SEC Filing | Lake City Bank

UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the fiscal year ended December 31, 1998 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the transition period from _____________ to ____________________ Commission File No. 0-11487 LAKELAND FINANCIAL CORPORATION ------------------------------ (exact name of Registrant as specified in its charter) INDIANA 35-1559596 ------- ---------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 202 East Center Street, P.O. Box 1387, Warsaw, Indiana 46581-1387 - ------------------------------------------------------ ---------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code 1-219-267-6144 Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered - ------------------- ----------------------------------------- Common The Nasdaq Stock Market's National Market Preferred Securities of Lakeland Capital Trust The Nasdaq Stock Market's National Market Securities registered pursuant to Section 12(g) of the Act: None 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 other 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 by check mark if disclosure of delinquent filers pursuant to Item 405 of regulation S-K is not contained herein and will not be contained, to the best of the Registrant's knowledge, in definitive Proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.[ X ] Aggregate market value of the voting stock held by non-affiliates of the Registrant, computed solely for the purposes of this requirement on the basis of the Nasdaq closing value at February 28, 1999, and assuming solely for the purposes of this calculation that all directors and executive officers of the Registrant are "affiliates": $97,180,974. Number of shares of common stock outstanding at February 5, 1999: 5,794,743 Cover page 1 of 2 pages

DOCUMENTS INCORPORATED BY REFERENCE ----------------------------------- Portions of the following documents are incorporated by reference in the Parts of the 10-K indicated: Part Document ---- -------- I, II & IV Lakeland Financial Corporation's Annual Report to Shareholders for the year ended December 31, 1998, portions of which are incorporated into Parts I, II and IV of this Form 10-K. III Proxy statement mailed to shareholders on March 15, 1999, which is incorporated into Part III of this Form 10-K. Cover page 2 of 2 pages

PART I. ITEM 1. BUSINESS - ---------------- The Registrant was incorporated under the laws of the State of Indiana on February 8, 1983. As used herein, the terms "Registrant" and "Company" refer to Lakeland Financial Corporation, or if the context dictates, the Lakeland Financial Corporation and its wholly-owned subsidiaries, Lake City Bank, Warsaw, Indiana, and Lakeland Capital Trust, Warsaw, Indiana. General - ------- Registrant's Business. The Company is a bank holding company as defined in the Bank Holding Company Act of 1956, as amended. The Company owns all of the outstanding stock of Lake City Bank, Warsaw, Indiana, a full service commercial bank organized under Indiana law (the "Bank"), and Lakeland Capital Trust, a statutory business trust formed under Delaware law ("Lakeland Trust"). The Company conducts no business except that incident to its ownership of the outstanding stock of the Bank and the operation of the Bank. The Bank's deposits are insured by the Federal Deposit Insurance Corporation. The Bank's activities cover all phases of commercial banking, including checking accounts, savings accounts, time deposits, the sale of securities under agreements to repurchase, discount brokerage services, commercial and agricultural lending, direct and indirect consumer lending, real estate mortgage lending, safe deposit box service and trust services. The Bank's main banking office is located at 202 East Center Street, Warsaw, Indiana. As of December 31, 1998, the Bank had 42 offices in fourteen counties throughout north central Indiana. Supervision and Regulation. --------------------------- General Financial institutions and their holding companies are extensively regulated under federal and state law. As a result, the growth and earnings performance of the Company can be affected not only by management decisions and general economic conditions, but also by the requirements of applicable state and federal statutes and regulations and the policies of various governmental regulatory authorities, including the Board of Governors of the Federal Reserve System (the "Federal Reserve"), the Federal Deposit Insurance Corporation (the "FDIC"), the Indiana Department of Financial Institutions (the "DFI"), the Internal Revenue Service and state taxing authorities and the Securities and Exchange Commission (the "SEC"). The effect of applicable statutes, regulations and regulatory policies can be significant, and cannot be predicted with a high degree of certainty. Federal and state laws and regulations generally applicable to financial institutions, such as the Company and its subsidiaries, regulate, among other things, the scope of business, investments, non-interest earning reserves against certain deposit accounts, capital levels relative to operations, the nature and amount of collateral for loans, the establishment of branches, mergers, consolidations and dividends. The system of supervision and regulation applicable to the Company and its subsidiaries establishes a comprehensive framework for their respective operations and is intended primarily for the protection of the FDIC's deposit insurance funds and the depositors, rather than shareholders, of financial institutions. The following is a summary of the material elements of the regulatory framework that applies to the Company and its subsidiaries. It does not describe all of the statutes, regulations and regulatory policies that apply to the Company and its subsidiaries, nor does it restate all of the -1-

requirements of the statutes, regulations and regulatory policies that are described. As such, the following is qualified in its entirety by reference to the applicable statutes, regulations and regulatory policies. Any change in applicable law, regulations or regulatory policies may have a material impact on the business of the Company and its subsidiaries. Recent Regulatory developments Pending Legislation. Legislation has been introduced in the Congress that would allow bank holding companies to engage in a wider range of nonbanking activities, including greater authority to engage in securities and insurance activities. The expanded powers generally would be available to a bank holding company only if the bank holding company and its subsidiaries remain well- capitalized and well-managed. At this time, the Company is unable to predict whether the proposed legislation will be enacted and, therefore, is unable to predict the impact such legislation may have on the Company or the Bank. The Company General. The Company, as the sole shareholder of the Bank, is a bank holding company. As a bank holding company, the Company is registered with, and is subject to regulation by, the Federal Reserve under the Bank Holding Company Act, as amended (the"BHCA"). In accordance with Federal Reserve policy, the Company is expected to act as a source of financial strength to the Bank and to commit resources to support the Bank in circumstances where the Company might not otherwise do so. Under the BHCA, the Company is subject to periodic examination by the Federal Reserve. The Company is also required to file with the Federal Reserve periodic reports of the Company's operations and such additional information regarding the Company and its subsidiaries as the Federal Reserve may require. The Company is also subject to regulation by the DFI under Indiana law. Investments and Activities. Under the BHCA, a bank holding company must obtain Federal Reserve approval before: (i) acquiring, directly or indirectly, ownership or control of any voting shares of another bank or bank holding company if, after the acquisition, it would own or control more than 5% of the shares of the other bank or bank holding company (unless it already owns or controls the majority of such shares); (ii) acquiring all or substantially all of the assets of another bank; or (iii) merging or consolidating with another bank holding company. Subject to certain conditions (including certain deposit concentration limits established by the BHCA), the Federal Reserve may allow a bank holding company to acquire banks located in any state in the United States without regard to whether the acquisition is prohibited by the law of the state in which the target bank is located. In approving interstate acquisitions, however, the Federal Reserve is required to give effect to applicable state law limitations on the aggregate amount of deposits that may be held by the acquiring bank holding company and its insured depository institution affiliates in the state in which the target bank is located (provided those limits do not discriminate against out-of-state depository institutions or their holding companies) and state laws which require that the target bank has been in existence for a minimum period of time (not to exceed five years) before being acquired by an out-of-state bank holding company. The BHCA also generally prohibits the Company from acquiring direct or indirect ownership or control of more than 5% of the voting shares of any company which is not a bank and from engaging in any business other than that of banking, managing and controlling banks or furnishing services to banks and their subsidiaries. This general prohibition is subject to a number of exceptions. The principal exception allows bank holding companies to engage in, and to own shares of companies engaged in, certain businesses found by the Federal Reserve to be "so closely related to banking ... as to be a proper incident thereto." Under current regulations of the Federal Reserve, the Company and its non-bank subsidiaries are permitted to engage in a variety of banking-related businesses, including the operations of a thrift, sales and -2-

consumer finance, equipment leasing, the operation of a computer service bureau (including software development), mortgage banking and brokerage. The BHCA generally does not place territorial restrictions on the domestic activities of non-bank subsidiaries of bank holding companies. Federal law also prohibits any person or company from acquiring "control" of a bank or a bank holding company without prior notice to the appropriate federal bank regulator. "Control" is defined in certain cases as the acquisition of 10% of the outstanding shares of a bank or a bank holding company. Capital Requirement. Bank holding companies are required to maintain minimum levels of capital in accordance with Federal Reserve capital adequacy guidelines. If capital falls below minimum guideline levels, a bank holding company, among other things, may be denied approval to acquire or establish additional banks or non-bank businesses. The Federal Reserve's capital guidelines establish the following minimum regulatory capital requirements for bank holding companies: a risk-based requirement expressed as a percentage of total risk-weighted assets, and a leverage requirement expressed as a percentage of total assets. The risk-based requirement consists of a minimum ratio of total capital to total risk-weighted assets of 8%, at least one-half of which must be Tier I capital. The leverage requirement consists of a minimum ratio of Tier I capital to total assets of 3% for the most highly rated companies, with a minimum requirement of 4% for all others. For purposes of these capital standards, Tier I capital consists primarily of permanent stockholders' equity less intangible assets (other than certain mortgage servicing rights and purchased credit card relationships). Total capital consists primarily of Tier I capital plus certain other debt and equity instruments which do not qualify as Tier I capital and a portion of the company's allowance for loan and lease losses. The risk-based and leverage standards described above are minimum requirements. Higher capital levels will be required if warranted by the particular circumstances or risk profiles of individual banking organizations. For example, the Federal Reserve's capital guidelines contemplate that additional capital may be required to take adequate account of, among other things, interest rate risk, or the risks posed by concentrations of credit, nontraditional activities or securities trading activities. Further, any banking organization experiencing or anticipating significant growth would be expected to maintain capital ratios, including tangible capital positions (i.e., Tier I capital less all intangible assets), well above the minimum levels. Under the Federal Reserve's guidelines, the capital standards described above apply on a consolidated basis to bank holding companies that have more than $150 million in total consolidated assets, but generally apply on a bank-only basis to bank holding companies that have less than $150 million in total assets. As of December 31, 1998, the Company had regulatory capital, calculated on a consolidated basis, in excess of the Federal Reserve's minimum requirements, with a risk based ratio of 10.83% and a leverage ratio of 6.39%. Dividends. The Federal Reserve has issued a policy statement with regard to the payment of cash dividends by bank holding companies. This policy statement provides that a bank holding company should not pay cash dividends which exceed its net income or which can be only funded in ways that weaken the bank holding company's financial health, such as by borrowing. The Federal Reserve also possesses enforcement powers over bank holding companies and their non-bank subsidiaries to prevent or remedy actions that represent unsafe or unsound practices or violations of applicable statutes or regulations. Among these powers is the ability to proscribe the payment of dividends by banks and bank holding companies. Federal Securities Regulation. The Company's common stock is registered with the SEC under the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Consequently, the Company is subject to the information, proxy solicitation, insider trading -3-

and other restrictions and requirements of the SEC under the Exchange Act. The Bank General. The Bank is an Indiana-chartered bank, the deposits of which are insured by the FDIC's Bank Insurance Fund ("BIF"). As a BIF insured, Indiana- chartered bank, the Bank is subject to the examination, supervision, reporting and enforcement requirements of the DFI, as the chartering authority for Indiana banks, and the FDIC, as administrator of the BIF. Deposit Insurance. As an FDIC-insured institution, the Bank is required to pay deposit insurance premium assessments to the FDIC. The FDIC has adopted a risk-based assessment system under which all insured depository institutions are placed into one of nine categories and assessed insurance premiums based upon their respective levels of capital and results of supervisory evaluations. Institutions classified as well-capitalized (as defined by the FDIC) and considered healthy pay the lowest premium while institutions that are less than adequately capitalized (as defined by the FDIC) and considered of substantial supervisory concern pay the highest premium. Risk classification of all insured institutions is made by the FDIC for each semi-annual assessment period. During the year ended December 31, 1998, BIF assessments ranged from 0% of deposits to 0.27% of deposits. For the semi-annual assessment period beginning January 1, 1999, BIF assessments will continue to range from 0% of deposits to 0.27% of deposits. The FDIC may terminate the deposit insurance on any insured depository institution if the FDIC determines, after a hearing, that the institution (i) has engaged or is engaging in unsafe or unsound practices, (ii) is in an unsafe or unsound condition to continue operations or (iii) has violated any applicable law, regulation, order, or any condition imposed in writing by, or written agreement with, the FDIC. The FDIC may also suspend deposit insurance temporarily during the hearing process for a permanent termination of insurance if the institution has no tangible capital. Management of the Company is not aware of any activity or condition that could result in termination of the deposit insurance of the Bank. FICO Assessment. Since 1987, a portion of the deposit insurance assessments paid by members of the FDIC's Savings Association Insurance Fund ("SAIF") has been used to cover interest payments due on the outstanding obligations of the Financing Corporation ("FICO"). FICO was created in 1987 to finance the recapitalization of the Federal Savings and Loan Insurance Corporation, the SAIF's predecessor insurance fund. As a result of federal legislation enacted in 1996, beginning as of January 1, 1997, both SAIF and BIF members became subject to assessments to cover interest payments on outstanding FICO obligations. These FICO assessments are in addition to the amounts assessed by the FDIC for deposit insurance. Until January 1, 2000, the FICO assessments made against BIF members may not exceed 20% of the amount of the FICO assessments made against SAIF members. Between January 1, 2000, and the final maturity on the FICO obligations in 2019, BIF members and SAIF members will share the cost of the interest on the FICO bonds on a pro rata basis. During the year ended December 31, 1998, the FICO assessment rate for SAIF members ranges between approximately 0.061% of deposits and approximately 0.063% of deposits, while the FICO assessment rate for BIF members ranged from approximately 0.012% of deposits and approximately 0.013% of deposits. During the year ended December 31, 1998, the Bank paid FICO assessments totaling approximately $79,000. Supervisory Assessments. All Indiana banks are required to pay supervisory assessments to the DFI to fund the operations of the DFI. During the year ended December 31, 1998, the Bank paid supervisory assessments to the DFI totaling approximately $58,000. Capital Requirements. The FDIC has established the following minimum -4-

capital standards for state-chartered non-member banks, such as the Bank: a leverage requirement consisting of a minimum ratio of Tier I capital to total assets of 3% for the most highly rated banks with a minimum requirement of at least 4% for all others, and a risk-based capital requirement consisting of a minimum ratio of total capital to risk-weighted assets of 8%, at least one-half of which must be Tier I capital. For purposes of these capital standards, Tier I capital and total capital consist of substantially the same components as Tier I capital and total capital under the Federal Reserve's capital guidelines for bank holding companies (see "The Company -- Capital Requirements"). The capital requirements described above are minimum requirements. Higher capital levels will be required if warranted by the particular circumstances or risk profiles of individual institutions. For example, the regulations of the FDIC provide that additional capital may be required to take account of, among other things, interest rate risk or the risks posed by concentrations of credit, nontraditional activities or securities trading activities. During the year ended December 31, 1998, the Bank was not required by the FDIC to increase its capital to an amount in excess of the minimum regulatory requirement. As of December 31, 1998, the Bank exceeded its minimum regulatory capital requirements with a leverage ratio of 6.55% and a risk-based capital ratio of 10.71%. Federal law provides the federal banking regulators with broad powers to take prompt corrective actions to resolve the problems of undercapitalized institutions. The extent of the regulators' powers depends on whether the institution in question is "well-capitalized", "adequately-capitalized", "undercapitalized", "significantly undercapitalized" or "critically undercapitalized", in each case as defined by regulation. Depending upon the capital category to which an institution is assigned, the regulators' corrective powers include: requiring the institution to submit a capital restoration plan; limiting the institution's asset growth and restricting its activities; requiring the institution to issue additional capital stock (including additional voting stock) or to be acquired; restricting transactions between the institution and its affiliates; restricting the interest rate the institution may pay on deposits; ordering a new election of directors of the institution; requiring that senior executive officers or directors be dismissed; prohibiting the institution from accepting deposits from correspondent banks; requiring the institution to divest certain subsidiaries; prohibiting the payment of principal or interest on subordinated debt; and ultimately, appointing a receiver for the institution. As of December 31, 1998, the Bank was "well-capitalized". Dividends. Indiana law prohibits the Bank from paying dividends in an amount greater than its undivided profits. The Bank is required to obtain the approval of the DFI for the payment of any dividend if the aggregate amount of all dividends paid by the Bank during the calendar year, including the proposed dividend, would exceed the sum of: (i) the total net profits of the Bank for that year; and (ii) the retained profits of the Bank for the previous two years. Indiana law defines "net profits" to mean the sum of all earnings from current operations plus actual recoveries on loans, investments and other assets, less the sum of all current operating expenses, actual losses, accrued dividends on preferred stock, if any, and all federal, state, and local taxes. The payment of dividends by any financial institution or its holding company is affected by the requirement to maintain adequate capital pursuant to applicable capital adequacy guidelines and regulations, and a financial institution generally is prohibited from paying dividends if, following payment thereof, the institution would be undercapitalized. As described above, the Bank exceeded its minimum capital requirements under applicable guidelines as of December 31, 1998. As of December 31, 1998, approximately $17 million was available to be paid as dividends to the Company by the Bank. Notwithstanding the availablitiy of funds for dividends, however, the FDIC may prohibit the payments of dividends by the Bank if the FDIC determines such payment would constitute an unsafe or unsound practice. -5-

Insider Transactions. The Bank is subject to certain restrictions imposed by federal law on extensions of credit to the Company and its subsidiaries, on investments in the stock or other securities of the Company and its subsidiaries and the acceptance of the stock or other securities of the Company or its subsidiaries as collateral for loans. Certain limitations and reporting requirements are also placed on extensions of credit by the Bank to its directors and officers, to directors and officers of the Company and its subsidiaries, to principal stockholders of the Company and to "related interests" of such directors, officers and principal stockholders. In addition, federal law and regulations may affect the terms upon which any person becoming a director or officer of the Company or one of its subsidiaries or a principal stockholder of the Company may obtain credit from banks with which the Bank maintains a correspondent relationship. Safety and Soundness Standards. The federal banking agencies have adopted guidelines which establish operational and managerial standards to promote the safety and soundness of federally insured depository institutions. The guidelines set forth standards for internal controls, information systems, internal audit systems, loan documentation, credit underwriting, interest rate exposure, asset growth, compensation, fees and benefits, asset quality and earnings. In addition, in October, 1998, the federal banking regulators issued safety and soundness standards for achieving Year 2000 compliance, including standards for developing and managing Year 2000 project plans, testing remediation efforts and planning for contingencies. In general, the safety and soundness guidelines prescribe the goals to be achieved in each area, and each institution is responsible for establishing its own procedure to achieve those goals. If an institution fails to comply with any of the standards set forth in the guidelines, the institution's primary federal regulator may require the institution to submit a plan for achieving and maintaining compliance. If an institution fails to submit an acceptable compliance plan, or fails in any material respect to implement a compliance plan that has been accepted by its primary federal regulator, the regulator is required to issue an order directing the institution to cure the deficiency. Until the deficiency cited in the regulator's order is cured, the regulator may restrict the institution's rate of growth, require the institution to increase its capital, restrict the rate the institution pays on its deposits or require the institution to take any action the regulator deems appropriate under the circumstances. Noncompliance with the standards established by the safety and soundness guidelines may also constitute grounds for other enforcement action by the federal banking regulators, including cease and desist orders and civil money penalty assessments. Branching Authority. Indiana banks, such as the Bank, have the authority under Indiana law to establish branches anywhere in the State of Indiana, subject to receipt of all regulatory approvals. Under the Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (the"Riegle-Neal Act"), both state and national banks are allowed to establish interstate branch networks through acquisitions of other banks, subject to certain conditions, including certain limitations on the aggregate amount of deposits that may be held by the surviving bank and all of its insured depository institution affiliates. The establishment of new interstate branches or the acquisition of individual branches of a bank in another state (rather than the acquisition of an out-of-state bank in its entirety) is allowed by the Riegle-Neal Act only if specifically authorized by state law. The legislation allowed individual states to "opt-out" of certain provisions of the Riegle-Neal Act by enacting appropriate legislation prior to June 1, 1997. Indiana has enacted legislation permitting interstate mergers subject to certain conditions, including a prohibition against interstate mergers involving Indiana banks that have been in existence and continuous operation for fewer than five years. Additionally, Indiana law allows out-of-state banks to acquire individual branch offices in Indiana and to establish new branches in Indiana subject to certain conditions, including a requirement that the laws of the state in which the out-of-state bank is headquartered grant Indiana banks authority to acquire and establish branches in such state. -6-

State Bank Activities. Under federal law and FDIC regulations, FDIC insured state banks are prohibited, subject to certain exceptions, from making or retaining equity investments of a type, or in an amount, that are not permissible for a national bank. Federal law and FDIC regulations also prohibit FDIC insured state banks and their subsidiaries, subject to certain exceptions, from engaging as principal in any activity that is not permitted for a national bank or its subsidiary, respectively, unless the bank meets, and continues to meet, its minimum regulatory capital requirements, and that the FDIC determines the activity would not pose a significant risk to the deposit insurance fund of which the bank is a member. These restrictions have not had, and are not currently expected to have, a material impact on the operations of the Bank Federal Reserve System. Federal Reserve regulations, as presently in effect, require depository institutions to maintain non-interest earning reserves against their transaction accounts (primarily NOW and regular checking accounts) as follows: for transaction accounts aggregating $46.5 million or less, the reserve requirement is 3% of total transaction accounts; and for transaction accounts aggregating in excess of $46.5 million, the reserve requirement is $1.395 million plus 10% of the aggregate amount of total transaction accounts in excess of $46.5 million. The first $4.9 million of otherwise reservable balances are exempted from the reserve requirements. These reserve requirements are subject to annual adjustment by the Federal Reserve. The Bank is in compliance with the foregoing requirements. Forward-looking Statements - -------------------------- Statements contained in this Report and in future filings by the Company with the Securities and Exchange Commission, in the Company's press releases and in oral statements made with the approval of an authorized executive officer which are not historical or current facts are "forward-looking statements" made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 (Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended). There can be no assurance, in light of certain risks and uncertainties, that such forward-looking statements will in fact transpire. The following important factors, risks and uncertainties, among others, could cause actual results to differ materially from such forward-looking statements: Credit risk: Approximately 64.4% and 59.5% of the Company's loans at December 31, 1998 and December 31, 1997, were commercial in nature (including agri-business and agricultural loans), and, as of both December 31, 1998 and December 31, 1997, the Company estimates that in excess of 90% of its commercial, industrial, agri-business and agricultural real estate mortgage loans, real estate construction mortgage and consumer loans are made within the Bank's basic trade area. Changes in local and national economic conditions could adversely affect credit quality in the Company's loan portfolio. Interest rate risk: Although the Company actively manages its interest rate sensitivity, such management is not an exact science. Rapid increases or decreases in interest rates could adversely impact the Company's net interest margin if changes in its cost of funds do not correspond to the changes in income yields. Competition: The Company's activities involve competition with other banks as well as other financial institutions and enterprises. Also, the financial service markets have, and likely will continue to, experience substantial changes which could significantly change the Company's competitive environment in the future. Legislative and regulatory environment: The Company operates in a rapidly changing legislative and regulatory environment. It cannot be predicted how or to what extent future developments in these areas will affect the -7-

Company. These developments could negatively impact the Company through increased operating expenses for compliance with new laws and regulations, restricted access to new products and markets, or in other ways. General business and economic trends: General business and economic trends, including the impact of inflation levels, influence the Company's results in numerous ways, including operating expense levels, deposit and loan activity, and availability of trained individuals needed for future growth. The use of estimates and assumptions: In preparing financial statements in conformity with generally accepted accounting principles, management must make estimates and assumptions that affect the amounts reported therein and the disclosures provided. Actual results could differ from these estimates. The foregoing list should not be construed as exhaustive, and the Company disclaims any obligation to subsequently update or revise any forward-looking statements contained in this Report after the date of this Report. Material Changes and Business Developments - ------------------------------------------ The Company conducts no business except that incident to its ownership of the stock of the Bank, the collection of dividends from the Bank, and the disbursement of dividends to shareholders. During the period from 1985 to 1987, the Company owned all of the outstanding shares of Lakeland Mortgage Corp., a mortgage lending and servicing corporation doing business in Indiana. Lakeland Mortgage Corp. discontinued business operations on December 15, 1987. The Company continued to own all of the stock of Lakeland Mortgage Corp. until 1992, during which year, Lakeland Mortgage Corp. was liquidated and all stock was redeemed. Lakeland Trust, a statutory business trust, was formed under Delaware law pursuant to a trust agreement dated July 24, 1997 and a certificate of trust filed with the Delaware Secretary of State on July 24, 1997. Lakeland Trust exists for the exclusive purposes of (i) issuing the trust securities representing undivided beneficial interests in the assets of Lakeland Trust, (ii) investing the gross proceeds of the trust securities in the subordinated debentures issued by the Company, and (iii) engaging in only those activities necessary, advisable, or incidental thereto. The subordinated debentures and payments thereunder are the only assets of Lakeland Trust, and payments under the subordinated debentures are the only revenue of Lakeland Trust. Lakeland Trust has a term of 55 years, but may be terminated earlier as provided in the trust agreement. Competition - ----------- The Bank was originally organized in 1872 and has continuously operated under the laws of the State of Indiana since its organization. The Bank is a full service bank providing both commercial and personal banking services. Bank products offered include interest and noninterest bearing demand accounts, savings and time deposit accounts, sale of securities under agreements to repurchase, discount brokerage, commercial loans, mortgage loans, consumer loans, letters of credit, and a wide range of trust services. The interest rates for both deposits and loans, as well as the range of services provided, are nearly the same for all banks competing within the Bank's service area. The Bank competes for loans principally through the range and quality of services it provides, interest rates and loan fees. The Bank believes that its convenience, quality service and hometown approach to banking enhances its ability to compete favorably in attracting and retaining individual and -8-

business customers. The Bank actively solicits deposit-related customers and competes for customers by offering personal attention, professional service and competitive interest rates. The Bank's service area is north central Indiana. In addition to the banks located within its service area, the Bank also competes with savings and loan associations, credit unions, farm credit services, finance companies, personal loan companies, insurance companies, money market funds, and other non-depository financial intermediaries. Also, financial intermediaries such as money market mutual funds and large retailers are not subject to the same regulations and laws that govern the operation of traditional depository institutions and accordingly may have an advantage in competing for funds. The Bank competes with other major banks for large commercial deposit and loan accounts. The Bank is presently subject to an aggregate maximum loan limit to any single account of approximately $10 million pursuant to Indiana law. This maximum prohibits the Bank from providing a full range of banking services to those businesses or personal accounts whose borrowings periodically exceed this amount. In order to retain at least a portion of the banking business of these large borrowers, the Bank maintains correspondent relationships with other financial institutions. The Bank also participates with local and other banks in the placement of large borrowings in excess of its lending limit. The Bank is also a member of the Federal Home Loan Bank of Indianapolis in order to broaden its mortgage lending and investment activities and to provide additional funds, if necessary, to support these activities. Foreign Operations - ------------------ The Company has no investments with any foreign entity other than a nominal demand deposit account which is maintained with a Canadian bank in order to facilitate the clearing of checks drawn on banks located in that country. There are no foreign loans. Employees - --------- At December 31, 1998, the Company, including its subsidiaries, had 435 full- time equivalent employees. Benefit programs include a pension plan, 401(k) plan, group medical insurance, group life insurance and paid vacations. The Bank is not a party to any collective bargaining agreement, and employee relations are considered good. The Company also has a stock option plan under which stock options may be granted to employees and directors. Industry Segments - ----------------- The Company is engaged in a single industry and performs a single service - -- commercial banking. On the pages that follow are tables which set forth selected statistical information relative to the business of the Company. This data should be read in conjunction with the consolidated financial statements, related notes and "Management's Discussion and Analysis of Financial Condition and Results of Operations" as set forth in the 1998 Annual Report to Shareholders herein incorporated by reference (attached hereto as Exhibit 13). -9-

DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY; INTEREST RATES AND INTEREST DIFFERENTIAL (in thousands of dollars) 1998 1997 ------------------------------------ ------------------------------------ Average Interest Average Interest Balance Income Yield(1) Balance Income Yield(1) ---------- ---------- ---------- ---------- ---------- ---------- ASSETS Earning assets: Trading account investments $ 0 $ 0 0.00% $ 0 $ 0 0.00% Loans: Taxable (2) 486,437 44,225 9.09 410,798 38,265 9.31 Tax exempt (1) 2,899 295 10.18 3,235 345 10.66 Investments:(1) Available-for-sale 142,499 9,062 6.36 80,627 5,396 6.69 Held-to-maturity 160,173 10,858 6.78 136,618 9,244 6.77 Short-term investments 9,545 510 5.34 5,275 284 5.38 Interest bearing deposits 133 9 6.77 234 19 8.12 ---------- ---------- ---------- ---------- ---------- ---------- Total earning assets 801,686 64,959 8.10% 636,787 53,553 8.41% ========== ========== Nonearning assets: Cash and due from banks 36,215 0 27,479 0 Premises and equipment 25,198 0 17,961 0 Other nonearning assets 24,324 0 11,735 0 Less: allowance for loan losses (5,403) 0 (5,302) 0 ---------- ---------- ---------- ---------- Total assets $ 882,020 $ 64,959 $ 688,660 $ 53,553 ========== ========== ========== ========== (1) Tax exempt income was converted to a fully taxable equivalent basis at a 34 percent tax rate for 1998 and 1997. The tax equivalent rate for tax exempt loans and tax exempt securities acquired after January 1, 1983, included the TEFRA adjustment applicable to nondeductible interest expenses. Nonaccrual loans are included in the above analysis as earning assets - loans. (2) Loan fees, which are immaterial in relation to total taxable loan interest income for the years ended December 31, 1998 and 1997, are included as taxable loan interest income. -10-

DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY; INTEREST RATES AND INTEREST DIFFERENTIAL (cont.) (in thousands of dollars) 1997 1996 ------------------------------------ ------------------------------------ Average Interest Average Interest Balance Income Yield(1) Balance Income Yield(1) ---------- ---------- ---------- ---------- ---------- ---------- ASSETS Earning assets: Trading account investments $ 0 $ 0 0.00% $ 0 $ 0 0.00% Loans: Taxable (2) 410,798 38,265 9.31 349,336 32,724 9.37 Tax exempt (1) 3,235 345 10.66 3,475 373 10.73 Investments:(1) Available-for-sale 80,627 5,396 6.69 84,145 5,371 6.38 Held-to-maturity 136,618 9,244 6.77 119,892 8,065 6.73 Short-term investments 5,275 284 5.38 4,250 226 5.32 Interest bearing deposits 234 19 8.12 213 19 8.92 ---------- ---------- ---------- ---------- ---------- ---------- Total earning assets 636,787 53,553 8.41% 561,311 46,778 8.33% ========== ========== Nonearning assets: Cash and due from banks 27,479 0 24,533 0 Premises and equipment 17,961 0 14,724 0 Other nonearning assets 11,735 0 9,424 0 Less: allowance for loan losses (5,302) 0 (5,382) 0 ---------- ---------- ---------- ---------- Total assets $ 688,660 $ 53,553 $ 604,610 $ 46,778 ========== ========== ========== ========== (1) Tax exempt income was converted to a fully taxable equivalent basis at a 34 percent tax rate for 1997 and 1996. The tax equivalent rate for tax exempt loans and tax exempt securities acquired after January 1, 1983, included the TEFRA adjustment applicable to nondeductible interest expenses. Nonaccrual loans are included in the above analysis as earning assets - loans. (2) Loan fees, which are immaterial in relation to total taxable loan interest income for the years ended December 31, 1997 and 1996, are included as taxable loan interest income. -11-

DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY; INTEREST RATES AND INTEREST DIFFERENTIAL (cont.) (in thousands of dollars) 1998 1997 ------------------------------------ ------------------------------------ Average Interest Average Interest Balance Expense Rate Balance Expense Rate ---------- ---------- ---------- ---------- ---------- ---------- LIABILITIES AND STOCKHOLDERS' EQUITY Interest bearing liabilities: Savings deposits $ 55,299 $ 1,331 2.41% $ 45,278 $ 1,152 2.54% Interest bearing checking accounts 65,895 1,322 2.01 55,063 1,180 2.14 Time deposits: In denominations under $100,000 326,123 17,234 5.28 230,171 12,406 5.39 In denominations over $100,000 142,589 8,267 5.80 109,759 6,445 5.87 Miscellaneous short-term borrowings 90,752 4,724 5.21 90,097 4,921 5.46 Long-term borrowings 44,349 3,213 7.24 29,655 1,956 6.60 ---------- ---------- ---------- ---------- ---------- ---------- Total interest bearing liabilities 725,007 36,091 4.98% 560,023 28,060 5.01% ========== =========== Non-interest bearing liabilities and stockholders' equity: Demand deposits 98,957 0 77,276 0 Other liabilities 7,386 0 6,498 0 Stockholders' equity 50,670 0 44,863 0 ---------- ---------- ---------- ---------- Total liabilities and stock- holders' equity $ 882,020 $ 36,091 $ 688,660 $ 28,060 ========== ========== ========== ========== Net interest differential - yield on average daily earning assets $ 28,868 3.60% $ 25,493 4.00% ========== ========= ========== ========== -12-

DISTRIBUTION OF ASSETS, LIABILITIES AND STOCKHOLDERS' EQUITY; INTEREST RATES AND INTEREST DIFFERENTIAL (cont.) (in thousands of dollars) 1997 1996 ------------------------------------ ------------------------------------ Average Interest Average Interest Balance Expense Rate Balance Expense Rate ---------- ---------- ---------- ---------- ---------- ---------- LIABILITIES AND STOCKHOLDERS' EQUITY Interest bearing liabilities: Savings deposits $ 45,278 $ 1,152 2.54% $ 43,847 $ 1,118 2.55% Interest bearing checking accounts 55,063 1,180 2.14 53,625 1,178 2.20 Time deposits: In denominations under $100,000 230,171 12,406 5.39 208,499 11,229 5.39 In denominations over $100,000 109,759 6,445 5.87 86,137 4,886 5.67 Miscellaneous short-term borrowings 90,097 4,921 5.46 78,823 4,213 5.34 Long-term borrowings 29,655 1,956 6.60 19,624 1,113 5.67 ---------- ---------- ---------- ---------- ---------- ---------- Total interest bearing liabilities 560,023 28,060 5.01% 490,555 23,737 4.84% ========== ========== Non-interest bearing liabilities and stockholders' equity: Demand deposits 77,276 0 69,459 0 Other liabilities 6,498 0 5,553 0 Stockholders' equity 44,863 0 39,043 0 ---------- ---------- ---------- ---------- Total liabilities and stock- holders' equity $ 688,660 $ 28,060 $ 604,610 $ 23,737 ========== ========== ========== ========== Net interest differential - yield on average daily earning assets $ 25,493 4.00% $ 23,041 4.10% ========== ========== ========== ========== -13-

ANALYSIS OF CHANGES IN INTEREST DIFFERENTIALS (fully taxable equivalent basis) (in thousands of dollars) YEAR ENDED DECEMBER 31, 1998 Over (Under) 1997(1) 1997 Over (Under) 1996(1) ------------------------------------ ------------------------------------ Volume Rate Total Volume Rate Total ---------- ---------- ---------- ---------- ---------- ---------- INTEREST AND LOAN FEE INCOME(2) Loans: Taxable $ 6,896 $ (936) $ 5,960 $ 5,724 $ (183) $ 5,541 Tax exempt (35) (15) (50) (26) (2) (28) Investments: Available-for-sale 3,947 (281) 3,666 (230) 255 25 Held-to-maturity 1,597 17 1,614 1,131 48 1,179 Short-term investments 228 (2) 226 1 57 58 Interest bearing deposits (7) (3) (10) 1 (1) 0 ---------- ---------- ---------- ---------- ---------- ---------- Total interest income 12,626 (1,220) 11,406 6,601 174 6,775 ---------- ---------- ---------- ---------- ---------- ---------- INTEREST EXPENSE Savings deposits 244 (65) 179 35 (1) 34 Interest bearing checking accounts 221 (79) 142 31 (29) 2 Time deposits In denominations under $100,000 5,075 (247) 4,828 1,168 9 1,177 In denominations over $100,000 1,904 (82) 1,822 1,382 177 1,559 Miscellaneous short-term borrowings 36 (233) (197) 614 94 708 Long-term borrowings 1,049 208 1,257 640 203 843 ---------- ---------- ---------- ---------- ---------- ---------- Total interest expense 8,529 (498) 8,031 3,870 453 4,323 ---------- ---------- ---------- ---------- ---------- ---------- INCREASE (DECREASE) IN INTEREST DIFFERENTIALS $ 4,097 $ (722) $ 3,375 $ 2,731 $ (279) $ 2,452 ========== ========== ========== ========== ========== ========== (1) The earning assets and interest bearing liabilities used to calculate interest differentials are based on average daily balances for 1998, 1997 and 1996. The changes in volume represent "changes in volume times the old rate". The changes in rate represent "changes in rate times old volume". The changes in rate/volume were also calculated by "change in rate times change in volume" and allocated consistently based upon the relative absolute values of the changes in volume and changes in rate. (2) Tax exempt income was converted to a fully taxable equivalent basis at a 34 percent tax rate for 1998, 1997 and 1996. The tax equivalent rate for tax exempt loans and tax exempt securities acquired after January 1, 1983, included the TEFRA adjustment applicable to nondeductible interest expense. -14-

ANALYSIS OF SECURITIES (in thousands of dollars) The amortized cost and the fair value of securities as of December 31, 1998, 1997 and 1996 were as follows: 1998 1997 1996 ----------------------- ----------------------- ----------------------- Amortized Fair Amortized Fair Amortized Fair Cost Value Cost Value Cost Value ---------- ---------- ---------- ---------- ---------- ---------- Securities available-for-sale: U.S. Treasury securities $ 38,938 $ 39,521 $ 28,833 $ 29,286 $ 31,604 $ 31,804 U.S. Government agencies and corporations 1,990 2,030 100 100 500 507 Mortgage-backed securities 225,741 225,914 52,746 53,309 46,002 46,332 Obligations of state and political subdivisions 56,924 59,112 1,787 1,904 2,081 2,167 Other debt securities 1,005 1,081 0 0 1,000 1,032 ---------- ---------- ---------- ---------- ---------- ---------- Total debt securities available-for-sale $ 324,598 $ 327,658 $ 83,466 $ 84,599 $ 81,187 $ 81,842 ========== ========== ========== ========== ========== ========== Securities held-to-maturity: U.S. Treasury securities $ 0 $ 0 $ 21,170 $ 21,501 $ 17,020 $ 17,077 U.S. Government agencies and corporations 0 0 2,176 2,246 2,262 2,362 Mortgage-backed securities 0 0 116,788 117,185 83,811 83,719 Obligations of state and political subdivisions 0 0 22,418 24,044 21,172 22,095 Other debt securities 0 0 1,007 1,103 1,009 1,120 ---------- ---------- ---------- ---------- ---------- ---------- Total debt securities held-to-maturity $ 0 $ 0 $ 163,559 $ 166,079 $ 125,274 $ 126,373 ========== ========== ========== ========== ========== ========== -15-

ANALYSIS OF SECURITIES (cont.) (Fully Tax Equivalent Basis) (in thousands of dollars) The weighted average yields (1) and maturity distribution (2) for debt securities portfolio at December 31, 1998, were as follows: After One After Five Within Year Years Over One Within Five Within Ten Ten Year Years Years Years ------------ ------------ ------------ ------------ Securities available-for-sale: U.S. Treasury securities Book value $ 5,000 $ 33,938 $ 0 $ 0 Yield 5.85% 6.36% Government agencies and corporations Book value 1,990 0 0 0 Yield 7.18 Mortgage-backed securities Book value 2,501 10,871 112,608 99,761 Yield 7.60 7.17 7.03 7.78 Obligations of state and political subdivisions Book value 220 344 5,968 50,392 Yield 6.64 6.79 5.71 5.23 Other debt securities Book value 0 1,005 0 0 Yield 10.13 ------------ ------------ ------------ ------------ Total debt securities available-for-sale: Book value $ 9,711 $ 46,158 $ 118,576 $ 150,153 Yield 6.59% 6.64% 6.96% 6.92% ============ ============ ============ ============ (1) Tax exempt income was converted to a fully taxable equivalent basis at a 34% rate. (2) The maturity distribution of mortgage-backed securities was based upon anticipated payments as computed by using the historic average repayment speed from date of issue. There were no investments in securities of any one issuer that exceed 10% of stockholders' equity at December 31, 1998. -16-

ANALYSIS OF LOAN PORTFOLIO Analysis of Loans Outstanding (in thousands of dollars) The Company segregates its loan portfolio into four basic segments: commercial (including agri-business and agricultural loans), real estate mortgages, installment and personal line of credit loans (including credit card loans). The loan portfolio as of December 31, 1998, 1997, 1996, 1995 and 1994 was as follows: 1998 1997 1996 1995 1994 ---------- ---------- ---------- ---------- ---------- Commercial loans: Taxable $ 343,858 $ 269,887 $ 226,190 $ 192,359 $ 173,325 Tax exempt 2,867 3,065 3,414 3,636 3,207 ---------- ---------- ---------- ---------- ---------- Total commercial loans 346,725 272,952 229,604 195,995 176,532 Real estate mortgage loans 60,555 65,368 60,949 55,948 47,296 Installment loans 100,196 89,107 71,398 58,175 48,228 Line of credit and credit card loans 31,020 31,207 20,314 17,499 15,900 ---------- ---------- ---------- ---------- ---------- Total loans 538,496 458,634 382,265 327,617 287,956 Less allowance for loan losses 5,510 5,308 5,306 5,472 4,866 ---------- ---------- ---------- ---------- ---------- Net loans $ 532,986 $ 453,326 $ 376,959 $ 322,145 $ 283,090 ========== ========== ========== ========== ========== The real estate mortgage loan portfolio included construction loans totaling $2,975, $3,089, $1,647, $1,224, and $426 as of December 31, 1998, 1997, 1996, 1995 and 1994. The loan classifications are based on the nature of the loans as of the loan origination date. There were no foreign loans included in the loan portfolio for the periods presented. -17-

ANALYSIS OF LOAN PORTFOLIO (cont.) Analysis of Loans Outstanding (cont.) (in thousands of dollars) Repricing opportunities of the loan portfolio occur either according to predetermined adjustable rate schedules included in the related loan agreements or upon scheduled maturity of each principal payment. The following table indicates the rate sensitivity of the loan portfolio as of December 31, 1998. The table includes the real estate loans held-for-sale and assumes these loans will not be sold during the various time horizons. Line of Credit and Real Credit Commercial Estate Installment Card Total Percent ------------ ------------ ------------ ------------ ------------ ------------ Immediately adjustable interest rates or original maturity of one day $ 211,701 $ 0 $ 0 $ 28,040 $ 239,741 44.2% Other within one year 26,079 43,980 33,619 2,980 106,658 19.7 After one year, within five years 88,708 13,522 63,629 0 165,859 30.6 Over five years 20,237 6,849 2,948 0 30,034 5.5 Nonaccrual loans 0 0 0 0 0 0.0 ------------ ------------ ------------ ------------ ------------ ------------ Total loans $ 346,725 $ 64,351 $ 100,196 $ 31,020 $ 542,292 100.0% ============ ============ ============ ============ ============ ============ A portion of the loans are short-term maturities. At maturity, credits are reviewed, and if renewed, are renewed at rates and conditions that prevail at the time of maturity. Loans due after one year which have a predetermined interest rate and loans due after one year which have floating or adjustable interest rates as of December 31, 1998 amounted to $179,000 and $48,703. -18-

ANALYSIS OF LOAN PORTFOLIO (cont.) Review of Nonperforming Loans (in thousands of dollars) The following is a summary of nonperforming loans as of December 31, 1998, 1997, 1996, 1995 and 1994. 1998 1997 1996 1995 1994 ---------- ---------- ---------- ---------- ---------- PART A - PAST DUE ACCRUING LOANS (90 DAYS OR MORE) Real estate mortgage loans $ 0 $ 0 $ 126 $ 122 $ 0 Commercial and industrial loans 159 236 22 69 16 Loans to individuals for household, family and other personal expenditures 68 69 68 18 19 Loans to finance agriculture production and other loans to farmers 0 0 0 0 0 ---------- ---------- ---------- ---------- ---------- Total past due loans 227 305 216 209 35 ---------- ---------- ---------- ---------- ---------- PART B - NONACCRUAL LOANS Real estate mortgage loans 0 337 155 76 18 Commercial and industrial loans 0 720 229 456 0 Loans to individuals for household, family and other personal expenditures 0 0 0 0 0 Loans to finance agriculture production and other loans to farmers 0 0 0 0 0 ---------- ---------- ---------- ---------- ---------- Total nonaccrual loans 0 1,057 384 532 18 ---------- ---------- ---------- ---------- ---------- PART C - TROUBLED DEBT RESTRUCTURED LOANS 1,281 1,377 1,284 1,432 1,484 ---------- ---------- ---------- ---------- ---------- Total nonperforming loans $ 1,508 $ 2,739 $ 1,884 $ 2,173 $ 1,537 ========== ========== ========== ========== ========== Nonearning assets of the Company include nonaccrual loans (as indicated above), nonaccrual investments, other real estate, and repossessions, which amounted to $626 at December 31, 1998. -19-

ANALYSIS OF LOAN PORTFOLIO (cont.) Comments Regarding Nonperforming Assets PART A - CONSUMER LOANS - ----------------------- Consumer installment loans, except those loans that are secured by real estate, are not placed on a nonaccrual status since these loans are charged-off when they have been delinquent from 90 to 180 days, and when the related collateral, if any, is not sufficient to offset the indebtedness. Advances under Mastercard and Visa programs, as well as advances under all other consumer line of credit programs, are charged-off when collection appears doubtful. PART B - NONPERFORMING LOANS - ---------------------------- When a loan is classified as a nonaccrual loan, interest on the loan is no longer accrued and all accrued interest receivable is charged off. It is the policy of the Bank that loans for which the collateral is insufficient to cover all principal and accrued interest will be reclassified as nonperforming loans to the extent they are unsecured, on or before the date when the loan becomes 90 days delinquent. Thereafter, interest is recognized and included in income only when received. As of December 31, 1998, there were no loans on nonaccrual status. PART C - TROUBLED DEBT RESTRUCTURED LOANS - ----------------------------------------- Loans renegotiated as troubled debt restructurings are those loans for which either the contractual interest rate has been reduced and/or other concessions are granted to the borrower because of a deterioration in the financial condition of the borrower which results in the inability of the borrower to meet the terms of the loan. Loans renegotiated as troubled debt restructurings totaled $1,281,000 as of December 31, 1998. Interest income of $84,000 was recognized in 1998. Had these loans been performing under the original contract terms, an additional $47,000 would have been reflected in interest income during 1998. The Company is not committed to lend additional funds to debtors whose loans have been modified. PART D - OTHER NONPERFORMING ASSETS - ----------------------------------- Management is of the opinion that there are no significant foreseeable losses relating to substandard or nonperforming assets, except as discussed above. PART E - LOAN CONCENTRATIONS - ---------------------------- There were no loan concentrations within industries which exceeded ten percent of total assets. It is estimated that over 90% of all the Bank's commercial, industrial, agri-business and agricultural real estate mortgage, real estate construction mortgage and consumer loans are made within its basic trade area. Basis For Determining Allowance For Loan Losses Management is responsible for determining the adequacy of the allowance for loan losses. This responsibility is fulfilled by management in the following ways: 1. Management reviews the larger individual loans (primarily in the commercial loan portfolio) for unfavorable collectibility factors and assesses the requirement for specific reserves on such credits. For those loans not subject to specific reviews, management reviews previous loan loss experience to establish historical ratios and trends in charge-offs by loan category. The ratios of net charge-offs to particular types of loans enable management to estimate charge-offs in future periods by loan category and thereby establish -20-

appropriate reserves for loans not specifically reviewed. 2. Management reviews the current and anticipated economic conditions of its lending market to determine the effects on future loan charge-offs by loan category, in addition to the effects on the loan portfolio as a whole. 3. Management reviews delinquent loan reports to determine risk of future loan charge-offs. High delinquencies are generally indicative of an increase in future loan charge-offs. Based upon these policies and objectives, $480,000, $269,000 and $120,000 were charged to the provision for loan losses and added to the allowance for loan losses in 1998, 1997 and 1996. The allocation of the allowance for loan losses to the various lending areas is performed by management in relation to perceived exposure to loss in the various loan portfolios. However, the allowance for loan losses is available in its entirety to absorb losses in any particular loan category. -21-

ANALYSIS OF LOAN PORTFOLIO (cont.) Summary of Loan Loss (in thousands of dollars) Following is a summary of the loan loss experience for the years ended December 31, 1998, 1997, 1996, 1995 and 1994. 1998 1997 1996 1995 1994 ---------- ---------- ---------- ---------- ---------- Amount of loans outstanding, December 31, $ 538,496 $ 458,634 $ 382,265 $ 327,617 $ 287,956 ========== ========== ========== ========== ========== Average daily loans outstanding during the year ended December 31, $ 489,336 $ 414,033 $ 352,811 $ 309,241 $ 271,391 ========== ========== ========== ========== ========== Allowance for loan losses, January 1, $ 5,308 $ 5,306 $ 5,472 $ 4,866 $ 4,010 ---------- ---------- ---------- ---------- ---------- Loans charged-off Commercial 9 99 171 137 27 Real estate 0 33 0 48 0 Installment 329 190 158 112 93 Credit cards and personal credit lines 78 37 39 58 15 ---------- ---------- ---------- ---------- ---------- Total loans charged-off 416 359 368 355 135 ---------- ---------- ---------- ---------- ---------- Recoveries of loans previously charged-off Commercial 44 18 12 26 107 Real estate 0 0 0 0 1 Installment 86 66 54 63 81 Credit cards and personal credit lines 8 8 16 6 7 ---------- ---------- ---------- ---------- ---------- Total recoveries 138 92 82 95 196 ---------- ---------- ---------- ---------- ---------- Net loans charged-off 278 267 286 260 (61) Purchase loan adjustment 0 0 0 746 0 Provision for loan loss charged to expense 480 269 120 120 795 ---------- ---------- ---------- ---------- ---------- Balance, December 31, $ 5,510 $ 5,308 $ 5,306 $ 5,472 $ 4,866 ========== ========== ========== ========== ========== Ratio of net charge-offs during the period to average daily loans outstanding Commercial (0.01)% 0.02% 0.03% 0.03% (0.03)% Real estate 0.00 0.01 0.01 0.01 0.00 Installment 0.05 0.03 0.00 0.02 0.01 Credit cards and personal credit lines 0.02 0.01 0.04 0.02 0.00 ---------- ---------- ---------- ---------- ---------- Total 0.06% 0.07% 0.08% 0.08% (0.02)% ========== ========== ========== ========== ========== Ratio of allowance for loan losses to nonperforming assets 258.20% 176.99% 204.31% 192.20% 208.48% ========== ========== ========== ========== ========== -22-

ANALYSIS OF LOAN PORTFOLIO (cont.) Allocation of Allowance for Loan Losses (in thousands of dollars) The following is a summary of the allocation for loan losses as of December 31, 1998, 1997, 1996, 1995 and 1994. 1998 1997 1996 ----------------------- ----------------------- ----------------------- Allowance Loans as Allowance Loans as Allowance Loans as For Percentage For Percentage For Percentage Loan of Gross Loan of Gross Loan of Gross Losses Loans Losses Loans Losses Loans ---------- ---------- ---------- ---------- ---------- ---------- Allocated allowance for loan losses Commercial $ 1,647 64.39 $ 1,341 59.52 $ 1,213 60.07 Real estate 130 11.24 131 14.25 123 15.94 Installment 845 18.61 673 19.43 530 18.68 Credit cards and personal credit lines 130 5.76 103 6.80 151 5.31 ---------- ---------- ---------- ---------- ---------- ---------- Total allocated allowance for loan losses 2,752 100.00 2,248 100.00 2,017 100.00 ========== ========== ========== Unallocated allowance for loan losses 2,758 3,060 3,289 ---------- ---------- ---------- Total allowance for loan losses $ 5,510 $ 5,308 $ 5,306 ========== ========== ========== 1995 1994 ----------------------- ----------------------- Allowance Loans as Allowance Loans as For Percentage For Percentage Loan of Gross Loan of Gross Losses Loans Losses Loans ---------- ---------- ---------- ---------- Allocated allowance for loan losses Commercial $ 811 59.82 $ 665 61.31 Real estate 112 17.08 95 16.42 Installment 376 17.76 311 16.75 Credit cards and personal credit lines 112 5.34 101 5.52 ---------- ---------- ---------- ---------- Total allocated allowance for loan losses 1,411 100.00 1,172 100.00 ========== ========== Unallocated allowance for loan losses 4,061 3,694 ---------- ---------- Total allowance for loan losses $ 5,472 $ 4,866 ========== ========== -23-

ANALYSIS OF DEPOSITS (in thousands of dollars) The average daily deposits for the years ended December 31, 1998, 1997 and 1996, and the average rates paid on those deposits are summarized in the following table: 1998 1997 1996 ----------------------- ----------------------- ----------------------- Average Average Average Average Average Average Daily Rate Daily Rate Daily Rate Balance Paid Balance Paid Balance Paid ---------- ---------- ---------- ---------- ---------- ---------- Demand deposits $ 98,957 0.00 $ 77,276 0.00 $ 69,459 0.00 Savings accounts: Regular savings 55,299 2.41 45,278 2.54 43,847 2.55 Interest bearing checking 65,895 2.01 55,063 2.14 53,625 2.20 Time deposits: Deposits of $100,000 or more 142,589 5.80 109,759 5.87 86,137 5.67 Other time deposits 326,123 5.28 230,171 5.39 208,499 5.39 ---------- ---------- ---------- ---------- ---------- ---------- Total deposits $ 688,863 4.09 $ 517,547 4.09 $ 461,567 3.99 ========== ========== ========== ========== ========== ========== As of December 31, 1998, time certificates of deposit in denominations of $100,000 or more will mature a as follows: Within three months $ 71,117 Over three months, within six months 51,027 Over six months, within twelve months 21,711 Over twelve months 10,136 ---------- Total time certificates of deposit in denominations of $100,000 or more $ 153,991 ========== -24-

QUALITATIVE MARKET RISK DISCLOSURE Management's market risk disclosure appears under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" in the 1998 Annual Report to Shareholders and is incorporated herein by reference in response to this item. The Company's primary market risk exposure is interest rate risk. The Company does not have a material exposure to foreign currency exchange rate risk, does not own any derivative financial instruments and does not maintain a trading portfolio. RETURN ON EQUITY AND ASSETS The rates of return on average daily assets and stockholders' equity, the dividend payout ratio, and the average daily stockholders' equity to average daily assets for the years ended December 31, 1998, 1997 and 1996 were as follows: 1998 1997 1996 --------- --------- --------- Percent of net income to: Average daily total assets 0.89% 1.10% 1.07% Average daily stockholders' equity 15.57 16.81 16.50 Percentage of dividends declared per common share to net income per weighted average number of common shares outstanding (5,813,984 shares in 1998, 5,813,162 shares in 1997, and 5,792,825 shares in 1996) 24.26 23.08 20.72 Percentage of average daily stockholders' equity to average daily total assets 5.74 6.51 6.46 -25-

SHORT-TERM BORROWINGS (in thousands of dollars) The following is a schedule, at the end of the year indicated, of statistical information relating to securities sold under agreement to repurchase maturing within one year and secured by either U.S. Government agency securities or mortgage-backed securities classified as other debt securities. There were no other categories of short-term borrowings for which the average balance outstanding during the period was 30 percent or more of stockholders' equity at the end of each period. 1998 1997 1996 ---------- ---------- ---------- Outstanding at year end $ 110,163 $ 65,467 $ 85,611 Approximate average interest rate at year end 4.78% 4.90% 5.11% Highest amount outstanding as of any month end during the year $ 110,163 $ 98,917 $ 89,433 Approximate average outstanding during the year $ 84,157 $ 83,732 $ 73,728 Approximate average interest rate during the year 5.19% 5.45% 5.33% Securities sold under agreement to repurchase include both fixed rate, term transactions initiated by the investment department of the Bank, as well as corporate sweep accounts. -26-

ITEM 2. PROPERTIES - ------------------ The Company conducts its operations from the following locations: Branches/Headquarters Main / Headquarters 202 E. Center St. Warsaw IN Warsaw Drive-up East Center St. Warsaw IN Akron 102 East Rochester Akron IN Argos 100 North Michigan Argos IN Bremen 1600 Indiana State Road 331 Bremen IN Columbia City 601 Countryside Dr. Columbia City IN Concord 4202 Elkhart Road Goshen IN Cromwell 111 North Jefferson St. Cromwell IN Elkhart Beardsley 864 East Beardsley St. Elkhart IN Elkhart East 22050 State Road 120 Elkhart IN Elkhart Hubbard Hill 58404 State Road 19 Elkhart IN Elkhart Northwest 1208 N. Nappanee St. Elkhart IN Goshen Downtown 102 North Main St. Goshen IN Goshen South 2513 South Main St. Goshen IN Granger 12830 State Road 23 Granger IN Greentown 520 W. Main Greentown IN Huntington 1501 N. Jefferson St. Huntington IN Kendallville East 631 Professional Way Kendallville IN Kendallville Downtown 113 N. Main St. Kendallville IN LaGrange 901 South Detroit LaGrange IN Ligonier Downtown 222 S. Calvin St. Ligonier IN Ligonier South 1470 U.S. Highway 33 South Ligonier IN Logansport 3900 Highway 24 East Logansport IN Medaryville Main St. Medaryville IN Mentone 202 East Main St. Mentone IN Middlebury 712 Wayne Ave. Middlebury IN Milford Indiana State Road 15 North Milford IN Mishawaka 5015 N. Main St. Mishawaka IN Nappanee 202 West Market St. Nappanee IN North Webster 644 North Main St. North Webster IN Peru 2 N. Broadway Peru IN Pierceton 202 South First St. Pierceton IN Plymouth 862 E. Jefferson St. Plymouth IN Roann 110 Chippewa St. Roann IN Rochester 507 East 9th St. Rochester IN Shipshewana 895 North Van Buren St. Shipshewana IN Silver Lake 102 Main St. Silver Lake IN Syracuse 502 South Huntington Syracuse IN Wabash North 1004 North Cass St. Wabash IN Wabash South 1940 South Wabash St. Wabash IN Warsaw East 3601 Commerce Dr. Warsaw IN Warsaw West 1221 West Lake St. Warsaw IN Winona Lake 99 Chestnut St. Winona Lake IN The Company leases from third parties the real estate and buildings for its offices in Akron and Milford. In addition, the Company leases the real estate for its Wabash North office and its free-standing ATMs. All the other branch facilities are owned by the Company. The Company also owns parking lots in downtown Warsaw for the use and convenience of Company employees and customers, as well as leasehold improvements, equipment, furniture and fixtures necessary and appropriate to operate the banking facilities. -27-

In addition, the Company owns buildings at 110 South High St., Warsaw, Indiana, and 114-118 East Market St., Warsaw, Indiana, which it uses for various offices and a building at 113 East Market St., Warsaw, Indiana, which it uses for office and computer facilities. The Company also leases from third parties facilities in Warsaw, Indiana, for the storage of supplies and for employee training. None of the Company's assets are the subject of any material encumbrances. ITEM 3. LEGAL PROCEEDINGS - -------------------------- There are no material pending legal proceedings other than ordinary routine litigation incidental to the business to which the Company and the Bank are a party or of which any of their property is subject. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - ------------------------------------------------------------ No matter was submitted to a vote of security holders during the fourth quarter of 1998. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS - ------------------------------------------------------------------------------ Information relating to the principal market for and the prices of the Company's common stock, and information as to dividends are contained under the caption "Stock and Dividend Information" in the 1998 Annual Report to Shareholders and are incorporated herein by reference. On December 31, 1998, the Registrant had 1,536 shareholders of record, including those employees who participate in the Company's 401(K) plan. On January 9, 1996, the Company sold 40,000 shares of authorized but previously unissued common stock for $10.38 per share (as adjusted for all subsequent stock splits). On April 30, 1996, the common stock split two-for-one. On January 15, 1997, Lakeland Financial Corporation sold 20,000 shares of authorized but previously unissued common stock for $15.50 per share (split adjusted). In August, 1997, the common stock of the Company and the preferred stock of its wholly-owned subsidiary, Lakeland Trust, began trading on The Nasdaq Stock Market under the symbols LKFN and LKFNP. At the annual meeting of shareholders on April 14, 1998, the shareholders approved the Lakeland Financial Corporation 1997 Share Incentive Plan. This plan reserves 600,000 shares of common stock (split adjusted) for which incentive share options and non-qualified share options may be granted to directors and employees of the Company and its subsidiaries. On April 30, 1998, the common stock split two-for-one. ITEM 6. SELECTED FINANCIAL DATA - -------------------------------- A five year consolidated financial summary, containing the required selected financial data, appears under the caption "Selected Financial Data" on page 7 in the 1998 Annual Report to Shareholders and is incorporated herein by reference. -28-

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS - ------------------------------------------------------------------------------ Management's Discussion and Analysis of Financial Condition and Results of Operations appears under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" on pages 27 - 32 in the 1998 Annual Report to Shareholders and is incorporated herein by reference. ITEM 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK - ------------------------------------------------------------------------------ Quantitative and qualitative disclosures about market risk appear under the caption "Management's Discussion and Analysis of Financial Condition and Results of Operations" on pages 27 - 32 in the 1998 Annual Report to Shareholders and is incorporated herein by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA - ---------------------------------------------------- The following consolidated financial statements appear in the 1998 Annual Report to Shareholders and are incorporated herein by reference. Consolidated Balance Sheets at December 31, 1998 and 1997. Consolidated Statements of Income for the years ended December 31, 1998, 1997 and 1996. Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 1998, 1997 and 1996. Consolidated Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996. Notes to Consolidated Financial Statements. Report of Independent Auditors. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE - ------------------------------------------------------------------------------ Not applicable. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT - ----------------------------------------------------------- The information appearing in the definitive Proxy Statement dated March 15, 1999, is incorporated herein by reference in response to this item. ITEM 11. EXECUTIVE COMPENSATION - ------------------------------- The information appearing in the definitive Proxy Statement dated March 15, 1999, is incorporated herein by reference in response to this item. The sections in the Proxy Statement marked "Report of the Compensation Committee on Executive Compensation" and "Stock Price Performance" are furnished for the information of the Commission and are not deemed to be "filed" as part of the Form 10-K. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT - ----------------------------------------------------------------------- The information appearing in the definitive Proxy Statement dated March 15, 1999, is incorporated herein by reference in response to this item. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS - ------------------------------------------------------- The information appearing in the definitive Proxy Statement dated March 15, 1999, is incorporated herein by reference in response to this item. -29-

PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K - ------------------------------------------------------------------------ (a) The documents listed below are filed as a part of this report: (1) Financial Statements. --------------------- The following financial statements appear in the 1998 Annual Report to Shareholders and are specifically incorporated by reference under Item 8 of this Form 10-K, or are a part of this Form 10-K, as indicated and at the pages set forth below. Reference --------- 1998 Annual Form 10-K Report --------- ------------ Consolidated Balance Sheets at December 31, 1998 and 1997. 9 Consolidated Statements of Income for the years ended December 31, 1998, 1997 and 1996. 10 Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 1998, 1997 and 1996. 11 Consolidated Statements of Cash Flows for the years ended December 31, 1998, 1997 and 1996. 12 Notes to Consolidated Financial Statements. 13 - 24 Report of Independent Auditors. 26 (2) Financial Statement Schedules. ------------------------------ Financial statement schedules have been omitted because of the absence of conditions under which they are required or because the required information is given in the financial statements or notes thereto. -30-

SIGNATURES Pursuant to the requirements of Section 15(d) of the Securities and Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. LAKELAND FINANCIAL CORPORATION Date: March 9, 1999 By R. Douglas Grant (R. Douglas Grant) Chairman Pursuant to the requirements of the Securities and Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. Date: March 9, 1999 Michael L. Kubacki (Michael L. Kubacki) Principal Executive Officer and Director Date: March 9, 1999 Terry M. White (Terry M. White) Principal Financial and Accounting Officer Date: March 9, 1999 R. Douglas Grant (R. Douglas Grant) Director Date: (Anna K. Duffin) Director Date: March 9, 1999 Eddie Creighton (Eddie Creighton) Director Date: March 9, 1999 L. Craig Fulmer (L. Craig Fulmer) Director Date: March 9, 1999 Jerry L. Helvey (Jerry L. Helvey) Director Date: (Allan J. Ludwig) Director Date: March 9, 1999 Charles E. Niermier (Charles E. Niemier) Director -31-

Date: March 9, 1999 Richard L. Pletcher (Richard L. Pletcher) Director Date: March 9, 1999 Terry L. Tucker (Terry L. Tucker) Director Date: (M. Scott Welch) Director Date: March 9, 1999 G. L. White (G. L. White) Director -32-

EXHIBIT INDEX The following Exhibits are filed as part of this Report and not incorporated by reference from another document: Exhibit 13 - 1998 Report to Shareholders with Report of Independent Auditors. Exhibit 21 - Subsidiaries Exhibit 27 - Financial Data Schedule -33-

EXHIBIT 13 1998 Report to Shareholders with Report of Independent Auditors. -34-

EXHIBIT 21 Subsidiaries. The Registrant has two wholly-owned subsidiaries, Lake City Bank, Warsaw, Indiana, a banking corporation organized under the laws of the State of Indiana, and Lakeland Capital Trust, a statutory business trust formed under Delaware law. -35-

Annual Meeting - ----------------------------------------------------------------------------- The annual meeting of the shareholders of Lakeland Financial Corporation will be held at noon, April 13, 1999, at the Shrine Building, Kosciusko County Fair Grounds, Warsaw, Indiana. As of December 31, 1998, there were approximately 1,500 shareholders. Special Notice: Form 10-K Available - ----------------------------------------------------------------------------- The Company will provide without charge to each shareholder its Annual Report on Form 10-K, including financial statements and schedules thereto required to be filed with the Securities and Exchange Commission for the Company's most recent fiscal year upon written request of Lakeland Financial Corporation, Attn: Treasurer, P.O. Box 1387, Warsaw, Indiana 46581-1387. The Form 10-K and related exhibits are also available on the Internet at www.sec.gov. Registrar and Transfer Agent - ----------------------------------------------------------------------------- Lake City Bank Trust Department P.O. Box 1387 Warsaw, Indiana 46581-1387 Stock and Dividend Information - ----------------------------------------------------------------------------- The following companies are market makers in Lakeland Financial Corporation stock and have reported the bid-ask prices for the Company's stock as set forth in the Selected Quarterly Data for the first three quarters of 1997. Stifel, Nicolaus & Company, Inc., 500 North Broadway, St. Louis, Missouri, 63102 Roney & Company, P.O. Box 130, Elkhart, Indiana, 46515 McDonald Investments, Inc., 214 South Main Street, Elkhart, Indiana, 46516 As of August 25, 1997, the Company's common stock and the preferred stock of its wholly-owned subsidiary, Lakeland Capital Trust, began trading on The Nasdaq Stock MarketSM under the symbols LKFN and LKFNP. "The Nasdaq Stock Market" or "Nasdaq" is a highly-regulated electronic securities market comprised of competing market makers whose trading is supported by a communications network linking them to quotation dissemination, trade reporting, and order execution systems. This market also provides specialized automation services for screen-based negotiations of transactions, on-line comparison of transactions, and a range of informational services tailored to the needs of the securities industry, investors and issuers. The Nasdaq Stock Market is operated by The Nasdaq Stock Market, Inc., a wholly-owned subsidiary of the National Association of Securities Dealers, Inc. The high-low prices as set forth in the Selected Quarterly Data for the fourth quarter of 1997 were obtained from the Bloomberg Business News service. The high-low prices for 1998 were obtained from The Nasdaq Stock Market.

Chairman's Letter - ----------------------------------------------------------------------------- Dear Shareholders: This is my last letter to you as Chief Executive Officer of Lakeland Financial Corporation and Lake City Bank. We can all be pleased that this is the result of my aging process and the inevitable passage of time, and not because of a sale or merger of our fine Corporation. It has been an exciting privilege to serve the Lake City Bank for 19 years. I am proud of our management team as well as our employees who have contributed to our joint success. Assets have grown from about $100 million to just under $1 billion with corresponding increases in earnings, stock value, and other key numbers. This has been an exciting time in the financial industry, and I was lucky to be a part of it with a truly great local, independent, community bank. My successor, CEO and President Michael L. Kubacki, will now competently carry the flag. It is noteworthy that Mike Kubacki not only possesses an outstanding banking resume but also has local roots, having grown up in Kosciusko County and graduated from the old Pierceton High School. He is an alumni of Indiana University and has an MBA from the University of Chicago. Mike Kubacki was with Northern Trust Company for 25 years. Early he ran that bank's Correspondent Banking Department with responsibility for lending to banks and insurance companies across the country. In the late 1980's he was President and CEO of a subsidiary bank in Oak Brook, Illinois. More recently he worked in California for Northern Trust as an Executive Vice President heading up the Los Angeles area. While stepping down as CEO, I do not plan to disassociate myself from the Bank. I will be active as Chairman of the Board on a daily basis for a relatively short period of time, but continue on after retirement as Chairman of the Board for the foreseeable future. This will entail the usual Chairman's duties as well as serving on various Board committees and offering counsel when appropriate. My sincere thanks to all of our customers, employees and shareholders for the opportunity of working together in building a great institution. R. Douglas Grant Chairman 1

Shareholder's Letter - ----------------------------------------------------------------------------- Historically low interest rates, the competitive environment, and Year 2000 issues provided many challenges and opportunities for Lakeland Financial Corporation and Lake City Bank in 1998. The success we enjoyed in meeting these challenges resulted in record net income, loans and assets. A major factor in the Corporation's success continues to be a commitment to providing convenient, quality service to our customers. The hometown approach to banking continues to be well received in our communities, as demonstrated by your Corporation's growth during 1998. And our growth continues strong. Through branch acquisitions and de novo offices, we added nineteen offices in the last five years. Our primary market area comprises 42 offices in 33 towns in 14 counties in north central Indiana. Assets totaled $979 million at year-end 1998, representing a 22.9 percent increase over year-end 1997. This strong growth reflects the economic vitality of our markets and the benefits derived from being a locally owned and operating independent community bank. The recent sales and consolidation of banks in northern Indiana has resulted in some customer dissatisfaction with the service they provide. This dissatisfaction has contributed to our recent loan and deposit growth as customers have sought more personal, traditional relationships. Total assets increased $182 million over the prior year. Approximately $35 million of this increase was due to the Peru and Greentown offices acquired from Cleveland's National City Bank in February. We opened a new office in Plymouth, Indiana, which was well received and added over $7 million in 1998. The remaining increase was a result of growth in existing offices. Net income for the year was a record $7,888,000, an increase of 5 percent over 1997. This reflects continued pressure on the interest margin, excellent asset quality, a strong fee income year, and the increased expenses related to our growth and investment in technology. The financial services industry continued to feel pressure on the interest margin as interest rates remained at historically low levels and competition for loans and deposits intensified. As expected, the interest margin, or spread between what we earn on assets and what we pay on deposits and other funds used to support these assets, declined again in 1998. A contributing factor in this decline was the acquisitions of offices from other financial institutions in late 1997 and early 1998. The majority of assets received in these acquisitions were cash and facilities. The cash received was mostly invested in securities. Since securities normally earn less than loans, this has resulted in a lower spread on these funds until they can be more profitably invested in quality loans. While loan growth continued to be strong in 1998, especially in the commercial area, our challenge to increased profitability in 1999 will be our ability to continue generating high quality loans. Our success in growing loans in 1998 was made possible by a professional, knowledgeable staff dedicated to responding to customer needs. Through their efforts loans grew 17 percent with significant growth in commercial and consumer loans. Commercial loans grew by 27 percent and consumer loans grew by 9 percent. Delinquencies and charge-offs remained low as compared to industry averages. 2

Shareholder's Letter (continued) - ----------------------------------------------------------------------------- We are also pleased with the growth in deposits during 1998. Total deposits increased $126 million, or about 21 percent, during 1998. Approximately $35 million of this growth was a result of the offices acquired in February, with the remaining growth in existing offices. This growth is a reflection of the economic strength in the markets we serve and of our commitment to providing the quality products and services demanded. The low interest rate environment during the year had a significant impact on noninterest income. This environment helped generate a significant increase in mortgage lending activity. The gains on sales of mortgage loans increased 169 percent to $1.5 million. This interest rate environment also provided an opportunity to sell securities from the available-for-sale portfolio at a profit, while better positioning the portfolio for future liquidity needs. These gains were approximately $1.3 million. All other components of noninterest income increased. We are particularly pleased with our results in the brokerage area, which far exceeded expectations for growth in accounts and fees in 1998. The increase in service charges on deposits reflects the large increase in the number of deposit accounts. A major challenge during 1998 was the completion of a two-year, $4.5 million investment in technology. As we grew from $497 million in 1994, to $979 million in 1998, updated technology was needed for us to continue to provide superior local service and to ensure our preparedness for the Year 2000. These investments included new teller and sales systems, new image capture software and hardware, a data warehouse system, and a new telephone system. These investments in technology also include modifications and replacements of systems, computer programs and equipment based upon an extensive review and analysis of the potential impact of Year 2000. These improvements position us for future growth, and allow any bank office to provide customers with the type of service and information that they expect from the hometown bank. The cost of these improvements, and the thirty percent increase in the branch network in 1998, resulted in a similar percentage increase in occupancy and equipment costs in 1998. We experienced a 24.4 percent increase in salaries and benefits related to the growth in offices. Also $942,000 of expense was incurred due to the amortization of the intangible assets relating to the branch purchases in late 1997 and early 1998. The Commercial Banking Division had an excellent year providing financing for large and small businesses. Commercial loans outstanding increased by a record $74 million to $347 million at year end from $273 million a year earlier while maintaining asset quality. The Division hosted several seminars designed to assist business and agri-business customers in dealing with the complex challenges faced in today's competitive business climate. The Year 2000 seminar provided guidance to customers on this timely important topic. Our commitment to this portion of the marketplace is very strong. At year end we had 25 commercial lending officers on staff, with an average experience level of 20 years. The Retail Division originated $87 million in residential mortgage loans in 1998, as compared to $43 million for 1997. Of this total, $65 million was sold into the secondary market, generating nearly $1.5 million in gains. Consumer loans outstanding grew by about $11 million or 9 percent, in 3

Shareholder's Letter (continued) - ----------------------------------------------------------------------------- 1998. The Bank introduced a "lease look-alike" product to compete with the lease market, and also a software product facilitating preapproval of credit cards and personal lines of credit. With the introduction of the Executive and Professional Program, business customers can enjoy the benefits of housing all of their accounts in one bank, with the assurance of knowing that their banking officer will be able to expertly and expeditiously assist them. A unique new product, the Budget Saver auto loan was developed and has been enthusiastically received by consumers and auto dealers. The Direct Banking Center responds to nearly 200 customers each day and offers personal service. Our brokerage services continued to be used by our customers who want to buy/sell stocks, bonds, mutual investments and other non-insured investment needs. Income increased over 74 percent in 1998. Customers appreciate the convenience of investing where they are known by name and receive friendly service from knowledgeable and experienced professionals. The Investor's Weekly account was enhanced and experienced strong deposit growth of 68 percent in 1998. This account is a premier product for our customers who want high money market yields, convenient access to funds, security of FDIC Insurance up to $100,000, no fees, and ease of use. Products, specifically tailored for our customers, with emphasis on providing the service of a hometown bank, are utmost in our thoughts as we continue to develop the most beneficial groupings. Trust assets under management increased 16 percent in 1998 to $725 million. We recognize that investors today face a highly complex investment environment. Many providers of investment management and trust services have grown larger, more inflexible, impersonal and distant. Our approach to providing financial services is uncommon, but traditional. We work to build a personal relationship with customers on a local level, and deliver competitive investment results, which allow our clients to achieve their overall financial goals. In doing this we sponsored a Valentine Party for our retired friends, a Leading Ladies Luncheon, several professional receptions in our communities, investment breakfasts, and business after hours receptions. The Leading Ladies highly successful program is designed and tailored to provide an innovative financial program for the bank's female customers. Charles E. Niemier and M. Scott Welch were elected to the Lakeland Financial Corporation Board of Directors. Mr. Niemier is a graduate of Indiana University and Valparaiso University where he serves as a Trustee. He is Senior Vice President of Biomet, Inc. Mr. Welch, CEO of Welch Packaging Group and President of Elkhart Container, holds a BS degree in psychology from Depauw University. He serves on the Elkhart General Hospital Board and both the Elkhart and Indiana Chambers of Commerce. They replace Board members Joseph P. Prout and J. Alan Morgan who retired after 27 years and 24 years respectively of service to the Bank. Their leadership was appreciated and will be missed. D. Jean Northenor was promoted to Executive Vice President, with principal responsibilities in the human resource, marketing, and facilities area. She joined the Bank in 1983 after completing 12 years in Kosciusko County government, eight as the elected county auditor. 4

Shareholder's Letter (continued) - ----------------------------------------------------------------------------- In 1999, we will open our first office in Allen County. This market includes Ft. Wayne, the second largest city in the state. Bank consolidation has been very rapid in Ft. Wayne, and we expect that customer acceptance of our Corporation will be positive over the next several years. We continue to evaluate other expansion opportunities throughout northern Indiana, with an emphasis on markets that would be receptive to a local, hometown business philosophy. The Trust, Discount Brokerage, Investment Services and other operational departments moved into the newly remodeled Trust Building in downtown Warsaw (formerly Kline's Department Store) during the third quarter. The building with state of the art technology has a friendly ambiance with user efficiency. Since 1872 Lake City Bank has been a symbol of strength, innovation and integrity. We remain responsive to our customers by providing need solving financial products handled by a professional, knowledgeable staff and supported by state of the art technology. Our success and reputation as a leading community bank would not be possible without the dedication and hard work of our employees and the support of our shareholders. We are grateful for this, and optimistic about the future. Michael L. Kubacki R.Douglas Grant President Chairman 5

Lakeland Financial Corporation and Lake City Bank Board of Directors - ---------------------------------------------------------------------------------------------------------------------------------- Picture Picture Picture Picture Eddie Creighton Anna K. Duffin L. Craig Fulmer R. Douglas Grant Partner and Civic Leader Chairman, Chairman, General Manager, Heritage Financial Lakeland Financial Creighton Brothers Group, Inc. Corporation and Lake City Bank Picture Picture Picture Picture Jerry L. Helvey Michael L. Kubacki Allan J. Ludwig Charles E. Niemier President, President, Industrial Developer Senior Vice President, Helvey & Associates, Inc. Lakeland Financial Biomet, Inc. Corporation and Lake City Bank Picture Picture Picture Picture Richard L. Pletcher Terry L. Tucker M. Scott Welch G.L. White President, President, Chief Executive Officer, Former President, Pletcher Enterprises, Inc. Maple Leaf Farms, Inc. Welch Packaging Group United Telephone Company of Indiana LAKELAND FINANCIAL CORPORATION OFFICERS R. Douglas Grant ....................Chairman (Chief Executive Officer through 1998) Michale L. Kubacki...................President and Chief Executive Officer D. Jean Northenor ...................Executive Vice President Paul S. Siebenmorgem.................Executive Vice President Walter L. Weldy .....................Executive Vice President Terry M. White ......................Executive Vice President Secretary and Treasurer James J. Nowak.......................Assistant Secretary and Treasurer 6

Selected Financial Data (in thousands except for share and per share data) - --------------------------------------------------------------------------------------------------------------------------------- 1998 1997 1996 1995 1994 ------------ ------------ ------------ ------------ ------------ Interest income $ 63,667 $ 52,699 $ 45,941 $ 41,944 $ 33,556 Interest expense 36,091 28,060 23,737 21,642 14,887 ------------ ------------ ------------ ------------ ------------ Net interest income . . . . . . . . . . . . . . . . . 27,576 24,639 22,204 20,302 18,669 Provision for loan losses 480 269 120 120 795 ------------ ------------ ------------ ------------ ------------ Net interest income after provision for loan losses 27,096 24,370 22,084 20,182 17,874 Other noninterest income 8,486 6,978 5,396 4,297 4,198 Net gains on sale of real estate mortgages held-for-sale 1,467 545 412 159 177 Net securities gains (losses) 1,256 (19) (9) 315 (7) Noninterest expense (26,491) (20,414) (17,935) (16,244) (14,092) ------------ ------------ ------------ ------------ ------------ Income before income tax expense . . . . . . . . . . . 11,814 11,460 9,948 8,709 8,150 Income tax expense 3,926 3,920 3,504 3,064 3,024 ------------ ------------ ------------ ------------ ------------ Net income . . . . . . . . . . . . . . . . . . . . . . $ 7,888 $ 7,540 $ 6,444 $ 5,645 $ 5,126 ============ ============ ============ ============ ============ Average shares outstanding* 5,813,984 5,813,162 5,792,825 5,753,984 5,753,984 ============ ============ ============ ============ ============ Basic earnings per common share* $ 1.36 $ 1.30 $ 1.11 $ 0.98 $ 0.89 ============ ============ ============ ============ ============ Diluted earnings per common share* $ 1.36 $ 1.30 $ 1.11 $ 0.98 $ 0.89 ============ ============ ============ ============ ============ Cash dividends declared* $ 0.33 $ 0.30 $ 0.23 $ 0.19 $ 0.15 ============ ============ ============ ============ ============ Balances at December 31: - ------------------------ Total assets $ 978,909 $ 796,478 $ 656,551 $ 568,579 $ 496,963 Total deposits $ 739,347 $ 612,992 $ 496,553 $ 431,934 $ 396,740 Long-term borrowings $ 21,386 $ 25,367 $ 23,531 $ 17,432 $ 17,432 Guaranteed preferred beneficial interests in Company's subordinated debentures $ 19,238 $ 19,211 $ 0 $ 0 $ 0 Total stockholders' equity $ 55,156 $ 48,256 $ 42,043 $ 36,754 $ 29,889 * Adjusted for 2-for-1 stock splits on April 30, 1996 and April 30, 1998. 7

Selected Quarterly Data (in thousands except for per share data) (unaudited) - --------------------------------------------------------------------------------------------------------------------------------- 4th 3rd 2nd 1st 1998 Quarter Quarter Quarter Quarter ------------ ------------ ------------ ------------ Interest income $ 16,451 $ 16,366 $ 15,904 $ 14,946 Interest expense 9,344 9,354 9,037 8,356 ------------ ------------ ------------ ------------ Net interest income . . . . . . . . . . . . . . . . . . . . . . . . . 7,107 7,012 6,867 6,590 Provision for loan losses 120 120 120 120 Noninterest income 3,018 3,020 2,731 2,440 Noninterest expense 6,920 7,059 6,478 6,034 Income tax expense 1,106 981 965 874 ------------ ------------ ------------ ------------ Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,979 $ 1,872 $ 2,035 $ 2,002 ============ ============ ============ ============ Basic earnings per common share** $ 0.34 $ 0.33 $ 0.35 $ 0.34 ============ ============ ============ ============ Diluted earnings per common share** $ 0.34 $ 0.33 $ 0.35 $ 0.34 ============ ============ ============ ============ Stock and Dividend Information Trading range (per share)* ** Low $ 16.50 $ 19.00 $ 22.25 $ 23.00 High $ 20.00 $ 24.50 $ 29.00 $ 34.00 Dividends declared (per share) ** $ 0.09 $ 0.09 $ 0.08 $ 0.07 - --------------------------------------------------------------------------------------------------------------------------------- 4th 3rd 2nd 1st 1997 Quarter Quarter Quarter Quarter ------------ ------------ ------------ ------------ Interest income $ 13,775 $ 13,344 $ 13,180 $ 12,400 Interest expense 7,574 7,240 6,832 6,414 ------------ ------------ ------------ ------------ Net interest income . . . . . . . . . . . . . . . . . . . . . . . . . . 6,201 6,104 6,348 5,986 Provision for loan losses 89 60 60 60 Noninterest income 2,003 2,016 1,886 1,599 Noninterest expense 5,777 5,156 4,825 4,656 Income tax expense 695 1,034 1,149 1,042 ------------ ------------ ------------ ------------ Net income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,643 $ 1,870 $ 2,200 $ 1,827 ============ ============ ============ ============ Basic earnings per common share** $ 0.28 $ 0.32 $ 0.38 $ 0.32 ============ ============ ============ ============ Diluted earnings per common share** $ 0.28 $ 0.32 $ 0.38 $ 0.32 ============ ============ ============ ============ Stock and Dividend Information Trading range (per share)* ** Low $ 23.00 $ 17.75 $ 16.88 $ 15.38 High $ 24.50 $ 24.50 $ 17.88 $ 17.50 Dividends declared (per share)** $ 0.08 $ 0.07 $ 0.08 $ 0.07 * The trading range for the first three quarters of 1997 is the bid-asked prices as reported by the market makers for the Company's common stock. The trading range for the fourth quarter of 1997 is the high and low as reported by Bloomberg Business News. The fourth quarter of 1997 is the first full quarter the Company's common stock was traded on Nasdaq. The trading ranges for 1998 are the high and low as obtained from the Nasdaq Stock Market. ** Per share data has been adjusted for a 2-for-1 stock split on April 30, 1998. 8

Consolidated Balance Sheets (in thousands except for share data) - --------------------------------------------------------------------------------------------------------------------------------- December 31 1998 1997 ------------ ------------ ASSETS Cash and due from banks $ 45,933 $ 45,317 Short-term investments 15,575 4,445 ------------ ------------ Total cash and cash equivalents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61,508 49,762 Securities available-for-sale (carried at fair value) 327,658 84,599 Securities held-to-maturity (fair value of $0 at 1998 and $166,079 at 1997) 0 163,559 Real estate mortgages held-for-sale 3,796 1,516 Total loans 538,496 458,634 Less allowance for loan losses 5,510 5,308 ------------ ------------ Net loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 532,986 453,326 Land, premises and equipment, net 26,370 23,108 Accrued income receivable 5,669 4,915 Intangible assets 11,453 9,649 Other assets 9,469 6,044 ------------ ------------ Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 978,909 $ 796,478 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY LIABILITIES Noninterest bearing deposits $ 118,361 $ 92,467 Interest bearing deposits 620,986 520,525 ------------ ------------ Total deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 739,347 612,992 Short-term borrowings Federal funds purchased 0 14,650 Securities sold under agreements to repurchase 110,163 65,467 U.S. Treasury demand notes 1,527 4,000 Other short-term borrowings 24,000 0 ------------ ------------ Total short-term borrowings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 135,690 84,117 Accrued expenses payable 6,503 5,040 Other liabilities 1,589 1,495 Long-term borrowings 21,386 25,367 Guaranteed preferred beneficial interests in Company's subordinated debentures 19,238 19,211 ------------ ------------ Total liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 923,753 748,222 Commitments, off-balance sheet risks and contingencies STOCKHOLDERS' EQUITY Common stock: 90,000,000 shares authorized, no par value, 5,813,984 shares issued, 5,796,918 outstanding as of December 31, 1998; 5,813,984 shares issued, 5,803,232 outstanding as of December 31, 1997 1,453 1,453 Additional paid-in capital 8,537 8,537 Retained earnings 43,652 37,766 Unrealized net gain on securities available-for-sale 1,848 685 Treasury stock, at cost (334) (185) ------------ ------------ Total stockholders' equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 55,156 48,256 ------------ ------------ Total liabilities and stockholders' equity . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 978,909 $ 796,478 ============ ============ The accompanying notes are an integral part of these consolidated financial statements. 9

Consolidated Statements of Income (in thousands except for share data) - ------------------------------------------------------------------------------------------------------------------------------------ Year Ended December 31 1998 1997 1996 ------------ ------------ ------------ NET INTEREST INCOME Interest and fees on loans Taxable $ 44,225 $ 38,265 $ 32,724 Tax-exempt 194 228 246 Interest and dividends on securities Taxable 16,416 12,472 11,348 Tax-exempt 2,313 1,431 1,378 Interest on short-term investments 519 303 245 ------------ ------------ ------------ Total interest income 63,667 52,699 45,941 Interest on deposits 28,154 21,183 18,411 Interest on borrowings Short-term 4,724 4,921 4,213 Long-term 3,213 1,956 1,113 ------------ ------------ ------------ Total interest expense 36,091 28,060 23,737 ------------ ------------ ------------ NET INTEREST INCOME . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27,576 24,639 22,204 Provision for loan losses 480 269 120 ------------ ------------ ------------ NET INTEREST INCOME AFTER PROVISION FOR LOAN LOSSES . . . . . . . . . . . . . . . . 27,096 24,370 22,084 NONINTEREST INCOME Trust income 1,205 1,188 881 Service charges on deposits 4,004 3,369 2,809 Other income 3,277 2,421 1,706 Net gains on the sale of real estate mortgages held-for-sale 1,467 545 412 Net securities gains (losses) 1,256 (19) (9) ------------ ------------ ------------ Total noninterest income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11,209 7,504 5,799 NONINTEREST EXPENSE Salaries and employee benefits 14,076 11,317 9,570 Net occupancy expense 1,866 1,397 1,339 Equipment costs 2,205 1,747 1,616 Other expense 8,344 5,953 5,410 ------------ ------------ ------------ 26,491 20,414 17,935 Total noninterest expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . ------------ ------------ ------------ INCOME BEFORE INCOME TAX EXPENSE 11,814 11,460 9,948 Income tax expense 3,926 3,920 3,504 ------------ ------------ ------------ NET INCOME . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 7,888 $ 7,540 $ 6,444 ============ ============ ============ AVERAGE COMMON SHARES OUTSTANDING 5,813,984 5,813,162 5,792,825 ============ ============ ============ BASIC EARNINGS PER COMMON SHARE $ 1.36 $ 1.30 $ 1.11 ============ ============ ============ DILUTED EARNINGS PER COMMON SHARE $ 1.36 $ 1.30 $ 1.11 ============ ============ ============ The accompanying notes are an integral part of these consolidated financial statements. 10

Consolidated Statements of Changes in Stockholders' Equity (in thousands except for share data) - ---------------------------------------------------------------------------------------------------------------------------------- Year Ended December 31 1998 1997 1996 ------------------------- ------------------------- ------------------------- COMMON STOCK Balance at beginning of the period $ 1,453 $ 1,448 $ 1,438 Issued shares of previously authorized, unissued stock (10,000 - 1997; 10,000 - 1996) 0 5 10 ------------ ------------ ------------ Balance at end of the period . . . . . . . 1,453 1,453 1,448 ADDITIONAL PAID-IN CAPITAL Balance at beginning of the period 8,537 8,232 7,827 Issued shares of previously authorized, unissued stock (10,000 - 1997; 10,000 - 1996) 0 305 405 ------------ ------------ ------------ Balance at end of the period . . . . . . . 8,537 8,537 8,232 . RETAINED EARNINGS Balance at beginning of the period 37,766 31,967 26,858 Net income 7,888 $ 7,888 7,540 $ 7,540 6,444 $ 6,444 Cash dividends declared ($.33, $.30 and $.23) Per share (2,002) (1,741) (1,335) ------------ ------------ ------------ Balance at end of the period . . . . . . . 43,652 37,766 31,967 UNREALIZED NET GAIN ON SECURITIES AVAILABLE-FOR-SALE Balance at beginning of the period 685 396 631 Unrealized gain (loss) on available-for-sale securities arising during the period (573) 289 (235) Reclassification adjustments for accumulated (gains) losses included in net income (759) 0 0 Cumulative effect of adopting SFAS No. 133 2,495 0 0 ------------ ------------ ------------ Other comprehensive income (net of taxes $762, $190 and [$154]) 1,163 1,163 289 289 (235) (235) ------------ ----------- ------------ ----------- ------------ ----------- Balance at end of the period . . . . . . . 1,848 685 396 Total comprehensive income . . . . . . . $ 9,051 $ 7,829 $ 6,209 =========== =========== =========== TREASURY STOCK Balance at beginning of the period (185) 0 0 Acquisition of treasury stock (149) (185) 0 ------------ ------------ ------------ Balance at end of the period . . . . . . (334) (185) 0 ------------ ------------ ------------ TOTAL STOCKHOLDERS' EQUITY . . . . . . . . $ 55,156 $ 48,256 $ 42,043 ============ ============ ============ The accompanying notes are an integral part of these consolidated financial statements. 11

Consolidated Statements of Cash Flows (in thousands) - --------------------------------------------------------------------------------------------------------------------------------- Year Ended December 31 1998 1997 1996 ----------- ------------ ------------- Cash flows from operating activities Net income $ 7,888 $ 7,540 $ 6,444 Adjustments to reconcile net income to net cash from operating activities Depreciation 1,782 1,393 1,277 Provision for loan losses 480 269 120 Write down of other real estate owned 0 19 20 Amortization of intangible assets 942 26 0 Loans originated for sale (65,425) (27,426) (27,599) Net (gain) loss on sale of loans (1,467) (545) (412) Proceeds from sale of loans 64,612 27,350 27,261 Net (gain) loss on sale of premises and equipment (40) 11 3 Net (gain) loss on sale of securities available-for-sale (1,257) 0 0 Net loss on calls of securities held-to-maturity 1 19 9 Net securities amortization 1,379 23 256 Increase (decrease) in taxes payable (1,207) (217) 237 Increase in income receivable (754) (661) (251) Increase in accrued expenses payable 949 224 360 (Increase) decrease in other assets (1,769) 459 (698) Increase in other liabilities 62 427 164 ----------- ------------ ------------ Total adjustments (1,712) 1,371 747 ----------- ------------ ------------ Net cash from operating activities . . . . . . . . . . . . . . . . . . . . . . . 6,176 8,911 7,191 Cash flows from investing activities Proceeds from sale of securities available-for-sale 65,404 0 0 Proceeds from maturities and calls of securities held-to-maturity 45,787 14,557 8,784 Proceeds from maturities and calls of securities available-for-sale 32,980 26,100 14,130 Purchases of securities available-for-sale (89,948) (28,315) (14,429) Purchases of securities held-to-maturity (131,919) (52,946) (20,247) Net (increase) decrease in total loans (80,809) (53,286) (54,934) Proceeds from sales of land, premises and equipment 530 0 0 Purchases of land, premises and equipment (3,950) (5,464) (3,558) Net proceeds (payments) from acquisitions 30,020 58,889 0 ----------- ------------ ------------ Net cash from investing activities . . . . . . . . . . . . . . . . . . . . . . . . (131,905) (40,465) (70,254) Cash flows from financing activities Net increase in total deposits 92,034 21,257 64,619 Proceeds from short-term borrowings 4,740,920 889,826 849,944 Payments on short-term borrowings (4,689,347) (894,089) (838,695) Proceeds from long-term borrowings 20,050 10,000 14,118 Payments on long-term borrowings (24,031) (8,163) (8,019) Dividends paid (2,002) (1,741) (1,335) Proceeds from sale of common stock 0 310 415 Net proceeds from issuance of guaranteed preferred beneficial interests in Company's subordinated debentures 0 19,222 0 Purchase of treasury stock (149) (185) 0 ----------- ------------ ------------ Net cash from financing activities . . . . . . . . . . . . . . . . . . . . . . . . 137,475 36,437 81,047 ----------- ------------ ------------ Net increase in cash and cash equivalents 11,746 4,883 17,984 Cash and cash equivalents at beginning of the year 49,762 44,879 26,895 ----------- ------------ ------------ Cash and cash equivalents at end of year . . . . . . . . . . . . . . . . . . . . . . . $ 61,508 $ 49,762 $ 44,879 =========== ============ ============ Cash paid during the year for: Interest $ 35,228 $ 27,921 $ 23,239 Income taxes $ 3,610 $ 3,918 $ 3,420 Securities transferred from held-to-maturity to available-for-sale $ 249,087 $ 0 $ 0 Loans transferred to other real estate $ 683 $ 284 $ 334 The accompanying notes are an integral part of these consolidated financial statements. 12

Notes to Consolidated Financial Statements - ----------------------------------------------------------------------------- NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Nature of Operations and Principles of Consolidation: The consolidated financial statements include Lakeland Financial Corporation and its wholly-owned subsidiaries, Lake City Bank and Lakeland Capital Trust, together referred to as the "Company". Intercompany transactions and balances are eliminated in consolidation. The Company provides financial services through its subsidiary, Lake City Bank (the Bank), a full-service commercial bank with 42 branch offices in fourteen counties in northern Indiana. Its primary deposit products are checking, savings, and term certificate accounts, and its primary lending products are residential mortgage, commercial, and consumer loans. Substantially all loans are secured by specific items of collateral including business assets, consumer assets and real estate. Commercial loans are expected to be repaid from cash flow from operations of businesses. Real estate loans are secured by both residential and commercial real estate. Other financial instruments which potentially represent concentrations of credit risk include deposit accounts in other financial institutions. Use of Estimates: To prepare financial statements in conformity with generally accepted accounting principles, management makes estimates and assumptions based on available information. These estimates and assumptions affect the amounts reported in the financial statements and the disclosures provided, and future results could differ. The allowance for loan losses, the fair values of financial instruments, and the fair value of mortgage servicing rights are particularly subject to change. Cash Flows: Cash and cash equivalents includes cash, demand deposits in other financial institutions and short-term investments with maturities of 90 days or less. Cash flows are reported net for customer loan and deposit transactions. Securities: Securities are classified as held-to-maturity and carried at amortized cost when management has the positive intent and ability to hold them to maturity. Securities are classified as available-for-sale when they might be sold before maturity. Securities available-for-sale are carried at fair value, with unrealized holding gains and losses reported in other comprehensive income. Trading securities are bought for sale in the near term and are carried at fair value, with changes in unrealized holding gains and losses included in income. Federal Home Loan Bank Stock is carried at cost. The Financial Accounting Standards Board (FASB) issued SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities in June, 1998. The Company adopted SFAS No. 133 as of October 1, 1998. As permitted in SFAS No. 133, on October 1, 1998, the Company transferred securities with an amortized cost of $249,087,000 and a fair value of $253,218,000 from the held-to-maturity portfolio to the available-for-sale portfolio. None of these securities were sold during the fourth quarter of 1998. The Company does not have any derivative instruments nor does the Company have any hedging activities. Interest income includes amortization of purchase premium or discount. Gains and losses on sales are based on the amortized cost of the security sold. Securities are written down to fair value when a decline in fair value is not temporary. Loans: Loans are reported at the principal balance outstanding, net of unearned interest, deferred loan fees and costs, and an allowance for loan losses. Loans held for sale are reported at the lower of cost or market, on an aggregate basis. Interest income is reported on the interest method and includes amortization of net deferred loan fees and costs over the loan term. Interest income is not reported when full loan repayment is in doubt. All unpaid accrued interest is reversed and interest income is subsequently recorded only to the extent cash payments are received. Allowance for Loan Losses: The allowance for loan losses is a valuation allowance for probable credit losses, increased by the provision for loan losses and decreased by charge-offs less recoveries. Management estimates the allowance balance required using past loan loss experience, known and inherent risks in the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions, and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in management's judgment, should be charged-off. A loan is charged-off as a loss when deemed uncollectible, although collection efforts continue and future recoveries may occur. A loan is impaired when full payment under the loan terms is not expected. Impairment is evaluated in total for smaller-balance loans of similar nature such as residential mortgage, consumer, and credit card loans, and on an individual loan basis for other loans. If a loan is impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan's existing rate or at the fair value of collateral if repayment is expected solely from the collateral. Foreclosed Assets: Assets acquired through or instead of loan foreclosure are initially recorded at fair value when acquired, establishing a new cost basis. If fair value declines, a valuation allowance is recorded through expense. Costs after acquisition are expensed. Land, Premises and Equipment: Land, premises and equipment are stated at cost less accumulated depreciation. Depreciation is computed on both straight-line and accelerated methods over the useful lives of the assets. These assets are reviewed for impairment when events indicate the carrying amount may not be recoverable. Servicing Rights: Servicing rights are recognized as assets for the allocated value of retained servicing rights on loans sold. Servicing rights are expensed in proportion to, and over the period of, estimated net servicing revenues. Impairment is evaluated based on the fair value of the rights, using groupings of the underlying loans as to interest rates and then, secondarily, as to geographic and prepayment characteristics. Any impairment of a grouping is reported as a valuation allowance. 13

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued) Intangibles: Purchased intangible assets, primarily goodwill and core deposit value, are recorded at cost and amortized over the estimated life. Goodwill amortization is straight-line over 15 years, and core deposit amortization is accelerated over 12 years. Repurchase Agreements: Substantially all repurchase agreement liabilities represent amounts advanced by various customers. Securities are pledged to cover these liabilities, which are not covered by federal deposit insurance. Benefit Plans: A noncontributory defined benefit pension plan covers substantially all employees. Funding of the plan equals or exceeds the minimum funding requirement determined by the actuary. The projected unit credit cost method is used to determine expense. Benefits are based on years of service and compensation levels. Stock Compensation: There are 600,000 shares of common stock reserved for which stock options may be granted to employees of Lakeland Financial Corporation, its subsidiaries and Board of Directors. These are accounted for under APB No. 25. Pro forma disclosures of net income and earnings per share are shown using the fair value method of SFAS No. 123 to measure expense for options granted using an option pricing model to estimate fair value. Income Taxes: An annual consolidated federal income tax return is filed by the Company. Income tax expense is recorded based on the amount of taxes due on its tax return plus deferred taxes computed based upon the expected future tax consequences of temporary differences between carrying amounts and tax bases of assets and liabilities, using enacted tax rates. A valuation allowance, if needed, reduces deferred tax assets to the amount expected to be realized. Financial Instruments: Financial instruments include credit instruments, such as commitments to make loans and standby letters of credit, issued to meet customer financing needs. The face amount for these items represents the exposure to loss, before considering customer collateral or ability to repay. Earnings Per Common Share: Basic earnings per common share is net income divided by the weighted average number of common shares outstanding during the period. Diluted earnings per common share includes the dilutive effect of additional potential common shares issuable under stock options. Earnings and dividends per share are restated for all stock splits and dividends through the date of issue of the financial statements. The common shares outstanding for the Stockholders' Equity section of the Balance Sheet reflect the acquisition of 17,066 shares of Lakeland Financial Corporation common stock to offset a liability for a directors' deferred compensation plan. These shares are treated as outstanding when computing the weighted-average common shares outstanding for the calculation of both basic and diluted earnings per share. Comprehensive Income: Comprehensive income consists of net income and other comprehensive income. Other comprehensive income includes unrealized gains and losses on securities available-for-sale which are also recognized as separate components of equity. The accounting standard that requires reporting comprehensive income first applies for 1998, with prior information restated to be comparable. Loss Contingencies: Loss contingencies, including claims and legal actions arising 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 will have a material effect on the financial statements. Dividend Restriction: Banking regulations require maintaining certain capital levels and may limit the dividends paid by the Bank to the Company or by the Company to its shareholders. Fair Value of Financial Instruments: Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in a separate note. Fair value estimates involve uncertainties and matters of significant judgment regarding interest rates, credit risk, prepayments, and other factors, especially in the absence of broad markets for particular items. Changes in assumptions or in market conditions could significantly affect the estimates. Industry Segments: Internal financial information is primarily reported and aggregated in the line of business of banking. Reclassifications: Certain amounts appearing in the financial statements and notes thereto for prior periods have been reclassified to conform with the current presentation. The reclassifications had no effect on net income or stockholders' equity as previously reported. 14

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 2 - SECURITIES Information related to the amortized cost and fair value of securities at December 31 is provided in the table below. Unrealized Unrealized Amortized Gross Gross Fair Cost Gains Losses Value ------------ ------------ ------------ ------------ (in thousands) Securities available-for-sale at December 31, 1998 U.S. Treasury securities $ 38,938 $ 751 $ (168) $ 39,521 U.S. Government agencies and corporations 1,990 40 0 2,030 Mortgage-backed securities 225,741 1,086 (913) 225,914 State and municipal securities 56,924 2,312 (124) 59,112 Other debt securities 1,005 76 0 1,081 ------------ ------------ ------------ ------------ Total securities available-for-sale at December 31, 1998 . . . . . $ 324,598 $ 4,265 $ (1,205) $ 327,658 ============ ============ ============ ============ Securities available-for-sale at December 31, 1997 U.S. Treasury securities $ 28,833 $ 468 $ (15) $ 29,286 U.S. Government agencies and corporations 100 0 0 100 Mortgage-backed securities 52,746 734 (171) 53,309 State and municipal securities 1,787 117 0 1,904 ------------ ------------ ------------ ------------ Total securities available-for-sale at December 31, 1997 . . . . . $ 83,466 $ 1,319 $ (186) $ 84,599 ============ ============ ============ ============ Securities held-to-maturity at December 31, 1997 U.S. Treasury securities $ 21,170 $ 344 $ (13) $ 21,501 U.S. Government agencies and corporations 2,176 70 0 2,246 Mortgage-backed securities 116,788 713 (316) 117,185 State and municipal securities 22,418 1,628 (2) 24,044 Other debt securities 1,007 96 0 1,103 ------------ ------------ ------------ ------------ Total securities held-to-maturity at December 31, 1997 . . . . . . $ 163,559 $ 2,851 $ (331) $ 166,079 ============ ============ ============ ============ Information regarding the amortized cost and fair value of debt securities by maturity as of December 31, 1998, is presented below. Maturity information is based on contractual maturity for all securities other than mortgage-backed securities. Actual maturities of securities may differ from contractual maturities because borrowers may have the right to prepay the obligation without prepayment penalty. Available-for-Sale December 31, 1998 -------------------------- Amortized Fair Cost Value ------------ ------------ (in thousands) Due in one year or less $ 7,210 $ 7,277 Due after one year through five years 35,287 35,922 Due after five years through ten years 5,968 6,468 Due after ten years 50,392 52,077 ------------ ------------ 98,857 101,744 Mortgage-backed securities 225,741 225,914 ------------ ------------ Total debt securities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 324,598 $ 327,658 ============ ============ 15

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 2 - SECURITIES (continued) Security proceeds, gross gains and gross losses for 1998, 1997 and 1996 were as follows: 1998 1997 1996 ----------- ------------ ------------ (in thousands) Sales and calls of securities available-for-sale Proceeds $ 66,197 $ 100 $ 650 Gross gains 1,257 0 0 Gross losses 0 0 0 Calls of securities held-to-maturity Proceeds $ 1,532 $ 638 $ 802 Gross gains 0 0 0 Gross losses (1) 19 9 Securities with carrying values of $143,450,000 and $122,482,000 were pledged as of December 31, 1998 and 1997, as collateral for deposits of public funds, securities sold under agreements to repurchase and for other purposes as permitted or required by law. NOTE 3 - LOANS Total loans outstanding as of December 31, 1998 and 1997, consisted of the following: 1998 1997 ------------ ------------ (in thousands) Commercial and industrial loans $ 301,682 $ 237,132 Agri-business and agricultural loans 45,043 35,820 Real estate mortgage loans 57,580 62,279 Real estate construction loans 2,975 3,089 Installment loans and credit cards 131,216 120,314 ------------ ------------ Total loans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 538,496 $ 458,634 ============ ============ NOTE 4 - ALLOWANCE FOR LOAN LOSSES The following is an analysis of the allowance for loan losses for 1998, 1997 and 1996: 1998 1997 1996 ------------ ------------ ------------ (in thousands) Balance, January 1 $ 5,308 $ 5,306 $ 5,472 Provision for loan losses 480 269 120 Loans charged-off 416 359 368 Recoveries 138 92 82 ------------ ------------ ------------ Net loans charged-off 278 267 286 ------------ ------------ ------------ Balance, December 31 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 5,510 $ 5,308 $ 5,306 ============ ============ ============ Nonaccrual loans at December 31, 1998, 1997 and 1996, totaled $0, $1,058,000 and $384,000. Interest lost on nonaccrual loans was approximately $42,000, $44,000 and $35,000 for 1998, 1997 and 1996. Loans renegotiated as troubled debt restructuring totaled $1,281,000 and $1,377,000 as of December 31, 1998 and 1997. Interest income of $84,000, $92,000 and $85,000 was recognized in 1998, 1997 and 1996. Had these loans been performing under the original contract terms, an additional $47,000 would have been reflected in interest income during 1998, $50,000 in 1997 and $44,000 in 1996. The Company is not committed to lend additional funds to debtors whose loans have been modified. At December 31, 1998, 1997 and 1996, the Company had no loans meeting the definition of impaired. One loan was classified as impaired during 1998, but was repaid prior to year-end. NOTE 5 - SECONDARY MORTGAGE MARKET ACTIVITIES Mortgage loans serviced for others are not included in the accompanying consolidated balance sheets. The unpaid principal balances of these loans were $106,392,000 and $68,028,000 at December 31, 1998 and 1997, respectively. Net loan servicing income was $11,000, $98,000 and $96,000 for 1998, 1997 and 1996. Information on mortgage servicing rights follows: 1998 1997 ------------ ------------ (in thousands) Beginning of year $ 425 $ 205 Originations 754 268 Amortization (171) (48) ------------ ------------ End of year . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 1,008 $ 425 ============ ============ 16

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 6 - LAND, PREMISES AND EQUIPMENT, NET Land, premises and equipment and related accumulated depreciation were as follows at December 31: 1998 1997 ------------ ------------ (in thousands) Land $ 6,274 $ 5,953 Premises 18,269 15,915 Equipment 13,059 11,227 ------------ ------------ Total cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 37,602 33,095 Less accumulated depreciation 11,232 9,987 ------------ ------------ Land, premises and equipment, net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 26,370 $ 23,108 ============ ============ NOTE 7 - DEPOSITS The aggregate amount of time deposits, each with a minimum denomination of $100,000, was approximately $153,991,000 and $108,497,000 at December 31, 1998 and 1997. At December 31, 1998, the scheduled maturities of time deposits were as follows: Amount ------------ (in thousands) Maturing in 1999 $ 425,808 Maturing in 2000 47,775 Maturing in 2001 13,619 Maturing in 2002 7,029 Maturing in 2003 4,292 Thereafter 1,634 ------------ Total time deposits . . . . . . . . . . . . . . . . . . . . . $ 500,157 ============ NOTE 8 - SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE Securities sold under agreements to repurchase (repo accounts) represent collateralized borrowings with customers located primarily within the Company's trade area. Repo accounts are not covered by federal deposit insurance and are secured by securities owned. Information on these liabilities and the related collateral for 1998 and 1997 is as follows: 1998 1997 ------------ ------------ (in thousands) Average balance during the year $ 84,157 $ 83,732 Average interest rate during the year 5.19% 5.45% Maximum month-end balance during the year $ 110,163 $ 98,917 Securities underlying the agreements at year-end Amortized cost $ 112,301 $ 66,183 Fair value $ 113,078 $ 67,258 Collateral Value ------------------------------------------------------ U.S. Treasury Mortgage-backed Weighted Securities Securities Average -------------------------- -------------------------- Repurchase Interest Amortized Fair Amortized Fair Term Liability Rate Cost Value Cost Value - ------------------------------------------- ------------ --------------- ------------ ------------ ------------ ------------ (in thousands) (in thousands) On demand $ 68,322 4.21% $ 523 $ 520 $ 68,795 $ 69,158 1 to 30 days 4,016 5.08 606 616 3,579 3,580 31 to 90 days 7,600 5.60 1,615 1,633 6,218 6,222 Over 90 days 30,225 5.83 22,000 22,337 8,965 9,012 ------------ --------------- ------------ ------------ ------------ ------------ Total . . . . . . . . . . . . . . . . . $ 110,163 4.78% $ 24,744 $ 25,106 $ 87,557 $ 87,972 ============ =============== ============ ============ ============ ============ The Company retains the right to substitute similar type securities, and has the right to withdraw all collateral applicable to repo accounts whenever the collateral values are in excess of the related repurchase liabilities. At December 31, 1998, there were no material amounts of securities at risk with any one customer. The Company maintains control of these securities through the use of third-party safekeeping arrangements. 17

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 9 - LONG -TERM BORROWINGS Long-term borrowings at December 31 consisted of: 1998 1997 ------------ ------------ (in thousands) Federal Home Loan Bank of Indianapolis Notes, Variable Rate, Due April 27, 1998 $ 0 $ 10,000 Federal Home Loan Bank of Indianapolis Notes, 5.92%, Due December 7, 1998 0 4,000 Federal Home Loan Bank of Indianapolis Notes, 5.50%, Due December 28, 1998 0 10,000 Federal Home Loan Bank of Indianapolis Notes, Variable Rate, Due April 27, 1999 10,000 0 Federal Home Loan Bank of Indianapolis Notes, 5,25%, Due December 28, 2001 10,000 0 Federal Home Loan Bank of Indianapolis Notes, 6.15%, Due June 24, 2003 1,300 1,300 Federal Home Loan Bank of Indianapolis Notes, 6.15%, Due January 15, 2018 50 0 Capital Leases 36 67 ------------ ------------ Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 21,386 $ 25,367 ============ ============ All notes require monthly interest payments and were secured by residential real estate loans and securities with a carrying value of $179,766,000 at December 31, 1998. At December 31, 1998, the Company owned $2,844,100 of Federal Home Loan Bank (FHLB) stock, which also secures debts to the FHLB. The capital leases had original terms of approximately three years and require monthly payments. In addition to the long-term borrowings, the Company has a $24 million variable rate FHLB note due June 6, 1999. This note is classified as a short-term borrowing in the financial statements. The Company is authorized to borrow up to $100 million from the FHLB. NOTE 10 - GUARANTEED PREFERRED BENEFICIAL INTERESTS In September 1997, Lakeland Capital Trust (Lakeland Trust) completed a public offering of 2 million shares of cumulative trust preferred securities (Preferred Securities) with a liquidation preference of $10 per security. The proceeds of the offering were loaned to the Company in exchange for subordinated debentures with terms similar to the Preferred Securities. The sole assets of Lakeland Trust are the subordinated debentures of the Company and payments thereunder. The subordinated debentures and the back-up obligations, in the aggregate, constitute a full and unconditional guarantee by the Company of the obligations of Lakeland Trust under the Preferred Securities. Distributions on the securities are payable quarterly at the annual rate of 9% of the liquidation preference and are included in interest expense in the consolidated financial statements. These securities are considered as Tier I capital (with certain limitations applicable) under current regulatory guidelines. As of December 31, 1998, the outstanding principal balance of the subordinated debentures was $20,619,000. The principal balance of the subordinated debentures less the unamortized issuance costs constitute the guaranteed preferred beneficial interests in the Company's subordinated debentures in the financial statements. The Preferred Securities are subject to mandatory redemption, in whole or in part, upon repayment of the subordinated debentures at maturity or their earlier redemption at the liquidation preference. Subject to the Company having received prior approval of the Federal Reserve if then required, the subordinated debentures are redeemable prior to the maturity date of September 30, 2027 at the option of the Company on or after September 30, 2002, or upon occurrence of specific events defined within the trust indenture. The Company has the option to defer distributions on the subordinated debentures from time to time for a period not to exceed 20 consecutive quarters. NOTE 11 - EMPLOYEE BENEFIT PLANS Information as to the Company's pension plan at December 31 is as follows: 1998 1997 ------------ ------------ (in thousands) Change in benefit obligation: Beginning benefit obligation $ 1,949 $ 1,544 Service cost 177 165 Interest cost 149 130 Actuarial gain 276 177 Benefits paid (143) (67) ------------ ------------ Ending benefit obligation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,408 1,949 Change in plan assets (primarily money market funds and equity and fixed income investments), at fair value: Beginning plan assets 1,640 1,151 Actual return (68) 306 Employer contribution 535 250 Benefits paid (143) (67) ------------ ------------ Ending plan assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,964 1,640 ------------ ------------ Funded status (444) (309) Unrecognized net actuarial loss 466 2 Unrecognized prior service cost (24) (27) ------------ ------------ Prepaid (accrued) benefit cost . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (2) $ (334) ============ ============ 18

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 11 - EMPLOYEE BENEFIT PLANS (continued) Net pension expense includes the following: 1998 1997 1996 ------------ ------------ ------------ (in thousands) Service cost $ 190 $ 178 $ 162 Interest cost 144 120 105 Expected return on plan assets (133) (306) (90) Recognized net actuarial (gain) loss 2 197 (9) ------------ ------------ ------------ Net pension expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 203 $ 189 $ 168 ============ ============ ============ The following assumptions were used in calculating the net pension expense: Weighted average discount rate 6.75% 7.25% 7.75% Rate of increase in future compensation 4.50% 4.50% 4.50% Expected long-term rate of return 8.00% 8.00% 8.00% The Company maintains a 401(k) profit sharing plan for all employees meeting age and service requirements. The Company contributions are based upon the rate of return on January 1 stockholders' equity. The expense recognized was $401,000, $393,000 and $532,000 in 1998, 1997 and 1996. NOTE 12 - OTHER EXPENSE Other expense for the years ended December 31, was as follows: 1998 1997 1996 ------------ ------------ ------------ (in thousands) Data processing fees and supplies $ 1,605 $ 1,151 $ 1,098 Corporate and business development 1,172 1,034 932 Office supplies 488 633 641 Telephone and postage 1,377 833 729 Regulatory fees and FDIC insurance 138 122 57 Miscellaneous 3,564 2,180 1,953 ------------ ------------ ------------ Total other expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 8,344 $ 5,953 $ 5,410 ============ ============ ============ NOTE 13 - INCOME TAXES Income tax expense consisted of the following: 1998 1997 1996 ------------ ------------ ------------ (in thousands) Current federal $ 2,829 $ 2,881 $ 2,503 Deferred federal 54 100 107 Current state 982 906 808 Deferred state 61 33 86 ------------ ------------ ------------ Total income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,926 $ 3,920 $ 3,504 ============ ============ ============ Income tax expense (credit) included $498,000, $(8,000) and $(3,000) applicable to security transactions for 1998, 1997 and 1996. The differences between financial statement tax expense and amounts computed by applying the statutory federal income tax rate of 34% for all three years to income before income taxes were as follows: 1998 1997 1996 ------------ ------------ ------------ (in thousands) Income taxes at statutory federal rate $ 4,017 $ 3,896 $ 3,382 Increase (decrease) in taxes resulting from: Tax exempt income (839) (554) (540) Nondeductible expense 192 135 140 State income tax, net of federal tax effect 688 661 590 Net operating loss, Gateway (29) (29) (29) Tax credits (33) (23) (22) Other (70) (166) (17) ------------ ------------ ------------ Total income tax expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,926 $ 3,920 $ 3,504 ============ ============ ============ 19

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 13 - INCOME TAXES (continued) The net deferred tax asset recorded in the consolidated balance sheets at December 31 consisted of the following: 1998 1997 --------------------------- -------------------------- Federal State Federal State ------------- ------------- ------------ ------------ (in thousands) Deferred tax assets Bad debts $ 1,809 $ 452 $ 1,528 $ 430 ORE 0 0 97 24 Pension and deferred compensation liability 460 115 440 110 Net operating loss carryforward 317 0 346 0 Other 161 41 75 20 ------------- ------------- ------------ ------------ 2,747 608 2,486 584 Deferred tax liabilities Accretion 103 26 148 37 Depreciation 372 93 284 71 Mortgage servicing rights 343 86 145 36 State taxes 107 0 128 0 Leases 165 41 169 42 Deferred loan fees 186 46 82 20 Other 0 0 5 1 ------------- ------------- ------------ ------------ 1,276 292 961 207 Valuation allowance 172 0 172 0 ------------- ------------- ------------ ------------ Net deferred tax asset . . . . . . . . . . . . . . . . . . . . . . . . $ 1,299 $ 316 $ 1,353 $ 377 ============= ============= ============ ============ In addition to the net deferred tax assets included above, income taxes (credits) allocated to the unrealized net gain (loss) account included in equity were $1,212,000 and $450,000 for 1998 and 1997. NOTE 14 - ACQUISITIONS On February 20, 1998, the Company acquired the Peru, Indiana and Greentown, Indiana offices of National City Bank. These acquisitions were accounted for using the purchase method of accounting. The results of the operations of the acquired offices are included in the income statement of the Company beginning as of the purchase date. The branch acquisitions were not considered to be acquisitions of a business since, among other things, approximately 87% of the $34,335,000 in assets received were in the form of cash and only a relatively small portion of the assets were in the form of loans. The future earnings from the assets acquired will be primarily dependent on the effective use of the cash and, thus, historical operating results of the branches acquired would not be indicative of future results. Accordingly, only summary information regarding the effect of the acquisition on the balance sheet is presented below: (in thousands) Assets ---------------- Cash and due from banks $ 30,020 Loans 14 Land, premises and equipment 1,584 Intangible assets 2,717 Liabilities Deposits $ 34,321 Other liabilities 14 On November 3, 1997, the Company acquired the Huntington, Indiana office of 1st Chicago/NBD. On December 8, 1997, the Company acquired Indiana offices in Columbia City, Kendallville, Ligonier, Logansport, Medaryville and Rochester from KeyCorp. Subsequent to the acquisitions, the Company closed the Rochester office acquired from KeyCorp and the Company's previously existing office in Columbia City. These acquisitions were accounted for using the purchase method of accounting. The results of the operations of the acquired offices are included in the income statement of the Company beginning as of the respective purchase dates. The branch acquisitions were not considered to be acquisitions of a business since, among other things, approximately 62% of the $95,235,000 in assets received were in the form of cash and only a relatively small portion of the assets were in the form of loans. The future earnings from the assets acquired will be primarily dependent on the effective use of the cash and, thus, historical operating results of the branches acquired would not be indicative of future results. Accordingly, only summary information regarding the effect of the acquisitions on the balance sheet is presented below: (in thousands) ---------------- Assets Cash and due from banks $ 58,889 Loans 23,591 Land, premises and equipment 3,076 Intangible assets 9,675 Other assets 4 Liabilities Deposits $ 95,181 Other liabilities 54 20

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 15 - RELATED PARTY TRANSACTIONS Loans to principal officers, directors, and their affiliates in 1998 were as follows: (in thousands) ---------------- Beginning balance $ 18,378 New loans and advances 64,226 Effect of changes in related parties (4,216) Repayments (57,384) ---------------- Ending balance . . . . . . . . . . . . . . . . . . . . . . . $ 21,004 ================ Deposits from principal officers, directors, and their affiliates at year-end 1998 and 1997 were $9,579,000 and $7,852,000. NOTE 16 - STOCK OPTIONS A stock option plan was approved by shareholders at their annual meeting in April, 1998. The exercise price for the options is the market price at the date the options are granted. The maximum option term is ten years and the options vest over 3 to 5 years. A summary of the activity in the plan follows: 1998 -------------------------- Weighted- Average Exercise Shares Price ------------ ------------ Outstanding at beginning of the year 0 $ 0.00 Granted 195,145 24.60 Exercised 0 0.00 Forfeited 6,210 24.38 ------------ ------------ Outstanding at end of the year . . . . . . . . 188,935 $ 24.60 ============ ============ Options exercisable at end of the year 925 $ 28.00 Weighted-average fair value of options granted during the year $ 9.80 Options outstanding at year-end 1998 were as follows: Outstanding Exercisable --------------------------- -------------------------- Weighted- Average Weighted- Remaining Average Contractual Exercise Number Life Number Price ------------- ------------- ------------ ------------ Range of exercise prices $22.40 - $25.20 167,660 9.3 0 $25.21 - $28.00 21,275 9.0 925 $ 28.00 ------------- ------------- ------------ ------------ Outstanding at year-end . . . . . . . . . . . . . . . . . . . . . . . . 188,935 9.3 925 $ 28.00 ============= ============= ============ ============ Had compensation cost for stock options been measured using SFAS No. 123, net income and earnings per common share would have been the pro forma amounts indicated below. The pro forma effect may increase in the future if more options are granted. 1998 ------------ Net income (in thousands) as reported $ 7,888 Pro forma net income (in thousands) 7,752 Basic earnings per common share as reported $ 1.36 Pro forma basic earnings per common share $ 1.30 Diluted earnings per common share as reported $ 1.36 Pro forma diluted earnings per common share $ 1.30 21

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 16 - STOCK OPTIONS (continued) The pro forma effects are computed using option pricing models, using the following weighted-average assumptions as of the grant date: 1998 ------------ Risk-free interest rate 5.53% Expected option life 4.91 years Expected price volatility 40.75% Dividend yield 1.44% NOTE 17 - CAPITAL REQUIREMENTS AND RESTRICTIONS ON RETAINED EARNINGS The Company and Bank are subject to various regulatory capital requirements administered by federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly discretionary, actions by regulators that, if undertaken, could have a direct material effect on the financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the Company and Bank 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 weighting, and other factors. Quantitative measures established by regulation to ensure capital adequacy require the Company and Bank 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 (as defined), and of Tier I capital (as defined) to average assets (as defined). Management believes, as of December 31, 1998 and 1997, that the Company and Bank meet all capital adequacy requirements to which they are subject. As of December 31, 1998, the most recent notification from the federal regulators categorized the Company and Bank as well capitalized under the regulatory framework for prompt corrective action. To be categorized as well capitalized, the Company and Bank must maintain minimum total risk-based, Tier I risk-based, and Tier I leverage ratios as set forth in the table. There are no conditions or events since that notification that management believes have changed the Company's or Bank's category. Minimum Required To Minimum Required Be Well Capitalized For Capital Under Prompt Corrective Actual Adequacy Purposes Action Regulations ----------------------- ----------------------- ----------------------- Amount Ratio Amount Ratio Amount Ratio ------------ --------- ------------ --------- ------------- --------- (in thousands) As of December 31, 1998 Total Capital (to Risk Weighted Assets) Consolidated $ 67,264 10.83% >=$ 49,703 >= 8.00% >=$ 62,129 >= 10.00% Bank $ 66,535 10.71% >=$ 49,687 >= 8.00% >=$ 62,109 >= 10.00% Tier I Capital (to Risk Weighted Assets) Consolidated $ 59,524 9.58% >=$ 24,851 >= 4.00% >=$ 37,277 >= 6.00% Bank $ 61,025 9.83% >=$ 24,844 >= 4.00% >=$ 37,265 >= 6.00% Tier I Capital (to Average Assets) Consolidated $ 59,524 6.39% >=$ 37,286 >= 4.00% >=$ 46,607 >= 5.00% Bank $ 61,025 6.55% >=$ 37,290 >= 4.00% >=$ 46,612 >= 5.00% As of December 31, 1997 Total Capital (to Risk Weighted Assets) Consolidated $ 63,188 12.42% >=$ 40,710 >= 8.00% >=$ 50,887 >= 10.00% Bank $ 61,326 12.06% >=$ 40,692 >= 8.00% >=$ 50,865 >= 10.00% Tier I Capital (to Risk Weighted Assets) Consolidated $ 53,736 10.56% >=$ 20,355 >= 4.00% >=$ 30,532 >= 6.00% Bank $ 56,017 11.01% >=$ 20,346 >= 4.00% >=$ 30,519 >= 6.00% Tier I Capital (to Average Assets) Consolidated $ 53,736 7.41% >=$ 28,994 >= 4.00% >=$ 36,243 >= 5.00% Bank $ 56,017 7.73% >=$ 29,000 >= 4.00% >=$ 36,249 >= 5.00% 22

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 18 - FAIR VALUES OF FINANCIAL INSTRUMENTS The following table contains the estimated fair values and the related carrying values of the Company's financial instruments at December 31, 1998 and 1997. Items which are not financial instruments are not included. 1998 1997 -------------------------- -------------------------- Carrying Estimated Carrying Estimated Value Fair Value Value Fair Value ------------ ------------ ------------ ------------ (in thousands) Assets: Cash and cash equivalents $ 61,508 $ 61,508 $ 49,762 $ 49,762 Real estate mortgages held-for-sale 3,796 3,796 1,516 1,533 Securities available-for-sale 327,658 327,658 84,599 84,599 Securities held-to-maturity 0 0 163,559 166,079 Loans, net 532,986 537,223 453,326 450,542 Accrued income receivable 5,669 5,669 4,915 4,915 Mortgage servicing rights 1,008 1,008 425 425 Liabilities: Certificates of deposit (500,157) (502,823) (393,620) (394,543) All other deposits (239,190) (239,190) (219,372) (219,372) Securities sold under agreements to repurchase (110,163) (111,311) (65,467) (65,557) Other short-term borrowings (25,527) (25,527) (18,650) (18,650) Long-term debt (21,386) (21,568) (25,367) (25,442) Guaranteed preferred beneficial interests in Company's (19,238) (22,500) (19,211) (20,187) subordinated debentures Accrued expenses payable (6,503) (6,503) (5,040) (5,040) For purposes of the above disclosures of estimated fair value, the following assumptions were used as of December 31, 1998 and 1997. The estimated fair value for cash, cash equivalents and accruals is considered to approximate cost. Real estate mortgages held-for-sale are based upon either the actual contracted price for those loans sold but not yet delivered, or the current FHLMC price for normal delivery of mortgages with similar coupons and maturities at year-end. The estimated fair value for securities and guaranteed preferred beneficial interests in Company's subordinated debentures are based on quoted market rates for individual securities or for equivalent quality, coupon and maturity securities. The estimated fair value of loans is based on estimates of the rate the Company would charge for similar loans at December 31, 1998 and 1997, applied for the time period until estimated repayment. The estimated fair value of mortgage servicing rights is based upon valuation methodology which considers current market conditions and historical performance of the loans being serviced. The estimated fair value for demand and savings deposits is based on their carrying value. The estimated fair value for certificates of deposit and borrowings is based on estimates of the rate the Company would pay on such deposits or borrowings at December 31, 1998 and 1997, applied for the time period until maturity. The estimated fair value of short-term borrowed funds is considered to approximate carrying value. The estimated fair value of other financial instruments and off-balance sheet loan commitments approximate cost and are not considered significant to this presentation. While these estimates of fair value are based on management's judgment of the most appropriate factors, there is no assurance that were the Company to have disposed of such items at December 31, 1998 and 1997, the estimated fair values would necessarily have been achieved at that date, since market values may differ depending on various circumstances. The estimated fair values at December 31, 1998 and 1997, should not necessarily be considered to apply at subsequent dates. In addition, other assets and liabilities of the Company that are not defined as financial instruments are not included in the above disclosures, such as land, premises and equipment. Also, non-financial instruments typically not recognized in financial statements nevertheless may have value but are not included in the above disclosures. These include, among other items, the estimated earnings power of core deposit accounts, the earnings potential of the Company's trust department, the trained work force, customer goodwill and similar items. NOTE 19 - COMMITMENTS, OFF-BALANCE SHEET RISKS AND CONTINGENCIES During the normal course of business, the Company becomes a party to financial instruments with off-balance sheet risk in order to meet the financing needs of its customers. These financial instruments include commitments to make loans and open-ended revolving lines of credit. Amounts as of December 31, 1998 and 1997, were as follows: 1998 1997 -------------------------- -------------------------- Fixed Variable Fixed Variable Rate Rate Rate Rate ------------ ------------ ------------ ------------ (in thousands) Commercial loan lines of credit $ 16,783 $ 124,975 $ 6,503 $ 102,822 Commercial loan standby letters of credit 0 14,186 0 11,959 Real estate mortgage loans 4,473 908 1,185 586 Real estate construction mortgage loans 0 2,237 0 2,211 Credit card open-ended revolving lines 5,514 0 5,161 0 Home equity mortgage open-ended revolving lines 0 29,178 0 26,548 Consumer loan open-ended revolving lines 0 4,185 0 3,877 ------------ ------------ ------------ ------------ Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 26,770 $ 175,669 $ 12,849 $ 148,003 ============ ============ ============ ============ 23

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 19 - COMMITMENTS, OFF-BALANCE SHEET RISKS AND CONTINGENCIES (continued) At December 31, 1998 and 1997, the range of interest rates for commercial loan commitments with a fixed rate was 4.92% to 12.50% and 7.86% to 12.50%. The range of interest rates for commercial loan commitments with variable rates was 7.00% to 11.75% and 7.50% to 12.50% at December 31, 1998 and 1997. The index on variable rate commercial loan commitments is principally the Company's base rate. Commitments, excluding open-ended revolving lines, generally have fixed expiration dates of one year or less. Credit card open-ended revolving lines of credit are normally reviewed bi-annually and other personal lines of credit are normally reviewed annually. Since many commitments expire without being drawn upon, the total commitment amount does not necessarily represent future cash requirements. The Company follows the same credit policy (including requiring collateral, if deemed appropriate) to make such commitments as is followed for those loans that are recorded in its financial statements. The Company's exposure to credit losses in the event of nonperformance is represented by the contractual amount of the commitments. Management does not expect any losses as a result of these commitments. There are presently no lawsuits which, in the opinion of management and legal counsel, would have a material affect on the financial statements. NOTE 20 - PARENT COMPANY STATEMENTS The Company operates primarily in the banking industry, which accounts for 100 percent of its revenues, operating income, and assets. Presented below are parent only financial statements: CONDENSED BALANCE SHEETS December 31 -------------------------- 1998 1997 ------------ ------------ (in thousands) ASSETS Deposits with Lake City Bank $ 113 $ 1,420 Investment in subsidiaries 75,045 67,013 Other assets 1,108 577 ------------ ------------ Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 76,266 $ 69,010 ============ ============ LIABILITIES Dividends payable and other liabilities $ 491 $ 135 Subordinated debt 20,619 20,619 STOCKHOLDERS' EQUITY 55,156 48,256 ------------ ------------ Total liabilities and stockholders' equity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 76,266 $ 69,010 ============ ============ CONDENSED STATEMENTS OF INCOME Years Ended December 31 ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ (in thousands) Dividends from Lake City Bank $ 2,182 $ 982 $ 1,091 Interest on deposits and repurchase agreements, Lake City Bank 6 24 24 Equity in undistributed income of subsidiaries 6,870 7,085 5,353 Interest expense on subordinated debt 1,800 655 0 Miscellaneous expense 134 242 17 ------------ ------------ ------------ INCOME BEFORE INCOME TAXES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7,124 7,194 6,451 Income tax expense (benefit) (764) (346) 7 ------------ ------------ ------------ NET INCOME . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 7,888 $ 7,540 $ 6,444 ============ ============ ============ 24

Notes to Consolidated Financial Statements (continued) - ----------------------------------------------------------------------------- NOTE 20 - PARENT COMPANY STATEMENTS (continued) CONDENSED STATEMENTS OF CASH FLOWS Years Ended December 31 ---------------------------------------- 1998 1997 1996 ------------ ------------ ------------ (in thousands) Cash flows from operating activities Net income $ 7,888 $ 7,540 $ 6,444 Adjustments to net cash from operating activities Equity in undistributed income of subsidiaries (6,870) (7,085) (5,353) Other changes (175) (770) 70 ------------ ------------ ------------ Net cash from operating activities . . . . . . . . . . . . . . . . . . . . . . 843 (315) 1,161 Cash flows from investing activities 0 (17,283) (251) Cash flows from financing activities (2,150) 19,003 (920) ------------ ------------ ------------ Net increase (decrease) in cash and cash equivalents . . . . . . . . . . . . . . . . . (1,307) 1,405 (10) Cash and cash equivalents at beginning of the year 1,420 15 25 ------------ ------------ ------------ Cash and cash equivalents at end of the year. . . . . . . . . . . . . . . . . . . . . . $ 113 $ 1,420 $ 15 ============ ============ ============ NOTE 21 - EARNINGS PER SHARE Following are the factors used in the earnings per share computations: 1998 1997 1996 ------------ ------------ ------------ Basic earnings per common share Net income $ 7,888 $ 7,540 $ 6,444 Weighted-average common shares outstanding 5,813,984 5,813,162 5,792,825 Basic earnings per common share $ 1.36 $ 1.30 $ 1.11 Diluted earnings per common share Net income $ 7,888 $ 7,540 $ 6,444 Weighted-average common shares outstanding for basic earnings per common share 5,813,984 5,813,162 5,792,825 Add: Dilutive effect of assumed exercises of stock options 0 0 0 Average shares and dilutive potential common shares 5,813,984 5,813,162 5,792,825 Diluted earnings per common share $ 1.36 $ 1.30 $ 1.11 All stock options for shares of common stock were not considered in computing diluted earnings per common share for 1998 because they were antidilutive. 25

REPORT OF INDEPENDENT AUDITORS - ----------------------------------------------------------------------------- Stockholders and Board of Directors Lakeland Financial Corporation Warsaw, Indiana We have audited the accompanying consolidated balance sheets of Lakeland Financial Corporation and subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of income, changes in stockholders' equity and cash flows for the years ended December 31, 1998, 1997 and 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Lakeland Financial Corporation and subsidiaries as of December 31, 1998 and 1997, and the results of their operations and their cash flows for the years ended December 31, 1998, 1997 and 1996, in conformity with generally accepted accounting principles. Crowe, Chizek and Company LLP South Bend, Indiana January 15, 1999 MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS - ----------------------------------------------------------------------------- Management is responsible for the preparation of the Company's consolidated financial statements and related information appearing in this annual report. Management believes that the consolidated financial statements fairly reflect the form and substance of transactions and that the financial statements reasonably present the Company's financial position and results of operations and were prepared in conformity with generally accepted accounting principles. Management also has included in the Company's financial statements, amounts that are based on estimates and judgments which it believes are reasonable under the circumstances. The Company maintains a system of internal controls designed to provide reasonable assurance that all assets are safeguarded, financial records are reliable for preparing consolidated financial statements and the Company complies with laws and regulations relating to safety and soundness which are designated by the FDIC and other appropriate federal banking agencies. The selection and training of qualified personnel and the establishment and communication of accounting and administrative policies and procedures are elements of this control system. The effectiveness of the internal control system is monitored by a program of internal audit and by independent certified public accountants ('independent auditors'). Management recognizes that the cost of a system of internal controls should not exceed the benefits derived and that there are inherent limitations to be considered in the potential effectiveness of any system. Management believes the Company's system provides the appropriate balance between costs of controls and the related benefits. The independent auditors have audited the Company's consolidated financial statements in accordance with generally accepted auditing standards and provide an objective, independent review of the fairness of the reported operating results and financial position. The Board of Directors of the Company has an Audit Review Committee composed of five non-management Directors. The Committee meets periodically with the internal auditors and the independent auditors. 26

Management's Discussion and Analysis of Financial Condition and Results of Operations - ----------------------------------------------------------------------------- FINANCIAL CONDITION Growth and Expansion Company growth continues to be strong. Through branch acquisitions and establishing de novo offices, the Company has added nineteen new offices in the last five years. The Company's primary market area now comprises 14 counties in north central Indiana being served by 42 offices. Total assets totaled $979 million at year-end 1998, representing a 22.9 percent increase over year-end 1997. This exceptional growth reflects economic vitality in the markets we serve and the benefits we derive from being a locally owned and operated community bank. The rapid consolidation of banks in northern Indiana has resulted in greater customer dissatisfaction with the service provided by large regional banks. This dissatisfaction has contributed greatly to the Company's recent loan and deposit growth. In 1999, the Company will open its first office in Allen County. This market includes Ft. Wayne, the second largest city in the state. Bank consolidation has been very rapid in Ft. Wayne, and we expect that customer acceptance of our Company will be positive over the next several years. The Company continues to evaluate other expansion opportunities throughout northern Indiana, with an emphasis on markets that would be receptive to our local, hometown business philosophy. Liquidity Management maintains a liquidity position to ensure funding is available to provide for loan demand and deposit run-off that occurs in the normal course of business. The Company relies on various funding sources in order to meet these demands. Primary sources include increases in deposit accounts and cash flows from loan payments and the securities portfolio. The cash flow from the securities portfolio alone, given current prepayment assumptions, is anticipated to be approximately $63.7 million in 1999. In addition to the primary sources of funds, management can draw upon several secondary sources to meet any unusual demands including potential demand created by customer concerns about Year 2000 issues. The Company has been taking the necessary actions to prepare for the Year 2000, but management is aware there may possibly be additional demands for funds, especially in the later part of 1999, if customers take precautionary measures for the Year 2000. The Company has $58 million in Federal fund lines with correspondent banks, which can be used to meet immediate needs. The Company has also been authorized to borrow up to $100 million at the Federal Home Loan Bank of Indianapolis. On October 1, 1998, the Company transferred all securities in its held-to-maturity (HTM) portfolio to its available-for-sale (AFS) portfolio as permitted by the early adoption of SFAS No. 133. This increases the possible sources the Company may access since these securities may be sold to meet any funding demands. All securities in the AFS portfolio are high quality and easily marketable. Approximately 81.5 percent of this portfolio are U.S. Treasury securities, Federal agency securities or mortgage-backed securities directly or indirectly backed by the Federal government. The Company also sells mortgage loans on the secondary market to reduce interest rate risk and as a source of funding. During 1998, cash and cash equivalents increased $11.7 million to $61,508,000 at December 31, 1998. Part of the increase in the cash and cash equivalents during 1998 was the result of the $92 million increase in deposit accounts which does not include deposits acquired in conjunction with offices acquired from other financial institutions, the small increase in short-term borrowings and cash flows from loan and security payments. The net proceeds from the acquisition of offices from another financial institution in February added approximately $30 million in additional funds. Historically low interest rates generated a significant increase in residential real estate loan demand. This increased activity resulted in proceeds from the sales of loans of $65 million for 1998, as compared to $27 million in 1997. These low rates also provided the Company with an opportunity to sell securities from the AFS portfolio at significant gains. Proceeds from the sales of securities during 1998 were $65 million. The sales of loans and securities accomplished several objectives, providing a source of funds to meet increased funding demands and adding approximately $2.7 million to pre-tax income. Major uses of the funds generated were funding the increases in loans, the purchases of securities and the purchases of fixed assets. Loans increased approximately $80 million during 1998. This increase was net of approximately $63 million of loans originated and sold during 1998. During 1998, $223 million of securities were purchased and approximately $4 million was spent for land, premises and equipment, not including what was added through office acquisitions. During the year 1997, cash and cash equivalents increased $5 million. In addition to the funds from the payments on loans and the calls and maturities of securities, major sources of funds were the proceeds from sales of loans of $27 million, the proceeds of $59 million from the acquisitions of offices from other financial institutions, and $21 million from the increase in deposit accounts net of deposits obtained through acquisitions. Another major source of funds during 1997 was the $19 million net proceeds from the issuance of guaranteed preferred beneficial interests in the Company's subordinated debentures. Major uses of funds during 1997 were the $53 million increase in loans, purchases of securities totaling $81 million, and $5 million for purchases of land, premises and equipment not including those related to acquisitions from other financial institutions. During 1996, there was a net increase in cash and cash equivalents of $18 million. The major sources for the increase were $23 million of proceeds from calls and maturities of securities, an increase of $65 million of deposits, and a $17 million increase in total borrowings. The major uses of funds were the $55 million increase in loans, the $35 million for purchases of securities and $4 million for the purchases of land, premises and equipment. Asset/Liability Management (ALCO) and Securities The Company's primary market risk exposure is interest rate risk. The Company does not have a material exposure to foreign currency exchange risk, does not own any derivative financial instruments and does not maintain a trading portfolio. The Board of Directors annually reviews and approves the ALCO policy used to manage interest rate risk. This policy sets guidelines for balance sheet structure that protects the Company from excessive net income volatility that could result from changing interest rates. The Company uses a computer program to stress test the balance sheet under a wide variety of interest rate scenarios. This model quantifies the impact on income of such things as: changes in customer preference for products, basis risk between the assets and the funds supporting them and the risk inherent in different yield curves. The ALCO committee reviews these possible outcomes and makes loan, investment and deposit decisions that maintain reasonable balance sheet structure in light of potential interest rate movements. After the committee has specified a maximum risk tolerance for dollar margin volatility, the committee develops guidelines for the GAP ratios. As indicated in Table 1 - Repricing Opportunities, the Company's cumulative GAP ratio at December 31, 1998, for the next 12 months is a negative 19.6 percent of total assets. The current degree of interest rate exposure is within policy limits. The following tables provide information about the Company's financial instruments used for purposes other than trading that are sensitive to changes in interest rates. For loans, securities, and liabilities with contractual maturities, the tables presents principal cash flows and related weighted-average interest rates by contractual maturities as well as the Company's historical experience of the impact of interest-rate fluctuations on the prepayment of residential and home equity loans and mortgage-backed securities. For core deposits (demand deposits, interest-bearing checking, savings and money market deposits) that have no contractual maturity, the tables presents principal cash flows and, as applicable, related weighted-average interest rates based upon the Company's historical experience, management's judgment and statistical analysis, as applicable, concerning their most likely withdrawal behaviors. Weighted-average variable rates are based upon rates existing at the reporting date. 27

Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) - ----------------------------------------------------------------------------- 1998 Principal/Notional Amount Maturing in: -------------------------------------------------------------------------------------------- (Dollars in thousands) ------------------------------------------------------------------------------------------- Fair Value Year 1 Year 2 Year 3 Year 4 Year 5 Thereafter Total 12/31/98 ---------- --------- --------- --------- --------- ---------- ---------- ----------- Rate sensitive assets: Fixed interest rate loans $ 117,708 $ 42,340 $ 34,989 $ 18,088 $ 41,387 $ 20,781 $ 275,293 $ 276,230 Average interest rate 8.86% 8.84% 8.70% 8.83% 8.13% 7.83% 8.65% Variable interest rate loans $ 216,002 $ 1,861 $ 1,762 $ 1,615 $ 1,565 $ 40,398 $ 263,203 $ 260,993 Average interest rate 9.67% 7.76% 7.83% 8.02% 8.06% 7.47% 9.28% Fixed interest rate securities $ 69,716 $ 57,082 $ 67,696 $ 27,003 $ 15,946 $ 81,943 $ 319,386 $ 322,446 Average interest rate 6.52% 6.54% 5.88% 6.43% 6.46% 5.65% 6.14% Variable interest rate securities $ 1,658 $ 1,122 $ 777 $ 535 $ 368 $ 752 $ 5,212 $ 5,212 Average interest rate 6.44% 6.43% 6.44% 6.45% 6.46% 6.52% 6.45% Other interest-bearing assets $ 15,575 - - - - - $ 15,575 $ 15,575 Average interest rate 4.75% - - - - - 4.75% Rate sensitive liabilities: Noninterest bearing checking $ 6,143 $ 5,492 $ 994 $ 947 $ 1,385 $ 103,400 $ 118,361 $ 118,361 Average interest rate - - - - - - - Savings & interest bearing checking $ 16,183 $ 14,618 $ 12,931 $ 11,749 $ 9,432 $ 55,916 $ 120,829 $ 120,829 Average interest rate 1.54% 1.54% 1.54% 1.54% 1.54% 1.70% 1.61% Time deposits $ 425,808 $ 47,775 $ 13,619 $ 7,029 $ 4,292 $ 1,634 $ 500,157 $ 502,823 Average interest rate 5.09% 5.63% 5.68% 6.16% 5.48% 5.94% 5.18% Fixed interest rate borrowings $ 101,139 $ 10,550 $ 10,090 - $ 1,297 $ 19,238 $ 142,314 $ 146,906 Average interest rate 4.67% 5.90% 5.25% - 6.15% 9.00% 5.40% Variable interest rate borrowings $ 34,000 - - - - - $ 34,000 $ 34,000 Average interest rate 4.96% - - - - - 4.96% 1997 Principal/Notional Amount Maturing in: ------------------------------------------------------------------------------------------- (Dollars in thousands) ------------------------------------------------------------------------------------------- Fair Value Year 1 Year 2 Year 3 Year 4 Year 5 Thereafter Total 12/31/97 ---------- --------- --------- --------- --------- ---------- ---------- ----------- Rate sensitive assets: Fixed interest rate loans $ 85,734 $ 38,579 $ 33,630 $ 20,674 $ 17,971 $ 20,309 $ 216,897 $ 215,592 Average interest rate 9.38% 9.10% 8.98% 8.87% 8.77% 8.53% 9.09% Variable interest rate loans $ 102,472 $ 24,403 $ 20,135 $ 22,491 $ 15,970 $ 57,782 $ 243,253 $ 241,791 Average interest rate 9.30% 9.40% 9.51% 9.25% 9.28% 8.15% 9.05% Fixed interest rate securities $ 64,455 $ 37,132 $ 33,906 $ 39,637 $ 25,595 $ 41,049 $ 241,774 $ 245,614 Average interest rate 5.84% 6.46% 6.84% 6.83% 6.63% 6.26% 6.39% Variable interest rate securities $ 5,251 $ 0 $ 0 $ 0 $ 0 $ 0 $ 5,251 $ 5,064 Average interest rate 6.73% - - - - - 6.73% Other interest-bearing assets $ 4,445 $ 0 $ 0 $ 0 $ 0 $ 0 $ 4,445 $ 4,445 Average interest rate 5.57% - - - - - 5.57% Rate sensitive liabilities: Noninterest bearing checking $ 4,802 $ 4,294 $ 774 $ 742 $ 1,080 $ 80,775 $ 92,467 $ 92,467 Average interest rate - - - - - - - Savings & interest bearing checking $ 9,647 $ 8,715 $ 7,703 $ 7,002 $ 5,620 $ 88,218 $ 126,905 $ 126,905 Average interest rate 2.54% 2.54% 2.54% 2.54% 2.54% 2.54% 2.54% Time deposits $ 310,904 $ 51,652 $ 18,583 $ 6,181 $ 4,783 $ 1,517 $ 393,620 $ 394,543 Average interest rate 4.00% 5.90% 5.95% 6.00% 6.43% 2.50% 4.40% Fixed interest rate borrowings $ 91,867 $ 7,617 $ 0 $ 0 $ 0 $ 19,211 $ 118,695 $ 119,836 Average interest rate 5.41% 6.16% - - - 9.00% 6.04% Variable interest rate borrowings $ 10,000 $ 0 $ 0 $ 0 $ 0 $ 0 $ 10,000 $ 10,000 Average interest rate 5.69% - - - - - 5.69% Comparision of these tables illustrates the growth the Company experienced during 1998. Increases in time deposits, fixed rate borrowings and variable rate borrowings reflect the growth of the Company's existing offices, a significant increase in repurchase agreements which are fixed rate, short-term variable rate borrowings from the Federal Home Loan Bank and deposits obtained through branch acquisitions. These increases in funding sources were used to finance the increases in the loan portfolio and in the securities portfolios. The increase in loans for 1998 reflect the increases in commercial loans which are short-term in nature. The increases in securities reflect the purchases of primarily fixed rate securities during 1998. 28

Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) - ----------------------------------------------------------------------------- The Company's investment portfolios consist of U.S. Treasuries, agencies, mortgage-backed securities, municipal bonds and corporates. During 1998 purchases primarily consisted of U.S. Treasuries, mortgage-backed securities and municipal bonds. At December 31, 1998, the Company's investment in mortgage-backed securities comprised approximately 69 percent of total securities and consisted of CMOs and mortgage pools issued by GNMA, FNMA and FHLMC. As such, these securities are backed directly or indirectly by the Federal government. All mortgage securities purchased do not have excessive price, prepayment, extension and original life risk characteristics. The Company uses Bloomberg analytics to evaluate and monitor all purchases. At December 31, 1998, the mortgage securities in the AFS portfolio had a two and two-thirds year average life, with approximately 11 percent price depreciation should rates move up 300 basis points and approximately 5 percent price appreciation should rates move down 300 basis points. As of December 31, 1998, all mortgage securities were performing in a manner consistent with management's original expectations. Capital Management The Company believes that a strong capital position is vital to long-term earnings and expansion. Currently the Company maintains capital levels in excess of "well-capitalized" levels as defined by the FDIC. Bank regulatory agencies exclude the market value adjustment created by SFAS No. 115 (AFS adjustment) from capital adequacy calculations. Therefore, excluding this adjustment from the calculation, the Company had Tier I leverage capital, Tier I risk based capital and Tier II risk based capital ratios of 6.4 percent, 9.6 percent and 10.8 percent at December 31, 1998. All three ratios exceeded the "well-capitalized" minimums of 5.0 percent, 6.0 percent and 10.0 percent, respectively. The ability to maintain these ratios at these levels is a function of net income growth and a prudent dividend policy. Total stockholders' equity increased by 14.3 percent, to $55,156,000 as of December 31, 1998, from $48,256,000 as of December 31, 1997. The 1998 growth resulted from the retention of net income of $7,888,000, minus cash dividends declared of $2,002,000, plus the change in the AFS adjustment of $1,163,000, net of tax, less $149,000 for the purchase of treasury stock. The AFS adjustment reflects a 114 basis point decrease in two to five year U. S. Treasury rates during 1998. Included in the change in the AFS adjustment is an increase of $2,495,000 from securities transferred to AFS on October 1, 1998 as permitted by SFAS No. 133. None of these securities transferred to AFS were sold during the fourth quarter of 1998. Since the securities portfolio is primarily fixed rate, a positive equity adjustment should occur whenever interest rates decrease. Management has factored this into the determination of the size of the AFS portfolio, to assure that stockholders' equity is adequate under various scenarios. The 1997 growth of $6,213,000 resulted from the retention of net income of $7,540,000, minus cash dividends declared of $1,741,000, plus the AFS adjustment of $289,000, net of tax, plus $310,000 from issuing shares of common stock less $185,000 for the purchase of treasury stock. This 1997 AFS adjustment reflected a 42 basis point decrease in three to five year U. S. Treasury rates during 1997. Management is not aware of any known trends, events or uncertainties that would have a material effect on the Company's liquidity, capital and results of operations. Nor is management aware of any regulatory recommendations that, if implemented, would have such an effect. Allowance for Credit Risk At December 31, 1998, the allowance for loan losses was $5,510,000 or 1.02 percent of total loans outstanding, compared with $5,308,000 or 1.16 percent of total loans outstanding at December 31, 1997. The process of identifying credit losses that may occur based upon current circumstances is subjective. Therefore, the Company maintains a general allowance to cover all credit losses within the entire portfolio. The methodology management uses to determine the adequacy of the loan loss reserve is as follows: 1. Management reviews the larger individual loans (primarily in the commercial loan portfolio) for unfavorable collectibility factors (including impairment) and assesses the requirement for specific reserves on such credits. For those loans not subject to specific reviews, management reviews previous loan loss experience to establish historical ratios and trends in charge-offs by loan category. The ratios of net charge-offs to particular types of loans enables management to establish charge-offs in future periods by loan category and thereby establish appropriate reserves for loans not specifically reviewed. 2. Management reviews the current and anticipated economic conditions of its lending market to determine the effects on future loan charge-offs by loan category, in addition to the effects on the loan portfolio as a whole. 3. Management reviews delinquent loan reports to determine risk of future charge-offs. High delinquencies are generally indicative of an increase in future loan charge-offs. As a result of the methodology in determining the adequacy of the allowance for loan losses, the provision for loan losses was $480,000 in 1998 as compared to $269,000 in 1997. The increased provision for loan losses was primarily related to the growth in the loan portfolio, particularly the commercial and agricultural portfolios. The past due accruing loans (90 days or more) and nonaccrual loans continued to be at low levels throughout 1998. At December 31, 1998, loans past due 90 days or more and still accruing were $227,000 and there were no nonaccrual loans. These trends in non-performing loans reflect both general economic conditions that have promoted growth and expansion in the Company's market area, and a credit risk management strategy that promotes diversification. The continued low levels of nonperforming loans and net charge-offs have permitted the Company to provide modest amounts for the provision for loan losses in recent years. The total provision for loan losses for the last three years was $869,000, which is slightly higher than the total net charge-offs of $831,000 for the same three year period. At December 31, 1998, 50.1 percent of the Company's allowance for loan losses was classified as unallocated. To a large extent, this reflects the growth in total loans over the last three years of $186 million, or about 48.7 percent, and the concentration of this loan growth in the commercial loan portfolio. Commercial loans comprised 56.0 percent, 51.7 percent and 53.0 percent of the total loan portfolio at December 31, 1998, 1997 and 1996. With this type of loan growth and the concentration in commercial loans, management believes that it is prudent to continue to provide for loan losses at the current levels, especially due to the inherent risk associated with commercial loans. Inflation For a financial institution, the effects of price changes and inflation can vary substantially. Inflation affects the growth of total assets, but it is difficult to assess its impact since neither the timing nor the magnitude of the changes in the consumer price index (CPI) coincides with changes in interest rates. The price of one or more of the important components of the CPI may fluctuate considerably and thereby influence the overall CPI without having a corresponding affect on interest rates or upon the cost of those goods and services normally purchased by the Company. In years of high inflation and high interest rates, intermediate and long-term interest rates tend to increase, thereby adversely impacting the market values of investment securities, mortgage loans and other long-term fixed rate loans. In addition, higher short-term interest rates caused by inflation tend to increase the cost of funds. In other years, the reverse situation may occur. 29

Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) - ----------------------------------------------------------------------------- RESULTS OF OPERATIONS 1998 vs 1997 In 1998, the Company achieved record earnings of $7,888,000. This is approximately a five percent increase over 1997, and represents the eleventh consecutive year of record earnings. In 1998, total interest income was $63,667,000, an increase of $10,968,000 or 20.8 percent from 1997. Interest income is principally effected by the growth in assets, the composition of assets, the degree of competition and current interest rates. In 1998, both asset growth of 22.9 percent and loan growth of 17.4 percent contributed positively to interest income. The composition of the Company's assets was a major challenge in 1998. In the fourth quarter of 1997 and at the beginning of 1998, the Company had acquired approximately $129.5 million of funding through branch acquisitions in order to meet the future lending needs of current and future customers. These funds were temporarily invested in securities until they are used to fund loan growth. While loan growth was strong in 1998, resulting in a steady improvement in the loan-to-deposit ratio during the year, the Company is still aggressively pursuing good quality commercial and consumer loans to better utilize these funds. A successful effort should strengthen the interest margin in future years. On a less positive note, fierce competition, and a 75 basis point decrease in the prime lending rate, reduced the yield on the loan portfolio by 23 basis points in 1998 versus 1997. With respect to the securities portfolio, a 114 basis point reduction in two-to-five year treasury rates and a flattening of the yield curve, resulted in higher prepayment rates on mortgage related securities, and lower reinvestment rates. The combined impact of this was a 17 basis point reduction in the securities yield. All of these factors resulted in a 31 basis point reduction in the overall yield on earning assets. Total interest expense was $36,091,000 in 1998, an increase of $8,031,000 or 28.6 percent over 1997. The increase was primarily the result of internal growth and deposits acquired in branch acquisitions. The impact of low rates and a flat yield curve were most pronounced on the Company's funding costs. During much of the year, customers shortened their investment horizon. The Company experienced substantial growth in short-term deposits and purchased funds. This type of activity typically reduces average funding costs, since these funds are priced to what is generally the lower end of the yield curve. However, with a flat yield curve, these funds are as costly as long-term funds. This combination resulted in only a three basis point reduction in funding costs. The net impact of these interest income and interest expense trends resulted in net interest income of $27,576,000, an increase of $2,937,000 or 11.9 percent. While margin deterioration is an industry wide phenomenon, economic factors in 1998 accelerated this trend. Asset quality continued to be very strong. The Company concluded the year absent any nonaccrual or impaired loans. Delinquency rates continued to be very low, and net charge-offs for the year were $278,000 or .06 percent of average daily loans. These quality trends resulted in only a modest amount of expense to be prudently recognized as a provision for loan losses. This $480,000 expense, less 1998 net charge-offs, resulted in a $5,510,000 allowance for loan losses at year-end. This represented 1.02 percent of the loan portfolio. As 1999 begins, loan growth continues to be very strong, and loan growth is one of many factors that are reviewed when determining the amount of loan loss provision expense that should be recognized. Future provisions for loan losses may be increased as the loan portfolios grow or should asset quality deteriorate. Noninterest income was a primary focus of management during 1998. As the interest margin continues to decline, it becomes important to search for new types of revenue. In 1998, noninterest income totaled $11,209,000. This was a $3,705,000 or 49.4 percent increase over 1997. The Company experienced an 18.8 percent increase in deposit fees. This increase was primarily related to the growth in deposits of $126 million in 1998. Higher deposit service fees were directly related to the growth of transaction accounts. Other exceptional contributors included insurance income and brokerage income. Another major contributor was the gains on the sale of mortgages. For the last five years, the Company has been selling fixed rate mortgages into the secondary market. These sales allow the Company to meet the fixed rate mortgage needs of the many small communities served, while not exposing the Company to unacceptable rate risk. In 1998, thirty-year mortgage rates declined to historically low levels, which increased the volume in the mortgage area tremendously. The result was a gain on mortgages sold of $1,467,000, an increase of $922,000 or 169.2 percent over 1997. The Company also sold securities, realizing a $1,256,000 gain on these sales. The declining rate environment allowed the Company to recognize these gains while better positioning the portfolio for future liquidity needs. A major challenge during 1998 was the completion of a two-year, $4.5 million investment in technology. As the Company has nearly doubled in size from $497 million in 1994, to $979 million in 1998, investments needed to be made to provide superior local service to our customers in 14 counties. These investments included new teller and sales systems, new image capture software and hardware, a data warehouse system and a new telephone system utilizing voice over data frame relay. These improvements position the Company for future growth, and allow any bank location to provide customers with the type of service and information that they expect from their hometown bank. The cost of these improvements, and the thirty percent increase in the branch network in 1998, resulted in a 29.5 percent increase in occupancy and equipment costs in 1998. The Company also experienced a 24.4 percent increase in salaries and benefits related to the growth in offices. Also, $942,000 of expense was added to the growth in other expenses due to the amortization of the intangible assets relating to the branch purchases in late 1997 and early 1998. As a result of all these factors, income before income tax expense increased $354,000 or 3.1 percent to $11,814,000 for 1997, as compared to $11,460,000 for 1997. Income tax expense was $3,926,000 and $3,920,000 for 1998 and 1997. Income tax expense as a percent of income before taxes was 33.2 percent for 1998 and 34.2 percent for 1997. Net income increased to $7,888,000 for 1998, an increase of $348,000 or 4.6 percent over the net income of $7,540,000 for 1997. Basic earnings per share for 1998 was $1.36 as compared to $1.30 for 1997. Net income of $7,888,000 represented a 16.6 percent return on January 1, 1998 stockholders' equity (excluding the equity adjustment related to SFAS No. 115) and a .89 percent return on average daily assets. 1997 vs 1996 The growth of existing offices, opening of new offices and the purchase of offices from other financial institutions brought the Company assets to record levels in 1997. Total assets were at $796 million at December 31, 1997, an increase of $139.9 million (including the assets acquired in branch acquisitions in the fourth quarter of 1997) or 21.3 percent over the assets at December 31, 1996. Loans increased 20.0 percent, or $76 million, to $458.6 million at year-end 1997. Total deposits increased 23.4 percent, or $116 million (including deposits of $95 million acquired in branch acquisitions in the fourth quarter of 1997), to $613 million at December 31, 1997. Core funding, deposits plus securities sold under agreement to repurchase, increased 16.5 percent, or $96 million, to $678.5 million. Net income totaled $7,540,000, exceeding 1996 by 17.0 percent. On an average daily basis, gross earning assets increased by 13.5 percent and total deposits plus purchased funds increased by 13.8 percent. Total interest income increased 14.7 percent, or $6,758,000 to $52,699,000 for the year ended December 31, 1997. This increase was a result of the increase in daily average earning assets and a 9 basis point increase in the overall tax equivalent yield on earning assets as compared to the 1996 overall tax equivalent yield. The increase in the tax equivalent yield on earning assets was reflective of the 17 basis point increase in the average prime rate during 1997, and the effect this prime rate increase had on the commercial loan portfolio and the home equity loan portfolio yields. Nonearning assets of the Company include nonaccrual loans and investments, other real estate, and repossessions. These nonearning assets amounted to $1,317,000, $1,097,000 and $1,207,000 as of December 31, 1997, 1996 and 1995. Nonaccrual loans totaled $1,058,000, $384,000 and $532,000 at the end of the years 1997, 1996 and 1995. Two commercial loans and two mortgage loans accounted for the majority of the amount in nonaccrual loans for 1997. Interest expense for 1997 was $28,060,000. This was an increase of $4,323,000, or 18.2 percent, over the interest expense for 1996. The increase in interest expense was attributable to the continued growth in interest bearing deposit balances and rising interest rates. Average daily balances of time deposits increased 15.4 percent over the prior year average daily balances and the average rate paid on time deposits increased 7 basis points. Average daily balances of total interest bearing deposits increased 12.3 percent and the average rate paid on total interest bearing deposits increased 30

Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) - ----------------------------------------------------------------------------- 11 basis points. The average daily balance of total deposits plus purchased funds increased 13.8 percent, as noted above, and the average rate paid increased 16 basis points. This increase also included the guaranteed preferred beneficial interests in the Company's subordinated debentures added in 1997 and the related interest expense along with additional advances from the Federal Home Loan Bank. Net interest income increased $2,435,000 or 11.0 percent, to $24,639,000 in 1997, from $22,204,000 in 1996. Net interest income as a percentage of earning assets was 3.96 percent for 1997. This was a decrease of 10 basis points from the 4.06 percentage for 1996. This decrease resulted from the increase in the rates paid on total deposits and purchased funds being 7 basis points higher than the increase in the rates for earning assets. The increase in rates paid on deposits and purchased funds reflected both the effects of competition and the additional long-term borrowings during 1997. As indicated in the Notes to Consolidated Financial Statements and the discussion of financial condition, management maintains the allowance for loan losses at an appropriate level given many different factors. The December 31, 1997, allowance of $5,308,000 was believed by management to be adequate to absorb all potential risk applicable to the classification of loans as loss, doubtful, substandard or special mention. This allowance did not represent or result from trends that would materially adversely impact future operating results, liquidity, or capital resources. Net interest income after provision for loan losses increased $2,286,000, or 10.4 percent, to $24,370,000 in 1997, from $22,084,000 in 1996. Noninterest income for 1997 increased $1,705,000, or 29.4 percent, over the amount for 1996, totaling $7,504,000 for the year. All major components of noninterest income increased except for security gains and losses. Trust income increased 34.8 percent from the amount for 1996 to $1,188,000 for 1997 with major increases in fees for living trusts, testamentary trusts and employee benefit plans. Service charges on deposit accounts increased 19.9 percent to $3,369,000 for 1997. This increase resulted from the continued acceptance of the Company's individual deposit accounts paying fees. The $715,000 increase in other noninterest income resulted from increases in a variety of income sources including discount brokerage fees and ATM fees. The increase in gains on sales of real estate mortgages held-for-sale were a result of continued sales of mortgages to the secondary market. These gains were $545,000 for 1997 as compared to $412,000 for 1996, an increase of $133,000. The small security losses recorded in 1997 were primarily the result of several partial calls. All components of noninterest expense increased for the year ended December 31, 1997, as compared to the prior year, with the largest increase being salaries and employee benefits. Salaries and employee benefit costs for 1997 increased $1,747,000, or 18.3 percent, to $11,317,000. This increase was attributable to a 21.3 percent increase in full-time equivalent employees (FTE) in 1997, to 388, along with normal salary increases. The increase reflected the impact of a full year of salaries and benefits related to the two offices opened during 1996 along with the three new offices opened during 1997 and the offices acquired from other financial institutions in November and December, 1997. Net occupancy and equipment costs increased to $3,144,000 in 1997, from $2,955,000 in 1996, an increase of $189,000 or 6.4 percent. Other expense increased 10.0 percent, or $543,000, to $5,953,000 for 1997. These increases resulted in noninterest expense for 1997 of $20,414,000, an increase of 13.8 percent, or $2,479,000, over the amount for 1996. As a result of all these factors, income before income tax expense increased $1,512,000, or 15.2 percent, to $11,460,000 from the $9,948,000 for 1996. Income tax expense was $3,920,000 and $3,504,000 in 1997 and 1996, which represented 34.2 percent and 35.2 percent of income before taxes. Net income increased to $7,540,000 for 1997 from $6,444,000 for 1996, an increase of $1,096,000, or 17.0 percent. Net income per share was $1.30 for 1997, as compared to $1.11 for 1996. Net income of $7,540,000 represented an 18.1 percent return on January 1, 1997, stockholders' equity (excluding the equity adjustment related to SFAS No. 115), and a 1.10 percent return on average daily assets. TABLE 1 - REPRICING OPPORTUNITIES The table below illustrates the funding gaps for selected maturity periods as of December 31, 1998, for Lake City Bank only. Repricing opportunities for fixed rate loans and mortgage-backed securities are based upon anticipated prepayment speeds. Demand deposit accounts and savings accounts are classified as having maturities beyond four years. Repricing or Maturing Within ---------------------------------------------------- 6 7-12 1-4 Months Months Years --------------- ---------------- ---------------- (In thousands) Earning Assets Loans $ 314,793 $ 54,094 $ 102,580 Securities 36,877 36,234 136,347 Short-term investments 15,575 0 0 --------------- ---------------- ---------------- Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 367,245 90,328 238,927 Deposits and Purchased Funds Transaction accounts 64,913 0 0 Time deposits 342,527 88,451 68,037 Short-term borrowings 111,868 13,272 10,550 Long-term borrowings 10,001 0 10,089 --------------- ---------------- ---------------- Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 529,309 $ 101,723 $ 88,676 --------------- ---------------- ---------------- Interest sensitivity GAP $ (162,064) $ (11,395) $ 150,251 =============== ================ ================ Cumulative interest sensitivity GAP $ (162,064) $ (173,459) $ (23,208) =============== ================ ================ Cumulative GAP as percentage of earning assets (18.3)% (19.6)% (2.6)% =============== ================ ================ YEAR 2000 The Company relies heavily on computer technology to provide its products and services. Competitive pressures also require the Company to invest in and utilize current technology. Due to the reliance on this technology, the Year 2000 issue will have a pervasive effect on the Company's products, especially those with interest calculations, and the services it provides. It will also have an impact on the items necessary to remain competitive including customer 31

Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) - ----------------------------------------------------------------------------- information, and customer conveniences such as ATM's, telephone banking and debit cards. In discussing the Year 2000 issue, management will use various estimates and projections relating to costs, percentages or stages of completion, possible scenarios and contingency plans. These are only estimates and projections. Actual costs, percentage or stage of completion and outcomes may be different from management's estimates and projections. Although management believes it is taking all the steps necessary to prepare for Year 2000, there are many factors beyond management's control and ability to foresee that may have a significant impact on future events. The Company is taking a proactive approach to the Year 2000 issue. A Year 2000 Committee has been formed and is comprised of representatives from all major departments and includes involvement of an Executive Officer to provide senior management support and to report periodically to the Board of Directors on the Year 2000 effort. The committee has developed a plan of action to ensure the Company addresses the critical Year 2000 issues. A master inventory of all software and hardware in use by the Company has been compiled. All software vendors were requested to provide a written statement regarding their Year 2000 efforts and compliance. FiServ, Pittsburgh, PA, is the primary data processing vendor the Company uses. FiServ processes all the major applications for the Company including deposits, loans, and general ledger. FiServ is one of the leading data processing vendors for the banking industry. As part of the banking industry, FiServ is periodically examined by regulatory agencies regarding their Year 2000 efforts to help ensure their systems will be Year 2000 compliant. FiServ maintains a website on the Internet and specifically addresses their Year 2000 efforts and have indicated their systems will be reviewed for Year 2000 compliance by McGladrey and Pullen. In addition, a Company representative is a member of the FiServ Client Advisory Board. No material Year 2000 concerns have been brought to management's attention. The support and network software the Company uses is purchased from outside vendors. Any software where the vendor was unable to confirm the software is Year 2000 compliant, or did not provide a statement on Year 2000 compliance, was evaluated to determine the potential impact of noncompliance and availability of alternative compliant software. The review of all the software is complete and Year 2000 compliant software is being installed to replace software determined to be non-compliant or for which no certification of compliance was provided. The Company has developed a software testing plan which was submitted to the regulators in October, 1998. This plan substantially meets all FFIEC guidelines and the Company is on schedule to meet all plan deadlines. The hardware the Company uses primarily consists of personal computers, ATM's and communications equipment. All personal computers have been tested by Company personnel for Year 2000 compliance. The vendors of the ATM's and back room processing equipment used by the Company have been contacted regarding the compliance of the models used by the Company. The testing of hardware was approximately 90 percent complete as of December 31, 1998. All hardware failing the tests or known to be noncompliant was evaluated as to the possible effect of noncompliance and the need for replacement. Several hardware purchases were accelerated due to Year 2000 issues. The hardware testing plan the Company is following was submitted to the regulators in October 1998. This plan substantially meets all FFIEC guidelines and the Company is on schedule to meet all plan deadlines. All purchases of software and hardware are processed through the Network Services Department of the Company. This is intended to ensure all new software and hardware or upgrades are compatible with existing systems and are Year 2000 compliant. All non-compliant hardware and software will be taken out of service by June 30, 1999. This hardware and software will be replaced as deemed necessary. Other electrical and mechanical equipment are also being evaluated as to reliance on computer software and the possible effect of the Year 2000. Major components of this equipment include security and HVAC (heating, ventilation and air conditioning) equipment. The Company's security officer has stated all security equipment has been tested to determine the reliance on computer systems and the potential impact of the Year 2000 issue. The Company's facilities manager is responsible for evaluating the other equipment such as HVAC and elevators to determine reliance on computer systems and obtain statements as to Year 2000 compliance from vendors as necessary. The evaluation of this equipment was completed as of December 31, 1998. No material items were noted. The potential financial impact on the Company can be segregated into three components: software costs, hardware costs, and other electrical and mechanical equipment costs. For the Company, the potential software costs are not anticipated to be material. The Company does not develop its own software, but purchases processing and software from outside vendors. The hardware the Company uses consists primarily of personal computers, ATM's, telephone systems, and back room equipment such as document processing and imaging equipment. In 1997, the Company began updating its wide and local area networks (WAN/LAN) and its teller platform system as part of its continuing expansion and commitment to technology. The WAN/LAN and teller platform system being installed are Year 2000 compliant. The costs for upgrading to Year 2000 compliant hardware, outside the normal cost of business, are not anticipated to be material based upon the Company's review of its current hardware. The costs for upgrading other electrical and mechanical equipment, such as security equipment and HVAC equipment, is not anticipated to be material. Beginning in 1996, the Company began projects to upgrade its technology and support systems due to the growth the Company was experiencing and anticipated. The costs incurred for these projects were $4.5 million. The costs within these projects specifically related to the Year 2000 issue are difficult to segregate. However, management estimates approximately 20 percent of these project costs are combined software, hardware and other equipment costs related to the Year 2000 issue, including costs of accelerated purchases. This estimate does not include any personnel costs relating to the Year 2000 issue. These projects are substantially complete. Other areas of concern being addressed by the committee include vendors that exchange information with the Company electronically, forms and documents that are produced externally, and customers. The Year 2000 compliance could have a major impact on the financial performance of the Company's customers which could affect both deposit relationships and the customer's ability to repay loans. All large corporate lending customers have been contacted regarding their Year 2000 efforts. Large corporate depositors are also being contacted regarding their Year 2000 efforts. Other customers will be evaluated on a case-by-case basis. In addition, the Company has conducted several seminars for corporate customers regarding the Year 2000 issue. These seminars have been well attended. Based upon the Company's initial evaluations, becoming Year 2000 compliant is not anticipated to have a material impact on the Company's financial statements. Becoming Year 2000 compliant has had an impact on earnings this year due to additional payroll costs, training costs and accelerated purchases. Management believes it is taking the necessary steps to ensure the Company's systems will be Year 2000 compliant in a timely manner. In January, 1999, the FDIC completed a Phase II examination of the Company's Year 2000 efforts. The Company continues to meet all published FDIC Year 2000 guidelines. As a precaution, management is in the process of developing both bank-wide and functional area contingency plans. The largest risks the Company has are that FiServ will not be able to process or there will be problems with communications or power. Regulators have agreed there are certain systems that, due to the level of reliance on these systems, there is little ability to establish traditional contingency plans. Management considers FiServ, communications and power to be these types of systems. Due to the efforts FiServ has exhibited and the regulatory oversight they are under, management believes the probability is very small that they will not be ready. A more likely scenario is that one or more of the support applications will not function correctly. That would most likely result in a one to two day delay in posting of customer transactions since the majority of the functions of the non-FiServ applications could be performed manually. Currently the major concerns are power and communications since these are provided by outside sources and the Company has no means to test them. The Company does have a back-up power system to provide power to key areas in the event of a power failure and can transport transaction information physically in the event of communication problems. Both these concerns have been addressed in the Company's contingency plan. The Year 2000 problem is pervasive and complex and can potentially affect any computer process. Accordingly, no assurance can be given the Year 2000 compliance can be achieved without additional unanticipated expenditures and uncertainties that might affect future financial results. It is not possible at this time to quantify the estimated future costs due to possible business disruption caused by vendors, suppliers, customers, or even the possible loss of electric power or phone service, however, such costs could be substantial. 32

LAKE CITY BANK OFFICERS - ------------------------------------------------------------------------------------------------------------------------------------ R. Douglas Grant Chairman Retail Services Michael L. Kubacki President Dale L. Cramer Vice President D. Jean Northenor Executive Vice President Thomas P. Frantz Vice President Paul S. Siebenmorgen Executive Vice President James D. Tague Vice President Walter L. Weldy Executive Vice President Janet K. Anderson Assistant Vice President Terry M. White Executive Vice President Barry A. Bailey Assistant Vice President Dennis E. Dolby Assistant Vice President Commercial Services J. Bradley Glasson Assistant Vice President Charles D. Smith Senior Vice President Craig A. Haecker Assistant Vice President Kelly K. Ayers Vice President T. Larry Mitchell Assistant Vice President David A. Bickel Vice President W. Randy Yoder Assistant Vice President James R. Cowan Vice President Glenn A. Goudey Senior Mortgage Underwriter Drew D. Dunlavy Vice President Tammy L. Snyder Mortgage Underwriter Michael E. Gavin Vice President Carolyn A. Crabb Mortgage Banking Officer Kenneth L. Kasamis Vice President April J. Gayton Mortgage Banking Officer Joseph F. Kessie Vice President Aaron M. Stroup Mortgage Banking Officer William D. Leedy Vice President Rafael M. Villalon Mortgage Banking Officer J. Randall Leininger Vice President W. John Pritz Retail Banking Officer H.A. "Rocky" Meyer Vice President Melanie R. Shipley Retail Banking Officer Jack E. Mills Vice President Bradley Smith Retail Banking Officer Thomas G. Stark Vice President Lisa A. Stookey Retail Banking Officer James C. Stout Vice President J. Mark Ulrich Vice President Financial Randal U. Vutech Vice President James J. Nowak Vice President and Controller Julie W. Whitehead Vice President Teresa A. Bartman Assistant Vice President Chad D. Brouyette Assistant Vice President and Assistant Controller Stephanie L. DuBois Assistant Vice President Brian M. Lamb Assistant Vice President Brent E. Hoffman Assistant Vice President Kelli S. Robinson Assistant Vice President Operations Timothy M. Rudge Assistant Vice President Frank A. Soltis Senior Vice President J. Chad Stoltzfus Assistant Vice President Judy K. Harvey Vice President Vicki D. Martin Vice President Trust & Investments Lisa M. Bicknese Assistant Vice President Dennis E. Cultice Senior Vice President Lisa A. Fulton Assistant Vice President Dennis A. Reeve Vice President Ruth A. Hutcherson Assistant Vice President William C. Coleman Vice President Linda A. Owens Assistant Vice President Jeanine D. Knowles Vice President Angela K. Ritchey Assistant Vice President Andrew S. Lewis Vice President Lorretta J. Burnworth Operations Officer Jill A. O'Sullivan Vice President Elizabeth A. Carlson Operations Officer Judith R. Simcox Vice President Jean A. Ciriello Operations Officer Larry L. Poyser Assistant Vice President Janice J. Cox Operations Officer Debra L. Rich Assistant Vice President Joanie L. Foreman Operations Officer Peggy L. Terhaar Assistant Vice President William L. Hilliard Operations Officer Patricia L. Culp Trust Officer Scot A. Karbach Operations Officer Jan R. Martin Operations Officer Marketing, Human Resources and Facilities Linda L. Swoverland Operations Officer Allyn P. Decker Vice President Cathy L. Teghtmeyer Vice President Audit Jill DeBatty Assistant Vice President Betty L. McHenry Senior Vice President John W. Gove Assistant Vice President and Auditor Paul S. Purvis Assistant Vice President Kevin A. Linehan Vice President Michelle R. Halter Assistant Auditor Teah D. Wicks Assistant Auditor 33

LAKE CITY BANK OFFICERS - ----------------------------------------------------------------------------- Office Administration Kevin L. Deardorff Senior Vice President Jane E. Miller Vice President Jeri L. Yoder Vice President Jeannine P. Cooley Assistant Vice President Lisa L. Hockemeyer Assistant Vice President Nanceen P. Briggs Retail Banking Officer Karin A. Steffensmeier Retail Banking Officer Offices Akron L. Jane Murphy Assistant Vice President Argos Stanley G. Reinholt Assistant Vice President Bremen Matthew K. Bixel Vice President Columbia City Donald L. Sexton Vice President Lynnette E. Berry Retail Banking Officer Concord Steve Colagrossi Assistant Vice President Cromwell Jana L. Miller Assistant Office Manager Elkhart Beardsley Rosalie M. Smith Vice President Samuel M. Bouie Assistant Office Manager Elkhart East Debra L. Griggs Office Manager Elkhart Hubbard Hill Jeffery W. Krusenklaus Office Manager Elkhart Northwest Kathleen M. Dougherty Office Manager Fort Wayne North Bruce A. Wright Vice President Goshen Downtown Jane M. Greene Office Manager Goshen South Clarence J. "CJ" Yoder Vice President Granger Daniel E. Hunt Office Manager Greentown Donna L. Graham Assistant Vice President Huntington Drew D. Dunlavy Vice President Kendallville Downtown Mark R. Rensner Assistant Office Manager Kendallville East L. Duane Smith Vice President LaGrange Cathy I. Hefty Assistant Vice President Ligonier Downtown Gaylord A. West Vice President Lori I. Cunningham Assistant Office Manager Ligonier South Craig R. Atz Vice President Logansport Robert L. Baker Vice President Medaryville Elaine C. Parish Assistant Vice President Mentone Karen A. Francis Assistant Vice President Middlebury Shannon D. Schrock Office Manager Milford Timothy L. Sutton Office Manager Mishawaka Tammy S. Katona Office Manager Sandra J. Cencelewski Assistant Office Manager Nappanee Larry L. Penrod Vice President Kirtus D. Murray Office Manager North Webster Jeanne G. Bowen Vice President Peru Patricia D. Adams Assistant Vice President Pierceton Lisa S. Fitzgerald Office Manager Plymouth Michael D. Burroughs Vice President Carol D. Brown Assistant Office Manager Roann Merrill A. Templin Assistant Vice President Rochester Phyllis M. Biddinger Office Manager Shipshewana John R. Munsell Vice President Sarah Miller-Bontrager Assistant Office Manager Silver Lake Deborah A. Lotz Assistant Vice President Syracuse Donna J. Beck Assistant Vice President Wabash North T.F. "Bob" Fuller Vice President Wabash South Jody A. Slacian Office Manager Warsaw Downtown Rosemary K. Baumgardner Office Manager Warsaw East Pamela F. Messmore Assistant Vice President Warsaw West Linda M. Riley Office Manager Winona Lake Allan L. Disbro Vice President 34

9 THIS SCHEDULE CONTAINS FINANCIAL INFORMATION EXTRACTED FROM THE 12/31/98 FORM 10-K AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 12-MOS DEC-31-1998 JAN-01-1998 DEC-31-1998 45,933 60 15,515 0 327,658 0 0 542,496 5,510 978,909 739,347 135,690 8,092 40,624 0 0 1,453 53,703 978,909 44,419 18,729 519 63,667 28,154 36,091 27,576 480 1,256 26,491 11,814 7,888 0 0 7,888 1.36 1.36 3.44 0 227 1,281 0 5,308 416 138 5,510 2,752 0 2,758