public disclosure · the analysis of the bank's cra performance considers the bank's...

PUBLIC DISCLOSURE OCTOBER 15.2007

COMMUNITY REINVESTMENT ACT PERFORMANCE EVALUATION

THE FIRST STATE BANK AND TRLJST COMPANY OF LARNED RSSD# 9955

116 WEST 6TH STREET LARNED, KANSAS 67550

Federal Reserve Bank of Kansas City 925 Grand Boulevard

Kansas City, Missouri 64198

NOTE: This document is an evaluation of this institution's record of meeting the credit needs of its entire community, including low- and moderate-income neighborhoods, consistent with safe and sound operation of the institution. This evaluation is not, nor should it be construed as, an assessment of the financial condition of this institution. The rating assigned to this institution does not represent an analysis, conclusion or opinion of the federal financial supervisory agency concerning the safety and soundness of this financial institution.

THE FIRST STATE BANK AND TRUST COMPANY OF LARNED CRA Public Evaluation LARNED . KANSAS October 15.2007

TABLE OF CONTENTS

Institution's CRA Rating ..................................... 2

Institution ................................................................................ Scope of Examination 2

Description of Institution ............................................................................... 3 Description of Bank's Assessment Areas ....................................................... 4 Conclusions with Respect to Performance Tests ............................................... 4

Metropolitan Area (reviewed using limited-scope review) Description of Institution's Operations ................................................................. 7

..................... Conclusions with Respect to Performance Tests .................... ... 7

Nonmetropolitan Area (reviewed using full-scope review) Description of institution's Operations ......... ... ......................................... 8

............................................... Conclusions with Respect to Performance Tests 9

Glossary ........... ....... ..................................................................................................... 12

THE FIRST STATE BANK AND TRUST COMPANY OF LARNED CRA Public Evaluation LARNED. KANSAS October $5.2007

INSTITUTION'S CRA RATING: This institution is rated Satisfactory.

The First State Bank and Trust Company of Larned (the bank) has a satisfactory record of helping to meet the credit needs of its assessment areas (AAs), including low- and moderate- income (LMI) neighborhoods, in a manner consistent with its resources, operating philosophy, and credit needs of its communities. Three of the five criteria used in evaluating small bank lending performance were relevant to this review and are as follows:

2: Loan-to-Deposit (LTD) Ratio 2: Lending Inside the AAs P Lending to Borrowers of Different Income Levels and Businesses and Farms of Different

Revenue Sizes

The bank's geographic distribution of lending, the fourth core criterion used to assess small bank performance, focuses on lending in geographies of different income levels, with an emphasis on lending in LMI census tracts. Since the bank's rural AA is comprised of only middle-income tracts and a limited-scope review of the metropolitan AA was conducted, this lending component was not relevant to the analysis and was not evaluated. In addition, the bank's responsiveness to complaints under the Community Reinvestment Act (CRA), the fifth core criterion used to assess small bank performance, was also not evaluated since the bank has not received any such complaints.

The bank's LTD ratio reflected a reasonable effort to extend credit in a competitive lending market. In addition, a substantial majority of the bank's lending activity occurred inside its M s . Finally, the bank's distribution of loans among borrowers of different income levels and businesses and farms of different revenue sizes reflected a reasonable penetration based on AA demographics.

SCOPE OF EXAMINATION

The bank's CRA performance was evaluated using the Federal Financial Institutions Examination Council (FFIEC) Interagency Small Bank Examination Procedures. Conclusions for each performance criteria were based on data compiled from a sample of loan files for each major product line. The bank's major product lines were determined through discussions with management, a review of the bank's Report of Condition and Income (Call Report), and a review of the number of loan originations since the last CRA examination in September 2003. Loan products evaluated included a statistical sample of the bank's residential real state, commercial, and agricultural loans. The sample size consisted of a total of 99 loans, of which 38 were residential real estate, 31 were commercial, and 30 were agricultural loans.

To augment the evaluation, interviews were conducted with members of the local communities to ascertain the specific credit needs, opportunities, and local market conditions within the AAs the bank serves and to evaluate the bank's responsiveness in helping to meet such needs.

THE FIRST STATE BANK AND TRUST COMPANY OF LARNED CRA Public Evaluation LARNED, KANSAS October 15,2007

The community contacts included representatives from local city government and a real estate agency.

DESCRIPTION OF INSTITUTION

The bank is headquartered in Larned, Kansas, a community of approximately 4,000 residents in Pawnee County, Kansas. In addition to the main office in downtown Larned, the bank also has three other locations; one limited service branch located in luka, Kansas, one full-service branch in Pratt, Kansas, and a newly opened full-service branch in Overland Park, Kansas. The new branch in Overland Park opened in April 2007. The Larned and Pratt locations have a drive-through facility with an automated teller machine (ATM). In addition, an ATM is also located at the Overland Park bank location, along with one other ATM located inside a grocery store in Larned. First State Financial Corporation (FSFC) located in Larned, Kansas, owns 100 percent of the bank. FSFC is a noncomplex, single-bank holding company.

The analysis of the bank's CRA performance considers the bank's financial capacity, local economic conditions and demographics, including the competitive environment in which the bank operates. The bank has the ability to meet the credit needs of its AAs based on its asset size, financial condition, resources, and credit product offerings. As of the June 30, 2007 Call Report, the bank's assets totaled $83,299M of which total loans represented $41,642M or 50.0 percent.

As illustrated in Table 1, agricultural and commercial loans represented a majority of the bank's loan portfolio by dollar volume at 66.2 percent.

The bank has no financial or legal impediments that prevent it from fulfilling its responsibilities under the CRA. In addition, the bank received a satisfactory rating at the previous CRA evaluation conducted by the Federal Reserve Bank of Kansas City (Reserve Bank) as of September 15,2003.

THE FIRST STATE BANK AND TRUST COMPANY OF LARNED CRA Public Evaluation LARNED. KANSAS October $5.2007

DESCRIPTION OF THE BANK'S ASSESSMENT AREAS

The bank has designated two AAs, the Kansas City, MissourilKansas multistate MSA AA and the nonmetropolitan AA The combined AA is comprised of 116 census tracts in five counties. Three of the four branch offices are located in the nonmetropolitan AA, and the other branch office is located in the Kansas City MSA AA. The majority of the bank's loan activity occurs in the nonmetropolitan AA. The office located in the Kansas City MSA AA has generated very little loan volume due to only being open for six months. Therefore, our review will focus primarily on the bank's nonmetropolitan rural AA in western Kansas which consists of all of Edwards, Pawnee, Pratt, and Stafford Counties. However, in accordance with the CRA requirements, the bank's performance was evaluated within the context of each delineated AA, and an overall rating was assigned for the bank.

OVERALL CONCLUSIONS WITH RESPECT TO PERFORMANCE CRITERIA

The bank's record of meeting the credit needs of its AAs through its lending activities was rated satisfactory, based primarily on the performance of the bank's designated nonrnetropolitan AA. Data utilized for this analysis included the bank's performance data and area demographic information.

Loan-to-Deposit Ratio

The bank's average LTD ratio is considered reasonable based on the institution's size, financial condition, the credit needs of its AA, and the competitive environment in which the bank operates. The bank's LTD ratio averaged 58.1 percent for the 16 quarters since the prior examination. Additionally, based on an average of the prior eight consecutive quarters ending June 30, 2007, the bank's LTD ratio was 56.7 percent. The bank's eight-quarter average was compared to that of three similarly-situated competitor banks located throughout the combined AAs, whose average LTD ratios ranged from 58.7 percent to 70.3 percent over the same time period. In addition, the bank's LTD ratio was also lower than state and national peer groups, which averaged 722 and 71.6 percent, respectively, over the same time frame.

Although the bank's LTD ratio is relatively low compared to its peer groups and to its local competition, it has remained relatively consistent since the last examination when the ratio was 56.6 percent. In addition, bank management indicated that several factors contribute to the low LTD ratio. The bank's primary local competitor in Larned, makes large volumes of participation loans for agricultural purposes. Because of the risk associated with this type of loan, the bank does not engage in such activity. In addition, another competitor in Pratt, Kansas, is very aggressive in real estate lending activity. This bank serves as a major competitor for one of the bank's branch offices in Pratt. Bank management also commented that real estate lending has been declining due to customers going outside of Larned and the surrounding areas to shop for their home mortgage loans. The decrease in residential real estate lending has also contributed to the bank's lower LTD ratio.


Lending Inside the Assessment Areas

This performance criterion evaluates the volume of loans originated by the bank within its overall AA. As illustrated in Table 2 , a substantial majority of the bank's agricultural, commercial, and residential real estate loans were originated within its combined AAs, Of the total loans sampled, 84.8 percent or 84 loans, were originated within the AAs. This distribution indicates that the bank is satisfactorily serving the credit needs of its combined AAs.

NOTE: Only loans made within the bank's AAs were considered for the remaining lending distribution tests.

Lendinq to Borrowers of Different Income Levels and to Businesses and Farms of Different Revenue Sizes

This core performance criterion evaluates the bank's distribution of lending to borrowers of different income levels, particularly LMI individuals and focuses on the bank's level of lending to businesses and farms of different sizes, primarily those with gross annual revenues of less than $1 million. The residential real estate loans were compared to the percentage of families located in the AA by income level. The bank's commercial and agricultural loans were compared to the percentage of small businesses and farms in the AA.

Based on the demographics of the AAs, the bank's distribution of loans represented a reasonable penetration among individuals of different income levels and businesses and farms of different sizes. A detailed analysis of the loan distribution is provided in the analysis of each AA.

Geographic Distribution of Loans

This core performance criterion evaluates the bank's distribution of loans among geographies of various income levels, with emphasis placed on lending in the LMI geographies. As discussed previously, this component was not evaluated because all of the tracts in the nonmetropolitan AA are middle-income and, therefore, a review would not be meaningful.


The bank's geographic distribution of residential real estate, commercial and agricultural loans reflected a reasonable dispersion throughout its AAs, given the economic and demographic factors of the area. The geographic distribution is discussed in more detail within the analysis for each AA.

Record of Respondinq to Complaints

The bank's response to complaints was not rated, because the bank received no complaints regarding its performance under the CRA since the previous examination.

FAIR LENDING OR OTHER ILLEGAL CREDIT PRACTICES REVIEW

The bank is in compliance with the substantive provisions of the antidiscrimination laws and regulations. A review of bank policies, credit applications, loans and denials and staff interviews revealed no prohibited practices designed to discourage loan applicants. Further, the bank has not engaged in other illegal credit practices inconsistent with helping to meet the credit needs of its communities.

DISCUSSION OF CRA PERFORMANCE IN INDIVIDUAL ASSESSMENT AREAS

The following is a discussion of the bank's performance in its metropolitan and nonmetropolitan AAs. The individual analyses focus on the distribution of lending to borrowers af different income levels, and businesses and farms of different revenue sizes, as well as the geographic distribution of lending throughout these areas.


METROPOLITAN AREA (Limited-Scope Review)

DESCRIPTION OF INSTITU'TIONS OPERATIONS IN THE KANSAS CITY, MO-KS MULTISTATE MSA ASSESSMENT AREA

The bank has operated primarily as a small community financial institution in rural Kansas. However, in April 2007, the bank opened a branch in Overland Park, Kansas. This expanded the bank's CRA AA to include all of Johnson County, Kansas, which is part of the Kansas City, Missouri/Kansas multistate MSA. However, due to the bank's short-time operating in this market and the very limited volume of lending at this location, this AA will only be given a limited-scope review during this examination.

The bank's metropolitan AA includes only one branch office located in an upper-income census tract in Overland Park, Kansas. According to 2000 Census data, the total population of the AA was 451,086. The AA is comprised of 2 moderate-, 41 middle-, and 64 upper-income tracts located in Johnson County, Kansas. The 107 tracts contain approximately 24.6 percent of the overall MSA population. There are currently 62 other financial institutions operating in the Johnson County, Kansas market. The Overland Park office is a small full-service branch that includes an on-site ATM. However, the bank has a small presence in this area, with only $301,000 in deposits as of June 30, 2007, representing less than a 1.0 percent market share of Johnson County or the Kansas City MSA's FDIC-insured deposits. In addition, only 0.4 percent of the bank's total deposits were originated inside this AA. This office represents the bank's very limited presence in the Johnson County market; therefore, it is not feasible for the branch to service the entire Kansas City MSA.

CONCLUSIONS WITH RESPECT TO PERFORMANCE TESTS IN THE KANSAS CITY MSA ASSESSMENT AREA

The overall lending performance in the Kansas City MSA AA is lower than the overall lending in the nonmetropolitan AA, but does not materially alter performance conclusions. The bank's lending performance in this AA is reasonably limited by the strong competition throughout the AA In addition, the bank's branch has only been open for six months and has yet to establish itself fully in the market.

THE FIRST STATE BANK AND TRUST COMPANY OF LARNED CRA Public Evaluation LARNED. KANSAS October 15.2007

NONMETROPOLITAN STATEWIDE AREA (Full-Scope Review)

DESCRIPTION OF INSTITUTION'S OPERATIONS IN THE NONMETROPOLITAN EDWARDS, PAWNEE, PRATT, AND STAFFORD COUNTIES ASSESSMENT AREA

The bank's second AA includes all of Edwards, Pawnee, Pratt, and Stafford Counties. The AA consists of nine tracts, all of which are middle-income. The bank has three bank locations in this AA, including the main ofice in Larned, Kansas. The bank has a strong presence in this AA, with $71,373 in deposits as of June 30, 2007, and a 12.6 percent market share of the counties' FDIC-insured deposits. Its deposit market share was ranked 4th among the 13 FDIC-insured financial institutions operating in the four counties. In addition, 99.6 percent of the bank's total deposits were originated inside this AA.

The population of the AA was 25,118 based on the 2000 Census. The area contained a similar concentration of families when compared to the statewide rural areas as a whole. In 2000, 66.0 percent of area households were families, while the statewide rural areas contained concentrations of 67.8 percent. In addition, the area had slightly lower concentrations of LMI families when compared to the statewide rural areas. The area's LMI families totaled 35.8 percent compared to 36.6 percent in the statewide rural areas. The area's family poverty rate of 6.8 percent was also lower than that of the statewide rural areas at 8.2 percent,.

The US. Department of Housing and Urban Development (HUD) estimated median family income (MFI) for the AA was $42,008, compared to $41,637 for the rural statewide areas. The AA is considered middle-income overall at '101.0 percent of the statewide rural areas MFI. The AA unemployment rate was 6.3 percent which was higher than the statewide rural area at 4.5 percent.

The area contained a larger stock of owner-occupied units and a lower stock of rental units than the statewide rural areas in 2000. Of total housing units in the rural AA, 21.2 percent were rentals, 15.0 percent were vacant and 63.8 percent were owner-occupied, while in the statewide rural areas as a whole, 26.3 percent of housing stock was rentals, 10.9 percent were vacant and 62.8 percent were owner-occupied units. The area's affordability ratio2 of 67.0 percent indicates housing is more affordable in the AA as compared to the rest of rural Kansas with an affordability ratio of 56.0 percent. In addition, the area's median housing value of $49,175 was lower than the $59,679 median housing value for other rural areas in Kansas.

According to community contacts, the major employers in the area include the State Complex (1300 area employees), which is comprised of the State Mental Hospital, Corrections Facility, and Prison System, as well as Doerr Metal Products, and several feed lots in the area.

The housing affordability ratio is measured by dividing the median household income by the median housing value A higher affordability ratio indicates that the housing stock is more affordable

8


Table 3 summarizes income-related demographic and economic characteristics of the bank's rural AA based on 2000 Census and 2006 Dun and Bradstreet (D&B) data.

CONCLUSIONS WITH RESPECT TO PERFORMANCE TESTS IN THE NONMETROPOLITAN ASSESSMENT AREA

Lendinq to Borrowers of Different Income Levels and Businesses and Farms of Different Revenue Sizes

The results of the analysis for lending to borrowers of different income levels, and businesses and farms of different revenue sizes are illustrated in Table 4.


Residential Real Estate Loans

The bank's level of lending to borrowers of different income levels is considered reasonable relative to area demographics. As shown in Table 4 above, the bank's level of lending to moderate-income borrowers at 28.6 percent exceeded the percentage of families within that income category at 20.5 percent. However, the bank made no loans to low~~income borrowers compared to the 15.2 percent of low-income families in the AA. In total, the bank originated 28.6 percent of its residential real estate loans to LMI borrowers, which was lower than the percentage of LMI families in the AA that were designated LMI at 35 5 percent. However, approximately 6.8 percent of the families in the AA lived below the poverty level threshold, reducing the percentage of families who might potentially own homes or even qualify for financing. The bank does offer 100 percent financing Rural Development loans, which generally assist lower income residential real estate borrowers. In addition, bank management stated that a substantial number of bank customers were senior citizens that hold depository accounts with the bank, but generally do not request credit. Persons age 65 and over comprised 19.6 percent of the AA's total population.

Small Business Loans

The bank demonstrated a reasonable distribution of business loans within the AA, particularly among businesses reporting gross annual revenues of $1 million or less. The bank's level of lending to small businesses in the AA at 53.6 percent is below the percentage of small businesses in the AA at 89.2 percent, but was still considered reasonable. Out of the 28 commercial loans originated in the bank's AA, 13 were made to businesses with revenues greater than $1 million, businesses that would typically not be considered "small". However, of these 13 loans, 10 were made to one particular company. Due to the high volume of business the bank conducts with the company, one-third of our statistical sample for commercial loans was represented by this one company. If we excluded the ten loans from the commercial sample, the bank would have made 83.3 percent of its commercial loans to small businesses in its AA, which is much more in line with the commercial demographics of the area. Additionally, 96.2 percent of the bank's loans to small businesses were for amounts of $250,000 or less, which are amounts typically needed by small businesses.


Small Farm Loans

The bank's lending to small farms is considered good. As Table 4 depicts, 100 percent of the agricultural loans in the sample were originated to small farms, which exceeds the percentage of small farms in the area. Moreover, 95.5 percent of the bank's loans to small farms were in amounts of $250,000 or less, which are amounts typically needed by small farm operations.

Geoqraphic Distribution of Loans

The distribution of lending among geographies of different income levels within the bank's AA is reviewed with particular emphasis on lending in LMI census tracts. As previously stated, the nonmetropolitan AA is made up of nine middle-income census tracts. Therefore, an analysis of the bank's lending to geographies of various income levels would not be meaningful.,


GL.OSSARY OF COMMON CRA TERMS

(For additional information, please see the Definitions section of Regulation BB at 12 CFR 228.12.)

Assessment Area - The geographic area(s) delineated by the bank and used in evaluating the bank's record of helping to meet the credit needs of its community. The assessment area must include the geographies where the main affice, branches, and deposit-taking automated tellers machines are located. The assessment area must consist only of whole geographies, may not reflect illegal discrimination, and may not arbitrarily exclude low- or moderate-income geographies.

Census Tracts - Census tracts are small, relatively permanent geographic entities within counties delineated by a committee of local data users. Census tracts are designed to be homogenous with respect to population characteristics, economic status, and living conditions to allow for statistical comparisons and average about 4,000 inhabitants.

Consumer Loans - Loans to individuals for household, family and other personal expenditures. These loans do not include real estate-secured loans.

Dun & Bradstreet Data - Data collected by Dun & Bradstreet regarding types of businesses and their respective gross annual revenues. The data can be sorted by geographies.

Geoqraphy - A census tract delineated by the US. Bureau of the Census in the most recent decennial census.

Income Level - Both geographies and individuals can be described in terms of their income levels. In MSAs, the level is based on the MSA median income. In nonMSA areas, the level is based on the statewide, nonMSA median income.

Low-Income - Less than 50 percent of the area median income

Moderate-Income - At least 50 percent and less than 80 percent of the area median Income

Middle-Income - At least 80 percent and less than 120 percent of the area median income

Upper-Income -At least 120 percent or more of the area median income

Metropolitan Statistical Area (MSA) - The general concept of an MSA is that of a core area containing a large population nucleus, together with adjacent communities having a high degree of economic and social integration with that core. Generally, a single city with at least 50,000 inhabitants or an urbanized area with a total population of at least 100,000 would meet the definition of an MSA.

THE FIRST STATE BANK AND TRUST COMPANY OF LARNED CRA Public Evaluation LARNED, KANSAS October 15, 200'7

Small Business - A business with gross annual revenues of $1 million or less.

Small Business Loan - A loan with an original amount of $1 million or less that has been reported in the Consolidated Report of Condition and Income in the category "Loans secured by nonfarm nonresidential properties" or "Commercial and industrial loans."

Small Farm - A farm with gross annual revenues of $1 million or less.

Small Farm Loan - A loan with an original amount of $500,000 or less that has been reported in the Consolidated Report of Condition and lncome in the category "Loans secured by farmland" or "Loans to finance agricultural production and other loans to farmers."

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