EXHIBIT 13


<PAGE>




SFB Bancorp, Inc.
--------------------------------------------------------------------------------



To Our Stockholders:

         On behalf of our Board of Directors and employees of SFB Bancorp,  Inc.
(the  "Company"),  we are  pleased to present to you our 1997  Annual  Report to
Stockholders for the Company, and its wholly owned subsidiary,  Security Federal
Bank (the "Bank"). This is SFB Bancorp, Inc.'s first annual report, and reflects
the financial results of the Company and its wholly owned subsidiary,  the Bank,
on a consolidated basis for the year ended December 31, 1997.

         The Company was formed in March 1997, as part of the Bank's  conversion
from the mutual to stock form of  organization.  The  conversion  and concurrent
stock offering was consummated on May 29, 1997.

         The Company's  fiscal year ended December 31, 1997. Total assets of the
Company  were  $53,337,000,  which was an increase of  $6,758,000  or 14.5% from
December 31, 1996. The increase was mainly attributable to net offering proceeds
of approximately $6,770,000. Moreover, Stockholders' Equity increased $7,505,000
to $12,181,000 at December 13, 1997,  from  $4,676,000 at December 31, 1996. The
increase  was mainly due to the net  offering  proceeds  and  comprehensive  net
income of $644,000.

         On behalf of the Board of Directors,  management, and employees, I wish
to thank you for the trust that you have placed in us through  your  investment.
We stand  committed to enhancing your investment in the Company through safe and
sound operations.

Sincerely,


/s/ Peter W. Hampton
Peter W. Hampton
President and Chief Executive Officer

                                       1
<PAGE>



Stock Market Information
------------------------

         The  table  below  reflects  the stock  trading  and  dividend  payment
frequency of the Company for each  quarter  completed in the period June 1, 1997
through  December 31, 1997.  Since its issuance on May 29, 1997,  the  Company's
common  stock has been  traded  on  the  OTC  Bulletin  Board  under the trading
symbol  "SFBK".  The  quotations  reflect  inter-dealer  prices,  without retail
mark-up, mark-down or commission, and may not represent actual transactions.

                                                                      Dividend
                    Date                           High      Low      Declared
                    ----                           ----      ---      --------

June 1, 1997 - June 30, 1997                   $   14.00  $   13.38  $   0.00
July 1, 1997 - September 30, 1997              $   15.50  $   14.00  $   0.00
October 1, 1997 - December 31, 1997 $15.63     $   14.00  $    0.00


         The  number  of  shareholders  of  record  as of March  15,  1998,  was
approximately  162.  This does not reflect the number of persons or entities who
held stock in "street" name through various  brokerage firms. At March 15, 1998,
there were 767,000 shares outstanding.

         The Company's  ability to pay dividends to  stockholders  is subject to
the  requirements  of  Tennessee  law,  which  generally  limits the  payment of
dividends  to amounts that will not affect the ability of the Company to pay its
debts  as they  become  due in the  normal  course  of  business.  Further,  the
Company's  ability to pay  dividends  is also  dependent  upon the  dividends it
receives  from the  Bank.  Generally,  the Bank  may not  declare  or pay a cash
dividend if the effect thereof would cause the Bank's  regulatory  capital to be
reduced below (1) the amount required for the liquidation account established in
connection  with the  Conversion,  or (2) the  regulatory  capital  requirements
imposed by the OTS.



                                       2





<PAGE>
                        SELECTED FINANCIAL AND OTHER DATA
<TABLE>
<CAPTION>

    --------------------------------------------------------------------------------------------------------

    Financial Condition (Dollars in Thousands)

    At December 31,                                               1997              1996              1995

    --------------------------------------------------------------------------------------------------------
<S>                                                            <C>               <C>               <C>
    Total Assets                                               $ 53,337          $ 46,579          $ 45,482
    Loans receivable, net                                        40,648            36,808            32,782
    Mortgage-backed securities                                    5,030             5,768             7,299
    Investment securities                                         1,725             1,312             1,414
    Deposits                                                     40,587            40,765            40,637
    Total equity                                                 12,181             4,676             4,426
    --------------------------------------------------------------------------------------------------------
</TABLE>

    Summary of Operations (Dollars in Thousands)
<TABLE>
<CAPTION>

    Year Ended December 31,                                   1997              1996              1995

    --------------------------------------------------------------------------------------------------------

<S>                                                             <C>               <C>               <C>
    Interest income                                             $ 3,850           $ 3,474           $ 3,401
    Interest expense                                              1,987             1,977             1,981
                                                         ---------------   ---------------   ---------------
    Net interest income                                           1,863             1,497             1,420
    Provision for loan losses                                        10                30                30
                                                         ---------------   ---------------   ---------------
    Net interest income after provision
      for loan losses                                             1,853             1,467             1,390
    Noninterest income                                              159               156               152
    Noninterest expense                                           1,054             1,204               957
                                                         ---------------   ---------------   ---------------
    Income before income taxes                                      958               419               585
    Income tax expense                                              369               157               221
                                                         ---------------   ---------------   ---------------
    Net income                                                    $ 589             $ 262             $ 364
                                                         ===============   ===============   ===============
</TABLE>

<TABLE>
<CAPTION>
    --------------------------------------------------------------------------------------------------------

    Other Selected Data

    Year Ended December 31,                                   1997              1996              1995

    --------------------------------------------------------------------------------------------------------

<S>                                                           <C>               <C>               <C>
    Return on average assets                                  1.18%             0.57%             0.81%
    Return on average equity                                  6.99%             5.67%             8.58%
    Interest rate spread                                      3.00%             2.92%             2.87%
    Non-performing loans to total loans                       0.50%             0.81%             0.62%
    Non-performing loans to total assets                      0.39%             0.67%             0.46%
    Allowance for loan losses to total loans                  0.73%             0.80%             0.83%
    --------------------------------------------------------------------------------------------------------
</TABLE>

                                        3



<PAGE>



                MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS


General

         The Company was recently formed,  therefore its results from operations
consist  primarily  of  interest  income  from the  investing  of funds from the
proceeds  generated  by the sale of common  stock and  expense  incurred  in the
maintaining  of the investment  portfolio.  The Bank's results of operations are
primarily dependent on its net interest income,  which is the difference between
the interest income earned on its assets,  primarily loans and investments,  and
the interest expense on its liabilities,  primarily deposits and borrowings. Net
interest  income  may  be  affected   significantly   by  general  economic  and
competitive  conditions and policies of regulatory agencies,  particularly those
with  respect to market  interest  rates.  The  results of  operations  are also
influenced by the level of non-interest expenses,  such as employee salaries and
benefits and other income, such as loan-related fees and fees on deposit-related
services.

Asset/Liability Management

         The Bank's net  interest  income is  sensitive  to changes in  interest
rates, as the rates paid on interest-bearing liabilities generally change faster
than the rates  earned on  interest-earning  assets.  As a result,  net interest
income will frequently  decline in periods of rising interest rates and increase
in periods of decreasing interest rates.

         The Board of Directors  reviews the Bank's  asset/liability  policy and
meets  quarterly to review  interest rate risk and trends,  as well as liquidity
and capital ratios and  requirements.  Rates on deposits are primarily  based on
the  Bank's  need for  funds and a review of rates  offered  by other  financial
institutions  in the Bank's market area.  Interest  rates on loans are primarily
based on the  interest  rates  offered by other  financial  institutions  in the
Bank's  primary  market  area as well as the  Bank's  cost of funds.  The Bank's
principal   strategy   is  to  manage   the   interest   rate   sensitivity   of
interest-earning   assets   and  to   attempt   to  match  the   maturities   of
interest-earning assets with interest-bearing liabilities,  while allowing for a
mismatch in an effort to increase net interest income.

         Because of the lack of customer demand for adjustable rate loans in the
Bank's market area, the Bank primarily  originates  fixed-rate real estate loans
which approximated 93% of the loan portfolio at December 31, 1997. To manage the
interest rate risk of this type of loan portfolio, the Bank limits maturities of
fixed-rate  loans to no more than 15 years and  maintains a portfolio  of liquid
assets.  Maintaining  liquid assets tends to reduce potential net income because
liquid assets usually provide a lower yield than less liquid assets. At December
31, 1997,  the average  weighted  term to maturity of the Bank's  mortgage  loan
portfolio was slightly  less than 12 years and the average  weighted term of the
Bank's deposits was slightly less than 6 months.


                                       4
<PAGE>


Net Portfolio Value

         The Bank  computes  amounts by which the net present value of cash flow
from assets,  liabilities and off balance sheet items ("net portfolio  value" or
"NPV")  would  change  in the  event of a range of  assumed  changes  in  market
interest rates. These computations estimate the effect on the Bank's NPV from an
instantaneous  and  permanent 1% to 4% (100 to 400 basis  points)  increases and
decreases in market interest rates.  Based upon OTS  assumptions,  the following
table presents the Bank's NPV at December 31, 1997.

    Changes in  Rates           NPV Ratio %(1)           Change(2)
    -----------------           --------------           ---------
         +400 bp                    13.65                 -552 bp
         +300 bp                    15.18                 -399 bp
         +200 bp                    16.71                 -246 bp
         +100 bp                    18.11                 -106 bp
              0 bp                  19.17                    0 bp
         -100 bp                    19.73                 +56 bp
         -200 bp                    19.72                 +55 bp
         -300 bp                    19.76                 +59 bp
         -400 bp                    20.07                 +89 bp

-------------------------
(1)      Calculated  as the  estimated  NPV  divided by  present  value of total
         assets.
(2)      Calculated  as the excess  (deficiency)  of the NPV ratio  assuming the
         indicated  change  in  interest  rates  over the  estimated  NPV  ratio
         assuming no change in interest rates.

         These  calculations  indicate that the Bank's net portfolio value could
be  adversely  affected by  increases  in interest  rates but could be favorably
affected by decreases in interest rates.  In addition,  the Bank would be deemed
to have  more  than a normal  level  of  interest  rate  risk  under  applicable
regulatory capital requirements.

         Computations  of  prospective  effects of  hypothetical  interest  rate
changes are based on numerous  assumptions,  including relative levels of market
interest rates,  prepayments and deposit  run-offs and should not be relied upon
as  indicative  of actual  results.  Certain  shortcomings  are inherent in such
computations.  Although certain assets and liabilities may have similar maturity
or periods of  repricing,  they may react at  different  times and in  different
degrees to changes in the market interest  rates.  The interest rates on certain
types of assets and  liabilities  may  fluctuate in advance of changes in market
interest  rates,  while rates on other types of assets and  liabilities  may lag
behind changes in market interest rates. Certain assets, such as adjustable rate
mortgages, generally have features which restrict changes in interest rates on a
short  term  basis and over the life of the  asset.  In the event of a change in
interest  rates,   prepayments  and  early   withdrawal   levels  could  deviate
significantly  from  those  assumed  in making  calculations  set  forth  above.
Additionally,  an  increased  credit  risk may  result  as the  ability  of many
borrowers to service  their debt may  decrease in the event of an interest  rate
increase.

                                       5
<PAGE>



Average Balance Sheet

         The  following  table sets forth  certain  information  relating to the
Company's  average  balance  sheet and reflects the average  yield on assets and
average cost of liabilities for the periods indicated. Such yields and costs are
derived  by  dividing  income or  expense  by the  average  balance of assets or
liabilities,  respectively,  for the periods  presented.  Average  balances  are
derived from  month-end  balances.  Management  does not believe that the use of
month-end  balances  instead of daily  average  balances has caused any material
differences in the information presented.
<TABLE>
<CAPTION>
                                                                       For the Years Ended December 31,
                                                -------------------------------------------------------------------------------
                                                              1996                                    1997
                                                -------------------------------------------------------------------------------
                                                   Average                Average       Average                     Average
                                                   Balance  Interest     Yield/Cost     Balance      Interest      Yield/Cost
                                                -------------------------------------------------------------------------------
Interest-earning assets:                                                    (Dollars in Thousands)
<S>                                                <C>         <C>        <C>         <C>           <C>            <C>
  Loans receivable(1)......................        $34,997     $2,940        8.40%      $38,701       $3,253           8.41%
  Investment securities ...................          1,353         64        4.73         1,293           81           6.26
  Interest-earning deposits................          1,267         65        5.13         3,426          175           5.11
  Federal Home Loan Bank stock.............            380         26        6.84           407           29           7.13
  Mortgage-backed securities...............          6,558        379        5.78         5,392          312           5.79
                                                   -------     ------                   -------       ------
Total interest-earning assets..............         44,555      3,474        7.80        49,219        3,850           7.82
                                                               ------                                 ------
Non-interest-earning assets................          1,327                                1,701
                                                   -------                              -------
Total assets                                       $45,882                              $50,920
                                                   =======                              =======

Interest-bearing liabilities:
  Interest-bearing demand deposits.........        $ 9,136        232        2.54       $10,245          262           2.56
  Certificates of deposit..................         31,391      1,743        5.55        30,869        1,722           5.58
  Short-term borrowings....................             36          2        5.56            50            3           6.00
                                                   -------     ------                   -------       ------
Total interest-bearing liabilities.........         40,563      1,977        4.88        41,164        1,987           4.83
                                                               ------                                 ------
Non-interest-bearing liabilities...........            695                                  906
                                                   -------                              -------
Total liabilities..........................         41,258                               42,070
                                                   -------                              -------

Total stockholders' equity.................          4,624                                8,850
                                                   -------                              -------
Total liabilities and stockholders' equity.        $45,882                             $ 50,920
                                                   =======                             ========
Net interest income........................                    $1,497                                 $1,863
                                                               ======                                 ======

Interest rate spread (2)...................                                 2.92%                                     3.00%
Net yield on interest-earning assets(3)....                                 3.36%                                     3.79%
Ratio of average interest-earning assets to
  average interest-bearing liabilities.....                               109.84%                                   119.57%
</TABLE>

------------------------
(1)      Average balances include non-accrual loans.
(2)      Interest  rate spread  represents  the  difference  between the average
         yield   on   interest-earning   assets   and   the   average   cost  of
         interest-bearing liabilities.
(3)      Net yield on interest-earning  assets represents net interest income as
         a percentage of average interest-earning assets.


                                       6
<PAGE>



Rate/Volume Analysis

         The table below sets forth  certain  information  regarding  changes in
interest income and interest  expense of the Company for the periods  indicated.
For each category of interest-earning  assets and interest-bearing  liabilities,
information  is  provided  on  changes  attributable  to (i)  changes  in volume
(changes  in  average  volume  multiplied  by old rate);  (ii)  changes in rates
(changes in rate multiplied by old average volume); (iii) changes in rate-volume
(changes in rate multiplied by the change in average volume).

<TABLE>
<CAPTION>
                                                                  Year Ended December 31,
                                ------------------------------------------------------------------------------------------
                                           1996 vs. 1995                                   1997 vs. 1996
                                ------------------------------------------------------------------------------------------
                                          Increase (Decrease)                           Increase (Decrease)
                                                Due  to                                        Due to
                                ------------------------------------------------------------------------------------------
                                                       Rate/                                         Rate/
                                  Volume    Rate      Volume         Net       Volume      Rate     Volume         Net
                                  ------    ----      ------         ---       ------      ----     ------         ---
                                                                 (Dollars in Thousands)
<S>                               <C>      <C>        <C>          <C>        <C>         <C>      <C>           <C>
Interest income:
 Loans receivable.............    $ 224     $(62)      $ (4)        $158       $311        $  4     $  (2)        $ 313
 Mortgage-backed securities...      (62)      --         --          (62)       (67)          1        (1)          (67)
 Investment securities........       (2)      (3)        --           (5)        (2)         22         -            20
 Other interest-earning assets      (22)       6         (2)         (18)       111           -        (1)          110
                                  -----    -----        ---         ----       ----        ----     ----          -----
  Total interest income.......    $ 138    $ (59)       $(6)        $ 73       $353        $ 27     $  (4)        $ 376
                                  =====    =====        ===         ====       ====        ====     =====         =====

Interest expense:
 Savings accounts.............    $  30    $ (24)       $ 1         $  7       $ 29        $(16)    $  (4)        $   9
 Other liabilities............       (8)      (4)         1          (11)         1           -         -             1
                                  -----    -----        ---         ----       ----        ----     ----          -----
   Total interest expense.....    $  22    $ (28)       $ 2         $ (4)      $ 30        $(16)    $  (4)        $  10
                                  =====    =====        ===         ====       ====        ====     =====         =====

Net change in interest income.    $ 116    $ (31)       $(8)        $ 77       $323        $ 43     $   -         $ 366
                                  =====    =====        ===         ====       ====        ====     ====          =====
</TABLE>


Comparison of Financial Condition

         On January 15, 1997, the Board of Directors of the Bank approved a plan
of conversion  to convert from a federally  chartered  mutual  savings bank to a
federally  chartered stock savings bank and  simultaneously  reorganized  into a
holding company form of organization  (collectively,  the  "Conversion").  After
approval by the regulatory  authorities and the Bank's  members,  the Conversion
was  completed on May 29, 1997 and as a result,  the holding  company was formed
(the "Company") and the Bank became a wholly owned subsidiary of the Company. In
connection with the Conversion, the Company completed the sale of 776,000 shares
(the  "Offering")  at $10 per share and received  net proceeds of  approximately
$6,770,000.

         The Company's  total assets were  $53,337,000 at December  31,1997,  an
increase of  $6,758,000  or 14.5% from  $46,579,000  at December 31,  1996.  The
increase in assets

                                       7

<PAGE>

was  primarily  attributable  to the Offering.  Total cash and  interest-earning
deposits  increased  $3,178,000,   to  $4,592,000  at  December  31,  1997  from
$1,414,000  at December  31,  1996.  This  increase  reflects the inflow of cash
associated  with the orders  received  for the  purchase of Common  Stock in the
Offering.  Investment  securities increased $413,000,  to $1,725,000 at December
31,  1997  from  $1,312,000  at  December  31,  1996.  This  increase   consists
predominately of $551,000 of investment securities available for sale, offset by
a $138,000  reduction  in  investment  securities  held to  maturity.  Net loans
receivable  increased 10.4%, or $3,840,000,  to $40,648,000 at December 31, 1997
from  $36,808,000  at December 31,  1996.  Such  increase  reflects the economic
health of the Bank's market area and the competitive  pricing of the Bank's loan
products.

         Stockholders'  equity  increased  $7,505,000 to $12,181,000 at December
31, 1997 from  $4,676,000  at December  31, 1996.  The  increase  was  primarily
attributable  to the net  offering  proceeds  of  approximately  $6,770,000  and
comprehensive income of $644,000.

Comparison  of the Results of Operations  for the Years Ended  December 31, 1997
and 1996

         Net Income. Net income increased $394,000,  or 158%, from 1996 to 1997.
The increase was primarily the result of an increase of $366,000 in net interest
income and a decrease of $150,000 in noninterest expenses offset partially by an
increase of $212,000 in income tax expense.

         Net  Interest  Income.  Net  interest  income  is the most  significant
component of the Company's  income from  operations.  Net interest income is the
difference between interest received on interest-earning assets (primarily loans
and investment  securities)  and interest paid on  interest-bearing  liabilities
(primarily  deposits and borrowed  funds).  Net interest  income  depends on the
volume and rate earned on  interest-earning  assets and the volume and  interest
rate paid on interest-bearing liabilities.

         Net interest income increased  $366,000 or 24.5%, to $1,863,000 in 1997
compared to  $1,497,000  in 1996.  The increase was  primarily  due to growth in
average interest-earning assets to $49,219,000 in 1997 from $44,555,000 in 1996.
Net interest  rate spread  increased to 3.00% in 1997  compared to 2.92% in 1996
and the net interest margin increased to 3.79% in 1997 from 3.36% in 1996.

         The increase in average  interest-earning assets of $4,664,000 reflects
increases in average loans of $3,704,000 and average  interest-earning  deposits
of   $2,159,000   offset  by  a   combined   $1,226,000   decrease   in  average
mortgage-backed securities and investment securities.

         The interest  rate spread  increased in 1997 compared to 1996 due to an
increase in the yield on average  interest-earning  assets to 7.82% in 1997 from
7.80% in 1996 and a decrease in the cost of average interest-bearing liabilities
to 4.83% in 1997 from 4.88% in 1996.

                                       8

<PAGE>


         The  yield  on  average   interest-earning  assets  increased  in  1997
predominately due to an increase in yields on investment  securities to 6.26% in
1997 from 4.73% in 1996. The increase in yield on investment  securities was the
result of higher rates of interest and dividends.  The cost of  interest-bearing
liabilities  decreased  in  1997  primarily  as  a  result  of  an  increase  of
approximately $1.1 million in average  interest-bearing  demand deposits,  which
inherently have lower rates of interest,  combined with an approximate  $522,000
decrease in average certificates of deposits.

         Interest  Expense.  Interest expense  increased $10,000 from $1,977,000
for the year ended  December 31, 1996 to $1,987,000  for the year ended December
31, 1997. The increase for 1997 was the result of a $601,000 increase in average
interest-bearing liabilities partially offset by a 5 basis point decrease in the
average   cost  of  funds.   The  Bank   reflected   an   increase   in  average
interest-bearing  demand accounts of $1.1 million at an average cost of funds of
2.56%,  while average  certificates  of deposits  outstanding  in 1997 decreased
$522,000 as compared to 1996. The  combination of these events provided the Bank
with a lower average cost of funds for 1997.

         Provision  for Loan Losses.  The  provision for loan losses was $30,000
for year ended  December 31, 1996 and $10,000 for the period ended  December 31,
1997.  The ratio of the  allowance  for loan losses to  non-performing  loans at
December  31,  1997 was 144.0%  compared  to 97.7% at  December  31,  1996.  The
allowance  for loan losses as a percent of total loans  outstanding  was .73% at
December 31, 1997.

         Historically, we have emphasized our loss experience over other factors
in establishing the provision for loan losses.  We review the allowance for loan
losses in relation to (i) our past loan loss experience, (ii) known and inherent
risks in our portfolio,  (iii) adverse situations that may affect the borrower's
ability to repay, (iv) the estimated value of any underlying collateral, and (v)
current economic conditions.  There can be no assurances,  however,  that future
losses will not exceed estimated amounts or that additional  provisions for loan
losses will not be required in future periods.

         Noninterest  Expense.  Noninterest expense decreased $150,000 or 12.5%,
to $1,054,,000 for the year ended December 31, 1997 from $1,204,000 for the same
period ended December 31, 1996. In 1996, the Bank accrued and expensed  $264,000
for a special  assessment  required  to  recapitalize  the  Savings  Association
Insurance Fund ("SAIF").  The SAIF  insurance  assessment  rate paid by the Bank
before the  recapitalization  was 23(cent) per $100 of deposits and decreased to
6.5(cent) per $100 of deposits after the recapitalization of SAIF.  Compensation
and  employee  benefits  increased  $113,000,  or 22.2% to $620,000 for the year
ended  December 31, 1997 from $507,000 for the same period in 1996. The increase
was primarily  attributable to the recognition of ESOP compensation expense. For
financial  reporting  purposes,  ESOP  shares are  recorded at their fair market
value as the shares are allocated. As a result, the compensation expense for the
ESOP was $90,000  rather than the $61,000 that was actually  paid for the shares
during the  Conversion.  Also, the Company  incurred  additional  expense as the
result of being a public company for seven months in 1997.

                                       9

<PAGE>


         A great deal of information has been  disseminated  about the year 2000
as it  relates  to  computer  systems.  Many  computer  programs  that  can only
distinguish  the final  two  digits of the year  entered  (a common  programming
practice in earlier years) are expected to read entries for the year 2000 as the
year 1900 and compute payment,  interest or delinquency  based on the wrong date
or are expected to be unable to compute payment, interest or delinquency.  Rapid
and  accurate  data  processing  is  essential  to the  Bank's  operation.  Data
processing is also essential to most other financial institutions and many other
companies.  All of the Bank's material data processing that could be affected by
this problem is provided by a third party  service  bureau.  The Bank's  service
bureau has advised the Bank that it expects to resolve  this  potential  problem
before the year 2000.  However,  if the service bureau is unable to resolve this
potential  problem in time, the Bank would likely  experience  significant  data
processing  delays,  mistakes or failures.  These  delays,  mistakes or failures
could have a significant  adverse impact on our financial  condition and results
of  operation.  The Bank does not expect to incur  material  costs in addressing
year 2000 issues  primarily due to the fact that its third party service  bureau
will not be  charging  additional  fees for the  renovation  and  testing of its
software in preparation for year 2000.

         Income  Taxes.  Income tax expense  increased  $212,000  or 135.0%,  to
$369,000 for the year ended  December 31, 1997 from  $157,000 for the year ended
December  31, 1996,  due to the  increase in income  before  income  taxes.  The
effective  rate on  taxes as of the  year  ended  December  31,  1997 was  38.5%
compared to 37.5% for the same period ended December 31, 1996.

Liquidity and Capital Resources

         The  primary  sources of funds are  deposits,  repayments  of loans and
mortgage-backed  securities,  maturities  of  investments  and  interest-bearing
deposits,  funds  provided  from  operations  and  advances  from  the  FHLB  of
Cincinnati.  While scheduled repayments of loans and mortgage-backed  securities
and  maturities  of  investment  securities  are  predictable  sources of funds,
deposit flows and loan  prepayments are greatly  influenced by the general level
of  interest  rates,  economic  conditions  and  competition.  The Bank uses its
sources of funds to fund existing and future loan commitments,  to fund maturing
certificates  of deposit  and  demand  deposit  withdrawals,  to invest in other
interest-earning assets, to maintain liquidity, and to meet operating expenses.

         Net cash provided by operating  activities  for the year ended December
31, 1997 totalled  $856,000 as compared to $338,000 for the year ended  December
31, 1996.

         Net cash used by investing  activities  for the year ended December 31,
1997 totalled  $3,467,000,  an increase of $915,000 from December 31, 1996.  The
increase  was  primarily  attributable  to  an  increase  in  net  purchases  of
investment  securities of $550,000 and a decrease in proceeds  from  maturities,
sales, and repayments of investment and  mortgage-backed  securities of $676,000
offset by a decrease in loans funded of $327,000.

                                       10

<PAGE>


         Net cash provided by financing activities for 1997 totalled $5,789,000.
This was the result of  $6,770,000  million in net proceeds  from the  Offering,
offset by a net decrease of $800,000 for FHLB advances  repaid and a decrease in
deposits of $178,000.

         Liquidity  may be adversely  affected by unexpected  deposit  outflows,
excessive interest rates paid by competitors,  adverse publicity relating to the
savings and loan industry and similar  matters.  Management  monitors  projected
liquidity needs and determines the level desirable,  based in part on the Bank's
commitments to make loans and  management's  assessment of the Bank's ability to
generate funds.

         At December 31, 1997, management had no knowledge of any trends, events
or  uncertainties  that will  have or are  reasonably  likely  to have  material
effects on the  liquidity,  capital  resources  or  operations  of the  Company.
Further  at  December  31,  1997,  management  was  not  aware  of  any  current
recommendations by the regulatory authorities which, if implemented,  would have
such an effect.

Impact of Inflation and Changing Prices

        The  consolidated   financial  statements  and  the  accompanying  notes
presented  elsewhere in this  document,  have been prepared in  accordance  with
generally  accepted  accounting  principles,  which require the  measurement  of
financial  position and operating results in terms of historical dollars without
considering the change in the relative  purchasing  power of money over time and
due to inflation.  The impact of inflation is reflected in the increased cost of
our  operations.  As a  result,  interest  rates  have a  greater  impact on our
performance  than do the effects of general levels of inflation.  Interest rates
do not  necessarily  move in the same  direction  or to the same  extent  as the
prices of goods and services.


                                       11



<PAGE>
                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                        Consolidated Financial Statements

                           December 31, 1996 and 1997


                  ( with Independent Auditors' Report thereon )


<PAGE>


                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                                Table of Contents

                           December 31, 1996 and 1997


  Independent Auditors' Report

  Consolidated Balance Sheets

  Consolidated Statements of Comprehensive Income

  Consolidated Statements of Stockholders' Equity

  Consolidated Statements of Cash Flows

  Notes to Consolidated Financial Statements





<PAGE>











                          Independent Auditors' Report
                          ----------------------------


To the Board of Directors
SFB Bancorp, Inc. and Subsidiary


We have audited the  accompanying  consolidated  balance  sheets of SFB Bancorp,
Inc. and  Subsidiary  (the  "Company") as of December 31, 1996 and 1997, and the
related   consolidated   statements   of  income   and   comprehensive   income,
stockholders'  equity,  and cash flows for the years then ended. These financial
statements   are  the   responsibility   of  the   Company's   management.   Our
responsibility  is to express an opinion on these financial  statements based on
our audits.

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

In our opinion, the consolidated  financial statements referred to above present
fairly, in all material  respects,  the financial  position of the Company as of
December 31, 1996 and 1997,  and the results of their  operations and their cash
flows for the years then ended, in conformity with generally accepted accounting
principles.

                                            /s/ Crisp Hughes Evans LLP


Asheville, North Carolina
January 21, 1998



<PAGE>



                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                           Consolidated Balance Sheets
                        (in thousands, except share data)



                                                           December 31,
                                                    ---------------------------
        Assets                                          1996         1997
        ------                                          ----         ----

Cash on hand                                        $       396  $       453
Interest earning deposits                                 1,018        4,139
Investment securities:
  Held to  maturity  (market  value of $613 in 1996
   and $526 in 1997)                                        715          577
  Available  for  sale  (amortized  cost of $599 in
   1996 and $1,149 in 1997)                                 597        1,148
Loans receivable, net                                    36,808       40,648
Mortgage-backed securities:
  Available for sale  (amortized  cost of $5,941 in
   1996 and $5,117 in 1997)                               5,768        5,030
Premises and equipment, net                                 533          575
Real estate owned                                            60            -
Federal Home Loan Bank stock                                394          423
Accrued interest receivable                                 257          316
Prepaid expenses and other assets                            33           28
                                                    -----------  -----------

      Total assets                                  $    46,579  $    53,337
                                                    ===========  ===========

  Liabilities and Stockholders' Equity
  ------------------------------------

Deposits                                            $    40,765  $    40,587
Federal Home Loan Bank advances                             800            -
Advance   payments  by  borrowers   for  taxes  and
  insurance                                                 202          199
Accrued expenses and other liabilities                      122          144
Income taxes payable:
  Current                                                    13          164
  Deferred                                                    1           62
                                                    -----------  -----------

      Total liabilities                                  41,903       41,156
                                                    -----------  -----------

Stockholders' equity:
  Preferred   stock  ($.10  par  value,   1,000,000
   shares authorized; none outstanding)                       -            -
  Common  stock ($.10 par value,  4,000,000  shares
   authorized; 767,000 shares issued and outstanding
   at December 31, 1997)                                      -           77
  Paid-in capital                                             -        7,336
  Retained income, substantially restricted               4,784        5,373
  Accumulated other comprehensive income                   (108)         (53)
  Unearned compensation:
   Employee stock ownership plan                              -         (552)
                                                    -----------  -----------

      Total stockholders' equity                          4,676       12,181
                                                    -----------  -----------

      Total liabilities and stockholders' equity    $    46,579  $    53,337
                                                    ===========  ===========



The  accompanying  notes are an integral  part of these  consolidated  financial
statements.


<PAGE>






                               SFB BANCORP, INC.
                                AND SUBSIDIARY

          Consolidated Statements of Income and Comprehensive Income
                                (in thousands)



                                                   Years Ended December 31,
                                                 -----------------------------
                                                      1996          1997
                                                      ----          ----
Interest income:
  Loans                                           $     2,940   $      3,253
  Mortgage-backed securities                              379            312
  Investments                                              90            110
  Interest earning deposits                                65            175
                                                  -----------    -----------
      Total interest income                             3,474          3,850
                                                  -----------    -----------

Interest expense:
  Deposits                                              1,975          1,984
  Federal Home Loan Bank advances                           2              3
                                                  -----------    -----------
      Total interest expense                            1,977          1,987
                                                  -----------    -----------

      Net interest income                               1,497          1,863

Provision for loan losses                                  30             10
                                                  -----------    -----------

      Net interest income after provision
        for loan losses                                 1,467          1,853
                                                  -----------    -----------

Noninterest income:
  Loan fees and service charges                           145            149
  Security losses                                          (2)             -
  Other                                                    13             10
                                                  -----------    -----------
      Total noninterest income                            156            159
                                                  -----------    -----------

Noninterest expenses:
  Compensation                                            448            498
  Employee benefits                                        59            122
  Net occupancy expense                                    73             75
  Deposit insurance premiums                              357             21
  Data processing                                          72             74
  Other                                                   195            264
                                                  -----------    -----------
      Total noninterest expenses                        1,204          1,054
                                                  -----------    -----------

      Income before income taxes                          419            958

Income tax expense                                        157            369
                                                  -----------    -----------

      Net income                                          262            589

Other comprehensive income:
  Net  unrealized  gains  (losses) on securities
   available for sale, net of tax  benefit of $8
   and tax expense of $32, respectively                   (12)            55
                                                  ------------   -----------

       Comprehensive income                       $       250   $        644
                                                  ===========   ============

The  accompanying  notes are an integral  part of these  consolidated  financial
statements.


<PAGE>







                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                 Consolidated Statements of Stockholders' Equity
                        (in thousands, except share data)

<TABLE>
<CAPTION>

                                                                        Accumulated
                                                                           Other       Unearned
                                   Common      Paid-In      Retained   Comprehensive Compensation
                                   Stock       Capital       Income       Income       for ESOP      Total
                                   -----       -------       ------       ------       --------      -----

<S>                             <C>          <C>          <C>          <C>           <C>          <C>
Balance at December 31, 1995    $       -    $       -    $   4,522    $     (96)    $       -    $   4,426

Comprehensive income:
  Net income                            -            -          262            -             -          262
  Other comprehensive income:
   Unrealized loss on
     securities available for
     sale, net of income tax
     benefit of $8                      -            -            -          (12)            -          (12)
                                ---------    ---------    ---------    ---------     ---------    ---------
Comprehensive income                    -            -          262          (12)            -          250
                                ---------    ---------    ---------    ---------     ---------    ---------

Balance at December 31, 1996            -            -        4,784         (108)            -        4,676

Comprehensive income:
  Net income                            -            -          589            -             -          589
  Other comprehensive income:
   Unrealized gain on
     securities available for
     sale, net of income tax
     expense of $32                     -            -            -           55             -           55
                                ---------    ---------    ---------    ---------     ---------    ---------
Comprehensive income                    -            -          589           55             -          644
                                ---------    ---------    ---------    ---------     ---------    ---------

Sale of  common  stock,  net
  of issuance cost (767,000
  shares)                              77        7,307            -            -          (614)       6,770

Compensation earned                     -           29            -            -            62           91
                                ---------    ---------    ---------    ---------     ---------    ---------

Balance at December 31, 1997    $      77    $   7,336    $   5,373    $     (53)    $    (552)   $  12,181
                                =========    =========    =========    =========     =========    =========

</TABLE>


The accompanying  notes are an integral part of these  consolidated  financial
statements.


<PAGE>


                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                      Consolidated Statements of Cash Flows
                                 (in thousands)



                                                        Years Ended December
                                                                 31,
                                                       ------------------------
                                                          1996        1997
                                                          ----        ----
Operating activities:
  Net income                                             $   262    $   589
  Adjustments  to  reconcile  net  income  to net cash
    provided by operating activities:
   Depreciation                                               54         53
   Provision for loan losses                                  30         10
   Loss on sale of real estate owned                          --          9
   Deferred income taxes (benefit)                            (6)        29
   Net increase (decrease) in deferred loan fees              16         (4)
   Accretion of discounts  on  investment  securities,
       net                                                   (20)       (21)
   Amortization of premiums on mortgage-backed
    securities                                                17         10
   Amortization of unearned compensation                      --         91
   FHLB stock dividends                                      (26)       (29)
   Losses on mortgage-backed securities sold                   2         --
   Decrease in other assets                                   90          5
   Increase in accrued interest receivable                   (43)       (59)
   Increase  (decrease) in accrued  expenses and other
       liabilities                                           (46)        22
   Increase in current income taxes                            8        151
                                                         -------    -------
      Net cash provided by operating activities              338        856
                                                         -------    -------

Investing activities:
  Purchase of investment securities held to maturity        (156)        --
  Maturities of investment securities held to maturity       128        159
  Purchase of investment securities available for sale      (598)    (1,350)
  Maturities  of investment  securities  available for
   sale                                                      750        800
  Principal payments on mortgage-backed securities
   available for sale                                      1,118        814
  Proceeds from sale of mortgage-backed securities
   available for sale                                        372         --
  Proceeds from sale of real estate                           --         10
  Net increase in loans                                   (4,132)    (3,805)
  Purchase of premises and equipment                         (34)       (95)
                                                         -------    -------
      Net cash used by investing activities               (2,552)    (3,467)
                                                         -------    -------




                                                                (continued)


<PAGE>



                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                Consolidated Statements of Cash Flows, Continued
                                 (in thousands)



                                                     Years Ended December 31,
                                                     ------------------------
                                                        1996        1997
                                                        ----        ----
Financing activities:
  Net increase (decrease) in deposits                  $   128    $  (178)
  Decrease in advance payments by borrowers
   for taxes and insurance                                 (29)        (3)
  Proceeds from FHLB advances                            1,100        400
  Repayment of FHLB advances                              (300)    (1,200)
  Net proceeds from issuance of  common stock               --      6,770
                                                       -------    -------
      Net cash provided by financing activities            899      5,789
                                                       -------    -------

      Increase (decrease) in cash and cash
       equivalents                                      (1,315)     3,178

Cash and cash equivalents at beginning of year           2,729      1,414
                                                       -------    -------

Cash and cash equivalents at end of year               $ 1,414    $ 4,592
                                                       =======    =======

Supplemental  disclosures  of cash flow
 information:
  Cash paid during the year for:
   Interest                                            $ 2,005    $ 1,975
   Income taxes                                            112        189
                                                       =======    =======

Noncash transactions:
  Real  estate  acquired in  satisfaction  of
  mortgage loans                                       $    60    $    --
  Unrealized gain (loss) on  securities and
   mortgage-backed securities available for
   sale, net of deferred tax liability                     (12)        55
  Loan to facilitate sale of real estate owned              --         41
                                                       =======    =======



The  accompanying  notes are an integral  part of these  consolidated  financial
statements.



<PAGE>



                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                   Notes to Consolidated Financial Statements

                           December 31, 1996 and 1997
                         (Tabular amounts in thousands)

1.  Summary of Significant Accounting Policies
    ------------------------------------------

    The accounting and reporting policies of SFB Bancorp,  Inc.  ("Bancorp") and
    its subsidiary, Security Federal Bank (the "Bank"), conform, in all material
    respects,  to  generally  accepted  accounting  principles  and  to  general
    practices within the savings bank industry. The following summarize the more
    significant of these policies and practices.

    Nature of Operations - Bancorp was incorporated  under the laws of the state
    of Tennessee for the purpose of becoming the holding  company of the Bank in
    connection  with the Bank's  conversion  from a federally  chartered  mutual
    savings bank to a federally  chartered  stock savings bank,  pursuant to its
    Plan of Conversion. A Subscription Offering of its shares in connection with
    the conversion of the Savings Bank (the  "Conversion")  was completed on May
    29, 1997 (see Note 11). The transaction was accounted for using the "pooling
    of interests" method.

    Bancorp's  only line of business is  investing in its bank  subsidiary.  The
    Bank's  principal  line of business is originating  single-family  mortgage,
    consumer, and commercial loans.

    Estimates  -  The  preparation  of  consolidated   financial  statements  in
    conformity with generally accepted accounting principles requires management
    to make estimates and assumptions that effect the reported amounts of assets
    and liabilities  and disclosure of contingent  assets and liabilities at the
    date of the  consolidated  financial  statements and the reported amounts of
    revenues during the reporting period. Actual results could differ from those
    estimates.

    Principles of Consolidation - The consolidated  financial statements include
    the  accounts  of  the  Bancorp,  the  Bank,  and  the  Bank's  wholly-owned
    subsidiary, SFS, Inc. (SFS), herein collectively referred to as the Company.
    The impact of SFS on the consolidated financial statements is insignificant.
    SFS has no  operating  activity  other  than to own  stock in a  third-party
    service bureau. Intercompany balances and transactions have been eliminated.

    Comprehensive Income - The Company adopted Statement of Financial Accounting
    Standards No. 130 "Reporting  Comprehensive  Income" (SFAS 130) in 1997. All
    periods  presented  are in accordance  with SFAS 130.  SFAS 130  established
    standards  for  reporting  and  displaying   comprehensive  income  and  its
    components. Comprehensive income consists of net


<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

    income and other  changes in  stockholders'  equity from  nonowner  sources.
    These  nonowner  sources  consist of unrealized  gains and losses on certain
    investments in debt and equity securities.

    Loans  Receivable - Loans  receivable are carried at their unpaid  principal
    balance less,  where  applicable,  net deferred loan fees and allowances for
    losses.  Additions to the  allowances  for losses are based on  management's
    evaluation of the loan portfolio under current economic  conditions and such
    other factors  which,  in  management's  judgment,  deserve  recognition  in
    estimating  losses.  Interest accrual is discontinued when a loan becomes 90
    days delinquent  unless, in management's  opinion,  the loan is well secured
    and  in  process  of  collection.  Interest  income  on  impaired  loans  is
    recognized on a cash basis.

    Loan Fees - Loan fees result from the  origination  of loans.  Such fees and
    certain  direct  incremental  costs related to origination of such loans are
    deferred  ("net  deferred  loan fees") and  reflected  as a reduction of the
    carrying value of loans. The net deferred loan fees (or costs) are amortized
    using  the  interest  method  over  the  contractual  lives  of  the  loans.
    Unamortized  net  deferred  loan fees on loans  sold prior to  maturity  are
    credited to income at the time of sale.

    Investment Securities and Mortgage-Backed Securities - Investment securities
    held to maturity are stated at amortized cost since the Company has both the
    ability and positive  intent to hold such  securities to maturity.  Premiums
    and discounts on the  investment  securities  are amortized or accreted into
    income  over the  contractual  terms of the  securities  using a level yield
    interest  method.  Gains  and  losses  on the sale of these  securities  are
    calculated based on the specific identification method.

    Investment securities and mortgage-backed  securities available for sale are
    carried at fair value.  The Company has identified their holdings in certain
    debt  securities and all  mortgage-backed  securities as available for sale.
    The unrealized holding gains or losses on securities  available for sale are
    reported,  net of related  income tax  effects,  as a separate  component of
    stockholders' equity until realized.  Changes in unrealized holding gains or
    losses are  included  as a component  of other  comprehensive  income  until
    realized.  Gains or losses  on sales of  securities  available  for sale are
    based on the specific identification method.

    Real Estate - Real estate  properties  acquired through loan foreclosure are
    initially  recorded at fair value at the date of foreclosure.  Subsequent to
    foreclosure,  real estate is recorded at the lower of initial  fair value or
    existing fair value less  estimated  costs to sell (net  realizable  value).
    Real estate  property  held for  investment is carried at the lower of cost,
    including cost of property  improvements  incurred subsequent to acquisition
    less  depreciation,  or net realizable value.  Costs relating to development
    and improvement of properties are capitalized, whereas costs relating to the
    holding of property are expensed.



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------


    Valuations are  periodically  performed by management,  and an allowance for
    losses is  established  by a charge to  income  if the  carrying  value of a
    property exceeds its estimated net realizable value.

    Premises  and  Equipment - Land is carried at cost.  Office  properties  and
    equipment are carried at cost less accumulated depreciation. Depreciation is
    computed on a  straight-line  method over the estimated  useful lives of the
    assets ranging from 5 to 40 years.  The cost of  maintenance  and repairs is
    charged to expense as incurred while expenditures which materially  increase
    property lives are capitalized.

    Federal  Home Loan Bank Stock -  Investment  in stock of a Federal Home Loan
    Bank is  required  by law of every  federally  insured  savings  and loan or
    savings bank.  The investment is carried at cost. No ready market exists for
    the stock, and it has no quoted market value.

    Income  Taxes - The Bank and its  subsidiary  follow the  practice of filing
    consolidated income tax returns.  Income taxes are allocated to the Bank and
    subsidiary  as though  separate  returns  are  being  filed.  Bancorp  files
    separate income tax returns.

    The Company  utilizes  the  liability  method of  computing  income taxes in
    accordance  with  Statement  of  Financial   Accounting  Standard  No.  109,
    "Accounting  for Income  Taxes"  (SFAS  109).  Under the  liability  method,
    deferred tax  liabilities  and assets are  established for future tax return
    effects of  temporary  differences  between  the stated  value of assets and
    liabilities for financial  reporting purposes and their tax bases. The focus
    is on accruing the appropriate  balance sheet deferred tax amount,  with the
    statement  of income  effect  being the result of  changes in balance  sheet
    amounts from period to period.  Current income tax expense is provided based
    upon the actual tax liability incurred for tax return purposes.

    Cash Flow Information - As presented in the consolidated  statements of cash
    flows, cash and cash equivalents  include cash on hand and  interest-earning
    deposits in other banks. The Company considers all highly liquid instruments
    with original maturities of three months or less to be cash equivalents.

    Earnings  Per Share - Basic and  dilutive  earnings  per share  amounts  are
    computed in accordance with the Statement of Financial  Accounting Standards
    No 128, "Earnings per Share" (SFAS 128).  However,  since the initial public
    offering  was on May 29, 1997 and no common  stock had been issued  prior to
    that time,  management  believes  that  presentation  of earnings  per share
    information would not be meaningful for 1997.



<PAGE>


2.  Investment Securities
    ---------------------

    The amortized cost and estimated market values of investment  securities are
    summarized as follows:

<TABLE>
<CAPTION>
                                                         Gross         Gross        Estimated
                                          Amortized    Unrealized    Unrealized      Market
                                            Cost          Gains        Losses        Value
                                            ----          -----        ------        -----

<S>                                        <C>          <C>             <C>          <C>
    Securities  to be held to  maturity:
     December 31, 1996:
       U.S.  government security           $  398       $      --       $  102       $  296
       Municipal securities                   317              --           --       $  317
                                           ------       ---------       ------       ------

                                           $  715       $      --       $  102       $  613
                                           ======       =========       ======       ======
     December 31, 1997:
       U.S. government security            $  418       $      --       $   51       $  367
       Municipal securities                   159              --           --       $  159
                                           ------       ---------       ------       ------

                                           $  577       $      --       $   51       $  526
                                           ======       =========       ======       ======
    Securities  available for sale:
     December 31, 1996:
       U.S. government and
        agency securities                  $  599       $      --       $    2       $  597
                                           ======       =========       ======       ======

     December 31, 1997:
       U.S. government and
        agency securities                  $1,149       $      --       $    1       $1,148
                                           ======       =========       ======       ======

</TABLE>

    The  amortized  cost and  estimated  market  values  of debt  securities  by
    contractual maturity are as follows:
<TABLE>
<CAPTION>
                                           Amortized                   Estimated
                                              Cost                    Market Value
                                        -----------------           ----------------
                                          1996       1997             1996    1997
                                          ----       ----             ----    ----
<S>                                     <C>        <C>              <C>      <C>
    Securities  to be held to maturity:
     Due in one year                    $  127     $   34           $  127   $   34
     Due after one year through five
        years                              190        125              190      125
     Due after ten years                   398        418              296      367
                                        ------     ------           ------   ------

                                        $  715     $  577           $  613   $  526
                                        ======     ======           ======   ======

    Securities  available for sale:
     Due in one year                        --        900               --      899
     Due after one year through five
       years                               599        249              597      249
                                        ------     ------           ------   ------

                                        $  599     $1,149           $  597   $1,148
                                        ======     ======           ======   ======
</TABLE>

    The Bank had investment  securities with an amortized cost of  approximately
    $997,000 and $1,068,000  pledged  against  deposits at December 31, 1996 and
    1997, respectively.



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

    The Bank had no sales of  investment  securities  to be held to  maturity or
    available for sale for the years ended December 31, 1996 and 1997.

    The net unrealized losses on investment  securities  available for sale, net
    of  related  income  tax  benefits,  are  approximately  $1,100  and $600 at
    December  31, 1996 and 1997,  respectively,  and are  reported as a separate
    component of stockholders' equity.

3.  Loans Receivable
    ----------------

    Loans receivable are summarized as follows:
                                                             December 31,
                                                    ---------------------------
                                                        1996           1997
                                                        ----           ----
       Real estate first mortgage loans:
        One-to-four-family                          $     29,653   $     31,382
        Construction                                       1,125          1,600
        Commercial real estate                             1,288          1,433
        Multi-family residential                             912            687
        Land                                               1,732          2,982
                                                    ------------   ------------
           Total real estate loans                        34,710         38,084
                                                    ------------   ------------

       Consumer and commercial loans:
        Commercial business                                  558            425
        Auto loans                                         1,949          2,119
        Share loans                                          435            351
        Other                                                524            517
                                                    ------------   ------------
           Total consumer and commercial loans             3,466          3,412
                                                    ------------   ------------

           Total loans                                    38,176         41,496
                                                    ------------   ------------

       Less:
        Undisbursed portion of loans in process              942            429
        Net deferred loan fees                               122            118
        Allowance for loan losses                            304            301
                                                    ------------   ------------
                                                           1,368            848
                                                    ------------   ------------

                                                    $     36,808   $     40,648
                                                    ============   ============

    The Bank's  primary  lending  area for the  origination  of  mortgage  loans
    includes  Carter County and adjoining  counties.  The Bank limits  uninsured
    loans to 85% of the  appraised  value of the  property  securing  the  loan.
    Generally, the Bank allows loans covered by private mortgage insurance up to
    95% of the appraised value of the property securing the loan.

    The general policy is to limit loans on commercial real estate to 80% of the
    lesser of appraised value or construction  cost of the property securing the
    loan.


<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

    The Bank's  policy  requires that  consumer and other  installment  loans be
    supported  primarily  by the  borrower's  ability  to  repay  the  loan  and
    secondarily by the value of the collateral securing the loan, if any.

    Management of the Bank believes that its  allowances  for losses on its loan
    portfolio  are  adequate.  However,  the  estimates  used by  management  in
    determining  the adequacy of such  allowances are susceptible to significant
    changes due  primarily  to changes in  economic  and market  conditions.  In
    addition,   various  regulatory  agencies  periodically  review  the  Bank's
    allowance  for losses as an integral  part of their  examination  processes.
    Such agencies may require the Bank to recognize  additions to the allowances
    based on their  judgments  of  information  available to them at the time of
    their examinations.

    In accordance with SFAS No. 114,  "Accounting by Creditors for Impairment of
    a Loan",  no loans in  non-homogenous  groups were determined to be impaired
    for the year ended or as of  December  31,  1997.  Commercial  real  estate,
    multi-family  residential and land loans are included in the  non-homogenous
    group.

    First  mortgage loans which are  contractually  past due ninety days or more
    total  approximately  $295,000 at December 31, 1996 and $210,000 at December
    31, 1997. The amount the Bank will ultimately realize from these loans could
    differ materially from their carrying value because of unanticipated  future
    developments  affecting the underlying  collateral or the borrower's ability
    to repay the loans. If collection efforts are unsuccessful, these loans will
    be subject to foreclosure  proceedings  in the ordinary  course of business.
    Management believes that the Bank has adequate collateral on these loans and
    that the Bank will not incur material losses in the event of foreclosure.

    At December 31, 1997, the Bank had loans pledged  against public deposits of
    approximately $1.3 million.

    The changes in the allowance for loan losses are summarized as follows:

                                                     Years Ended December 31,
                                                    -------------------------
                                                        1996         1997
                                                        ----         ----

       Beginning balance                            $       279  $       304
       Provision charged to income                           30           10
       Recoveries                                             -            -
       Charge-offs                                           (5)         (13)
                                                    -----------  -----------

       Ending balance                               $       304  $       301
                                                    ===========  ===========



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

4.  Mortgage-Backed Securities
    --------------------------

    Mortgage-backed securities are summarized as follows:

                                              Gross       Gross     Estimated
                                Amortized   Unrealized  Unrealized   Market
                                   Cost        Gains      Losses      Value
                                   ----        -----      ------      -----
       Securities  available
         for sale:
        December 31, 1996:
          GNMA                   $     812   $       4  $       6  $     810
          FHLMC                         78           3          -         81
          FHLMC REMIC's              2,222           -         79      2,143
          FNMA                         717           3         19        701
          FNMA REMIC's               2,112           -         79      2,033
                                 ---------   ---------  ---------  ---------

                                 $   5,941   $      10  $     183  $   5,768
                                 =========   =========  =========  =========
        December 31, 1997:
          GNMA                   $     685   $       5  $       2  $     688
          FHLMC                         67           2          -         69
          FHLMC REMIC's              1,765           -         28      1,737
          FNMA                         624           2         12        614
          FNMA REMIC's               1,976           -         54      1,922
                                 ---------   ---------  ---------  ---------

                                 $   5,117   $       9  $      96  $   5,030
                                 =========   =========  =========  =========

    Although  mortgage-backed  securities  are  initially  issued  with a stated
    maturity  date,  the  underlying  mortgage  collateral may be prepaid by the
    mortgagee and, therefore, such securities may not reach their maturity date.

    The  Bank  had   mortgage-backed   securities  with  an  amortized  cost  of
    approximately  $2,480,000 and $2,232,000  pledged against  deposits and FHLB
    advances at December 31, 1996 and 1997, respectively.

    For the year ended December 31, 1996, proceeds from sales of mortgage-backed
    securities  were  $372,000,  with realized  losses of $2,000.  There were no
    sales of mortgage-backed securities for the year ended December 31, 1997.

    The  net  unrealized  losses,  net  of  related  income  tax  benefits,  are
    approximately  $107,000 and $52,000,  respectively  at December 31, 1996 and
    1997, and are reported as a separate component of stockholders' equity.


<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

5.  Real Estate
    -----------

    Real estate is summarized as follows:
                                                           December 31,
                                                    -------------------------
                                                        1996         1997
                                                        ----         ----

        Real estate acquired in settlement of loans  $        60  $         -
                                                     ===========  ===========


6.  Premises and Equipment
    ----------------------

    Premises and equipment are summarized as follows:
                                                           December 31,
                                                    -------------------------
                                                        1996         1997
                                                        ----         ----

       Land and improvements                        $       202  $       202
       Buildings                                            790          840
       Vehicles                                              17           17
       Furniture, fixtures and equipment                    541          586
                                                    -----------  -----------
                                                          1,550        1,645
       Less accumulated depreciation                      1,017        1,070
                                                    -----------  -----------

                                                    $       533  $       575
                                                    ===========  ===========

7.  Interest Receivable
    -------------------

    Interest receivable consists of the following:
                                                           December 31,
                                                    -------------------------
                                                        1996         1997
                                                        ----         ----

       Loans receivable                             $       220  $       258
       Investments                                           10           21
       Mortgage-backed securities                            33           25
       Interest earning deposits                              -           22
                                                    -----------  -----------
                                                            263          326
       Less allowance for uncollectible interest              6           10
                                                    -----------  -----------

                                                    $       257  $       316
                                                    ===========  ===========



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------


8.  Deposits
    --------

    Deposit account balances are summarized as follows:
                                                             Weighted Average
                                                              Interest Rates
                                                           --------------------
                                   December 31,                 December 31,
                                ----------------------     --------------------
                                   1996        1997           1996      1997
                                   ----        ----           ----      ----
       Noninterest bearing
        accounts                $      793  $    1,969           -%        -%
       NOW accounts                  2,194       2,669        1.99%     2.03%
       Money Market accounts         1,622       1,983        3.03%     4.28%
       Passbook accounts             4,502       4,351        3.04%     3.05%
       Certificates of deposit      31,654      29,615        5.55%     5.69%
                                ----------  ----------

                                $   40,765  $   40,587        4.87%     4.80%
                                ==========  ==========        ====      ====

    Contractual maturities of certificate accounts are summarized as follows:

                                                           December 31,
                                                  ----------------------------
                                                        1996         1997
                                                        ----         ----

       12 months or less                            $    25,851  $    25,223
       After 1 but within 3 years                         4,786        4,150
       After 3 years                                      1,017          242
                                                    -----------  -----------

                                                    $    31,654  $    29,615
                                                    ===========  ===========

    The  Bank  had   deposit   accounts  in  amounts  of  $100,000  or  more  of
    approximately $10.1 million at December 31, 1996 and 1997, respectively.

    Interest expense on deposits consisted of the following:

                                                     Years Ended December 31,
                                                    -------------------------
                                                        1996         1997
                                                        ----         ----
      NOW, money market, and passbook accounts      $       232  $       262
       Certificate accounts                               1,747        1,726
                                                    -----------  -----------
                                                          1,979        1,988
       Less: penalties for early withdrawal                   4            4
                                                    -----------  -----------
           Total interest on deposits               $     1,975  $     1,984
                                                    ===========  ===========

<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------


9.  Federal Home Loan Bank Advances
    -------------------------------

    Advances from the Federal Home Loan Bank (FHLB) are summarized as follows:

                                                           December 31,
                                                    --------------------------
       Contractual Maturity                             1996           1997
       --------------------                             ----           ----
       Within one year:
        Variable rate                               $       800     $      -
                                                    ===========     ========
       Weighted average rate                               5.85%           -%
                                                    ===========     ========

    The Bank pledges as collateral for these borrowings its FHLB stock, selected
    qualifying   mortgage   loans  (as  defined)  and  certain   mortgage-backed
    securities  (see Note 4) under an agreement with the FHLB.  Loans pledged at
    December 31, 1997, were approximately $1 million.

    The Bank has total credit availability with the FHLB of up to $2.3 million.

10. Income Taxes
    ------------

    Income tax expense(benefit) is summarized as follows:

                                   Years Ended December 31,
                 ---------------------------------------------------------------
                              1996                             1997
                 -------------------------------  ------------------------------
                  Federal    State      Total      Federal    State      Total
                  -------    -----      -----      -------    -----      -----

       Current   $    136  $     27   $    163    $    303  $     37   $    340
       Deferred        (5)       (1)        (6)         (2)       31         29
                 --------  --------   --------    --------  --------   --------

           Total $    131  $     26   $    157    $    301  $     68   $    369
                 ========  ========   ========    ========  ========   ========

    The differences between actual income tax expense and the amount computed by
    applying  the  federal  statutory  income  tax rate of 34% to income  before
    income taxes are reconciled as follows:
                                                     Years Ended December 31,
                                                    ----------------------------
                                                        1996          1997
                                                        ----          ----

       Computed income tax expense                  $        142  $        326
       Increase (decrease) resulting from:
        State   income  tax,  net  of  federal
         tax benefit                                          17            45
        Other                                                 (2)           (2)
                                                     -----------   -----------

       Actual income tax expense                    $        157  $        369
                                                     ===========   ===========



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

    The components of net deferred tax liabilities are as follows:
                                                           December 31,
                                                    ----------------------------
                                                        1996          1997
                                                        ----          ----
       Deferred tax liabilities:
        Section 481(a) adjustment--bad debts        $         84  $         84
        Excess tax depreciation                               14            13
        FHLB stock dividends                                  32            43
        Purchased discounts on mortgage-backed
          securities                                           8             9
                                                    ------------  ------------
                                                             138           149
                                                    ------------  ------------

       Deferred tax assets:
        Bad debt reserves                                     62            43
        Accrued sick leave                                     5             5
        Unrealized losses on securities available
          for sale                                            67            35
        Other                                                  3             4
        Valuation allowance                                    -             -
                                                    ------------  ------------
                                                             137            87
                                                    ------------  ------------

           Net deferred tax liability               $          1  $         62
                                                    ============  ============

    The Bank's  annual  addition to its reserve for bad debts  allowed under the
    Internal Revenue Code may differ  significantly from the bad debt experience
    used for financial statement  purposes.  Such bad debt deductions for income
    tax purposes  are included in taxable  income of later years only if the bad
    debt  reserves are used for  purposes  other than to absorb bad debt losses.
    Since the Bank does not intend to use the reserve for purposes other than to
    absorb losses,  no deferred income taxes have been provided on the amount of
    bad debt reserves for tax purposes that arose in tax years beginning  before
    December 31, 1987,  in  accordance  with SFAS No. 109.  Therefore,  retained
    earnings at December  31, 1996 and 1997,  includes  approximately  $825,000,
    representing  such bad debt  deductions  for which no deferred  income taxes
    have been provided.

    With the  repeal of the  reserve  method of  accounting  for thrift bad debt
    reserves for tax years beginning after December 31, 1995, the Bank will have
    to recapture  into  taxable  income its  post-1987  excess  reserves  over a
    six-year period. The Bank currently meets a recapture provision which allows
    it to delay  the  start  of the  recapture  period  due to  qualifying  loan
    origination  volume.  The amount of the  post-1987  excess is  approximately
    $246,000.  Since the tax effect of this excess had been previously  recorded
    as  deferred  income  taxes,  the Bank will have no  material  impact on its
    results of operations when the excess reserves are recaptured.

11. Stockholders' Equity
    --------------------

    Bancorp was  incorporated  under  Tennessee law in March 1997 to acquire and
    hold all the  outstanding  common  stock of the Bank,  as part of the Bank's
    conversion  from a federally  chartered  mutual  savings bank to a federally
    chartered stock savings bank. In connection  with the conversion,  which was
    consummated  on May 29,  1997,  Bancorp  issued and sold  767,000

<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

    shares of common stock at a price of $10.00 per share for total net proceeds
    of  approximately  $6.8 million after  conversion  expenses of approximately
    $286,000 and excluding the shares  purchased by the ESOP.  Bancorp  retained
    approximately  $3.1 million of the proceeds and used the remaining  proceeds
    to purchase the newly issued capital stock of the Bank in the amount of $3.7
    million and to make a loan to the ESOP of approximately $614,000.

    At the time of conversion,  the Bank established a liquidation account in an
    amount equal to its retained income as reflected in the latest  consolidated
    balance  sheet  used in the final  conversion  prospectus.  The  liquidation
    account is  maintained  for the  benefit of  eligible  account  holders  who
    continue to maintain their deposit accounts in the Bank after conversion. In
    the event of a complete liquidation of the Bank (and only in such an event),
    eligible  depositors who continue to maintain  accounts shall be entitled to
    receive a distribution  from the liquidation  account before any liquidation
    may be made with respect to common stock.

    The Bank may not declare or pay a cash dividend if the effect  thereof would
    cause its net worth to be reduced below either the amounts  required for the
    liquidation  account discussed above or the regulatory capital  requirements
    imposed by federal and state regulations.

12. Regulatory Matters
    ------------------

    The Bank is subject to various regulatory capital requirements  administered
    by the Office of Thrift Supervision  (OTS).  Failure to meet minimum capital
    requirements  can  initiate  certain  mandatory,   and  possibly  additional
    discretionary actions by regulators that, if undertaken, could have a direct
    material effect on the Bank's financial  statements.  Under capital adequacy
    guidelines and the regulatory  framework for prompt corrective  action,  the
    Bank  must  meet  specific  capital  guidelines  that  involve  quantitative
    measures of the Bank's assets,  liabilities,  and certain  off-balance sheet
    items as  calculated  under  regulatory  accounting  practices.  The  Bank's
    capital amounts and classification are also subject to qualitative judgments
    by the regulators about components, risk weightings, and other factors.

    Quantitative  measures  established by regulation to ensure capital adequacy
    require  the Bank to maintain  minimum  amounts and ratios (set forth in the
    table below) of tangible and core capital (as defined in the regulations) to
    adjusted total assets (as defined),  and of risk-based  capital (as defined)
    to risk-weighted assets (as defined).  Management  believes,  as of December
    31, 1997, that the Bank meets all capital adequacy  requirements to which it
    is subject.

    As of  December  31,  1997,  the  most  recent  notification  from  the  OTS
    categorized the Bank as well capitalized under the regulatory  framework for
    prompt  corrective  action.  To be categorized as well  capitalized the Bank
    must maintain  minimum total  tangible,  core, and risk-based  ratios as set
    forth  in  the  table.   There  are  no  conditions  or  events  since  that
    notification  that  management   believes  have  changed  the  institution's
    category.


<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

    The following tables reconciles the Bank's capital under generally  accepted
    accounting principles (GAAP) to regulatory capital:

                                        Tangible        Core      Risk-Based
                                         Capital      Capital       Capital
                                         -------      -------       -------

       At December 31, 1996:
        Total stockholder's equity    $     4,676   $     4,676  $     4,676
        Unrealized losses on
         securities, net                      108           108          108

        Additional capital:
          General valuation allowance           -             -          304
                                      -----------   -----------  -----------

        Regulatory capital            $     4,784   $     4,784  $     5,088
                                      ===========   ===========  ===========

       At December 31, 1997:
        Total stockholder's equity    $     8,418   $     8,418  $     8,418
        Unrealized losses on
         securities, net                       53            53           53

        Additional capital:
          General valuation allowance           -             -          301
                                      -----------   -----------  -----------

        Regulatory capital            $     8,471   $     8,471  $     8,772
                                      ===========   ===========  ===========

    The  Bank's  actual  capital  amounts  (in  thousands)  and  ratios are also
    presented  in  the   following   table.   No  deduction   from  capital  for
    interest-rate risk was required.

<TABLE>
<CAPTION>
                                                                           To Be Well
                                                  For Capital           Capitalized Under
                                                    Adequacy            Prompt Corrective
                                   Actual           Purposes            Action Provisions
                             ------------------  ------------------   --------------------
                             Amount      Ratio    Amount   Ratio(1)    Amount     Ratio(1)
                             ------      ------  -------- ---------    ------     --------
<S>                           <C>        <C>      <C>      <C>          <C>         <C>
As of December 31, 1996:
   Tangible Capital (to
    adjusted total assets)    $4,784     10.2%    $  701   1.5%         $2,338       5%
   Core Capital (to
    adjusted total assets)    $4,784     10.2%    $1,402   3.0%         $2,338       5%
   Risk-Based (to risk-
    weighted assets)          $5,088     20.2%    $2,014   8.0%         $2,518      10%

  As of December 31, 1997:
   Tangible Capital (to
     adjusted total assets)   $8,471     16.9%    $  754   1.5%         $2,513       5%
   Core Capital (to adjusted
    total assets)             $8,471     16.9%    $1,508   3.0%         $2,513       5%
   Risk-Based  (to risk-
    weighted assets           $8,772     30.9%    $2,271   8.0%         $2,839      10%

</TABLE>
---------------
(1) Compliance  with the  requirement  results from a value that must be greater
    than or equal to the ratio shown.


<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

13. Pension Plan
    ------------

    The Bank's non-contributory defined contribution pension plan was amended as
    of January 1, 1997 to convert it to a 401(k)  employee  savings plan.  Total
    pension  expense  was  $29,000  for the year ended  December  31,  1996.  No
    contributions were made to the plan for the year ended December 31, 1997.

14. Employee Stock Ownership Plan (ESOP)
    ------------------------------------

    As part of the conversion  discussed in Note 11, an Employee Stock Ownership
    Plan (ESOP) was  established  for all employees who have attained the age of
    21 and have been  credited  with at least  1,000  hours of service  during a
    12-month period. The ESOP borrowed  approximately  $614,000 from Bancorp and
    used the funds to purchase  61,360 shares of common stock of Bancorp  issued
    in the  offering.  The loan  will be  repaid  principally  from  the  Bank's
    discretionary  contributions  to the ESOP  over a  period  of 10  years.  On
    December  31, 1997,  the loan had an  outstanding  balance of  approximately
    $552,000 and an interest  rate of 8.5%.  The loan  obligation of the ESOP is
    considered  unearned  compensation and, as such,  recorded as a reduction of
    the  Company's  stockholders'  equity.  Both  the  loan  obligation  and the
    unearned  compensation  are reduced by an amount of the loan repayments made
    by the ESOP.  Shares purchased with the loan proceeds are held in a suspense
    account  for  allocation   among   participants   as  the  loan  is  repaid.
    Contributions  to the ESOP and shares released from the suspense account are
    allocated  among  participants  on the basis of  compensation in the year of
    allocation.  Benefits  become  fully  vested  at the end of  seven  years of
    service  under the terms of the ESOP  Plan.  Benefits  may be  payable  upon
    retirement,  death, disability, or separation from service. Since the Bank's
    annual  contributions  are  discretionary,  benefits  payable under the ESOP
    cannot be estimated. Compensation expense is recognized to the extent of the
    fair value of shares committed to be released.

    For the year ending December 31, 1997,  compensation  related to the ESOP of
    approximately  $91,000  was  expensed.  Compensation  is  recognized  at the
    average  fair value of the ratably  released  shares  during the  accounting
    period as the employees performed  services.  At December 31, 1997, the ESOP
    had approximately  6,130 allocated shares and 55,230 unallocated shares. The
    fair value of unallocated ESOP shares at December 31, 1997 was approximately
    $800,000.

    The ESOP  administrators  will determine  whether dividends on allocated and
    unallocated  shares will be used for debt service.  Any allocated  dividends
    used will be replaced  with common stock of equal value.  For the purpose of
    computing  earnings per share, all ESOP shares committed to be released will
    be considered outstanding.


<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

15. Employment and Change of Control Agreement
    ------------------------------------------

    The Bank entered into an  employment  agreement  with a key officer in 1996.
    The employment  agreement  provides for three-year terms.  Commencing on the
    first anniversary date and continuing each anniversary date thereafter,  the
    board of directors may extend the  agreement for an additional  year so that
    the  remaining  term  shall  be  three  years,   unless  written  notice  of
    termination  of the  agreement  is  given  by  the  executive  officer.  The
    agreement provides for severance payments and other benefits in the event of
    involuntary  termination  of  employment  in  connection  with any change in
    control of the Bank. A severance  payment will also be provided on a similar
    basis  in  connection  with  voluntary   termination  of  employment  where,
    subsequent  to  a  change  in  control,   the  officer  is  assigned  duties
    inconsistent  with  their  position,  duties,  responsibilities  and  status
    immediately  prior to such change in control.  The  severance  payment  will
    equal 2.99 times the executive  officer's base amount of annual compensation
    as defined under the Internal Revenue Code. The payment of amounts under the
    agreement may be paid within 30 days of such  termination,  discounted at an
    agreed upon rate, or in equal  installments over thirty-six months. The Bank
    has not accrued any benefits under this postemployment agreement.

16. Financial Instruments with Off-Balance-Sheet Risk
    -------------------------------------------------

    The Bank is a party to financial instruments with  off-balance-sheet risk in
    the normal course of business to meet the financing  needs of its customers.
    These financial  instruments  include commitments to extend credit and lines
    of credit. Those instruments involve, to varying degrees, elements of credit
    and  interest-rate  risk in excess of the amount recognized in the statement
    of financial position. The contract or notional amounts of those instruments
    reflect  the  extent of the  Bank's  involvement  in  particular  classes of
    financial instruments.

    The Bank's  exposure  to credit loss in the event of  nonperformance  by the
    other party to the financial instrument for commitments to extend credit and
    lines of credit is represented by the  contractual  notional amount of those
    instruments.  The Bank uses the same credit  policies in making  commitments
    and conditional obligations as it does for on-balance-sheet instruments.

    Financial  instruments,  the contract amounts of which represent credit risk
    for lines and  letters of  credit,  the  balances  outstanding  and  amounts
    available for use at December 31, 1997,  were  approximately  as follows (in
    thousands):
                                       Financial      Balance       Available
                                      Instruments   Outstanding      For Use
                                      -----------   -----------      -------

       Consumer and other lines      $      1,312  $      1,003   $        309
       Letters of credit                      163             1            162
                                     ------------  ------------   ------------

                                     $      1,475  $      1,004   $        471
                                     ============  ============   ============



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

    Commitments to extend credit are agreements to lend to a customer as long as
    there  is no  violation  of  any  condition  established  in  the  contract.
    Commitments  generally  have  fixed  expiration  dates or other  termination
    clauses and may require  payment of a fee. Since many of the commitments are
    expected to expire without being drawn upon, the total commitment amounts do
    not necessarily represent future cash requirements.  The Bank evaluates each
    customer's  creditworthiness.  The amount of collateral  obtained,  if it is
    deemed  necessary  by the  Bank  upon  extension  of  credit,  is  based  on
    management's  credit evaluation of the counterparty.  Collateral may include
    first  and  second  mortgages;  property,  plant,  and  equipment;  accounts
    receivable;  deposit accounts;  and income-producing  commercial properties.
    The Bank does not anticipate any losses as a result of these transactions.

    The Bank had  outstanding  commitments  to  originate  mortgage and consumer
    loans of approximately  $400,000 and $490,000 at December 31, 1996 and 1997,
    respectively.  The  commitments to originate  mortgage loans at December 31,
    1996, were composed of fixed rate loans that had interest rates ranging from
    7.625 % to 8.00 % and terms ranging from 1 to 15 years.  The  commitments to
    originate  mortgage loans at December 31, 1997,  were composed of fixed rate
    loans of $390,000 and a variable rate loan of $100,000. The fixed rate loans
    had interest rates ranging from 7.5% to 9.25% and terms ranging from 7 to 15
    years.

17. Deposit Insurance Assessment
    ----------------------------

    The Bank  incurred an expense for the year ended  December  31, 1996 for the
    one-time  special  assessment  levied by the omnibus  appropriation  bill to
    recapitalize  the SAIF insurance  fund.  The special  assessment for deposit
    insurance premiums was approximately  $264,000,  with an after tax impact of
    approximately  $164,000.  Effective  January 1, 1997,  the Bank began paying
    reduced  premium  assessments  in  accordance  with the new SAIF  assessment
    rates.

18. Financial Instruments
    ---------------------

    The approximate stated and estimated fair value of financial instruments are
    summarized below (in thousands of dollars):


                                                  December 31,
                                  ----------------------------------------------
                                          1996                    1997
                                  ----------------------  ----------------------
                                    Stated   Estimated      Stated   Estimated
                                    Amount   Fair Value     Amount   Fair Value
                                    ------   ----------     ------   ----------
       Financial assets:
        Cash and cash equivalents  $ 1,414    $ 1,414      $ 4,592    $ 4,592
        Investment securities          715        613          577        526
        Loans receivable, net       36,808     39,042       40,648     41,502
        Federal Home Loan Bank
          stock                        394        394          423        423
        Other assets                   257        257          294        294
                                   -------    -------      -------    -------

                                   $39,588    $41,720      $46,534    $47,337
                                   =======    =======      =======    =======



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------


                                                    December 31
                                  ----------------------------------------------
                                          1996                    1997
                                  ----------------------  ----------------------
                                    Stated   Estimated     Stated    Estimated
                                    Amount   Fair Value    Amount    Fair Value
                                  --------   ----------  ---------   ----------
       Financial liabilities:
        Deposits:
          Demand accounts         $  9,111   $  9,111    $  10,972   $ 10,972
          Certificate accounts      31,654     31,761       29,615     29,674
        Advances from Federal
          Home Loan Bank               800        800            -          -
        Other liabilities              256        256          263        263
                                  --------   --------    ---------   --------

                                  $ 41,821   $ 41,928    $  40,850   $ 40,909
                                  ========   ========    =========   ========

    The Bank had off-balance  sheet financial  commitments at December 31, 1997,
    which include  approximately  $961,000 of  commitments to originate and fund
    loans and unused consumer lines of credit and letters of credit. Since these
    commitments  are based on current  market rates,  the  commitment  amount is
    considered to be a reasonable estimate of fair market value.

    Statement of Financial Accounting Standards No. 107, "Disclosures about Fair
    Value of Financial  Instruments"  (SFAS 107),  requires  disclosure  of fair
    value information about financial instruments,  whether or not recognized in
    the balance sheet,  for which it is practicable to estimate that value.  The
    following  methods and  assumptions  were used by the Bank in estimating its
    fair value disclosures for financial instruments:

    Cash and Cash  Equivalents  - The  carrying  amount of such  instruments  is
    deemed to be a reasonable estimate of fair value.

    Investments  - Fair  values for  investment  securities  are based on quoted
    market prices.

    Loans  - Fair  values  for  loans  held  for  investment  are  estimated  by
    segregating  the portfolio by type of loan and  discounting  scheduled  cash
    flows using  interest rates  currently  being offered for loans with similar
    terms, reduced by an estimate of credit losses inherent in the portfolio.  A
    prepayment  assumption  is used as an  estimate of the portion of loans that
    will be repaid prior to their scheduled maturity.

    Federal Home Loan Bank Stock - No ready market  exists for this stock and it
    has  no  quoted  market  value.  However,   redemption  of  this  stock  has
    historically been at par value.  Accordingly,  the carrying amount is deemed
    to be a reasonable estimate of fair value.



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

    Deposits - The fair values disclosed for demand deposits are, as required by
    SFAS 107,  equal to the  amounts  payable  on demand at the  reporting  date
    (i.e., their stated amounts).  The fair value of certificates of deposit are
    estimated by discounting the amounts payable at the certificate  rates using
    the rates currently offered for deposits of similar remaining maturities.

    Advances From the FHLB - The estimated  fair value of advances from the FHLB
    is based on discounting  amounts payable at contractual  rates using current
    market rates for advances with similar maturities.

    Other Assets and Other Liabilities - Other assets represent accrued interest
    receivable;  other liabilities  represent  advances from borrowers for taxes
    and  insurance  and  accrued   interest   payable.   Since  these  financial
    instruments  will  typically  be received or paid within three  months,  the
    carrying amounts of such instruments are deemed to be a reasonable  estimate
    of fair value.

    Fair value estimates are made at a specific point of time, based on relevant
    market  information and information  about the financial  instrument.  These
    estimates  do not reflect any  premium or  discount  that could  result from
    offering  for sale the Bank's  entire  holdings  of a  particular  financial
    instrument. Because no active market exists for a significant portion of the
    Bank's  financial  instruments,  fair value estimates are based on judgments
    regarding  future expected loss  experience,  current  economic  conditions,
    current  interest  rates and  prepayment  trends,  risk  characteristics  of
    various  financial  instruments,  and other  factors.  These  estimates  are
    subjective in nature and involve  uncertainties  and matters of  significant
    judgment and therefore  cannot be determined with precision.  Changes in any
    of these  assumptions  used in  calculating  fair value  also  would  affect
    significantly  the  estimates.   Further,  the  fair  value  estimates  were
    calculated  as of  December  31, 1996 and 1997.  Changes in market  interest
    rates and prepayment  assumptions  could change  significantly the estimated
    fair value.

    Fair  value  estimates  are  based  on  existing  on and  off-balance  sheet
    financial   instruments   without   attempting  to  estimate  the  value  of
    anticipated future business and the value of assets and liabilities that are
    not considered financial instruments.  For example, the Bank has significant
    assets  and  liabilities  that  are  not  considered   financial  assets  or
    liabilities  including deposit  franchise value,  loan servicing  portfolio,
    real estate,  deferred tax  liabilities,  and  premises  and  equipment.  In
    addition, the tax ramifications related to the realization of the unrealized
    gains and losses can have a significant  effect on fair value  estimates and
    have not been considered in any of these estimates.


<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

19. Condensed Parent Company Only Financial Statements
    --------------------------------------------------

    The following condensed balance sheet as of December 31, 1997, and condensed
    statements  of income  and cash flows for the  period  from May 29,  1997 to
    December 31, 1997, for SFB Bancorp,  Inc. should be read in conjunction with
    the consolidated financial statements and the notes thereto.

       Parent Company Only
       Condensed Balance Sheet                                    December 31,
       (in thousands)                                                 1997
                                                                  --------------

        Assets:
          Cash and cash equivalents                               $      2,673
          Investment securities available for sale                         500
          ESOP loan receivable                                             552
          Equity in net assets of bank subsidiary                        8,418
          Other assets                                                      46
                                                                  ------------

             Total assets                                         $     12,189
                                                                  ============

        Liabilities
          Accrued liabilities                                     $          8
                                                                  ------------

        Stockholders' equity:
          Common stockholders' equity                                   12,181
                                                                  ------------

             Total liabilities and stockholders' equity           $     12,189
                                                                  ============

       Parent Company Only                                        Period Ended
       Condensed Statement of Income                              December 31,
       (in thousands)                                                 1997
                                                                  --------------

        Interest income                                           $        122
        Noninterest expense                                                 26
                                                                  ------------
           Income before taxes                                              96
        Income tax expense                                                  25
                                                                  ------------
           Income before equity earnings                                    71
        Equity earnings of bank subsidiary                                 357
                                                                  ------------

           Net income                                             $        428
                                                                  ============



<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
--------------------------------------------------------------------------------

       Parent Company Only                                        Period Ended
       Condensed Statement of Cash Flows                          December 31,
       (in thousands)                                                 1997
                                                                  --------------

        Operating activities:
          Net income                                              $        428
          Adjustments to reconcile net income to net
           cash provided by operating activities:
           Undistributed equity earnings of bank subsidiary               (357)
           Increase in other assets                                        (46)
           Increase in accrued liabilities                                   8
                                                                  ------------
             Net cash provided by operating activities                      33
                                                                  ------------

        Investing activities:
          Loan to ESOP                                            $       (614)
          Principal repayment by ESOP                                       62
          Purchase of investment securities                               (500)
          Purchase of capital stock of bank subsidiary                  (3,078)
                                                                  ------------
           Net cash used by investing activities                        (4,130)
                                                                  ------------

        Financing activities:
          Net proceeds from issuance of common stock                     6,770
                                                                  ------------
             Net cash provided by financing activities                   6,770
                                                                  ------------
        Net increase in cash and cash equivalents                        2,673

        Cash at beginning of period                                          -
                                                                  ------------

        Cash at end of period                                     $      2,673
                                                                  ============

        Supplemental disclosures:
          Cash paid during the period for:
           Income taxes                                           $         34
                                                                  ============

          Noncash investing and financing activities:
           Pooling of bank subsidiary's equity                    $      4,983
                                                                  ============




<PAGE>


                              CORPORATE INFOMATION

                               EXECUTIVE OFFICERS:
                               ------------------
<TABLE>
<CAPTION>

<S>                                 <C>                          <C>
Peter W. Hampton                    John R. Crockett, Jr.        Peter W. Hampton, Jr.
President/Chief Executive Officer   Treasurer                    Secretary
</TABLE>


                                   DIRECTORS:
                                   ---------

         Donald W. Tetrick, Chairman        Peter W. Hampton, Jr., Vice Chairman
         Retired Funeral Home Director      Attorney, Hampton & Street

         Peter W. Hampton                   John R. Crockett, Jr.
         Executive Officer                  Retired Realtor

         Estill L. Caudill, Jr.             Julian T. Caudill
         Retired Physician                  Retired Pharmacist


Stock Transfer Agent                        Special Legal Counsel
Registrar and Transfer Company              Malizia, Spidi, Sloane & Fisch, P.C.
10 Commerce Drive                           1301 K. Street, N.W.
Cranford, NJ 07016-3572                     Washington, D.C. 20005

Local Counsel                               Independent Auditors
Hampton & Street                            Crisp Hughes Evans LLP
630 East Elk Avenue                         32 Orange Street
Elizabethton, TN 37643                       Asheville, NC 28801


                                 Annual Meeting

The 1998 annual  meeting of  stockholders  of SFB Bancorp,  Inc. will be held at
2:00 p.m.  on June 1,  1998 at the  Company's  corporate  office at 632 East Elk
Avenue, Elizabethton, TN.

                                   Form 10-KSB

A copy of Form 10-KSB as filed with the Securities and Exchange  Commission will
be furnished  without charge to the Company's  stockholders upon written request
to SFB Bancorp, Inc., 632 East Elk Avenue, Elizabethton, TN 37643.

                                Corporate Office

                                SFB Bancorp, Inc.
                               632 East Elk Avenue
                             Elizabethton, TN 37643


                                       38