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In January 2010 the FASB issued ASU 2010-01, Accounting for Distributions to Shareholders with Components of Stock and Cash, under Topic 505, which amends the Codification to clarify that the stock portion of a distribution to shareholders that allows them to elect to receive cash or stock with a potential limitation on the total amount of cash that all shareholders can elect to receive in the aggregate is considered a share issuance that is reflected in earnings per share prospectively and is not a stock dividend. ASU 2010-01 codifies the consensus reached in EITF Issue No. 09-E, “Accounting for Stock Dividends, Including Distributions to Shareholders with Components of Stock and Cash.” ASU 2010-01 is effective for the interim annual period ending December 31, 2009, and should be applied on a retrospective basis. There was no material impact on the Company’s financial statements as a result of the adoption of ASU 2010-01 for per share or dividends paid amounts disclosed.

 

In June 2009, the FASB issued guidance now codified as FASB ASC Topic 105, Generally Accepted Accounting Principles, as the single source of authoritative nongovernmental U.S. GAAP. FASB ASC Topic 105 does not change current U.S. GAAP, but is intended to simplify user access to all authoritative U.S. GAAP by providing all authoritative literature related to a particular topic in one place. All existing accounting standard documents will be superseded and all other accounting literature not included in the FASB Codification will be considered non-authoritative. These provisions of FASB ASC Topic 105 were effective for interim and annual periods ending after September 15, 2009 and, accordingly, were effective for the Company for the quarter ended September 30, 2009. The adoption of this pronouncement did not have an impact on the Company’s financial condition or results of operations, but will impact the Company’s financial reporting process by eliminating all references to pre-codification standards. On the effective date of this Statement, the Codification superseded all then-existing non-SEC accounting and reporting standards, and all other non-grandfathered, non-SEC accounting literature not included in the Codification became non-authoritative.

 

FASB ASC Topic 820 (ASC 820), Fair Value Measurements and Disclosures, clarifies the definition of fair value, provides a framework for the measurement of fair value, and expands disclosure requirements about fair value measurements. ASC 820 was effective as of July 1, 2008 for financial assets and liabilities. The Company had only partially applied the provisions of ASC 820 as Management elected the deferral provisions of ASC 820-10-65-1, Transition Related to FASB Staff Position FAS 157-2, as it applies to non-financial assets and liabilities that are recognized or disclosed at fair value in the financial statements on a nonrecurring basis. ASC 820-10-65-1 delayed the effective date of ASC 820 for non-financial assets and liabilities that are not measured at fair value on a recurring basis (at least annually) until July 1, 2009 for the Company. Fair value measurements of non-financial assets and non-financial liabilities are used primarily in the impairment analyses of long-lived assets, goodwill and other intangible assets. There was no material impact on the Company’s financial statements as a result of the adoption of ASC 820 for non-financial assets and liabilities.

 

In April 2009, the FASB issued ASC 320-10-65, Transition Related to FSP FAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments. The Company adopted the provisions of ASC 320-10-65 on July 1, 2009. ASC 320-10-65 amends the other-than-temporary impairment guidance for debt securities and expands the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. The adoption of this standard did not have a material impact on the Company’s financial statements.

 

In April 2009, the FASB issued ASC 820-10-65-4, Transition Related to FASB Staff Position FAS 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly. ASC 820-10-65-4 is an amendment of ASC 820-10, Fair Value Measurements. ASC 820-10-65-4 applies to all assets and liabilities and provides guidance on measuring fair value when the volume and level of activity has significantly decreased and guidance on identifying transactions that are not orderly. ASC 820-10-65-4 requires interim and annual disclosures of the inputs and valuation techniques used to measure fair value and a discussion of changes in valuation techniques and related inputs, if any, that occurred during the period. The Company adopted ASC 820-10-65-4 on July 1, 2009. ASC 820-10-65-4 did not have a material impact on the Company’s financial statements.

 

 

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In June 2008, the FASB issued ASC 260-10-65-2, Transition Related to FSP EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities. This guidance concludes that non-vested shares with non-forfeitable dividend rights are considered participating securities and, thus, subject to the two-class method pursuant to ASC 260, Earnings per Share, when computing basic and diluted EPS. This guidance became effective for the Company on July 1, 2009. Because the Company’s restricted share awards contain non-forfeitable dividend rights, the provisions of this guidance must be applied. Upon adoption, the Company was required to adjust all prior period EPS data on a retrospective basis to conform with the provisions of this guidance. The impact on basic and diluted weighted average shares outstanding and EPS for the fiscal year ended June 30, 2009 is as follows:

		Basic Weighted Average Common Shares Outstanding								Basic Earnings per Share								Diluted Weighted Average Common Shares Outstanding								Diluted Earnings per Share
		Previously Reported				Adjusted				Previously Reported				Adjusted				Previously Reported				Adjusted				Previously Reported				Adjusted
Quarter ended September 30, 2008			7,486,298				7,533,272			$	0.05			$	0.05				7,517,916				7,533,272			$	0.05			$	0.05
Quarter ended December 31, 2008			7,470,354				7,581,164			$	0.04			$	0.03				7,512,020				7,581,164			$	0.03			$	0.03
Six months ended December 31, 2008			7,478,326				7,557,218			$	0.09			$	0.09				7,514,968				7,557,218			$	0.09			$	0.09
Quarter ended March 31, 2009			7,541,869				7,624,977			$	0.05			$	0.05				7,541,869				7,624,977			$	0.05			$	0.05
Nine months ended March 31, 2009			7,499,198				7,579,475			$	0.13			$	0.13				7,523,805				7,579,475			$	0.13			$	0.13
Quarter ended June 30, 2009			7,538,175				(1)			$	(0.04	)			(1)				(1)				(1)				(1)				(1)
Year ended June 30, 2009			7,508,916				7,589,898			$	0.10			$	0.09				7,533,230				7,589,898			$	0.10			$	0.09

_________________

(1)	Due to the net loss for the three month period ended June 30, 2009, no adjustments were made for outstanding stock options and unearned restricted shares as such effect would be anti-dilutive.

 

The Codification does not modify existing GAAP or any guidance issued by the SEC. Nonauthoritative accounting literature is excluded from the Codification. To improve usability, the Codification does include certain SEC guidance. GAAP accounting standards used to populate the Codification are superseded, with the exception of certain standards yet to be codified as of September 30, 2009, including SFAS 166 and 167 described subsequently.

 

In June 2009, the FASB issued SFAS No. 166, Accounting for Transfers of Financial Assets, an amendment of FASB Statement No. 140, and SFAS No. 167, Amendments to FASB Interpretation No. 46(R). These Statements modify the accounting for transfers of financial assets and the determination of what entities must be consolidated, and will have a significant effect on securitizations and special-purpose entities. We adopted these Statements effective July 1, 2009, as required.  The adoption of these standards did not have a material impact on the Company’s financial statements.

 

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Item 2. Management Discussion and Analysis

 

Forward-Looking Statements

 

This report contains forward-looking statements that are based on assumptions and may describe future plans, strategies and expectations of the Company. These forward-looking statements are generally identified by use of the words “believe,” “expect,” “intend,” “anticipate,” “estimate,” “project” or similar expressions. The Company’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations of the Company and its subsidiaries include, but are not limited to, changes in interest rates, national and regional economic conditions, legislative and regulatory changes, monetary and fiscal policies of the U.S. government, including policies of the U.S. Treasury and the Federal Reserve Board, the quality and composition of the loan or investment portfolios, demand for loan products, deposit flows, competition, demand for financial services in the Bank’s market area, changes in real estate market values in the Bank’s market area, and changes in relevant accounting principles and guidelines. Additionally, other risks and uncertainties may be described in the Company’s Annual Report on Form 10-K as filed with the Securities and Exchange Commission on September 28, 2009 and the Company’s Form 10-Q filed with the Securities and Exchange Commission on November 16, 2009, which is available through the SEC’s website at www.sec.gov, as well as under “Part II - Item 1A. Risk Factors” of this Form 10-Q. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. Except as required by applicable law or regulation, the Company does not undertake, and specifically disclaims any obligation, to release publicly the result of any revisions that may be made to any forward-looking statements to reflect events or circumstances after the date of the statements or to reflect the occurrence of anticipated or unanticipated events.

 

Critical Accounting Policies

 

We consider accounting policies involving significant judgments and assumptions by management that have, or could have, a material impact on the carrying value of certain assets or on income to be critical accounting policies. We consider the following to be our critical accounting policies: allowance for loan losses and deferred income taxes.

 

ALLOWANCE FOR LOAN LOSSES - The allowance for loan losses is the amount estimated by management as necessary to cover probable credit losses in the loan portfolio at the statement of financial condition date. The allowance is established through the provision for loan losses, which is charged to income. Determining the amount of the allowance for loan losses necessarily involves a high degree of judgment. Among the material estimates required to establish the allowance are: loss exposure at default; the amount and timing of future cash flows on impacted loans; value of collateral; and determination of loss factors to be applied to the various elements of the portfolio. All of these estimates are susceptible to significant change. Management reviews the level of the allowance on a quarterly basis and establishes the provision for loan losses based upon an evaluation of the portfolio, past loss experience, current economic conditions and other factors related to the collectability of the loan portfolio. Although we believe that we use the best information available to establish the allowance for loan losses, future adjustments to the allowance may be necessary if economic conditions differ substantially from the assumptions used in making the evaluation. In addition, the OTS, as an integral part of its examination process, periodically reviews our allowance for loan losses. Such agency may require us to recognize adjustments to the allowance based on its judgments about information available to it at the time of its examination. A large loss could deplete the allowance and require increased provisions to replenish the allowance, which would negatively affect earnings. For additional discussion, see notes 1 and 5 of the notes to the consolidated financial statements included in Item 8 of the Annual Report on Form 10-K filed with the Securities and Exchange Commission on September 28, 2009.

 

DEFERRED INCOME TAXES - We use the asset and liability method of accounting for income taxes as prescribed in ASC 740, Income Taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. If current available information raises doubt as to the realization of the deferred tax assets, a valuation allowance is established. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. We exercise significant judgment in evaluating the amount and timing of recognition of the resulting tax liabilities and assets. These judgments require us to make projections of future taxable income. The judgments and estimates we make in determining our deferred tax assets, which are inherently subjective, are reviewed on a continual basis as regulatory and business factors change. Any reduction in estimated future taxable income may require us to record a valuation allowance against our deferred tax assets. A valuation allowance would result in additional income tax expense in the period, which would negatively affect earnings.

 

 

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INVESTMENT SECURITIES - Investments are reviewed quarterly for indicators of other-than-temporary impairment. This determination requires significant judgment. In making this judgment, Management evaluates, among other factors, the expected cash flows of the security, the duration and extent to which the fair value of an investment is less than its cost, the historical and implicit volatility of the security and intent and ability to hold the investment until recovery, which may be maturity. Investments with an indicator of impairment are further evaluated to determine the likelihood of a significant adverse effect on the fair value and amount of the impairment as necessary. Once the other-than-temporary impairment is recorded, when future cash flows can be reasonable estimated, future cash flows are re-allocated between interest and principal cash flows to provide for a level-yield on the security.

 

Comparison of Financial Condition at December 31, 2009 and June 30, 2009

 

Total assets were $398.4 million at December 31, 2009, compared to $401.6 million at June 30, 2009. The decrease is primarily due to an $8.4 million decrease in cash and equivalents, and a $1.8 million decrease in loans receivable, partially offset by an $8.0 million increase in investments. The decrease in cash and equivalents is due to the purchase of investment securities since June 30, 2009. The decrease in loans receivable is the result of more loans being sold to Freddie Mac and tighter lending standards that have been implemented over the last two years.

 

Total liabilities were $343.0 million at December 31, 2009, compared to $346.5 million at June 30, 2009. The decrease in total liabilities is primarily due to a decrease of $20.8 million in municipal deposits in the current year, partially offset by an $18.1 million increase in other deposits. The decrease in municipal deposits reflects the cyclical nature of municipal deposits, which are affected by the timing of receipt of tax revenues and spending for ongoing civil projects. The increase in other deposits is the result of increased marketing and promotional efforts in our market area.

 

Total stockholders’ equity was $55.3 million at December 31, 2009, compared to $55.1 million at June 30, 2009. The increase in total stockholders’ equity is due to net income of $698,000, and stock-based compensation and ESOP shares committed to be released totaling $261,000, partially offset by $545,000 in dividends paid to shareholders, and an $84,000 decrease in unrealized gains on available for sale securities, net of income taxes.

 

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Comparison of Operating Results for the Three and Six Months Ended December 31, 2009 and 2008

 

General. Net income was $476,000 for the three months ended December 31, 2009, compared to net income of $262,000 for the three months ended December 31, 2008.  Net income was $698,000 for the six months ended December 31, 2009, compared to net income of $649,000 for the six months ended December 31, 2008.

The following table summarizes changes in interest income and interest expense for the three and six months ended December 31, 2009 and 2008.

		Three Months Ended												Six Months Ended
		December 31,												December 31,
		2009				2008				% Change				2009				2008				% Change
		(Dollars in thousands)
Interest income:
Loans		$	3,997			$	4,559				(12.3)%			$	8,158			$	9,127				(10.6)%
Investment and mortgage backed  securities			711				445				59.8				1,368				904				51.3
Other interest-earning assets			3				26				(88.5)				6				143				(95.8)
Total interest income			4,711				5,030				(6.3)				9,532				10,174				(6.3)
Interest expense:
NOW and money market deposit accounts			197				490				(59.7)				454				1,108				(59.0)
Passbook accounts			33				93				(64.5)				65				204				(68.1)
Certificates of deposit			1,330				1,472				(9.6)				2,716				3,013				(9.9)
Total interest-bearing deposits			1,560				2,055				(24.1)				3,235				4,325				(25.2)
FHLB advances			28				36				(22.2)				58				74				(21.6)
Total interest expense			1,588				2,091				(24.1)				3,293				4,399				(25.1)
Net interest income		$	3,123			$	2,939				6.3			$	6,239			$	5,775				8.0

Net Interest Income. Net interest income increased $184,000, or 6.3%, in the quarter ended December 31, 2009, as compared to the prior year quarter.  The increase in net interest income is primarily attributable to a $43.7 million increase in the average balance of investment securities for the quarter ended December 31, 2009, when compared to the prior year quarter, which was greater than the $32.8 million increase in the average balance of time deposits over the same period.

Net interest income increased $464,000, or 8.0%, in the six months ended December 31, 2009, as compared to the same period in the prior year.  The increase is primarily the result of a decrease in the average interest rate paid on interest bearing liabilities from 2.71% to 1.90%, partially offset by a decrease in the average rate of interest earning assets from 5.67% to 5.00%.  The decrease in rates has been driven by continued lower market rates in the current year.

 

 

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The following table summarizes average balances and average yields and costs of interest-earning assets and interest-bearing liabilities for the three and six months ended December 31, 2009 and 2008.  For the purposes of this table, average balances have been calculated using month-end balances, and nonaccrual loans are included in average balances only.  Yields are not presented on a tax equivalent basis.

		Three Months Ended December 31,																								Six Months Ended December 31,
		2009												2008												2009												2008
						Interest												Interest												Interest												Interest
		Average				and				Yield/				Average				and				Yield/				Average				and				Yield/				Average				and				Yield/
		Balance				Dividends				Cost				Balance				Dividends				Cost				Balance				Dividends				Cost				Balance				Dividends				Cost
		(Dollars in thousands)
Assets:
Interest-earning assets:
Loans			271,979				3,997				5.88	%		$	288,058			$	4,559				6.33	%			272,664				8,158				5.98	%		$	286,392			$	9,127				6.37	%
Investment and mortgage backed securities			82,727				711				3.44				39,058				445				4.56				80,888				1,368				3.38				38,438				904				4.70
Other interest-earning assets			28,814				3				0.04				31,667				26				0.33				27,442				6				0.04				33,867				143				0.84
			383,520				4,711				4.91				358,783				5,030				5.61				380,994				9,532				5.00				358,697				10,174				5.67
Noninterest-earning assets			23,658												23,773												23,545												23,971
Total assets			407,178											$	382,556												404,539											$	382,668
Liabilities and stockholders' equity:
Interest-bearing liabilities:
NOW and money market deposit accounts (1)			122,260				197				0.64				132,074				490				1.48				125,723				454				0.72				132,061				1,108				1.68
Passbook accounts (1)			41,095				33				0.32				39,448				93				0.94				40,881				65				0.32				40,198				204				1.01
Certificates of deposit (1)			181,580				1,330				2.93				148,786				1,472				3.96				175,645				2,716				3.09				148,128				3,013				4.07
Total interest-bearing deposits			344,935				1,560				1.81				320,308				2,055				2.57				342,249				3,235				1.89				320,387				4,325				2.70
FHLB advances			3,458				28				3.24				4,459				36				3.23				3,583				58				3.24				4,583				74				3.23
Total interest-bearing liabilities			348,393				1,588				1.82				324,767				2,091				2.58				345,832				3,293				1.90				324,970				4,399				2.71
Noninterest bearing liabilities			3,233												2,966												3,366												3,015
Total liabilities			351,626												327,733												349,198												327,985
Stockholders' equity			55,552												54,823												55,341												54,683
Total liabilities and  stockholders' equity			407,178											$	382,556												404,539											$	382,668
Net interest income							3,123											$	2,939												6,239											$	5,775
Interest rate spread											3.09	%											3.03	%											3.10	%											2.96	%
Net interest margin (annualized)											3.26	%											3.28	%											3.28	%											3.22	%
Average interest-earning assets to average interest-bearing liabilities											110.08	%											110.47	%											110.17	%											110.38	%

1) Includes municipal deposits

 

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Provision for Loan Losses. The following table summarizes the activity in the allowance for loan losses and provision for loan losses for the three and six months ended December 31, 2009 and 2008.

		Three Months Ended								Six Months Ended
		December 31,								December 31,
		2009				2008				2009				2008
		(In thousands)
Allowance at beginning of period		$	3,998			$	3,908			$	4,213			$	4,619
Provision for loan losses			324				396				946				731
Charge offs:
One- to four-family residential real estate			40				4				40				4
Nonresidential real estate and land			-				493				-				1,541
Multifamily residential real estate			-				-				831				-
Consumer and other loans			22				121				39				125
Total charge-offs			62				618				910				1,670
Recoveries:
One- to four-family residential real estate			-				-				2				-
Multifamily residential real estate			-				-				5				-
Consumer and other loans			3				5				7				11
Total recoveries			3				5				14				11
Net charge-offs			59				613				896				1,659
Loss on restructuring of loan			3				49				3				49
Allowance at end of period		$	4,260			$	3,642			$	4,260			$	3,642

 

The provision for loan losses was $324,000 for the three months ended December 31, 2009 compared to $396,000 for the three months ended December 31, 2008. The decrease in the provision for loan losses is the result of a decrease in net loans receivable of $17.8 million from December 31, 2008 to December 31, 2009.  The decrease in net loans receivable is attributable to more loans being sold to Freddie Mac in the last year and tighter lending standards that have been implemented over the last two years.

The provision for loan losses was $946,000 for the six months ended December 31, 2009, compared to $731,000 for the six months ended December 31, 2008.  The increase in the provision for loan losses is the result of troubled debt restructurings increasing $4.1 million during the six months ended December 31, 2009, from $4.5 million at June 30, 2009 to $8.6 million at December 31, 2009.  There were no troubled debt restructurings at any time during the six months ended December 31, 2008.   During the quarter ended September 30, 2009 troubled debt restructurings increased $2.7 million, while increasing only $1.4 million in the quarter ended December 31, 2009.

 

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The following table provides information with respect to our nonperforming assets at the dates indicated. We did not have any accruing loans past due 90 days or more at the dates presented.

 

		At December 31, 2009				At June 30, 2009				% Change
		(Dollars in thousands)
Nonaccrual loans:
Residential real estate:
One- to four-family		$	1,657			$	1,943				(14.7	)%
Multifamily			-				2,492				(100.0	)
Nonresidential real estate and land			2,218				1,455				52.4
Consumer and other loans			124				84				47.6
Total			3,999				5,974				(33.1	)
Real estate and other assets owned			1,229				2,644				(53.6	)
Reserve for losses on real estate and other assets owned			(440	)			(704	)			37.5
Total nonperforming assets		$	4,787			$	7,914				(39.5	)
Total nonperforming loans to total loans			1.48	%			2.18	%			(32.1	)
Total nonperforming loans to total assets			1.00	%			1.49	%			(32.9	)
Total nonperforming assets to total assets			1.20	%			1.97	%			(39.1	)

 

Other nonperforming assets (comprised of nonperforming loans and REO) decreased to $4.8 million at December 31, 2009 from a balance of $7.9 million at June 30, 2009. The REO at December 31, 2009 consists of three residential properties and one parcel of vacant land. At June 30, 2009, there were two one- to four- family residences, one parcel of vacant land, and one golf course.  The residences were sold in October, 2009.  The golf course was sold in December, 2009. The Bank is actively working to sell all of the other assets in REO. Where necessary, management has reserved for losses on the sale of certain properties (these reserves are included in the REO balance at December 31, 2009 and June 30, 2009), and continues to maintain the properties and monitor their values based upon current market conditions. For the six months ended December 31, 2009, the Bank recorded a $300,000 provision for loss on the sale of REO, compared to no provision being made in the same period in the prior year. Nonperforming loans decreased to $4.0 million at December 31, 2009 from $6.0 million at June 30, 2009.  The decrease is primarily due to one loan, with a balance of $1.6 million, being transferred into REO in the current year.  A $1.1 million commercial real estate loan was included in both troubled debt restructuring and nonperforming loans at December 31, 2009 and June 30, 2009. All other troubled debt restructurings are performing to terms at December 31, 2009, and therefore are excluded from the above table.  At December 31, 2009, there were $8.6 million in troubled debt restructurings, compared to $4.5 million at June 30, 2009.  At December 31, 2009, troubled debt restructurings included eleven commercial real estate loans representing nine commercial lending relationships. These loans have been restructured with lower-than-market interest rates of 0% to 3%, for fixed terms that will end between 2010 and 2012.  The amount of impairment recorded on troubled debt restructurings was $979,000 at December 31, 2009.

 

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