<PAGE>



Corporate Profile
-----------------

         SFB Bancorp,  Inc. (the "Company") is a Tennessee corporation organized
in March 1997 at the direction of Security  Federal Bank (the "Bank") to acquire
all of the capital stock that the Bank issued in its conversion  from the mutual
to  stock  form of  ownership  (the  "Conversion").  On May 29,  1997,  the Bank
completed the  Conversion  and became a wholly owned  subsidiary of the Company.
The Company is a unitary savings and loan holding company which,  under existing
laws,  generally is not restricted in the types of business  activities in which
it may engage provided that the Bank retains a specified amount of its assets in
housing-related  investments.  The Company  conducts no significant  business or
operations  of its own other than  holding all of the  outstanding  stock of the
Bank and  investing the  Company's  portion of the net proceeds  obtained in the
Conversion.

         The Bank, chartered in 1963 under the name Security Federal Savings and
Loan Association,  is a federally  chartered stock savings bank headquartered in
Elizabethton,  Tennessee.  The Bank is subject to examination and  comprehensive
regulation  by the Office of Thrift  Supervision  ("OTS") and its  deposits  are
federally  insured by the Savings  Association  Insurance  Fund  ("SAIF") of the
Federal Deposit Insurance  Corporation (the "FDIC"). The Bank is a member of and
owns capital  stock in the FHLB of  Cincinnati,  which is one of the 12 regional
banks in the FHLB System. The Bank operates a traditional savings bank business,
attracting  deposit  accounts from the general public and using those  deposits,
together with other funds, primarily to originate and invest in loans secured by
single-family  residential real estate primarily in Carter County, Tennessee and
the adjacent Tennessee counties of Johnson, Unicoi, Washington and Sullivan.

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, 1998.  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  $    -
         July 1, 1997 - September 30, 1997    $15.50   $14.00  $    -
         October 1, 1997 - December 31, 199   $15.63   $14.00  $    -
         January 1, 1998 - March 31, 1998     $16.50   $15.50  $    -
         April 1, 1998 - June 30, 1998        $17.25   $16.61  $ 0.10
         July 1, 1998 - September 30, 1998    $17.25   $13.75  $    -
         October 1, 1998 - December 31, 1998  $13.00   $11.50  $ 0.10
         

         The  number  of  shareholders  of  record  as of March  15,  1999,  was
approximately  165.  This does not reflect the number of persons or entities who
held stock in "street" name through various  brokerage firms. At March 15, 1999,
there were 692,217 shares outstanding.

                                       2
<PAGE>

         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.

                                       3
<PAGE>



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

General

The  Private  Securities  Litigation  Reform Act to 1995  contains  safe  harbor
provisions regarding forward-looking  statements.  When used in this discussion,
the words  "believes",  "anticipates",  "contemplates"  "expects",  and  similar
expressions are intended to identify forward-looking statements. Such statements
are subject to certain risks and uncertainties  which could cause actual results
to differ materially from those projected. Those risks and uncertainties include
changes in  interest  rates,  risk  associated  with the effect of opening a new
branch,  the  ability  to  control  costs and  expenses,  and  general  economic
conditions. The Company undertakes no obligation to publicly release the results
of any  revisions  to those  forward  looking  statements  which  may be made to
reflect  events  or  circumstances  after  the date  hereof  or to  reflect  the
occurrence of unanticipated events.

The following discussion and analysis is intended to assist in understanding the
financial condition and the results of operations of the Company.  References to
the "Company" include SFB Bancorp, Inc. and/or the Bank as appropriate.

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 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  77% of the loan  portfolio  at December  31,  1998.  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, 1998, the estimated average weighted term to maturity of the Bank's mortgage
loan  portfolio was slightly over 11 years and the  estimated  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, 1998.

    Changes in  Rates           NPV Ratio %(1)           Change(2)
    -----------------           --------------           ---------
         +400 bp                    13.97                 -502 bp
         +300 bp                    15.46                 -352 bp
         +200 bp                    16.90                 -208 bp
         +100 bp                    18.13                 - 85 bp
            0 bp                    18.98                    0 bp
         -100 bp                    19.50                 + 51 bp
         -200 bp                    19.99                 +101 bp
         -300 bp                    20.64                 +166 bp
         -400 bp                    21.22                 +224 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,
                                           ---------------------------------------------------
                                                     1997                       1998
                                           ------------------------- -------------------------
                                           Average           Average Average           Average
                                            Balance Interest  Yield/ Balance Interest   Yield/
                                                               Cost                      Cost
                                           -------- ------- -------- ------- -------- --------
                                                            (Dollars in Thousands)
<S>                                       <C>      <C>       <C>    <C>      <C>       <C>  
Interest-earning assets:
  Loans receivable(1)......................$38,701  $3,253    8.41%  $40,608  $3,409    8.39%
  Investment securities ...................  1,293      81     6.26    2,971     154     5.18
  Interest-earning deposits................  3,426     175     5.11    3,053     158     5.18
  Federal Home Loan Bank stock.............    407      29     7.13      437      31     7.14
  Mortgage-backed securities...............  5,392     312     5.79    4,287     237     5.53
                                             -----   -----             -----   -----
Total interest-earning assets.............. 49,219   3,850     7.82   51,356   3,989     7.77
                                                     -----                     -----
Non-interest-earning assets................  1,701                     1,549
                                             -----                     -----
Total assets                               $50,920                   $52,905
                                            ======                    ======
Interest-bearing liabilities:
  Interest-bearing demand deposits.........$10,245     262     2.56   $9,667     249     2.58
  Certificates of deposit.................. 30,869   1,722     5.58   30,427   1,710     5.62
  Short-term borrowings....................     50       3     6.00        -       -        -
                                            ------  ------            ------  ------
Total interest-bearing liabilities......... 41,164   1,987     4.83   40,094   1,959     4.89
                                                     -----                     -----
Non-interest-bearing liabilities...........    906                     1,046
                                            ------                     -----
Total liabilities.......................... 42,070                    41,140
                                            ------                    ------

Total stockholders' equity.................  8,850                    11,765
                                             -----                    ------
Total liabilities and stockholders' 
equity.                                    $50,920                   $52,905
                                            ======                   =======
Net interest income........................         $1,863                    $2,030
                                                     =====                     =====
Interest rate spread (2)...................                   3.00%                     2.88%

Net yield on interest-earning assets(3)....                   3.79%                     3.95%
Ratio of average interest-earning assets to
  average interest-bearing liabilities.....                 119.57%                   128.09%
</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,
                                ----------------------------- -----------------------------
                                        1997 vs. 1996                1998 vs. 1997
                                ----------------------------- -----------------------------
                                     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...............  $311     $ 4     $(2) $313   $160  $  (8)  $   4  $ 156
 Mortgage-backed securities.....   (67)      1      (1)  (67)   105    (14)    (18)   (75)
 Investment securities..........    (2)     22       -    20    (64)   (14)      3     73
 Other interest-earning assets..   111       -      (1)  110    (18)     4      (1)   (15)
                                 -----    ----    ----  ----   ----   ----     ----  -----
  Total interest income.........$  353   $  27   $  (4) $376  $ 183  $ (32)  $ (12) $ 139
                                 =====    ====    ====  ====  =====   =====   =====  =====

Interest expense:
 Savings accounts...............   $29  $ (16)  $   (4) $  9  $ (49) $  16   $   8  $ (25)
 Other liabilities..............     1      -        -     1     (3)     -       -     (3)
                                 -----   ----    -----   ----  ----    -----  -----  ----- 
   Total interest expense.......$   30  $ (16)  $   (4) $ 10  $ (52) $ (16)  $   8  $ (28)
                                 =====   ====    =====   ====  ====   =====   =====  ====

Net change in interest income...$  323  $  43   $    -  $366  $ 235  $ (48)  $ (20) $ 167
                                 =====   ====    =====  ====   ====   =====   =====  ====
</TABLE>


Comparison of Financial Condition

The Company's total consolidated  assets decreased by approximately $1.5 million
or 2.8% from $53.3 million at December 31, 1997 to $51.9 million at December 31,
1998.  The decrease in assets for the year was  primarily  due to funds used for
the stock repurchase programs,  net deposit withdrawals,  and stock purchased in
the open market for the restricted stock plan.  Total cash and  interest-earning
deposits  decreased  approximately  $1.8 million to $2.8 million at December 31,
1998,  as funds  were  shifted  to  investment  securities  which  increased  by
approximately $1.7 million to $3.5 million at December 31, 1998. Mortgage backed
securities decreased  approximately $1.5 million to $3.5 million at December 31,
1998, as the portfolio continues to mature.

Stockholders'  equity  decreased  $911,000  to  approximately  $11.3  million at
December  31, 1998 from $12.2  million at December  31,  1997.  The decrease was
attributable  to the 
                                       7
<PAGE>

repurchase of approximately  $1.0 million of the Company's  outstanding  capital
stock, payment of cash dividends in the amount of $138,000,  and the recognition
of $524,000  in  unearned  compensation  for the Bank's  Restricted  Stock Plan,
offset by comprehensive income of $526,000.

Comparison  of the Results of Operations  for the Years Ended  December 31, 1998
and 1997

Net Income. Net income decreased $92,000, or 15.6%, in 1998 as compared to 1997.
The decrease was primarily the result of an increase of $271,000 in non-interest
expenses and an increase in provision  for loan losses of $21,000,  offset by an
increase of $167,000 in net interest income and a decrease in income tax expense
of $24,000.

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  $167,000,  or 9.0%, to approximately $2.0 million
in 1998,  compared to  approximately  $1.9  million in 1997.  The  increase  was
primarily due to the growth in average interest-earning assets and a decrease in
interest  bearing  liabilities.  Average  interest-earning  assets  increased to
approximately  $51.4 million in 1998 from  approximately  $49.3 million in 1997,
while average  interest  bearing  liabilities  decreased $1.1 million.  This net
growth  offset the 12 basis  points  decrease in the interest  rate spread.  The
interest  rate  spread  declined  to 2.88% in 1998 from  3.00% in 1997.  The net
interest margin increased 16 basis points to 3.95% in 1998 from 3.79% in 1997.

The 12 basis point  decline in the interest rate spread in 1998 compared to 1997
was  primarily  due to the  combination  of a  decrease  in the yield on average
interest-earning  assets of 5 basis  points from 7.82% in 1997 to 7.77% in 1998,
and a 6 basis point increase in the average cost of interest-bearing liabilities
from 4.83% in 1997 to 4.89% in 1998.

Interest income. Interest income increased $139,000, or 3.6%, from approximately
$3.9  million in 1997,  to  approximately  $4.0  million for 1998.  This overall
increase in interest  income was  primarily the result of an increase in average
interest-earning  assets of approximately  $2.0 million for 1998, as compared to
1997.  Interest  income  on  loans  increased  by  $156,000,  as  average  loans
outstanding  increased by $1.9 million in 1998. Loans receivable are the largest
earning asset held in the Company's  portfolio.  For 1998,  the average yield on
loans receivable was 8.39% compared to 8.41% for 1997.

Interest income on investment  securities  increased by $73,000,  as the average
balance  invested  increased  by  $1.7  million  in  1998.  Interest  income  on
interest-earning  deposits and mortgage-backed  securities decreased by $92,000.
Funds  invested  in these  interest-earning
 
                                        8
<PAGE>


assets  were  used to fund the stock  repurchases,  benefit  plans and  dividend
payments.

Interest Expense.  Interest expense decreased $28,000 from  approximately  $1.97
million for the year ended December 31, 1997 to approximately  $1.96 million for
the year ended  December  31,  1998.  The decrease for 1998 was the result of an
approximate  $1.1  million  decrease  in average  interest-bearing  liabilities,
partially  offset by a 6 basis point increase in the average cost of funds.  The
Bank   reflected   an  increase   in  both  the   average   cost  of  funds  for
interest-bearing  demand deposits and certificates of deposits of 2 basis points
and 4 basis points, respectively.

Provision  for Loan Losses.  The  provision for loan losses was $10,000 for year
ended  December 31, 1997 and $31,000 for the year ended  December 31, 1998.  The
increase in the provision for loan losses in 1998 was mainly attributable to the
increase in the Bank's  nonperforming loan portfolio.  Nonperforming assets were
$437,000 at December  31, 1998,  compared to $209,000 at December 31, 1997.  The
ratio of the allowance for loan losses to  non-performing  loans at December 31,
1998 was 75.0%  compared to 144.0% at December 31, 1997.  The allowance for loan
losses as a percent of total loans outstanding was .79% and .72% at December 31,
1998 and 1997, respectively.

Historically,  management has emphasized  loss  experience over other factors in
establishing the provision for loan losses. Management reviews the allowance for
loan  losses  in  relation  to (i) past  loan loss  experience,  (ii)  known and
inherent risks in the 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.  At December
31,  1998,  the  allowance  for loan  losses was at a level  deemed  adequate by
management to provide for losses in the portfolio.

Non-Interest   Expense.   Non-interest   expense   increased  by  $271,000  from
approximately $1.0 million for the year ended December 31, 1997 to approximately
$1.3 million for the year ended  December 31, 1998.  The increase was  primarily
the result of  increased  compensation  expense of $179,000 and $70,000 of other
expense incurred during the period. The increase in compensation expense for the
year ended December 31, 1998, was primarily  attributable  to the recognition of
additional   compensation  expense  associated  with  the  stockholder  approved
Restricted Stock Plan (RSP). On June 1, 1998, the plan's approval resulted in an
immediate  recognition  of 20% of the  value  of  shares  granted  and  for  the
remainder  of 1998  subsequent  monthly  accruals  for the  vesting  benefits as
earned. The expenses recognized for the RSP the year ended December 31, 1998 was
approximately  $166,000.  The increase in other non-interest  expense was mainly
attributable  to  professional  fees and  expenses  incurred  by the  Company in
connection  with its first  annual  meeting,  SEC  filings,  and proxy  material
preparation and mailing.  Employee  benefits,  net occupancy,  deposit insurance
premiums,  and data processing  expenses  remained  relatively stable during the
year ended December 31, 1998 as compared to 1997.

                                       9
<PAGE>


As  discussed  herein,  the Bank plans to open an  additional  branch  office in
nearby  Mountain  City,  Tennessee,  during the first half of 1999.  The Company
expects that  non-interest  expense will  increase  during 1999 due to the costs
associated  with opening and  maintaining  this  additional  branch office.  See
"Liquidity and Capital Resources".

Income Taxes. Income tax expense decreased $24,000 or 6.50%, to $345,000 for the
year ended December 31, 1998 from $369,000 for the year ended December 31, 1997.
The decrease was  principally the result of $116,000 in lower pre-tax income for
1998 compared to 1997.  The effective tax rate for both twelve months periods in
1998 and 1997 was approximately 39.0%.

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, 1998
totaled  $187,000 as compared to $856,000 for the year ended  December 31, 1997.
The decrease was  primarily the result of the purchase of the  restricted  stock
plan shares for $524,000.

Net cash used by  investing  activities  for the year ended  December  31,  1998
totaled $276,000,  a decrease of approximately $3.2 million as compared to 1997.
The decrease  was  primarily  attributable  to a net decrease in loans funded of
approximately $3.6 million,  proceeds from maturities,  sales, and repayments of
investment and mortgage-backed  securities of approximately $1.6 million, offset
by an increase in net purchases of investment  securities of approximately  $2.2
million.

Net cash  used by  financing  activities  for 1998  totaled  approximately  $1.7
million.  This was primarily the result of approximately  $1.0 million of common
stock  repurchases,  $138,000 in dividends  paid,  and a decrease in deposits of
$481,000.

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.

The Bank during the quarter ended June 30, 1998, filed a notice with the OTS for
the 


                                       10
<PAGE>


establishment  of a branch  office.  The Bank purchased for $135,000 land and an
existing  building  for the  branch  office  which is to be  located  in  nearby
Mountain  City,  Tennessee.   Management  estimates  that  costs  incidental  to
renovating  and  equipping  the  building to be  approximately  $200,000.  As of
December  31,  1998,  the Bank had  invested  approximately  $96,000  toward the
renovation and equipping of this branch  facility.  The branch has not opened as
of December 31, 1998.

At December 31,  1998,  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, 1998,  management was not aware of any current  recommendations  by
the regulatory authorities which, if implemented, would have such an effect.

Year 2000 Compliance.  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  operations.  Data
processing is also essential to most other financial institutions and many other
companies.  Substantially  all of the Bank's material data processing that could
be affected by this  problem is provided by a third party  service  bureau.  The
service  bureau  has  informed  the Bank that it will not be  assessing  special
charges  for  the  renovation  and  testing  of its  hardware  and  software  in
preparation for 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 has formulated a Year 2000 Compliance Plan and a Year 2000  Contingency
Plan. The Year 2000  Compliance Plan is structured in accordance with the Office
of Thrift Supervision's Year 2000 Examination Checklist, Version 2. It addresses
the identified  phases of:  Awareness,  Assessment,  Renovation,  Validation and
Implementation.  The purpose of the plan is to outline the procedures  necessary
for  assuring  that  the  Bank is in  readiness  for the  century  date  change.
Execution of the plan is currently on target.  The Bank's Year 2000  Contingency
Plan is designed to prepare the  institution  for  returning to operation in the
event that systems do not perform as planned  either before or after the century
date change.  The plan addresses vital mission critical  applications and states
both the plans in the event of noncompliance and dates for when the plan will be
put into effect.

The Company has contacted  other material  vendors and supplier  regarding their
Year 2000 state of readiness.  The Company has obtained  written  assurance from
these third party vendors  indicating that they expect to be Year 2000 compliant
prior to the Year 2000.

The Bank's third party service bureau during October 1998, converted the Bank to
its new state of the art core account processing  platform.  This new technology
was built  with Year 


                                       11
<PAGE>

2000 compatible  components.  The service bureau during October 1998,  conducted
Year 2000  proxy  testing on this new  platform.  The Bank  expects to  commence
testing  in May 1999.  In  addition,  each  application  of the  system has been
renovated to run on the new  platform  and date fields  expanded to a four digit
year.  Other  service  bureau  products  and  services  utilized by the Bank are
expected to be brought Year 2000 compliant by June 1999.

The Bank is  planning to upgrade its teller  operating  system  during the first
quarter of 1999.  This upgrade will further  ensure Year 2000 readiness by using
Year 2000 certified software and hardware.  The Company's  management  estimates
costs  incidental  to the upgrade to be  approximately  $100,000.  The Company's
management anticipates that substantially all of such costs will be capitalized.
These costs  should not be material  to the  Company in any single  year.  As of
December 31, 1998, the Company  capitalized  approximately  $30,000 in regard to
Year 2000 compliance.

The Company's successful and timely completion of the Year 2000 project is based
on estimates  derived by management on assumptions  of future events,  which are
inherently uncertain,  including the progress and results of the Company's third
party service provider,  testing plans, and all vendors,  suppliers and customer
readiness.

Impact of Inflation and Changing Prices

Unlike most industrial  companies,  substantially  all the assets of the Company
are monetary in nature. As a result, interest rates have a greater impact on the
Company's  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 price for goods and services.


                                       12

<PAGE>


[LOGO] Crisp
       Hughes
       Evans
       LLP                        Certified Public Accountants & Consultants
--------------------------------------------------------------------------------
                                  Affiliated worldwide through AGN International



                          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, 1997 and 1998, and the
related consolidated statements of income,  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, 1997 and 1998,  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 22, 1999

                                          32 Orange Street     704 254 2254
                                          PO Box 3049          Fax 704 254 6859
                                          Asheville, NC 28802  www.che-llp.com

                                       13
<PAGE>






                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                           Consolidated Balance Sheets
                        (in thousands, except share data)


<TABLE>
<CAPTION>

                                                                                   December 31,
                                                                              -----------------------
           Assets                                                                 1997       1998
           ------                                                             -----------  ----------

<S>                                                                          <C>          <C>       
Cash on hand                                                                  $      453   $      467
Interest earning deposits                                                          4,139        2,372
Investment securities:
   Held to maturity (market value of $526 in 1997 and $1,147 in 1998)                577        1,158
   Available for sale (amortized cost of $1,149 in 1997 and $2,325 in 1998)        1,148        2,327
Loans receivable, net                                                             40,648       40,449
Mortgage-backed securities:
   Available for sale (amortized cost of $5,117 in 1997 and $3,544 in 1998)        5,030        3,502
Premises and equipment, net                                                          575          849
Federal Home Loan Bank stock                                                         423          454
Accrued interest receivable                                                          316          265
Prepaid expenses and other assets                                                     28           23
                                                                               ---------    ---------

         Total assets                                                         $   53,337   $   51,866
                                                                               =========    =========

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

Deposits                                                                      $   40,587   $   40,106
Advance payments by borrowers for taxes and insurance                                199          188
Accrued expenses and other liabilities                                               144          221
Income taxes payable:
   Current                                                                           164            -
   Deferred                                                                           62           81
                                                                               ---------    ---------

         Total liabilities                                                        41,156       40,596
                                                                               ---------    ---------

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; 767,000 and 694,150 outstanding at                        77           77
     December 31, 1997 and 1998, respectively)
   Paid-in capital                                                                 7,336        7,368
   Retained income, substantially restricted                                       5,373        5,732
   Treasury stock at cost (72,850 shares)                                              -       (1,034)
   Accumulated other comprehensive income                                            (53)         (24)
   Unearned compensation:
     Employee stock ownership plan                                                  (552)        (491)
     Restricted stock plan                                                             -         (358)
                                                                               ---------    ---------

         Total stockholders' equity                                               12,181       11,270
                                                                               ---------    ---------

         Total liabilities and stockholders' equity                           $   53,337   $   51,866
                                                                               =========    =========
</TABLE>


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

                                       14
<PAGE>


                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                        Consolidated Statements of Income
                      (in thousands, except per share data)


<TABLE>
<CAPTION>

                                                Years Ended December 31,
                                               --------------------------
                                                   1997           1998
                                               -----------    -----------
<S>                                           <C>            <C>        
Interest income:
   Loans                                       $    3,253     $     3,409
   Mortgage-backed securities                         312             237
   Investments                                        110             185
   Interest earning deposits                          175             158
                                                 --------       ---------
         Total interest income                      3,850           3,989
                                                 --------       ---------

Interest expense:
   Deposits                                         1,984           1,959
   Federal Home Loan Bank advances                      3               -
                                                 --------       ---------
         Total interest expense                     1,987           1,959
                                                 --------       ---------

         Net interest income                        1,863           2,030

Provision for loan losses                              10              31
                                                 --------       ---------

         Net interest income after provision
           for loan losses                          1,853           1,999
                                                 --------       ---------

Noninterest income:
   Loan fees and service charges                      149             157
   Other                                               10              11
                                                 --------       ---------
         Total noninterest income                     159             168
                                                 --------       ---------

Noninterest expenses:
   Compensation                                       498             677
   Employee benefits                                  122             125
   Net occupancy expense                               75              82
   Deposit insurance premiums                          21              24
   Data processing                                     74              83
   Other                                              264             334
                                                 --------       ---------
         Total noninterest expenses                 1,054           1,325
                                                 --------       ---------

         Income before income taxes                   958             842

Income tax expense                                    369             345
                                                 --------       ---------

         Net income                            $      589     $       497
                                                =========      ==========

Net income per common share:
   Basic                                     See Note 1       $       .71
   Diluted                                                            .71
                                                                =========

Weighted-average shares:
   Basic                                                              699
   Diluted                                                            699
                                                                =========
</TABLE>

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

                                       15
<PAGE>






                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                 Consolidated Statements of Comprehensive Income
                                 (in thousands)


<TABLE>
<CAPTION>

                                                            Years Ended December 31,
                                                            -------------------------------------
                                                                 1997       1998
                                                                 ----       ----

<S>                                                           <C>         <C>  
Net income                                                      $ 589       $ 497

Other comprehensive income:
   Net unrealized gains on securities available for sale,
     net of tax expense of $32 and $19, respectively               55          29
                                                                 -----       ----

Comprehensive income                                            $ 644       $ 526
                                                                 ====        ====


</TABLE>


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


                                       16
<PAGE>







                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

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


<TABLE>
<CAPTION>

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

<S>                                                 <C>     <C>      <C>      <C>       <C>         <C>        <C>        <C>     
Balance at December 31, 1996                         $    -  $     -  $ 4,784  $      -  $  (108)    $     -    $   -      $  4,676
                                                                                                                           
Comprehensive income:                                                                                                      
   Net income                                             -        -      589         -        -           -        -           589
   Unrealized gain on securities available for sale,                                                                       
     net of income tax expense                            -        -        -         -       55           -        -            55
                                                                                                                           
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
                                                                                                                           
Comprehensive income:                                                                                                      
   Net income                                             -        -      497         -        -           -        -           497
   Unrealized gain on securities available for sale,                                                                       
     net of income tax expense                            -        -        -         -       29           -        -            29
                                                                                                                           
Common stock purchased for RSP (30,680 shares)            -        -        -         -        -           -     (524)         (524)
                                                                                                                           
Cash dividends declared ($.20 share)                      -        -     (138)        -        -           -        -          (138)
                                                                                                                           
Treasury stock purchased (72,850 shares)                  -        -        -    (1,034)       -           -        -        (1,034)
                                                                                                                           
Compensation earned                                       -       32        -         -        -          61      166           259
                                                       ----    -----    -----    ------    -----       -----    -----        ------
                                                                                                                           
Balance at December 31, 1998                         $   77  $ 7,368  $ 5,732  $ (1,034) $   (24)    $  (491)   $(358)     $ 11,270
                                                       ====    =====    =====    ======    =====       =====    =====        ======
</TABLE>

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

                                       17
<PAGE>


                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                      Consolidated Statements of Cash Flows
                                 (in thousands)
<TABLE>
<CAPTION>

                                                                   Years Ended December 31,
                                                                  ---------------------------
                                                                       1997          1998
                                                                  --------------  -----------
<S>                                                              <C>                 <C>  
Operating activities:
   Net income                                                     $          589      $ 497
   Adjustments to reconcile net income  to net cash provided
     by operating activities:
     Depreciation                                                             53         56
     Provision for loan losses                                                10         31
     Loss on sale of real estate owned                                         9          -
     Deferred income taxes (benefit)                                          29          -
     Net decrease in deferred loan fees                                       (4)        (9)
     Accretion of discounts on investment securities, net                    (21)       (23)
     Amortization of premiums on mortgage-backed securities                   10         14
     Amortization of unearned compensation                                    91        259
     Purchase of RSP shares                                                    -       (524)
     FHLB stock dividends                                                    (29)       (31)
     (Increase) decrease in other assets                                       5          5
     (Increase) decrease in accrued interest receivable                      (59)        51
     Increase in accrued expenses and other liabilities                       22         25
     Increase (decrease) in current income taxes                             151       (164)
                                                                    ------------ ----------
         Net cash provided by operating activities                           856        187
                                                                    ------------ ----------

Investing activities:
   Purchase of investment securities held to maturity                          -       (710)
   Maturities of investment securities held to maturity                      159        151
   Purchase of investment securities available for sale                   (1,350)    (2,875)
   Maturities of investment securities available for sale                    800      1,700
   Principal payments on mortgage-backed securities
     available for sale                                                      814      1,559
   Proceeds from sale of real estate                                          10          -
   Net (increase) decrease in loans                                       (3,805)       177
   Purchase of premises and equipment                                        (95)      (278)
                                                                    ------------ ----------
         Net cash used by investing activities                            (3,467)      (276)
                                                                    ------------ ----------
</TABLE>






                                                                     (continued)

                                       18
<PAGE>



                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                Consolidated Statements of Cash Flows, Continued
                                 (in thousands)
<TABLE>
<CAPTION>



                                                                         Years Ended December 31,
                                                                    ----------------------------------
                                                                            1997              1998
                                                                    -----------------   --------------
<S>                                                                  <C>                  <C>        
Financing activities:
   Net decrease in deposits                                           $         (178)      $     (481)
   Decrease in advance payments by borrowers
     for taxes and insurance                                                      (3)             (11)
   Proceeds from FHLB advances                                                   400                -
   Repayment of FHLB advances                                                 (1,200)               -
   Treasury stock purchased                                                        -           (1,034)
   Dividends paid                                                                  -             (138)
   Net proceeds from issuance of  common stock                                 6,770                -
                                                                        ------------     ------------
         Net cash provided (used) by financing activities                      5,789           (1,664)
                                                                        ------------     ------------

         Increase (decrease) in cash and cash equivalents                      3,178           (1,753)

Cash and cash equivalents at beginning of year                                 1,414            4,592
                                                                        ------------     ------------

Cash and cash equivalents at end of year                              $        4,592       $    2,839
                                                                        ============     ============

Supplemental  disclosures  of cash flow  information:
   Cash paid during the year for:
     Interest                                                         $        1,975       $    1,946
     Income taxes                                                                189              517
                                                                        ============     ============

Noncash transactions:
   Unrealized gains on securities and mortgage-backed
     securities available for sale, net of deferred taxes             $           55      $        29
   Non-cash acquisition of premises and equipment                                  -               52
   Loan to facilitate sale of real estate owned                                   41                -
                                                                        ============     ============

</TABLE>









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


                                       19
<PAGE>



                                SFB BANCORP, INC.
                                 AND SUBSIDIARY

                   Notes to Consolidated Financial Statements

                           December 31, 1997 and 1998
                         (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 10). 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, and accepting  deposits from the general
      public.

      Estimates - The  preparation  of 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 Financial Accounting Standards
      Board No. 130,  "Reporting  Comprehensive  Income"  (SFAS 130),  effective
      December  31,  1997.  SFAS No. 130  establishes  standards  for  reporting
      comprehensive  income and its components  (revenues,  expenses,  gains and
      losses).  Components of comprehensive  income are net income and all other
      non-owner changes in equity. The statement requires that an enterprise (a)
      classify  items  of  other  comprehensive  income  by  their  nature  in a
      financial  statement  and (b)

                                       20
<PAGE>


SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

     display the accumulated  balance of other  comprehensive  income separately
     from  common  stock or retained  income in the equity  section of a balance
     sheet.   Reclassification  of  financial  statements  for  earlier  periods
     provided for comparative purposes is required.

     The  Company  has  chosen to  disclose  comprehensive  income in a separate
     statement.

     The only  component of other  comprehensive  income  consists of unrealized
     holding gains on 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  accumulated  other
     comprehensive  income.  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

                                       21
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------


     value.  Costs  relating to  development  and  improvement of properties are
     capitalized,  whereas  costs  relating  to  the  holding  of  property  are
     expensed.

     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 for 1998
     are computed in  accordance  with the  Statement  of  Financial  Accounting
     Standards No 128, "Earnings per Share" (SFAS 128).  Unallocated ESOP shares
     are not considered as outstanding for purposes of this calculation. Diluted
     income per share  includes  the effect of  dilution  for stock  options and
     stock awards.  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.

                                       22
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

     For the year ended  December 31, 1998,  net income  available to the common
     stockholders  in both the basic and diluted  computations  was equal to net
     income.   For  purposes  of  the  diluted  income  per  share  calculation,
     additional  common stock  equivalents for the stock option plan of 153 were
     included as weighted  average common shares  outstanding for the year ended
     December 31, 1998.

     Operating  Segments - The Company adopted  Financial  Accounting  Standards
     Board Statement No. 131,  "Disclosures  About Segments of an Enterprise and
     Related  Information"  (SFAS No. 131),  effective  December 31, 1997.  This
     statement establishes standards for reporting information about segments in
     annual and interim  financial  statements.  SFAS No. 131  introduces  a new
     model  for  segment   reporting  called  the  "management   approach."  The
     management approach is based on the way the chief operation  decision-maker
     organizes  segments within the Company for making  operating  decisions and
     assessing  performance.  Reportable  segments  are  based on  products  and
     services, geography, legal structure, management structure and any other in
     which  management   disaggregates  a  company.  Based  on  the  "management
     approach"  model, the Company has determined that its business is comprised
     of a single  operating  segment  and that SFAS No. 131,  therefore,  has no
     impact on its financial statements.

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

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


                                                Gross      Gross      Estimated
                                   Amortized  Unrealized Unrealized     Market
                                     Cost       Gains      Losses        Value
Securities to be held to maturity:
  December 31, 1997:
    U.S. government security       $     418    $      -   $      51   $     367
    Municipal securities                 159           -           -   $     159
                                    --------     -------    --------    --------

                                   $     577    $      -   $      51   $     526
                                    ========     =======    ========    ========
  December 31, 1998:
    U.S. government security       $     440    $      -   $      11   $     429
    Municipal securities                 718           -           -   $     718
                                    --------     -------    --------    --------

                                   $   1,158    $      -   $      11   $   1,147
                                    ========     =======    ========    ========
Securities available for sale:
  December 31, 1997:
    U.S. government and
      agency securities            $   1,149    $      -   $       1   $   1,148
                                    ========     =======    ========    ========

  December 31, 1998:
    U.S. government and
      agency securities            $   2,325    $      2   $       -   $   2,327
                                    ========     =======    ========    ========



                                       23
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------


     The  amortized  cost and  estimated  market  values of debt  securities  by
     contractual maturity are as follows:

                                            Amortized       Estimated
                                              Cost         Market Value
                                        ----------------- ----------------
                                         1997      1998     1997     1998
                                         ----      ----     ----     ----
Securities to be held to maturity:
  Due in one year                       $    34   $     - $     34  $     -
  Due after one year through five           125       718      125      718
   years
  Due after ten years                       418       440      367      429
                                         ------    ------  -------   ------

                                        $   577   $ 1,158 $    526  $ 1,147
                                         ======    ======  =======   ======

Securities available for sale:
  Due in one year                           900       250      899      250
  Due after one year through five           249     2,075      249    2,077
   years                                 ------    ------  -------   ------

                                        $ 1,149   $ 2,325 $  1,148  $ 2,327
                                         ======    ======  =======   ======

     The Bank had investment  securities with an amortized cost of approximately
     $1,068,000 and $1,265,000 pledged against deposits at December 31, 1997 and
     1998, respectively.

      The Bank had no sales of  investment  securities to be held to maturity or
      available for sale for the years ended December 31, 1997 and 1998.

      The net unrealized gains (losses) on investment  securities  available for
      sale,  net of related  income tax  expense  (benefit),  are  approximately
      $(600) and $1,200 at  December  31, 1997 and 1998,  respectively,  and are
      reported as accumulated other comprehensive income.

3.    Loans Receivable
      -----------------
      Loans receivable are summarized as follows:
                                                        December 31,
                                            ------------------------------------
                                                  1997                1998
                                                  ----                ----
         Real estate first mortgage loans:
           One-to-four-family               $         31,382   $         30,054
           Construction                                1,600              1,216
           Commercial real estate                      1,433              1,566
           Multi-family residential                      687              1,011
           Land                                        2,982              3,997
                                             ---------------    ---------------
               Total real estate loans                38,084             37,844
                                             ---------------    ---------------





                                                                     (continued)

                                       24
<PAGE>



                                                       December 31,
                                          --------------------------------------
                                                 1997                1998
                                                 ----                ----
Consumer and commercial loans:
 Commercial business                       $            425   $            573
 Auto loans                                           2,119              2,294
 Share loans                                            351                322
 Other                                                  517                470
                                            ---------------    ---------------
     Total consumer and commercial loans              3,412              3,659
                                            ---------------    ---------------

     Total loans                                     41,496             41,503
                                            ---------------    ---------------

Less:
 Undisbursed portion of loans in process                429                619
 Net deferred loan fees                                 118                109
 Allowance for loan losses                              301                326
                                            ---------------    ---------------
                                                        848              1,054
                                            ---------------    ---------------

                                           $         40,648   $         40,449
                                            ===============    ===============

     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 97% 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.

     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 

                                       25
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------


     December 31, 1998.  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  $209,000 at December 31, 1997 and $437,000 at December
     31,  1998.  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, 1998, the Bank had loans pledged against public deposits of
     approximately $904,000.

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

                                                Years Ended December 31,
                                                1997                1998
                                                ----                ----

         Beginning balance                 $            304     $          301
         Provision charged to income                     10                 31
         Charge-offs, net of recoveries                 (13)                (6)
                                             --------------     --------------

         Ending balance                    $            301     $          326
                                             ==============     ==============

4.    Mortgage-Backed Securities

      Mortgage-backed securities are summarized as follows:
<TABLE>
<CAPTION>

                                                Gross         Gross     Estimated
                                  Amortized   Unrealized   Unrealized     Market
                                    Cost        Gains        Losses       Value
<S>                             <C>          <C>          <C>          <C>        
Securities available for sale:
  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
                                 ===========  ===========  ===========  ===========
</TABLE>

                                                                     (continued)

                                       26
<PAGE>
SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

<TABLE>
<CAPTION>
                                                  Gross          Gross       Estimated
                                   Amortized    Unrealized    Unrealized       Market
                                     Cost         Gains         Losses         Value
                                -------------  ------------  ------------  -------------
<S>                            <C>            <C>           <C>           <C>          
Securities available for sale:
  December 31, 1998:
    GNMA                        $         525  $          2  $          5  $         521
    FHLMC                                  56             1             -             57
    FHLMC REMIC's                         880             -             5            875
    FNMA                                  519             1             9            512
    FNMA REMIC's                        1,564             -            27          1,537
                                  -----------   -----------   -----------    -----------

                                $       3,544  $          4  $         46  $       3,502
                                  ===========   ==========    ===========    ===========
</TABLE>

     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  $2,232,000  and  $1,148,000  pledged  against  deposits  and
     available FHLB advances at December 31, 1997 and 1998, respectively.

     There  were no sales of  mortgage-backed  securities  for the  years  ended
     December 31, 1997 and 1998.

     The  net  unrealized  losses,  net of  related  income  tax  benefits,  are
     approximately  $52,000 and $25,000,  respectively  at December 31, 1997 and
     1998, and are reported as accumulated other comprehensive income.

5.    Premises and Equipment
      ----------------------
      Premises and equipment are summarized as follows:

                                                         December 31,
                                             -----------------------------------
                                                   1997                1998
                                             ----------------    ---------------

         Land and improvements               $            202    $           237
         Buildings                                        840                875
         Vehicles                                          17                 17
         Furniture, fixtures and equipment                586                650
         Construction in progress                           -                196
                                               --------------     --------------
                                                        1,645              1,975
         Less accumulated depreciation                  1,070              1,126
                                               --------------     --------------

                                             $            575    $           849
                                               ==============     ==============

                                       27
<PAGE>
SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------


6.    Interest Receivable
      -------------------
      Interest receivable consists of the following:

                                                          December 31,
                                              ---------------------------------
                                                    1997              1998
                                              ----------------  ---------------

Loans receivable                              $            258  $           239
Investments                                                 21               31
Mortgage-backed securities                                  25               17
Interest earning deposits                                   22                3
                                                --------------   --------------
                                                           326              290
Less allowance for uncollectible interest                   10               25
                                                --------------   --------------

                                              $            316  $           265
                                                ==============   ==============

7.    Deposits
      --------
      Deposit account balances are summarized as follows:
                                                      Weighted Average
                                                       Interest Rates
                                                      ----------------
                                         December 31,    December 31,
                                   ------------------ ----------------
                                        1997    1998     1997   1998
                                        ----    ----     ----   ----
         Noninterest bearing
           accounts                $  1,969       705       -%     -%
         NOW accounts                 2,669     2,770    2.03%  1.27%
         Money Market accounts        1,983     1,598    4.28%  3.69%
         Passbook accounts            4,351     4,548    3.05%  2.97%
         Certificates of deposit     29,615    30,485    5.69%  5.47%
                                     -------   ------
                                   $ 40,587  $ 40,106    4.80%  4.72%
                                    =======   =======    ====   ====

      Contractual maturities of certificate accounts are summarized as follows:

                                           December 31,
                               ------------------------------------
                                      1997               1998
                               ----------------     ---------------

12 months or less              $         25,223     $        24,925
After 1 but within 3 years                4,150               5,055
After 3 years                               242                 505
                                 --------------      --------------

                               $         29,615     $        30,485
                                ===============      ==============



                                       28
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

     The  Bank  had  deposit   accounts  in  amounts  of  $100,000  or  more  of
     approximately $10.1 million and $9.7 million at December 31, 1997 and 1998,
     respectively.

     Interest expense on deposits consisted of the following:

                                                    Years Ended December 31,
                                               --------------------------------
                                                  1997               1998
                                                  ----               ----

  NOW, money market, and passbook accounts    $         262       $         249
        Certificate accounts                          1,726               1,713
                                               ------------        ------------
                                                      1,988               1,962
  Less: penalties for early withdrawal                    4                   3
                                               ------------        ------------

        Total interest on deposits            $       1,984       $       1,959
                                               ============        ============

8.    Federal Home Loan Bank Advances
      -------------------------------

     The Bank had no advances from the Federal Home Loan Bank (FHLB) outstanding
     at December 31, 1997 or 1998.

     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, 1998, were approximately $500,000.

     The Bank has total credit availability with the FHLB of up to $2.5 million.

9.   Income Taxes 
     ------------  

     Income tax expense (benefit) is summarized as follows:

                              Years Ended December 31,                 
                ------------------------------------------------
                          1997                   1998
                ----------------------   -----------------------
                Federal  State   Total   Federal  State   Total
      
      Current   $ 303    $ 37   $ 340     $ 309   $ 36   $ 345
      Deferred     (2)     31      29       (20)    20       -
                 ----    ----    ----      ----   ----    ----   
        Total   $ 301    $ 68   $ 369     $ 289   $ 56   $ 345
                 ====     ===    ====      ====    ===    ====


                                       29

<PAGE>


     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,
                                                  -----------------------------
                                                         1997        1998
                                                         ----        ----

Computed income tax expense                       $        326    $    286
Increase (decrease) resulting from:
   State income tax, net of federal tax benefit             45          37
   Non-taxable income                                        -         (11)
   Non-deductible expenses                                   -          37
   Other                                                    (2)         (4)
                                                   -----------   ---------

Actual income tax expense                         $        369    $    345
                                                   ===========    ========

     The components of net deferred tax liabilities are as follows:

                                                               December 31,
                                                         -----------------------
                                                            1997         1998
                                                         ----------    ---------
Deferred tax liabilities:
   Tax bad debts                                         $      145    $    143
   Excess tax depreciation                                       13          14
   FHLB stock dividends                                          43          54
   Purchased discounts on mortgage-backed securities              9           9
                                                           --------    --------
                                                                210         220
                                                           --------    --------

Deferred tax assets:
   Financial statement bad debt reserves                        104         111
   Accrued sick leave                                             5           6
   Unrealized losses on securities available for sale            35          16
   Other                                                          4           6
   Valuation allowance                                            -           -
                                                           --------    --------
                                                                148         139
                                                           --------    --------

       Net deferred tax liability                        $       62    $     81
                                                          =========     =======

     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 


                                       30
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------


     SFAS No. 109.  Therefore,  retained  income at December  31, 1997 and 1998,
     includes approximately $825,000,  representing such bad debt deductions for
     which no deferred income taxes have been provided.

     Beginning  in  1998,  the Bank  began  to  recapture  into  taxable  income
     post-1987 excess reserves over a six-year  period.  The remaining amount of
     the post-1987  excess is  approximately  $205,000.  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
     remaining excess reserves are recaptured.

10.   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  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.  Bancorp  issued  $614,000 of common stock to the ESOP for a
     note receivable.

     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.

11.   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  possible  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


                                       31
<PAGE>
SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

     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 Tier I capital (as defined in the  regulations) to adjusted
     total  assets  (as  defined),  and of  Tier I and  risk-based  capital  (as
     defined) to risk-weighted assets (as defined).  Management believes,  as of
     December 31, 1998, that the Bank meets all capital adequacy requirements to
     which it is subject.

     As of  December  31,  1998,  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 (Tier I leverage, Tier I risk-based, total risk-based
     capital)  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.

     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.

                                                                  To Be Well
                                                               Capitalized Under
                                              For Capital      Prompt Corrective
                                Actual     Adequacy Purposes   Action Provisions
                           ----------------  -------------- --------------------
                              Amount  Ratio  Amount  Ratio     Amount   Ratio
As of December 31, 1997:
   Tier I Capital (to
     adjusted total assets)  $ 8,471  16.9%  $ 2,011 >4.0%  $ 2,513     >5.0%
                                                     -                  -
   Tier I Capital (to risk
     weighted assets)        $ 8,471  29.9%  $ 1,135 >4.0%  $ 1,702     >6.0%
                                                     -                  -
   Total Capital (to risk-
     weighted assets)        $ 8,772  30.9%  $ 2,271 >8.0%  $ 2,839    >10.0%
                                                     -                 -

As of December 31, 1998:
   Tier I Capital (to
     adjusted total assets)  $ 8,639  17.2%  $ 2,004 >4.0%  $ 2,505     >5.0%
                                                     -                  -
   Tier I Capital (to risk
     weighted assets)        $ 8,639  29.2%  $ 1,185 >4.0%  $ 1,778     >6.0%
                                                     -                  -
   Total Capital (to risk-
     weighted assets)        $ 8,965  30.3%  $ 2,370 >8.0%  $ 2,963    >10.0%
                                                     -                 -

12.   Employee Stock Ownership Plan (ESOP)
      -----------------------------------
     As part of the conversion discussed in Note 10, 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, 1998,  the 

                                       32
<PAGE>
SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

     loan had an outstanding  balance of approximately  $480,000 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 years ending  December 31, 1997 and 1998,  compensation  related to
     the ESOP of approximately $91,000 and $93,000,  respectively, 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, 1998, the ESOP had approximately 12,000 allocated
     shares and 49,000  unallocated  shares.  The fair value of unallocated ESOP
     shares at December 31, 1998 was approximately $601,000.

     The ESOP  administrators  determine  whether  dividends  on  allocated  and
     unallocated shares are 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 are
     considered outstanding.

13.   Restricted Stock Plan
      ---------------------
      In June 1998,  the Company  adopted a restricted  stock plan ("RSP") which
      approved  30,680  shares of common stock for  granting.  The shares can be
      granted to certain employees,  officers, and directors of the Company. The
      initial  grants began vesting on June 1, 1998, and will be fully vested by
      December 31, 2004. The Company  purchased 30,680 shares of common stock in
      the open market to fund the RSP. Compensation expense in the amount of the
      fair  value of the common  stock at the date of grant  will be  recognized
      during the periods the participants become vested. The unamortized balance
      of unearned  compensation  is reflected  as a reduction  of  stockholders'
      equity. For the year ended December 31, 1998,  approximately  $166,000 has
      been recognized as compensation expense.

14.   Stock Incentive Plans
      ---------------------
      In June 1998, the Company adopted stock incentive  plans. The Plans permit
      the grant of qualified  incentive stock options and non-qualified  options
      to certain  employees  and  directors.  The Stock Option  Committee of the
      Board of Directors  determines  which  individuals are eligible to receive
      awards. 

                                       33
<PAGE>
SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

     The option price for each grant of a stock option will not be less than the
     fair market  value on the date the option is  granted.  The  Committee  may
     determine  the  restrictions  and  conditions  under  which  options may be
     exercised.  Options must be exercised within ten years of the date granted.
     Vesting is in accordance with the terms of each particular grant.

     Options  Granted - On June 1, 1998,  the Board of Directors  granted 73,630
     options  having an exercise  price of $16.69 per share,  the estimated fair
     market  value  of the  Company's  common  stock on the  date  granted.  The
     weighted  average  contractual  life of the  options  is 113  months and no
     options were exercisable as of December 31, 1998.

     Activity  under Bank's plans  during the year ended  December 31, 1998,  is
     summarized below:


                                 Qualified Plan          Non-Qualified Plan
                           -----------------------   ------------------------
                           Available                 Available
                           For Grant    Granted      For Grant     Granted
                           ----------- -----------   -----------  -----------
Adoption of plan,
  June 1, 1998                  53,692           -        23,008            -

Granted                        (50,622)     50,622       (23,008)      23,008
Exercised                            -           -             -            -
Forfeited                            -           -             -            -
                           ----------- -----------   -----------  -----------

Balance, December 31, 1998       3,070      50,622             -       23,008
                           =========== ===========   ===========  ===========

      Proforma information  regarding the net income and net income per share is
      required  by SFAS No. 123 and has been  determined  as if the  Company had
      accounted  for its  stock  options  under  the fair  value  method of that
      statement.  The fair value for these  options was estimated at the date of
      the grant using the Black-Scholes  option-pricing model with the following
      assumptions for the period ended December 31, 1998:

         Risk-free interest rate                    4.52%
         Dividend yield                             1.19%
         Average expected life in years             5

      The  Black-Scholes  option  valuation  model  was  developed  for  use  in
      estimating  the fair  value  of  traded  options,  which  have no  vesting
      restrictions  and are fully  transferable.  In addition,  option valuation
      models  require the input of highly  subjective  assumptions.  Because the
      Company's stock options have characteristics  significantly different from
      those of traded  options,  and  because  changes in the  subjective  input
      assumptions can materially affect the fair value estimate, in management's
      opinion,  the existing models do not necessarily provide a reliable single
      measure of the fair value of stock options.


                                       34
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

      For  purposes of proforma  disclosures,  the  estimated  fair value of the
      options is  amortized to expense over the  options'  vesting  period.  The
      Company's  proforma net income (in thousands) and net income per share for
      the year ended December 31, 1998, is as follows:

                                  As Reported            Proforma

         Net income               $           497    $           492
                                   ==============     ==============

         Net income per share     $           .71    $           .70
                                   ==============     ==============


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.


                                       35
<PAGE>
SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------


      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, 1998, were  approximately as follows (in
      thousands):

                                  Financial     Balance    Available
                                 Instruments  Outstanding   For Use
                                 -----------  -----------   -------

        Consumer and other lines    $ 1,574      $ 967       $ 607
        Letters of credit               142          -         142
                                     ------       ----        ----

                                    $ 1,716      $ 967       $ 749
                                     ======       ====        ====

      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  $490,000 and  $1,440,000 at December 31, 1997 and
      1998,  respectively.  The  commitments to originate  mortgage and consumer
      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. The
      commitments to originate mortgage and consumer loans at December 31, 1998,
      were composed of fixed rate loans. The fixed rate loans had interest rates
      ranging from 6.9% to 9.0% and terms ranging from 30 days to 15 years.


                                       36
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

17.  Financial  Instruments 
     ----------------------
     The  approximate  stated and estimated fair value of financial  instruments
     are summarized below (in thousands):


<TABLE>
<CAPTION>

                                                   December 31,
                               ---------------------------------------------------
                                          1997                      1998
                               -------------------------  ------------------------
                                   Stated     Estimated       Stated     Estimated
                                   Amount     Fair Value      Amount    Fair Value
                                   ------     ----------      ------    ----------
<S>                           <C>          <C>           <C>          <C>         
Financial assets:
  Cash and cash equivalents    $      4,592 $      4,592  $      2,839 $      2,839
  Investment and mortgage-
    backed securities                 6,755        6,704         6,987        6,976
  Loans receivable, net              40,648       41,502        40,449       41,553
  Federal Home Loan Bank stock          423          423           454          454
  Other assets                          294          294           265          265
                                 ----------   ----------    ----------   ----------

                               $     52,712 $     53,515  $     50,994 $     52,087
                                 ==========  ===========    ==========  ===========
Financial liabilities:
  Deposits:
    Demand accounts            $     10,972 $     10,972  $      9,621 $      9,621
    Certificate accounts             29,615       29,674        30,485       30,683
  Other liabilities                     263          263           265          265
                                 ----------   ----------    ----------   ----------

                               $     40,850 $     40,909  $     40,371 $     40,569
                                 ==========   ==========    ==========   ==========
</TABLE>

     The Bank had off-balance sheet financial  commitments at December 31, 1998,
     which include approximately $2,189,000 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


                                       37
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------

     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.

     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.

     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,  1997 and  1998.  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.


                                       38
<PAGE>
SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------


18.   Condensed Parent Company Only Financial Statements
      --------------------------------------------------
      The following  condensed  balance sheets as of December 31, 1997 and 1998,
      and  condensed  statements  of income and cash flows for the period  ended
      December  31,  1997 and for the year  ended  December  31,  1998,  for SFB
      Bancorp,  Inc.  should  be  read  in  conjunction  with  the  consolidated
      financial statements and the notes thereto.

Parent Company Only                                 
Condensed Balance Sheets                          December 31,   December 31,
(in thousands)                                        1997          1998
                                                  ------------   ------------

Assets:
   Cash and cash equivalents                          $ 2,673        $ 668
   Investment securities available for sale               500        1,501
   ESOP loan receivable                                   552          480
   Equity in net assets of bank subsidiary              8,418        8,614
   Other assets                                            46           17
                                                       ------       ------

       Total assets                                  $ 12,189     $ 11,280
                                                       ======      =======

Liabilities
   Accrued liabilities                               $      8     $     10
                                                      -------      ------- 

Stockholders' equity:
   Common stockholders' equity                         12,181       11,270
                                                      -------      -------

       Total liabilities and stockholders' equity    $ 12,189     $ 11,280
                                                      =======      =======

Parent Company Only                               Period Ended   Year Ended
Condensed Statements of Income                    December 31,   December 31,
(in thousands)                                         1997         1998
                                                  ------------   -----------

Interest income                                      $    122     $    195
Noninterest expense                                        26           92
                                                      -------      -------
       Income before taxes                                 96          103
Income tax expense                                         25           40
                                                      -------      -------
       Income before equity earnings                       71           63
Equity earnings of bank subsidiary                        357          434
                                                      -------      -------

       Net income                                    $    428     $    497
                                                      =======      =======


                                       39
<PAGE>

SFB BANCORP, INC. AND SUBSIDIARY      Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>


Parent Company Only                                     Period Ended    Year Ended
Condensed Statements of Cash Flows                      December 31,    December 31,
(in thousands)                                             1997            1998
                                                       --------------   ------------

<S>                                                   <C>              <C>      
Operating activities:
   Net income                                          $      428       $     497
   Adjustments to reconcile net income to net
     cash provided by operating activities:
     Undistributed equity earnings of bank subsidiary        (357)           (434)
     (Increase) decrease in other assets                      (46)             30
     Increase in accrued liabilities                            8               2
                                                         --------         -------
       Net cash provided by operating activities               33              95
                                                         --------         -------

Investing activities:
   Loan to ESOP                                              (614)              -
   Purchase of treasury stock                                   -          (1,034)
   Principal repayment by ESOP                                 62              72
   Purchase of investment securities                         (500)         (2,000)
   Maturities of investment securities                          -           1,000
   Purchase of capital stock of bank subsidiary            (3,078)              -
                                                         --------         -------
       Net cash used by investing activities               (4,130)         (1,962)
                                                         --------         -------

Financing activities:
   Net proceeds from issuance of common stock               6,770               -
   Payment of cash dividends                                    -            (138)
                                                         --------         -------
       Net cash provided by financing activities            6,770            (138)
                                                         --------         -------

   Net increase in cash and cash equivalents                2,673          (2,005)

Cash and cash equivalents at beginning of period                -           2,673
                                                         --------         -------

Cash and cash equivalents at end of period              $   2,673       $     668
                                                         ========         =======

</TABLE>

                                       40