10-Q 1 g70979e10-q.txt AREA BANCSHARES CORPORATION 1 U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For quarter ended June 30, 2001 Commission File Number 0-26032 AREA BANCSHARES CORPORATION --------------------------- (Exact name of registrant as specified in its charter) INCORPORATED IN KENTUCKY IRS EMPLOYER ID NUMBER NO. 61-0902343 230 FREDERICA STREET OWENSBORO, KENTUCKY 42301 ------------------------- (Address of principal executive offices, including zip code) Registrant's telephone number, including area code: (270) 926-3232 -------------- Former name, former address and former fiscal year, if changed since last report: N/A --- Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practical date. Class: Common stock No Par Value Shares Outstanding: As of July 31, 2001: 24,316,438 1 2 AREA BANCSHARES CORPORATION TABLE OF CONTENTS

2 3 AREA BANCSHARES CORPORATION AND SUBSIDIARIES UNAUDITED CONSOLIDATED BALANCE SHEETS (Amounts in thousands, except share data)

SEE ACCOMPANYING NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS. 3 4 AREA BANCSHARES CORPORATION AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF INCOME THREE AND SIX MONTHS ENDED JUNE 30, 2001 AND 2000 (Amounts in thousands, except per share data)

SEE ACCOMPANYING NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS. 4 5 AREA BANCSHARES CORPORATION AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME THREE AND SIX MONTHS ENDED JUNE 30, 2001 AND 2000 (Amounts in thousands)

SEE ACCOMPANYING NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS. 5 6 AREA BANCSHARES CORPORATION AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY SIX MONTHS ENDED JUNE 30, 2001 (Amounts in thousands, except share and per share data)

SEE ACCOMPANYING NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS. 6 7 AREA BANCSHARES CORPORATION AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS SIX MONTHS ENDED JUNE 30, 2001 AND 2000 (Amounts in thousands)

CONTINUED 7 8 AREA BANCSHARES CORPORATION AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) SIX MONTHS ENDED JUNE 30, 2001 AND 2000 (Amounts in thousands)

SEE ACCOMPANYING NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS. 8 9 AREA BANCSHARES CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 2001 AND 2000 NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying interim unaudited consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and, therefore, do not include all information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting only of normal recurring accruals) considered necessary for a fair presentation have been reflected in the accompanying unaudited consolidated financial statements. Results of interim periods are not necessarily indicative of results to be expected for the full year. The accounting and reporting policies of AREA Bancshares Corporation ("AREA") and its subsidiaries conform to accounting principles generally accepted in the United States of America and general practices within the banking industry. The consolidated financial statements include the accounts of AREA and its wholly-owned subsidiaries. All significant inter-company accounts and transactions have been eliminated in consolidation. A full description of significant accounting policies as well as a complete set of footnotes are presented in the 2000 annual report and Form 10-K to shareholders. NOTE 2. BUSINESS COMBINATIONS (COMPLETED MERGERS AND ACQUISITIONS) On January 31, 2000 AREA acquired Peoples Bank of Murray, Murray, Kentucky; Dees Bank of Hazel, Hazel, Kentucky; Bank of Lyon County, Eddyville, Kentucky; and Bank of Livingston County, Tiline, Kentucky ("Western Kentucky Group"). AREA paid $77.75 million in cash for these banking companies. On January 31, 2000, total assets of these four affiliated banking companies were $383.35 million, total loans were $220.03 million, total deposits were $327.97 million and total shareholders' equity was $43.97 million. The transaction was accounted for as a purchase transaction; accordingly, the results of operations of these banks have been included in the unaudited consolidated financial statements since the date of acquisition. In conjunction with the acquisition, approximately $32.95 million of intangible assets were recorded and are being amortized over a 10 to 20-year period. 9 10 AREA BANCSHARES CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 2001 AND 2000 NOTE 3. ADOPTION OF NEW ACCOUNTING PRINCIPLE In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133. - Accounting for Derivative Instruments and Hedging Activities (SFAS 133). In June 1999 and June 2000, the FASB issued SFAS No. 137 - Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133, and Amendment of FASB Statement No. 133, and SFAS No. 138 - Accounting for Derivative Instruments and Hedging Activities, and Amendment of FASB Statement No. 133, respectively. SFAS No. 133, as amended, establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. SFAS No. 133, as amended, requires an entity to recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. If certain conditions are met, a derivative may be specifically designated as a hedge in one of three categories. The accounting for changes in the fair value of a derivative (i.e., gains and losses) depends on the intended use of the derivative and the resulting designation. Under SFAS No. 133, as amended, an entity that elects to apply hedge accounting is required to establish, at the inception of the hedge, the method it will use for assessing the effectiveness of the hedging derivative and the measurement approach for determining the ineffective aspect of the hedge. Those methods must be consistent with the entity's approach to managing risk. The Company utilizes derivative instruments and hedging activities to assist in the management of interest rate sensitivity and to modify the repricing, maturity and option characteristics of certain assets and liabilities. The following is a summary of accounting policies for derivative instruments and hedging activities under SFAS 133, as amended; INTEREST RATE SWAP AGREEMENTS - CASH FLOW HEDGES. Interest rate swap agreements designated as cash flow hedges are accounted for at fair value. The effective portion of the change in the cash flow hedge's gain or loss is initially reported as a component of other comprehensive income and subsequently reclassified into earnings when the underlying transaction affects earnings. The ineffective portion of the change in the cash flow hedge's gain or loss is recorded in earnings on each quarterly measurement date. The cash flow hedges are accounted for on an accrual basis with the net interest differential being recognized as an adjustment to interest income or interest expenses of the related asset or liability. INTEREST RATE SWAP AGREEMENTS - FAIR VALUE HEDGES. Interest rate swap agreements designated as fair value hedges are accounted for at fair value. The ineffective portion of the change in the fair value hedge's gain or loss and the corresponding change in the fair value of the underlying asset or liability are recorded in earnings on each quarterly measurement date. The fair value hedges are accounted for on an accrual basis with the net interest differential being recognized as an adjustment to interest income or interest expense of the related asset or liability. On January 1, 2001, AREA implemented SFAS No. 133, as amended. At that date, the Company had three interest rate swap agreements. One of the agreements, with a notional value of $10 million was classified as a fair value hedge. Upon implementation of SFAS No. 133, as amended, these derivative instruments were recognized in the financial statements. An asset related to the derivative instruments of $354 thousand, an increase in deferred tax liabilities of $124 thousand and a cumulative effect of the change in accounting principle of $230 thousand were recorded. During the first quarter of 2001 an interest rate swap with a notional value of $40 million was terminated. Proceeds of $140 thousand were received in consideration of this termination. As of June 30, 2001, AREA had swaps outstanding with a notional value of $16.29 million. During the quarter ended June 30, 2001, $11.69 thousand was recognized as an expense to adjust the swaps to market value while $21.0 thousand was recorded as net interest income as a result of the net payments received from counter parties to the swap agreements. 10 11 AREA BANCSHARES CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 2001 AND 2000 NOTE 4. NET INCOME PER COMMON SHARE Basic earnings per share are calculated by dividing net income by the weighted average number of common shares outstanding during the period. Diluted earnings per share give effect to the increase in the average shares outstanding that would have resulted from the exercise of dilutive stock options. The components of basic and diluted earnings per share are as follows:

NOTE 5. SECURITIES The amortized cost and approximate fair values of securities as of June 30, 2001 and December 31, 2000 are as follows:

During the first six months of 2001, the after-tax net unrealized gain reported as a separate component of equity (accumulated other comprehensive income) increased from $17.33 million on December 31, 2000 to $19.36 million on June 30, 2001, thus increasing shareholders' equity. The increase was primarily the result of the effect of falling interest rates on AREA's fixed income securities. 11 12 AREA BANCSHARES CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 2001 AND 2000 NOTE 5. SECURITIES (CONTINUED)

NOTE 6. NEW ACCOUNTING STANDARDS In July 2001, the FASB issued SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001 as well as all purchase method business combinations completed after June 30, 2001. SFAS No. 141 also specifies criteria intangible assets acquired in a purchase method business combination must meet to be recognized and reported apart from goodwill, noting that any purchase price allocable to an assembled workforce may not be accounted for separately. SFAS No. 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 will also require that intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of. The provisions of SFAS No. 141 are required to be adopted immediately and SFAS No. 142 will be effective January 1, 2002. Furthermore, any goodwill and any intangible assets determined to have an indefinite useful life that are acquired in a purchase business combination completed after June 30, 2001 will not be amortized, but will continue to be evaluated for impairment in accordance with the appropriate pre-SFAS No. 142 accounting literature. Goodwill and intangible assets acquired in business combinations completed before July 1, 2001 will continue to be amortized prior to the adoption of SFAS No. 142. 12 13 AREA BANCSHARES CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 2001 AND 2000 NOTE 6. NEW ACCOUNTING STANDARDS (CONTINUED) SFAS No. 141 will require upon adoption of SFAS No. 142, that AREA evaluate its existing intangible assets and goodwill that were acquired in prior purchase business combinations, and that AREA make any necessary reclassifications in order to conform with the new criteria in SFAS No. 141 for recognition apart from goodwill. Upon adoption of SFAS No. 142, AREA will be required to reassess the useful lives and residual values of all intangible assets acquired in purchase business combinations, and make any necessary amortization period adjustments by the end of the first interim period after adoption. In addition, to the extent an intangible asset is identified as having an indefinite useful life, a test will be required to be made of the intangible asset for impairment in accordance with the provisions of SFAS No. 142 within the first interim period. Any impairment loss will be measured as of the date of adoption and recognized as the cumulative effect of a change in accounting principle in the first interim period. In connection with the transitional goodwill impairment evaluation, SFAS No. 142 will require an assessment of whether there is an indication that goodwill is impaired as of the date of adoption. This will be accomplished through the identification of reporting units and determination of the carrying value of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units as of the date of adoption. AREA will have up to six months from the date of adoption to determine the fair value of each reporting unit and compare it to the reporting unit's carrying amount. To the extent a reporting unit's carrying amount exceeds its fair value, an indication exists that the reporting unit's goodwill may be impaired and then the second step of the transitional impairment test must be performed. (In the second step, the implied fair value must be compared to the reporting unit's goodwill, determined by allocating the reporting unit's fair value to all of it assets (recognized and unrecognized) and liabilities in a manner similar to a purchase price allocation in accordance with SFAS No. 141, to the carrying amount, both of which would be measured as of the date of adoption.) This second step is required to be completed as soon as possible, but no later than the end of the year of adoption. Any transitional impairment loss will be recognized as the cumulative effect of a change in accounting principle in the statement of earnings. As of the date of adoption of SFAS No. 142, AREA expects to have unamortized goodwill in the amount of $48.98 million and unamortized identifiable intangible assets in the amount of $5.70 million, all of which will be subject to the transition provisions of SFAS No. 141 and SFAS No. 142. Pre-tax amortization expense related to goodwill was $4.44 million and $2.27 million for the year ended December 31, 2000 and the six months ended June 30, 2001, respectively. Because of the extensive effort needed to comply with adopting SFAS No. 141 and SFAS No. 142, it is not practicable to reasonably estimate whether any transitional impairment losses will be required to be recognized as the cumulative effect of a change in accounting principle. NOTE 7. SEGMENT INFORMATION AREA engages in two lines of business: traditional banking operations, which includes commercial and retail banking and trust operations. Selected financial information by business segment is summarized below. This unaudited financial information is derived from the internal reporting systems used by management to assess segment performance. COMMERCIAL AND RETAIL BANKING Commercial and retail banking is conducted at 72 branches of AREA Bank and The Vine Street Trust Company (AREA's two banking affiliates) by providing traditional commercial and retail banking products and services to individual consumers and small-to medium-size businesses. Products and services offered include commercial loans; small business loans; mortgage loans; home equity loans and lines of credit; installment loans; and demand, savings and time deposit accounts. These services are provided through retail branch offices, ATMs, and PC banking options. 13 14 AREA BANCSHARES CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 2001 AND 2000 NOTE 7. SEGMENT INFORMATION (CONTINUED) COMMERCIAL AND RETAIL BANKING (CONTINUED) The marketing effort of AREA's bank subsidiaries focuses on lending and deposit gathering activities within local markets served which encompass the Commonwealth of Kentucky. TRUST OPERATIONS The trust line of business is conducted at 5 facilities of AREA Trust Company (AREA's only trust company) and at the home office of The Vine Street Trust Company by providing investment management, personal trust services and employee benefit administration services. The following unaudited financial information summarizes the results for AREA's two lines of business for the three and six-month periods ended June 30, 2001. Prior to the third quarter of 2000, AREA's lines of business were not separated, thus information for the quarter and year-to-date periods ended June 30, 2000 are not available. As of June 30, 2001, substantially all of AREA's assets were committed to the commercial and retail banking segment. The total assets of AREA Trust were $10.68 million on June 30, 2001. SEGMENT INFORMATION (Amounts in thousands)

14 15 AREA BANCSHARES CORPORATION AND SUBSIDIARIES NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS JUNE 30, 2001 AND 2000 NOTE 8. INTANGIBLES As of June 30, 2001, intangibles totaled $60.40 million compared to $63.95 million on December 31, 2000. The excess cost over fair value of net assets acquired in purchase business combinations (goodwill) of $51.25 million and $52.96 million net of accumulated amortization as of June 30, 2001 and December 31, 2000, respectively, is being amortized over 10-20 year periods on a straight-line basis. Other intangible assets consist of the book value of core deposits purchased of approximately $9.15 million and $10.42 million, net of accumulated amortization, as of June 30, 2001 and December 31, 2000, respectively, which is being amortized by an accelerated method over ten years. Amortization expense for the three-month periods ended June 30, 2001 and 2000 was $1.77 million and $2.24 million, respectively. Amortization expense for the six-month periods ended June 30, 2001 and 2000 was $3.55 million and $3.47 million, respectively. In addition to the intangibles described above, which were the result of acquisitions accounted for using the purchase method of accounting, AREA also had $2.0 million as of June 30, 2001 and $2.12 million as of December 31, 2000 of originated and purchased mortgage servicing rights net of amortization which are being amortized over the lives of the related mortgages. NOTE 9. STOCK SPLIT During November 2000, AREA's Board of Directors declared a 3-for-2 stock split of AREA's common stock, payable in December 2000. The stock split resulted in the issuance of 8.11 million shares of common stock along with a corresponding capitalization of $9.31 million of retained earnings. All references to the number of shares (other than common stock issued or outstanding on the June 30, 2000 Consolidated Balance Sheet), per share amounts, cash dividends and any other references to shares in the consolidated financial statements and accompanying Notes to Consolidated Financial Statements, unless otherwise noted, have been adjusted to reflect the split on a retroactive basis. Previously awarded stock options and restricted awards have been adjusted to reflect the split. NOTE 10. NAME CHANGE AND CONSOLIDATION OF OPERATIONS Prior to the third quarter of 2000, each of AREA's seventeen banks were operated separately under individual charters. Each bank operated within its local market and retained its individual name. Management made the decision to merge the individual charters of all the banks with the exception of The Vine Street Trust Company and adopt a common name, AREA Bank. In addition to better name recognition, AREA's extensive investment in technology was optimized to reduce redundancies resulting from numerous charters. In addition, customers are able to receive better service through a wider range of products. During the third and fourth quarters of 2000, AREA consolidated the charters of its affiliate banks with the exception of The Vine Street Trust Company, Lexington, Kentucky. At the time of the consolidation of the charters, the trust operations of those banks with trust departments were transferred to AREA Trust Company, a state chartered non-depository trust company. After the consolidation, both lending and deposit decisions continue to be made on a local level, thus maintaining the quality of service of an individual bank. In matters affecting their customers, the local banking centers continue to have broad discretion. The merged banks maintained their local boards which enables AREA Bank to continue to be sensitive to local needs and customer preferences. The operational functions such as accounting, item processing, loan servicing, mortgage servicing and credit administration are being performed on a centralized basis in Owensboro, Kentucky. The consolidation of the operational functions was completed in steps from the third quarter of 2000 through the first quarter of 2001. AREA incurred after-tax charges in the third quarter of 2000 totaling approximately $1.49 million ($2.29 million pre-tax) or $0.06 per diluted share related to the consolidation of its subsidiary banks. These charges related primarily to employee severance payments and other costs of integrating the operations of the merged banks. 15 16 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL AREA, the largest bank holding company headquartered in Kentucky, is a $2.71 billion multi-bank holding company with its principal offices in Owensboro, Kentucky. As of June 30, 2001, AREA owned two banks ("banking affiliates") and a trust company conducting business in offices throughout Kentucky (see Note 10 in the accompanying unaudited financial statements for details). The banking affiliates provide a wide range of financial services, such as accepting demand and time deposits; providing checking and money market accounts; making commercial, consumer and mortgage loans; issuing and servicing credit cards; leasing; providing trust services for personal and corporate customers; providing safe deposit facilities; and offering alternative investments and brokerage services. The trust company offers comprehensive trust and investment services to a broad range of companies and individuals. As of June 30, 2001, AREA had approximately $1.34 billion of assets under management through AREA Trust and the trust department of The Vine Street Trust Company. AREA also has seven active non-bank affiliates that provide services incidental to AREA's operations. AREA has established an internet website (http://www.abcbank.com) which provides additional information about the products and services offered by its affiliates. The parent company furnishes specialized services to its affiliated banks and subsidiaries including: supervision, administration and review of loan portfolios: administration of investment portfolios, insurance programs and employee benefit plans: and assistance with respect to accounting and operating systems and procedures, personnel, marketing, cash management services and equipment management. AFFILIATED BANKS AND TRUST COMPANY The two affiliated banks had 72 banking locations as of June 30, 2001. These banks serve both rural and metropolitan areas. As of June 30, 2001, AREA Bank had total assets of $2.39 billion and The Vine Street Trust Company had total assets of $278.65 million. AREA Trust had $1.08 billion of assets under management while The Vine Street Trust Company managed $257 million of trust assets. The discussion that follows is intended to provide additional insight into AREA's financial condition and results of operations which includes the acquisition of the Western Kentucky Group on January 31, 2000 (see Note 2 in the accompanying unaudited consolidated financial statements for details of this transaction). Where considered significant, the impact of this transaction on AREA's results of operations and financial condition is discussed. This discussion should be read in conjunction with the unaudited consolidated financial statements and accompanying notes presented in Item 1 of Part I of this Form 10-Q. FORWARD LOOKING STATEMENTS Various statements contained in this Quarterly Report on Form 10-Q and the exhibits to this quarterly report that are not statements of historical fact constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act (the "Act"). In addition, various statements in filings by AREA with the Securities and Exchange Commission, in press releases, and in oral and written statements made by or with the approval of AREA that are not statements of historical fact constitute forward-looking statements within the meaning of the Act. Examples of forward-looking statements include, but are not limited to: (1) projections of revenues, income or loss, earnings or loss per share, the payment or non-payment of dividends, capital structure and other financial items; (2) statements of AREA's plans and objectives, including those relating to products or services; (3) statements of future economic performance; and (4) statements of assumptions underlying such statements. Words such as "believes," "anticipates," "expects," "intends," "targeted," and similar expressions are intended to identify forward-looking statements but are not the exclusive means of identifying such statements. 16 17 FORWARD LOOKING STATEMENTS (CONTINUED) Forward-looking statements involve risks and uncertainties that may cause actual results to differ materially from those in such statements. Factors that could cause actual results to differ from those discussed in the forward-looking statements include, but are not limited to: (1) the strength of the U.S. economy in general and the strength of the local economies in which operations are conducted; (2) the effects of and changes in trade, monetary and fiscal policies and laws, including interest rate policies of the Board of Governors of the Federal Reserve System; (3) inflation, interest rate, market and monetary fluctuations; (4) the timely development and acceptance of new products and services and perceived overall value of these products and services by users; (5) changes in consumer spending, borrowing and saving habits; (6) technological changes; (7) acquisitions; (8) the ability to increase market share and control expenses; (9) the effect of changes in laws and regulations (including laws and regulations concerning taxes, banking, securities and insurance) with which AREA and its subsidiaries must comply; (10) the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies as well as the Financial Accounting Standards Board; (11) changes in AREA's organization, compensation and benefit plans; (12) the costs and effects of litigation and of unexpected or adverse outcomes in such litigation; and (13) AREA's success managing the risks involved in the foregoing. Forward-looking statements speak only as of the date on which the statements are made, and AREA undertakes no obligation to update any forward-looking statement to reflect events or circumstances after the date on which a statement is made to reflect the occurrence of unanticipated events. A. RESULTS OF OPERATIONS Net income for the quarter ended June 30, 2001 was $8.14 million versus $11.70 million in the same period of 2000. Diluted earnings per share for the second quarter of 2001 were $0.33 compared to $0.47 for the same period in 2000. The decrease during the current quarter compared to the second quarter of 2000 was $3.56 million or 30.4% for net income and $0.14 or 29.8% per diluted share. Return on average assets was 1.20% (annualized) in the second quarter of 2001 compared to 1.73% (annualized) in the same period of last year. Return on average equity was 10.93% (annualized) in the second quarter of 2001 compared to 17.22% (annualized) during the first three months of 2000. The reduction in earnings during the current quarter compared to the second quarter of 2000 was largely the result of a decrease in security gains from $4.23 million after-taxes ($7.40 million pre-tax) or $0.17 per diluted share to a net security loss of $3 thousand after-taxes ($4 thousand pre-tax) in the second quarter of 2001. Net interest income on a taxable equivalent basis increased $1.04 million or 3.7% to $29.29 million in the current quarter compared to the same period in 2000, non-interest income (excluding infrequently occurring items) decreased $54 thousand or 0.7% to $7.68 million and non-interest expenses decreased $522 thousand or 2.2% to $23.01 million during the current quarter compared to the second quarter of 2000. The gains on the sale of securities during the second quarter of 2000 reflected AREA's strategy to improve the performance of its investment portfolio through repositioning portions of the portfolio as market conditions warranted. Year-to-date net earnings were $15.63 million compared to $23.31 million for the first six months of 2000. Diluted earnings per share totaled $0.64 in the first half of 2001 compared to $0.94 during the same period in 2000. The year-to-date decreases were $7.68 million or 32.9% for net income and $0.30 or 31.9% per diluted share. Net income for the first six months of the year resulted in a return on average assets of 1.16% (annualized) compared to 1.78% (annualized) during the first six months of 2000 and a return on average equity of 10.70% (annualized) versus 17.82% (annualized) in the first half of 2000. The reduction in earnings during the current six-month period compared to the first six months of 2000 was largely the result of a decrease in security gains of $8.98 million after-taxes ($15.60 million pre-tax) or $0.37 per diluted share. During the first six months of 2001 security gains and losses netted to zero. Net interest income on a taxable equivalent basis increased $3.59 million or 6.6% to $57.77 million in the first half of 2001 compared to the same period in 2000, non-interest income (excluding infrequently occurring items) increased $346 thousand or 2.3% to $15.10 million. These increases were partially off-set by a $1.41 million or 3.1% increase to $46.29 million in non-interest expenses. The gains on the sale of securities during the first six months of 2000 reflected AREA's strategy to improve the performance of its investment portfolio through repositioning portions of the portfolio as market conditions warranted. 17 18 A. RESULTS OF OPERATIONS (CONTINUED) The current year-to-date period includes the results of operations of the Western Kentucky Group (see Note 2 in the accompanying unaudited consolidated financial statements) for the entire six months while the first half of 2000 included the Western Kentucky Group from January 31, 2000 (date of acquisition). Identification of the various components of income and expense for the Western Kentucky group is not possible as a result of the consolidation of operations of the Western Kentucky Group into AREA Bank (see Note 10 in the accompanying unaudited consolidated financial statements). CORE OPERATING NET INCOME AREA believes that a meaningful comparison of the results of operations excludes infrequently occurring items. Although these calculations are helpful in understanding the performance of AREA, core operating net income should not be considered a substitute for net income or cash flow as indicators of AREA's financial performance or its ability to generate liquidity. In addition, core operating net income are not in accordance with accounting principles generally accepted in the United States of America and may not allow comparison with other bank holding companies. As shown in the following table, AREA recorded a $3 thousand after-tax ($4 thousand pre-tax) loss on the sale of securities in the second quarter of 2001, while during the second quarter of 2000 security gains totaling $4.23 million after-tax ($7.40 million pre-tax) or $0.17 per diluted share were recorded. Core operating income during the second quarter of 2001 and 2000, which is net income adjusted for these items, totaled $8.14 million or $0.33 per diluted share and $7.47 million or $0.30 per diluted share, respectively. Core operating net income increased $675 thousand or 9.0% while core operating diluted earnings per share increased $0.03 or 10.0% from the second quarter of 2000. During the first six months of 2001 there were no infrequent items, however during the first half of 2000 security gains totaling $8.98 million after-tax ($15.60 million pre-tax), or $0.37 per diluted share were recorded, a gain totaling $93 thousand after-tax ($143 thousand pre-tax) on the sale of fixed assets was recognized and merger-related adjustments were made which totaled $248 thousand after-tax ($382 thousand pre-tax), or $0.01 per diluted share, in connection with the acquisition of the Western Kentucky Group were recorded. Core operating net income, which is net income adjusted for these items, increased $1.14 million or 7.9% to $15.63 million while core operating diluted earnings per share increased $0.06 or 10.3% to $0.64 from $0.58 in the first six months of 2000. The following table presents the core operating net income and various core operating performance ratios:

(1) Annualized The table on the following page provides selected operating data, per share data, selected ratios and average balances for the three and six-month periods ended June 30, 2001 and 2000: 18 19 A. RESULTS OF OPERATIONS (CONTINUED)

(1) Excludes items presented in the Core Operating Net Income table above. (2) Percentages annualized. CORE OPERATING CASH-BASED EARNINGS AREA believes it is important to also disclose cash-based core operating net income, which excludes infrequently occurring items and intangible asset amortization from core operating net income. Although these calculations are helpful in understanding the performance of AREA, cash-based core operating net income should not be considered a substitute for net income or cash flow as indicators of AREA's financial performance or its ability to generate liquidity. In addition, cash-based earnings are not in accordance with accounting principles generally accepted in the United States of America and may not allow for comparison with other bank holding companies. The following table presents the cash-based core operating net income and various cash-based performance ratios: 19 20 CORE OPERATING CASH-BASED EARNINGS (CONTINUED)

(1) Excludes items presented in the Core Operating Net Income table above. NET INTEREST INCOME The largest component of AREA's operating income is net interest income, which is the difference between interest income and interest expense. Sources of interest income include interest on loans and investments while interest expense includes interest paid on deposits and borrowings. The amount of net interest income is the result of a number of factors, including the volume, mix and maturity of earning assets and interest-bearing liabilities; fluctuations in the level of interest rates; and asset quality. In addition, the amount of interest-bearing assets funded by interest-free sources (largely shareholders' equity and non-interest-bearing deposits) impacts net interest income. Changes in net interest income are frequently measured by two percentages: net interest margin and net interest spread. Net interest margin is expressed as net interest income (on a tax-equivalent basis) divided by average earning assets. Net interest spread is the difference between the average yield earned on interest-earning assets and the average rate paid on interest-bearing liabilities. For purposes of this discussion, net interest income is presented on a fully-taxable equivalent basis, which adjusts tax-exempt income to an amount that would yield the same after-tax income had the income been subject to taxation at the federal statutory income tax rate which is currently 35%. Net interest income, on a tax equivalent basis, increased $1.04 million or 3.7% to $29.29 million during the quarter ended June 30, 2001 compared to the same quarter in 2000. The increase in net interest income was due largely to an increase in the margin. Average earning assets for the second quarter of 2001 were $2.53 billion, an increase of $14.38 million or 0.6% from the second quarter of 2000. AREA's net interest margin (which is computed by dividing net interest income on a fully taxable equivalent basis by average earning assets) increased from 4.51% during the quarter ended June 30, 2000 to 4.64% during the current quarter. The average rate on interest earning assets decreased from 8.49% during the second quarter of 2000 to 8.23% in the current quarter. The average rate on interest bearing liabilities decreased from 4.73% to 4.32%. These changes resulted in an increase from 3.76% to 3.91% in the net interest spread during the current quarter versus the same period in 2000. For the six months ended June 30, 2001, net interest income, on a tax equivalent basis, increased $3.59 million or 6.6% to $57.77 million over the same period in 2000. The increase in net interest income was due largely to an increase in average earning assets and an increase in the margin. Average earning assets for the first six months of 2001 were $2.53 billion, an increase of $87.82 million or 3.6% from the same period in 2000. AREA's net interest margin (which is computed by dividing net interest income on a fully taxable equivalent basis by average earning assets) increased from 4.47% during the six months ended June 30, 2000 to 4.61% during the current quarter. The average rate on interest earning assets increased from 8.34% during the first six months of 2000 to 8.44% for the first six months of 2001 largely as a result of a favorable change in the mix of earning assets towards loans. The average rate on interest bearing liabilities decreased from 4.61% to 4.57%. These changes resulted in an increase from 3.73% to 3.87% in the net interest spread during the first half of 2001 versus the same period in 2000. 20 21 NET INTEREST INCOME (CONTINUED) Included in net interest income is $601 thousand and $786 thousand in the first and second quarters of 2001, respectively, of discount accretion on agency securities that were called during the periods. These securities were called by their issuers as a result of declining interest rates during the first half of 2001. The recurrence of this income in the future can not be assured since it depends on market interest rates and the desire of issuers to call securities purchased by AREA at a significant discount. The following two tables present the components of net income on a taxable equivalent basis for the three and six-month periods ended June 30, 2001 and 2000, respectively:

The following table summarizes the fully-taxable equivalent interest spread, which is the difference between the average yield on earning assets and the average rate on interest-bearing liabilities as well as the net interest margin, which is the fully-taxable equivalent net interest income divided by the average earning assets for the three and six-months ended June 30, 2001 and 2000. 21 22 NET INTEREST INCOME (CONTINUED)

(1) Amounts annualized On July 18, 2001, AREA completed a leveraging transaction to enhance net interest income. The leveraging was achieved by borrowing $200 million from the Federal Home Loan Bank and investing the funds primarily in fixed rate mortgage-backed securities issued by government sponsored enterprises. The earnings volatility was reduced by using 10-year convertible fixed strike rate advances with strike rates between 7% and 8% and an average cost of 5.06%. The spread on these assets over the cost of borrowed funds averaged 150 basis points. PROVISION FOR LOAN LOSSES The allowance for loan losses is maintained at a level management believes is adequate to absorb estimated losses inherent in the portfolio. Management determines the adequacy of the allowance based upon reviews of individual loans, evaluation of the risk characteristics of the loan portfolio, including the impact of current economic conditions on the borrowers' ability to repay, past collection and loss experience as well as other factors that in management's judgment deserve current recognition. However, actual losses could differ significantly from the amount estimated by management. The allowance for loan losses is established by charges to operating earnings. An analysis of the changes in the allowance for loan losses and selected ratios follows:

(1) Amounts annualized The provision for loan losses, charged to operating expenses, depends on factors including loan growth and changes in the composition of the loan portfolio, net charge-off levels and management's assessment of the allowance for loan losses based upon AREA's credit review policies and procedures. The provision for loan losses totaled $900 thousand during the quarter ended June 30, 2001 compared to $314 thousand during the same period last year. During the six months ended June 30, 2001, the provision for loan losses increased $1.16 million or 183.0% to $1.80 million from $636 thousand in the first six months of 2000. The increase in the provision for loan losses during both the current three-month and the year-to-date periods compared to the year earlier amounts was due mainly to a higher level of charge-offs as discussed below. 22 23 PROVISION FOR LOAN LOSSES (CONTINUED) The provision for loan losses as a percentage of average loans totaled 0.19% (annualized) during the quarter ended June 30, 2001 compared to 0.07% (annualized) for the second quarter of last year. For the six-month period ended June 30, 2001, the provision for loan losses as a percentage of average loans increased to 0.19% (annualized) from 0.07% (annualized) during the same period in 2000. Net charge-offs increased to $630 thousand in the second quarter of 2001 from $398 thousand during the same quarter of the prior year while increasing from $558 thousand in the first six months of 2000 to $2.00 million in the first half of 2001. The charge-offs for the both the second quarter and first half of 2001 involved all categories of loans. Only one of the charge-offs exceeded $400 thousand. Net loan charge-offs (loan charge-offs less recoveries) to average loans during the current quarter increased to 0.13% (annualized) from 0.08% (annualized) during the quarter ended June 30, 2000 largely as a result of an increase in loans charged-off from $651 thousand to $1.06 million in the current quarter. Recoveries totaled $434 thousand in the current quarter compared to $253 thousand in the second quarter of 2000. Net loan charge-offs increased to 0.21% (annualized) of average loans during the six months ended June 30, 2001 compared to 0.06% (annualized) in the same period in 2000. The allowance for loan losses was 1.42% of total loans on June 30, 2001, as compared to the December 31, 2000 and June 30, 2000 levels of 1.43%. NON-INTEREST INCOME The tables that follow set forth the components of non-interest income for the three and six-month periods ended June 30, 2001 and 2000. The amounts presented below for the three and six-month periods include adjustments for infrequently occurring non-interest income for comparability purposes.

23 24 NON-INTEREST INCOME (CONTINUED) Non-interest income totaled $7.67 million and $15.10 million for the three-and six-month periods ended June 30, 2001. These amounts represent decreases of $7.45 million or 49.3% and $15.40 million or 50.5%, respectively, when compared to 2000 period totals. Excluded in the following analysis is $4 thousand of security losses during the second quarter of 2001 and $7.40 million of security gains in the second quarter of 2000. For the year-to-date period there were no infrequent non-interest income items, however the first six months of 2000 had $15.60 million of security gains and $143 thousand of gains on the sale of premises and equipment. Excluding these items, recurring non-interest income decreased $54 thousand or 0.7% to $7.68 million from $7.73 million in the second quarter of 2000 and increased $346 thousand or 2.3% to $15.10 million from $14.75 million in the first six months of 2000. Commissions and fees on fiduciary activities increased $33 thousand or 2.2% to $1.54 million in the second quarter of 2001 and $259 thousand or 9.0% during the current six-month period compared to the same period last year largely as a result of successful new business development efforts. In both the current quarter and the year-to-date periods, the decrease in the equity markets reduced the growth in commissions and fees on fiduciary activities since these fees generally track the amount of assets under management. Service charges on deposit accounts increased $384 thousand or 11.9% to $3.60 million and $1.03 million or 17.1% to $7.03 million during the three and six-month ended June 30, 2001, respectively, when compared to similar period totals in 2000, due primarily to deposit growth in accounts subject to service charges and increases in fees charged. Other service charges, commissions and fees totaled $2.02 million and $3.87 million during the second quarter of 2001 and year-to-date periods ended June 30, 2001. These amounts represent decreases of $171 thousand or 7.8% and $260 thousand or 6.3% from the second quarter and year-to-date periods of 2000, respectively. The decreases during the current and year-to-date periods were largely the result of a decline in fees earned on the issuance of official checks partially off-set by an increase in brokerage commissions. Gains on the sales of loans increased $189 thousand or 125.2% to $340 thousand in the second quarter of 2001 compared to the same period in 2000 and increased $285 thousand or 104.4% to $558 thousand in the first half of the year compared to the same period in 2000. Gains on the sales of loans were favorably impacted during the second quarter and first six months of 2001 by lower interest rates and a strong refinancing market. Other income totaled $180 thousand during the three months ended June 30, 2001 compared to $669 thousand in the second quarter of 2000 and $525 thousand during the first half of 2001 versus $1.49 million in the same period of 2000. The current amounts represent decreases of $489 thousand or 73.1% and $966 thousand or 64.8% for the second quarter and year-to-date periods, respectively. The decreases during the current quarter and year-to-date periods were primarily the result of a reduction of income earned from the sale of call options related to AREA's equity investment portfolio. The amount earned on call options in the second quarter of 2000 was $310 thousand while the amount earned during the first half of 2000 was $713 thousand. AREA did not have any call options in place during 2001. Security transactions resulted in a loss of $4 thousand in the current quarter compared to a gain of $7.40 million in the same period of 2000 while losses off-set gains in the first six months of 2001 compared to $15.60 million of security gains during the same period 2000. The gains on the sale of securities during 2000 reflected Area's strategy to improve the performance of its investment portfolio through repositioning portions of the portfolio as market conditions changed. NON-INTEREST EXPENSES The tables that follow set forth the components of non-interest expense for the three and six-month periods ended June 30, 2001 and 2000. The amounts presented below for the three and six-month periods include adjustments for infrequently occurring non-interest expenses for comparability purposes. 24 25 NON-INTEREST EXPENSES (CONTINUED)

25 26 NON-INTEREST EXPENSES (CONTINUED) Non-interest expenses totaled $23.01 million and $46.29 million during the three and six-month periods ended June 30, 2001. These amounts represent decreases of $522 thousand or 2.2% in the current quarter compared to the same period in 2000 and an increase of $1.02 million or 2.3% for the first six months of 2001 compared to the first two quarters of 2000. Excluded in the following analysis is $382 thousand of merger and acquisition expenses during the six months ended June 30, 2000. Excluding this item, recurring non-interest expenses increased $1.41 million or 3.1% to $46.29 million in the first six months of 2001 compared to $44.88 million during the same period in 2000. Salaries and benefits declined $148 thousand or 1.5% to $9.98 million in the second quarter of 2001 while increasing $454 thousand or 2.3% during the current six-month period. The decline during the current quarter compared to the second quarter of 2000 was primarily the result of a reduction in positions related to the consolidation of the charters as discussed more fully in Note 10 of the accompanying unaudited consolidated financial statements. Net occupancy expenses increased $166 thousand or 11.0% to $1.68 million and $420 thousand or 14.6% to $3.30 million, respectively, for the three-and six-month periods ended June 30, 2001, when compared to similar period totals in 2000, due primarily to expenses related to the modernization of several facilities. Furniture and equipment expenses totaled $1.85 million and $3.72 million during the second quarter of 2001 and year-to-date periods ended June 30, 2001. The current quarter reflected an increase of $29 thousand or 1.6% while the year-to-date period increased $252 thousand or 7.3%. Data processing expenses totaled $1.07 million during the current quarter compared to $1.45 million in the same period in 2000 and totaled $2.18 million during the six months ended June 30, 2001 versus $2.95 million during the first half of 2000. The decreases, $378 thousand or 26.1% and $770 thousand or 26.1% for the quarter and year-to-date periods, were the result of the consolidation of operations which enabled AREA to obtain volume discounts from its third party data service provider. Advertising and community relations expense increased $125 thousand or 13.0% to $1.08 million during the current quarter and $239 thousand or 14.0% to $1.95 million during the six months ended June 30, 2001 when compared to the same periods in 2000. An increase in expenses related to customer awareness of the consolidated bank was primarily responsible for the increases. Insurance and taxes totaled $1.33 million during the current quarter compared to $1.11 million during the same period in 2000 and totaled $2.63 million in the current six-month period versus to $2.16 million during the first half of 2000. The increases were $228 thousand or 20.6% and $477 thousand or 22.1% for the three-month and six-month periods ended June 30, 2001 compared to the similar periods in 2000. The increases were primarily the result of increased state and local taxes on Area's banks. Professional fees decreased $57 thousand or 3.8% and $556 thousand or 19.3% during the current quarter and year-to-date periods compared to similar periods in 2000. The decreases during both the current quarter and year-to-date periods were the result of reduced merger and acquisition activities. Other non-interest expenses totaled $2.71 million during the current quarter compared to $2.73 million for the same period in 2000 and totaled $5.94 million during the six months ended June 30, 2001 compared to $5.15 million in the same period in 2000. The current quarter reflected a decrease of $21 thousand or 0.8% while the year-to-date period increased of $792 thousand or 15.4%. The increase during the year-to-date period was largely the result of increases in postage, other real estate expenses and office supplies. INCOME TAX EXPENSE Income tax expense totaled $3.55 million and $6.70 million for the three-and six-month periods ended June 30, 2001 compared to $6.50 million and $12.90 million during the same periods in 2000. The reduced level of income tax expense for the current three-and six-month periods was the result a reduced level of pre-tax income caused primarily by a reduced level of security gains. The effective tax rates were 30.4% and 30.3% during the three-and six-month periods ended June 30, 2001 compared to 35.7% and 35.6% during the same periods of 2000. The effective tax rate differs from the marginal income tax rate of 35% in both 2001 and 2000 due primarily to the effects of tax exempt interest, goodwill amortization in both 2000 and 2001 and state taxes on security gains in 2000. The effective tax rates decreased during both the current quarter and year-to-date periods compared to the same periods in 2000 largely as a result of state taxes on security gains in 2000. 26 27 B. FINANCIAL POSITION Total assets decreased $54.83 million or 2.0% to $2.71 billion from December 31, 2000 and $19.72 million or 0.7% from June 30, 2000. Assets averaged $2.73 billion in the quarter ended June 30, 2001 compared to $2.72 billion during the same period in 2000. The growth in average assets from the quarter ended June 30, 2000 to the quarter ended June 30, 2001 was $5.62 million or 0.2%. Earning assets totaled $2.49 billion on June 30, 2001 and reflected a decrease of $10.97 million or 0.4% over December 31, 2000 earning assets which totaled $2.50 billion. Earning assets were unchanged from June 30, 2000 to June 30, 2001. During the twelve months ended June 30, 2001 there was a slight shift the composition of earning assets with investments decreasing $15.93 million while loans including loans held for sale grew $15.81 million. Earning assets averaged $2.53 billion in the current quarter compared to $2.52 billion in the same period in 2000. SHORT-TERM INVESTMENTS AND SECURITIES Short-term investments, which include interest-bearing deposits with banks and federal funds sold, totaled $4.94 million on June 30, 2001, as compared to $5.99 million at year-end and $4.95 million on June 30, 2000. Securities represented 21.5% of earning assets on June 30, 2001 and totaled $535.23 million, a decrease of $14.61 million or 2.7% from $549.85 million on December 31, 2000. The securities portfolio decreased $15.93 million or 2.9% from June 30, 2000. The decrease for both the quarter and year-to-date periods were largely the result of securities being called. The held-to-maturity and available-for-sale portfolios as of June 30, 2001 consisted of 13.4% in U.S. and other government agency securities, 43.2% in mortgage-backed securities, 36.3% in state and municipal securities and 7.1% in equity and other securities. The comparable distributions at December 31, 2000 were 25.0%, 35.3%, 33.0% and 6.7%, respectively. Note 5 to the accompanying unaudited consolidated financial statements provides additional details concerning AREA's investments. LOANS Loans, including loans held for sale, increased $4.70 million or 0.2% to $1.95 billion on June 30, 2001 from $1.94 billion on December 31, 2000. Loans, including loans held for sale, grew $15.81 million or 0.8% from June 30, 2000 to June 30, 2001. Loans, including loans held for sale, represent the largest category of earning assets, comprising 78.3% of earning assets as of June 30, 2001, 77.8% as of December 31, 2000 and 77.34% as of June 30, 2000. The following table presents the major categories of loans, net of unearned discount:

The changes in the balances of commercial and real estate loans from June 30, 2000 to June 30, 2001 were caused primarily by significant reclassifications between those two categories. The reclassifications were the result of AREA's consolidation of operations (see Note 10 in the accompanying unaudited consolidated financial statements). Commercial and real estate loans were reviewed and changes were made as necessary to reflect banking industry standard classifications used by the consolidated bank. 27 28 DEPOSITS Deposits totaled $2.10 billion on June 30, 2001, a decrease of $47.21 million or 2.2% from $2.15 billion on December 31, 2000. Non-interest-bearing deposits declined $38.08 million or 11.4% to $294.51 million from December 31, 2000. The decrease in non-interest-bearing deposits from year-end totals was partially the result of customers' desire to substitute their non-interest-bearing deposits for interest-bearing deposits plus the effects of corporate customers moving funds into checking accounts over year-end and reducing those balances early in the year. Interest-bearing deposits decreased $9.13 million or 0.5% from year-end balances. Average deposits increased $48.97 million or 2.3% to $2.15 billion during the quarter ended June 30, 2001 compared to the fourth quarter of 2000. Average non-interest-bearing deposits decreased $5.27 million or 1.8% to $293.96 million while average interest-bearing deposits increased $54.24 million or 3.0% to $1.86 billion from the fourth quarter of 2000 to the second quarter of 2001. The following table summarizes the composition of deposits:

BORROWED FUNDS AREA's primary source of funding for earning assets is customers' deposits; however, outside sources are also used. These outside sources include: federal funds purchased and securities sold under agreements to repurchase which include short-term borrowings from commercial customers as part of a cash management service, notes payable to the U.S. Treasury that are short-term borrowings in connection with treasury, tax and loan deposits, Federal Home Loan Bank advances which generally include intermediate-term borrowings by AREA's affiliate banks, and other borrowings. Borrowed funds decreased by $18.61 million or 6.2% to $282.97 million from $301.58 million on December 31, 2000. Borrowed funds decreased during the current quarter as a result of using funds obtained from securities that were called prior to maturity to retire primarily Federal Home Loan Bank advances. CAPITAL RESOURCES Shareholders' equity totaled $302.07 million at June 30, 2001, an increase of $15.43 million or 5.4% from $286.64 million on December 31, 2000. During the first half of 2001 shareholders' equity grew as a result of net income earned of $15.63 million and an increase totaling $2.03 million in accumulated other comprehensive income. As an off-set to the growth in shareholders' equity, dividends of $2.19 million were paid during the first six months of the year. The increase in accumulated other comprehensive income occurred primarily as a result of AREA's fixed income securities increasing in value due to interest rates declining since year-end 2000. The shareholders' equity-to-asset ratio was 11.13% at June 30, 2001 compared to 10.35% on December 31, 2000. Book value per share was $12.42, $11.79 and $11.06 on June 30, 2001, December 31, 2000 and June 30, 2000, respectively. During the first half of 2001, AREA paid cash dividends of $0.09 per share for a total of $2.19 million. 28 29 CAPITAL RESOURCES (CONTINUED) A summary of the regulatory capital ratios for AREA is shown below:

ASSET QUALITY Each of AREA's affiliated banks provides as an expense an amount for expected loan losses. This account is called the provision for loan losses and increases the allowance for loan losses. The allowance for loan losses is maintained at a level management believes is adequate to absorb estimated losses inherent in the loan portfolio, considering non-performing loans and overall economic conditions. Actual losses on loans are charged against the allowance for loan losses. At June 30, 2001, the allowance for loan losses was $27.44 million or 1.42% of period-end loans, as compared to $27.63 million or 1.43% of loans at December 31, 2000 and $27.46 million or 1.43% of June 30, 2000 loans outstanding. The ratio of the allowance for loan losses to non-performing assets was 308.5% as of June 30, 2001 compared with 356.2% at December 31, 2000 and 360.2% on June 30, 2000. Non-performing assets consist of non-accrual loans, loans past due ninety days or more that are still accruing interest, restructured loans, and other real estate owned. Non-performing assets totaled $8.89 million on June 30, 2001 compared to $7.76 million on December 31, 2000 and $7.62 million on June 30, 2000. The increase was $1.14 million since year-end and occurred primarily as a result of an increase from $1.76 million to $3.62 million in loans contractually past due 90 days or more as to interest or principal and still accruing. Currently, year-to-date net charge-offs (loan charge-offs less recoveries) are at 0.21% (annualized) of average year-to-date loans compared to 0.06% (annualized) during the same period in 2000. The following schedule details the dollar amount of non-performing assets at June 30, 2001, December 31, 2000 and June 30, 2000, represented by non-accrual loans, loans contractually past due ninety days or more as to interest or principal payments and still accruing and other real estate owned:

Included in non-accrual loans at June 30, 2001 is a $2.0 million loan related to a single commercial customer engaged in the transportation industry. This loan relationship was placed on non-accrual status effective June 30, 2001 and identified as impaired. Management is monitoring this situation and will make additional provisions for loan losses as considered necessary based on its existing policy. At this time AREA is unable to determine the timing, probability, or the amount of any loss which might result from the ultimate resolution of this loan relationship. Management, with accountability for the credit relationships, reviews selected credits to identify loans with increased risk or potential losses. In addition to this initial review, AREA's credit review function, its outside independent auditors, as well as its internal auditors and regulatory agencies supplement management's review. Further, the adequacy of the allowance for loan losses is monitored on a quarterly basis and is based on management's evaluation of several key factors, including the quality of the current portfolio, current national and local economic conditions, concentrations in loan types, evaluation of problem loans, and a review of historical charge-off and recovery experience. The allocation of the allowance for loan losses is an estimate of the portion which will be used to cover future charge-offs in each loan category, but does not preclude any portion of the allowance allocated to one type of loan from being used to absorb losses of another loan type. This allocation is determined by the estimated loss within each loan pool as well as any specific allocations that may be assigned to specific loans within the same portfolio section with the remainder being assigned to the unallocated category. 29 30 ASSET QUALITY (CONTINUED) A continuous and comprehensive loan review program is maintained by AREA. The purpose of this program is to provide periodic review and inspection of loans to ensure the safety, liquidity and profitability of the loan portfolio. AREA's credit review department is entrusted with the responsibility to identify foreseeable problems, measure compliance with established loan and operating policies and provide objective loan portfolio appraisals to the Board of Directors and management. Management believes that the allowance for loan losses, including amounts specifically allocated for non-accrual loans and non-performing loans is adequate in relation to probable losses inherent in the loan portfolio as of June 30, 2001. C. LIQUIDITY The purpose of liquidity management is to match the sources of funds with anticipated customer borrowings as well as withdrawals and other obligations. This is accomplished by balancing changes in demand for funds with changes in the supply of funds. Liquidity to meet demand is provided by maturing assets, the ability to attract deposits and borrowings from third parties such as the Federal Home Loan Bank. Deposits have historically provided AREA with a major source of stable and relatively low-cost funding. Secondary sources of liquidity include federal funds purchased, securities sold under agreements to repurchase, notes payable to the U.S. Treasury, advances from the Federal Home Loan Bank and other borrowings. As of June 30, 2001, 77.5% of total assets were funded by core deposits while 10.4% were funded with secondary sources of liquidity discussed above, compared to 77.6% and 10.9%, respectively, as of December 31, 2000. The percentage of assets funded by core deposits increased during the quarter as a result of an increase in deposits and a corresponding decrease in total assets. The net loan-to-deposit ratio increased from 88.8% on December 31, 2000 to 90.5% on June 30, 2001. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In July 2001, the FASB issued SFAS No. 141, Business Combinations, and SFAS No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 requires that the purchase method of accounting be used for all business combinations initiated after June 30, 2001 as well as all purchase method business combinations completed after June 30, 2001. SFAS No. 141 also specifies criteria intangible assets acquired in a purchase method business combination must meet to be recognized and reported apart from goodwill, noting that any purchase price allocable to an assembled workforce may not be accounted for separately. SFAS No. 142 will require that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 will also require that intangible assets with definite useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of. The provisions of SFAS No. 141 are required to be adopted immediately and SFAS No. 142 will be effective January 1, 2002. Furthermore, any goodwill and any intangible assets determined to have an indefinite useful life that are acquired in a purchase business combination completed after June 30, 2001 will not be amortized, but will continue to be evaluated for impairment in accordance with the appropriate pre-SFAS No. 142 accounting literature. Goodwill and intangible assets acquired in business combinations completed before July 1, 2001 will continue to be amortized prior to the adoption of SFAS No. 142. 30 31 RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS (CONTINUED) SFAS No. 141 will require upon adoption of SFAS No. 142, that AREA evaluate its existing intangible assets and goodwill that were acquired in prior purchase business combinations, and that AREA make any necessary reclassifications in order to conform with the new criteria in SFAS No. 141 for recognition apart from goodwill. Upon adoption of SFAS No. 142, AREA will be required to reassess the useful lives and residual values of all intangible assets acquired in purchase business combinations, and make any necessary amortization period adjustments by the end of the first interim period after adoption. In addition, to the extent an intangible asset is identified as having an indefinite useful life, a test will be required to be made of the intangible asset for impairment in accordance with the provisions of SFAS No. 142 within the first interim period. Any impairment loss will be measured as of the date of adoption and recognized as the cumulative effect of a change in accounting principle in the first interim period. In connection with the transitional goodwill impairment evaluation, SFAS No. 142 will require an assessment of whether there is an indication that goodwill is impaired as of the date of adoption. This will be accomplished through the identification of reporting units and determination of the carrying value of each reporting unit by assigning the assets and liabilities, including the existing goodwill and intangible assets, to those reporting units as of the date of adoption. AREA will have up to six months from the date of adoption to determine the fair value of each reporting unit and compare it to the reporting unit's carrying amount. To the extent a reporting unit's carrying amount exceeds its fair value, an indication exists that the reporting unit's goodwill may be impaired and then the second step of the transitional impairment test must be performed. (In the second step, the implied fair value must be compared to the reporting unit's goodwill, determined by allocating the reporting unit's fair value to all of it assets (recognized and unrecognized) and liabilities in a manner similar to a purchase price allocation in accordance with SFAS No. 141, to the carrying amount, both of which would be measured as of the date of adoption.) This second step is required to be completed as soon as possible, but no later than the end of the year of adoption. Any transitional impairment loss will be recognized as the cumulative effect of a change in accounting principle in the statement of earnings. As of the date of adoption of SFAS No. 142, AREA expects to have unamortized goodwill in the amount of $48.98 million and unamortized identifiable intangible assets in the amount of $5.70 million, all of which will be subject to the transition provisions of SFAS No. 141 and SFAS No. 142. Pre-tax amortization expense related to goodwill was $4.44 million and $2.27 million for the year ended December 31, 2000 and the six months ended June 30, 2001, respectively. Because of the extensive effort needed to comply with adopting SFAS No. 141 and SFAS No. 142, it is not practicable to reasonably estimate whether any transitional impairment losses will be required to be recognized as the cumulative effect of a change in accounting principle. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK For financial institutions, interest rate movements can have a critical impact on net interest income, and hence net income. The primary objective of interest rate risk management is to control and monitor the effects of those fluctuations and their impact on net income. Management considers interest rate risk to be the most significant market risk. Management views computer simulations as a more relevant measurement of the impact of changes in interest rates on net interest income, and hence net income, than other techniques that use interest rate sensitivity gap analysis. AREA uses a net income simulation model to measure near-term (next 12 months) risk due to changes in interest rates. The model incorporates substantially all of AREA's assets and liabilities, together with forecasted changes in the balance sheet mix and assumptions that reflect the current interest rate environment. Balance sheet changes are based on forecasted changes in loans, securities and deposits as well as historical pricing spreads. The model is updated at least quarterly with the current balance sheet structure and the current forecast of expected balance sheet changes. These assumptions are inherently uncertain and, as a result, the model cannot precisely measure net income or exactly predict the impact of fluctuations in interest rates on net interest income. Actual results will differ from simulated results due to timing and amount of interest rate changes as well as changes in market conditions and management strategies. Management uses the model to simulate the effect of immediate and sustained parallel shifts upward and downward in the yield curve of 100 basis points (1.00%) and 200 basis points (2.00%). 31 32 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK (CONTINUED) AREA's interest rate risk management focuses on maintaining consistent growth in net interest income within Board-approved policy limits. AREA's management monitors and manages interest rate risk to maintain an acceptable level of change to net interest income as a result of changes in interest rates. The following table illustrates the simulation analysis, using the methodology described above, of the impact of a 100 and 200 basis point upward and downward movement in interest rates on net income and earnings per share. INTEREST RATE SIMULATION SENSITIVITY ANALYSIS

Given an immediate and sustained parallel shift upward of 200 basis points to the yield curve used in the simulation model, it is estimated that net income for AREA would increase by $4.47 million over the next year. Estimated diluted earnings per share would increase by $0.18 over the same period. A 200 basis point immediate and sustained parallel shift downward in the yield curve would decrease net income by an estimated $7.38 million over the next year while decreasing diluted earnings per share $0.30. All of the above changes in net income are within the policy guidelines established by the Board of Directors. In order to assist in reducing the exposure to interest rate fluctuations and manage liquidity, AREA sells virtually all long-term fixed-rate, single-family residential mortgages that are originated. These loans are underwritten according to Federal Home Loan Mortgage Corporation or Fannie Mae guidelines and are sold upon origination. In addition to the use of core deposits, which fund the primary portion of earning assets, AREA's affiliate banks borrow from the Federal Home Loan Bank to provide funds within time frames that are not available or are only available at higher costs through retail sources. Finally, management continually evaluates other interest rate risk management opportunities, including the use of derivative financial instruments. PART II. OTHER INFORMATION Item 1. Legal Proceedings Not applicable. Item 2. Changes in Securities Not applicable Item 3. Defaults Upon Senior Securities Not applicable. 32 33 Item 4. Submission of Matters to a Vote of Security Holders The Annual Meeting of Shareholders was held on May 21, 2001. Total shares that were eligible to vote were 24,306,571. The matters that were voted upon included the following: PROPOSAL ONE: ELECTION OF DIRECTORS

PROPOSAL TWO: RATIFICATION OF KPMG AS CORPORATE AUDITORS FOR THE 2001

Pursuant to Rule 14a-4(c)(1) promulgated under to Securities Exchange Act of 1934, as amended, shareholders desiring to present a proposal for consideration at the 2002 Annual Meeting of Shareholders must notify AREA in writing at its principal office at P.O. Box 786, Owensboro, Kentucky 42302-0786 of the contents of such proposal no later than November 1, 2001. Failure to timely submit such a proposal will enable the proxies appointed by management to exercise their discretionary voting authority when the proposal is raised at the Annual Meeting of Shareholders without any discussion of the matter in the proxy statement. Item 5. Other Information Not applicable. Item 6. Exhibits and Reports on Form 8-K

33 34 Item 6. Exhibits and Reports on Form 8-K (continued)

34 35 Item 6. Exhibits and Reports on Form 8-K (continued)

*The indicated exhibit is a compensatory plan or arrangement. (b) One report on Form 8-K dated June 14, 2001 was filed with the United States Securities and Exchange Commission during the quarter ended June 30, 2001 and reported the following under "Item 5 - Other Events": On May 14, 2001, AREA Bancshares Corporation filed its Form 10-Q for the quarter ended March 31, 2001 with the Securities and Exchange Commission. Note 8, "Intangibles" contains a discussion of intangibles and the amortization of those intangibles. AREA Bancshares is providing additional information with respect to the estimated amortization of goodwill for the calendar year 2001. Amortization of goodwill, assuming a full-year, would be $4,548,000 during 2001. 35 36 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. AREA BANCSHARES CORPORATION Date: August 14, 2001 By: /s/ Thomas R. Brumley --------------- ---------------------------------------- Thomas R. Brumley President and Chief Executive Officer (Principal Executive Officer) Date: August 14, 2001 By: /s/ Edward J. Vega --------------- ---------------------------------------- Edward J. Vega Senior Vice President-Chief Financial Officer (Principal Financial Officer) Date: August 14, 2001 By: /s/ Gary R. White --------------- ---------------------------------------- Gary R. White Vice President, Controller (Principal Accounting Officer) 36

AREA BANCSHARES CORP 10-Q