,520     | )      | 2,500       |   |
| Net amortization (accretion) of mortgage-backed and  investment securities                |   | 53,873      |      | 34,951      |   | 76,345      |   |
| Federal Home Loan Bank stock dividend                                                     |   | (86,300     | )         | (95,300     | )      | (77,900     | )      |
| Deferred income tax expense (benefit)                                                     |   | 19,812      |      | 6,221       |   | 42,012      |   |
| Loss (gain) on sale of foreclosed real estate                                             |   | (2,934      | )         | (1,477      | )      | (2,600      | )      |
| Loss (gain) on disposal of equipment and software                                         |   | (9,513      | )         | 30,308      |   | (26,821     | )      |
| ESOP shares earned                                                                        |   | 68,529      |      | 52,900      |   | 63,018      |   |
| RRP shares earned                                                                         |   | 43,810      |      | 117,167     |   | 116,255     |   |
| Amortization of goodwill                                                                  |   | —      |      | 254,225     |   | 238,226     |   |
| Decrease (increase) in:                                                                   |   |        |      |        |   |        |   |
| Accrued interest receivable                                                               |   | 29,098      |      | (48,230     | )      | (86,334     | )      |
| Other assets                                                                              |   | (31,488     | )         | 276,904     |   | (252,238    | )      |
| Increase (decrease) in:                                                                   |   |        |      |        |   |        |   |
| Accrued interest payable                                                                  |   | (219,077    | )         | 41,888      |   | 51,249      |   |
| Accrued income taxes                                                                      |   | (57,919     | )         | 15,500      |   | (2,715      | )      |
| Other liabilities                                                                         |   | (234,932    | )         | 308,626     |   | (226,429    | )      |
|                                                                                      |   |        |      |        |   |        |   |
| **Net Cash Provided by Operating  Activities**                                            |   | 2,588,731   |      | 2,782,969   |   | 1,729,404   |   |
|                                                                                      |   |        |      |        |   |        |   |
| **INVESTING ACTIVITIES**                                                                  |   |        |      |        |   |        |   |
| Investment securities:                                                                    |   |        |      |        |   |        |   |
| Available for sale:                                                                       |   |        |      |        |   |        |   |
| Proceeds from sales, maturities and calls                                                 |   | 1,292,300   |      | 6,798,717   |   | 527,500     |   |
| Purchased                                                                                 |   | (2,516,975  | )         | (6,251,155  | )      | —      |   |
| Mortgage-backed securities:                                                               |   |        |      |        |   |        |   |
| Available for sale:                                                                       |   |        |      |        |   |        |   |
| Principal payments                                                                        |   | 1,306,397   |      | 548,677     |   | 1,175,825   |   |
| Purchased                                                                                 |   | (6,991,295  | )         | (756,694    | )      | —      |   |
| Purchased Federal Home Loan Bank stock                                                    |   | —      |      | (142,600    | )      | —      |   |
| Purchased Federal Reserve Bank stock                                                      |   | —      |      | (10,550     | )      | —      |   |
| Redemption of Federal Reserve Bank stock                                                  |   | —      |      | 316,800     |   | 45,000      |   |
| Loan originations and principal payments, net                                             |   | (22,104,949 | )         | (11,349,482 | )      | (22,063,403 | )      |
| Certificates of deposit with other banks:                                                 |   |        |      |        |   |        |   |
| Proceeds from maturities                                                                  |   | 424,150     |      | —      |   | —      |   |
| Proceeds from sale of foreclosed real estate                                              |   | (190,596    | )         | 80,978      |   | 55,500      |   |
| Purchased premises and equipment                                                          |   |        |      | (1,035,170  | )      | (306,326    | )      |
| Proceeds from sale of equipment and fixtures                                              |   | 24,885      |      | 1,622       |   | 241,700     |   |
| Purchased software                                                                        |   | (7,763      | )         | (16,218     | )      | (47,415     | )      |
| Cash paid-in excess of cash and cash equivalents  acquired in purchase of Bank subsidiary |   | —      |      | —      |   | (1,574,538  | )      |
|                                                                                      |   |        |      |        |   |        |   |
| **Net Cash Used by Investing  Activities**                                                |   | (28,763,846 | )         | (11,815,075 | )      | (21,946,157 | )      |
|                                                                                           |        |             |           |             |        |             |        |  |  |  |

 

20

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|                                                                                               |   | **2002**     |       | **2001**     |   | **2000**    |   |
|----------------------------------------------------------------------------------------------------|--------|--------------|------------|--------------|--------|-------------|--------|
|                                                                                               |   |         |       |         |   |        |   |
| **FINANCING ACTIVITIES**                                                                           |   |         |       |         |   |        |   |
| Net change in deposits                                                                             |   | $            | 13,444,521 |         | $      | 10,533,119  |   | $ | 5,121,163 |   |
| Federal Home Loan Bank borrowings                                                                  |   | 137,955,000  |       | 130,326,000  |   | 102,765,000 |   |
| Repayment of Federal Home Loan Bank borrowings                                                     |   | (127,189,433 | )          | (130,765,790 | )      | (86,077,359 | )      |
| Increase (decrease) in federal funds purchased and  securities sold under agreements to repurchase |   | 2,216,352    |       | 491,875      |   | (129,440    | )      |
| Increase (decrease) in short term borrowings                                                       |   | 211,487      |       | (339,432     | )      | 489,173     |   |
| Dividends paid                                                                                     |   | (339,489     | )          | (348,260     | )      | (369,632    | )      |
| Treasury shares purchased                                                                          |   | (329,668     | )          | (512,536     | )      | (814,787    | )      |
|                                                                                               |   |         |       |         |   |        |   |
| **Net Cash Provided by Financing  Activities**                                                     |   | 25,968,770   |       | 9,384,976    |   | 20,984,118  |   |
|                                                                                               |   |         |       |         |   |        |   |
| **Net Change in Cash and Cash  Equivalents**                                                       |   | (206,345     | )          | 352,870      |   | 767,365     |   |
|                                                                                               |   |         |       |         |   |        |   |
| Cash and Cash Equivalents, Beginning of Year                                                       |   | 5,606,391    |       | 5,253,521    |   | 4,486,156   |   |
|                                                                                               |   |         |       |         |   |        |   |
| **Cash and Cash Equivalents, End of  Year**                                                        |   | $            | 5,400,046  |         | $      | 5,606,391   |   | $ | 5,253,521 |   |
|                                                                                               |   |         |       |         |   |        |   |
| **Additional Cash Flows and  Supplementary Information**                                           |   |         |       |         |   |        |   |
| Cash paid during the year for:                                                                     |   |         |       |         |   |        |   |
| Interest on deposits and borrowings                                                                |   | $            | 1,828,913  |         | $      | 2,430,009   |   | $ | 2,019,736 |   |
| Income taxes                                                                                       |   | $            | 828,481    |         | $      | 310,982     |   | $ | 254,899 |   |
| Assets acquired in settlement of loans                                                             |   | $            | 288,093    |         | $      | 35,000      |   | $ | 127,556 |   |
| Net unrealized gain (loss) on securities  available-for-sale                                       |   | $            | (154,823   | )            | $      | 1,108,451   |   | $ | (1,363,501 | ) |
| Liabilities assumed and cash paid in acquisition of  Citizens Bank                                 |   | $            | —     |         | $      | —      |   | $ | 17,017,497 |   |
| Fair value of assets received                                                                      |   | $            | —     |         | $      | —      |   | $ | 13,749,846 |   |
| Amount assigned to goodwill                                                                        |   | $            | —     |         | $      | —      |   | $ | 3,267,651 |   |

 

**NOTE****:**   The accompanying notes are an integral partof these consolidated financial statements.

 

21

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**NOTES TOCONSOLIDATED FINANCIAL STATEMENTS**

 

**NOTE 1****:**                **SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES**

 

**Organization**

 

Classic Bancshares, Inc. (the“Corporation”) was organized as a savings and loan holding company primarilyfor the purpose of acquiring and owning all of the outstanding common stock ofClassic Bank (formerly Ashland Federal Savings Bank).  Effective September 30, 1996, Classic Bancshares, Inc. became abank holding company upon its acquisition of 100% of the outstanding commonstock of First National Bank of Paintsville (First National).

 

As more fully described inNote 3, on May 14, 1999, Classic Bank acquired 100% of the outstanding commonstock of Citizens Bank, Grayson, Kentucky. Citizens Bank was dissolved upon consummation of the merger and itassets and liabilities merged into Classic Bank with the former Citizens Bankcontinuing in operations as a branch of Classic Bank.

 

Effective June 30, 2000,Classic Bank converted from a federal savings bank to a Kentucky charteredstate commercial bank.

 

Effective March 16, 2001,First National Bank was merged into Classic Bank in a consolidation ofsubsidiaries accounted for in a manner similar to a pooling-of-interest.  The former First National Bank continues inoperation as a branch of Classic Bank. Restructuring charges related to the merger and charged to operationsduring the fiscal year 2001 totaled $112,834 ($74,470 net of tax) consisting ofemployee related charges of $19,643 and other charges of $93,191.

 

Classic Bank (the “Bank”)conducts a general commercial banking business in eastern Kentucky whichconsists of attracting deposits from the general public and using those funds,together with other funds, to originate residential, consumer andnonresidential loans, primarily in its market area.

 

The Bank’s revenues arederived principally from interest earned on loans and to a lesser extent, frominterest earned on investments and service fees on loans and depositaccounts.  The operations of the Bank isinfluenced significantly by general economic conditions and by policies offinancial institutions regulatory agencies. The Bank’s cost of funds are influenced by interest rates on competinginvestments and general market rates. Lending activities are affected by the demand for financing real estateand other types of loans, which in turn is affected by the interest rates atwhich such financing may be offered.

 

The Bank’s net interestincome is dependent primarily upon the difference or spread between the averageyield earned on loans and investments and the average rate paid on deposits, aswell as the relative amounts of such assets and liabilities.  The Bank, like most

 

22

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financial institutions, issubject to interest rate risk to the degree that its interest-bearingliabilities mature or reprice at different times, or on a different basis, thanits interest earning assets.

 

The consolidated financialinformation presented herein has been prepared in accordance with accountingprinciples generally accepted in the United States of America and generalaccounting practices within the financial services industry.  In preparing consolidated financialstatements in conformity with generally accepted accounting principles,management is required to make estimates and assumptions that affect thereported amounts of assets and liabilities as of the date of the balance sheetand reported amounts of revenues and expenses during the reporting period.  Actual results could differ from thoseestimates.  Material estimates that areparticulary susceptible to significant change in the near term relate to thedetermination of the allowance for loan losses, the valuation of foreclosedreal estate and deferred tax assets.

 

The following is a summary ofthe Corporation’s significant accounting policies which have been consistentlyapplied in the preparation of the accompanying consolidated financialstatements.

 

**A**.                                    **Principles ofConsolidation**

 

The consolidated financialstatements include the accounts of the Corporation and the Banks. Allsignificant intercompany balances and transactions have been eliminated.

 

**B**.                                    **Investment Securitiesand Mortgage-Backed and Related Securities**

 

The Corporation accounts forinvestment and mortgage-backed securities in accordance with Statement ofFinancial Accounting Standards (“SFAS”) No. 115 “Accounting for CertainInvestments in Debt and Equity Securities.” SFAS No. 115 requires that investment securities be categorized asheld-to-maturity, trading, or available-for-sale.  Securities classified as held-to-maturity are carried atamortized cost only if the Corporation has the positive intent and ability tohold these securities to maturity. Trading securities and securities available-for-sale are carried at fairvalue with resulting unrealized gains or losses recorded to operations orstockholders’ equity, respectively. Investment and mortgage-backed securities are classified according tomanagement’s intent upon acquisition. The Corporation’s stockholders’ equity reflected net unrealized lossesof $325,896 and $171,073 at March 31, 2002, and 2001, respectively.  Realized gains and losses on sales ofsecurities are recognized using the specific identification method.

 

23

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**C**.            **Loans Receivable and Allowance for Loan Losses**

 

Loans receivable, net arestated at unpaid principal balances, less the allowance for loan losses, plusor minus net deferred loan origination costs or fees, and the undisbursedportion of loans in process.

 

Interest is accrued as earnedunless the collectibility of the loan is in doubt.  Uncollectible interest on loans that are contractually past dueis charged off, or an allowance is established based on management’s periodicevaluation.  The allowance isestablished by a charge to interest income equal to all interest previouslyaccrued, and income is subsequently recognized only to the extent that cashpayments are received until, in management’s judgment, the borrower’s abilityto make periodic interest and principal payments has returned to normal, inwhich case the loan is returned to accrual status.

 

It is the Corporation’spolicy to establish an allowance for loan losses for the purpose of absorbinglosses associated with the loan portfolio. All actual loan losses are charged to the related allowance and allrecoveries are credited to it.  Additionsto the allowance for loan losses are provided by charges to operations based onvarious factors, including the market value of the underlying collateral,growth and composition of the loan portfolio, the relationship of the allowancefor loan losses to outstanding loans, historical loss experience, delinquencytrends and prevailing and projected economic conditions.  Management evaluates the carrying value ofloans periodically in order to evaluate the adequacy of the allowance.  While management uses the best informationavailable to make these evaluations, future adjustments to the allowance may benecessary if the assumptions used in making the evaluations require materialrevision.

 

The Corporation accounts forimpaired loans in accordance with SFAS No. 114, “Accounting by Creditors forImpairment of a Loan”.  SFAS No. 114requires that impaired loans be measured based upon the present value ofexpected future cash flows discounted at the loan’s effective interest rate or,as an alternative, at the loans observable market price or fair value of thecollateral.

 

Under SFAS No. 114, a loan isdefined as impaired when, based on current information and events, it isprobable that a creditor will be unable to collect all amounts due according tothe contractual terms of the loan agreement. In applying the provisions of SFAS No. 114, the Corporation considersits investment in one-to-four-family residential loans and consumer installmentloans to be homogeneous and therefore excluded from separate identification forevaluation of impairment.  With respectto the Corporation’s investment in multi-family and nonresidential loans, andits evaluation of any impairment thereon, such loans are collateral dependentand as a result are carried as a 

 

24

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practical expedient at thelower of cost or fair value.

 

At March 31, 2002 and 2001,the Corporation had no loans that would be defined as impaired under SFAS No.114.

 

**D**.            **Loan Origination Fees**

 

Loan fees are accounted forin accordance with Statement of Financial Accounting Standards (“SFAS”) No.91.  SFAS No. 91 requires loanorigination fees and certain related direct loan origination costs be offsetand the resulting net amount be deferred and amortized over the contractuallife of the related loans as an adjustment to the yield on such loans, usingthe level yield method.

 

**E**.             **Foreclosed Real Estate**

 

Real estate propertiesacquired through, or in lieu of, loan foreclosure are to be sold and areinitially recorded at the lower of the loan’s unpaid principal balance (cost)or fair value at the date of foreclosure less estimated selling expenses.

 

Real estate loss provisionsare recorded if the fair value declines below the fair value initiallydetermined at the acquisition date.  Revenue and expenses from operations and changes in the valuationallowance are included in loss on foreclosed real estate.  The historical average holding period forsuch properties is six months.

 

**F**.             **Premises and Equipment**

 

Land is carried at cost.  Bank premises, furniture and equipment, andleasehold improvements are carried at cost, less accumulated depreciation andamortization computed principally by the straight-line method over estimateduseful lives of the assets, estimated to be ten to fifty years for buildingsand five to ten years for furniture, fixtures and equipment.  An accelerated method of computingdepreciation is primarily used for tax reporting purposes.

 

**G**.            **Goodwill and Other Intangibles**

 

Prior to April 1, 2001,goodwill resulting from the acquisition of First National and Citizens Banktotaling approximately $6.4 million was being amortized over a twenty-five yearperiod using the straight-line method.

In June 2001, the FinancialAccounting Standards Board issued SFAS No. 142 “Goodwill and Intangible Assets,”which prescribes accounting for all purchased goodwill and intangibleassets.  Pursuant to SFAS No. 142,acquired goodwill is not amortized, but is tested for impairment at thereporting unit level on an annual basis and between annual 

 

25

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tests whenever an impairmentindicator arises.  Impairment is thecondition that exists when the carrying amount of goodwill exceeds its impliedfair value.  The annual goodwill impairmenttest may be performed any time during the fiscal year provided the test isperformed at the same time every year.

 

The corporation adopted SFASNo. 142 effective April 1, 2001 as permitted, and the transitional goodwillimpairment tests of the Corporation’s Banking segment was performed in thesecond quarter of the Company’s 2002 fiscal year end.  As a result of the adoption of this Statement, the Corporationwill discontinue the amortization of goodwill and will record impairment lossesonly when required by the application of SFAS No. 142.  The impact of the adoption of Statement No.142 on net income for the Corporation is as follows:

 
|                             |   | **FOR THE YEARS ENDED  MARCH 31,**                     | ** ** |
|----------------------------------|--------|--------------------------------------------------------|------------|
|                             |   | **2002**                                               |       | **2001** |   | **2000** |   |
|                             |   | **(In thousands, except for per share amounts) ** | ** ** |
|                             |   |                                                   |       |   |   |   |   |
| Reported  net income             |   | $                                                      | 2,200      |   | $ | 1,048 |   | $ | 1,070 |   |
| Add  back: Goodwill amortization |   | 0                                                      |       | 254 |   | 238 |   |
| Adjusted  net income             |   | $                                                      | 2,200      |   | $ | 1,302 |   | $ | 1,308 |   |
|                             |   |                                                   |       |   |   |   |   |
| **Basic Earnings Per Share:**    |   |                                                   |       |   |   |   |   |
| Reported  net income             |   | $                                                      | 2.08       |   | $ | 0.97 |   | $ | 0.94 |   |
| Goodwill  amortization           |   | 0                                                      |       | .24 |   | .21 |   |
| Adjusted  net income             |   | $                                                      | 2.08       |   | $ | 1.21 |   | $ | 1.15 |   |
|                             |   |                                                   |       |   |   |   |   |
| **Diluted Earnings Per Share:**  |   |                                                   |       |   |   |   |   |
| Reported  net income             |   | $                                                      | 1.94       |   | $ | 0.96 |   | $ | 0.92 |   |
| Goodwill  amortization           |   | 0                                                      |       | .23 |   | .21 |   |
| Adjusted  net income             |   | $                                                      | 1.94       |   | $ | 1.19 |   | $ | 1.13 |   |

 

The changes in the carryingamount of goodwill for the fiscal year ended March 31, 2002 were as follows:

 
|                                                        |   | **BANKING SEGMENT** |   |
|-------------------------------------------------------------|--------|---------------------|--------|
|                                                        |   | **(In thousands)**  |   |
| Balance,  April 1, 2001                                     |   | $                   | 5,555  |   |
| Goodwill  acquired                                          |   | 0                   |   |
| Impairment  losses                                          |   | 0                   |   |
| Goodwill  written off related to disposal of reporting unit |   | 0                   |   |
| Balance,  March 31, 2002                                    |   | $                   | 5,555  |   |

 

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The fair value of thereporting unit was estimated using a multiple of earnings as determined bycurrent industry information.  Thetesting indicated that the fair value of the reporting unit exceeded thecarrying amount of the net assets (including goodwill).

 

**H**.            **Federal Income Taxes**

 

The Corporation accounts forfederal income taxes in accordance with SFAS No. 109, “Accounting for IncomeTaxes.”  Pursuant to the provisions ofSFAS No. 109, a deferred tax liability or deferred tax asset is computed byapplying the current statutory tax rates to net taxable or deductible temporarydifferences between the tax basis of an asset or liability and its reportedamount in the financial statements that will result in taxable or deductibleamounts in future periods.  Deferred taxassets are recorded only to the extent that the amount of net deductibletemporary differences or carryforward attributes may be utilized againstcurrent period earnings, carried back against prior years’ earnings, offsetagainst taxable temporary differences reversing in future periods, or utilizedto the extent of management’s estimate of future taxable income.  A valuation allowance is provided fordeferred tax assets to the extent that the value of net deductible temporarydifferences and carryforward attributes exceeds management’s estimates of taxespayable on future taxable income. Deferred tax liabilities are provided on the total amount of nettemporary differences taxable in the future.

 

The Corporation’s principaltemporary differences between pretax financial income and taxable income resultprimarily from the different methods of accounting for deferred loanorigination fees, Federal Home Loan Bank stock dividends, the general loan lossallowance, and certain components of retirement expense.  A temporary difference is also recognizedfor depreciation expense computed using accelerated methods for federal incometax purposes.

 

**I**.                                         **Earnings Per Share**

 

Basic earnings per share iscalculated based on 1,056,882, 1,080,469, and

 

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1,132,025, weighted averagenumber of common shares outstanding for the years ended March 31, 2002, 2001,and 2000, respectively.

 

Diluted earnings per share iscomputed taking into consideration common shares outstanding and dilutivepotential common shares to be issued under the Corporation’s stock option andrecognition and retention plan. Weighted average common shares deemed outstanding for purpose ofcomputing diluted earnings per share totaled 1,132,974, 1,087,788, and1,157,567, for the years ended March 31, 2002, 2001, and 2000,respectively.  There were 76,092, 1,915,and 17,830, incremental shares related to the assumed exercise of stockoptions, and 0, 5,404, and 7,712, incremental shares related to the assumedissuance of recognition and retention plan shares for the years ended March 31,2002, 2001, and 2000, respectively.

 

Options to purchase 400 and75,476 shares of common stock with a weighted-average exercise price of $16.75and $13.02 per share were outstanding at March 31, 2002 and 2001, respectively,but were not included in the computation of diluted earnings per share forthose years because the exercise price was greater than the average marketprice of the common shares.  Theseoptions expire between February 1, 2007 and February 15, 2012.

 

**J.**                                      **Impact of RecentAccounting Pronouncements**

 

In September 2000, theFinancial Accounting Standards Board issued Statement of Financial AccountingStandards (“SFAS”) No. 140, “Accounting for Transfers and Servicing ofFinancial Assets and Extinguishments of Liabilities,” which revises thestandards for accounting for securitizations and other transfers of financialassets and collateral and requires certain disclosures, but carries over mostof the provisions of SFAS No. 125 without reconsideration.  SFAS No. 140 is effective for transfers andservicing of financial assets and extinguishments of liabilities occurringafter March 31, 2001, and is effective for recognition and reclassification ofcollateral and for disclosures relating to securitization transactions andcollateral for fiscal years ending after December 15, 2000.  The adoption of SFAS No. 140 did not have amaterial effect on the Corporation’s financial position or results ofoperations.

 

In June 2001, the FinancialAccounting Standards Board (“FASB”) issued Statement of Financial AccountingStandards (“SFAS”) No. 141 “Business Combinations,” which requires that allbusiness combinations initiated after June 30, 2001 be accounted for using thepurchase method.  Thepooling-of-interests method of accounting is prohibited except for combinationsinitiated before June 30, 2001.

 

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The remaining provisions ofSFAS No. 141 relating to business combinations accounted for by the purchasemethod, including identification of intangible assets, accounting for negativegoodwill, financial statement presentation and disclosure, are effective forcombinations completed after June 30, 2001. Management adopted SFAS No. 141 effective July 1, 2001, as required,without material effect on the Corporation’s financial position or results ofoperations.

 

**K.****                                   ****Financial Instruments**

 

*Otheroff-balance-sheet instruments*.  In the ordinary course ofbusiness the Bank has entered into off-balance-sheet financial instrumentsconsisting of commitments to extend credit, commitments under credit-cardarrangements, and standby letters of credit. Such financial instruments are recorded in the financial statements whenthey are funded or related fees are incurred or received.

 

**L.****                                    ****Fair Values ofFinancial Instruments**

 

SFAS No. 107, “Disclosuresabout Fair Value of Financial Instruments”, requires that the Corporationdisclose estimated fair values for its financial instruments.  In accordance with SFAS No. 107, fair valuesare based on estimates using present value and other valuation techniques ininstances where quoted prices are not available.  These techniques are significantly affected by the assumptionsused, including discount rates and estimates of future cash flows.  As such, the derived fair value estimatescannot be substantiated by comparison to independent markets and, further, maynot be realizable in an immediate settlement of the instruments.  SFAS No. 107 also excludes certain itemsfrom its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent,and should not be construed to represent, the underlying value of theCorporation.

 

The following methods andassumptions were used by the Corporation in estimating fair values of financialinstruments.

 

*Cash andcash equivalents* - The carrying amounts of cash and short-term instrumentsapproximate their fair value.

 

*Securitiesavailable for sale* - Fair values for investment securities, excluding restricted equitysecurities, are based on quoted market prices. The carrying values of restricted equity securities (Federal Home LoanBank stock) represents redemption value and approximates fair value.

 

29

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*Mortgage-backedand related securities available for sale* - Fair values for mortgage-backed andrelated securities are based on quoted market prices or dealer quotes.

 

*Loans* - The fair values for loans areestimated using discounted cash flow analysis, based on interest ratescurrently being offered for loans with similar terms to borrowers of similarcredit quality.  Loan fair valueestimates include judgments regarding future expected loss experience and riskcharacteristics.  Fair values forimpaired loans are estimated using discounted cash flow analysis or underlyingcollateral values, where applicable.

 

*Accruedinterest receivable and payable* - The carrying amounts of accrued interest approximate their fairvalues.

 

*Depositliabilities*- The fair values disclosed for demand deposits are, by definition, equal tothe amount payable on demand at the reporting date (that is, their carryingamounts).  The carrying amount ofvariable-rate, fixed-term money market accounts and certificates of depositapproximate their fair values at the reporting date.  Fair values for fixed-rate certificates of deposit are estimatedusing a discounted cash flow calculation that applies interest rates currentlybeing offered on certificates to a schedule of aggregated expected monthlymaturities on time deposits.

 

*FederalHome Loan Bank advances* - The fair value of FHLB advances was estimated by discounting theexpected future cash flows using current interest rates for advances withsimilar terms and remaining maturities.

 

*Short-termborrowings*- The carrying amounts of borrowings under repurchase agreements and othershort-term borrowings approximates their fair value.

 

*Off-balance-sheetinstruments*- Fair values for off-balance sheet lending commitments are based on feescurrently charged to enter into similar agreements, taking into account theremaining terms of the agreements and the counterparties credit standing.  The fair value of such off-balance-sheetinstruments are immaterial and, therefore, not disclosed.

 

Based on the methods andassumptions set forth above, the estimated fair value of the Corporation’s financialinstruments as of March 31, 2002 and 2001 are as follows:

 

 

30

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|                                                                        |   | **2002**           |   | **2001**       |   |
|-----------------------------------------------------------------------------|--------|--------------------|--------|----------------|--------|
|                                                                        |   | **CARRYING VALUE** |   | **FAIR VALUE** |   | **CARRYING VALUE** |   | **FAIR VALUE** |   |
|                                                                        |   | **(In thousands)** |   |
| **Financial  Assets:**                                                      |   |               |   |           |   |   |   |   |   |
| Cash and due from  banks                                                    |   | $                  | 5,400  |           | $      | 5,400 |   | $ | 5,556 |   | $ | 5,556 |   |
| Federal funds sold  and securities purchased under agreements to resell     |   | —             |   | —         |   | 50 |   | 50 |   |
| Securities  available-for-sale                                              |   | 25,803             |   | 25,803         |   | 24,794 |   | 24,794 |   |
| Mortgage-backed  securities available-for-sale                              |   | 9,064              |   | 9,064          |   | 3,445 |   | 3,445 |   |
| Federal Home Loan  Bank stock                                               |   | 1,480              |   | 1,480          |   | 1,394 |   | 1,394 |   |
| Loans receivable,  net                                                      |   | 160,316            |   | 168,221        |   | 138,862 |   | 140,949 |   |
| Accrued interest  receivable                                                |   | 1,158              |   | 1,158          |   | 1,187 |   | 1,187 |   |
|                                                                        |   |               |   |           |   |   |   |   |   |
| **Financial  Liabilities:**                                                 |   |               |   |           |   |   |   |   |   |
| Certificates of  deposit                                                    |   | $                  | 81,036 |           | $      | 81,329 |   | $ | 79,438 |   | $ | 79,734 |   |
| Other deposit  accounts                                                     |   | 77,731             |   | 77,731         |   | 65,992 |   | 65,992 |   |
| Federal funds  purchased and securities sold under agreements to repurchase |   | 5,396              |   | 5,398          |   | 3,180 |   | 3,180 |   |
| Advances from the  Federal Home Loan Bank                                   |   | 27,401             |   | 27,071         |   | 16,636 |   | 16,661 |   |
| Other short-term  borrowings                                                |   | 446                |   | 446            |   | 234 |   | 234 |   |
| Accrued interest  payable                                                   |   | 374                |   | 374            |   | 593 |   | 593 |   |

 

 

**M.**                                  **Cash and CashEquivalents**

 

For the purposes of reportingconsolidated cash flows, the Corporation considers cash, balances with banks,federal funds sold, securities purchased under agreements to resell andinterest-bearing cash deposits in other depository institutions with initialmaturities of three months or less to be cash equivalents.

 

**N.**                                    **Advertising Costs**

 

Advertising costs areexpensed when incurred.

 

**O.**                                   **Reclassifications**

 

Certain prior year amountshave been reclassified to conform to the 2002 consolidated financialstatements.  Such reclassifications hadno effect on net income or stockholders’ equity as previously reported.

 

**NOTE 2****:****                                               ****RESTRICTIONS ON CASHAND DUE FROM BANKS**

 

The Bank is required tomaintain reserve funds in cash or on deposit with a designated depositoryfinancial institution.  The requiredreserve as of March 31, 2002 and 2001 was $175,000 and $443,000, respectively.

 

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**NOTE 3**:                **ACQUISITION**

 

Effective May 14, 1999,Classic Bank acquired 100% of the outstanding common stock of Citizens Bank,Grayson, Kentucky, utilizing the purchase method of accounting.  Citizens Bank was dissolved uponconsummation of the transaction with the assets and liabilities of Citizensmerged into Classic Bank and the former Citizens Bank continuing in operationsas a branch of Classic Bank.

 

The total acquisition costwas $4,581,777 cash.  At May 14, 1999,the fair value of Citizens assets were $13,749,847, liabilities were$12,435,720, and net assets were $1,314,127. Goodwill recorded in connection with the transaction was $3,267,650.

 

The results of Citizensoperations subsequent to May 14, 1999, are included in the consolidatedfinancial statements.  Presented belowis the unaudited pro-forma condensed consolidated results of operations for theyear ended March 31, 2000, assuming the transaction occurred at the beginningof the fiscal year ended March 31, 2000.

 
|                        |   | **2000**                                     |   |
|-----------------------------|--------|----------------------------------------------|--------|
|                        |   | **(In thousands except  per share amounts)** |   |
|                        |   |                                         |   |
| Net  interest income        |   | $                                            | 6,054  |   |
| Net  income                 |   | $                                            | 743    |   |
| Basic  earnings per share   |   | $                                            | 0.66   |   |
| Diluted  earnings per share |   | $                                            | 0.64   |   |

 

**NOTE 4****:**                **INVESTMENT AND MORTGAGE-BACKED SECURITIES**

 

Investment securities andmortgage-backed securities have been classified in the consolidated statementsof financial condition according to management’s intent.  The amortized cost, gross unrealized gains,gross unrealized losses and estimated fair values of investment securities atMarch 31, 2002 and 2001 are as follows:

 
|                                             |   | **AMORTIZED  COST** |       | **GROSS   UNREALIZED  GAINS** |   | **GROSS  UNREALIZED  LOSSES** |   | **ESTIMATED  FAIR  VALUE** |     |
|--------------------------------------------------|--------|---------------------|------------|-------------------------------|--------|-------------------------------|--------|----------------------------|----------|
|                                             |   |                |       |                          |   |                          |   |                       |     |
| **Available-for-sale**                           |   |                |       |                          |   |                          |   |                       |     |
|                                             |   |                |       |                          |   |                          |   |                       |     |
| **March  31, 2002:**                             |   |                |       |                          |   |                          |   |                       |     |
| U. S. Government  Agency Securities              |   | $                   | 2,500,000  |                          | $      | 6,946                         |   | $                          | (19,265  | ) | $ | 2,487,681 |   |
| Obligations of  state and political subdivisions |   | 17,177,903          |       | 284,343                       |   | (419,812                      | )      | 17,042,434                 |     |
| Corporate debt  securities                       |   | 6,532,480           |       | 21,814                        |   | (280,918                      | )      | 6,273,376                  |     |
|                                             |   | $                   | 26,210,383 |                          | $      | 313,103                       |   | $                          | (719,995 | ) | $ | 25,803,491 |   |
|                                             |   |                |       |                          |   |                          |   |                       |     |
| **March  31, 2001:**                             |   |                |       |                          |   |                          |   |                       |     |
| U. S. Government  Agency Securities              |   | $                   | 3,068,322  |                          | $      | 15,112                        |   | $                          | —   |   | $ | 3,083,434 |   |
| Obligations of  state and political subdivisions |   | 16,259,763          |       | 301,173                       |   | (204,739                      | )      | 16,356,197                 |     |
| Corporate debt  securities                       |   | 5,681,075           |       | 10,375                        |   | (336,712                      | )      | 5,354,738                  |     |
|                                             |   | $                   | 25,009,160 |                          | $      | 326,660                       |   | $                          | (541,451 | ) | $ | 24,794,369 |   |

 

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The amortized cost, grossunrealized gains, gross unrealized losses, and estimated fair values ofmortgage-backed securities at March 31, 2002 and 2001 are as follows:

 
|                   |   | **AMORTIZED   COST** |      | **GROSS  UNREALIZED  GAINS** |   | **GROSS  UNREALIZED  LOSSES** |   | **ESTIMATED   FAIR  VALUE** |     |
|------------------------|--------|----------------------|-----------|------------------------------|--------|-------------------------------|--------|-----------------------------|----------|
| **Available-for-sale** |   |                 |      |                         |   |                          |   |                        |     |
|                   |   |                 |      |                         |   |                          |   |                        |     |
| **March  31, 2002:**   |   |                 |      |                         |   |                          |   |                        |     |
| FHLMC                  |   | $                    | 7,602,117 |                         | $      | 35,810                        |   | $                           | (135,458 | ) | $ | 7,502,469 |   |
| FNMA                   |   | 1,061,986            |      | 20,779                       |   | —                        |   | 1,082,765                   |     |
| Other                  |   | 108,408              |      | —                       |   | (1,372                        | )      | 107,036                     |     |
| REMICS:                |   |                 |      |                         |   |                          |   |                        |     |
| FHLMC                  |   | 377,996              |      | —                       |   | (6,649                        | )      | 371,347                     |     |
|                   |   | $                    | 9,150,507 |                         | $      | 56,589                        |   | $                           | (143,479 | ) | $ | 9,063,617 |   |
|                   |   |                 |      |                         |   |                          |   |                        |     |
| **March  31, 2001:**   |   |                 |      |                         |   |                          |   |                        |     |
| FNMA                   |   | $                    | 1,841,016 |                         | $      | —                        |   | $                           | (53,910  | ) | $ | 1,787,106 |   |
| FHLMC                  |   | 1,075,229            |      | 16,015                       |   | —                        |   | 1,091,244                   |     |
| Other                  |   | 132,855              |      | —                       |   | (1,962                        | )      | 130,893                     |     |
| REMICS:                |   |                 |      |                         |   |                          |   |                        |     |
| FHLMC                  |   | 439,914              |      | —                       |   | (4,554                        | )      | 435,360                     |     |
|                   |   | $                    | 3,489,014 |                         | $      | 16,015                        |   | $                           | (60,426  | ) | $ | 3,444,603 |   |

 

Gross realized gains andgross realized losses on the sale of available-for-sale investment andmortgage-backed securities were $7,015 and $0, respectively for the year endedMarch 31, 2002, and $33,227 and $1,707, respectively for the year ended March31, 2001, and $0 and $2,500, respectively for the year ended March 31, 2000.

 

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The amortized cost andestimated fair value of investment and mortgage-backed securities at March 31,2002 and 2001 by contractual term to maturity are shown below.  Actual maturities may differ fromcontractual maturities because borrowers may have the right to call or prepayobligations with or without call or prepayment penalties.

 
|                                                          |   | **2002**                  |   | **2001**                               |   |
|---------------------------------------------------------------|--------|---------------------------|--------|----------------------------------------|--------|
|                                                          |   | **AMORTIZED********COST** |   | **ESTIMATED********FAIR********VALUE** |   | **AMORTIZED********COST** |   | **ESTIMATED********FAIR  VALUE** |   |
|                                                          |   | **(In Thousands)**   |   |
|                                                          |   |                      |   |                                   |   |   |   |   |   |
| Due in one year  or less                                      |   | $                         | 150    |                                   | $      | 152 |   | $ | 100 |   | $ | 100 |   |
| Due after one  year through five years                        |   | 2,511                     |   | 2,618                                  |   | 2,358 |   | 2,436 |   |
| Due after five  years through ten years                       |   | 4,095                     |   | 4,140                                  |   | 4,650 |   | 4,743 |   |
| Due after ten  years                                          |   | 19,454                    |   | 18,893                                 |   | 17,901 |   | 17,515 |   |
|                                                          |   | 26,210                    |   | 25,803                                 |   | 25,009 |   | 24,794 |   |
|                                                          |   |                      |   |                                   |   |   |   |   |   |
| Mortgage-backed  securities-not due at a single maturity date |   | 9,151                     |   | 9,064                                  |   | 3,489 |   | 3,445 |   |
| TOTAL                                                         |   | $                         | 35,361 |                                   | $      | 34,867 |   | $ | 28,498 |   | $ | 28,239 |   |

 

Securities carried atapproximately $14,781,917 at March 31, 2002, and $14,423,820 at March 31, 2001,were pledged to secure deposits of public funds and for other purposes requiredor permitted by law.

 

The amortized cost ofmortgage-backed securities includes unamortized premiums of $108,564 and$66,950 and unearned discounts of $12,299 and $17,170 at March 31, 2002 and2001, respectively.

 

Mortgage-backed securitieswith adjustable rates totaled $1,130,735 and $1,729,113 at March 31, 2002 and2001, respectively.

 

Accrued interest receivableincludes $378,000 and $354,406, at March 31, 2002 and 2001, respectively,related to investment and mortgage-backed securities.

 

34

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**NOTE 5****:**                **LOANS RECEIVABLE**

 

The components of loans inthe consolidated statements of financial condition were as follows:

 
|                                                 |   | **MARCH 31**       |    |
|------------------------------------------------------|--------|--------------------|---------|
|                                                 |   | **2002**           |    | **2001** |   |
|                                                 |   | **(In Thousands)** |    |
| Real estate loans:                                   |   |               |    |   |   |
| One-to-four family                                   |   | $                  | 74,321  |   | $ | 73,576 |   |
| Commercial                                           |   | 23,105             |    | 16,877 |   |
| Multi-family                                         |   | 1,083              |    | 1,342 |   |
| Construction                                         |   | 4,823              |    | 3,287 |   |
| Consumer Loans                                       |   | 24,966             |    | 18,249 |   |
| Commercial loans                                     |   | 33,522             |    | 26,846 |   |
|                                                 |   |               |    |   |   |
| Total loans  receivable                              |   | 161,820            |    | 140,177 |   |
|                                                 |   |               |    |   |   |
| Less: Unearned  discounts and loan origination costs |   | (124               | )       | (92 | ) |
| Allowance for loan  losses                           |   | 1,628              |    | 1,407 |   |
|                                                 |   |               |    |   |   |
| Total loans  receivable, net                         |   | $                  | 160,316 |   | $ | 138,862 |   |

 

Loans with adjustable ratestotaled $73.9 million and $57.5 million March 31, 2002 and 2001,respectively.

 

Accrued interest receivableincludes $780,144 and $832,836 at March 31, 2002 and 2001, respectively,related to loans receivable.

 

Activity in the allowance forloan losses is summarized as follows for the years ended March 31:

 
|                                  |   | **2002** |      | **2001** |   | **2000**  |   |
|---------------------------------------|--------|----------|-----------|----------|--------|-----------|--------|
|                                  |   |     |      |     |   |      |   |
| Balance at  beginning of year         |   | $        | 1,406,908 |     | $      | 1,289,302 |   | $ | 860,658 |   |
| Provision for  losses                 |   | 363,000  |      | 261,000  |   | 222,500   |   |
| Allowance  resulting from acquisition |   | —   |      | —   |   | 505,989   |   |
| Charge-offs                           |   | (181,876 | )         | (190,821 | )      | (370,712  | )      |
| Recoveries                            |   | 40,210   |      | 47,427   |   | 70,867    |   |
| Balance at end of  year               |   | $        | 1,628,242 |     | $      | 1,406,908 |   | $ | 1,289,302 |   |

 

35

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The following is a summary ofnon-performing loans at March 31:

 
|                                            |   | **2002**           |   | **2001** |   | **2000** |   |
|-------------------------------------------------|--------|--------------------|--------|----------|--------|----------|--------|
|                                            |   | **(In Thousands)** |   |
| Accruing loans  past due 90 days or more        |   | $                  | 244    |     | $      | 124      |   | $ | 153 |   |
| Nonaccrual loans                                |   | 412                |   | 662      |   | 620      |   |
|                                            |   |               |   |     |   |     |   |
| Total  non-performing loan balances at year end |   | $                  | 656    |     | $      | 786      |   | $ | 773 |   |
|                                            |   |               |   |     |   |     |   |
| Non-performing  loans as a percentage of loans  |   | .41                | %      | .56      | %      | .60      | %      |

 

In the normal course ofbusiness and subject to normal credit policies, the Bank makes loans toofficers, directors, their immediate family and business interests of suchpersons.  At March 31, 2002 and 2001,the balances of loans to such parties were as follows:

 
|                                                   |   | **2002**    |       | **2001**    |   |
|--------------------------------------------------------|--------|-------------|------------|-------------|--------|
|                                                   |   |        |       |        |   |
| Aggregate amount  of indebtedness at beginning of year |   | $           | 8,108,287  |        | $      | 5,875,096 |   |
| New loans                                              |   | 42,573,962  |       | 23,729,645  |   |
| Repayments                                             |   | (36,559,531 | )          | (21,496,454 | )      |
| Aggregate amount  of indebtedness at end of year       |   | $           | 14,122,718 |        | $      | 8,108,287 |   |

 

**NOTE 6****:**                **PREMISES AND EQUIPMENT**

 

Premises and equipment atMarch 31, 2002 and 2001 by major classifications are as follows:

 
|                            |   | **2002**  |      | **2001**  |   |
|---------------------------------|--------|-----------|-----------|-----------|--------|
|                            |   |      |      |      |   |
| Land                            |   | $         | 1,267,198 |      | $      | 1,267,198 |   |
| Buildings and  improvements     |   | 4,094,683 |      | 4,080,603 |   |
| Furniture and  equipment        |   | 2,965,557 |      | 2,863,636 |   |
|                            |   |      |      |      |   |
| **TOTAL**                       |   | 8,327,438 |      | 8,211,437 |   |
| Less: Accumulated  depreciation |   | 2,961,312 |      | 2,590,503 |   |
|                            |   | $         | 5,366,126 |      | $      | 5,620,934 |   |

 

Depreciation expense chargedto operations for the years ended March 31, 2002, 2001, and 2000 totaled$430,032, $445,235, and $426,917, respectively.

 

Subsequent to March 31, 2002,the Corporation acquired land in Greenup,

 

36

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Kentucky for the purpose ofconstructing a new branch bank.  Thetotal estimated cost of the new branch, including land, improvements andfurnishings, totals approximately $925,000.00. 

 

37

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**NOTE 7****:**                **DEPOSITS**

 

The aggregate amount of short-term jumbocertificates of deposit each with a minimum denomination of $100,000 or morewas approximately $26,529,516 and $19,678,826 at March 31, 2002 and 2001,respectively.

 

The scheduled maturities of certificates ofdeposit were as follows for the years ending March 31:

 

| 2003                |   | $          | 63,112,589 |   |
|---------------------|--------|------------|------------|--------|
| 2004                |   | 15,589,401 |       |
| 2005                |   | 1,160,650  |       |
| 2006                |   | 420,286    |       |
| 2007 and thereafter |   | 753,513    |       |
|                |   | $          | 81,036,439 |   |

 

Interest expense on deposits is summarized asfollows for the years ended March 31:

 

|                                           |   | **2002**           |   | **2001** |   | **2000** |   |
|------------------------------------------------|--------|--------------------|--------|----------|--------|----------|--------|
|                                           |   | **(In Thousands)** |   |
|                                           |   |               |   |     |   |     |   |
| Certificates of deposit                        |   | $                  | 4,034  |     | $      | 4,336    |   | $ | 3,856 |   |
| NOW accounts and money market demand  accounts |   | 973                |   | 1,265    |   | 996      |   |
| Passbook and club accounts                     |   | 259                |   | 334      |   | 404      |   |
|                                           |   | $                  | 5,266  |     | $      | 5,935    |   | $ | 5,256 |   |

 

The Bank held related party deposits ofapproximately $4.0 million and $3.1 million at March 31, 2002 and 2001,respectively.

 

**NOTE 8****:**                **ADVANCES FROM FEDERAL HOME LOAN BANK**

 

Advances from the Federal Home Loan Bank ofCincinnati totaled $27,401,157 at March 31, 2002.  In addition, the Federal Home Loan Bank had issued for theaccount of Classic Bank, $11,700,000 in standby letters of credit for thebenefit of depositors of public funds. The advances and letters of credit are collateralized with the Bank’sFederal Home Loan Bank stock with a carrying value of $1,480,300 and certainresidential real estate mortgage loans in the amount of $53,136,209.

 

At March 31, 2002, advances with a remainingterm of 90 days or less, and a weighted average interest rate of 1.90% totaled$8,200,000.  Advances requiring monthlyprincipal reductions with a weighted average maturity of 4.6 years and aweighted average interest rate of 4.09% totaled $19,201,157.

 

38

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Scheduled principal payments are due asfollows:

 
| Due in fiscal year ending: |   |      |       |   |
|----------------------------|--------|-----------|------------|--------|
| March 31, 2003             |   | $         | 11,777,339 |   |
| March 31, 2004             |   | 4,008,980 |       |
| March 31, 2005             |   | 3,773,615 |       |
| March 31, 2006             |   | 3,146,403 |       |
| March 31, 2007             |   | 3,381,133 |       |
| After March 31, 2007       |   | 1,313,687 |       |
|                       |   | $         | 27,401,157 |   |

 

**NOTE 9****:**                **SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE**

 

Securities sold under agreements torepurchase at March 31, 2002 and 2001 totaled $5,395,941 and $3,179,589,respectively.

 

Information concerning securities sold underagreements to repurchase is summarized as follows:

 
|                                       |   | **2002** |      | **2001** |   |
|--------------------------------------------|--------|----------|-----------|----------|--------|
|                                       |   |     |      |     |   |
| Average balance during the year            |   | $        | 4,552,598 |     | $      | 3,027,566 |   |
| Average interest rate during the  year     |   | 2.37     | %         | 6.02     | %      |
| Maximum month-end balance during the  year |   | $        | 5,872,828 |     | $      | 3,689,960 |   |

 

U.S.Government Agency and municipal securities underlying the agreements atyear-end:

 
| Amortized cost       |   | $ | 5,396,000 |   | $ | 3,290,573 |   |
|----------------------|--------|---|-----------|--------|---|-----------|--------|
| Estimated fair value |   | $ | 5,287,000 |   | $ | 3,369,336 |   |

 

Securities sold under agreements torepurchase at March 31, 2002 and 2001 had maturities ranging from one day tonine months.

 

**NOTE 10****:**              **OTHER BORROWINGS**

 

Other short-term borrowings at March 31, 2002and 2001 consist of term treasury tax and loan deposits and are generally repaidwithin one to twenty days from the date of the transaction.  Securities with an amortized cost of$450,000 and $1,518,322 and estimated fair value of $453,125 and $1,528,331,were pledged at March 31, 2002 and 2001, respectively, as collateral for treasurytax and loan deposits.

 

39

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**NOTE 11****:**              **INCOME TAXES**

 

The provision for income taxes consists of:

 
|                                                                          |   | **YEARS ENDED MARCH 31** |    |
|-------------------------------------------------------------------------------|--------|--------------------------|---------|
|                                                                          |   | **2002**                 |    | **2001** |   | **2000** |   |
|                                                                          |   |                     |    |   |   |   |   |
| Currently payable - Federal                                                   |   | $                        | 721,320 |   | $ | 327,252 |   | $ | 241,698 |   |
| Deferred - Federal                                                            |   | 19,812                   |    | 6,221 |   | 42,012 |   |
|                                                                          |   | $                        | 741,132 |   | $ | 333,473 |   | $ | 283,710 |   |
|                                                                          |   |                     |    |   |   |   |   |
| Federal tax benefit (expense) from  RRP credited (charged) to paid in capital |   | 32,401                   |    | (3,483 | ) | 8,630 |   |
|                                                                          |   | $                        | 773,533 |   | $ | 329,990 |   | $ | 292,340 |   |

 

The following tabulation reconciles thefederal statutory tax rate to the effective rate of taxes provided for incometaxes:

 
|                    |   | **YEARS ENDED MARCH 31** |   |
|-------------------------|--------|--------------------------|--------|
|                    |   | **2002**                 |   | **2001** |   | **2000** |   |
|                    |   |                     |   |   |   |   |   |
| Tax at statutory rate   |   | 34.0                     | %      | 34.0 | % | 34.0 | % |
| Tax exempt income       |   | (9.4                     | )      | (20.4 | ) | (20.3 | ) |
| Non-deductible expenses |   | 1.3                      |   | 10.1 |   | 9.1 |   |
| Other                   |   | 0.1                      |   | 0.2 |   | (1.3 | ) |
|                    |   | 26.0                     | %      | 23.9 | % | 21.5 | % |

 

The components of the Corporation’s netdeferred tax asset (liability) as of March 31, 2002 and 2001, are summarized asfollows:

 
|                                                  |   | **2002** |     | **2001** |   |
|-------------------------------------------------------|--------|----------|----------|----------|--------|
| **Deferred tax  assets:**                             |   |     |     |     |   |
| Loans and loan loss allowance                         |   | $        | 239,218  |     | $      | 153,241 |   |
| AMT credit carryforward                               |   | 0        |     | 32,050   |   |
| Retirement and incentive programs                     |   | 51,495   |     | 35,352   |   |
| Foreclosed real estate                                |   | 0        |     | 37,501   |   |
| Net unrealized loss on available for  sale securities |   | 167,886  |     | 88,129   |   |
| Other assets                                          |   | 27,183   |     | 38,791   |   |
|                                                  |   | 485,782  |     | 385,064  |   |
| **Deferred tax  liabilities:**                        |   |     |     |     |   |
| Federal Home Loan Bank stock  dividends               |   | (290,972 | )        | (261,630 | )      |
| Premises and equipment                                |   | (340,791 | )        | (339,373 | )      |
| Retirement and incentive programs                     |   | (264,195 | )        | (264,195 | )      |
| Accretion on securities                               |   | (19,616  | )        | (18,092  | )      |
| Deferred loan origination costs                       |   | (42,969  | )        | (34,480  | )      |
|                                                  |   | (958,543 | )        | (917,770 | )      |
|                                                  |   |     |     |     |   |
| **Net deferred tax  asset (liability)**               |   | $        | (472,761 | )        | $      | (532,706 | ) |

 

40

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For years prior to 1996, savings institutions(formerly Classic Bank) were allowed a statutory bad debt deduction ofotherwise taxable income of 8%, subject to limitations based on  aggregate loans  and  savings balances.  If the amounts thatqualify as deductions for federal income taxes are later used for purposesother than for bad debt losses, including distributions in liquidation, suchdistributions will be subject to federal income taxes at the then current corporateincome tax rate.  The percentage ofearnings bad debt deductions for Classic Bank had accumulated to approximately$1.9 million at March 31, 2002.  Theestimated deferred tax liability on such amount is approximately $646,000,which has not been recorded in the accompanying consolidated financialstatements.  The Bank does not have anysignificant post 1987 increases in the percentage of earnings bad debtdeduction subject to recapture.  Bankscan no longer utilize the percentage of earnings method to compute their baddebt deduction.

 

**NOTE 12****:**              **OFF BALANCE SHEET ACTIVITIES**

 

*Credit-RelatedFinancial Instruments.*  The Bank is a party tocredit related financial instruments with off-balance-sheet risk in the normalcourse of business to meet the financing needs of its customers.  These financial instruments includecommitments to extend credit, standby letters of credit and commercial lettersof credit.  Such commitments involve, tovarying degrees, elements of credit and interest rate risk in excess of theamount recognized in the consolidated balance sheets.

 

The Bank’s exposure to credit loss isrepresented by the contractual amount of these commitments.  The Bank follows the same credit policies inmaking commitments as it does for on-balance-sheet instruments.

 

At March 31, 2002 and 2001, the followingfinancial instruments were outstanding whose contract amounts represent creditrisk:

 
|                                       |   | **Contract Amount** |   |
|--------------------------------------------|--------|---------------------|--------|
|                                       |   | **March 31  2002**  |   | **March 31  2001** |   |
|                                       |   | **(In thousands)**  |   |
|                                       |   |                |   |   |   |
| Commitments to grant loans                 |   | $                   | 2,966  |   | $ | 785 |   |
| Unfunded commitments under lines of credit |   | 11,982              |   | 9,332 |   |
| Commercial and standby letters of credit   |   | 323                 |   | 560 |   |
|                                            |        |                     |        |  |  |  |  |

 

41

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Commitments to extend credit are agreementsto lend to a customer as long as there is no violation of any conditionestablished in the contract. Commitments generally have fixed expiration dates or other terminationclauses and may require payment of a fee. The commitments for equity lines of credit may expire without beingdrawn upon.  Therefore, the totalcommitment amounts do not necessarily represent future cash requirements.  The amount of collateral obtained, if it isdeemed necessary by the Bank, is based on management’s credit evaluation of thecustomer.

 

Unfunded commitments under commerciallines-of-credit, revolving credit lines and overdraft protection agreements arecommitments for possible future extensions of credit to existingcustomers.  These lines-of-credit are uncollateralizedand usually do not contain a specified maturity date and may not be drawn uponto the total extent to which the Bank is committed.

 

Commercial and standby letters-of-credit areconditional commitments issued by the Bank to guarantee the performance of acustomer to a third party.  Thoseletters-of-credit are primarily issued to support public and private borrowingarrangements.  Essentially all lettersof credit issued have expiration dates within one year.  The credit risk involved in issuingletters-of-credit is essentially the same as that involved in extending loanfacilities to customers.  The Bankgenerally holds collateral supporting those commitments if deemed necessary.

 

The Corporation has entered into leaseagreements for office premises and equipment under operating leases whichexpire at various dates through 2020. The following table summarizes minimum payments due under leaseagreements by year:

 

| **Year Ending March  31** |   | **(Dollars in Thousands)** |   |
|---------------------------|--------|----------------------------|--------|
|                      |   |                       |   |
| 2003                      |   | $                          | 87     |   |
| 2004                      |   | 85                         |   |
| 2005                      |   | 79                         |   |
| 2006                      |   | 79                         |   |
| 2007 and thereafter       |   | 693                        |   |
|                      |   | $                          | 1,023  |   |

 

Total rental expense under operating leaseswas approximately $98,017, $61,363, and $27,515, for the years ended March 31,2002, 2001 and 2000, respectively.

 

42

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**NOTE 13****:****                                        ****LEGAL CONTINGENCIES**

 

Various legal claims arise from time to timein the normal course of business which, in the opinion of management, will haveno material effect on the Corporation’s consolidated financial statements.

 

**NOTE 14****:**              **SIGNIFICANT GROUP CONCENTRATIONS OF CREDIT**

 

All of the Bank’s loans, commitments andstandby letters of credit have been granted to customers in the Bank’s marketarea.  Investments in state andmunicipal securities primarily involve government entities within the Bank’smarket area.  The concentration ofcredit by type of loan are set forth in Note 5.

 

The distribution of commitments to extendcredit approximates the distribution of loans outstanding.  Standby letters of credit were grantedprimarily to commercial borrowers.

 

The contractual amounts of credit-relatedfinancial instruments such as commitments to extend credit and letters ofcredit represent the amounts of potential accounting loss should the contractbe fully drawn upon, the customer default and the value of any existing collateralbecome worthless.

 

The Bank’s credit policies and procedures forcredit commitments and financial guarantees are the same as those for extensionof credit that are recorded on the consolidated statements of financialcondition.  Because these instrumentshave fixed maturity dates and because many of them expire without being drawnupon, they do not generally present any significant liquidity risk to the Bank.

 

The Bank had deposits with other financialinstitutions which exceeded the federally insured limits at March 31, 2002 byapproximately $215,483.  The Bank doesnot have a policy for requiring collateral on such deposits.

 

**NOTE 15****:**              **BENEFIT PLANS**

 

The Corporation and its subsidiaryparticipate in the Pentegra multi-employer pension plan.  This non-contributory defined benefit plancovers all eligible employees of the Corporation and its subsidiary meetingcertain service and age requirements. The plan operates on a fiscal year ending June 30, and it is the policyof the Corporation to fund the normal cost of the plan.  Contributions to the plan have not beenrequired for the years ended March 31, 2002, 2001 and 2000.  The data available from the planadministrators is not sufficient to determine the Corporation’s share of thepension plan’s accumulated benefit obligation or the net assets attributable tothe Corporation.

 

43

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Effective July 1, 1997, First National’sdefined benefit plan was terminated and its plan assets were merged into theCorporation’s Pentegra multi-employer pension plan.  All eligible employees of First National became participants inthe Corporation’s multi-employer pension plan. Prepaid pension expense of $777,045, representing the excess of the fairvalue of pension plan assets over the accrued actuarial pension liability atJuly 1, 1998, is included in other assets in the consolidated statement offinancial condition at March 31, 2002 and 2001.

 

Effective September 30, 1995, Classic Bankentered into a non-qualified supplemental executive retirement agreement(agreement) with the Bank’s chief executive officer which provides for thepayment of a monthly supplemental retirement benefit equal to up to 24% of hisaverage monthly compensation during the three highest 12-month periods in theten years prior to retirement.  Suchbenefit shall be payable upon normal retirement at age 65 or under certaincircumstances, after age 55, if his termination is without cause.  Upon the officer’s death, 50% of the amountpayable under the agreement shall be payable to his spouse until her death.

 

The following table sets forth thesupplemental executive retirement plan’s funded status and amounts recognizedin the consolidated financial statements at March 31, 2002 and 2001, and 2000:

 
|                                                    |   | **2002** |     | **2001** |   | **2000** |   |
|---------------------------------------------------------|--------|----------|----------|----------|--------|----------|--------|
| Accumulated vested benefit  obligation                  |   | $        | (65,116  | )        | $      | (47,928  | )      | $ | (34,231 | ) |
|                                                    |   |     |     |     |   |     |   |
| Projected benefit obligation                            |   | $        | (120,279 | )        | $      | (98,052  | )      | $ | (71,462 | ) |
| Under (over) accrual                                    |   | 32,769   |     | 24,656   |   | 10,449   |   |
|                                                    |   |     |     |     |   |     |   |
| Accrued retirement cost                                 |   | $        | (87,510  | )        | $      | (73,396  | )      | $ | (61,013 | ) |
|                                                    |   |     |     |     |   |     |   |
| Net retirement cost includes the  following components: |   |     |     |     |   |     |   |
|                                                    |   |     |     |     |   |     |   |
| Service cost - benefits earned  during the year         |   | $        | 16,058   |     | $      | 15,273   |   | $ | 13,357 |   |
| Interest cost                                           |   | 6,745    |     | 5,346    |   | 3,740    |   |
| Other                                                   |   | (7,976   | )        | (7,262   | )      | (6,218   | )      |
|                                                    |   |     |     |     |   |     |   |
| Net retirement cost                                     |   | $        | (14,827  | )        | $      | 13,357   |   | $ | 10,879 |   |
|                                                    |   |     |     |     |   |     |   |
| Discount rate                                           |   | 7.0      | %        | 7.0      | %      | 7.0      | %      |
| Rate of increase in future  compensation levels         |   | 5.0      | %        | 5.0      | %      | 5.0      | %      |

 

44

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In conjunction with the stock conversion, theCorporation established an Employee Stock Ownership Plan (ESOP) which coverssubstantially all employees.  The ESOPborrowed $1,058,000 from the Corporation and purchased 105,800 common shares,equal to 8% of the total number of shares issued in the conversion.  The Bank makes scheduled discretionarycontributions to the ESOP sufficient to service the debt.  Shares are allocated to participants’accounts under the shares allocated method. The cost of shares not committed to be released and unallocated sharesis reported as a reduction of stockholders’ equity.

 

Dividends on unallocated ESOP shares arerecorded as a reduction of debt and accrued interest; dividends on allocatedESOP shares are recorded as a reduction of retained earnings.  Allocated ESOP shares become outstanding forearnings-per-share computations. Compensation expense is recorded based on the average fair market valueof the ESOP shares when committed to be released.  The expense under the ESOP for the years ended March 31, 2002,2001, and 2000, was $68,529, $52,077, and $63,080, respectively.

 

The ESOP shares at March 31, 2002 and 2001are as follows:

 
|                           |   | **2002** |      | **2001** |   |
|--------------------------------|--------|----------|-----------|----------|--------|
|                           |   |     |      |     |   |
| Allocated shares               |   | 41,469   |      | 36,868   |   |
| Unearned shares                |   | 64,331   |      | 68,932   |   |
| Total ESOP shares              |   | 105,800  |      | 105,800  |   |
|                           |   |     |      |     |   |
| Fair value of unearned  shares |   | $        | 1,098,194 |     | $      | 878,883 |   |
|                                |        |          |           |          |        |  |  |

 

On July 29, 1996, stockholders of theCorporation approved the 1996 Recognition and Retention Plan (“RRP”).  Under the RRP, restricted stock awards of upto 4% of the common stock sold in the conversion may be awarded to thedirectors, officers and key employees of the Corporation and itssubsidiary.  The Corporation completedthe funding of the plan in September 1996 by purchasing 52,900 shares of commonstock in the open market at a total cost of $621,575, which reducedconsolidated stockholders equity.  AtMarch 31, 2002, vested, unvested and unawarded RRP shares totaled 51,396, 1,390and 114, respectively.

 

45

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**NOTE 16****:              STOCK OPTION PLAN**

 

The holders of the restricted shares have allof the rights of a shareholder, except that they cannot sell, assign, pledge ortransfer any of the restricted shares during the restricted period.  The restricted shares vest at a rate of 20%on each anniversary of the grant date. RRP expense of $48,131, $117,166, and $116,255, was recorded for theyears ended March 31, 2002, 2001, and 2000 respectively.

 

During the fiscal year ended March 31, 1998,the Corporation adopted a 401(k) Savings and Profit Sharing Plan coveringsubstantially all employees.  Under theplan, the Corporation matches 50.0% of the employee’s contribution up to 3.0%of the employee’s salary.   Totalexpense under this plan was $51,487, $52,900, and $47,842, for the years endedMarch 31, 2002, 2001, and 2000, respectively.

 

On July 29, 1996, stockholders of theCorporation approved the 1996 Stock Option and Incentive Plan (“SOP”).  Under the 1996 SOP 132,250 shares werereserved for issuance to officers, directors, and key employees of theCorporation and its subsidiary.

 

The following tabulation shows the number ofshares and the exercise price of options awarded to officers, directors, andkey employees by date of grants, net of subsequent forfeitures:

 
|               |   | **Shares Granted** |   | **Exercise Price** |    |
|--------------------|--------|--------------------|--------|--------------------|---------|
|               |   |               |   |               |    |
| July 29, 1996      |   | 106,774            |   | $                  | 10.8125 |   |
| February 1, 1997   |   | 19,000             |   | $                  | 13.3750 |   |
| September 14, 1998 |   | 4,500              |   | $                  | 13.8750 |   |
| October 12, 1998   |   | 626                |   | $                  | 13.7500 |   |
| April 19, 1999     |   | 200                |   | $                  | 13.6250 |   |
| March 12, 2001     |   | 450                |   | $                  | 12.3130 |   |
| February 15, 2002  |   | 400                |   | $                  | 16.7500 |   |

 

All grants under the 1996 “SOP” areexercisable at the fair market value at the date of the grants. The optionsvest with the grantees at the rate of 20% per year on each anniversary date ofthe grants and are available for exercise, subject to the vesting schedule, forup to ten years from the grant date.

 

46

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A summary of the status of the Corporation’s1996 stock option plan as of March 31, 2002, 2001, and 2000, and changes duringthe periods ending on those dates is presented below:

 
|                                                            |   | **2002**   |   | **2001**                               |   | **2000**   |    |
|-----------------------------------------------------------------|--------|------------|--------|----------------------------------------|--------|------------|---------|
|                                                            |   | **SHARES** |   | **WEIGHTED  AVERAGE  EXERCISE  PRICE** |   | **SHARES** |    | **WEIGHTED  AVERAGE  EXERCISE  PRICE** |   | **SHARES** |   | **WEIGHTED  AVERAGE  EXERCISE  PRICE** |   |
|                                                            |   |       |   |                                   |   |       |    |   |   |   |   |   |   |
| Options outstanding at beginning of  year                       |   | 132,250    |   |                                   | 11.32  |       | 131,800 |   | $ | 11.32 |   | 132,050 |   | $ | 11.32 |   |
| Granted                                                         |   | 400        |   | $                                      | 16.75  |       | 450     |   | $ | 12.31 |   | 200 |   | $ | 13.63 |   |
| Exercised                                                       |   | 0          |   | —                                 |   | 0          |    | — |   | 0 |   | — |   |
| Forfeited                                                       |   | (700       | )      |                                   |   | 0          |    | — |   | (450 | ) | $ | 13.38 |   |
| Options outstanding at end of year                              |   | 131,950    |   | $                                      | 11.33  |       | 132,250 |   | $ | 11.32 |   | 131,800 |   | $ | 11.32 |   |
|                                                            |   |       |   |                                   |   |       |    |   |   |   |   |   |   |
| Eligible for exercise at year end                               |   | 129,020    |   | $                                      | 11.33  |       | 103,109 |   | $ | 11.32 |   | 76,749 |   | $ | 11.32 |   |
|                                                            |   |       |   |                                   |   |       |    |   |   |   |   |   |   |
| Weighted average fair value of  options granted during the year |   |       |   | $                                      | 5.05   |       |    |   | $ | 3.71 |   |   |   | $ | 3.98 |   |

 

 

The following information applies to the 1996Stock Option and Incentive Plan options outstanding at March 31, 2002:

 
| **RANGE OF  EXERCISE PRICE** |   | **OUTSTANDING** |   | **AVERAGE  REMAINING  LIFE (YEARS)** |   | **AVERAGE  EXERCISE  PRICE** |   |
|------------------------------|--------|-----------------|--------|--------------------------------------|--------|------------------------------|--------|
| $ 10.8125 to $16.7500        |   | 131.950         |   | 4.5 years                            |   | $                            | 11.33  |   |
|                              |        |                 |        |                                      |        |                              |        |  |

 

On July 27, 1998, the stockholders of theCorporation approved the 1998 Premium Price Stock Option Growth Plan.  Under the 1998 SOP, 50,000 shares werereserved for issuance to officers, directors, and key employees of theCorporation and its subsidiaries.

 

The following tabulation shows the number ofshares and the exercise price of options awarded to officers, directors, andkey employees by date of grants, net of subsequent forfeitures:

 
|              |   | **SHARES GRANTED** |   | **EXERCISE PRICE** |    |
|-------------------|--------|--------------------|--------|--------------------|---------|
|              |   |               |   |               |    |
| February 15, 1999 |   | 5,000              |   | $                  | 16.2950 |   |
| April 19, 1999    |   | 5,550              |   | $                  | 14.9880 |   |
| April 24, 2000    |   | 24,000             |   | $                  | 11.2750 |   |
| March 12, 2001    |   | 14,350             |   | $                  | 13.5440 |   |

 

47

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These grants vest immediately with thegrantees and may be exercised at any time up to ten years.

 

A summary of the Corporation’s 1998 PremiumPrice Stock Option Growth Plan as of March 31, 2002, 2001 and 2000 and changesduring the periods ending on those dates is presented below:

 
|                                                            |   | **2002**   |   | **2001**                               |   | **2000**   |   |
|-----------------------------------------------------------------|--------|------------|--------|----------------------------------------|--------|------------|--------|
|                                                            |   | **SHARES** |   | **WEIGHTED  AVERAGE  EXERCISE  PRICE** |   | **SHARES** |   | **WEIGHTED  AVERAGE  EXERCISE  PRICE** |   | **SHARES** |   | **WEIGHTED  AVERAGE  EXERCISE  PRICE** |   |
|                                                            |   |       |   |                                   |   |       |   |   |   |   |   |   |   |
| Options outstanding at beginning of  year                       |   | 50,000     |   | $                                      | 12.84  |       | 11,300 |   | $ | 15.57 |   | 5,000 |   | $ | 16.30 |   |
| Granted during the year                                         |   | 0          |   | —                                 |   | 39,450     |   | $ | 12.10 |   | 6,300 |   | $ | 14.99 |   |
| Exercised                                                       |   | 0          |   | —                                 |   | 0          |   | — |   | 0 |   | — |   |
| Forfeited                                                       |   | 1,100      |   | $                                      | (11.28 | )          | (750   | ) | $ | (14.99 | ) | 0 |   | — |   |
| Options outstanding at end of year                              |   | 48,900     |   | $                                      | 12.88  |       | 50,000 |   | $ | 12.84 |   | 11,300 |   | $ | 15.57 |   |
|                                                            |   |       |   |                                   |   |       |   |   |   |   |   |   |   |
| Eligible for exercise at year end                               |   | 48,900     |   | $                                      | 12.88  |       | 50,000 |   | $ | 12.84 |   | 11,300 |   | $ | 15.57 |   |
| Weighted-average fair value of  options granted during the year |   |       |   | N/A                                    |   |       |   | $ | 2.64 |   |   |   | $ | 3.55 |   |

 

The following information applies to the 1998Premium Price Stock Option Growth Plan at March 31, 2002:

 
| **RANGE OF  EXERCISE PRICE** |   | **OUTSTANDING** |   | **AVERAGE  REMAINING  LIFE (YEARS)** |   | **AVERAGE  EXERCISE  PRICE** |   |
|------------------------------|--------|-----------------|--------|--------------------------------------|--------|------------------------------|--------|
| $11.275 to $16.295           |   | 48,900          |   | 7                                    |   | $                            | 12.88  |   |
|                              |        |                 |        |                                      |        |                              |        |  |

 

On August 13, 2001, the stockholders of theCorporation approved the 2001 Premium Price Stock Option and Growth Plan.  Under the 2001 SOP, 50,000 shares werereserved for issuance to officers, directors and key employees of the Corporationand its subsidiary.  No options had beengranted under the 2001 plan as of March 31, 2002.

 

The Corporation has adopted SFAS No. 123, “Accountingfor Stock-Based Compensation,” which contains a fair-value based method forvaluing stock-based compensation that entities may use, which measurescompensation cost at the grant date based on the fair value of the award.  Compensation is

 

48

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then recognized over the service period,which is usually the vesting period. Alternatively, SFAS No. 123 permits entities to continue to account forstock options and similar equity instruments under Accounting Principles Board(“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees.”  Entities that continue to account for stockoptions using APB Opinion No. 25 are required to make pro forma disclosures ofnet earnings and earnings per share, as if the fair-value based method ofaccounting defined in SFAS No. 123 had been applied.

 

The Corporation utilizes APB Opinion No. 25and related interpretations in accounting for its stock option plans.  Accordingly, no compensation cost has beenrecognized for the plans.  Hadcompensation cost for the Corporation’s stock option plans been determinedbased on the fair value at the grant dates for awards under the plansconsistent with the accounting method utilized in SFAS No. 123, the Corporation’snet earnings and earnings per share would have been reduced to the pro formaamounts indicated below:

 
|               |   | **MARCH 31** |      |
|--------------------|--------|--------------|-----------|
|               |   | **2002**     |      | **2001** |   | **2000** |   |
| Net earnings       |   |         |      |   |   |   |   |
| As reported        |   | $            | 2,199,887 |   | $ | 1,048,245 |   | $ | 1,069,682 |   |
| Pro forma          |   | $            | 2,172,325 |   | $ | 894,619 |   | $ | 983,115 |   |
|               |   |         |      |   |   |   |   |
| Earnings per share |   |         |      |   |   |   |   |
| Basic:             |   |         |      |   |   |   |   |
| As reported        |   | $            | 2.08      |   | $ | .97 |   | $ | .94 |   |
| Pro forma          |   | $            | 2.05      |   | $ | .83 |   | $ | .86 |   |
| Diluted:           |   |         |      |   |   |   |   |
| As reported        |   | $            | 1.94      |   | $ | .96 |   | $ | .92 |   |
| Pro forma          |   | $            | 1.92      |   | $ | .82 |   | $ | .85 |   |

 

The fair value of each option grant isestimated on the date of grant using the modified Black-Scholes option-pricingmodel with the following weighted average assumptions used for grants: dividendyield 3.0%; expected volatility of 28.48%; risk free interest rate of 6.19%;and expected lives of 7 years.

 

**NOTE 17****:**              **REGULATORY CAPITAL REQUIREMENTS**

 

As of March 31, 2000, Classic Bank wassubject to minimum regulatory capital standards promulgated by the Office ofThrift Supervision (the “OTS”), and the former First National Bank was subjectto the regulatory capital requirements of the Federal Deposit InsuranceCorporation (the “FDIC”).  During the2001 fiscal year, Classic Bank converted to a state chartered bank and FirstNational Bank

 

49

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was merged into Classic Bank in aconsolidation of subsidiaries.  Thesurviving entity, Classic Bank, is now subject to the regulatory capital requirementsof the “FDIC”.  Failure to meet minimumcapital requirements can initiate certain mandatory - and possibly additionaldiscretionary - actions by regulators that, if undertaken, could have a directmaterial effect on the Bank’s financial statements.  Under capital adequacy guidelines and the regulatory frameworkfor prompt corrective action, the Bank must meet specific capital guidelinesthat involve quantitative measures of the Bank’s assets, liabilities, andcertain off-balance-sheet items as calculated under regulatory accountingpractices.  The Bank’s capital amountsand classification are also subject to qualitative judgments by the regulatorsabout components, risk weightings, and other factors.

 

Quantitative measures established by regulationto ensure capital adequacy requires the Bank to maintain minimum amounts andratios (set forth in the table below) of total and Tier I capital (as definedin the regulations) to risk-weighted assets (as defined), and of Tier I capital(as defined) to adjusted total assets (as defined).

 

As of March 31, 2002, the most recentnotification from regulatory agencies categorized the Bank as well capitalizedunder the regulatory framework for prompt corrective action.  To be categorized as well capitalized theBank must maintain minimum total risk-based, Tier I risk-based, and Tier Ileverage ratios as set forth in the following table.  There are no conditions or events since those dates thatmanagement believes have changed the bank’s category.  The following table sets forth the Bank’s minimum capitalrequirements and actual capital as of March 31, 2002 and 2001.

 
|                       |   | **ACTUAL**                 |       | **FOR CAPITAL  ADEQUACY PURPOSES** |   | **TO BE WELL  CAPITALIZED UNDER  PROMPT  ACTION PROVISIONS** |   |
|----------------------------|--------|----------------------------|------------|------------------------------------|--------|--------------------------------------------------------------|--------|
|                       |
|                       |   | **AMOUNT**                 |       | **RATIO**                          |   | **AMOUNT**                                                   |   | **RATIO** |   | **AMOUNT** |   | **RATIO** |   |
|                       |   | **(Dollars in thousands)** | ** ** |
| **March 31, 2002**         |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
|                       |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| Total Capital              |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| (to Risk Weighted Assets)  |   | $                          | 16,277     |                               | 10.6   | %                                                            | $      | 12,274 |   | 8.0 | % | $ | 15,342 |   | 10.0 | % |
| Tier I Capital             |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| (to Risk Weighted Assets)  |   | $                          | 14,649     |                               | 9.5    | %                                                            | $      | 6,137 |   | 4.0 | % | $ | 9,205 |   | 6.0 | % |
| Tier I Capital             |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| (to Adjusted Total Assets) |   | $                          | 14,649     |                               | 7.1    | %                                                            | $      | 8,234 |   | 4.0 | % | $ | 10,293 |   | 5.0 | % |
|                       |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| **March 31, 2001**         |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
|                       |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| Total Capital              |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| (to Risk Weighted Assets)  |   | $                          | 14,827     |                               | 11.4   | %                                                            | $      | 10,450 |   | 8.0 | % | $ | 13,063 |   | 10.0 | % |
| Tier I Capital             |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| (to Risk Weighted Assets)  |   | $                          | 13,420     |                               | 10.3   | %                                                            | $      | 5,225 |   | 4.0 | % | $ | 7,838 |   | 6.0 | % |
| Tier I Capital             |   |                       |       |                               |   |                                                         |   |   |   |   |   |   |   |
| (to Adjusted Total Assets) |   | $                          | 13,420     |                               | 7.4    | %                                                            | $      | 7,252 |   | 4.0 | % | $ | 9,065 |   | 5.0 | % |
|                            |        |                            |            |                                    |        |                                                              |        |  |  |  |  |  |  |  |  |  |  |  |

 

50

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The Corporation’s principal source of fundsis dividends received from the subsidiary bank.  Regulations limit the amount of dividends that may be paid by theCorporation’s banking subsidiary without prior approval.  During the fiscal year March 31, 2003,approximately $1,128,354 plus any fiscal year 2003 net profits can be paid bythe Corporation’s banking subsidiary without prior regulatory approval.

 

51

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**NOTE 18****:**              **CONDENSED FINANCIAL INFORMATION - PARENT COMPANY ONLY**

 

The following condensed financial statementssummarize the financial position of the Corporation as of March 31, 2002 and2001 and the results of its operations and its cash flows for each of the yearsended March 31, 2002, 2001, and 2000:

 
| **Statements of  Financial Condition**                       |   | **March 31, 2002** |       | **March 31, 2001** |   |
|--------------------------------------------------------------|--------|--------------------|------------|--------------------|--------|
|                                                         |   |               |       |               |   |
| **Assets**                                                   |   |               |       |               |   |
| * Cash                                                       |   | $                  | 688,821    |               | $      | 99,648 |   |
| Temporary investments                                        |   | 81,701             |       | 74,485             |   |
| Securities available for sale                                |   | 512,500            |       | 515,375            |   |
| Accrued interest receivable                                  |   | 5,625              |       | 7,292              |   |
| * Note receivable - ESOP                                     |   | 713,306            |       | 749,886            |   |
| * Equity in net assets of Bank                               |   |               |       |               |   |
| Subsidiary                                                   |   | 19,896,270         |       | 18,889,310         |   |
| Other assets                                                 |   | 121,351            |       | 193,379            |   |
|                                                         |   |               |       |               |   |
| **Total Assets**                                             |   | $                  | 22,019,574 |               | $      | 20,529,375 |   |
|                                                         |   |               |       |               |   |
| **Liabilities**                                              |   |               |       |               |   |
| Accounts payable and accrued  expenses                       |   | $                  | 34,955     |               | $      | 64,758 |   |
| Deferred income taxes                                        |   | 3,664              |       | 4,310              |   |
| **Total Liabilities**                                        |   | 38,619             |       | 69,068             |   |
|                                                         |   |               |       |               |   |
| **Stockholders’  Equity**                               |   |               |       |               |   |
| Common stock                                                 |   | 13,225             |       | 13,225             |   |
| Additional paid-in capital                                   |   | 20,373,556         |       | 20,317,385         |   |
| Retained earnings                                            |   | 5,136,114          |       | 3,275,716          |   |
| Net unrealized gain (loss) on  available for sale securities |   | (325,896           | )          | (171,073           | )      |
| Treasury stock                                               |   | (2,553,922         | )          | (2,227,192         | )      |
| Unearned ESOP shares                                         |   | (643,310           | )          | (689,320           | )      |
| Unearned RRP shares                                          |   | (18,812            | )          | (58,434            | )      |
| **Total Stockholders’  Equity**                         |   | $                  | 21,980,955 |               | $      | 20,460,307 |   |
|                                                         |   |               |       |               |   |
| **Total Liabilities  and Stockholders’ Equity**         |   | $                  | 22,019,574 |               | $      | 20,529,375 |   |

 

----

*These accounts eliminate upon consolidation.

 

52

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|                                                     |   | **YEARS ENDED MARCH 31,** |      |
|----------------------------------------------------------|--------|---------------------------|-----------|
| **Statements of  Income**                                |   | **2002**                  |      | **2001** |   | **2000** |   |
|                                                     |   |                      |      |   |   |   |   |
| **Income**                                               |   |                      |      |   |   |   |   |
| * Equity in undistributed earnings of  bank subsidiaries |   | $                         | 1,138,819 |   | $ | — |   | $ | 674,722 |   |
| * Dividends from bank subsidiaries                       |   | 1,241,077                 |      | 1,292,691 |   | 600,000 |   |
| * Other income - management fees                         |   | 60,000                    |      | 127,000 |   | 12,652 |   |
| * Interest income - ESOP loan                            |   | 45,716                    |      | 47,988 |   | 50,259 |   |
| Interest and dividend income                             |   | 45,164                    |      | 32,797 |   | 27,253 |   |
|                                                     |   |                      |      |   |   |   |   |
| **Total Income**                                         |   | 2,530,776                 |      | 1,500,476 |   | 1,364,886 |   |
|                                                     |   |                      |      |   |   |   |   |
| **Expenses**                                             |   |                      |      |   |   |   |   |
| Salaries and benefits                                    |   | 9,731                     |      | 112,499 |   | 66,426 |   |
| Interest expense                                         |   | 2,579                     |      | 6,612 |   | 18,139 |   |
| Legal and accounting fees                                |   | 60,695                    |      | 65,699 |   | 66,765 |   |
| * Corporate management fees                              |   | 186,000                   |      | 179,095 |   | 103,140 |   |
| Printing and supplies                                    |   | 19,752                    |      | 29,690 |   | 18,636 |   |
| Other professional services                              |   | 35,698                    |      | 65,855 |   | 36,975 |   |
| Directors fees                                           |   | 62,400                    |      | 61,200 |   | 64,800 |   |
| Other expenses                                           |   | 46,454                    |      | 55,883 |   | 36,235 |   |
|                                                     |   |                      |      |   |   |   |   |
| **Total Expenses**                                       |   | 423,309                   |      | 576,533 |   | 411,116 |   |
|                                                     |   |                      |      |   |   |   |   |
| **Income Before  Income Taxes**                          |   | 2,107,467                 |      | 923,943 |   | 953,770 |   |
| Federal and state income tax benefit  (expense)          |   | 92,420                    |      | 124,302 |   | 115,912 |   |
|                                                     |   |                      |      |   |   |   |   |
| **Net Income**                                           |   | $                         | 2,199,887 |   | $ | 1,048,245 |   | $ | 1,069,682 |   |

 

----

*These accounts eliminate upon consolidation.

 

53

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|                                                                               |   | **YEARS ENDED MARCH 31,** |      |
|------------------------------------------------------------------------------------|--------|---------------------------|-----------|
| **Statements of Cash  Flows**                                                      |   | **2002**                  |      | **2001** |   | **2000** |   |
|                                                                               |   |                      |      |   |   |   |   |
| **Operating  Activities**                                                          |   |                      |      |   |   |   |   |
| Net income                                                                         |   | $                         | 2,199,887 |   | $ | 1,048,245 |   | $ | 1,069,682 |   |
| Adjustments to reconcile net income to  net cash provided by operating activities: |   |                      |      |   |   |   |   |
| Depreciation                                                                       |   | 4,094                     |      | 2,745 |   | 1,326 |   |
| Equity in undistributed net income of  subsidiary                                  |   | (1,138,819                | )         | — |   | (674,722 | ) |
| Earned ESOP shares                                                                 |   | 68,529                    |      | — |   | — |   |
| Earned RRP shares                                                                  |   | 43,810                    |      | 105,920 |   | 59,198 |   |
| Deferred income taxes                                                              |   | 331                       |      | 267 |   | (18 | ) |
| Decrease (increase) in:                                                            |   |                      |      |   |   |   |   |
| Accrued interest receivable                                                        |   | 1,667                     |      | (1,667 | ) | — |   |
| Other assets                                                                       |   | 79,270                    |      | (63,889 | ) | 165,925 |   |
| Increase (decrease)                                                                |   |                      |      |   |   |   |   |
| Accounts payable and accrued  expenses                                             |   | (29,803                   | )         | 14,098 |   | (46,814 | ) |
|                                                                               |   |                      |      |   |   |   |   |
| **Net Cash Provided  (Used) by****Operating Activities**                           |   | 1,228,966                 |      | 1,105,719 |   | 574,577 |   |
|                                                                               |   |                      |      |   |   |   |   |
| **Investing  Activities**:                                                         |   |                      |      |   |   |   |   |
| Repayment on loan receivable from  ESOP                                            |   | 36,580                    |      | 36,579 |   | 36,580 |   |
| Purchased equipment                                                                |   | —                    |      | (12,910 | ) | — |   |
| Nondividend distribution from First  National Bank                                 |   | —                    |      | — |   | 2,000,000 |   |
| Additional capital invested in  Classic Bank                                       |   | —                    |      | — |   | (1,400,000 | ) |
| Dividend distribution from  subsidiary in excess of current year’s earnings   |   | —                    |      | 10,465 |   | — |   |
| Purchased securities available for  sale                                           |   | —                    |      | (255,000 | ) | — |   |
|                                                                               |   |                      |      |   |   |   |   |
| **Net Cash Provided  (Used) by Investing Activities**                              |   | 36,580                    |      | (220,866 | ) | 636,580 |   |
|                                                                               |   |                      |      |   |   |   |   |
| **Financing  Activities**                                                          |   |                      |      |   |   |   |   |
| Dividends paid                                                                     |   | (339,489                  | )         | (348,262 | ) | (369,632 | ) |
| Treasury shares purchased                                                          |   | (329,668                  | )         | (512,536 | ) | (814,787 | ) |
|                                                                               |   |                      |      |   |   |   |   |
| **Net Cash Used by****Financing Activities**                                       |   | (669,157                  | )         | (860,798 | ) | (1,184,419 | ) |
|                                                                               |   |                      |      |   |   |   |   |
| **Net Increase  (Decrease) in Cash and Cash Equivalents**                          |   | 596,389                   |      | 24,055 |   | 26,738 |   |
|                                                                               |   |                      |      |   |   |   |   |
| Cash and Cash Equivalents at Beginning  of Year                                    |   | 174,133                   |      | 150,078 |   | 123,340 |   |
|                                                                               |   |                      |      |   |   |   |   |
| **Cash and Cash  Equivalents at End of Year**                                      |   | $                         | 770,522   |   | $ | 174,133 |   | $ | 150,078 |   |

 

54

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**STOCKHOLDER INFORMATION**

 

**Corporate Office**

 

344Seventeenth Street

Ashland,KY  41101

 

**Annual Meeting**

 

The Annual Meeting ofStockholders will be held at 5:00 p.m., Ashland Kentucky time onAugust 6, 2002 at the AEP Kentucky headquarters building, corner of 17thStreet and Central Avenue, Ashland, Kentucky 41101.

 

**Annual Report on Form 10-KSB**

 

A copy of the Company’sAnnual Report on Form 10-KSB as filed with the Securities and Exchange Commissionmay be obtained without charge upon written request to Lisah M. Frazier, SeniorVice President and Chief Financial Officer, Classic Bancshares, Inc., 344Seventeenth Street Ashland, Kentucky 41101, or by calling (606) 326-2800, or bye-mail at lfrazier@classicbank.com.  Thereport may also be obtained from EDGAR at www.sec.gov.

 

**Registrar/Transfer Agent**

 

Communications regardingchange of address, transfer of stock and lost certificates should be sent to:

 

AmericanStock Transfer & Trust Company

59Maiden Lane

NewYork, New York 10007

(212)936-5100

www.amstock.com

E-mail:info@amstock.com

 

**Independent Accountants**

 

Smith,Goolsby, Artis & Reams, P.S.C.

1330Carter Avenue

Ashland,KY  41101

 

| **General Counsel**                                                                                     |   | **Special Counsel**                                                                      |
|---------------------------------------------------------------------------------------------------------|--------|------------------------------------------------------------------------------------------|
|                                                                                                    |   |                                                                                     |
| Rose,  Short & Pitt  Community Trust Bank Building  1544 Winchester Avenue  Ashland, KY  41101 |   | Jenkens  & Gilchrist, P.C.  1919 Pennsylvania Avenue, NW  Washington, DC  20006 |

 

55

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**Stock Listing**

 

The Company’s common stockis traded over the counter and is listed on the NASDAQ Small-Cap Market underthe symbol “CLAS.”  At June 28,2002, there were 1,120,586 shares of the Company’s common stock outstanding andapproximately 215 holders of record. The Company’s common stock began trading on December 28, 1995.               The price ranges of the Company’scommon stock and the dividends paid for each quarter in fiscal 2001 and fiscal2002 were as follows:

 
| **FISCAL  2001** |   | **HIGH** |   | **LOW** |   | **DIVIDENDS** |   |
|------------------|--------|----------|--------|---------|--------|---------------|--------|
| First Quarter    |   | $        | 11.125 |    | $      | 10.000        |   | $ | .08 |   |
| Second Quarter   |   | $        | 11.125 |    | $      | 9.938         |   | $ | .08 |   |
| Third Quarter    |   | $        | 11.875 |    | $      | 10.250        |   | $ | .08 |   |
| Fourth Quarter   |   | $        | 13.930 |    | $      | 11.063        |   | $ | .08 |   |

 
| **FISCAL 2002** |   | **HIGH** |   | **LOW** |   | **DIVIDENDS** | ** ** |
|-----------------|--------|----------|--------|---------|--------|---------------|------------|
| First Quarter   |   | $        | 15.500 |    | $      | 12.510        |       | $ | .08 |   |
| Second Quarter  |   | $        | 15.420 |    | $      | 11.750        |       | $ | .08 |   |
| Third Quarter   |   | $        | 17.240 |    | $      | 12.990        |       | $ | .08 |   |
| Fourth Quarter  |   | $        | 17.601 |    | $      | 15.100        |       | $ | .08 |   |

 

The stock price information set forth in thetable above was provided by the National Association of Securities Dealers,Inc.  The closing price of the Company’scommon stock on March 31, 2002 was $17.601.

 

The Company declared andpaid cash dividends totaling $.32 per share during fiscal 2002.  The Board of Directors intends to continuethe payment of quarterly cash dividends, dependent on the results of operationsand financial condition of the Company, tax considerations, industry standards,economic conditions, regulatory restrictions, general business practices andother factors.  The Company’s ability topay dividends is dependent on the dividend payments it receives from itssubsidiary, Classic Bank, which is subject to regulations and continuedcompliance with all regulatory capital requirements.  See Note 17 of the Notes to the Consolidated FinancialStatements for information regarding limitations of the subsidiary’s ability topay dividends to the Company.

 

**Market Makers**

 

J.J.B.Hilliard , W.L. Lyons

 

Keefe,Bruyette & Woods, Inc.

 

Advest,Inc.

 

AnPacSecurities Group, Inc.

 

Herzog,Heine, Geduld, Inc.

 

KnightSecurities, LP

 

Spear,Leeds & Kellogg

 

Hill,Thompson, Magid & Co.

 

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