Foresight Financial Group, Inc.
Annual Report 2011

Plain-text annual report

R O U G H C OMMUNITY BANKING R O U G H C OMMUNITY BANKING H H G T G T MUNITY BUIL DI N MUNITY BUIL DI N M M O O C C TWENTY FIVE 1986 - 2011 Years R O U G H C OMMUNITY BANKING H G T MUNITY BUIL DI N M O C FORESIGHT FINANCIAL GROUP, INC ∫ 2011 ANNUAL REPORT www.foresightfg.com STATE BANK of DAVIS Freeport, IL 1986 - 2011 TWENTY∫ FIVE Dear Shareholders, Your company completed its first 25 years in business in 2011 in an operating environment few of the company’s organizers would have imagined. Yet, it is the fundamental philosophies of community banking embraced by those wise local citizens that provided the model Foresight Financial Group has followed to successfully manage through the myriad of changes that has occurred in the economy and banking industry the past 25 years. Their philosophical foundation of having individual bank charters, with local boards and decision makers serving as committed financial stewards working together with like minded community bankers through the changing dynamics of balancing the collective interests of Customers, Communities, Shareholders, and Team Members, has provided the means to successfully pursue our mission of Community Building Through Community Banking while many others have failed. Customers have benefitted over the years from industry-wide adoption of convenient technology driven electronic products and services, with payments evolving from unwieldy paper checks to debit cards and automated bill payment. Banking using the internet and mobile phones was likely not envisioned 25 years ago when the banking industry had over 15,000 institutions. Industry consolidation driven by regulatory and economic changes has reduced that number to 7,357 at the end of 2011, with 813 of those institutions still on the FDIC’s problem list after nearly 400 bank failures, when only six years ago there were less than a handful of banks on that problem list. Home mortgage loan interest rates have dropped the past 25 years from double digits to currently as low as 3% for a 15 year fixed rate loan. These stunning facts are an outcome of years of regulatory, technological, and economic change, including the great recession of 2008 that was precipitated by the Wall Street banks’ credit and liquidity crisis. Those banks brought the confidence crisis upon themselves by engaging in unsound practices that included abuses in sub-prime mortgages, check “bounce protection” programs, and credit card and auto loan securitizations that community banks, including the Foresight group, chose to avoid as not in their customers’ best interests. Communities cannot prosper when Customers’ interests are compromised. The following points from Foresight’s history, along with charts on the next pages, are illustrative of the soundness of the fundamental philosophies put in place from the beginning, along with the prudent stewardship of our local boards of directors, and careful execution of sound community banking management practices by our executives and Team Members over our 25 year journey working cooperatively together: • Organizational growth from 2 banks with $45 million in assets with 14 employees to 5 banks with $885 million in assets with over 190 employees; • Pooling of resources to consolidate “back-room” operations, technology, financial, capital, and audit and compliance support that has reduced the relative cost of operating (based on asset size) by over 50% over the years, with operating overhead cost performance consistently significantly better than 80% of our peers for the past decade; • Sharing of lending expertise and capacity, with shared loans between the Foresight Bank group reaching $210 million at year end 2011, and a combined legal lending limit of $21.7 million, up from less than $1 million in 1986; this has supported Customers and Communities. • Profitability that has been consistently above peers, with continuous dividend payments to Shareholders despite the impact of the great recession, with a 25 year growth in book value per share of common stock of over 2,000%; • Rewarding careers for our Team Members nearly one third of whom have had over 20 years experience at community banks, most of which with the Foresight group. 2 2011 ANNUAL REPORT Years1986 - 2011 TWENTY∫ FIVE We appreciate your recognition and support of these fundamental philosophies as we rely upon them as the basis to navigate the future changes and challenges of the next 25 years of Community Building Through Community Banking in our chosen markets. We think they have stood the test of time. The 25th year of operations in 2011 was again challenged by the lingering effects of the great recession, as local unemployment improved slightly from 14% to 12%, and the national economy grew 2-3%, despite significant political turmoil in the U.S. and world-wide. Local real estate markets, both residential and commercial are still extremely weak, although manufacturing is improving, and agriculture is on a high note. With interest rates very low and even declining further during 2011, the Foresight banks were able to improve profits again despite the ongoing burden of high credit costs. For the year net income increased 12.9% to $6,568,000 from $5,815,000 in 2010. This was just short of our record earnings year in 2007 of $6,591,000. Return on assets of 76 basis points was much better than peer group average of 53 basis points. Nationwide in 2011, 15% of all banks were still not profitable. The Foresight Banks improved net income in 2011 with careful management of net interest income, which increased $3.3 million (up 11.7%), and of noninterest overhead costs, which increased less than 2%. For a third consecutive year, the Foresight banks achieved positive loan growth (up 3.2% in 2011), while peer group banks averaged a 3% decline in loan volume. Credit costs including expense related to foreclosed assets remained burdensome, reaching $9.96 million, up 5% from $9.51 million in 2010. The level of non-accrual loans and foreclosed real estate did decline from $23 million to $19 million during 2011, but remain the biggest obstacle to the company along with the depressed real estate markets Foresight’s total risk based capital remains very strong at 15.06%, and we are working toward building further upon the $6 million in cash we hold to begin repayment of the $15.75 redemption value of our TARP Capital in a significant amount by year end 2012. Asset quality will be the determining factor of how much progress can be made. Significant additional pages in the footnotes to the auditors’ report this year discloses much more detail than in past years, as regulations and accounting principles have further addressed this important area to enhance transparency of bank financial statements. We see the restoration of asset quality to closer to pre-recession levels as the trigger for TARP repayment, and we believe for significant improvement in the market trading price of our common stock as well, from year end 2011 at $12.10 per share, which was up over 17% from $10.30 at the end of 2010. We appreciate your ongoing support of our mission of Community Building Through Community Banking! Respectfully and Gratefully, Stephen G. Gaddis, President and CEO 2011 ANNUAL REPORT 3 Years9 - 8 - 7 - 6 - 5 - 4 - 3 - 2 - 1 - 0 - 24 - 22 - 20 - 18 - 16 - 14 - 12 - 10 - 8 - 6 - 4 - 2 - 0 - Total Assets (1,000,000s) 885 659 449 172 123 45 1986 1991 1996 2001 2006 2011 $ Per Share Book Value 12.31 (Adj for all stock splits) 20.70 14.78 8.43 5.88 .98 1.35 1986 1991 1996 2001 2006 2011 7 - 6 - 5 - 4 - 3 - 2 - 1 - 0 - 22 - 20 - 18 - 16 - 14 - 12 - 10 - 8 - 6 - 4 - 2 - 0 - 1986 - 2011 TWENTY∫ FIVE Net Income (1,000,000s) 6.6 6.2 2.9 1.8 .74 .28 1986 1991 1996 2001 2006 2011 Legal Loan Limit (1,000,000s) 21.7 15.0 9.0 3.4 2.0 .8 1986 1991 1996 2001 2006 2011 4 2011 ANNUAL REPORT Years1986 - 2011 TWENTY∫ FIVE 900,000 - 850,000 - 800,000 - 750,000 - 700,000 - Trends in Assets, Deposits & Loans 885,405 844,917 808,642 749,346 738,068 695,346 695,439 650,000 - 658,729 664,380 600,000 - 635,271 550,000 - 568,159 568,159 589,600 581,105 598,984 500,000 - 526,020 531,972 450,000 - 470,430 482,093 400,000 - 350,000 - 300,000 - 2006 2007 2008 2009 2010 2011 Assets Deposits Loans Credit Costs vs. Net Operating Income* (000s) 20,000 - 19,783 18,388 15,000 - 15,399 7 - 6 - 5 - 4 - 3 - 2 - 1 - 0 - 120,000 - 100,000 - 80,000 - Net Earnings Dollars (1,000,000s) 6.591 6.153 6.568 5.815 5.483 4.750 2006 2007 2008 2009 2010 2011 Trends in Combined Equity Capital & ALLL* to Non-Performing Assets (000s) 107,771 99,190 95,352 12,434 10,846 11,146 10,000 - 71,467 66,156 9,963 60,000 - 60,093 9,508 5,000 - 6,757 4,801 40,000 - 20,000 - 24,217 23,060 19,898 17,749 1,086 580 0 - 2006 2007 2008 2009 2010 2011 0 - 3,224 2,607 2006 2007 2008 2009 2010 2011 *Tax equivalent net operating income before taxes and credit costs. Credit Costs Net Operating Income *ALLL: Allowance for loan and lease losses Equity Capital & ALLL Non Performing Assets 2011 ANNUAL REPORT 1 Years 1986 - 2011 TWENTY∫ FIVE Wipfli LLP 403 East Third Street Sterling, IL 61081 Wipfli LLP 403 East Third Street Sterling, IL 61081 815.626.1277 Fax 815.626.9118 www.wipfli.com 815.626.1277 Fax 815.626.9118 www.wipfli.com INDEPENDENT AUDITOR’S REPORT INDEPENDENT AUDITOR’S REPORT To the Board of Directors Foresight Financial Group, Inc. To the Board of Directors Foresight Financial Group, Inc. We have audited the accompanying consolidated balance sheets of Foresight Financial Group, Inc. and Subsidiaries as of December 31, 2011 and 2010, and the related consolidated statements of income, changes in stockholders’ equity, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. The consolidated statements of income, changes in stockholders’ equity and cash flows of Foresight Financial Group, Inc. and Subsidiaries for the year ended December 31, 2009 were audited by Lindgren, Callihan, Van Osdol & Co., Ltd., whose practice was acquired by Wipfli LLP as of October 1, 2010 and whose report dated March 1, 2010 expressed an unqualified opinion on those statements. We have audited the accompanying consolidated balance sheets of Foresight Financial Group, Inc. and Subsidiaries as of December 31, 2011 and 2010, and the related consolidated statements of income, changes in stockholders’ equity, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. The consolidated statements of income, changes in stockholders’ equity and cash flows of Foresight Financial Group, Inc. and Subsidiaries for the year ended December 31, 2009 were audited by Lindgren, Callihan, Van Osdol & Co., Ltd., whose practice was acquired by Wipfli LLP as of October 1, 2010 and whose report dated March 1, 2010 expressed an unqualified opinion on those statements. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall consolidated 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 Foresight Financial Group, Inc. and Subsidiaries as of December 31, 2011 and 2010, and the results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Foresight Financial Group, Inc. and Subsidiaries as of December 31, 2011 and 2010, and the results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America. Our audit was conducted for the purpose of forming an opinion on the consolidated financial statements as a whole. The consolidating information included in Schedules 1 and 2 is presented for purposes of additional analyses and is not a required part of the consolidated financial statements. Such information is the responsibility of management and was derived from and relates directly to the underlying accounting and other records used to prepare the financial statements. The information has been subjected to the auditing procedures applied in the audit of the financial statements and certain additional procedures, including comparing and reconciling such information directly to the underlying accounting and other records used to prepare the financial statements or to the financial statements themselves, and other additional procedures in accordance with auditing standards generally accepted in the United States of America. In our opinion, the information is fairly stated in all material respects in relation to the financial statements as a whole. Our audit was conducted for the purpose of forming an opinion on the consolidated financial statements as a whole. The consolidating information included in Schedules 1 and 2 is presented for purposes of additional analyses and is not a required part of the consolidated financial statements. Such information is the responsibility of management and was derived from and relates directly to the underlying accounting and other records used to prepare the financial statements. The information has been subjected to the auditing procedures applied in the audit of the financial statements and certain additional procedures, including comparing and reconciling such information directly to the underlying accounting and other records used to prepare the financial statements or to the financial statements themselves, and other additional procedures in accordance with auditing standards generally accepted in the United States of America. In our opinion, the information is fairly stated in all material respects in relation to the financial statements as a whole. Sterling, Illinois March 7, 2012 Sterling, Illinois March 7, 2012 6 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE December 31, A S S E T S Cash and due from banks Interest-bearing deposits in banks Federal funds sold Total cash and cash equivalents Securities: Securities held-to-maturity (HTM) Securities available-for-sale (AFS) Non-marketable equity securities, at cost Loans held for sale Loans, net of allowance for loan losses of $11,173 and $12,165, respectively Foreclosed assets, net Premises and equipment, net Other assets CONSOLIDATED BALANCE SHEETS (000s omitted except share data) 2011 $17,121 8,396 0 25,517 2,042 221,634 2,177 2,198 598,984 5,997 10,115 16,741 2010 $12,676 829 4,988 18,493 2,597 202,100 2,053 1,179 581,105 7,408 10,443 19,539 Total assets $885,405 $844,917 LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Deposits: Noninterest-bearing Interest-bearing Total deposits Federal funds purchased Securities sold under agreements to repurchase Federal Home Loan Bank (FHLB) advances and other borrowings Accrued interest payable and other liabilities Total liabilities Stockholders’ equity: Preferred stock (no par value; authorized 500,000 shares; 15,750 shares issued) Common stock ($.25 par value; authorized 5,000,000 shares; 3,867,129 and 3,866,794 shares issued, respectively) Additional paid-in capital Retained earnings Treasury stock, at cost (207,657 shares) Accumulated other comprehensive income Total stockholders’ equity $82,036 656,032 738,068 3,899 27,698 14,400 4,742 788,807 15,394 966 7,666 71,193 (4,060) 5,439 96,598 $62,146 633,293 695,439 2,084 26,327 29,700 4,342 757,892 15,244 966 7,568 66,179 (4,060) 1,128 87,025 Total liabilities and stockholders’ equity $885,405 $844,917 See Notes to Consolidated Financial Statements. 2011 ANNUAL REPORT 7 YearsCONSOLIDATED STATEMENTS OF INCOME (000s omitted except share data) For the years ended December 31, Interest and dividend income: Loans, including fees Debt securities: Taxable Tax-exempt Interest-bearing deposits in banks Federal funds sold Total interest and dividend income Interest expense: Deposits Federal funds purchased Securities sold under agreements to repurchase FHLB and other borrowings Total interest expense Net interest and dividend income Provision for loan losses Net interest and dividend income, after provision for loan losses Noninterest income: Customer service fees Gain on sales and calls of AFS securities, net Gain on sales of loans, net Loan servicing fees, net Other Total noninterest income Noninterest expenses: Salaries and employee benefits Occupancy expense of premises, net Outside services Data processing Foreclosed assets, net Other Total noninterest expenses Income before income taxes Income tax expense Net income Earnings per common share: Basic Diluted 1986 - 2011 TWENTY∫ FIVE 2011 2010 2009 $33,830 $32,209 $31,848 3,915 3,900 16 11 41,672 9,313 7 167 341 9,828 31,844 7,195 24,649 1,369 334 705 579 2,367 5,354 10,540 1,904 723 959 2,768 4,535 21,429 8,574 2,006 $6,568 $1.53 $1.52 4,642 4,061 36 7 40,955 11,832 13 180 418 12,443 28,512 8,382 5,498 3,444 32 15 40,837 15,267 9 139 715 16,130 24,707 6,405 20,130 18,302 1,520 180 797 777 2,614 5,888 10,045 1,900 699 837 1,126 4,835 19,442 6,576 761 1,553 437 855 775 2,068 5,688 9,201 1,918 575 841 352 4,462 17,349 6,641 1,158 $5,815 $5,483 $1.32 $1.32 $1.36 $1.36 8 2011 ANNUAL REPORT See Notes to Consolidated Financial Statements. Years1986 - 2011 TWENTY∫ FIVE For the years ended December 31, CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (000s omitted except share data) Preferred Common Stock Stock Additional Paid-In Capital Retained Earnings Treasury Stock Accumulated Other Comprehensive Income Total Balance, January 1, 2009 $0 $966 $7,454 $58,547 ($4,060) $1,160 $64,067 Comprehensive income: Net income Other comprehensive income - Change in unrealized gain on securities available-for-sale, net of reclassification and tax effect Total comprehensive income Cash dividends ($.32 per share) Issuance of preferred stock Accretion of preferred stock warrants Cash dividends on preferred stock Stock-based compensation expense 5,483 (1,174) (94) (409) 1,593 5,483 1,593 7,076 (1,174) 15,000 0 (409) 33 15,000 94 33 Balance, December 31, 2009 15,094 966 7,487 62,353 (4,060) 2,753 84,593 Comprehensive income: Net income Other comprehensive loss - Change in unrealized gain on securities available-for-sale, net of reclassification and tax effect Total comprehensive income Cash dividends ($.28 per share) Accretion of preferred stock warrants Cash dividends on preferred stock Stock-based compensation expense 5,815 (1,025) (150) (814) (1,625) 5,815 (1,625) 4,190 (1,025) 0 (814) 81 150 81 Balance, December 31, 2010 15,244 966 7,568 66,179 (4,060) 1,128 87,025 Comprehensive income: Net income Other comprehensive income - Change in unrealized gain on securities available-for-sale, net of reclassification and tax effect Total comprehensive income Cash dividends ($.16 per share) Accretion of preferred stock warrants Cash dividends on preferred stock Stock-based compensation expense 6,568 (586) (150) (818) 4,311 6,568 4,311 10,879 (586) 0 (818) 98 150 98 Balance, December 31, 2011 $15,394 $966 $7,666 $71,193 ($4,060) $5,439 $96,598 See Notes to Consolidated Financial Statements. 2011 ANNUAL REPORT 9 YearsCONSOLIDATED STATEMENTS OF CASH FLOWS (000s omitted except share data) For the years ended December 31, CASH FLOWS FROM OPERATING ACTIVITIES: Net income Adjustments to reconcile net earnings to net cash provided by operating activities: Provision for loan losses Provision for foreclosed asset losses Depreciation Net amortization (accretion) of securities Deferred income tax benefit Net gain on the sales and calls of AFS securities Net loss on the sales of foreclosed assets Stock-based compensation expense Net change in: Servicing rights Loans held for sale Other assets Accrued expenses and other liabilities Net cash provided by operating activities CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from sales of AFS securities Proceeds from maturities, calls, and paydowns of HTM securities Proceeds from maturities, calls, and paydowns of AFS securities Purchases of AFS securities Purchases of non-marketable equity securities Loan originations and principal collections, net Proceeds from sales of foreclosed assets Purchases of premises and equipment, net Net cash used in investing activities CASH FLOWS FROM FINANCING ACTIVITIES: Net change in deposits Net change is securities sold under agreements to repurchase Cash dividends paid Net change in federal funds purchased Proceeds from issuance of preferred stock Proceeds from lines of credit and FHLB advances and other borrowings Payments on lines of credit and FHLB advances and other borrowings Net cash provided by financing activities Net increase in cash and cash equivalents Cash and cash equivalents at beginning of year 1986 - 2011 TWENTY∫ FIVE 2011 2010 2009 $6,568 $5,815 $5,483 7,195 2,410 799 974 (473) (334) 12 98 8 (1,019) 305 400 16,943 13,966 606 48,466 (75,388) (124) (27,693) 1,608 (471) (39,030) 42,629 1,371 (1,404) 1,815 0 10,500 (25,800) 29,111 7,024 18,493 8,382 900 741 1,094 (822) (180) 50 81 (251) (732) 1,016 259 16,353 14,551 999 56,977 (52,762) (244) (66,113) 810 (2,131) (47,913) 31,059 1,973 (1,839) (2,648) 0 19,750 (16,550) 31,745 6,405 113 818 230 (1,251) (437) 113 33 (311) 144 (3,531) (689) 7,120 17,736 1,520 43,772 (110,028) (189) (12,931) 819 (548) (59,849) 29,109 6,507 (1,583) 3,696 15,000 18,250 (18,100) 52,879 185 150 18,308 18,158 Cash and cash equivalents at end of year $25,517 $18,493 $18,308 10 2011 ANNUAL REPORT See Notes to Consolidated Financial Statements. Years1986 - 2011 TWENTY∫ FIVE For the years ended December 31, CONSOLIDATED STATEMENTS OF CASH FLOWS (continued) (000s omitted except share data) SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the year for: Interest Income taxes 2011 2010 2009 $10,040 $12,790 $16,652 $2,190 $1,905 $1,934 SUPPLEMENTAL SCHEDULE OF NONCASH AND FINANCING ACTIVITIES: Foreclosed assets acquired in settlement of loans $2,619 $8,598 $470 See Notes to Consolidated Financial Statements. 2011 ANNUAL REPORT 11 YearsNOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (1) Summary of Significant Accounting Policies 1986 - 2011 TWENTY∫ FIVE The accounting and reporting policies of Foresight Financial Group, Inc. (Company) and its wholly owned subsidiaries (Banks) conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. The following is a description of the more significant accounting policies: (a) Nature of Operations The Company provides a variety of banking services to individuals and businesses through its facilities in the Rockford, Freeport, German Valley, Davis, Lena, Winnebago, Pecatonica, and Seward, Illinois areas. Its primary deposit products are demand deposits and certificates of deposit and its primary lending products are agribusiness, commercial, real estate, and installment loans. (b) Basis of Consolidation The consolidated financial statements include the accounts and results of operations of the Company and its wholly owned subsidiaries, German-American State Bank (German), State Bank of Davis (Davis), State Bank (Freeport), Northwest Bank of Rockford (Northwest), and Lena State Bank (Lena) (Banks). All significant intercompany accounts and transactions have been eliminated in consolidation. (c) Subsequent Events The Company has evaluated subsequent events for recognition and disclosure through March 7, 2012, which is the date the financial statements were available to be issued. (d) Use of Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The allowance for loan losses, fair values of securities, fair values of foreclosed assets, deferred tax assets and liabilities and fair values of financial instruments are particularly subject to change in the near-term. (e) Cash and Cash Equivalents For purposes of the consolidated statements of cash flows, cash and cash equivalents include cash and balances due from banks, interest-bearing deposits in banks, and federal funds sold, all of which generally mature within ninety days. Cash flows from loans, deposits, federal funds purchased, securities sold under agreements to repurchase, and treasury stock are reported net. (f) Interest-bearing Deposits in Banks Interest-bearing deposits in banks are largely comprised of liquid non-maturing deposits in banks but also include some small balances in time deposits in banks with varying maturities. Interest-bearing deposits in banks are carried at cost. 12 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (1) Summary of Significant Accounting Policies (continued) (g) Securities Debt securities that management has the positive intent and ability to hold to maturity are classified as held to maturity (HTM) and recorded at amortized cost. Securities not classified as HTM are classified as available for sale (AFS) and recorded at fair value, with unrealized gains or losses excluded from earnings and reported in other comprehensive income. Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Declines in the fair value of HTM and AFS securities below their cost that are deemed to be other than temporary are reflected in earnings as realized losses. In estimating other-than-temporary impairment losses, management considers (1) the length of time and the extent to which the fair value has been less than cost, (2) the financial condition and near-term prospects of the issuer, and (3) the intent and ability of the Company to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific-identification method. (h) Non-Marketable Equity Securities The Banks, as members of the Federal Home Loan Bank (FHLB) system, are required to maintain a minimum investment in capital stock of the FHLB in an amount equal to the greater of 1% of their mortgage-related assets or 5% of advances from the FHLB. The Banks may choose to invest in amounts greater than the minimum investment. Excess capital stock redemptions are subject to guidelines established by the FHLB. FHLB stock is reported at cost since no ready market exists and it has no quoted market value. FHLB stock is periodically evaluated for impairment based on the ultimate recovery of par value. . (i) Loans Held for Sale Loans originated and intended for sale in the secondary market are carried at the lower of cost or market in the aggregate. Mortgage loans held for sale are generally sold with mortgage servicing rights retained by the Company. The carrying value of mortgage loans sold is reduced by the cost allocated to the associated mortgage servicing rights. Gains or losses on sales of mortgage loans are recognized based on the difference between the selling price and the carrying value of the related mortgage loans sold. (j) Loans and Allowance for Loan Losses Loans that management has the intent and ability to hold for the foreseeable future or until maturity or pay-off are stated at the amount of unpaid principal balances less the allowance for loan losses. Interest income is accrued daily on the outstanding balances. 2011 ANNUAL REPORT 13 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (1) Summary of Significant Accounting Policies (continued) (j) Loans and Allowance for Loan Losses (continued) A loan is considered to be delinquent when payments have not been made according to contractual terms, typically evidenced by nonpayment of a monthly installment by the due date. The accrual of interest on loans is discontinued at the time the loan is 90-days delinquent unless the credit is well-secured and in the process of collection. Credit card loans and other personal loans are typically charged off no later than 180-days delinquent. Generally, loans are placed on non-accrual or charged-off at an earlier date if collection of principal or interest is considered doubtful. Generally, interest accrued but not collected for loans that are placed on nonaccrual status or charged off is reversed against interest income. The interest on these loans is accounted for on the cash basis or cost- recovery method, until qualifying for return to accrual. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured. Loan origination fees approximate direct loan origination costs and are generally recognized as income upon receipt. The allowance for loan losses is established as losses are estimated to have occurred through a provision for loan losses charged to earnings. Loan losses are charged against the allowance when management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. The allowance for loan losses is evaluated on a regular basis by management and is based upon management’s periodic review of the collectability of the loans in light of historical experience, the nature and volume of the loan portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral and prevailing economic conditions. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. The allowance consists of specific and general components. The specific component relates to loans that are classified as impaired. For loans that are classified as impaired, an allowance is established when the discounted cash flows, collateral value or observable market price of the impaired loan is lower than the carrying value of that loan. The general component covers non-impaired loans and is based on historical loss experience adjusted for qualitative factors. A loan is considered impaired when it is probable, based on current information and events, the Bank will be unable to collect all contractual principal and interest payments due in accordance with the terms of the loan agreement. Loans for which the terms have been modified to provide a concession, and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and classified as impaired. Factors considered by management in determining impairment include payment status, collateral value, and the probability of collecting scheduled principal and interest payments when due. Impaired loans are measured on an individual basis based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. The amount of impairment, if any, and subsequent changes are included in the allowance for loan losses. Troubled debt restructurings are measured at the present value of estimated future cash flows using the loan’s effective rate at inception, unless collateral dependent, then reported net of the fair value of collateral. 14 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (000s omitted except share data) (1) Summary of Significant Accounting Policies (continued) (1) Summary of Significant Accounting Policies (continued) (j) Loans and Allowance for Loan Losses (continued) (j) Loans and Allowance for Loan Losses (continued) For impaired loans, accrual of interest is discontinued when management believes, after considering For impaired loans, accrual of interest is discontinued when management believes, after considering collection efforts and other factors, the borrower’s financial condition is such that the collection of interest collection efforts and other factors, the borrower’s financial condition is such that the collection of interest is doubtful. Cash collections on impaired loans are credited to the loan receivable balance, and no interest is doubtful. Cash collections on impaired loans are credited to the loan receivable balance, and no interest income is recognized on those loans until the principal balance has been collected. income is recognized on those loans until the principal balance has been collected. (k) Loan Commitments (k) Loan Commitments The Banks enter into off-balance-sheet financial instruments consisting of commitments to extend credit The Banks enter into off-balance-sheet financial instruments consisting of commitments to extend credit and letters of credit issued to meet customer-financing needs. Loan commitments are recorded when they and letters of credit issued to meet customer-financing needs. Loan commitments are recorded when they are funded. Standby or performance letters of credit are considered financial guarantees in accordance with are funded. Standby or performance letters of credit are considered financial guarantees in accordance with accounting standards and are recorded at fair value, if material. accounting standards and are recorded at fair value, if material. (l) Loan Servicing (l) Loan Servicing Mortgage servicing rights are recognized as separate assets when rights are acquired through a sale of loans Mortgage servicing rights are recognized as separate assets when rights are acquired through a sale of loans and are reported in other assets. When the originating mortgage loans are sold into the secondary market, and are reported in other assets. When the originating mortgage loans are sold into the secondary market, the Company allocates the total cost of the mortgage loans between mortgage servicing rights and the the Company allocates the total cost of the mortgage loans between mortgage servicing rights and the loans, based on their relative fair values. The cost of originated mortgage-servicing rights is amortized in loans, based on their relative fair values. The cost of originated mortgage-servicing rights is amortized in proportion to, and over the period of, estimated net servicing revenues. Impairment of mortgage-servicing proportion to, and over the period of, estimated net servicing revenues. Impairment of mortgage-servicing rights is assessed based on the fair value of those rights. The amount of impairment is the amount by rights is assessed based on the fair value of those rights. The amount of impairment is the amount by which the capitalized mortgage servicing rights exceed their fair value. Fair value is determined using which the capitalized mortgage servicing rights exceed their fair value. Fair value is determined using prices for similar assets with similar characteristics, when available, or based upon discounted cash flows prices for similar assets with similar characteristics, when available, or based upon discounted cash flows using market-based assumptions. using market-based assumptions. Residential mortgage loans are generally sold to the secondary market. At the time the loans are sold, a Residential mortgage loans are generally sold to the secondary market. At the time the loans are sold, a gain or loss is calculated based on the cash received versus the carrying value of the assets transferred. gain or loss is calculated based on the cash received versus the carrying value of the assets transferred. Servicing fee income is recorded for fees earned for servicing loans. The fees are based on a contractual Servicing fee income is recorded for fees earned for servicing loans. The fees are based on a contractual percentage of the outstanding principal and are recorded as income when earned. The amortization of percentage of the outstanding principal and are recorded as income when earned. The amortization of mortgage servicing rights is netted against loan servicing fee income. mortgage servicing rights is netted against loan servicing fee income. (m) Mortgage-Banking Derivatives (m) Mortgage-Banking Derivatives Commitments to fund mortgage loans (interest-rate locks) to be sold into the secondary market and Commitments to fund mortgage loans (interest-rate locks) to be sold into the secondary market and mandatory delivery forward commitments for the future delivery of these mortgage loans are to be mandatory delivery forward commitments for the future delivery of these mortgage loans are to be accounted for as derivatives not qualifying for hedge accounting. The fair values of these mortgage accounted for as derivatives not qualifying for hedge accounting. The fair values of these mortgage derivatives are to be estimated based on the net future cash flows related to the associated servicing of the derivatives are to be estimated based on the net future cash flows related to the associated servicing of the loans and on changes in mortgage interest rates from the date of the commitments. Changes in fair values loans and on changes in mortgage interest rates from the date of the commitments. Changes in fair values on these derivatives are to be included in net gains on sales of loans. The Company has deemed the effect on these derivatives are to be included in net gains on sales of loans. The Company has deemed the effect of these derivatives to be immaterial to the consolidated financial statements and has elected not to record of these derivatives to be immaterial to the consolidated financial statements and has elected not to record fair values associated with these derivatives. fair values associated with these derivatives. (n) Foreclosed Assets (n) Foreclosed Assets Assets acquired through or instead of loan foreclosure are initially recorded at fair value less estimated cost Assets acquired through or instead of loan foreclosure are initially recorded at fair value less estimated cost of disposal when acquired. Subsequent to foreclosure, valuations are periodically performed by of disposal when acquired. Subsequent to foreclosure, valuations are periodically performed by management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Costs management and the assets are carried at the lower of carrying amount or fair value less cost to sell. Costs after acquisition are generally expensed. Revenues and expenses from operations and changes in the after acquisition are generally expensed. Revenues and expenses from operations and changes in the valuation allowance are included in net expenses from foreclosed assets. valuation allowance are included in net expenses from foreclosed assets. 2011 ANNUAL REPORT 15 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (1) Summary of Significant Accounting Policies (continued) (o) Premises and Equipment Premises and equipment are carried at cost less accumulated depreciation, based on the estimated useful lives of the assets. Depreciation is generally computed on the straight-line method over estimated useful lives ranging from 3 to 40 years. (p) Bank-Owned Life Insurance The Bank has purchased life insurance policies on certain key employees. Bank-owned life insurance is recorded at its cash surrender value, or the amount that can be realized. (q) Significant Group Concentrations of Credit Risk Most of the Company’s activities are with customers located in the area and communities noted above. Note 3 details the types of securities in which the Company invests. Note 4 details the types of lending in which the Company engages. The Company does not have any significant concentrations with any one industry or customer. (r) Income Taxes Deferred income tax assets and liabilities are determined using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is determined based on the tax effects of the temporary differences between the book and tax bases of the various balance sheet assets and liabilities and gives current recognition to changes in tax rates and laws. The Company files consolidated Federal and State income tax returns. The Company may also recognize a liability for unrecognized tax benefits from uncertain tax positions. Unrecognized tax benefits represent the differences between a tax position taken or expected to be taken in a tax return and the benefit recognized and measured in the financial statements. Interest and penalties related to unrecognized tax benefits are classified as income taxes, if applicable. No liabilities for unrecognized tax benefits from uncertain tax positions have been recorded. (s) Comprehensive Income Accounting principles generally require the Company to include in net income recognized revenue, expenses, gains and losses. Certain changes in assets and liabilities, such as unrealized gains and losses on available-for-sale securities, are reported as a separate component of the equity section of the balance sheet. Such items, along with net income, are components of comprehensive income. 16 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (1) Summary of Significant Accounting Policies (continued) (t) Earnings Per Share Basic earnings per share (EPS) represent income available to common stockholders divided by the weighted-average number of common shares outstanding during the period. Diluted EPS reflects additional common shares that would have been outstanding if dilutive potential common shares had been issued, as well as any adjustment to income that would result from the assumed issuance. Potential common shares that may be issued by the Company relate solely to outstanding stock options and are determined using the treasury stock method. The dividends on preferred stock and the accretion of the preferred warrants are subtracted from net income in arriving at the net income available to common stockholders. (u) Loss Contingencies Loss contingencies, including claims and legal actions arising from time to time in the ordinary course of business, are recorded as liabilities when the likelihood of loss is probable and an amount or range of loss can be reasonably estimated. Management does not believe there now are such matters that could have a material effect on the consolidated financial statements. (v) Transfers of Financial Assets Transfers of financial assets are accounted for as sales when control over the assets has been surrendered. Control over transferred assets is deemed to be surrendered when (1) the assets have been isolated from the Company, (2) the transferee obtains the right to pledge or exchange the transferred assets, and (3) the Company does not maintain effective control over the transferred assets through an agreement to repurchase them before their maturity. (w) Trust Assets Assets of the trust department of State Bank, other than trust cash on deposit at the Bank, are not included in these financial statements because they are not assets of the Company. (x) Securities Sold Under Agreements to Repurchase Securities sold under agreements to repurchase liabilities represent amounts advanced by various customers. Securities are pledged to cover these liabilities, which are not covered by federal deposit insurance. (y) Stock Compensation Plans The Company records the cost of stock-based employee compensation using the fair-value method. Compensation expense for share-based awards is recorded over the vesting period at the fair value of the award at the time of grant. The Company has historically assumed no projected forfeitures on its stock based compensation, since forfeitures have not been significant. (z) Reclassifications Certain amounts in the 2010 consolidated financial statements have been reclassified to conform to the 2011 presentation. 2011 ANNUAL REPORT 17 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (1) Summary of Significant Accounting Policies (continued) (aa) Adoption of New Accounting Standards In July 2010, the FASB issued new accounting guidance for disclosures about the credit quality of loans and the allowance for loan losses. The primary purpose of this new guidance is to provide additional information to assist financial statement users in assessing the Company’s credit risk exposures and evaluating the adequacy of its allowance for loan losses. This new accounting standard is effective for financial statements issued for annual periods ending after December 15, 2011. The Company adopted this new accounting standard effective December 31, 2011. (ab) Newly Issued Not Yet Effective Accounting Standards In April 2011, the FASB issued new accounting guidance impacting a creditor’s determination of whether a restructuring is a troubled debt restructuring. The primary purpose of this new guidance is to provide additional clarity in determining whether a restructuring constitutes a troubled debt restructuring. This new accounting standard is effective for financial statements issued for annual periods ending after December 15, 2012. The Company is evaluating the impact this standard will have on the financial statements of the Company. (2) Cash and Due From Banks The Banks are required to maintain reserve balances, in cash or on deposit with the Federal Reserve Bank, based upon a percentage of deposits. The total required reserve balances as of December 31, 2011 and 2010 was approximately $2,900 and $2,232, respectively. In the normal course of business, the Banks maintain cash and due from bank balances in non-interest- bearing transaction accounts with correspondent banks. Balances in these accounts are temporarily guaranteed by the FDIC through December 31, 2012. 18 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE (3) Securities NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) The following tables reflect the amortized costs and approximate fair values of securities at December 31: Held-to-Maturity 2011 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value State and municipal $2,042 $77 ($9) $2,110 Held-to-Maturity 2010 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses Fair Value State and municipal $2,597 $34 ($72) $2,559 Available-for-Sale 2011 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses U.S. Government sponsored agencies State and municipal Mortgage-backed – residential $43,836 99,179 69,513 $903 5,830 2,640 ($9) (205) (53) Fair Value $44,730 104,804 72,100 $212,528 $9,373 ($267) $221,634 Available-for-Sale 2010 Amortized Cost Gross Unrealized Gains Gross Unrealized Losses U.S. Government sponsored agencies State and municipal Mortgage-backed - residential $36,224 96,295 67,744 $634 1,075 2,604 ($139) (2,269) (68) Fair Value $36,719 95,101 70,280 $200,263 $4,313 ($2,476) $202,100 For the years ended December 31, 2011, 2010 and 2009, proceeds from sales of available-for-sale securities amounted to $13,966, $14,551 and $17,736, respectively. Gross realized gains and losses from the sales and calls of available-for-sale securities for the years ended December 31 are as follows: Realized gains Realized losses 2011 $368 ($34) 2010 2009 $257 ($77) $440 ($3) 2011 ANNUAL REPORT 19 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (3) Securities (continued) Securities with carrying amounts of approximately $101,632 and $100,674 at December 31, 2011 and 2010, respectively, were pledged to secure public deposits and for other purposes as required or permitted by law. The amortized costs and fair values of securities at December 31, 2011 are shown below by contractual maturities, except for U.S. agencies which are shown by contractual maturities or their expected call dates if the call dates are considered likely to occur based on present market conditions. Expected maturities may differ from contractual maturities on mortgage-backed securities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. Held-to-Maturity Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years Available-for-Sale Due in one year or less Due after one year through five years Due after five years through ten years Due after ten years Mortgage-backed - residential Amortized Cost $128 554 392 968 Fair Value $132 561 420 997 $2,042 $2,110 Amortized Cost Fair Value $25,962 24,838 26,698 65,517 143,015 69,513 $26,189 25,738 28,111 69,496 149,534 72,100 $212,528 $221,634 The following tables show the fair values and unrealized losses aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2011 and 2010: 2011 Held-to-Maturity Less than 12 Months Gross Unrealized Loss No. of Securities Fair Value 12 Months or More Gross Unrealized Loss No. of Securities Fair Value State and municipal Total temporarily impaired $285 $285 $1 $1 1 1 $145 $145 $8 $8 2 2 20 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE (3) Securities (continued) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) 2010 Held-to-Maturity Less than 12 Months Gross Unrealized Loss No. of Securities Fair Value 12 Months or More Gross Unrealized Loss No. of Securities Fair Value State and municipal Total temporarily impaired $342 $342 $17 $17 2 2 $258 $258 $55 $55 3 3 2011 Available-for-Sale Less than 12 Months Gross Unrealized Loss No. of Securities Fair Value 12 Months or More Gross Unrealized Loss No. of Securities Fair Value U.S. Government sponsored agencies State and municipal Mortgage-backed - residential $2,749 2,401 8,537 $9 26 53 Total temporarily impaired $13,687 $88 9 18 14 41 $0 1,203 0 $0 179 0 $1,203 $179 0 10 0 10 2010 Available-for-Sale Less than 12 Months Gross Unrealized Loss No. of Securities Fair Value 12 Months or More Gross Unrealized Loss No. of Securities Fair Value U.S. Government sponsored agencies State and municipal Mortgage-backed - residential $7,884 49,925 5,519 $139 1,831 68 Total temporarily impaired $63,328 $2,038 26 195 10 231 $0 1,722 0 $0 438 0 $1,722 $438 0 17 0 17 Unrealized losses on securities have not been recognized into income because the bonds are of high credit quality, management has the intent and ability to hold for the foreseeable future and the decline in fair value is largely due to market interest rate fluctuations and current bond markets. The fair value is expected to recover as the bonds approach their maturity dates and/or market rates. The unrealized losses on the remaining securities have not been recognized into income because the bonds are of high credit quality and management has the intent and ability to hold for the foreseeable future. 2011 ANNUAL REPORT 21 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (4) Loans The following table presents total loans at December 31 by portfolio segment and class of loan: Real estate: Commercial real estate Agricultural real estate Consumer real estate Commercial: Commercial & industrial Agricultural production Consumer and other Allowance for loan losses 2011 2010 $173,480 60,229 128,210 183,844 48,589 15,805 610,157 (11,173) $164,029 57,802 133,139 177,249 39,865 21,186 593,270 (12,165) $598,984 $581,105 The following is a summary of the activity in the allowance for loan losses for the years ended December 31: Balance at beginning of year Provision charged to operations, net Recoveries on loans previously charged-off Less loans charged-off Balance at end of year 2011 2010 2009 $12,165 7,195 286 19,646 (8,473) $10,759 8,362 442 19,563 (7,398) $7,400 6,405 95 13,900 (3,141) $11,173 $12,165 $10,759 Detailed analysis of the allowance for loan losses by portfolio segment for the year ended December 31, 2011 follows: Balance at beginning of year Provision charged to operations, net Recoveries on loans previously charged-off Less loans charged-off Balance at end of year Allowance for loan losses: Individually evaluated for impairment Collectively evaluated for impairment Totals Real Estate Commercial Consumer Total $7,331 5,888 124 13,343 (6,127) $4,594 1,376 97 6,067 (2,231) $240 (69) 65 236 (115) $12,165 7,195 286 19,646 (8,473) $7,216 $3,836 $121 $11,173 $2,934 4,282 $7,216 $812 3,024 $3,836 $8 113 $3,754 7,419 $121 $11,173 22 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE (4) Loans (continued) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) Detailed analysis of loans evaluated for impairment by portfolio segment for the year ended December 31, 2011 follows: Real Estate Commercial Consumer Total Loans: Individually evaluated for impairment Collectively evaluated for impairment $28,256 333,663 $5,398 227,035 $190 15,615 $33,844 576,313 Totals $361,919 $232,433 $15,805 $610,157 The following is a summary of information pertaining to impaired and non-accrual loans as of December 31: Impaired loans without a valuation allowance Impaired loans with a valuation allowance Total impaired loans Valuation allowance related to impaired loans Total non-accrual loans Average balance of impaired loans Total loans past-due 90-days or more and still accruing 2011 $21,562 12,282 2010 $6,440 16,375 $33,844 $22,815 $3,754 $3,922 $13,622 $13,622 $27,283 $26,920 $279 $2,030 Interest income and other loan income recognized on impaired loans during 2011, 2010, and 2009 approximated $1,183, $347, and $260, respectively. The Banks have no commitments to loan additional funds to the borrowers of impaired or non-accrual loans. Detailed information regarding impaired loans by class of loan for the year ended December 31, 2011 follows: Recorded Investment Principal Balance Related Allowance Average Investment Interest Recognized Loans with no related allowance for loan losses: Real estate: Commercial real estate Residential real estate Farm real estate Commercial Commercial & industrial Agricultural production Consumer and other $9,557 7,543 295 4,037 0 130 $10,163 8,535 295 5,039 0 130 N/A N/A N/A N/A N/A N/A Total 21,562 24,162 $6,965 6,086 215 4,086 0 131 17,483 $227 227 0 176 0 9 639 2011 ANNUAL REPORT 23 Years NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (4) Loans (continued) 1986 - 2011 TWENTY∫ FIVE (4) Loans (continued) Detailed information regarding impaired loans by class of loan for the year ended December 31, 2011 follows (continued): Detailed information regarding impaired loans by class of loan for the year ended December 31, 2011 follows (continued): Recorded Investment Recorded Investment Principal Balance Principal Balance Related Allowance Related Allowance Average Investment Average Investment Interest Recognized Interest Recognized Loans with an allowance for loan losses: Real estate: Commercial real estate Residential real estate Farm real estate Commercial Commercial & industrial Agricultural production Consumer and other Loans with an allowance for loan losses: Real estate: Commercial real estate Residential real estate Farm real estate Commercial Commercial & industrial Agricultural production Consumer and other Total 3,402 7,459 3,402 0 7,459 0 998 363 998 60 363 60 12,282 3,448 8,072 3,448 0 8,072 0 1,015 363 1,015 99 363 99 12,997 714 2,220 714 0 2,220 0 472 340 472 8 340 8 3,754 2,489 6,211 2,489 0 6,211 0 771 267 771 62 267 62 9,800 149 339 149 0 339 0 54 0 54 2 0 2 544 Total Grand Total Grand Total 12,282 $33,844 $33,844 12,997 $37,159 $37,159 3,754 $3,754 $3,754 9,800 $27,283 $27,283 544 $1,183 $1,183 The Company regularly evaluates various attributes of loans to determine the appropriateness of the allowance for loan losses. The Company generally monitors credit quality indicators for all loans using the following internally prepared ratings: The Company regularly evaluates various attributes of loans to determine the appropriateness of the allowance for loan losses. The Company generally monitors credit quality indicators for all loans using the following internally prepared ratings: 'Pass' ratings are assigned to loans with adequate collateral and debt service ability such that collectibility of the contractual loan payments is highly probable. 'Pass' ratings are assigned to loans with adequate collateral and debt service ability such that collectibility of the contractual loan payments is highly probable. 'Special Mention' ratings are assigned to loans where management has some concern that the collateral or debt service ability may not be adequate, though the collectibility of the contractual loan payments is still probable. 'Special Mention' ratings are assigned to loans where management has some concern that the collateral or debt service ability may not be adequate, though the collectibility of the contractual loan payments is still probable. 'Substandard' ratings are assigned to loans that do not have adequate collateral and/or debt service ability such that collectibility of the contractual loan payments is no longer probable. 'Substandard' ratings are assigned to loans that do not have adequate collateral and/or debt service ability such that collectibility of the contractual loan payments is no longer probable. 'Doubtful' ratings are assigned to loans that do not have adequate collateral and/or debt service ability, and collectibility of the contractual loan payments is unlikely. 'Doubtful' ratings are assigned to loans that do not have adequate collateral and/or debt service ability, and collectibility of the contractual loan payments is unlikely. Information regarding the credit quality indicators most closely monitored by class of loan for the year ended December 31, 2011 follows: Information regarding the credit quality indicators most closely monitored by class of loan for the year ended December 31, 2011 follows: Real estate: Commercial estate Real estate: Residential Commercial estate Farm real estate Residential Commercial: Farm real estate Commercial & industrial Commercial: Agricultural production Commercial & industrial Consumer and other Agricultural production Consumer and other Total Pass Pass $157,749 111,061 $157,749 56,606 111,061 56,606 164,626 48,058 164,626 15,519 48,058 15,519 $553,619 Special Mention Special Mention Substandard Doubtful Totals Substandard Doubtful Totals $7,762 6,511 $7,762 3,328 6,511 3,328 14,699 168 14,699 97 168 97 $32,565 $7,969 10,547 $7,969 295 10,547 295 4,444 304 4,444 189 304 189 $23,748 $91 $91 75 59 75 59 $225 $173,480 128,210 $173,480 60,229 128,210 60,229 183,844 48,589 183,844 15,805 48,589 15,805 $610,157 Total $553,619 $32,565 $23,748 $225 $610,157 24 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (4) Loans (continued) Loan aging information by class of loan for the year ended December 31, 2011 follows: Real estate: Commercial real estate Residential real estate Farm real estate Commercial Commercial & industrial Agricultural production Consumer and other Loans Past Due 30-89 Days Loans Past Due 90+ Days Total Past Due $539 908 259 101 $5,184 6,274 295 1,329 304 121 $5,723 7,182 295 1,588 304 222 Total $1,807 $13,507 $15,314 Total Past Due Total Current Total Loans 90+ Days Due and Accruing Interest Total Non-accrual Loans Real Estate: Commercial estate Residential real estate Farm real estate Commercial: Commercial & industrial Agricultural production Consumer and other $5,723 7,182 295 1,588 304 222 $167,757 121,028 59,934 182,256 48,285 15,583 $173,480 128,210 60,229 183,844 48,589 15,805 $224 5 50 $5,519 6,050 295 1,324 363 71 Total $15,314 $594,843 $610,157 $279 $13,622 When, for economic or legal reasons related the borrower's financial difficulties, the Company grants a concession to the borrower that the Company would not otherwise consider, the modified loan is classified as a troubled debt restructuring. Loan modifications may consist of forgiveness of interest and/or principal, a reduction of the interest rate, interest only payments for a period of time, and/or extending amortization terms. All troubled debt restructurings are classified as impaired loans. The following table presents information regarding modifications of loans that are classified as troubled debt restructurings by class of loan during the year ended December 31, 2011: Real Estate: Commercial real estate Residential real estate Farm real estate Commercial Commercial & industrial Agricultural production Consumer and Other Total Number of Loans Pre-Modification Investment Post-Modification Investment 13 60 0 7 0 1 81 $8,535 9,646 3,585 7 $21,773 $8,177 9,646 2,440 7 $20,270 2011 ANNUAL REPORT 25 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (4) Loans (continued) The following table summarizes troubled debt restructurings that defaulted during the year ended December 31, 2011, within 12 months of their modification date. Real Estate: Commercial real estate Residential real estate Total (5) Loan Servicing Number of Loans Recorded Investment 2 6 8 $1,270 1,038 $2,308 Loans serviced for others are not included in the accompanying consolidated balance sheets. Mortgage loans serviced for others as of December 31, 2011 and 2010, were approximately $249,326 and $235,528, respectively. Custodial escrow balances maintained in conjunction with serviced loans were approximately $1,910 and $1,905 at December 31, 2011 and 2010, respectively. The following summarizes the activity pertaining to mortgage servicing rights for the years ended December 31: Mortgage servicing rights: Balance at beginning of year Mortgage servicing rights capitalized Mortgage servicing rights amortized Balance at end of year 2011 2010 2009 $1,529 643 (651) $1,521 $1,277 970 (718) $1,529 $970 1,174 (867) $1,277 The approximate fair values of the mortgage servicing rights were deemed to be greater than their carrying values as of December 31, 2011, 2010, and 2009. The differences between the fair values and carrying values were considered immaterial. 26 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (6) Mortgage Banking Loan Commitments The Company enters into commitments to fund residential mortgage loans (interest rate locks) at specified times in the future, with the intention that these loans will be subsequently sold to third-party investors. A mortgage loan commitment binds the Company to lend funds to a potential borrower at a specified interest rate and within a specified period of time, generally up to 60-days after inception of the rate lock. It is the Company’s practice to enter into mandatory delivery forward commitments for the future delivery of residential mortgage loans to third-party investors when an interest rate lock commitment is granted. These mandatory delivery forward commitments bind the Company to deliver a residential mortgage loan to a third-party investor even if the underlying loan never funds. As of December 31, 2011 and 2010, the Company had approximately $4,055 and $706 in interest rate lock commitments outstanding. As of December 31, 2011 and 2010, the Company had approximately $7,053 and $706 in mandatory delivery forward commitments outstanding. These outstanding mortgage loan commitments are considered to be derivatives. The fair values associated with these derivatives were considered to be immaterial as of December 31, 2011 and 2010. (7) Allowance for Losses on Foreclosed Assets Foreclosed assets are presented in the balance sheets net of an allowance for losses. Activity in the allowance for losses on foreclosed assets for the years ended December 31, was as follows: Balance at beginning of year Provision for losses Charge-offs Recoveries Balance at end of year (8) Premises and Equipment 2011 $910 2,410 0 0 $3,320 2010 $20 900 10 0 $910 2009 $0 20 0 0 $20 The components of premises and equipment at December 31 are as follows: Land Buildings and leasehold improvements Furniture, fixtures, and equipment Less accumulated depreciation 2011 2010 $1,969 10,726 9,057 21,752 11,637 $2,049 10,593 8,650 21,292 10,849 $10,115 $10,443 Depreciation expense for the years ended December 31, 2011, 2010 and 2009 amounted to $799, $741, and $818, respectively. 2011 ANNUAL REPORT 27 Years NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (000s omitted except share data) (9) Other Assets (9) Other Assets (9) Other Assets (9) Other Assets The components of other assets at December 31 are as follows: The components of other assets at December 31 are as follows: The components of other assets at December 31 are as follows: The components of other assets at December 31 are as follows: Cash surrender value of bank-owned life insurance Cash surrender value of bank-owned life insurance Accrued interest receivable Cash surrender value of bank-owned life insurance Accrued interest receivable Mortgage servicing rights, net of amortization Cash surrender value of bank-owned life insurance Accrued interest receivable Mortgage servicing rights, net of amortization Net deferred tax assets Accrued interest receivable Mortgage servicing rights, net of amortization Net deferred tax assets Federal Deposit Insurance Corporation assessments Mortgage servicing rights, net of amortization Net deferred tax assets Federal Deposit Insurance Corporation assessments Other Net deferred tax assets Federal Deposit Insurance Corporation assessments Other Federal Deposit Insurance Corporation assessments Other Other 1986 - 2011 TWENTY∫ FIVE 2011 2011 2011 $4,933 2011 $4,933 5,341 $4,933 5,341 1,521 $4,933 5,341 1,521 1,098 5,341 1,521 1,098 1,910 1,521 1,098 1,910 1,938 1,098 1,910 1,938 1,910 1,938 $16,741 1,938 $16,741 $16,741 $16,741 2010 2010 2010 2010 $4,759 $4,759 5,644 $4,759 5,644 1,529 $4,759 5,644 1,529 3,583 5,644 1,529 3,583 2,531 1,529 3,583 2,531 1,493 3,583 2,531 1,493 2,531 1,493 $19,539 1,493 $19,539 $19,539 $19,539 (10) Time Deposits (10) Time Deposits (10) Time Deposits (10) Time Deposits The aggregate amount of time deposits with minimum a denomination of $100 was approximately $143,916 The aggregate amount of time deposits with minimum a denomination of $100 was approximately $143,916 and $154,686 at December 31, 2011 and 2010, respectively. The aggregate amount of time deposits with minimum a denomination of $100 was approximately $143,916 and $154,686 at December 31, 2011 and 2010, respectively. The aggregate amount of time deposits with minimum a denomination of $100 was approximately $143,916 and $154,686 at December 31, 2011 and 2010, respectively. At December 31, 2011, the scheduled maturities of time deposits are as follows: and $154,686 at December 31, 2011 and 2010, respectively. At December 31, 2011, the scheduled maturities of time deposits are as follows: At December 31, 2011, the scheduled maturities of time deposits are as follows: 2012 At December 31, 2011, the scheduled maturities of time deposits are as follows: 2012 2013 2012 2013 2014 2012 2013 2014 2015 2013 2014 2015 2016 and thereafter 2014 2015 2016 and thereafter 2015 2016 and thereafter 2016 and thereafter $206,798 $206,798 90,013 $206,798 90,013 45,371 $206,798 90,013 45,371 29,996 90,013 45,371 29,996 27,917 45,371 29,996 27,917 29,996 27,917 $400,095 27,917 $400,095 $400,095 $400,095 (11) Dividends (11) Dividends (11) Dividends (11) Dividends State banking regulations restrict the amount of dividends that a bank may pay to its stockholders. The State banking regulations restrict the amount of dividends that a bank may pay to its stockholders. The regulations provide that dividends are limited to the balance of undivided profits, subject to capital-adequacy State banking regulations restrict the amount of dividends that a bank may pay to its stockholders. The regulations provide that dividends are limited to the balance of undivided profits, subject to capital-adequacy requirements, plus an additional amount equal to the bank’s current-year earnings through the date of any State banking regulations restrict the amount of dividends that a bank may pay to its stockholders. The regulations provide that dividends are limited to the balance of undivided profits, subject to capital-adequacy requirements, plus an additional amount equal to the bank’s current-year earnings through the date of any declaration of dividends. Additionally, dividends are limited under the terms of the TARP agreement as regulations provide that dividends are limited to the balance of undivided profits, subject to capital-adequacy requirements, plus an additional amount equal to the bank’s current-year earnings through the date of any declaration of dividends. Additionally, dividends are limited under the terms of the TARP agreement as described in Note 23. requirements, plus an additional amount equal to the bank’s current-year earnings through the date of any declaration of dividends. Additionally, dividends are limited under the terms of the TARP agreement as described in Note 23. declaration of dividends. Additionally, dividends are limited under the terms of the TARP agreement as described in Note 23. (12) Employee Benefit Plans described in Note 23. (12) Employee Benefit Plans (12) Employee Benefit Plans (12) Employee Benefit Plans The Company and the Banks maintain a 401(k) plan with profit sharing features covering substantially all The Company and the Banks maintain a 401(k) plan with profit sharing features covering substantially all employees under which they match 50% of eligible employee contributions to a maximum employee The Company and the Banks maintain a 401(k) plan with profit sharing features covering substantially all employees under which they match 50% of eligible employee contributions to a maximum employee contribution of 6% of annual salary. Total 401(k) expense was approximately $247, $237, and $206, for 2011, The Company and the Banks maintain a 401(k) plan with profit sharing features covering substantially all employees under which they match 50% of eligible employee contributions to a maximum employee contribution of 6% of annual salary. Total 401(k) expense was approximately $247, $237, and $206, for 2011, 2010, and 2009, respectively. Each plan participant elects how the employer contributions are invested. employees under which they match 50% of eligible employee contributions to a maximum employee contribution of 6% of annual salary. Total 401(k) expense was approximately $247, $237, and $206, for 2011, 2010, and 2009, respectively. Each plan participant elects how the employer contributions are invested. Participants choose between purchasing the Company’s common stock and investing in the plan’s investment contribution of 6% of annual salary. Total 401(k) expense was approximately $247, $237, and $206, for 2011, 2010, and 2009, respectively. Each plan participant elects how the employer contributions are invested. Participants choose between purchasing the Company’s common stock and investing in the plan’s investment funds. 2010, and 2009, respectively. Each plan participant elects how the employer contributions are invested. Participants choose between purchasing the Company’s common stock and investing in the plan’s investment funds. Participants choose between purchasing the Company’s common stock and investing in the plan’s investment funds. In addition, Northwest, German-American, and Lena maintain salary-continuation plans whereby certain funds. In addition, Northwest, German-American, and Lena maintain salary-continuation plans whereby certain officers are provided with guaranteed annual payments for periods ranging from ten to thirteen years after In addition, Northwest, German-American, and Lena maintain salary-continuation plans whereby certain officers are provided with guaranteed annual payments for periods ranging from ten to thirteen years after reaching a retirement age of 65. The salary-continuation plans are funded by whole life insurance policies In addition, Northwest, German-American, and Lena maintain salary-continuation plans whereby certain officers are provided with guaranteed annual payments for periods ranging from ten to thirteen years after reaching a retirement age of 65. The salary-continuation plans are funded by whole life insurance policies purchased by the Banks which had an aggregate death benefit of approximately $8,961 and $8,943 as of officers are provided with guaranteed annual payments for periods ranging from ten to thirteen years after reaching a retirement age of 65. The salary-continuation plans are funded by whole life insurance policies purchased by the Banks which had an aggregate death benefit of approximately $8,961 and $8,943 as of December 31, 2011 and 2010, respectively (see Note 9 for cash surrender value of bank-owned life insurance). reaching a retirement age of 65. The salary-continuation plans are funded by whole life insurance policies purchased by the Banks which had an aggregate death benefit of approximately $8,961 and $8,943 as of December 31, 2011 and 2010, respectively (see Note 9 for cash surrender value of bank-owned life insurance). The Banks accrue for the total amounts to be paid over the employee’s active service life. The accrued benefits purchased by the Banks which had an aggregate death benefit of approximately $8,961 and $8,943 as of December 31, 2011 and 2010, respectively (see Note 9 for cash surrender value of bank-owned life insurance). The Banks accrue for the total amounts to be paid over the employee’s active service life. The accrued benefits were $894, $912, and $963 at December 31, 2011, 2010, and 2009, respectively. Salary-continuation expenses December 31, 2011 and 2010, respectively (see Note 9 for cash surrender value of bank-owned life insurance). The Banks accrue for the total amounts to be paid over the employee’s active service life. The accrued benefits were $894, $912, and $963 at December 31, 2011, 2010, and 2009, respectively. Salary-continuation expenses were $51, $48, and $47 in 2011, 2010, and 2009, respectively. The Banks accrue for the total amounts to be paid over the employee’s active service life. The accrued benefits were $894, $912, and $963 at December 31, 2011, 2010, and 2009, respectively. Salary-continuation expenses were $51, $48, and $47 in 2011, 2010, and 2009, respectively. were $894, $912, and $963 at December 31, 2011, 2010, and 2009, respectively. Salary-continuation expenses were $51, $48, and $47 in 2011, 2010, and 2009, respectively. were $51, $48, and $47 in 2011, 2010, and 2009, respectively. 2011 ANNUAL REPORT 28 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (13) Income Taxes The components of income tax expense (benefit) for the years ended December 31 are as follows: Current – federal Current – state Deferred – federal Current – state 2011 $1,623 857 2,480 (144) (330) (474) 2010 2009 $1,140 443 1,583 (752) (70) (822) $1,854 555 2,409 (1,091) (160) (1,251) Total income tax expense $2,006 $761 $1,158 A reconciliation of the differences between the statutory federal income tax rate and the effective federal income tax rate with the resulting dollar amounts is shown in the following table: Statutory federal tax Increase (decrease) in taxes resulting from: Tax-exempt interest Bank-owned life insurance State taxes, net of federal benefit Other 2011 2010 2009 % of Pretax Earnings 34.0% % of Pretax Earnings 34.0% % of Pretax Earnings 34.0% Amount $2,258 Amount $2,236 Amount $2,915 (1,452) (63) (16.9%) (0.7%) (1,518) (346) (23.1%) (5.3%) (1,318) (164) (19.8%) (2.5%) 348 258 4.1% 3.0% 246 143 3.7% 2.2% 260 122 3.9% 1.8% Effective tax rates $2,006 23.5% $761 11.5% $1,158 17.4% 2011 ANNUAL REPORT 29 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (13) Income Taxes (continued) The tax effects of existing temporary differences that give rise to significant portions of the deferred tax liabilities and deferred tax assets at December 31, 2011 and 2010 are summarized as follows: Deferred tax assets: Allowance for loan losses Allowance for losses on foreclosed assets and non-accrual interest Deferred compensation and other Total gross deferred tax assets Deferred tax liabilities: FHLB stock dividend Security accretion Available-for-sale securities Tax depreciation in excess of book depreciation Mortgage servicing rights and other Total gross deferred tax liabilities Net deferred tax assets 2011 2010 $4,358 1,396 562 $4,744 435 642 6,316 5,821 129 35 3,666 788 600 5,218 129 34 708 772 595 2,238 $1,098 $3,583 No valuation allowance has been recorded since deferred tax assets are expected to be realized. With few exceptions, the Company is no longer subject to federal or state examinations by tax authorities for years before 2009. (14) Transactions with Related Parties The Company and subsidiary banks have had, and may be expected to have in the future, loans or other banking transactions in the ordinary course of business with directors, significant stockholders, principal officers, their immediate families, and affiliated companies in which they are principal stockholders (commonly referred to as related parties). In management’s opinion, these loans and transactions were on the same terms as those for comparable loans and transactions with non-related parties. Loans to related parties amounted to approximately $14,209 and $10,637 at December 31, 2011 and 2010, respectively. Deposit accounts from related parties totaled approximately $10,612 and $8,647 at December 31, 2011 and 2010, respectively. (15) Financial Instruments with Off-Balance-Sheet Risk and Commitments Financial instruments with off-balance-sheet risk: The Banks are parties to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of their customers. These financial instruments include commitments to extend credit, credit lines, letters of credit, and overdraft protection. They involve, to varying degrees, elements of credit risk in excess of amounts recognized on the consolidated balance sheets. 30 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (15) Financial Instruments with Off-Balance-Sheet Risk and Commitments (continued) Financial instruments with off-balance-sheet risk (continued): The Banks’ exposures to credit losses in the event of nonperformance by the other parties to the financial instruments, for commitments to extend credit, and letters of credit are represented by the contractual amounts of those instruments. The Banks use the same credit policies in making commitments and issuing letters of credit as they do for on-balance-sheet instruments. A summary of the contractual amounts of the Banks’ exposure to off-balance-sheet risk as of December 31 is approximately as follows: Unused lines of credit and other loan commitments Commercial letters of credits Performance and standby letters of credit 2011 $123,099 1,352 761 $125,212 2010 $112,593 808 475 $113,876 Commitments to extend credit are agreements to lend to customers as long as there are no violations of any conditions established in the contracts. Commitments generally have fixed expiration dates or other termination clauses and may require the 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 credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The Banks evaluate each customer’s credit worthiness on a case-by-case basis. The amount of collateral obtained, if deemed necessary by the Banks upon extension of credit, is based on management’s credit evaluation of the counterparty. Collateral held varies but may include accounts receivable, inventory, crops, livestock, property and equipment, residential real estate, and income-producing commercial properties. Standby, performance and commercial letters of credit are conditional commitments issued by the Banks to guarantee the performance of a customer to a third party. They are considered financial guarantees under FASB guidance. The fair value of these financial guarantees is considered immaterial. Concentration of credit risk: The Company and its subsidiary banks provide several types of loans to customers including real estate, agricultural, commercial, and installment loans. The largest component of loans is secured by residential real estate, commercial real estate, or other interest in real property. Lending activities are conducted with customers in a wide variety of industries as well as with individuals with a wide variety of credit requirements. The Company does not have a concentration of loans in any specific industry. Credit risk, as it relates to the Company’s business activities, tends to be geographically concentrated in that the majority of the customer base lies within the surrounding communities served by its subsidiary banks. (16) Securities Sold Under Agreements to Repurchase Securities sold under agreements to repurchase amounted to $27,698 and $26,327 at December 31, 2011 and 2010, respectively, and are secured by investment securities with fair values of approximately $37,563 and $34,449. The weighted-average interest rates on these agreements were 0.54% and 0.76% at December 31, 2011 and 2010, respectively. Securities sold under agreements to repurchase mature on a daily basis. 2011 ANNUAL REPORT 31 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (17) Federal Home Loan Bank (FHLB) Advances and Other Borrowings FHLB: 2011 2010 Fixed-rate advances with rates ranging from .98% to 3.16% with weighted-average rates of 1.82% and 1.32% as of December 31, 2011 and 2010, respectively. Interest is payable monthly with principal due at maturity. Variable-rate advances with weighted-average rates of .58% as of December 31, 2010. Interest was payable monthly with principal due at maturity. $14,400 $29,200 0 500 $14,400 $29,700 Advances are collateralized by 1-4 family mortgage loans and other qualifying loans. The total amounts of collateral securing FHLB advances were approximately $86,879 and $90,624 as of December 31, 2011 and 2010, respectively. The Banks participate in the Federal Reserve Bank of Chicago’s Discount Window Lending Program. Primary advances generally mature daily and bear interest at a general approved rate in relation to the federal funds rate. The primary advance interest rate at December 31, 2011 was 75-basis points. Outstanding advances were $0 at December 31, 2011 and 2010. Advances are secured by investment securities pledged to the Federal Reserve Bank. At December 31, 2011, the scheduled maturities of Federal Home Loan Bank advances and other borrowings are as follows: 2011 2012 2013 2014 2015 2016 2011 $0 3,050 4,600 2,750 2,500 1,500 $14,400 2010 $19,300 3,050 4,600 1,750 1,000 0 $29,700 32 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE (18) Fair Value Measurements NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) Fair value is the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The standard describes three levels of inputs that may be used to measure fair value: Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the Company has the ability to access as of the measurement date. Level 2: Significant other observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or other inputs that are observable or can be corroborated by observable market data. Level 3: Significant unobservable inputs that reflect the Company’s own assumptions about the assumptions that market participants would use in pricing an asset or liability. The following is a description of valuation methodologies used for assets recorded at fair value: Securities available-for-sale: The fair values of the Company’s securities available-for-sale are primarily determined by matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for specific securities, but rather by relying on the securities’ relationship to other benchmark quoted securities. The values determined by matrix pricing are considered Level 2 fair value measurements. Collateral-dependent impaired loans: The Company does not record loans at fair value on a recurring basis. However, from time to time, fair value adjustments are recorded on these loans to reflect (1) partial write- downs, through charge-offs or specific reserve allowances, that are based on the current appraised or market- quoted value of the underlying collateral or (2) the full charge-off of the loan carrying value. In some cases, the properties for which market quotes or appraised values have been obtained are located in areas where comparable sales data is limited, outdated, or unavailable. Fair-value estimates for collateral-dependent impaired loans are obtained from real-estate brokers or other third-party consultants. The values determined are considered Level 3 fair value measurements. Foreclosed assets: Periodic valuation adjustments to certain commercial and residential and real estate properties classified as foreclosed assets are measured at the lower of carrying amount or fair value, less selling costs. Fair values are generally based on third party appraisals of the property, resulting in a Level 3 classification. In cases where the carrying amount exceeds the fair value, less costs to sell, an impairment loss is recognized. Mortgage servicing rights: Loan servicing rights are initially recorded at approximate fair value and are subsequently measured using the amortization method which requires servicing rights to be amortized into non-interest income in proportion to, and over the period of, the estimated future net servicing income of the underlying loans. The values determined are considered Level 3 fair value measurements. 2011 ANNUAL REPORT 33 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (18) Fair Value Measurements (continued) The following table presents the Company’s approximate fair-value hierarchy for the assets measured at fair value as of December 31: As of December 31, 2011 Assets measured at fair value on a recurring basis: Assets: Securities available-for-sale Assets measured at fair value on a non-recurring basis: Assets: Collateral-dependent impaired loans Foreclosed assets Mortgage servicing rights As of December 31, 2010 Assets measured at fair value on a recurring basis: Assets: Securities available-for-sale Fair Value Measurements at Reporting Date Using (Level 2) (Level 1) (Level 3) Total $221,634 $221,634 $8,528 $5,997 $1,521 Total $8,528 $5,997 $1,521 Fair Value Measurements at Reporting Date Using (Level 2) (Level 1) (Level 3) $202,100 $202,100 Assets measured at fair value on a non-recurring basis: Assets: Collateral-dependent impaired loans Foreclosed assets Mortgage servicing rights $12,453 $7,408 $1,529 $12,453 $7,408 $1,529 Collateral-dependent impaired loans, which are measured for impairment using the fair value of collateral, had a carrying value of $12,282 and $16,375, with specific reserves of $3,754 and $3,922 as of December 31, 2011 and 2010, respectively. Foreclosed assets, which are measured at the lower of carrying or fair value less costs to sell, had a carrying amount of $5,997 and $7,408, which is comprised of the outstanding balance of $9,317 and $8,318, net of an allowance for losses of $3,320 and $910 as of December 31, 2011 and 2010, respectively. FASB guidance 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. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates may not be realized in immediate settlement of the instrument. Accounting guidance excludes certain financial instruments and certain nonfinancial instruments from its disclosure requirements. These fair value disclosures may not represent the fair value of the Company. 34 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (18) Fair Value Measurements (continued) The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate that value: Cash and cash equivalents: The carrying amounts are reasonable estimates of fair value. Securities: See previous description in this footnote for securities available-for-sale. The fair values of the Company’s securities held-to-maturity are primarily determined by matrix pricing, which is a mathematical technique used widely in the industry to value debt securities without relying exclusively on quoted prices for specific securities, but rather by relying on the securities’ relationship to other benchmark quoted securities. Non-marketable equity securities: No ready market exists for the equity securities as they have no quoted market value. The carrying amount of equity securities approximates its fair value. Loans held for sale: The fair values of loans held for sale are based on commitments on hand from investors or prevailing market prices. Loans: For variable-rate loans that re-price frequently and with no significant change in credit risk, fair values are based on carrying values. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality. For fair value estimates for collateral-dependent impaired loans, see previous description in this footnote. Deposits: The fair values disclosed for demand deposits, savings accounts, and certain money market deposits are, by definition, equal to the amount payable on demand at the reporting date (carrying amounts). Fair values for certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits. Federal funds purchased and securities sold under agreements to repurchase: The carrying amounts of federal funds and securities sold under agreements to repurchase approximate fair value. FHLB advances: The fair value of FHLB advances was estimated using discounted cash flow analyses based on the Company’s current incremental borrowing rates for similar types of borrowing arrangements. Other borrowings: The carrying amounts of other borrowings approximate their fair value. Accrued interest: The carrying amounts of accrued interest approximate their fair value. Off-balance-sheet financial instruments: No estimated fair value is attributable to unused lines of credit and letters of credit as they are deemed immaterial. 2011 ANNUAL REPORT 35 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (18) Fair Value Measurements (continued) The estimated fair values of the Company’s financial instruments as of December 31 are as follows: December 31, 2011 December 31, 2010 Carrying Amount Fair Value Carrying Amount Fair Value Financial assets: Cash and cash equivalents Securities Non-marketable equity securities Loans held for sale Loans, net of allowance Accrued interest receivable Financial liabilities: Deposits Federal funds purchased Securities sold under agreements to repurchase FHLB advances and other borrowings Accrued interest payable $25,517 223,676 2,177 2,198 598,984 5,341 $738,068 3,899 27,698 14,400 1,186 $25,517 223,744 2,177 2,198 601,258 5,341 $741,822 3,899 27,716 14,716 1,186 $18,493 204,697 2,053 1,179 581,105 5,644 $18,493 204,659 2,053 1,179 580,991 5,644 $695,439 2,084 $700,045 2,084 26,327 29,700 1,415 26,336 29,809 1,415 (19) Stock-Compensation Plans The Company has entered into non-qualified and incentive stock option agreements whereby shares of common stock were made available for purchase by certain executive officers. All incentive and non-qualified options have been issued pursuant to various shareholder approved stock option plans. In May of 2008, the stockholders’ approved an additional 100,000 shares of common stock be made available for future purchase by certain officers. Under these agreements, the exercise price of each option equals the market price of the Company’s stock on the grant date. The options’ maximum terms are ten years. The options vest under a three, five or seven year period after the date of grant. The Company’s general practice is to use previously authorized but unissued shares of common stock to satisfy stock option exercises. Currently, the Company has a sufficient number of authorized common shares to satisfy expected stock option exercises, but treasury stock may also be used. The fair value of each option award is estimated on the date of grant using a closed form option valuation (Black-Scholes) model that uses the assumptions noted in the table below. Expected volatilities are based on historical volatilities of the Company’s common stock. The Company uses historical data to estimate option exercise and post-vesting termination behavior. The expected term of options granted is based on historical data and represents the period of time that options granted are expected to be outstanding, which takes into account that the options are not transferable. The risk-free interest rate for the expected term of the option is based on the U.S. Treasury yield in effect at the time of the grant. The fair value of each option granted was determined using the following assumptions as of grant date: Risk-free interest rate Expected option life Expected stock-price volatility Dividend yield Intrinsic value of options exercised Weighted average fair value of options granted 2011 2010 2009 1.23%-2.23% 10 29.4%-36.8% 1.56%-3.20% $4 N/A 1.23%-6.00% 10 12.7%-37.0% 0.53%-1.75% $3 $2.90 2.72%-6.00% 10 12.7%-22.0% 0.53%-1.75% N/A N/A 36 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (19) Stock-Compensation Plans (continued) For the years ended December 31, 2011, 2010 and 2009, the Company recognized $98, $81 and $33 in compensation expense for stock options, respectively. No tax benefits were recognized for the three year period ended December 31, 2011. As of December 31, 2011, stock-based compensation expense not yet recognized totaled $341, and is expected to be recognized over a weighted-average remaining period of 2.3 years. The total fair value of shares vested during the years ended December 31, 2011, 2010 and 2009 was $338, $90 and $70, respectively. During 2010, the Company modified the exercise price on 49,760 fully and partially vested incentive stock options outstanding affecting thirteen employees. The options were originally granted in 2004, 2005 and 2008 and represented a weighted average exercise price of $19.57 per share. As a result of the modification, the weighted average exercise price on the modified options was reduced to $10.43 per share. Consistent with generally accepted accounting principles, the Company revaluated the fair value of the modified options resulting in additional compensation expense of $75 to be recognized over the remaining vesting period. For the modified options already fully vested, the Company recognized the additional compensation expense in 2010. The fair value of the stock options granted in 2008, 2005 and 2004 were revised from $5.08, $12.55 and $9.37 per share, respectively as originally reported to modified fair values of $7.21, $14.08, and $10.74 per share, respectively. The following tables summarize the activity of options and non-vested shares granted, exercised, or forfeited for the year ended December 31, 2011: Shares under option, beginning of year Granted during the year Forfeited and canceled during the year Exercised during the year 2011 193,090 0 (26,710) (8,850) 11.91 12.25 Shares under option, end of year 157,530 $10.32 Options exercisable, end of year 56,274 $10.43 Shares available for grant, end of year 0 Weighted Average Exercise Price Weighted Average Remaining Contractual Term Aggregate Intrinsic Value $10.63 7.07 $13 $4 $280 $94 7.4 5.91 Non-vested options, December 31, 2010 Granted during the year Vested during the year Forfeited or expired during the year Non-vested options, December 31, 2011 Number of Options 130,480 0 (27,964) (1,260) 101,256 Weighted Average Fair Value at Grant $10.26 10.24 11.91 $10.26 2011 ANNUAL REPORT 37 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (19) Stock-Compensation Plans (continued) The exercise of 8,850 and 2,117 stock options in 2011 and 2010, respectively, involved a like-kind exchange of 8,515 and 1,860 shares, respectively, of the Company’s common stock valued at the current market value on the date of exercise plus additional cash. This like-kind exchange resulted in the issuance of 335 and 257 additional shares of common stock, respectively. The following table summarizes information about fixed stock options outstanding at December 31, 2011: Exercise Price $10.00 $10.25 $10.50 $11.00 $11.00 Number Outstanding at 12/31/11 26,500 93,320 20,000 8,030 9,680 157,530 Remaining Contractual Life (Years) 6.0 8.5 8.5 3.5 2.5 Number Exercisable at 12/31/11 15,900 18,664 4,000 8,030 9,680 56,274 (20) Earnings Per Common Share For the years ended December 31, earnings per common share have been computed based on the following: Net income Less - preferred stock dividends Less - accretion of preferred stock warrants Net income available to common stockholders 2011 2010 2009 $6,568 (818) (150) $5,600 $5,815 (818) (150) $4,847 $5,483 (409) (94) $4,980 Average number of common shares outstanding Effect of dilutive options 3,659,306 26,162 3,659,058 1,216 3,658,880 0 Average number of common shares outstanding used to calculate diluted earnings per common share 3,685,468 3,660,274 3,658,880 The total outstanding options of common stock which were excluded in the computation of diluted earnings per common share for the years ended 2011, 2010 and 2009 were 0, 71,170 and 99,530, respectively because they were considered anti-dilutive. (21) Regulatory Matters The Company and Banks are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Company’s financial statements. Under capital-adequacy guidelines and the regulatory framework for prompt corrective action, the Company and Banks must meet specific capital guidelines that involve quantitative measures of the assets, liabilities, and certain off-balance-sheet items as calculated under regulatory accounting practices. The capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings, and other factors. 38 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE (21) Regulatory Matters (continued) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) Quantitative measures established by regulation to ensure capital adequacy require the Company and its subsidiaries to maintain minimum amounts and ratios (set forth in the following table) of total and Tier-I capital (as defined in the regulations) to risk-weighted assets, and of Tier-I capital to average assets. Management believes that as of December 31, 2011, that the Company and the Banks meet all capital-adequacy requirements to which they are subject. As of December 31, 2011, the most recent notifications from the Federal Deposit Insurance Corporation (FDIC) categorized all five Banks as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, minimum total risk-based, Tier-I risk-based, and Tier-I leverage ratios as set forth in the table must be maintained. There are no conditions or events occurring since the FDIC notified each Bank which management believes have changed the categories of the Banks. The actual capital amounts and ratios for the Company and Banks as of December 31 are presented in the following tables: Amount In $000s Actual Ratio Minimum Capital Requirement Amount In $000s Ratio Minimum To Be Well Capitalized Under Prompt Corrective Action Provisions Amount In $000s Ratio $99,291 23,655 18,941 13,271 21,160 9,008 $91,018 21,316 17,036 12,038 19,100 8,351 $91,018 21,316 21,316 12,038 19,100 8,351 15.06% 12.68% 12.50% 13.51% 12.88% 17.27% 13.81% 11.42% 11.24% 12.26% 11.63% 16.01% 10.30% 8.65% 8.82% 8.62% 8.83% 10.30% $52,727 14,927 12,120 7,857 13,142 4,173 $26,364 7,463 6,060 3,929 6,571 2,086 $35,354 9,852 7,728 5,587 8,651 3,243 8.00% 8.00% 8.00% 8.00% 8.00% 8.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% N/A $18,659 15,150 9,822 16,428 5,216 N/A $11,195 9,090 5,893 9,857 3,129 N/A $12,316 9,660 6,984 10,814 4,053 N/A 10.00% 10.00% 10.00% 10.00% 10.00% N/A 6.00% 6.00% 6.00% 6.00% 6.00% N/A 5.00% 5.00% 5.00% 5.00% 5.00% As of December 31, 2011: Total Capital to Risk Weighted Assets: Company Northwest German Davis Freeport Lena Tier-I Capital to Risk Weighted Assets: Company Northwest German Davis Freeport Lena Tier-I Capital to Average Assets: Company Northwest German Davis Freeport Lena 2011 ANNUAL REPORT 39 Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (21) Regulatory Matters (continued) As of December 31, 2010: Total Capital to Risk Weighted Assets: Company Northwest German Davis Freeport Lena Tier-I Capital to Risk Weighted Assets: Company Northwest German Davis Freeport Lena Tier-I Capital to Average Assets: Company Northwest German Davis Freeport Lena $93,715 22,236 17,539 12,430 19,027 8,757 $85,756 19,983 15,778 11,261 17,021 8,095 $85,756 19,983 15,778 11,261 17,021 8,095 14.81% 12.49% 12.48% 13.35% 11.89% 16.64% 13.55% 11.23% 11.22% 12.09% 10.64% 15.38% 10.14% 8.39% 8.82% 8.71% 8.42% 10.01% $50,614 14,238 11,245 7,449 12,798 4,210 $25,307 7,119 5,623 3,725 6,399 2,105 $33,832 9,524 7,157 5,173 8,087 3,236 8.00% 8.00% 8.00% 8.00% 8.00% 8.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% 4.00% N/A $17,798 14,057 9,312 15,998 5,263 N/A $10,679 8,434 5,587 9,599 3,158 N/A $11,905 8,946 6,466 10,108 4,045 N/A 10.00% 10.00% 10.00% 10.00% 10.00% N/A 6.00% 6.00% 6.00% 6.00% 6.00% N/A 5.00% 5.00% 5.00% 5.00% 5.00% (22) Other Comprehensive Income (Loss) Other comprehensive income components and related taxes for the years ended December 31 were as follows: Holding gains (losses) on securities available-for-sale Less reclassification adjustments for gains recognized in income Net unrealized gains (losses) Deferred tax effect Other comprehensive income (loss) 2011 2010 2009 $7,603 (334) 7,269 (2,958) $4,311 ($2,459) $3,029 (180) (2,639) 1,014 (437) 2,592 (999) ($1,625) $1,593 40 2011 ANNUAL REPORT Years 1986 - 2011 TWENTY∫ FIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (000s omitted except share data) (23) TARP Capital Purchase Plan (in actual dollars) On May 15, 2009, as part of the United States Treasury Department’s (UST) Troubled Asset Relief Program (TARP) Capital Purchase Program, the Company issued 15,000 shares of fixed rate cumulative perpetual preferred stock (Series A preferred stock) to the UST for total proceeds of $15,000,000. The Series A preferred stock has no par value and a redemption value of $1,000 per share. The UST also received warrants to purchase 750 shares of fixed rate cumulative preferred stock (Series B preferred stock) for an exercise price of $.01 per share. The UST immediately exercised the warrants. The Series B preferred stock has no par value and a redemption value of $1,000 per share. The Series A and Series B preferred stock are redeemable by the Company at any time. The dividend rate on the Series A preferred stock is 5% for the first five years and 9% thereafter. The dividend rate on the Series B preferred stock is 9%. Dividends on the preferred stock are cumulative and are payable quarterly in arrears on the 15th of February, May, August and November. The redemption value of the 750 shares of Series B preferred stock is being accreted as an increase to preferred stock over five years which is the Company’s expected redemption period. The Series A and Series B preferred stock is included as Tier-1 capital for regulatory purposes. Under the terms of the TARP agreement, the Company is subject to certain dividend limitations. Generally, without the UST’s consent, the Company is limited to a maximum quarterly dividend of $.08 per common share until May 14, 2012. Additionally, without the UST’s consent, the Company is limited to a maximum dividend of 103% of the aggregate per share dividends of the prior fiscal year for the period from May 15, 2012 to May 14, 2019. Subsequent to May 14, 2019, without the UST’s consent, the Company may not pay a dividend until the Series A and Series B preferred stock is redeemed. Additionally under the terms of the TARP agreement, without the consent of the UST, the Company generally may not acquire additional shares of treasury stock, except in connection with the administration of any employee benefit plan in the ordinary course of business and consistent with past practice. The TARP agreement also places certain restrictions on executive compensation, the effect of which has not had a material effect on the consolidated financial statements. 2011 ANNUAL REPORT 41 Years 1986 - 2011 TWENTY∫ FIVE CONSOLIDATING SCHEDULE 1 - BALANCE SHEET (000s omitted except share data) December 31, 2011 A S S E T S German-American State Bank State Bank of Davis Cash and due from banks Interest-bearing deposits in banks Federal funds sold Securities: Securities held-to-maturity Securities available-for-sale Non-marketable equity securities, at cost Loans held for sale Loans, net Foreclosed assets, net Premises and equipment Other assets Investment in subsidiary banks $3,063 263 45,312 534 141,577 70 1,237 3,871 $1,818 2,030 0 1,976 37,354 306 90,938 312 929 1,293 Total assets $195,927 $136,956 LIABILITIES AND STOCKHOLDLERS' EQUITY Liabilities: Deposits: Noninterest bearing Interest-bearing Total deposits Federal funds purchased Securities sold under agreements to repurchase Federal Home Loan Bank borrowings and other Accrued interest payable and other liabilities Total liabilities Stockholders’ equity: Preferred stock Common stock Additional paid-in capital Retained earnings Treasury stock Accumulated other comprehensive income Total stockholders’ equity $15,606 154,484 170,090 3,303 3,500 1,028 177,921 400 2,737 13,899 970 18,006 $12,195 102,148 114,343 596 7,870 750 377 123,936 100 1,547 10,391 982 13,020 Total liabilities and stockholders’ equity $195,927 $136,956 42 2011 ANNUAL REPORT Years1986 - 2011 TWENTY∫ FIVE Northwest Bank State Bank Lena State Bank Foresight Financial Group, Inc. Eliminations Consolidated Total $6,829 2,242 0 66 48,847 636 2,198 173,353 1,453 4,783 5,566 $4,126 2,605 0 58,186 448 148,210 1,944 1,863 $1,285 1,256 0 31,935 253 44,621 156 486 2,598 $6,940 ($6,940) 285 4,006 736 1,550 83,279 (83,279) $17,121 8,396 0 2,042 221,634 2,177 2,198 598,984 5,997 10,115 16,741 $245,973 $217,382 $82,590 $96,796 ($90,219) $885,405 $32,442 179,222 211,664 5,760 4,000 1,904 $19,148 156,979 176,127 0 14,068 6,150 615 $6,382 66,402 72,784 0 620 223,328 196,960 73,404 1,450 5,120 14,745 1,330 22,645 1,000 4,550 13,550 1,322 20,422 500 3,670 4,181 835 9,186 ($3,737) (3,203) (6,940) (6,940) (3,450) (17,624) (56,766) (5,439) (83,279) $198 198 15,394 966 7,666 71,193 (4,060) 5,439 96,598 $82,036 656,032 738,068 3,899 27,698 14,400 4,742 788,807 15,394 966 7,666 71,193 (4,060) 5,439 96,598 $245,973 $217,382 $82,590 $96,796 ($90,219) $885,405 2011 ANNUAL REPORT 43 YearsFor the year ended December 31, 2011 Interest and dividend income: Loans, including fees Securities: Taxable Tax-exempt Dividends Interest-bearing deposits in banks Federal funds sold Total interest and dividend income Interest expense: Deposits Federal funds purchased Securities sold under agreements to repurchase Federal Home Loan Bank advances and other borrowings Total interest expense Net interest and dividend income Provision for loan losses Net interest and dividend income, after provision for loan losses Noninterest income: Customer service fees Equity in earnings of subsidiaries Gain on sales and calls of AFS securuties, net Gain on sales of loans, net Loan-servicing fees Other Total noninterest income Noninterest expenses: Salaries and employee benefits Occupancy expense of premises, net Outside services Data processing Foreclosed assets, net Other Total noninterest expenses Income before income taxes Income tax expense (benefit) Net income 44 1986 - 2011 TWENTY∫ FIVE German-American State Bank State Bank of Davis $7,883 $5,002 834 687 1 8 2 9,415 2,249 1 91 2,341 7,074 1,100 5,974 370 2 666 1,038 2,079 402 186 262 78 1,044 4,051 2,961 957 643 784 4 4 6,437 1,706 1 73 19 1,799 4,638 879 3,759 129 (7) 173 295 918 159 147 108 67 570 1,969 2,085 556 $2,004 $1,529 2011 ANNUAL REPORT Years1986 - 2011 TWENTY∫ FIVE CONSOLIDATING SCHEDULE 2 - STATEMENT OF INCOME (000s omitted except share data) Northwest Bank State Bank Lena State Bank Foresight Financial Group, Inc. Eliminations Consolidated Total $10,131 $8,197 $2,617 $33,830 896 847 1 1 11,876 2,160 2 21 84 2,267 9,609 3,255 970 989 3 10,159 2,100 2 73 147 2,322 7,837 1,270 572 593 2 1 3,785 1,109 1 0 1,110 2,675 591 6,354 6,567 2,084 473 295 705 579 719 2,771 4,515 866 56 250 223 1,697 7,607 1,518 215 240 40 603 883 1,888 292 149 275 651 3,255 4,195 1,366 $1,303 $2,829 157 4 178 339 813 175 144 64 394 1,590 833 121 $712 11 11 0 0 11 100 (89) ($11) (11) ($11) (11) 0 0 $8,377 ($8,377) 28 8,405 327 10 41 2,400 179 2,957 5,359 (1,209) $6,568 (8,377) 0 (8,377) ($8,377) 3,915 3,900 1 15 11 41,672 9,313 7 167 341 9,828 31,844 7,195 24,649 1,369 0 334 705 579 2,367 5,354 10,540 1,904 723 959 2,768 4,535 21,429 8,574 2,006 $6,568 2011 ANNUAL REPORT 45 Years1986 - 2011 TWENTY∫ FIVE GENERAL INFORMATION Foresight Financial Group, Inc. 3106 North Rockton Ave. Rockford, IL 61103 Phone: 815/847-7500 E-mail: dcooke@ffgbank.net Registrar, Transfer Agent and Change of Address: Foresight Financial Group, Inc. at its Corporate Address Foresight common stock is listed on the NASDAQ Bulletin Board under the symbol FGFH For more information, contact Foresight Financial Group, Inc. at its Corporate Address or visit our website at www.foresightfg.com DIRECTORS Foresight Financial Group, Inc. Rockford, IL Douglas M. Cross Stephen G. Gaddis John Jeschke Brent Myers Dr. Carolyn Sluiter Robert W. Stenstrom Doug Wagner Richard L. Weigle Northwest Bank of Rockford Rockford, IL German-American State Bank German Valley, IL State Bank of Davis Davis, IL Robert Borneman John Collman Jack Janssen Gary R. Johnson James G. Sacia Jeff Sterling Richard Weigle Stephen G. Gaddis Charles B. Kullberg Stephen P. McKeever John J. Morrissey Richard L. Rosenstiel Robert W. Stenstrom Thomas R. Walsh Lena State Bank Lena, IL Todd Bussian, O.D. Dr. Gordon Dammann John Jeschke Dr. James Moest Brent Myers Steven Rothschadl Dan Dietmeier John Jeschke Brent Myers Thomas Olsen Gerald Osowski Dr. Carolyn Sluiter Judd Thruman State Bank Freeport, IL Douglas Cross Dr. Joe M. Kanosky Fred Kundert Richard Rosenstiel Marilyn Smit Brian Stewart Sharon Summers Doug Wagner 46 2011 ANNUAL REPORT Years We are a market driven, people oriented  community banking organization dedicated to  enhancing shareholder value by  providing our customers with  diversified financial services that  help them achieve economic success  and financial security.  We will pursue these goals while  balancing shareholder and customer interests  with the ongoing welfare of our  employees and local communities. The member banks of our group  maintain a high degree of independence  and sensitivity to the concerns of the  local communities and markets  that we choose to serve. We will seek to expand sensibly  into new markets when we believe  that our business model and  community banking philosophy  can be successfully extended. In summary: “Community Building through Community Banking” NOTES R O U G H C OMMUNITY BANKING R O U G H C OMMUNITY BANKING H H G T G T MUNITY BUIL DI N MUNITY BUIL DI N M M O O C C TWENTY FIVE 1986 - 2011 Years R O U G H C OMMUNITY BANKING H G T MUNITY BUIL DI N M O C FORESIGHT FINANCIAL GROUP, INC ∫ 2011 ANNUAL REPORT 

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