UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
(Mark One)
☒ANNUAL REPORT PURSUANT TO SECTION 13
OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended June 30, 2023
or
☐TRANSITION REPORT PURSUANT TO SECTION
13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission file number 0-51176
KENTUCKY FIRST FEDERAL BANCORP
(Exact Name of Registrant as Specified in Its Charter)
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
(Address of Principal Executive Offices) (Zip Code)
Registrant’s telephone number, including
area code: (502)223-1638
Securities registered pursuant to Section 12(b)
of the Act:
Title of each class Trading Symbol(s) Name of each exchange on which registered
Common Stock, $0.01 par value per share KFFB The NASDAQ Stock Market LLC
Securities registered pursuant to Section 12(g)
of the Act: None
Indicate by check mark if the registrant is a
well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐ No ☒
Indicate by check mark if the registrant is not
required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒
Indicate by check mark whether the registrant
(1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements
for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant
has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (Section 232.405
of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes
☒ No ☐
Indicate by check mark whether the registrant
is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company.
See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company”
and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐ Accelerated filer ☐
Non-accelerated filer ☒ Smaller reporting company ☒
Emerging growth company ☐
If an emerging growth company, indicate by check
mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting
standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant
has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial
reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or
issued its audit report. ☐
If securities are registered pursuant to Section
12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction
of an error to previously issued financial statements. ☐
Indicate by check mark whether any of those error
corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s
executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐
Indicate by a check mark whether the registrant
is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
The aggregate market value of the common stock
held by nonaffiliates was $20.2 million as of December 31, 2022.
Number of shares of common stock outstanding as
of September 24, 2023: 8,086,715
DOCUMENTS INCORPORATED BY REFERENCE
The following lists the documents incorporated
by reference and the Part of the Form 10-K into which the document is incorporated:
INDEX
PAGE
PART I 1
Item 1. Business 1
Item 1A. Risk Factors 17
Item 1B. Unresolved Staff Comments 25
Item 2. Properties 25
Item 3. Legal Proceedings 25
Item 4. Mine Safety Disclosures 25
Item 6. [Reserved] 27
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 27
Item 8. Financial Statements and Supplementary Data 27
Item 9A. Controls and Procedures 27
Item 9B. Other Information 29
Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 29
PART III 30
Item 10. Directors, Executive Officers and Corporate Governance 30
Item 11. Executive Compensation 30
Item 14. Principal Accountant Fees and Services 31
Item 15. Exhibits and Financial Statement Schedules 32
SIGNATURES 34
i
PART I
Item 1. Business.
Forward-Looking Statements
Certain statements contained in this report
that are not historical facts are forward-looking statements that are subject to certain risks and uncertainties. When used herein, the
terms “anticipates,” “plans,” “expects,” “believes,” and similar expressions as they relate
to Kentucky First Federal Bancorp or its management are intended to identify such forward looking statements. Kentucky First Federal Bancorp’s
actual results, performance or achievements may materially differ from those expressed or implied in the forward-looking statements. Risks
and uncertainties that could cause or contribute to such material differences include, but are not limited to, general economic conditions,
prices for real estate in the Company’s market areas, interest rate environment, competitive conditions in the financial services
industry; changes in level of inflation; changes in the demand for loans, deposits and other financial services that we provide; the possibility
that future credit losses may be higher than currently expected; the impact of the interest rate environment on our business, financial
condition and results of operations; competitive pressures among financial services companies; the ability to attract, develop and retain
qualified employees; the ability to pay future dividends at currently expected rates; our ability to maintain the security of our data
processing and information technology systems; the outcome of pending or threatened litigation, or of matters before regulatory agencies;
changes in law, governmental policies and regulations, rapidly changing technology affecting financial services, the potential effects
of the COVID-19 pandemic on the local and national economic environment, on our customers and on our operations (as well as any changes
to federal, state and local government laws, regulations and orders in connection with the pandemic), the impacts related to or resulting
from Russia’s military action in Ukraine, including the broader impacts to financial markets, and the other matters mentioned in
Item 1A of this Annual Report on Form 10-K. Except as required by applicable law or regulation, the Company does not undertake the responsibility,
and specifically disclaims any obligation, to release publicly the result of any revisions that may be made to any forward-looking statements
to reflect events or circumstances after the date of the statements or to reflect the occurrence of anticipated or unanticipated events.
Accordingly, actual results may differ from those expressed in the forward-looking statements, and the making of such statements should
not be regarded as a representation by the Company or any other person that results expressed therein will be achieved.
General
References in this Annual Report on Form 10-K
to “we,” “us” and “our” refer to Kentucky First, and where appropriate, collectively to Kentucky First,
First Federal of Hazard and First Federal of Kentucky.
Kentucky First Federal Bancorp. Kentucky
First Federal Bancorp (“Kentucky First Federal” or the “Company”) was incorporated as a mid-tier holding company
under the laws of the United States on March 2, 2005 upon the completion of the reorganization of First Federal Savings and Loan Association
of Hazard (“First Federal of Hazard”) into a federal mutual holding company form of organization (the “Reorganization”).
On that date, Kentucky First Federal also completed its minority stock offering and its concurrent acquisition of Frankfort First Bancorp,
Inc. (“Frankfort First Bancorp”) and its wholly owned subsidiary First Federal Savings Bank of Kentucky, Frankfort, Kentucky
(“First Federal of Kentucky”) (the “Merger”). Following the Reorganization and Merger, the Company has operated
First Federal of Hazard and First Federal of Kentucky (collectively, the “Banks”) as two independent, community-oriented savings
institutions.
On December 31, 2012, Kentucky First Federal acquired
CFK Bancorp, Inc., the savings and loan holding company for Central Kentucky Federal Savings Bank, a federally chartered savings bank
located in Danville, Kentucky. Central Kentucky Federal Savings Bank was merged into First Federal of Kentucky and now operates as a division
of First Federal of Kentucky under the name “Central Kentucky Federal Savings Bank” through its two offices in Danville, Kentucky
and its Lancaster, Kentucky branch. With the acquisition, the Company expanded its customer base in the central Kentucky area with an
institution that shared its community banking orientation and thrift heritage and enjoyed a favorable reputation within the new Danville-Lancaster
market area.
Kentucky First’s and First Federal of Hazard’s
executive offices are located at 655 Main Street, Hazard, Kentucky, 41702 and the telephone number for investor relations is (888) 818-3372.
At June 30, 2023, Kentucky First had total assets
of $349.0 million, deposits of $226.3 million and stockholders’ equity of $50.7 million. The discussion in this Annual Report on
Form 10-K relates primarily to the businesses of First Federal of Hazard and First Federal of Kentucky, as Kentucky First’s operations
consist primarily of operating the Banks and investing funds retained in the Reorganization.
First Federal of Hazard and First Federal of Kentucky
are subject to examination and comprehensive regulation by the Office of the Comptroller of the Currency and their deposits are insured
up to applicable limits by the Deposit Insurance Fund, which is administered by the Federal Deposit Insurance Corporation. Both of the
Banks are members of the Federal Home Loan Bank of Cincinnati, which is one of the 11 regional banks in the FHLB System. See “Regulation
and Supervision.”
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First Federal Savings and Loan Association
of Hazard. First Federal of Hazard was formed as a federally chartered mutual savings and loan association in 1960. First Federal
of Hazard operates from a single office located at 655 Main Street, Hazard, Kentucky as a community-oriented savings and loan association
offering traditional financial services to consumers in Perry and surrounding counties in eastern Kentucky. It engages primarily in the
business of attracting deposits from the general public and using such funds to originate, when available, loans secured by first mortgages
on owner-occupied, residential real estate and occasionally other loans secured by real estate. To the extent there is insufficient loan
demand in its market area, and where appropriate under its investment policies, First Federal of Hazard has historically invested in mortgage-backed
and investment securities, although since the reorganization, First Federal of Hazard has been purchasing whole loans and participations
in loans originated at First Federal of Kentucky. At June 30, 2023, First Federal of Hazard had total assets of $89.1 million, net loans
of $81.0 million, total mortgage-backed and other securities of $4.3 million, deposits of $45.5 million and total capital of $18.0 million.
First Federal Savings Bank of Kentucky.
First Federal of Kentucky is a federally chartered savings bank, which is primarily engaged in the business of attracting deposits
from the general public and originating primarily adjustable-rate loans secured by first mortgages on owner-occupied and nonowner-occupied
one- to four-family residences in Franklin, Boyle, Garrard and other counties in Kentucky. First Federal of Kentucky also originates,
to a lesser extent, home equity loans and loans secured by churches, multi-family properties, professional office buildings and other
types of property. At June 30, 2023, First Federal of Kentucky had total assets of $260.4 million, net loans of $232.7 million, total
mortgage-backed and other securities of $8.1 million, deposits of $182.8 million and total capital of $30.5 million.
First Federal of Kentucky’s main office
is located at 216 W. Main Street, Frankfort, Kentucky 40602 and its main telephone number is (502) 223-1638.
Market Areas
First Federal of Hazard and First Federal of Kentucky
operate in three distinct market areas.
First Federal of Hazard’s market area consists
of Perry County, where the business office is located, as well as the surrounding counties of Letcher, Knott, Breathitt, Leslie and Clay
Counties in eastern Kentucky. The economy in its market area has been distressed in recent years. The local economy depends on the coal
industry and other industries, such as health care and manufacturing. Still, the economy in First Federal of Hazard’s market area
continues to lag behind the economies of Kentucky and the United States. In the most recent available data, using information from the
Commonwealth of Kentucky Economic Development and the United States Bureau of Labor Statistics, median household income in Perry County
is $43,931 compared to personal income of $52,326 in Kentucky and $74,580 in the United States. Total population in Perry County is approximately
28,000. However, as a regional economic center, Hazard tends to draw consumers and workers who commute from surrounding counties. Employment
in the market area, particularly in Perry County, consists service sector (50.4%), retail trade (23.6%), public administration (7.0%),
and finance, insurance and real estate (6.8%). During the last five years, the unemployment rate (not seasonally adjusted) has been higher
than most regions, and in July 2023, was 6.6%, compared to 3.8% in Kentucky and 3.8% in the United States.
First Federal of Kentucky’s primary lending
area includes the Kentucky counties of Franklin, Boyle, Garrard and surrounding counties, with the majority of lending originated on properties
located in Franklin and Boyle Counties.
Franklin County has a population of approximately
52,000, of which approximately 27,000 live within the city of Frankfort, which serves as the capital of Kentucky. The services sector
employs about 33.4% of the workforce followed by public administration (31.0%), followed by the retail (11.4%), and construction (7.8%.).
The unemployment rate was 4.1% for July 2023. The median household income in Franklin County is $64,016.
Boyle County has a population of approximately
31,000. The services sector employs about 43.6% of the work force, while retail trade represents the next largest job counts with approximately
18.6% of the workforce. The transportation and communications sector and the manufacturing sector represent approximately 10.8% and 10.6%
of the workforces, respectively. Centre College is one of the larger employers in the community. The unemployment rate was 5.1% in July
2023, while the median household income in Boyle County is $59,250.
2
Lending Activities
General. Our loan portfolio consists
primarily of one- to four-family residential mortgage loans. As opportunities arise, we also offer loans secured by churches, commercial
real estate, and multi-family real estate. We also offer loans secured by deposit accounts and home equity loans. Substantially all of
our loans are made within the Banks’ respective market areas.
Residential Mortgage Loans. Our
primary lending activity is the origination of mortgage loans to enable borrowers to purchase or refinance existing homes in the Banks’
respective market areas. At June 30, 2023, residential mortgage loans including construction loans and multi-family totaled $271.4 million,
or 85.9%, of our total loan portfolio. We offer a mix of adjustable-rate and fixed-rate mortgage loans with terms up to 30 years. Adjustable-rate
loans have an initial fixed term of one, three, five or seven years. After the initial term, the rate adjustments on most of our adjustable-rate
loans are indexed to the MIRS Transition Index, formerly known as PMMS+ Index. The interest rates on these mortgages are adjusted once
a year, with limitations on adjustments generally of one percentage point per adjustment period, and a lifetime cap of five percentage
points. We determine loan fees charged, interest rates and other provisions of mortgage loans on the basis of our own pricing criteria
and competitive market conditions. Some loans originated by the Banks have an additional advance clause which allows the borrower to obtain
additional funds at prevailing interest rates, subject to managements’ approval.
At June 30, 2023, the Company’s loan portfolio
included $237.4 million in adjustable-rate residential mortgage loans, or 87.5% of the Company’s residential mortgage loan portfolio.
The retention of adjustable-rate loans in the
portfolio helps reduce our exposure to increases in prevailing market interest rates. However, there are unquantifiable credit risks resulting
from potential increases in costs to borrowers in the event of upward repricing of adjustable-rate loans. It is possible that during periods
of rising interest rates, the risk of default on adjustable-rate loans may increase due to increases in interest costs to borrowers. Further,
although adjustable-rate loans allow us to increase the sensitivity of our interest-earning assets to changes in interest rates, the extent
of this interest sensitivity is limited by the initial fixed-rate period before the first adjustment and the periodic and lifetime interest
rate adjustment limitations. Accordingly, there can be no assurance that yields on our adjustable-rate loans will fully adjust to compensate
for increases in our cost of funds. Finally, adjustable-rate loans may decrease at a pace faster than decreases in our cost of funds,
resulting in reduced net income.
While one- to four-family residential real estate
loans are normally originated with up to 30-year terms, such loans typically remain outstanding for substantially shorter periods because
borrowers often prepay their loans in full upon sale of the mortgaged property or upon refinancing the original loan. Therefore, average
loan maturity is a function of, among other factors, the level of purchase and sale activity in the real estate market, prevailing interest
rates and the interest rates payable on outstanding loans. As interest rates declined and remained low over the past few years, we have
experienced high levels of loan repayments and refinancings.
The Banks offer various programs for the purchase
and refinance of one- to four-family loans. Most of these loans have loan-to-value ratios of 80% or less, based on an appraisal provided
by a state licensed or certified appraiser. For owner-occupied properties, the borrower may be able to borrow up to 95% of the value if
they secure and pay for private mortgage insurance or they may be able to obtain a second mortgage (at a higher interest rate) in which
they borrow up to 90% of the value. The Boards of Directors of the Banks may approve a loan above the 80% loan-to-value ratio without
such enhancements.
Construction Loans. We originate
loans for a term of one year or less to individuals to finance the construction of residential dwellings for personal use or for use as
rental property. On a case-by-case basis we consider construction loans on other than owner-occupied, residential property. At June 30,
2023, construction loans totaled $12.3 million, or 3.9%, of our total loan portfolio. Our construction loans generally provide for the
payment of interest only during the construction phase, which is usually less than one year. Loans generally can be made with a maximum
loan to value ratio of 80% of the appraised value. Funds are disbursed as progress is made toward completion of the construction based
on site inspections by qualified bank staff.
3
Construction financing is generally considered to involve a higher
degree of risk of loss than long-term financing on improved, occupied real estate. Risk of loss on a construction loan depends largely
upon the accuracy of the initial estimate of the property’s value at completion of construction or development and the estimated
cost (including interest) of construction. During the construction phase, a number of factors could result in delays and cost overruns.
If the estimate of construction costs proves to be inaccurate, we may be required to advance funds beyond the amount originally committed
to permit completion of the development. If the estimate of value proves to be inaccurate, we may be confronted, at or before the maturity
of the loan, with a project having a value which is insufficient to assure full repayment. As a result of the foregoing, construction
lending often involves the disbursement of substantial funds with repayment dependent, in part, on the success of the ultimate project
rather than the ability of the borrower or guarantor to repay principal and interest. If we are forced to foreclose on a project before
or at completion due to a default, there can be no assurance that we will be able to recover the unpaid balance and accrued interest on
the loan, as well as related foreclosure and holding costs.
Multi-Family Loans. We offer mortgage
loans secured by multi-family property (residential real estate comprised of five or more units.) At June 30, 2023, multi-family loans
totaled $19.1 million, or 6.0%, of our total loan portfolio. We originate multi-family real estate loans for terms of generally 25 years
or less. Loan amounts generally do not exceed 80% of the appraised value and tend to range much lower.
Nonresidential Loans. As opportunities
arise, we offer mortgage loans secured by nonresidential real estate, which is generally secured by commercial office buildings, churches,
and properties used for other purposes. At June 30, 2023, nonresidential real estate loans totaled $30.2 million, or 9.6% of our total
loan portfolio. We originate nonresidential real estate loans for terms of generally 25 years or less and loan amounts generally do not
exceed 80% of the appraised value and tend to range much lower.
Loans secured by multi-family and nonresidential
real estate generally have larger balances and involve a greater degree of risk than one- to four-family residential mortgage loans. Of
primary concern in multi-family and nonresidential real estate lending is the borrower’s creditworthiness and the feasibility and
cash flow potential of the project. Payments on loans secured by income properties often depend on successful operation and management
of the properties. As a result, repayment of such loans may be subject to a greater extent than residential real estate loans to adverse
conditions in the real estate market or the economy. To monitor cash flows on income properties, we require borrowers and/or loan guarantors
to provide annual financial statements on larger multi-family and commercial real estate loans. In reaching a decision on whether to make
a multi-family or nonresidential real estate loan, we consider the net cash flow of the project, the borrower’s expertise, credit
history and the value of the underlying property.
Commercial Non-mortgage Loans. At
June 30, 2023, commercial non-mortgage loans totaled $1.2 million, or 0.4%, of our total loan portfolio. We do not emphasize commercial
non-mortgage loans, which may be secured by vehicles used in business or by inventory and equipment of the business or may be unsecured,
although we do originate such loans on a limited basis and generally require a pre-existing relationship with the Bank. These loans are
made only to businesses in our local market and we generally require personal guarantees of well-established individuals for these loans.
Commercial loans involve an even greater degree of risk than real estate loans.
Consumer Lending. Our consumer loans
include home equity lines of credit, loans secured by savings deposits, automobile loans and unsecured or personal loans. At June 30,
2023, our consumer loan balance totaled $10.8 million, or 3.5%, of our total loan portfolio. Of the consumer loan balance at June 30,
2023, $9.2 million were home equity loans, $855,000 were loans secured by savings deposits and $715,000 were automobile or unsecured loans.
Our home equity loans are made on the security of residential real estate and have terms of up to 15 years. Most of our home equity loans
are second mortgages subordinate only to first mortgages also held by the bank and do not exceed 80% of the estimated value of the property,
less the outstanding principal of the first mortgage, although we do offer home equity loans up to 90% of the value less the balance of
the first mortgage at a premium rate to qualified borrowers. These loans are not secured by private mortgage insurance. Our home equity
loans require the monthly payment of 1.0% to 2.0% of the unpaid principal until maturity, when the remaining unpaid principal, if any,
is due. Home equity loans bear variable rates of interest indexed to the prime rate for loans with 80% or less loan-to-value ratio, and
2% above the prime rate for loans with a loan-to-value ratio in excess of 80%. Interest rates on these loans can be adjusted monthly.
At June 30, 2023, the total outstanding home equity loans amounted to 2.9% of the Company’s total loan portfolio.
4
Loans secured by savings are originated for up
to 90% of the depositor’s savings account balance. The interest rate is varying percentage points above the rate paid on the savings
account, and the account must be pledged as collateral to secure the loan. At June 30, 2023, loans on savings accounts totaled 0.3% of
the Company’s total loan portfolio.
Consumer loans generally entail greater risk than
do residential mortgage loans, particularly in the case of consumer loans which are unsecured or secured by rapidly depreciable assets.
Automobile and unsecured loans at June 30, 2023, totaled 0.2% of the Company’s total loan portfolio.
Loan Originations, Purchases and Sales.
Loan originations come from a number of sources. The primary source of loan originations are our in-house loan originators, and to a lesser
extent, advertising and referrals from customers and real estate agents. First Federal of Kentucky sells fixed-rate loans with longer
maturities to the Federal Home Loan Bank of Cincinnati (“FHLB-Cincinnati”). We earn income on the loans sold through fees
we charge on the origination, interest spread premiums earned when we sell the loans, and loan servicing fees on an on-going basis, because
servicing rights are retained on such loans. At June 30, 2023, $21.7 million in loans were being serviced by First Federal of Kentucky
for the FHLB-Cincinnati.
Loan Approval Procedures and Authority.
Our lending activities follow written, nondiscriminatory, underwriting standards and loan origination procedures established by each Bank’s
Board of Directors and management. Each Bank’s loan committee can approve or deny loans on one- to four-family properties totaling
$500,000 or less. First Federal of Hazard’s loan committee consists of its two senior officers, while First Federal of Kentucky’s
loan approval process allows for various combinations of experienced bank officers to approve or deny loans which are one- to four-family
properties. Loans that do not conform to this criteria must be submitted to the Board of Directors or Loan Committee composed of at least
three directors, for approval.
It is the Company’s practice to record a
lien on the real estate securing a loan. The Banks generally do not require title insurance, although it may be required for loans made
in certain programs. The Banks do require fire and casualty insurance on all security properties and flood insurance when the collateral
property is located in a designated flood hazard area.
Loans to One Borrower. The maximum
amount either Bank may lend to one borrower and the borrower’s related entities is limited, by regulation, to generally 15% of that
Bank’s stated capital and the allowance for loan losses. At June 30, 2023, the regulatory limit on loans to one borrower was $2.8
million for First Federal of Hazard and $4.6 million for First Federal of Kentucky. Neither of the Banks had lending relationships in
excess of their respective lending limits. However, loans or participations in loans may be sold among the Banks, which may allow a borrower’s
total loans with the Company to exceed the limit of either individual bank.
Loan Commitments. The Banks issue
commitments for the funding of mortgage loans. Generally, these commitments exist from the time the underwriting of the loan is completed
and the closing of the loan. Generally, these commitments are for a maximum of 30 or 60 days but management routinely extends the commitment
if circumstances delay the closing. Management reserves the right to verify or re-evaluate the borrower’s qualifications and to
change the rates and terms of the loan at that time.
If conditions exist whereby either Bank experiences
a significant increase in loans outstanding or commits to originate loans that are riskier than a typical one- to four-family mortgage,
management and the boards will consider reflecting the anticipated loss exposure in a separate liability. As residential loans are approved
in the normal course of business, and those loans are underwritten to the standards of the Banks, management does not believe alteration
of the allowance for loan losses is warranted. At June 30, 2023, no commitment losses were reflected in a separate liability.
Both Banks offer construction loans that either
have a separate construction period of one year or less, approved with a simultaneous commitment for permanent financing, or a loan that
has a construction phase of one year or less that is convertible to permanent financing.
Interest Rates and Loan Fees. Interest
rates charged on mortgage loans are primarily determined by competitive loan rates offered in our market areas and our yield objectives.
Mortgage loan rates reflect factors such as prevailing market interest rate levels, the supply of money available to the savings industry
and the demand for such loans. These factors are in turn affected by general economic conditions, the monetary policies of the federal
government, including the Board of Governors of the Federal Reserve System, the general supply of money in the economy, tax policies and
governmental budget matters.
5
We receive fees in connection with late payments
on our loans. Depending on the type of loan and the competitive environment for mortgage loans, we may charge an origination fee on all
or some of the loans we originate. We may also offer a menu of loans whereby the borrower may pay a higher fee to receive a lower rate
or to pay a smaller or no fee for a higher rate.
Delinquencies. When a borrower fails
to make a required loan payment, we take a number of steps to have the borrower cure the delinquency and restore the loan to current status.
We make initial contact with the borrower when the loan becomes 15 days past due. Subsequently, bank staff, under the direct supervision
of senior management and with consultation by the Banks’ attorneys, attempt to contact the borrower and determine their status and
plans for resolving the delinquency. However, once a delinquency reaches 90 days, management considers foreclosure and, if the borrower
has not provided a reasonable plan (such as selling the collateral, securing a commitment from another lender to refinance the loan or
submitting a plan to repay the delinquent principal, interest, escrow, and late charges) the foreclosure suit may be initiated. In some
cases, management may delay initiating the foreclosure suit if, in management’s opinion, the Banks’ chance of loss is minimal
(such as with loans where the estimated value of the property greatly exceeds the amount of the loan) or if the original borrower is deceased
or incapacitated. If a foreclosure action is initiated and the loan is not brought current, paid in full, or refinanced with another lender
before the foreclosure sale, the real property securing the loan is sold at foreclosure. The Banks are represented at the foreclosure
sale and in most cases will bid an amount equal to the Banks’ investment (including interest, advances for taxes and insurance,
foreclosure costs, and attorney’s fees). If another bidder outbids the Bank, the Bank’s investment is received in full. If
another bidder does not outbid the Banks, the Banks acquire the property and attempt to sell it to recover their investment.
A borrower’s filing for bankruptcy can alter
the methods available to the Banks to seek collection. In such cases, the Banks work closely with legal counsel to resolve the delinquency
as quickly as possible.
We may consider loan workout arrangements with
certain borrowers under certain conditions. Management of each bank provides a report to its board of directors on a monthly basis of
all loans more than 60 days delinquent, including loans in foreclosure, and all property acquired through foreclosure.
Investment Activities
We have legal authority to invest in various types
of liquid assets, including U.S. Treasury obligations, securities of various federal agencies and state and municipal governments, mortgage-backed
securities and certificates of deposit of federally insured institutions. We also are required to maintain an investment in FHLB-Cincinnati
stock, the level of which is largely dependent on our level of borrowings from the FHLB.
At June 30, 2023, our investment portfolio consisted
of mortgage-backed securities issued and guaranteed by Fannie Mae, Freddie Mac and Ginnie Mae with stated final maturities of 30 years
or less. The Company held no equity position with Fannie Mae or Freddie Mac.
Our investment objectives are to provide an alternate
source of low-risk investments when loan demand is insufficient, to provide and maintain liquidity, to maintain a balance of high quality,
diversified investments to minimize risk, to provide collateral for pledging requirements, to establish an acceptable level of interest
rate risk, and to generate a favorable return. The Banks’ Board of Directors has the overall responsibility for each institution’s
investment portfolio, including approval of investment policies. The management of each Bank may authorize investments as prescribed
in each of the Bank’s investment policies.
Bank Owned Life Insurance
First Federal of Kentucky owns several Bank Owned
Life Insurance policies totaling $2.8 million at June 30, 2023. The purpose of these policies is to offset future escalation of the costs
of non-salary employee benefit plans such as First Federal of Kentucky’s defined benefit retirement plan and First Federal of Kentucky’s
health insurance plan. The lives of certain key Bank employees are insured, and First Federal of Kentucky is the sole beneficiary and
will receive any benefits upon the employee’s death. The policies were purchased from four highly-rated life insurance companies.
The design of the plan allows for the cash value of the policy to be designated as an asset of First Federal of Kentucky. The asset’s
value will increase by the crediting rate, which is a rate set by each insurance company and is subject to change on an annual basis.
The growth of the value of the asset will be recorded as other operating income. Management does not foresee any expense associated with
the plan. Because this is a life insurance product, current federal tax laws exempt the income from federal income taxes.
6
Bank owned life insurance is not secured by any
government agency nor are the policies’ asset values or death benefits secured specifically by tangible property. Great care was
taken in selecting the insurance companies, and the bond ratings and financial condition of these companies are monitored on a quarterly
basis. The failure of one of these companies could result in a significant loss to First Federal of Kentucky. Other risks include the
possibility that the favorable tax treatment of the income could change, that the crediting rate will not be increased in a manner comparable
to market interest rates, or that this type of plan will no longer be permitted by First Federal of Kentucky’s regulators. This
asset is considered illiquid because, although First Federal of Kentucky may terminate the policies and receive the original premium plus
all earnings, such an action would require the payment of federal income taxes on all earnings since the policies’ inception.
Deposit Activities and Other Sources of Funds
General. Deposits, loan repayments
and maturities, redemptions, sales and repayments of investment and mortgage-backed securities are the major sources of our funds for
lending and other investment purposes. Loan repayments are a relatively stable source of funds, while deposit inflows and outflows and
loan prepayments are significantly influenced by general interest rates and money market conditions.
Deposit Accounts. The vast majority
of our depositors are residents of the Banks’ respective market areas. Deposits are attracted from within our market areas through
the offering of passbook savings and certificate accounts, and, at First Federal of Kentucky, checking accounts and individual retirement
accounts (“IRAs”). We began utilizing brokered funds in June 2023 and had $21.0 million in such deposits at June 30, 2023.
Deposit account terms vary according to the minimum balance required, the time periods the funds must remain on deposit and the interest
rate, among other factors. In determining the terms of our deposit accounts, we consider the rates offered by our competition, profitability
to us, asset liability management and customer preferences and concerns. We review our deposit mix and pricing on an ongoing basis as
needed.
Borrowings. First Federal of Hazard
and First Federal of Kentucky borrow from the FHLB-Cincinnati to supplement their supplies of investable funds and to meet deposit withdrawal
requirements. The Federal Home Loan Bank functions as a central reserve bank providing credit for member financial institutions. As members,
each Bank is required to own capital stock in the FHLB-Cincinnati and is authorized to apply for advances on the security of such stock
and certain of our mortgage loans and other assets (principally securities which are obligations of, or guaranteed by, the United States),
provided certain standards related to creditworthiness have been met. Advances are made under several different programs, each having
its own interest rate and range of maturities. Depending on the program, limitations on the amount of advances are based either on a fixed
percentage of an institution’s net worth or on the Federal Home Loan Bank’s assessment of the institution’s creditworthiness.
Subsidiary Activities
The Company has no other wholly owned subsidiaries
other than First Federal of Hazard and Frankfort First Bancorp. Frankfort First Bancorp has one subsidiary, First Federal of Kentucky.
As federally chartered savings institutions, the
Banks are permitted to invest an amount equal to 2% of assets in subsidiaries, with an additional investment of 1% of assets where such
investment serves primarily community, inner-city and community-development purposes. Under such limitations, as of June 30, 2023, First
Federal of Hazard and First Federal of Kentucky were authorized to invest up to $1.8 million and $5.2 million, respectively, in the stock
of or loans to subsidiaries, including the additional 1% investment for community, inner-city and community development purposes.
Competition
We face significant competition for the attraction
of deposits and origination of loans. Our most direct competition for deposits has historically come from the banks and credit unions
operating in our market areas and, to a lesser extent, from other financial services companies, such as investment brokerage firms. We
also face competition for depositors’ funds from money market funds and other corporate and government securities. Several of our
competitors are significantly larger than us and, therefore, have significantly greater resources. We expect competition to increase in
the future as a result of legislative, regulatory and technological changes and the continuing trend of consolidation in the financial
services industry. Technological advances, for example, have lowered the barriers to enter new market areas, allowed banks to expand their
geographic reach by providing services over the Internet and made it possible for non-depository institutions to offer products and services
that traditionally have been provided by banks. Changes in federal law permit affiliation among banks, securities firms and insurance
companies, which promotes a competitive environment in the financial services industry. Competition for deposits and the origination of
loans could limit our growth in the future.
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According to the Federal Deposit Insurance Corporation
(“FDIC”), at June 30, 2022, the latest date for which data is available, First Federal of Hazard had a deposit market share
of 6.9% in Perry County. Its largest competitors, Hazard Bancorp (Peoples Bank & Trust Company of Hazard,) 1st Trust Bank,
Inc., and Community Trust Bancorp, Inc. (Community Trust Bank, Inc.) had Perry County deposit market shares of 38.7%, 24.0% and 27.6%,
respectively. First Federal of Hazard’s competition for loans comes primarily from financial institutions in its market area and,
to a lesser extent, from other financial services providers, such as mortgage companies and mortgage brokers. Competition for loans also
comes from the increasing number of non-depository financial services companies entering the mortgage market, such as insurance companies,
securities companies and specialty finance companies.
First Federal of Kentucky’s principal competitors
for deposits in its market area are other banking institutions, such as commercial banks and credit unions, as well as mutual funds and
other investments. First Federal of Kentucky principally competes for deposits by offering a variety of deposit accounts, convenient business
hours and branch locations, customer service and a well-trained staff. According to the FDIC, at June 30, 2022, First Federal of Kentucky
had deposit market share of 8.2%, 7.0% and 16.9% for the Kentucky counties of Franklin, Boyle and Garrard. Its largest competitors for
depositors are the Boyle Bancorp, Inc. (The Farmers National Bank of Danville) at 24.5%, Wesbanco Bank, Inc. (Wesbanco) at 17.3% and Community
Trust Bancorp, Inc., (Community Trust Bank) at 6.8% market share in the three-county area. Wesbanco Bank, Inc., Boyle Bancorp, Inc., and
Community Trust Bancorp, Inc. had assets at June 30, 2023, of $17.4 billion, $921.0 million and $5.5 billion, respectively. The Bank also
faces considerable competition from credit unions including the Commonwealth Credit Union ($1.8 billion in assets) and the Expree Credit
Union ($92.0 million in assets). First Federal of Kentucky competes for loans with other depository institutions, as well as specialty
mortgage lenders and brokers and consumer finance companies. First Federal of Kentucky principally competes for loans on the basis of
interest rates and the loan fees it charges, the types of loans it originates and the convenience and service it provides to borrowers.
In addition, First Federal of Kentucky believes it has developed strong relationships with the businesses, real estate agents, builders
and general public in its market area.
Personnel
At June 30, 2023, we had 60 full-time employees
and two part-time employees, none of whom was represented by a collective bargaining unit. We believe our relationship with our employees
is good.
Regulation and Supervision
General. First Federal of Hazard
and First Federal of Kentucky are subject to extensive regulation, examination and supervision by the Office of the Comptroller of the
Currency (OCC), as their primary federal regulator, and the Federal Deposit Insurance Corporation (FDIC), as insurer of deposits. First
Federal of Hazard and First Federal of Kentucky are each members of the Federal Home Loan Bank System and their deposit accounts are insured
up to applicable limits by the Deposit Insurance Fund (DIF) of the FDIC. First Federal of Hazard and First Federal of Kentucky must each
file reports with the OCC and the FDIC concerning their activities and financial condition in addition to obtaining regulatory approvals
before entering into certain transactions such as mergers with, or acquisitions of, other financial institutions. There are periodic examinations
by the OCC and, under certain circumstances, the FDIC to evaluate First Federal of Hazard’s and First Federal of Kentucky’s
safety and soundness and compliance with various regulatory requirements. The Board of Governors of the Federal Reserve System (Federal
Reserve Board), the agency that regulates and supervises bank and savings and loan holding companies, supervises and regulates Kentucky
First and First Federal MHC. Kentucky First and First Federal MHC, as savings and loan holding companies, are required to file certain
reports with, and are subject to examination by, and otherwise are required to comply with the rules and regulations of the Federal Reserve
Board. This regulatory structure is intended primarily for the protection of the DIF and depositors.
The Dodd-Frank Wall Street Reform and Consumer
Protection Act of 2010 (Dodd-Frank Act) significantly changed the financial regulatory regime in the United States. Since the enactment
of the Dodd-Frank Act, U.S. banks and financial services firms have been subject to enhanced regulation and oversight. Several provisions
of the Dodd-Frank Act remain subject to further rulemaking, guidance, and interpretation by the federal banking agencies.
8
Enacted in 2018, the Economic Growth, Regulatory
Relief, and Consumer Protection Act of 2018 (EGRRCPA) amended certain provisions of the Dodd-Frank Act. EGRRCPA provides limited regulatory
relief to certain financial institutions, while preserving the existing framework under which U.S. financial institutions are regulated.
In addition to amending the Dodd-Frank Act, EGRRCPA also includes several provisions that positively affect smaller banking institutions
(e.g., those with less than $10 billion in assets) like the Banks. Specific provisions of the EGRRCPA that benefit smaller banks include
modifications to the “qualified mortgage” criteria under the “ability to repay” rules for certain mortgages that
are held and maintained on the Bank’s retained portfolio as well as relief from certain capital requirements with the creation of
a “community bank leverage ratio.” See “Federal Savings Association Regulation – Capital Requirements.”
Certain of the regulatory requirements that are
applicable to First Federal of Hazard, First Federal of Kentucky, Kentucky First and First Federal MHC are described below. This discussion
does not purport to be a complete description of the laws and regulations involved, and is qualified in its entirety by the actual laws
and regulations. Moreover, laws and regulations are subject to changes by the U.S. Congress or the regulatory agencies as applicable.
Regulation of Federal Savings Associations
Business Activities. Federal law
and regulations, primarily the Home Owners’ Loan Act and the regulations of the OCC, govern the activities of federal savings associations,
such as First Federal of Hazard and First Federal of Kentucky. These laws and regulations delineate the nature and extent of the activities
in which federal savings associations may engage. In particular, certain lending authority for federal savings associations (e.g.,
commercial, nonresidential real property loans and consumer loans) is limited to a specified percentage of the association’s capital
or assets.
Branching. Federal savings associations
are authorized to establish branch offices in any state or states of the United States and its territories, subject to the approval of
the OCC.
Capital Requirements. Federal regulations
require insured depository institutions, including federal savings associations to meet four minimum capital standards: a 4.0% Tier 1
leverage ratio; a 4.5% common equity Tier 1 ratio; a 6.0% Tier 1 capital to risk-weighted assets ratio; and an 8% Total capital to risk-weighted
assets ratio. These requirements were effective January 1, 2015, and are the result of a final rule implementing recommendations of the
Basel Committee on Banking Supervision (Basel III) and certain requirements of the Dodd Frank Act. The regulations also include a “capital
conservation buffer” of 2.5% above the regulatory minimum capital requirements, which must consist entirely of common equity Tier
1 capital and result in the following minimum ratios: (1) a common equity Tier 1 capital ratio of 7.0%, (2) a Tier 1 capital ratio of
8.5%, and (3) a total capital ratio of 10.5%. The capital conservation buffer requirement was phased in beginning in January 2016 at 0.625%
of risk-weighted assets and increased by that amount each year until fully implemented in January 2019. An institution will be subject
to limitations on paying dividends, engaging in share repurchases and paying discretionary bonuses if its capital level falls below the
buffer amount.
Tier 1 capital is generally defined as common
stockholders’ equity (including retained earnings), certain non-cumulative perpetual preferred stock and related surplus and minority
interests in equity accounts of consolidated subsidiaries, less intangibles other than certain mortgage servicing rights and credit card
relationships. The regulations eliminate the inclusion of certain instruments, such as trust preferred securities, from Tier 1 capital.
Instruments issued before May 19, 2010, are grandfathered for companies with consolidated assets of $15 billion or less. The components
of Tier 2 capital currently include cumulative preferred stock, long-term perpetual preferred stock, mandatory convertible securities,
subordinated debt and intermediate preferred stock, the allowance for loan and lease losses limited to a maximum of 1.25% of risk-weighted
assets and up to 45% of unrealized gains on available-for-sale equity securities with readily determinable fair market values. Overall,
the amount of Tier 2 capital included as part of total capital cannot exceed 100% of core capital. Total capital is defined as core capital
and supplementary capital, less certain specified deductions from total capital such as reciprocal holdings of depository institution
capital, instruments and equity investments. For purposes of determining the amount of risk-weighted assets, all assets, including certain
off-balance sheet assets, recourse obligations, residual interests and direct credit substitutes, are multiplied by a risk-weight factor
of 0% to 150%, as assigned by the capital regulation based on the risks believed inherent in the type of asset.
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The EGRRCPA required the federal banking agencies,
including the OCC, to establish a “community bank leverage ratio” (CBLR) for qualifying community banking organizations having
less than $10 billion in average total consolidated assets and a leverage ratio of greater than 9%. The CBLR is an alternative framework
that permits qualifying institutions to calculate a leverage ratio to measure capital adequacy. Institutions opting into the CBLR framework
are not be required to calculate or report risk-based capital and are deemed to have met the “well capitalized” ratio requirements
and be in compliance with the generally applicable capital rule if they meet the CBLR ratio. The CBLR ratio is the ratio of a banking
organization’s Tier 1 capital to its average total consolidated assets as reported on the banking organization’s applicable
regulatory filings. The federal agencies published a final rule on October 9, 2020, effective November 9, 2020, that set the CBLR at 9%
beginning on January 1, 2022. The CARES Act directed the federal banking agencies to issue an interim rule temporarily lowering the CBLR
ratio to 8% which the agencies did with a transition back to 9% by year-ended 2021. The Banks elected to use the CBLR framework effective
for the quarter ended March 31, 2020. As of June 30, 2023, the capital levels of First Federal of Hazard and First Federal of Kentucky
exceed the minimum required capital amounts for capital adequacy. See Note K-Stockholders’ Equity and Regulatory Capital in notes
to financial statements.
Prompt Corrective Regulatory Action.
Federal law requires the federal banking agencies to take “prompt corrective action” should an insured depository institution
fail to meet certain capital adequacy standards. Prompt corrective action regulations provide five capital classifications: well capitalized,
adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized, although these terms are not
used to represent overall financial condition. Under the regulations, an institution is deemed to be “well capitalized” if
it has a total risk-based capital ratio of 10.0% or greater, a Tier 1 risk-based capital ratio of 8.0% or greater, a leverage ratio of
5.0% or greater and a common equity Tier 1 ratio of 6.5% or greater. An institution is “adequately capitalized” if it has
a total risk-based capital ratio of 8.0% or greater, a Tier 1 risk-based capital ratio of 6.0% or greater, a leverage ratio of 4.0% or
greater and a common equity Tier 1 ratio of 4.5% or greater. An institution is “undercapitalized” if it has a total risk-based
capital ratio of less than 8.0%, a Tier 1 risk-based capital ratio of less than 6.0%, a leverage ratio of less than 4.0% or a common equity
Tier 1 ratio of less than 4.5%. An institution is deemed to be “significantly undercapitalized” if it has a total risk-based
capital ratio of less than 6.0%, a Tier 1 risk-based capital ratio of less than 4.0%, a leverage ratio of less than 3.0% or a common equity
Tier 1 ratio of less than 3.0%. An institution is considered to be “critically undercapitalized” if it has a ratio of tangible
equity (as defined in the regulations) to total assets that is equal to or less than 2.0%.
If less than adequately capitalized, regulatory
approval is required to accept broker deposits. The OCC is required to take certain supervisory actions against undercapitalized federal
savings associations, the severity of which depends upon the association’s degree of undercapitalization. In addition, numerous
mandatory supervisory actions become immediately applicable to an undercapitalized association, including, but not limited to, increased
monitoring by regulators and restrictions on growth, capital distributions and expansion. The OCC could also take any one of a number
of discretionary supervisory actions, including the issuance of a capital directive and the replacement of senior executive officers and
directors. Significantly and undercapitalized associations are subject to additional mandatory and discretionary measures.
Loans to One Borrower. Federal law
provides that federal savings associations are generally subject to the limits on loans to one borrower applicable to national banks.
Subject to certain exceptions, a federal savings association may not make a loan or extend credit to a single or related group of borrowers
in excess of 15% of its unimpaired capital and surplus. An additional amount may be lent, equal to 10% of unimpaired capital and surplus,
if secured by specified readily-marketable collateral, which generally does not include real estate.
Standards for Safety and Soundness.
As required by statute, the federal banking agencies have adopted Interagency Guidelines prescribing Standards for Safety and Soundness.
The guidelines set forth the safety and soundness standards that the federal banking agencies use to identify and address problems at
insured depository institutions before capital becomes impaired. If the OCC determines that a federal savings association fails to meet
any standard prescribed by the guidelines, the OCC may require the institution to submit an acceptable plan to achieve compliance with
the standard. If an institution fails to meet these standards, the OCC may require the institution to implement an acceptable compliance
plan. Failure to implement such a plan can result in further enforcement action, including the issuance of a cease-and-desist order or
the imposition of civil money penalties.
Limitation on Capital Distributions.
OCC regulations impose limitations upon all capital distributions by a federal savings association, including cash dividends, payments
to repurchase its shares and payments to shareholders of another institution in a cash-out merger. Under the regulations, an application
to and the prior approval of the OCC is required before any capital distribution if, among other circumstances the association will not
remain an “eligible” savings association (i.e., generally, well capitalized and with examination and Community Reinvestment
Act ratings in the two top categories), the total capital distributions for the calendar year exceed net income for that year plus the
amount of retained net income for the preceding two years, the federal savings association is directly or indirectly controlled by a mutual
savings and loan holding company or the distribution would otherwise be contrary to a statute, regulation or agreement with the. In addition,
the federal savings association must provide 30 days prior notice to the Federal Reserve Board of the capital distribution if, like First
Federal of Hazard and First Federal of Kentucky, it is a subsidiary of a holding company. If First Federal of Hazard’s or First
Federal of Kentucky’s capital were ever to fall below its regulatory requirements or the OCC notified it that it was in need of
increased supervision, its ability to make capital distributions could be restricted. In addition, the OCC could prohibit a proposed capital
distribution that would otherwise be permitted by the regulation, if the agency determines that such distribution would constitute an
unsafe or unsound practice.
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Qualified Thrift Lender Test. Federal
law requires federal savings associations to meet a qualified thrift lender test. Under the test, a federal savings association is required
to either qualify as a “domestic building and loan association” under the Internal Revenue Code or maintain at least 65% of
its “portfolio assets” (total assets less: (i) specified liquid assets up to 20% of total assets; (ii) intangibles, including
goodwill; and (iii) the value of property used to conduct business) in certain “qualified thrift investments” (primarily residential
mortgages and related investments, including certain mortgage-backed securities, education loans, credit card loans and small business
loans) in at least 9 months out of each 12-month period.
A savings association that fails the qualified
thrift lender test is immediately subject to certain operating restrictions, including restrictions on new activities, branching and the
payment of dividends. The Dodd-Frank Act also specifies that failing the qualified thrift lender test is a violation of law that could
result in an enforcement action. Failure to correct the violation within 12 months will cause the association’s savings and loan